A share of common stock is not a derivative, but an option to buy the stock is a derivative because the value of the option is derived from the value of the stock.

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The statement to evaluate is: 'A share of common stock is not a derivative, but an option to buy the stock is a derivative because the value of the option is derived from the value of the stock.'

First, consider the claim about common stock. A share of common stock itself represents ownership in a company and does not have a value that is derived from another asset; instead, its value is determined by the company's performance and market factors. Therefore, it is generally regarded as a basic financial instrument, not a derivative.

Next, the claim about an option to buy the stock being a derivative. An option is a contract whose value depends on the price of an underlying asset, in this case the stock. That dependency—where the price of the option derives from the stock’s price—fits the defining characteristic of a derivative. Options are standard examples of derivatives because their payoff and value are contingent on the performance of the underlying stock.

Now, since the statement asserts that a share of common stock is not a derivative and contrasts it with an option, this aligns with widely accepted definitions: common stock is not a derivative, while options are.

In terms of potential trickiness, one might wonder about other derivative-like products (e.g., warrants or convertible securities) that could blur lines. However, the core principle remains: plain ownership stock is not a derivative; an option, whose value is derived from the stock price, is a derivative.

If an option is being evaluated in a test, remember the key test: does the instrument’s value depend on another asset? If yes, it’s a derivative; if not, it is not. In this case, the reasoning supports the statement as true.

Business Finance Chapter 02 Quiz

A share of common stock is not a derivative, but an option to buy the stock is a derivative because the value of the option is derived from the value of the stock.

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Business Finance Chapter 02 Quiz

A share of common stock is not a derivative, but an option to buy the stock is a derivative because the value of the option is derived from the value of the stock.

View Explanation

Log in for full answers

Similar Questions

We are able to sell or go short futures and forwards, even when we don't own them, because they are derivatives. This means a contract is created each time a buyer and seller make a new transaction.

From a financial standpoint, futures are virtually identical to forwards

The main difference between forward and futures contracts is that:

Part 1Financial instruments with returns tied to previously issued securities are​ called:Part 2 A. financial derivatives B. reversible bonds C. hedge securities D. convertible bonds

Which market involves the trading of derivative securities?

Which of the following is a hedging instrument? _____

The spot market is where securities are sold for cash and delivered immediately, whereas forward markets (or derivative markets) the delivery date is different from the negotiation date.

More Practical Tools for Students Powered by AI Study Helper

Making Your Study Simpler

Part 1Financial instruments with returns tied to previously issued securities are called:Part 2 A. financial derivatives B. reversible bonds C. hedge securities D. convertible bonds