Mastery Exam II
The purchase of a call has which of the following advantages over buying the underlying security?
I Lower capital requirement
II The call holder receives the same dividends as does the holder of the underlying stock
III The call holder does not lose time value as the position is held
A. I only
B. I and II
C. II and III only
D. I, II, III - Answer-The best answer is A.
The advantage of buying a call over buying the underlying security is a lower capital requirement (paying
100% of the premium is lower than paying for the full value of the stock position). Call holders do not
receive dividends as do stockholders, so this is a disadvantage. Another disadvantage of holding an
option is that every day its time value decreases, to zero at expiration. This does not occur with stock
positions, since there is no finite life on the position.
The option premium is:
,I the price of the contract
II the strike price of the contract
III determined by supply and demand in the marketplace
IV determined by the Options Clearing Corporation
A. I and III
B. I and IV
C. II and III
D. II and IV - Answer-The best answer is A.
The option premium is the price of the contract. The price is determined on the floor of the options
exchange, based upon market conditions for that contract.
ABC Jan 50 call contracts are trading in the market at 3.40. What is the dollar price that a customer
would pay for 2 contracts at this price?
A. $34.00
B. $340.00
C. $680.00
D. $1,360.00 - Answer-The best answer is C.
A premium of 3.40 is $3.40 per share. Equity contracts cover 100 shares, so the total premium is $3.40 x
100 = $340.00 per contract. Since there are two contracts, the total premium would be $680.
Which of the following statements is TRUE when comparing the purchase of a put and selling a security
short?
A. The maximum potential loss for both positions is unlimited
, B. The capital requirement to purchase a put and the capital requirement to sell a security short are the
same
C. Both positions will have the maximum potential gain if the market falls to "0"
D. There is the same amount of risk in owning a put and in selling a security short - Answer-The best
answer is C.
The maximum potential loss when buying a put is just the premium paid, whereas in selling a security
short, the individual is exposed to an unlimited loss potential. Paying the premium to buy a put is less
than the 50% margin requirement needed to sell a security short. If the market value of the security falls
to "0," both the holder of a put and the individual who shorted shares will achieve the maximum profit.
Choice D is false since selling a security short exposes the customer to unlimited loss potential; the
maximum loss potential for the holder of a put is the premium paid.
A customer sells 10 ABC Jan 50 Calls @ 4.75 when the market price of ABC is $51 per share. The
maximum loss potential is:
A. $4,750
B. $45,125
C. $50,000
D. unlimited - Answer-The best answer is D.
If the market rises, the calls will be exercised, requiring the writer to deliver stock that he does not own.
The writer must go into the market to buy the stock at the higher market price. Since the market price
can rise an unlimited amount, the loss potential is unlimited.
A customer sells 1 ABC Jul 40 Put at $6 when the market price of ABC is $38. The customer's maximum
potential gain is:
A. $600
B. $3,400
C. $4,000
D. unlimited - Answer-The best answer is A.
The purchase of a call has which of the following advantages over buying the underlying security?
I Lower capital requirement
II The call holder receives the same dividends as does the holder of the underlying stock
III The call holder does not lose time value as the position is held
A. I only
B. I and II
C. II and III only
D. I, II, III - Answer-The best answer is A.
The advantage of buying a call over buying the underlying security is a lower capital requirement (paying
100% of the premium is lower than paying for the full value of the stock position). Call holders do not
receive dividends as do stockholders, so this is a disadvantage. Another disadvantage of holding an
option is that every day its time value decreases, to zero at expiration. This does not occur with stock
positions, since there is no finite life on the position.
The option premium is:
,I the price of the contract
II the strike price of the contract
III determined by supply and demand in the marketplace
IV determined by the Options Clearing Corporation
A. I and III
B. I and IV
C. II and III
D. II and IV - Answer-The best answer is A.
The option premium is the price of the contract. The price is determined on the floor of the options
exchange, based upon market conditions for that contract.
ABC Jan 50 call contracts are trading in the market at 3.40. What is the dollar price that a customer
would pay for 2 contracts at this price?
A. $34.00
B. $340.00
C. $680.00
D. $1,360.00 - Answer-The best answer is C.
A premium of 3.40 is $3.40 per share. Equity contracts cover 100 shares, so the total premium is $3.40 x
100 = $340.00 per contract. Since there are two contracts, the total premium would be $680.
Which of the following statements is TRUE when comparing the purchase of a put and selling a security
short?
A. The maximum potential loss for both positions is unlimited
, B. The capital requirement to purchase a put and the capital requirement to sell a security short are the
same
C. Both positions will have the maximum potential gain if the market falls to "0"
D. There is the same amount of risk in owning a put and in selling a security short - Answer-The best
answer is C.
The maximum potential loss when buying a put is just the premium paid, whereas in selling a security
short, the individual is exposed to an unlimited loss potential. Paying the premium to buy a put is less
than the 50% margin requirement needed to sell a security short. If the market value of the security falls
to "0," both the holder of a put and the individual who shorted shares will achieve the maximum profit.
Choice D is false since selling a security short exposes the customer to unlimited loss potential; the
maximum loss potential for the holder of a put is the premium paid.
A customer sells 10 ABC Jan 50 Calls @ 4.75 when the market price of ABC is $51 per share. The
maximum loss potential is:
A. $4,750
B. $45,125
C. $50,000
D. unlimited - Answer-The best answer is D.
If the market rises, the calls will be exercised, requiring the writer to deliver stock that he does not own.
The writer must go into the market to buy the stock at the higher market price. Since the market price
can rise an unlimited amount, the loss potential is unlimited.
A customer sells 1 ABC Jul 40 Put at $6 when the market price of ABC is $38. The customer's maximum
potential gain is:
A. $600
B. $3,400
C. $4,000
D. unlimited - Answer-The best answer is A.
