Series 66: Investment Vehicles (Derivatives)
A customer buys 200 shares of Ford at 68 and sells 2 Ford 70 Calls @ $3. The maximum potential loss is:
$13,000 The worst case is that the stock becomes worthless. The customer paid $68 per share reduced by $3 in collected premiums for a net cost of $65. As the market drops, the calls will expire "out the money". The customer can lose all $65 per share X 200 shares = $13,000.
A customer sells short 100 shares of ABC stock at 38 and buys 1 ABC Mar 40 Call @ 5. The maximum potential gain is:
$3,300 If the stock falls, the customer gains on the short stock position. He sold the stock for $38. If it falls to "0," he can buy the shares for "nothing" to replace the borrowed shares sold and make 38 points. He lets the call expire "out the money" losing 5 points, so the maximum potential gain is 33 points.
A customer buys 100 shares of ABC stock at $56 and buys 1 ABC Jul 55 Put @ 2.50 on the same day. The maximum potential loss is:
$350 If the market should fall, the customer will exercise the put and sell the stock at the strike price, limiting potential loss. The put contract gives the customer the right to sell the stock at $55. Since the stock was purchased at $56, 1 point will be lost on the stock. In addition, 2.50 points were paid in premiums for a maximum potential loss of 3.50 points or $350.
A customer buys 1 ABC Jul 45 Put at $4 when the market price of ABC is 46. The customer's maximum potential gain is:
$4,100 The maximum gain for the holder of a put occurs if the market goes to "0". If it does, he can sell the stock at 45 and purchase it for nothing. Since he paid $400 in premiums for this right, the maximum potential gain is: $4,500 - $400 = $4,100.
A customer sells 2 ABC Jan 15 Puts @ 2 when the market price of ABC is 14. The maximum potential gain is:
$400 The maximum potential gain in any naked writing strategy is the premium received. If the put expires "out the money," the writer keeps the premium. In this case, 2 contracts were sold @ $2, so the maximum gain is $400.
A customer sells short 100 shares of PDQ at $49 and sells 1 PDQ Sep 50 Put @ $6. The customer will have a loss at which of the following market prices for PDQ?
56 A customer with a short stock / short put position loses if the market rises. The customer sold the stock at $49 and collected $6 in premiums, for a total of $55. To breakeven, the stock must be bought for this amount. If the stock is bought for more than $55, the customer loses. Therefore, a loss is experienced at $56. To summarize, the formula for breakeven for a short stock / short put position is: short stock/short put break even = short sale price + premium
All of the following are derivatives EXCEPT:
Investment contracts The value of options, futures and forward contracts is based on the price movements of a reference asset - so these are clearly derivatives. An investment contract is signed when an investor agrees to pay a specified amount into an investment over time - it is not a derivative.
A customer that is long ABC stock in his portfolio buys call options on that stock. Why would the customer do this?
To lock in a price at which shares can be added to the portfolio The purchase of a call gives the customer the right to buy shares at the strike price. The only reason why a person who is already long that stock would buy calls on the stock would be to give the customer the ability to buy more shares at the strike price if the market price of the stock should move up.
A customer that is short ABC stock in his portfolio buys put options on that stock. Why would the customer do this?
To lock in a price at which the short position can be increased in the portfolio The purchase of a put gives the customer the right to sell shares at the strike price. The only reason why a person who is already short that stock would buy puts on the stock would be to give the customer the ability to sell more shares at the strike price if the market price of the stock should move down.
A customer sells short 100 shares of PDQ at $49 and sells 1 PDQ Sep 50 Put @ $6. The maximum potential gain while both positions are in place is:
$500 If the market falls, the short put is exercised and the stock must be bought at $50. Since it was already "sold" at $49, there is a loss of $1 per share ($100 total). But the customer collected $600 in premiums; so the end result is a net gain of $500. This is the maximum potential gain. Conversely, if the market rises, the short put expires, leaving a short stock position that has potentially unlimited loss.
A customer sells short 100 shares of ABC stock at 40 and buys 1 ABC Mar 40 Call @ 5. The maximum potential loss is:
$500 The long call limits loss on the short stock position in a rising market. The stock was sold for $40 and can be bought back at $40 by exercising the call. The only loss to the customer is the premium paid of 5 points or $500.
A customer sells 2 ABC Jan 40 Puts @ $9 when the market price of ABC is $36. The maximum potential loss for the customer is:
$6,200 If the market goes to zero, the put writer will experience the maximum potential loss. The writer of the puts will be exercised, forcing him to buy worthless stock at the $40 strike price. However, the customer has received $9 per share in premiums. The net loss is $31 per share x 200 shares = $6,200.
A customer sells short 100 shares of ABC stock at $60 and sells 1 ABC Oct 60 Put @ $6. The maximum potential gain while both positions are in place is:
$600 If the market drops, the short put is exercised and the customer must buy the stock at $60. Since he sold the stock at $60, he has no gain or loss on the stock - but he does keep the $600 of collected premiums. This is the maximum potential gain. Conversely, if the market rises, the short put expires, leaving a short stock position that has potentially unlimited loss.
A customer sells 2 ABC Jan 50 Calls @ $3 when the market price of ABC is at $52. The maximum potential gain for the position is:
$600 The maximum potential gain for the writer of a naked call option is the premium received. This occurs if the market drops and the call expires "out the money". In this case, there are 2 contracts, so the maximum gain is the $300 collected premium x 2 contracts = $600.
A customer sells 2 ABC Jan 65 Puts @ 3 when the market price of ABC is 66. The maximum potential gain is:
$600 The maximum potential gain in any naked writing strategy is the premium received. If the put expires out the money, the writer keeps the premium. In this case, 2 contracts were sold @ $3, so the maximum gain is $600.
In January, a customer buys 1 ABC Jun 80 Call @ $7 when the market price of ABC is 81. The customer's maximum potential loss is:
$700 In a falling market, a long call position will expire "out the money" and the holder loses the premium paid. This is the maximum potential loss
A customer buys 100 shares of ABC stock at 39 and sells 1 ABC Jan 45 Call @ 2 on the same day in a cash account. The customer's maximum potential gain until the option expires is:
$800 If the market rises above 45 the short call will be exercised. The customer must deliver the stock that he bought at 39 for the $45 strike price, resulting in a $600 gain. Since $200 was collected in premiums as well, the total gain is $800. This is the maximum potential gain while both positions are in place.
A customer buys 2 ABC Jan 60 Puts @ $4 when the market price of ABC is $59. The maximum potential loss for the customer is:
$800 The holder of a put buys the right to sell at a fixed price. If the contract expires "out the money," the maximum loss is the premium paid. $400 was paid per contract ($800 for 2 contracts), so $800 is the maximum potential loss. This occurs if the market price rises above the strike price.
Equity options are:
American Style Stock options are American style (exercisable any time). In contrast, index options (with only one exception) are only issued in European style (exercisable only at expiration).
A customer bought 100 shares of DEF stock at $23 per share. The stock has appreciated to $41 per share, and the customer would like to protect the gain at minimal cost. Which of the following options positions would "collar" the position at the lowest cost?
Buy 1 DEF Jan 40 Put and Sell 1 DEF Jan 45 Call To protect the stock position from a downside move, a put must be purchased. To keep the cost of the put low, the put should be "out of the money." Since the stock is currently worth $41, the purchase of a 40 put, which is 1 point "out of the money," would be the cheapest. To further reduce the cost of protection, the customer would sell an "out of the money" call to collect a premium that could be used to offset the cost of the put premium. Since the stock is at $41, the sale of a 45 call would give the customer 4 points of additional upside gain if the market should rise. If the market rises above this, the call will be exercised, and the customer would deliver the stock at $45 per share. In exchange for giving up any further upside gain above $45 per share, the customer collects the premium income from the sale of the call (and this offsets the cost of buying the put). Thus, the customer has "collared" the stock position, either selling the stock at $40 by exercising the long put if the stock price should fall below $40; or by selling the stock at $45 if the market should rise above this, since the short call will be exercised.
If it is expected that the price of an asset will rise in the future, which strategy is profitable?
Buy a future If a put is purchased and the market rises above the strike price, the put will expire worthless "out the money" and the premium will be lost. If a call is sold and the market rises above the strike price, the call will be exercised, obligating the call writer to deliver the stock at the strike price in a rising market. In order to make the delivery, the customer must buy the stock at the higher market price and will lose. If a futures contract is purchased, the customer has a contract to buy the commodity or financial asset at a fixed price at a fixed future date. If the asset price goes up, the client will gain. If a futures contract is sold, the customer has a contract to sell the commodity or financial asset at a fixed price at a fixed future date. If the asset price goes up, the client will lose (because the asset must be purchased at the current higher price and delivered at the lower contract price).
What type of option can only be exercised at expiration?
European Style An American style option is one that can be exercised at any time. In contrast, a European style option can only be exercised at expiration - not before. Individual stock options are American style; most index options are European style.
A primary government dealer that is short Treasury Bonds could hedge the position by: I Buying T-Bond futures contracts II Selling T-Bond futures contracts III Buying T-Bond forward contracts IV Selling T-Bond forward contracts
I and III If a T-Bond trader is short, the risk is that price of the T-Bonds will rise. The purchase of a futures contract (right to buy at a fixed price at a future date) will protect from an upward market move. The purchase of a forward contract will also protect the trader, since the T-Bonds are then "prebought" at a fixed price. Review
Which statements are TRUE when comparing futures contracts to forward contracts? I Futures contracts are exchange traded II Futures contracts are traded OTC III Forward contracts are exchange traded IV Forward contracts are traded OTC
I and IV Futures contracts are standardized, exchange traded contracts that require future delivery of an asset at a fixed price and date in the future. In contrast, forward contracts also require delivery of an asset at a fixed price and date in the future, but they are custom contracts that are created between 2 institutions. They are not standardized and only trade OTC.
Which statements are TRUE when comparing options contracts to futures contracts? I A futures contract requires future delivery of the underlying physical asset II A futures contract does not require future delivery of the underlying physical asset III An options contract requires future delivery of the underlying physical asset IV An options contract does not require future delivery of the underlying physical asset
I and IV Futures contracts are standardized, exchange traded contracts that require future delivery of an asset at a fixed price and date in the future. In contrast, options contracts are standardized, exchange traded contracts that only require delivery if the option is exercised.
The holder of a put on a listed stock exercises. The holder MUST: I deliver stock II deliver cash III take delivery of stock IV take delivery of cash
I and IV If the holder of a put option on a listed stock exercises, he must deliver 100 shares of stock, for which the holder will receive the strike price in cash.
The writer of a call on a listed stock is exercised. The writer MUST: I deliver stock II deliver cash III take delivery of stock IV take delivery of cash
I and IV If the writer of a call option on listed stocks is exercised, he must deliver 100 shares of stock, for which the writer will receive the strike price in cash.
Which statements are TRUE when comparing index options to index futures? I Index options are defined as security II Index options are not defined as a security III Index futures are defined as a security IV Index futures are not defined as a security
I and IV Index options are regulated by the SEC and the States as a "security." In contrast, futures are not a security - they are regulated as "commodities futures" regulated by the CFTC.
Which statements are TRUE? I A call option is in the money when the current market value of the stock is less than the option contract strike price II A call option is in the money when the strike price of the option contract is below the current market value of the stock III A put option is in the money when the current market value of the stock is less than the option contract strike price IV A put option is in the money when the strike price of the option contract is below the current market value of the stock
II and III Call options go "in the money" when the market price exceeds the contract strike price - which is the same as the contract strike price being below the current market value of the stock. Put options go "in the money" when the market price is below the contract price. The "in the money" amount will set the minimum premium for the contract. On top of this, the premium will increase based on the length of time remaining to the contract, the volatility of the underlying stock and market interest rate levels.
Which of the following create a collar on ABC stock, priced at $60?
Sell 1 ABC 65 Call; Buy 1 ABC 55 Put A "collar" is the purchase of a put at a strike price below that of the underlying instrument (putting a floor on the instrument's price); and the sale of a call at a strike price above that of the underlying instrument (creating a ceiling price, above which the instrument will be called away). By putting a collar on the price, the customer is essentially guaranteeing a minimum and maximum price for the underlying instrument. The net cost of such a collar should be close to "0" since both contracts are "out the money" and the premium received from the sale of the call offsets the premium paid to buy the put.
If the writer of an equity call contract is exercised, the writer MUST:
deliver stock in 2 business days If the writer of an equity call contract is exercised, the writer must deliver the stock, receiving the strike price in payment from the holder. Settlement is 2 business days after exercise date - this is a regular way stock trade.
Which of the following is NOT a security?
Treasury bond futures contract A fixed annuity is not security; a variable annuity is a security. A futures contract is not a security; an option on a futures contract is a security. An American Depositary Receipt is the way that foreign shares are held in the U.S. and is a security.
The sale of an "at the money" call is a:
bear/neutral strategy The seller of a call has the obligation to deliver stock at a fixed price in a rising market, in return for which the writer collects a premium. If the market stays the same, or falls, the call expires and the writer keeps the collected premium. This is a bear/neutral market strategy.
A customer sells short 3000 shares of XYZ stock at $23 per share. The stock subsequently declines in price to $20 per share, and the customer believes that there may be a temporary change in market direction. If the customer is not concerned about the cost of hedging, he would be best advised to:
buy 30 "at the money" calls This customer has a gain on a short stock position that he wishes to protect from a subsequent market rise. The only way to do this is either to buy a call or sell a put. If a call is purchased with a strike price at the current market price, then the customer can exercise the call in a rising market and buy the stock at that fixed price, closing out the short position at a profit. However, it costs money to buy a call - but since the customer is not concerned about the cost of the hedge, this is not an issue. Since this customer is short 3000 shares and each call contract covers 100 shares of stock, 30 contracts are needed to hedge.
An individual has just purchased 100 shares of stock at $50. All of the following options positions could be taken for a logical reason EXCEPT:
buy a 25 put on the stock The reason to buy a put is to protect the stock from a downward loss (at the cost of the put premium). Buying a 50 put gives full protection since the holder has the right to sell at $50. Buying a 25 put, even with a cheap premium, still exposes the client to 25 points of downward loss - so there is not much protection! A client could sell a 50 call against the stock owned for premium income if the client believed that the stock price will be stable for the life of the call. If the market rises, the stock will be called away at the strike price and the premium will still be earned. If the market price falls, the loss on the stock is cushioned by the premium income received. A client could sell a 50 put against the stock owned for premium income if the client believed that the stock price will be stable for the life of the put. If the market rises, the put expires worthless and the custom enjoys the rise in the stock price in addition to having collected the premium income. However, if the market drops, the short put will be exercised and the client must buy 100 shares at $50, in addition to the 100 shares already purchased at $50. Thus, the client owns 200 shares at $50, and can lose all $10,000 in a falling market, net of any premium received.
A client is short stock and wants to protect his position. The option strategy that should be used is:
buy a call A customer loses on a short stock position if the market rises. If the customer buys a call, he or she buys the right to buy the underlying stock at a fixed price. Thus, in a rising market, the stock can be purchased at a fixed price by exercising the call and the purchased shares used to cover the short stock position.
To protect against rising prices before a future purchase, one would:
buy a futures contract The purchase of a futures contract is a contract to buy the physical commodity at a future date and price that is set today. Thus, it will protect against rising prices before a future purchase is made.
An investor wishes to be able to buy stock at a specified price up until a specified time in the future. To be able to do this, the investor would:
buy calls on that stock Since a long call option allows the purchase of stock at a fixed price at the option of the holder, this is the appropriate option position. Selling a put is not appropriate, since the writer does not determine if the contract is exercised. The holder of the put can exercise, requiring the writer to buy the stock (and will only do so when the market has fallen - which is exactly when the writer of the put does not want to buy the shares).
An investor writes 1 ABC Jan 45 Put @ $3. The contract subsequently is exercised. The writer is obligated to:
buy stock at $45 per share The writer of a put is obligated to buy stock at the strike price of $45 per share specified in the contract, if exercised. For selling the contract, the writer initially receives a premium of $3 per share.
A customer owning 100 shares of stock could receive protection by:
buying a put In order to hedge a long stock position against a downside market move, the best choice is to buy a put. The long put option allows the holder to put (sell) the stock at the exercise price if the market falls - protecting the stock position from downside market risk.
An options strategy where the maximum potential loss is equal to the difference between the value of the underlying long securities position and premiums received is a:
covered call writer A covered call writer sells a call contract against the underlying stock that is owned by that customer. If the market drops, the call expires unexercised and the customer keeps the premium. However, as the market drops, the customer loses on the long stock position. Thus, the maximum potential loss is the full value of the stock position, net of collected premiums.
A food manufacturer has entered into a contract to buy 5,000 bushels of corn at $4.23 per bushel, to be delivered at the firm's place of business, 6 months from now. The firm has entered into a(n):
forward contract Forward contracts are custom, unregulated, OTC contracts entered into between a buyer and a seller that specify that the underlying asset be delivered at the contract price at a stated date in the contract. These are non-standardized contracts that are not exchange traded. In contrast, futures and options contracts are standardized, are exchange traded, and are regulated. Delivery contract is a meaningless term in the context of this question.
The sale of a call has all of the same characteristics as selling stock short EXCEPT:
no erosion of value as the position is held The sale of a call has unlimited loss potential, as does the short sale of stock. The maximum gain for a call writer is the premium collected; the maximum gain on a short stock position occurs if the market falls to "0" and the position can be closed for nothing - so gain potential is limited for both. Both options and stocks are actively traded on exchanges, so there is little liquidity risk for both. Options contracts lose time premium as the position nears expiration; this is not true for stock positions
An investor sells short 200 shares of ABC stock at $60 and sells 2 ABC Jan 60 Puts @ 4 on the same day in a margin account. The maximum potential loss is:
unlimited If the market rises, the short puts expire unexercised and the writer earns $800 in premiums. However, he is left with a short stock position which gives unlimited upside potential loss.
Forward contracts differ from futures contracts in all of the following ways EXCEPT forward contracts are:
non-derivative Forward contracts are custom contracts that are negotiated between buyer and seller. They are issued OTC and there is very limited trading - thus it may not be possible to do an offsetting trade with a forward contract. Forward contracts are not subject to federal regulation. In contrast, futures contracts are standardized, exchange traded contracts. They are regulated by the CFTC - the Commodities Futures Trading Commission. Because they are actively traded, it is easy to do an offsetting trade before the delivery date. Both futures and forwards are derivatives, because their price movements are based on the price movement of a reference asset.
A futures contract is an:
obligation to buy or sell a specific commodity and grade on a specific date, place, and price A futures contracts is not an options contract. It is a standardized contract between a buyer and seller that sets for the sale price of a specified amount of a specified commodity of a specified grade, with delivery occurring on the date and place specified in the contract. The name comes from the fact that the contract specifies the conditions for a future delivery of the commodity. Most of these contracts never result in delivery because they can be offset by trading in the market prior to the delivery date. The buyer of the contract profits if the market price rises over the life of the contract, while the seller of the contract profits if the market price falls over the life of the contract.
The seller of a futures contract has the:
obligation to sell a specific commodity at a certain price and grade at a specific date and location through an organized futures exchange A futures contract differs from an options contract because the buyer of an option has the right to exercise, but does not have to do so at expiration, while the holder of a futures contract has agreed to buy the underlying commodity at a fixed price at the expiration date, unless the contract is closed by trading. Similarly, the seller of a futures contract must deliver the underlying commodity at a fixed price at the expiration date, unless the contract is closed by trading.
A vehicle that gives the right, but not the obligation, to buy a reference asset at a stated price for a stated period of time is a(n):
options contract A key difference between an option contract and a futures or forward contract is that the holder of an option has the right to exercise, but is not required to do so. In contrast, a futures or forward contract obligates the buyer of the contract to buy the underlying reference asset at the delivery date, unless the contract is closed prior to this date.Swaps are custom OTC contracts that allow for a "swapping" of cash flows between 2 parties, with the most common being an interest rate swap, where a fixed interest rate is "swapped" for a floating rate. For example, Party A agrees that it will pay a fixed 4% interest rate for 5 years on a $100 million principal amount to Party B. Party B agrees that it will pay a floating rate of LIBOR (say it is currently at 3%) + 1% to Party A over this period. Party A "wins" if interest rates rise over this period; Party B "wins" if interest rates fall over this period.
Selling a put against a stock position sold short is a suitable strategy when the market is expected to:
remain stable Selling stock short alone is a bearish position. Selling a put alone is neutral or bullish strategy. Selling a put against a short stock position is a neutral strategy (as is any income strategy). If the stock is sold short and a put is sold with the same strike price, then if the market stays the same, the put expires "at the money" and the premium collected is retained. If the stock falls, the short put is exercised, obligating the customer to buy the stock at the same price at which it was sold. In this case, only the premium is earned. If the put had not been sold, then the customer would have had an increasing gain on the short stock position as the market fell - so he does not make as much in a falling market. On the other hand, if the market rises, the short put expires "out the money" and the customer is exposed to unlimited upside risk on the short stock position that remains. Review
An investor purchases 1 ABC Jan 45 Put @ $3. The investor subsequently exercises his option contract. The holder has the right to:
sell stock at $45 per share The holder of a put has the right to sell stock at the strike price of $45 per share specified in the contract. For the contract, the holder initially pays a premium of $3 per share.
A customer could be obligated to sell stock at a future date if the customer is the:
seller of a call The seller (writer) of a call is obligated to sell the underlying security at the strike price if the market rises. In a rising market, the buyer of the call will exercise the contract, buying the stock from the writer at the strike price. Because the writer had to sell the stock at a strike price that is lower than the market price, the writer will have a loss.
A customer could be obligated to purchase stock at a future date if the customer is the:
seller of a put The seller (writer) of a put is obligated to buy the underlying security at the strike price if the market falls. In a falling market, the buyer of the put will exercise the contract, selling the stock to the writer at the strike price. Because the writer had to buy the stock at a strike price that is higher than the market price, the writer will have a loss.
A customer buys 100 shares of ABC stock at 50 and buys 1 ABC Jan 50 Put @ 5. The maximum potential gain is:
unlimited The customer has paid $50 for the stock and $5 for the put, for a total outlay of $55. If the stock declines, he is hedged, since he has the right to sell for $50 with the long put; so he can lose only 5 points. However, if the stock rises, he lets the put expire "out the money" and can ride the price of the stock up, with theoretically unlimited gain potential.
Which of the following option positions is used to generate additional income against a long stock position?
short call A covered call writer owns the underlying stock position. He sells the call contract to generate extra income from the stock during periods when the market is expected to be stable. If he expects the market to rise, he would not write the call against the stock position because the stock will be "called away" in a rising market. If he expects the market to fall, he would sell the stock or buy a put as a hedge. The customer would not sell a put to generate extra income against the long stock position, because if the market falls, the customer would be exercised on short put, and thus would have to buy another 100 shares at the strike price. Thus, in a declining market, the customer would lose double.
A futures contract contains:
specific amount and quality of a commodity with a specific delivery time and location Commodities futures contracts are standardized to make them easy to trade. The standardizations include: Contract Amount Delivery Date Delivery Time and Location Acceptable Grades of the Commodity for Delivery What is not established by "standardization" is the price of the contract - this is set in the market. If the contract is not closed by trading, on the due date, the commodity will be delivered and payment must be made. Of course, virtually all contracts are closed by trading.
A futures contract to buy or sell a specified commodity with a specified price, grade, delivery date, and delivery location, reflects the characteristic of:
standardization Futures contracts are standardized, because this makes them easier to trade (1 standard contract is the same as the next) and it also means the contracts that are created can be closed by trading (making the contract disappear!), so that the physical delivery specified in the contract will only occur on those contracts that are not closed by the delivery date.
A put option is "out the money" when the:
strike price of the option contract is below the current market value of the stock Put options go "out the money" when the market price exceeds the contract strike price - which is the same as the contract strike price being below the current market value of the stock. Out the money contracts trade at very low premiums because they will not be exercised.
A customer would buy call contracts because:
the customer is bullish on the underlying security Call contracts are bought when a customer is bullish on the market.
In November, a customer buys 1 ABC Jan 75 Call @ $6 when the market price of ABC is 73. The customer's maximum potential gain is:
unlimited The holder of a call has unlimited gain potential. He has the right to buy stock at a fixed price - and the stock can rise an unlimited amount.
A customer sells 1 ABC Feb 40 Call @ $2 when the market price of ABC is 39.50. The customer's maximum potential loss is:
unlimited The writer of a naked call is obligated to deliver stock that he does not own. If exercised, the stock must be bought in the market for delivery. Since the market price can rise an unlimited amount, the maximum potential loss is unlimited as well.
unlimited loss potential in a rising market
unlimited loss potential in a rising market The purchase of a put has limited loss potential in a rising market - the maximum that can be lost is the premium paid. In a rising market, the loss potential on a short sale of stock is unlimited, since the stock must be purchased at the higher market price and replaced. The maximum gain for both a long put and a short sale of stock occurs if the market falls to "0". Both have increasing gain as the market falls, all the way to a maximum gain at "0". Because both are profitable in falling markets, they are bear market strategies. Thus, the maximum gain is limited for both, since the market can only fall as far as to "0". Both options and stocks are actively traded on exchanges, so there is little liquidity risk for either.