Alpha Company Purchases a Call Option to Hedge an Investment

question 4

Multiple Choice

Alpha Company purchases a call option to hedge an investment of 20,000 shares of Beta Company stock. The option agreement provides that if the prices of a share of Beta Company stock is greater than $30 on October 25, Alpha receives the difference (multiplied by 20,000 shares) . Alternatively, if the price of the stock is less than $30, the option is worthless and will be allowed to expire. Which of the following statements regarding this call option is correct?

• A) The call option effectively hedges the investment in the shares of Beta stock.
• B) The call option is an option to sell Beta Company stock at a fixed price.
• C) The call option represents a speculative option rather than a hedge.
• D) Alpha could have purchased a put option or a call option to effectively hedge the investment in the shares of Beta stock.

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Definitions:

Indefinitely

For an unspecified or unlimited duration of time.

Acoustically

Pertaining to sound, the science of sound, or the properties of sound transmission.

Recognize Stimulus

The process by which an organism identifies and responds to sensory information that signifies important or relevant events.

Visuospatial Sketchpad

A component of working memory that allows for the manipulation and storage of visual and spatial information.