week_7_cengage_homework.docx
Week 7 Cengage Homework
1. Deeble Construction Co.'s stock is trading at $30 a share. Call options on the company's stock are also available, some with a strike price of $25 and some with a strike price of $35. Both options expire in three months. Which of the following best describes the value of these options?
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a. The options with the $25 strike price have an exercise value greater than $5.
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b. The options with the $35 strike price have an exercise value greater than $0.
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c. The options with the $25 strike price will sell for less than the options with the $35 strike price.
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d. If Deeble's stock price rose by $5, the exercise value of the options with the $25 strike price would also increase by $5.
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e. The options with the $25 strike price will sell for $5.
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2. Suppose you believe that Delva Corporation's stock price is going to decline from its current level of $82.50 sometime during the next 5 months. For $510.25 you could buy a 5-month put option giving you the right to sell 100 shares at a price of $85 per share. If you bought this option for $510.25 and Delva's stock price actually dropped to $60, what would your pre-tax net profit be?
3. Problem 8-2
Options
The exercise price on one of Flanagan Company's options is $15, its exercise value is $23, and its time value is $4. What are the option's market value and the price of the stock?
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Market value
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$
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Price of the stock
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$
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4. Which of the following statements is CORRECT?
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a. An option holder is not entitled to receive dividends unless he or she exercises their option before the stock goes ex dividend.
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b. Put options give investors the right to buy a stock at a certain strike price before a specified date.
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c. LEAPS are very short-term options that were created relatively recently and now trade in the market.
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d. Call options give investors the right to sell a stock at a certain strike price before a specified date.
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e. Options typically sell for less than their exercise value.
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5. Which of the following statements is CORRECT?
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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.
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b. Issuing options provides companies with a low cost method of raising capital.
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c. 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.
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d. 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.
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e. The potential loss on an option decreases as the option sells at higher and higher prices because the profit margin gets bigger.
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6. Problem 8-1
Options
A call option on the stock of Bedrock Boulders has a market price of $6. The stock sells for $30 a share, and the option has an exercise price of $25 a share.What is the exercise value of the call option?
$
What is the option's time value?
$
7. Call options on XYZ Corporation's common stock trade in the market. Which of the following statements is most correct, holding other things constant?
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a. Assuming the same strike price, an XYZ call option that expires in one month will sell at a higher price than one that expires in three months.
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b. The price of these call options is likely to rise if XYZ's stock price rises.
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c. If XYZ pays a dividend, then its option holders will not receive a cash payment, but the strike price of the option will be reduced by the amount of the dividend.
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d. The higher the strike price on XYZ's options, the higher the option's price will be.
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e. If XYZ's stock price stabilizes (becomes less volatile), then the price of its options will increase.
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8. The current price of a stock is $50, the annual risk-free rate is 6%, and a 1-year call option with a strike price of $55 sells for $7.20. What is the value of a put option, assuming the same strike price and expiration date as for the call option?
9. An option that gives the holder the right to sell a stock at a specified price at some future time is
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c. an out-of-the-money option.
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