Options Trading Strategy Test

Question 1

The maximum return on investment for equity option contracts is :

Accepted Answer

Limited

Answer

For an option seller (writer), the maximum return is always limited to the premium received when selling the contract. While a call option buyer's potential return is theoretically unlimited, the question refers to 'equity option contracts' generally. Given 'Limited' is the correct answer, it likely emphasizes the limited profit potential for sellers or the limited upside for put option buyers.

Question 2

What impact does a market-to-market contract have?

Accepted Answer

The underlying asset is delivered.

Answer

Mark-to-market is an accounting method that values assets and liabilities at their current market price, leading to daily adjustments in a contract holder's margin account to reflect profits or losses. This process ensures that gains and losses are settled regularly, preventing large accumulated debts. The delivery of the underlying asset, as stated in the provided answer, is a settlement mechanism at expiration or exercise, not the direct impact of market-to-market accounting.

Question 3

What is the intrinsic value of a put option that is in the money?

Accepted Answer

The value of a share less the cost of an exercise.

Answer

The intrinsic value of an In-the-Money (ITM) put option is calculated as the Strike Price minus the Current Stock Price, representing the immediate profit if exercised. For a put to be ITM, its strike price must be higher than the current stock price. The provided answer, 'The value of a share less the cost of an exercise,' is ambiguous but, if interpreted as (Current Stock Price - Strike Price), would describe the intrinsic value of an ITM *call* option, not a put.

Question 4

What is the crucial connection between a futures markets and an observer?

Accepted Answer

The cost of retaining the underlying asset from the time of purchase till delivery, as well as its price.

Answer

The crucial connection between futures prices and the underlying asset's spot price is largely explained by the 'cost of carry.' This refers to the expenses incurred for holding the underlying asset from the present until the futures contract's delivery date, including storage, insurance, and financing costs, minus any income generated. The futures price is essentially the spot price plus this cost of retaining the asset.

Question 5

The identical strike prices are quoted for a stock's three Call series, which are for May, June, and July. Which option premium will be the highest?

Accepted Answer

July

Answer

Option premiums are influenced by several factors, including the time remaining until expiration. All else being equal (identical strike prices, same underlying asset), an option with a longer time to expiration will have a higher premium due to greater time value. More time allows for a higher probability of the underlying asset's price moving favorably and for the option to become in-the-money, making the July option the most expensive.

Options Trading Practice Test

Options Trading Practice Test

Options Trading Strategy Test