P1.T3.212. Option trading strategies (II. Combinations)

Discussion in 'Today's Daily Questions' started by Suzanne Evans, Aug 20, 2012.

  1. Suzanne Evans

    Suzanne Evans Administrator

    Questions:

    212.1. Today, when the price of a stock is $50.00, the price of a one-year at-the-money (ATM; strike = $50.00) European call option on the stock is $5.00. The risk-free rate is 4.0% with continuous compounding. Today, Thomas the trader enters a LONG STRADDLE trade with one-year at-the-money (AMT) options. Under what scenario will Thomas' long straddle trade be profitable (i.e., profit greater than zero), without regard to the time value of money?

    a. In one year, stock price is above $53.33
    b. In one year, stock price is below $46.67
    c. In one year, stock price is above $55.00 or below $45.00
    d. In one year, stock price is above $58.04 or below $41.96

    212.2. Which is a DIFFERENCE between a long straddle (aka, straddle purchase) and a long strangle (aka, bottom vertical combination)?

    a. Only the straddle is long volatility
    b. While the downside of the straddle is capped at the initial cost (two option premiums), the downside of the strangle is uncapped
    c. To make a profit (break-even), the stock price must move further in a strangle, than it must move in a straddle
    d. The strangle is more expensive (higher up-front cost)

    212.3. Each of the following is true about option combination strategies EXCEPT for which is false?

    a. A straddle write (aka, top straddle) is exposed to unlimited losses
    b. A strip is more expensive to enter than a strap, using at-the-money (ATM) options
    c. A strip is long volatility like a straddle, but incurs greater initial cost to express a bearish view
    d. A strap is long volatility like a straddle, but incurs greater initial cost to express a bullish view

    Answers:
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