- A trader sells short 50 shares of FGH Inc. at $80 per share. The price of FGH then drops to $65 per share, at which point the trader closes the position. What is the trader's profit, ignoring commissions?
Answer: $750
The trader sold short at $80 and bought to cover at $65, making a profit of $15 per share ($80 - $65). With 50 shares, the total profit is $15 per share x 50 shares = $750.
- An investor purchases 100 shares of STU stock at $25 per share, paying a total commission of $10. To break even on the investment, the investor must sell the shares for a price of...
Answer: $25.10 per share.
The investor's total cost basis is the purchase price plus commissions: (100 shares * $25) + $10 = $2,510. To break even, the proceeds from the sale must equal this total cost. The sale price per share would need to be $2,510 / 100 shares = $25.10 (ignoring commissions on the sale).
- A customer's account activity shows the purchase of 500 shares of a publicly traded company. This customer has established a...
Answer: long position and is bullish.
Purchasing shares creates an ownership or 'long' position. Investors establish long positions because they believe the security's price will increase, which is a bullish outlook.
- An investor is long 200 shares of PQR stock, purchased at $70 per share. If the company announces unexpectedly poor earnings and the stock price drops to $55, the investor has...
Answer: an unrealized loss of $3,000.
The value of the position has decreased by ($70 - $55) = $15 per share. For 200 shares, this is a loss of $3,000. Because the investor has not sold the shares, the loss is 'unrealized.' It only becomes a 'realized' loss when the position is closed by selling the shares.
- A client tells their registered representative they want to 'short the market' because they anticipate a significant correction. Which of the following transactions is a direct way to establish a short position on the broad market?
Answer: Selling short shares of an S&P 500 index ETF.
To 'short the market' directly involves selling borrowed securities tied to the market's performance. Selling short shares of an ETF that tracks a broad market index like the S&P 500 is the most direct execution of this strategy. Buying a leveraged ETF or call options are bullish strategies, while selling an inverse ETF would actually be a bearish position but not a direct short position.
- A customer who initiates a short sale of a stock has a...
Answer: bearish outlook and unlimited potential loss.
A short seller sells borrowed shares, hoping the price will fall so they can buy them back at a lower price. This is a bearish strategy. Because the price of the stock can rise indefinitely, the potential loss on a short position is unlimited. The maximum profit is limited to the proceeds of the short sale if the stock price goes to zero.
- An investor is short 100 shares of MNO Corp. When MNO declares and pays a cash dividend, the short seller is obligated to...
Answer: pay the amount of the dividend to the firm from which the shares were borrowed.
When an investor sells short, they borrow shares from a lender. The lender is entitled to any dividends paid on the stock. Therefore, the short seller must pay the dividend amount to the lender to make them whole.
- An investor who is 'bearish' on the housing market would most likely avoid...
Answer: buying shares of a REIT.
A bearish investor expects prices to fall. They would want to avoid taking positions that profit from price increases. Buying shares of a Real Estate Investment Trust (REIT) is a long, bullish position on the real estate sector. The other options are all bearish strategies that would be consistent with the investor's outlook.
- A company is expected to announce a major product recall tomorrow morning. An investor who wants to profit from the anticipated negative impact on the company's stock price should...
Answer: place an order to sell the stock short.
The expected product recall is negative news that is likely to cause the stock price to drop. This is a bearish scenario. To profit from a drop in price, an investor would sell the stock short. The other options are all bullish strategies.
- A registered representative describes a client as being 'bullish' on a particular stock. This means the client expects the stock's price to...
Answer: rise.
The term 'bullish' describes an optimistic outlook, where an investor anticipates an increase in the price of a security or the market as a whole. A 'bearish' investor expects prices to fall.
- An investor holds a short position in ABC Corp. common stock. This investor will realize a profit if the market price of ABC stock...
Answer: decreases below the original sale price.
A short seller initiates a position by selling borrowed shares at a certain price. They realize a profit by buying the shares back ('covering the short') at a lower price. Therefore, a decrease in the stock's market price below the initial sale price will result in a profit for the short seller.
- An investor buys 100 shares of CDE Corp. at $45 per share and sells them six months later at $52 per share, ignoring commissions. The investor's realized gain is...
Answer: $700
The investor's profit per share is the selling price minus the purchase price ($52 - $45 = $7). The total realized gain is the profit per share multiplied by the number of shares ($7 x 100 shares = $700).
- The term 'covering a position' is most commonly associated with...
Answer: purchasing a security to close out a short position.
'Covering' or 'buying to cover' specifically refers to the act of purchasing securities to close an existing short position. It is the offsetting transaction to an initial short sale.
- An investor sells short 200 shares of XYZ stock at $50 per share. What is the maximum potential gain on this position?
Answer: $10,000
A short seller profits when the stock price declines. The maximum gain occurs if the stock price drops to $0. In this scenario, the investor sold shares for a total of 200 * $50 = $10,000. If they can buy them back for $0, their profit would be the full $10,000.
- To close out a short stock position, an investor must place an order to...
Answer: buy the stock in the open market.
A short position is initiated by selling borrowed shares. To close, or cover, the position, the investor must purchase the same number of shares in the open market to return them to the lender. This transaction is referred to as 'buying to cover'.
- A key difference between being long a stock versus being short a stock is the...
Answer: potential for unlimited loss.
A long stock position has a limited potential loss (the amount invested). A short stock position has unlimited potential loss because the stock's price can rise indefinitely, and the investor would have to buy it back at that higher price to cover the position. The other factors are generally the same for both types of positions.
- A market analyst predicts a prolonged economic downturn that will negatively impact corporate earnings across most sectors. Based on this bearish outlook, a suitable strategy for an investor would be to...
Answer: sell short an S&P 500 index ETF.
A bearish outlook on the entire market suggests that a broad market index, like the S&P 500, will decline. Selling short an ETF that tracks this index is a direct way to profit from that expected decline. The other choices are either bullish (A, C) or strategies not primarily designed to profit from a major market downturn.
- An investor believes that a specific pharmaceutical company's stock is significantly overvalued and will decline sharply following an upcoming FDA announcement. To profit from this belief, the investor would most likely...
Answer: establish a short position in the stock.
An investor who expects a stock's price to decline is bearish. The most direct way to profit from a price decline is to establish a short position by selling the stock short. The other choices are all bullish strategies.
- An investor sells short 100 shares of JKL stock at $30. The stock then rallies to $38, and the investor decides to close the position. What is the amount of the investor's loss?
Answer: $800
The investor sold short at $30 and had to buy back the shares at $38, resulting in a loss of $8 per share ($38 - $30). For 100 shares, the total loss is $8 per share x 100 shares = $800.
- What are the maximum potential gain and maximum potential loss for an investor who is long 100 shares of ABC common stock?
Answer: Unlimited gain, limited loss
For a long stock position, the potential gain is unlimited because the stock's price can theoretically increase without limit. The maximum potential loss is limited to the investor's total investment, which would occur if the stock's price fell to $0.
