Essentials of Investments, 11e (Bodie)
Chapter 16 Option Valuation
1) If the Black-Scholes formula is solved to find the standard deviation consistent with the
current market call premium, that standard deviation would be called the ________.
A) variability
B) volatility
C) implied volatility
D) deviance
2) The ________ is the stock price minus exercise price, or the profit that could be attained by
immediate exercise of an in-the-money call option.
A) intrinsic value
B) time value
C) stated value
D) discounted value
3) The ________ is the difference between the actual call price and the intrinsic value.
A) stated value
B) strike value
C) time value
D) binomial value
4) A call option with several months until expiration has a strike price of $55 when the stock
price is $50. The option has ________ intrinsic value and ________ time value.
A) negative; positive
B) positive; negative
C) zero; zero
D) zero; positive
5) All else equal, call option values are ________ if the ________ is lower.
A) higher; stock price
B) higher; exercise price
C) lower; dividend payout
D) higher; lower volatility
6) A ________ is an option valuation model based on the assumption that stock prices can move
to only two values over any short time period.
A) nominal model
B) binomial model
C) time model
D) Black-Scholes model
7) The Black-Scholes option-pricing formula was developed for ________.
A) American options
B) European options
C) Tokyo options
D) out-of-the-money options
8) A put option with several months until expiration has a strike price of $55 when the stock
price is $50. The option has ________ intrinsic value and ________ time value.
A) negative; positive
B) positive; positive
C) zero; zero
D) zero; positive
9) The hedge ratio is often called the option’s ________.
A) delta
B) gamma
C) theta
D) beta
10) A stock with a current market price of $50 and a strike price of $45 has an associated call
option priced at $6.50. This call has an intrinsic value of ________ and a time value of
________.
A) $5; $1.50
B) $1.50; $5
C) $0; $6.50
D) $6.50; $0
11) A stock with a current market price of $50 and a strike price of $45 has an associated put
option priced at $3.50. This put has an intrinsic value of ________ and a time value of
________.
A) $3.50; $0
B) $5; $3.50
C) $3.50; $5
D) $0; $3.50
12) Investor A bought a call option that expires in 6 months. Investor B wrote a put option with a
9-month maturity. All else equal, as the time to expiration approaches, the value of investor A’s
position will ________ and the value of investor B’s position will ________.
A) increase; increase
B) increase; decrease
C) decrease; increase
D) decrease; decrease
13) Investor A bought a call option, and investor B bought a put option. All else equal, if the
interest rate increases, the value of investor A’s position will ________ and the value of investor
B’s position will ________.
A) increase; increase
B) increase; decrease
C) decrease; increase
D) decrease; decrease
14) Investor A bought a call option, and investor B bought a put option. All else equal, if the
underlying stock price volatility increases, the value of investor A’s position will ________ and
the value of investor B’s position will ________.
A) increase; increase
B) increase; decrease
C) decrease; increase
D) decrease; decrease
15) The percentage change in the call option price divided by the percentage change in the stock
price is the ________ of the option.
A) delta
B) elasticity
C) gamma
D) theta
16) Before expiration, the time value of an out-of-the-money stock option is ________.
A) equal to the stock price minus the exercise price
B) equal to zero
C) negative
D) positive
17) The intrinsic value of a call option is equal to ________.
A) the stock price minus the exercise price
B) the exercise price minus the stock price
C) the stock price minus the exercise price plus any expected dividends
D) the exercise price minus the stock price plus any expected dividends
18) The divergence between an option’s intrinsic value and its market value is usually greatest
when ________.
A) the option is deep in the money
B) the option is approximately at the money
C) the option is far out of the money
D) time to expiration is very low
19) The value of a call option increases with all of the following except ________.
A) stock price
B) time to maturity
C) volatility
D) dividend yield
20) The value of a put option increases with all of the following except ________.
A) stock price
B) time to maturity
C) volatility
D) dividend yield
21) Perfect dynamic hedging requires ________.
A) a smaller capital outlay than static hedging
B) less commission expense than static hedging
C) daily rebalancing
D) continuous rebalancing
22) The delta of an option is ________.
A) the change in the dollar value of an option for a dollar change in the price of the underlying
asset
B) the change in the dollar value of the underlying asset for a dollar change in the call price
C) the percentage change in the value of an option for a 1% change in the value of the underlying
asset
D) the percentage change in the value of the underlying asset for a 1% change in the value of the
call
23) If you know that a call option will be profitably exercised, then the Black-Scholes model
price will simplify to ________.
A) S0 − X
B) X − S0
C) S0 − PV(X)
D) PV(X) − S0
24) Hedge ratios for long calls are always ________.
A) between −1 and 0
B) between 0 and 1
C) 1
D) greater than 1
25) Which of the following is a true statement?
A) The actual value of a call option is greater than its intrinsic value prior to expiration.
B) The intrinsic value of a call option is always greater than its time value prior to expiration.
C) The intrinsic value of a call option is always positive prior to expiration.
D) The intrinsic value of a call option is greater than its actual value prior to expiration.
26) A longer time to maturity will unambiguously increase the value of a call option because:
I. The longer maturity time reduces the effect of a dividend on call price.
II. With a longer time to maturity the present value of the exercise price falls.
III. With a longer time to maturity the range of possible stock prices at expiration increases.
A) I only
B) I and II only
C) II and III only
D) I, II, and III
27) Strike prices of options are adjusted for ________ but not for ________.
A) dividends; stock splits
B) stock splits; cash dividends
C) exercise of warrants; stock splits
D) stock price movements; stock dividends
28) A high dividend payout will ________ the value of a call option and ________ the value of a
put option.
A) increase; decrease
B) increase; increase
C) decrease; increase
D) decrease; decrease
29) According to the Black-Scholes option-pricing model, two options on the same stock but
with different exercise prices should always have the same ________.
A) price
B) expected return
C) implied volatility
D) maximum loss
30) When the returns of an option and stock are perfectly correlated as in a two-state binomial
option model, the hedge ratio must be equal to the ratio of ________.
A) the range of the option outcomes to the range of the stock outcomes
B) the range of the stock outcomes to the range of the option outcomes
C) the standard deviation of the option returns to the standard deviation of the stock returns
D) the standard deviation of the stock returns to the standard deviation of the option returns
31) The Black-Scholes hedge ratio for a long call option is equal to ________.
A) N(d1)
B) N(d2)
C) N(d1) − 1
D) N(d2) − 1
32) The Black-Scholes hedge ratio for a long put option is equal to ________.
A) N(d1)
B) N(d2)
C) N(d1) − 1
D) N(d2) − 1
33) In a binomial option model with three subintervals, the probability that the stock price moves
up every possible time is ________.
A) 25%
B) 15.5%
C) 12.5%
D) 8%
34) In the Black-Scholes model, if an option is not likely to be exercised, both N(d1) and N(d2)
will be close to ________. If the option is definitely likely to be exercised, N(d1) and N(d2) will
be close to ________.
A) 1; 0
B) 0; 1
C) −1; 1
D) 1; −1
35) In the Black-Scholes model, as the stock’s price increases, the values of N(d1) and N(d2) will
________ for a call and ________ for a put option.
A) increase; decrease
B) increase; increase
C) decrease; increase
D) decrease; decrease
36) Research suggests that option-pricing models that allow for the possibility of ________
provide more accurate pricing than does the basic Black-Scholes option-pricing model.
I. early exercise
II. changing expected returns of the stock
III. time varying stock price volatility
A) II only
B) I and III only
C) II and III only
D) I, II, and III
37) Research suggests that the performance of the Black-Scholes option-pricing model has
________.
A) improved in recent years
B) remained about the same over time
C) been deficient for stocks with high dividend payouts
D) varied widely over the years since 1973
38) Research conducted by Rubinstein (1994) suggests that ________ command a
disproportionately high time value.
A) out-of-the-money call options
B) out-of-the-money put options
C) in-the-money call options
D) in-the-money put options
39) Of the variables in the Black-Scholes OPM, the ________ is not directly observable.
A) price of the underlying asset
B) risk-free rate of interest
C) time to expiration
D) variance of the underlying asset return
40) The practice of using options or dynamic hedging strategies to provide protection against
investment losses while maintaining upside potential is called ________.
A) trading on gamma
B) index optioning
C) portfolio insurance
D) index arbitrage
41) The delta of a put option on a stock is always ________.
A) between 0 and −1
B) between −1 and 1
C) positive but less than 1
D) greater than 1
42) The price of a stock put option is ________ correlated with the stock price and ________
correlated with the exercise price.
A) negatively; negatively
B) negatively; positively
C) positively; negatively
D) positively; positively
43) The delta of a call option on a stock is always ________.
A) negative and less than −1
B) between −1 and 1
C) positive
D) positive but less than 1
44) Hedge ratios for long call positions are ________, and hedge ratios for long put positions are
________.
A) negative; negative
B) negative; positive
C) positive; negative
D) positive; positive
45) A higher-dividend payout policy will have a ________ impact on the value of a put and a
________ impact on the value of a call.
A) negative; negative
B) negative; positive
C) positive; negative
D) positive; positive
46) A one-dollar increase in a stock’s price would result in ________ in the call option’s value of
________ than one dollar.
A) a decrease; less
B) a decrease; more
C) an increase; less
D) an increase; more
47) A hedge ratio of 0.70 implies that a hedged portfolio should consist of ________.
A) long 0.70 calls for each short stock
B) long 0.70 shares for each long call
C) long 0.70 shares for each short call
D) short 0.70 calls for each long stock
48) If a stock price increases, the price of a put option on the stock will ________ and the price
of a call option on the stock will ________.
A) decrease; decrease
B) decrease; increase
C) increase; decrease
D) increase; increase
49) The current stock price of Alcoco is $70, and the stock does not pay dividends. The
instantaneous risk-free rate of return is 6%. The instantaneous standard deviation of Alcoco’s
stock is 40%. You want to purchase a call option on this stock with an exercise price of $75 and
an expiration date 30 days from now. Based on the Black-Scholes OPM, the call option’s delta
will be ________.
A) 0.28
B) 0.31
C) 0.62
D) 0.70