Chapter 14 Flashcards
If an investor is short a call, how could that option be covered?
1) Be long 2) Own convertibles 3) Present escrow receipt 4) Own a call (lower strike, same or later expiration)
If an investor is short a put, how could that option be covered?
1) Deposit cash equal to the strike 2) Be short the stock 3) Own a put (higher strike, same or later expiration)
Identify the position: An investor sells 1 ABC May 30 call at 3 and purchases 1 ABC May 35 call at 1.
A sale and purchase of calls or puts is a spread.
Identify the position: An investor shorts 1 XYZ May 50 call at 3 and is long 1 XYZ May 40 call at 5.
A spread, which is the sale and purchase of calls or puts.
Identify the position: An investor writes 1 STC Jul 70 put at 7 and owns 1 STC Jul 60 put at 3.
A spread, which is the sale and purchase of calls or puts.
Identify the position: An investor buys 1 GDG Mar 50 call at 4 and buys 1 GDG Mar 50 put at 4.
A straddle, which is the purchase or sale of both a call and a put with the same stock, expiration and strike price.
Identify the spread: An investor buys 1 JMK May 60 call and sells 1 JMK May 65 call.
A spread with different strike prices is a Price/Vertical spread.
Identify the spread: An investor writes 1 ABC Jan 75 put and is long 1 ABC Mar 75 put.
A spread with different expirations is a Calendar/Horizontal spread.
Identify the spread: An investor is long 1 MCD Jun 50 call and is short 1 MCD Sep 60 call.
A spread with different expirations and different strikes is a Diagonal spread.
An investor sells 1 ABC Mar 30 call at 7 and buys 1 ABC Mar 40 call at 3. Is this a debit or credit spread?
Since the larger premium is on the sell leg, this is a credit spread, sold for a net premium of 4.
An investor sells 1 ABC Mar 30 call at 7 and buys 1 ABC Mar 40 call at 3. Is the investor bullish or bearish on ABC?
She is bearish. The dominant leg is the sell leg, which makes the investor the seller of a call.
An investor sells 1 ABC Mar 30 call at 7 and buys 1 ABC Mar 40 call at 3. What is the investor’s breakeven point?
30 + 4 = 34 (always between strikes). For call spreads, the net premium is added to the lower strike (CALL UP).
An investor sells 1 ABC Mar 30 call at 7 and buys 1 ABC Mar 40 call at 3. What is the investor’s maximum gain?
The net premium of $400. Remember, sellers cannot make more than the premium.
An investor sells 1 ABC Mar 30 call at 7 and buys 1 ABC Mar 40 call at 3. What is the investor’s maximum loss?
$600. If the stock rises, the investor could lose starting from the breakeven of 34 up to 40.
True or False: Maximum gains and maximum losses could be unlimited with vertical spreads.
False. Spreads limit both gains and losses. Remember, net premium is the loss for the buyer and the gain for the seller.
An investor buys 1 ABC Mar 30 call at 7 and sells 1 ABC Mar 40 call at 3. Is this a debit or credit spread?
Since the larger premium is on the buy leg, this is a debit spread, bought for a net premium of 4.
An investor buys 1 ABC Mar 30 call at 7 and sells 1 ABC Mar 40 call at 3. Is the investor bullish or bearish on ABC?
He is bullish. The dominant leg is the buy leg, which makes the investor the buyer of a call.
An investor buys 1 ABC Mar 30 call at 7 and sells 1 ABC Mar 40 call at 3. What is the investor’s breakeven point?
30 + 4 = 34 (always between strikes). For call spreads, the net premium is added to the lower strike (CALL UP).
An investor buys 1 ABC Mar 30 call at 7 and sells 1 ABC Mar 40 call at 3. What is the investor’s maximum gain?
$600. If the stock rises, the investor could profit starting from the breakeven of 34 up to 40.
An investor buys 1 ABC Mar 30 call at 7 and sells 1 ABC Mar 40 call at 3. What is the investor’s maximum loss?
The net premium of $400. Remember, buyers cannot lose more than the premium.
An investor is long 1 DEF Apr 35 put at 3 and short 1 DEF Apr 30 put at 1. Is this a debit or credit spread?
Since the larger premium is on the buy leg, this is a debit spread, bought for a net premium of 2.
An investor is long 1 DEF Apr 35 put at 3 and short 1 DEF Apr 30 put at 1. Is the investor bullish or bearish on DEF?
He is bearish. The dominant leg is the buy leg, which makes the investor the buyer of a put.
Long 1 DEF Apr 35 put at 3 and short 1 DEF Apr 30 put at 1. What is the breakeven point?
35 - 2 = 33 (always between strikes). For put spreads, the net premium is subtracted from the higher strike (PUT DOWN).
An investor is long 1 DEF Apr 35 put at 3 and short 1 DEF Apr 30 put at 1. What is the investor’s maximum gain?
$300. If the stock falls, the investor could profit starting from the breakeven of 33 down to 30.