Chapter 10

You have taken a stock option position and, if the stock's price drops, you will get a level gain no matter how far prices fall, but you could go bankrupt if the stock's price rises. You have

written a call option.

A stock is currently selling for $75 per share. You could purchase a call with a strike price of $70 for $7. You could purchase a put with a strike price of $70 for $2. Calculate the intrinsic value of the call option.

$5 ; $75 − $70

A contract that gives the holder the right to sell a security at a preset price only immediately before contract expiration is a(n)

European put option.

A clearinghouse backs the buyer's and seller's position in a forward contract.

False

An increase in which of the following would increase the price of a call option on common stock, ceteris paribus? I. Stock price II. Stock price volatility III. Interest rates IV. Exercise price

I, II, and III only

A higher level of which of the following variables would make a put option on common stock more valuable, ceteris paribus? I. Stock price II. Stock price volatility III. Interest rates IV. Exercise price

II and IV only

A credit forward is a forward agreement that hedges against an increase in default risk on a loan after the loan has been created by a lender.

True

A negotiated non-standardized agreement between a buyer and seller (with no third-party involvement) to exchange an asset for cash at some future date with the price set today is called a forward agreement.

True

European-style options are options that may only be exercised at maturity.

True

In a futures contract, if funds in the margin account fall below the maintenance margin requirement, a margin call is issued.

True

Marking to market of futures contracts is the process of realizing gains and losses each day as the futures contract changes in price.

True

The buyer of a call option on stock benefits if the underlying stock price rises or if the volatility of the stock's price increases. Group starts

True

Writing a call option results in a potentially limited gain and a potentially unlimited loss.

True

You have purchased a put option on Pfizer common stock. The option has an exercise price of $27 and Pfizer's stock currently trades at $29. The option premium is $0.50 per contract. a. What is your net profit on the option if Pfizer's stock price does not change over the life of the option? b. What is your net profit on the option if Pfizer's stock price falls to $23 and you exercise the option?

a: $0.50 per share (the cost of the option); b: $3.50; ($27 − $23) − $0.50

Suppose you purchase a Treasury bond futures contract at a price of 95 percent of the face value, $100,000. a. What is your obligation when you purchase this futures contract? b. Assume that the Treasury bond futures price falls to 93.00 percent. What is your loss or gain? c. Assume that the Treasury bond futures price rises to 96.80. What is your loss or gain?

a: $95,000 b: $2,000 ; since you must pay $95,000 for bonds that have a market value of only $93,000 c: $1,800; since you pay only $95,000 for bonds that have a market value of $96,800

You have taken a stock option position and, if the stock's price increases, you could lose a fixed small amount of money, but if the stock's price decreases, your gain increases. You must have

bought a put option

Of the following, the most recent derivative security innovations are

credit derivatives

By convention, a swap buyer on an interest rate swap agrees to

periodically pay a fixed rate of interest and receive a floating rate of interest.

Measured by the amount outstanding, the largest type of derivative market in the world is the

swap market

A speculator may write a put option on stock with an exercise price of $15 and earn a $3 premium only if he thought

the stock price would stay above $12