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Investment and Stock Multiple Choice Questions

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1. Which of the following statements is CORRECT?
a. Put options give investors the right to buy a stock at a certain strike price before a specified date.
b. Call options give investors the right to sell a stock at a certain strike price before a specified date.
c. Options typically sell for less than their exercise value.
d. LEAPS are very short-term options that were created relatively recently and now trade in the market.
e. An option holder is not entitled to receive dividends unless he or she exercises their option before the stock goes ex dividend.

2. Which of the following statements is CORRECT?
a. If the underlying stock does not pay a dividend, it makes good economic sense to exercise a call option as soon as the stock's price exceeds the strike price by about 10%, because this permits the option holder to lock in an immediate profit.
b. Call options generally sell at a price less than their exercise value.
c. If a stock becomes riskier (more volatile), call options on the stock are likely to decline in value.
d. Call options generally sell at prices above their exercise value, but for an in-the-money option, the greater the exercise value in relation to the strike price, the lower the premium on the option is likely to be.
e. Because of the put-call parity relationship, under equilibrium conditions a put option on a
stock must sell at exactly the same price as a call option on the stock.

3. Which of the following statements is CORRECT?
a. An option's value is determined by its exercise value, which is the market price of the stock less its striking price. Thus, an option can't sell for more than its exercise value.
b. As the stock's price rises, the time value portion of an option on a stock increases because the difference between the price of the stock and the fixed strike price increases.
c. Issuing options provides companies with a low cost method of raising capital.
d. The market value of an option depends in part on the option's time to maturity and also on the variability of the underlying stock's price.
e. The potential loss on an option decreases as the option sells at higher and higher prices because the profit margin gets bigger.

4. The current price of a stock is $22, and at the end of one year its price will be either $27 or $17.
The annual risk-free rate is 6.0%, based on daily compounding. A 1-year call option on the stock, with an exercise price of $22, is available. Based on the binominal model, what is the option's value?
a.$2.43
b. $2.70
c. $2.99
d. $3.29
e. $3.62

5. An analyst wants to use the Black-Scholes model to value call options on the stock of Ledbetter Inc. based on the following data:
The price of the stock is $40.
The strike price of the option is $40.
The option matures in 3 months (t = 0.25).
The standard deviation of the stock's returns is 0.40, and the variance is 0.16.
The risk-free rate is 6%.
Given this information, the analyst then calculated the following necessary components of the Black-Scholes model:
d1 = 0.175
d2 = -0.025
N(d1) = 0.56946
N(d2) = 0.49003
N(d1) and N(d2) represent areas under a standard normal distribution function. Using the Black- Scholes model, what is the value of the call option?
a. $2.81
b. $3.12
c. $3.47
d. $3.82
e. $4.20

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Solution Preview

1.e
An option holder is not entitled to receive dividends unless he or she exercises their option before the stock goes ex dividend.

2.d
Call options generally sell at prices above their exercise value, but for an in-the-money option, the greater the exercise value in relation to the strike price, the lower the premium on the option is likely to be.

3.d
The market ...

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Multiple Choice question on investments: financial intermediary, margin, commercial banks, long position, limit order, reserves of commercial banks, specialists, term structure of interest rates, short sell, upward sloping yield curve, pension plans, Money market mutual funds, organized security markets, minimum margin requirement, federally insured investment

1. A financial intermediary transfers

A. savings to households.
B. savings to borrowers.
C. stocks to brokers.
D. new stock issues to buyers.

2. If an individual buys stock on margin and its price rises, the investor

A. must put up additional collateral.
B. must pay tax on the unrealized gain.
C. must pay interest on the borrowed funds.
D. may take delivery of the stock.

3. Since commercial banks have a large amount of debt outstanding, they

A. are highly financially leveraged.
B. earn very little for their stockholders.
C. pay high interest rates on deposits.
D. pay dividends to their stockholders.

4. A stock is currently selling for $10 a share. What is your gain/loss if you take a long position and the stock price rises to $14 a share?

A. You would lose $4 per share.
B. You would gain $4 per share.
C. You would gain $24 per share.
D. You would lose $6 per share.

5. Which of the following assets is the most liquid?

A. Money and antiques
B. Bonds and real estate
C. Savings accounts and checking accounts
D. Stocks and bonds

6. When investing in securities, an investor may place a limit order that

A. limits the amount of commissions.
B. specifies when the stock will be purchased.
C. establishes the exchange on which the security is to be bought or sold.
D. states a price at which the investor seeks to buy or sell the stock.

7. Terry buys 100 shares of XYZ stock on margin at $20 per share. If the margin requirement is 45 percent, the interest rate is 10 percent, and he holds the security for 1 year, how much interest must he pay?

A. $2,000 C. $110
B. $200 D. $90

8. The reserves of commercial banks must be held against

A. the bank as equity. C. savings deposits.
B. losses. D. commercial loans.

9. Which of the following statements about specialists is correct?

A. A specialist stresses one type of investment.
B. A specialist only buys stock.
C. A specialist analyzes corporate securities.
D. A specialist makes a market in securities.

10. The term structure of interest rates involves the relationship between

A. risk and yields.
B. yields and bond ratings.
C. term and yields.
D. stock and bond yields.

11. A stock is currently selling for $36 a share. What is your gain/loss if you sell the stock short and the price rises to $62?

A. You would lose $26 per share.
B. You would gain $26 per share.
C. You would gain $13 per share.
D. You would lose $6 per share.

12. Which of the following is indicated by an upward sloping yield curve?

A. Lower prices for short-term maturity
B. Higher prices for long-term maturity
C. Lower interest rates for long-term maturity
D. Higher interest rates for long-term maturity

13. A stock is currently selling for $40 per share. What is your gain/loss if you buy a round lot and the price declines to $28?

A. You would lose $600.
B. You would lose $1,200.
C. You would gain $1,200.
D. You would gain $6,000.

14. Which of the following statements about pension plans is correct?

A. A pension plan that grants mortgage loans is an example of a financial intermediary.
B. A pension plan that grants mortgage loans can't suffer losses.
C. A pension plan that grants mortgage loans is called a savings and loan association.
D. A pension plan that grants mortgage loans isn't an example of a financial intermediary.

15. Money market mutual funds invest in

A. corporate bonds.
B. corporate stock.
C. federal government treasury bills.
D. federal government bonds.

16. Entering an order to sell stock at $17 when the bid is $18-$19 is an example of a

A. market order. C. margin payment.
B. short sale. D. limit order.

17. Which of the following statements about organized security markets is correct?

A. Organized security markets are examples of financial intermediaries.
B. Organized security markets transfer resources from savers to borrowers.
C. Organized security markets are secondary markets.
D. Organized security markets aren't subject to regulation.

18. The minimum margin requirement is established by

A. brokerage firms. C. the SEC.
B. Congress. D. the Federal Reserve.

19. If an investor sells short, then he or she

A. buys an odd lot of a security.
B. sells securities from his or her portfolio.
C. anticipates a price increase.
D. anticipates a price decrease.

20. Which of the following is a federally insured investment?

A. A savings account in a national commercial bank
B. A certificate of deposit in excess of $100,000
C. A life insurance policy
D. Commercial bank assets

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