Spreads Flashcards
Which TWO of the following choices would create a “spread”?
I Long 1 ABC Jan 80 Call; Short 1 ABC Jan 70 Call
II Long 1 ABC Jan 50 Put; Short 1 ABC Jan 60 Put
III Long 1 ABC Jan 60 Call; Long 1 ABC Jan 70 Put
IV Short 1 ABC Jan 70 Call; Short 1 ABC Jan 80 Put
A. I and II
B. III and IV
C. I and IV
D. II and III
The best answer is A.
A “spread” is the purchase and sale of either 2 calls or 2 puts with differing strike prices and/or differing expirations. Spreads are gain limiting and risk limiting positions.
Which TWO choices would create a “spread”?
I Long 1 ABC Jan 50 Put; Short 1 ABC Apr 60 Put
II Short 1 ABC Jan 60 Call; Long 1 ABC Jan 50 Call
III Long 1 ABC Jan 50 Call; Short 100 ABC stock @ $50
IV Long 1 ABC Jan 60 Put; Short 1 ABC Jan 50 Call
A. I and II
B. III and IV
C. I and IV
D. II and III
The best answer is A.
A “spread” is the purchase and sale of either 2 calls or 2 puts with differing strike prices and/or differing expirations. Spreads are gain limiting and risk limiting positions.
Which TWO choices would create a “spread”?
I Long 1 ABC Jan 50 Call; Short 1 ABC Jan 60 Call
II Long 1 ABC Jan 60 Put; Short 1 ABC Jan 50 Put
III Long 1 ABC Jan 50 Call; Long 1 ABC Jan 60 Put
IV Short 1 ABC Jan 60 Call; Short 1 ABC Jan 50 Put
A. I and II
B. III and IV
C. I and IV
D. II and III
The best answer is A.
A “spread” is the purchase and sale of either 2 calls or 2 puts with differing strike prices and/or differing expirations. Spreads are gain limiting and risk limiting positions.
A customer who is long 1 ABC Jan 30 Call wishes to create a “long call spread.” The second option position that the customer must take is:
A. long 1 ABC Jan 20 Call
B. long 1 ABC Jan 40 Call
C. short 1 ABC Jan 20 Call
D. short 1 ABC Jan 40 Call
The best answer is D.
A spread is a buy and a sell of the same type of option. Since the customer is already long a call, he or she must be short a call to create a spread. In order for the position to be a “long call spread,” the customer must be a net buyer, meaning he or she must purchase the more expensive contract and sell the less expensive one. Since the lower strike price contracts are worth more money (for calls, since it is more advantageous to buy cheaper), he must sell the higher strike price contract to be a net buyer of the position. In this case, since the customer is already long a Jan 30 Call, to create a spread, a higher strike price call must be sold - and the only choice given that meets this criteria is to sell a Jan 40 Call. This is a moderately bullish strategy.
A customer who is long 1 ABC Jan 55 Call wishes to create a “long call spread.” The second option position that the customer must take is:
A. short 1 ABC Jan 45 Call
B. short 1 ABC Jan 65 Call
C. short 1 ABC Jan 45 Put
D. short 1 ABC Jan 65 Put
The best answer is B.
A spread is a buy and a sell of the same type of option. Since the customer is already long a call, he or she must be short a call to create a spread. In order for the position to be a “long call spread,” the customer must be a net buyer, meaning he or she must purchase the more expensive contract and sell the less expensive one. Since the lower strike price contracts are worth more money (for calls, since it is more advantageous to buy cheaper), he must sell the higher strike price contract to be a net buyer of the position. In this case, since the customer is already long a Jan 55 Call, to create a spread, a higher strike price call must be sold - and the only choice given that meets this criteria is to sell a Jan 65 Call. This is a moderately bullish strategy.
The market sentiment of a customer who purchases a “call spread” is:
A. bullish
B. bearish
C. neutral
D. volatile
The best answer is A.
A purchase of a “call spread” is similar to simply buying a call. Both strategies are profitable in a rising market. The difference is that a long call gives unlimited upside gain potential; a long call spread gives limited upside gain potential (for a lower premium paid).
When comparing a long call to a long call spread:
A. both have unlimited gain potential in a rising market
B. both have ever increasing gain potential in a falling market
C. the long call spread has a lower gain potential in a rising market
D. the long call spread has a higher gain potential in a rising market
The best answer is C.
A purchase of a “call spread” is similar to simply buying a call. Both strategies are profitable in a rising market. The difference is that a long call gives unlimited upside gain potential; a long call spread gives limited upside gain potential (for a lower premium paid).
On the same day, a customer buys 1 ABC Jan 50 Call @ $5 and sells 1 ABC Jan 60 Call @ $2. The maximum potential gain is:
A. $200
B. $300
C. $700
D. unlimited
The best answer is C.
The customer has created a long call spread, which is profitable if the market price rises.
Buy 1 ABC Jan 50 Call @ $5
Sell 1 ABC Jan 60 Call @ $2
$3 Debit
If the market rises, the customer will exercise the long call and buy the stock at $50. If the market continues to rise, the short call will be exercised and the stock will be delivered at $60 for a 10 point gain. Since $3 was paid in premiums, the maximum gain is $7 or $700 on the position.
A customer buys 1 ABC Jan 30 Call @ $12 and sells 1 ABC Jan 45 Call @ $3 when the market price of ABC is $38. The maximum potential gain is:
A. $600
B. $900
C. $1,500
D. unlimited
The best answer is A.
Bull call spreads (long call spreads are bullish strategies) are profitable if the market rises. If the market rises, both contracts are exercised for a 15 point gain (buy at $30 and sell at $45) offset by the net premium paid of 9 points. Thus, the maximum potential gain is: 15 - 9 = 6 points or $600.
A customer buys 1 ABC Jan 100 Call @ $8 and sells 1 ABC Jan 120 Call @ $3 when the market price of ABC is $105. The maximum potential loss is:
A. $300
B. $500
C. $1,500
D. unlimited
The best answer is B.
The customer has purchased a long call spread. The positions are:
Buy 1 ABC Jan 100 Call @ $8
Sell 1 ABC Jan 120 Call @ $3
$5 Debit
If the market falls below $100, both calls expire “out the money” and the customer loses the net 5 points paid in premiums.
On the same day a customer sells 1 ABC Jan 50 Call @ $2 and buys 1 ABC Jan 35 Call @ $8 when the market price of ABC is $41. The breakeven point is:
A. $37
B. $41
C. $44
D. $48
The best answer is B.
To breakeven, the customer must recover the $6 debit. Since this is a long call spread, the customer profits from the long call position. To breakeven, the market must rise above $35 by the 6 points paid in net premiums. Therefore, the breakeven is $35 + $6 = $41. To summarize, the breakeven formula for a long call spread is:
Long Call Spread B/E = Long S/P + Debit
On the same day in a margin account, a customer purchases 1 MNO Jan 50 Call @ $9 and sells 1 MNO Jan 60 Call @ $2. The customer will profit if:
I the spread between the premiums narrows
II the spread between the premiums widens
III both contracts are exercised
IV both contracts expire
A. I and III
B. I and IV
C. II and III
D. II and IV
The best answer is C.
This is a debit price spread. Debit spreads are profitable if the spread between the premiums widens. At this point, the positions can be closed out at a larger credit. If both positions are exercised, the customer buys the stock at $50 through the long call and delivers it at $60 on the short call for a 10 point gain. Since $7 was paid in premiums, the net gain is $3 or $300. If both positions expire, the customer loses the $7 debit. If the spread narrows below $7, the credit upon closeout will not be enough to cover the $7 debit paid and a loss is incurred.
On the same day in a margin account, a customer buys 1 ABC Jan 50 Call @ $5 and sells 1 ABC Jan 60 Call @ $2. The customer will profit if:
I the spread between the premiums widens
II the spread between the premiums narrows
III both contracts are exercised
IV both contracts expire
A. I and III
B. I and IV
C. II and III
D. II and IV
The best answer is A.
This is a debit price spread. Debit spreads are profitable if the spread between the premiums widens. At this point, the positions can be closed out at a larger credit. If both positions are exercised, the customer buys the stock at $50 through the long call and delivers it at $60 on the short call for a 10 point gain. Since $3 was paid in premiums, the net gain is $7 or $700. If both positions expire, the customer loses the $3 debit. If the spread narrows below $3, the credit upon closeout will not be enough to cover the $3 debit paid and a loss is incurred.
A customer buys 1 ABC Nov 45 Call @ $9 and sells 1 ABC Nov 60 Call @ $1. Later, the positions were closed - the ABC Nov 45 Call was closed at $5 and the ABC Nov 60 Call was closed at $2. The customer has a:
A. $500 profit
B. $500 loss
C. $800 profit
D. $800 loss
The best answer is B.
The opening position is:
Buy 1 ABC Nov 45 Call @ $9
Sell 1 ABC Nov 60 Call @ $1
$8 Debit
The closing position is:
Sell 1 ABC Nov 45 Call @ $5
Buy 1 ABC Nov 60 Call @ $2
$3 Credit
The net loss is $500 since the spread between the premiums narrowed from 8 to 3. Remember, debit spreads are only profitable if the spread between the premiums widens.
On the same day, a customer buys 1 ABC Jan 55 Call @ $7 and sells 1 ABC Jan 65 Call @ $2. Above which of the following prices will every dollar gained on the long call be exactly offset by a dollar lost on the short call?
A. $55
B. $60
C. $65
D. $73
The best answer is C.
The breakeven point is $60 per share. As the market rises above 60, the customer gains 1 point on the long call for every $1 rise in the price of ABC stock. Once the market goes above $65, the short call will also be “in the money,” and a dollar will be given up on the short call for every dollar gained on the long call. Thus, above $65, there is no further gain. The maximum potential gain is 5 points or $500.
