Unit 9 Checkpoint Exam
An investor purchased 100 shares of JKL common stock at a price of $42 per share on April 22, 2020. On June 27, 2021, JKL's market price was $51, and the investor liquidated the position. Which of the following transactions made on October 17, 2020, would have an effect on the investor's tax treatment of this gain? A) Buying a Feb 45 JKL put B) Buying a Feb 45 JKL call C) Selling a Feb 45 JKL put D) Selling a Feb 45 JKL call
A) Buying a Feb 45 JKL put Long-term capital gains tax rates are available when one has a holding period of more than 12 months. Although this investor held the JKL stock for more than 14 months, the purchase of the February put caused the holding period to be erased. That means that the holding period from April 22 to October 17 (almost 6 months) is negated and starts all over again when the put is disposed of or expires. When that happens in February, the clock starts anew. In our example, the JKL stock will have a short-term holding period based on the slightly more than 4 months from the February 2021 expiration date to the liquidation date in June 2021. None of the other positions affects the holding period of a long stock position.
If an investor purchases 500 shares of an aggressive growth stock, which strategy would limit his downside risk? A) Buying five puts on the stock B) Writing five straddles C) Writing five puts on the stock D) Buying five calls on the stock
A) Buying five puts on the stock A put gives the investor the right to sell stock at a set price (the strike price) for a period of time, and it protects against losses below the strike price. Buying calls can protect a short stock position. If the customer is long stock, the purchase of calls on that security increases leverage and risk. Writing a put creates the obligation to buy more stock at the strike price, which increases downside risk.
Which of the following positions subject an investor to unlimited risk? I. Short naked call II. Short naked put III. Long put IV. Short sale of stock A) I and IV B) I and II C) II and III D) I and III
A) I and IV Short stock and short naked calls subject an investor to unlimited risk because there is no limit on how high a stock's price might rise. Risk is limited for the other positions.
A stock is trading consistently between $20 and $24. The investor with a long position is neutral on the stock. The goal is to generate income. Which of the following recommendations is most appropriate? A) Sell a call B) Buy a put C) Buy a call D) Sell a put
A) Sell a call The only way to generate income with options is by selling. That narrows the choice to selling a call or selling a put. Because the investor already owns the stock, selling the covered call is the more appropriate choice. Should the stock price rise above the breakeven point, the option will likely be exercised. If so, by being long the stock, the investor has it to make delivery. If the investor sells a put and the stock goes down causing the put option to be exercised, the investor will be forced to buy more stock.
With the underlying stock at $37, an ABC Jan 35 call is trading at $2. All of the following statements regarding the option are true except A) it has time value. B) it is in the money. C) it has intrinsic value. D) it is at parity.
A) it has time value. This option is at parity, which occurs when the premium equals the in-the-money amount. An option trading at parity over the strike price has no time value, only intrinsic value. When an option has no time value remaining, it is very near or at the moment of expiration.
A customer establishes the following positions: Buy 100 ABC at 28 Buy 1 ABC Dec 25 put at 2 What is the breakeven point? A) 27 B) 30 C) 23 D) 26
B) 30 The breakeven point is where an investor neither makes nor loses money. In this hedged position, the buyer must recover the cost of the stock and the premium paid to break even (28 + 2 = 30). Please note that the call up and put down rule does not apply when there is a stock position.
In the trading of options, there are a number of different multiple option strategies. An investor has the following position: Buy one RIF Apr 120 call Buy one RIF Jul 130 put Which strategy is the investor using? A) Time spread B) Long combination C) Diagonal spread D) Long straddle
B) Long combination A combination is composed of a long call and long put, or a short call and a short put, each having different strike prices and/or expiration months on the same underlying security. A straddle is when the expiration dates and exercise prices are the same. A spread consists of a long and short position in the same options class (two puts or two calls). A spread, diagonal or not, is a long and a short in the same type of option (two calls or two puts). In a time spread, everything is the same except the expiration dates.
All of the following option contracts are in the money when XYZ is 54 except A) short XYZ 45 call. B) short XYZ 50 put. C) long XYZ 50 call. D) long XYZ 60 put.
B) short XYZ 50 put. CMV is 54 1. short XYZ 50 put. "Put down" 54 is above the strike, (up) so this contract is out of the money. 2. long XYZ 60 put. "Put down" 54 is below the strike, (down) so this contract is in the money. 3. long XYZ 50 call. "Call up" 54 is above the strike, (up) so this contract is in the money. 4. short XYZ 45 call. "Call up" 54 is above the strike, (up) so this contract is in the money.
Your client sells one naked MAV Oct 40 call at 2 when the market price of MAV is $41. What must MAV be selling at for the client to break even? A) 43 B) 38 C) 42 D) 40
C) 42 The breakeven point for a call is the strike price plus the premium (call up). The breakeven point is the same for both the buyer and the writer.
An investor owns six RIF Apr 150 puts. How many shares of the RIF will change hands if all the options are exercised? A) 150 B) 900 C) 600 D) 100
C) 600 Each of the six contracts allows the owner to sell (put) 100 shares of the RIF stock at $150 per share. If all six contracts are exercised, that will be 6 × 100 = 600 shares.
A customer establishes the following positions: Buy 100 ABC for 63 Write 1 ABC Jan 70 call for 1 What is the customer's maximum gain? A) Unlimited B) 700 C) 800 D) 600
C) 800 Maximum gain on the covered call position occurs when the stock's market value rises. The short call is exercised when the stock is above 70, so the stock bought for 63 will be sold for 70—a profit of $7 per share. In addition, the customer receives the premium of $1, so the total profit is $800 ($700 + $100).
Your client's position is long 100 MNO purchased at 90. Which of the following strategies will limit the customer's loss to $700? A) Buy a MNO 90 call at 7 B) Sell a MNO 90 call at 7 C) Long one MNO 90 call at 4, long one MNO 90 put at 3 D) Short one MNO 90 call at 4, short one MNO 90 put at 3
C) Long one MNO 90 call at 4, long one MNO 90 put at 3 t is the long put in this straddle position that limits the maximum loss on the long stock position. If the MNO stock drops to $0, the customer loses $9,000 on the long stock position but retains the right to sell the stock to someone at $9,000 to prevent loss beyond the premium of $300. The call would expire out of the money, for a total loss of $700.
A customer is short a DMF 50 call for which he received a premium of 4. Seven months later, the call was exercised when the current market for DMF was 56. Under the Internal Revenue Code, what were the proceeds of his sale? A) $5,600 B) $5,000 C) $4,600 D) $5,400
D) $5,400 He wrote a call and received a premium of 4. He later sold the security at $50, which made his total receipts for the stock $54. Proceeds in this case refers to the total amount he took in (a $400 premium plus $5,000 upon the sale).
Which of the following would be considered a bearish strategy? A) A credit put spread B) Writing a put C) A debit call spread D) Writing a call
D) Writing a call Those who write call options benefit when the price of the underlying asset declines (bearish). It is just the opposite for those who write a put. Spreads are bearish when the low strike price is sold and the high strike price is bought. That results in a debit when it is a put spread and a credit when it is a call spread. Credit put spreads and debit call spreads are bullish because it is the low strike that is purchased and the high strike that is sold.
