# P1.T3.22.23. Option market basics

#### Nicole Seaman

##### Director of FRM Operations
Staff member
Subscriber
Learning objectives: Describe the various types and uses of options, define moneyness. Explain the payoff function and calculate the profit and loss from an options position. Explain the specification of exchange-traded stock option contracts, including that of nonstandard products.

Questions:

22.23.1. These two graphs (i. and ii. below) each plot an option as a function of the asset price on the option's expiration date.

What is true about these graphs?

a. These are payoff functions for (i) a long call and (ii) a long put
b. These are payoff functions for (i) a short call and (ii) a short put
c. These are profit functions for (i) a short put and (ii) a long call
d. These are profit functions for (i) a long put and (ii) a short call

22.23.2. Charles purchased a European option one month ago. Today the option's price is $1.92 while the underlying current stock price is$17.00. His colleague Leah, who is skilled with the Black-Scholes option-pricing model (BSM OPM), informs him that the option currently has an implied volatility of 38.0% and a time value of $0.42. What can Charles (and we!) infer as TRUE about his option? a. It must be a call option rather than a put b. The strike price is either$15.50 or $18.50 c. The option has a remaining maturity of two months d. Nothing because we are not given the option's maturity 22.23.3. BLXD is a special purpose acquisition corporation (SPAC) that trades today at a price of$11.16 after recently going public via a de-SPAC merger. The Chicago Board Options Exchange (CBOE) just introduced a new set of strike prices near today's stock price, We will assume the exchange employs the following guidelines for new options.
• Multiples of $2.50 when the current stock price is between USD 5.00 and USD 25.00 • Multiples of$5.00 when the current stock price is between USD 25.00 and USD 200.00
• Multiples of $10.00 when the current stock price is greater than USD 200.00 Among these newly introduced options, Ben today buys three call option contracts that are barely out-of-money (OTM). Specifically, among the options in the available chain, he buys call options with the lowest strike price conditional on them having no intrinsic value (as an aside, why might he prefer these to in-the-money call options?). His options are assigned to the March cycle. It happens to be the case that previously the company announced a 1-for-3 (a.k.a., 1:3) reverse stock split which is effective six days after Ben purchases his call option contracts. Six days later, if the pre-split stock price increases to$11.95, which of the following will be nearest to the new strike price on his options?

a. $4.17 b.$11.15
c. $37.50 d. Underwater options are canceled in a reverse split Answers here: #### siltu ##### New Member Learning objectives: Describe the various types and uses of options, define moneyness. Explain the payoff function and calculate the profit and loss from an options position. Explain the specification of exchange-traded stock option contracts, including that of nonstandard products. Questions: 22.23.1. These two graphs (i. and ii. below) each plot an option as a function of the asset price on the option's expiration date. What is true about these graphs? a. These are payoff functions for (i) a long call and (ii) a long put b. These are payoff functions for (i) a short call and (ii) a short put c. These are profit functions for (i) a short put and (ii) a long call d. These are profit functions for (i) a long put and (ii) a short call 22.23.2. Charles purchased a European option one month ago. Today the option's price is$1.92 while the underlying current stock price is $17.00. His colleague Leah, who is skilled with the Black-Scholes option-pricing model (BSM OPM), informs him that the option currently has an implied volatility of 38.0% and a time value of$0.42. What can Charles (and we!) infer as TRUE about his option?

a. It must be a call option rather than a put
b. The strike price is either $15.50 or$18.50
c. The option has a remaining maturity of two months
d. Nothing because we are not given the option's maturity

22.23.3. BLXD is a special purpose acquisition corporation (SPAC) that trades today at a price of $11.16 after recently going public via a de-SPAC merger. The Chicago Board Options Exchange (CBOE) just introduced a new set of strike prices near today's stock price, We will assume the exchange employs the following guidelines for new options. • Multiples of$2.50 when the current stock price is between USD 5.00 and USD 25.00
• Multiples of $5.00 when the current stock price is between USD 25.00 and USD 200.00 • Multiples of$10.00 when the current stock price is greater than USD 200.00
Among these newly introduced options, Ben today buys three call option contracts that are barely out-of-money (OTM). Specifically, among the options in the available chain, he buys call options with the lowest strike price conditional on them having no intrinsic value (as an aside, why might he prefer these to in-the-money call options?). His options are assigned to the March cycle. It happens to be the case that previously the company announced a 1-for-3 (a.k.a., 1:3) reverse stock split which is effective six days after Ben purchases his call option contracts. Six days later, if the pre-split stock price increases to $11.95, which of the following will be nearest to the new strike price on his options? a.$4.17
b. $11.15 c.$37.50
d. Underwater options are canceled in a reverse split

#### Nicole Seaman

##### Director of FRM Operations
Staff member
Subscriber
@siltu The answers and explanations to the practice questions are available to paid members who have purchased an Advanced or Professional study package. These practice questions are part of our paid materials. You can view all of our study packages here if you would like to purchase and gain access to the paid sections of the forum: https://www.bionicturtle.com/frm-part-1. If you have any other questions about our FRM program, please feel free to email us at [email protected]. Thank you.

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