Question

1. Suppose an investor buys one share of stock and a put option on the stock. What will be the value of her investment on the final exercise date if the stock price is below the exercise price? (Ignore transaction costs.)

Options:

a)The exercise price. b)The value of one share of stock plus the exercise price.

c)The value of one share of stock minus the exercise price. d) The value of two shares of stock.

2) Which of the following statements regarding the Dow Jones Industrial Average (DJIA) is false?

-The DJIA consists of 30 blue chip stocks.

-The DJIA is not very representative of the market as a whole.

-The DJIA divisor needs to be adjusted for stock splits.

-The value of the DJIA is much higher than individual stock prices.

-The DJIA is affected equally by changes in low- and high-priced stocks.

Answer 1

ANSWER.

1.(a) The exercise price.

The put option gives the investor an option to sell the stock at the strike price or the exercise price before the expiration date if the stock price falls below it in order to hedge the loss arising due to the fall in the stock price.

2.(e) The DJIA is affected equally by changes in low- and high-priced stocks.

This statement is false as the Dow Jones consists of 30 stocks, and since the index is price-weighted, the higher-priced stocks have a greater impact of the DJIA value than the lower-priced stocks.