GARP 2019 question (doubt)

[nc27]

Hi @David Harper CFA FRM , I hope you are well,

Last year a question of the GARP exam stated (apparently) the following,

If you think stock value will double what strategy is best?
-Protective Put
-Covered Call
-Bull spread of call options
-Bear spread of put options

Some people asserted that the bull spread was the best option, others went for the protective put ? What do you think about it ?
Thank you!

 

[David Harper CFA FRM]

Hi @nc27 I don't like it, I hope that's not the actual wording. We can immediately eliminate covered call (income strategy) and the bearish bet (bear spread). It appears to me that the question is looking for protective put because that is the only strategy that has an uncapped profit/payoff. The problem with this is that it ignores funding: the protective put requires buying the stock, whereas you can setup an awkward (bizarre?) bull spread with a large difference in strike prices (i.e., the payoff is capped at K2 - K1) which probably ends up being a deeply in-the-money long call barely funded by a deeply out-of-the money short call; i.e., this bull spread is mostly in the money calls. Maybe you could cap out the bull spread at 2x, then maybe you have better ROI but I can't say without numbers. My point is that you just have to at least wonder, i think, if you can get better ROI from a bizarre bull spread. I hope the question didn't just ask for "best," that would be a lame question and might explain the differing opinions. What's best in an option trade where you have a super, 2x bullish view? Okay there's no mention of risk (the protective put has more downside) but my problem with "best" is that you can lever up a spread trade. If I had more respect for the questions, I would test it by trying to find a call option bull spread that caps at 2x with a better ROI, I'm not sure it's possible but I can't intuitively rule it. My hunch is that question obviously wants the protective put, but of the folks saying bull spread are thinking deeper based on a different interpretation of "best." I hope the question isn't written that way ....

 

[nc27]

Thank you David! Yes this one seemed very awkward, I hope I will not encounter something like that on exam day!

 

[Nicole Seaman]

Thank you David! Yes this one seemed very awkward, I hope I will not encounter something like that on exam day!

HEllo @nc27

Was this a question in the 2019 GARP practice exam? If so, can you please let me know the question number so I can copy/paste the full question and answer in your post. This is helpful to other members if they use the search function to find answers regarding the same question. Thank you

 

[nc27]

Hi @Nicole Seaman ,

This is not a question from a GARP practice exam. Apparently, it was asked on the May 2019 official exam (!) . As the question generates a lot of diverging opinons, I wanted to obtain a clarification.

 

[Nicole Seaman]

Hi @Nicole Seaman ,

This is not a question from a GARP practice exam. Apparently, it was asked on the May 2019 official exam (!) . As the question generates a lot of diverging opinons, I wanted to obtain a clarification.

View attachment 2920

Hello @nc27
Thank you for letting us know that this came from the actual exam. We just like to make sure that any GARP practice questions are tagged for easy searching, so I just wanted to confirm.