Midterm Exam 2 B PDF

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Version B
Commodity Futures and Options Markets

ACE 428
Fall 2009
Midterm Exam 2
11/10/2009
200 pts possible
Instructions: Answer the true/false and multiple choice questions below on the bubble sheet
provided. Answer the short answer portion directly on your exam sheet in the space provided. If
you require additional space, there is paper at the front of the classroom. You have 90 minutes to
complete the exam.
True/False: Mark (a) for true, (b) for false on the bubble sheet. (40 pts)
1) A butterfly spread is a position that will profit when prices are highly volatile.
2) Selling an option is a strategy with limited gains and unlimited losses.
3) Like in futures markets, there are margin requirements for buyers and sellers of options.
4) An Asian option is more expensive than a corresponding American or European option.
5) For a given futures price increasing the strike price will increase the premium of a call option
and decrease the price of a put option.
6) If the price of the underlying futures contract increases, the premium of both a put and a call
for a give strike price, K, will increase.
7) You can create a synthetic short call option by selling a put and selling a futures contract.
8) A call option is in the money when the futures price is greater than the strike price.
9) Selling futures and buying a call is an appropriate strategy to hedge against price increases.
10) Put-call parity allows you to identify which contract is mispriced (if any) – a put with strike
K, a call with strike K, or the underlying futures.
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ACE 428
Fall 2009
Multiple Choice: Select only one answer. (30 pts)
11) To put on a bull spread you:

a. Buy a low strike call and buy a high strike put
b. Buy a low strike call and sell a high strike call
c. Sell a low strike call and buy a high strike call
d. Buy a low strike call and sell a high strike put
12) To put on a straddle you:

a. Buy a put and buy a call with the same strike
b. Buy a put and sell a call with the same strike
c. Sell a low strike put and sell a high strike call
d. Buy a low strike put and sell a high strike call
13) To hedge a price range, or place a fence hedge from the perspective of the naturally short
party (e.g., a soybean processor) you would:
a. Sell a low strike call and buy a high strike put
b. Sell a low strike call and sell a high strike put
c. Sell a low strike put and buy a high strike call
d. Sell a low strike put and sell a high strike call
14) Generally speaking, the last day to trade or exercise on an option contract:
a. is a few days before the last day to trade the underlying futures contract
b. Coincides with the beginning of the delivery window of the underlying futures
contract
c. Coincides with the last day to trade the underlying futures contract
d. is a few days before the beginning of the delivery window of the underlying
futures contract
15) Which statement is true:

a. Out-of-the-money call options have negative intrinsic value and out-of-the-money
put options have negative intrinsic value
b. Out-of-the-money call options have zero intrinsic value and out-of-the-money put
options have zero intrinsic value
c. Out-of-the-money put options have positive intrinsic value
d. Out-of-the-money call options have positive intrinsic value and in-the-money puts
have zero intrinsic value
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ACE 428
Fall 2009
Short answer questions
Use these option prices to answer the questions below.
Futures price
Option Strike Premium
F = $1000
Call $985 $21.00
Put $985 $6.20
Call $995 $12.50
Put $995 $5.00
Call $1005 $1.06
Put $1005 $6.00
16) Suppose you are bearish about this market. Describe a speculative option strategy (requiring
more than one option) that allows you to profit if your market expectations are correct, but
protects you from large downside risk in the event that you are incorrect. List each trade in
detail and provide profit diagrams of each option and the net position. (20 pts)
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ACE 428
Fall 2009
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ACE 428
Fall 2009
17) Suppose instead you do not know which direction prices will move, but you think the price is
highly volatile and you expect a big move one way or the other. Describe a speculative
option strategy that would allow you to profit from this. List each trade in detail, but for this
question you do not need to graph the payoff diagrams. (25pts)
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ACE 428
Fall 2009
18) Recall that the put-call parity formula for futures is P − C = ( K − F ) e − rt . Suppose that the
risk free rate is 6% annually, and suppose further that there are 6 months until the expiration
of these European options. Comment on the potential for arbitrage in the options listed.
(35pts)
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ACE 428
Fall 2009
nt
 r
19) Recall the Future Value formulas: = FV PV 1 +  and FV = PV ⋅ e rt . You go to the
 n 
bank and ask for a 30-year loan of $50,000 to buy a house. Your banker gives you two
financing choices. Both require no money down and a single payment made at the end of the
30 years.
Loan 1 Loan 2
Interest rate 6% 5.8%
Number of interest
12 or monthly Continuously compounded
compounds per year
Which loan terms should you choose? (Show all your calculations) (30 pts)

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Commodity Futures and Options Markets

2) Selling an option is a strategy with limited gains and unlimited losses.

4) An Asian option is more expensive than a corresponding American or European option.

Commodity Futures and Options Markets

Multiple Choice: Select only one answer. (30 pts)

11) To put on a bull spread you:

12) To put on a straddle you:

15) Which statement is true:

Commodity Futures and Options Markets

Use these option prices to answer the questions below.

Commodity Futures and Options Markets

Commodity Futures and Options Markets

Commodity Futures and Options Markets

Commodity Futures and Options Markets

Interest rate 6% 5.8%

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