Question

You hold short positions of a stock and believe the price of the stock is going to decline within the next three months. However, you realize the stock price could increase and want to hedge that risk. Which one of the following option positions should you take to create the desired hedge? A) Buy a call B) Sell a call C) Buy a put D) Sell a put E) No option position will create the desired hedge

Answer 1

Answer: A) Buy a call

Step-by-step explanation:

A Call Option is a derivative instrument where a person buys the option to be able to buy an asset at a set price. The call option therefore makes a profit if the price of the asset increases past the set (exercise ) price as the holder of the call option will be able to buy the asset for lower than it's market value.

If you believe that the price is likely to increase then you should buy a call option so that if it does increase, you can make a profit from the call option that would offset your loss from the short positions.