QUESTION: 121

Imagine that an investor in the common stock of a company has two choices, either to (1) but 100 shares of a company’s common stock at $10 per share or (2) to purchase a call for $125 to purchase 100 shares at the same $10 price at the end of nine months. If the investor chooses to buy the stock, the investor must pay $1,000 immediately and is at risk for the entire $1,000 investment. If the investor chooses to purchase the call option, the investor will pay only $125 immediately and can wait until the option’s expiration date to decide whether or not to buy the stock for an additional $1,000. The investor’s risk is limited to $125. If the option is___________, the option will be exercised. If it is___________, the option will simply lapse.

In-the-money, Out-of-the-money
At-the-money, Out-of-the-money
At-the-money, In-of-the-money
At-the-money, At-of-the-money

Answer(s): A

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QUESTION: 122

Which of the following is NOT out of the call option’s value?

The price of underlying stock
The risk bearing interest rate
The dividends expected during the life of the option
The volatility of the price of the underlying stock

Answer(s): B

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QUESTION: 123

Options can be very complicated. For example, some options have strike pries that vary over time or under different market conditions. Other options have lives that vary depending on stock prices and market conditions. There are even___________, which are options on option, and ___________, which set price boundaries.

Strike, barrier option
Risk free options, barrier options
Compound options, barrier options
Compound options, volatile options

Answer(s): C

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QUESTION: 124

The Black-Scholes model assumes near perfect markets for both the options and the underlying stock. Among other conditions, the model assumes the following EXCEPT:

There are no commissions or other transaction costs in buying or selling the stock or the option
The short-term risk-free rate is known and is constant through time
Trading never stops. It is continuous through time following a geometric Brownian motion
The stock price does not follow a random walk with a long normal distribution

Answer(s): D

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QUESTION: 124