Derivatives

Which of the following is most likely an exchange-traded derivative? A) Equity index futures contract. B) Bond option. C) Currency forward contract

A) Equity index futures contract.

Which of the following is the best interpretation of the no-arbitrage principle? A) There is no free money. B) There is no way you can nd an opportunity to make a profit. C) The information ow is quick in the financial market.

A) There is no free money.

A synthetic European call option includes a short position in: A) a risk-free bond. B) a European put option. C) the underlying asset.

A) a risk-free bond.

Over-the- counter derivatives: A) are customized contracts. B) are backed by the OTC Clearinghouse. C) have good liquidity in the over-the-counter (OTC) market.

A) are customized contracts.

Regarding buyers and sellers of put and call options, which of the following statements concerning the resulting option position is most accurate? The buyer of a: A) call option is taking a long position while the seller of a put is taking a short position. B) put option is taking a short position and the seller of a call option is taking a short position. C) call option is taking a long position and the buyer of a put option is taking a short position.

A) call option is taking a long position while the seller of a put is taking a short position.

A net benefit from holding the underlying asset of a forward contract will: A) decrease the no-arbitrage forward price at initiation. B) decrease the value of the forward contract at expiration. C) increase the value of the forward contract during its life.

A) decrease the no-arbitrage forward price at initiation.

A net benefit from holding the underlying asset of a forward contract will: A) decrease the no-arbitrage forward price at initiation. B) increase the value of the forward contract during its life. C) decrease the value of the forward contract at expiration

A) decrease the no-arbitrage forward price at initiation.

Which of the following statements regarding a forward commitment is NOT correct? A forward commitment: A) is not legally binding. B) is a contractual promise. C) can involve a stock index.

A) is not legally binding.

During its life the value of a long position in a forward or futures contract: A) is opposite to the value of the short position. B) can differ in size from the value of the short position. C) is equal to the value of the short position.

A) is opposite to the value of the short position.

In a plain vanilla interest rate swap: A) one party pays a floating rate and the other pays a fixed rate, both based on the notional amount. B) payments equal to the notional principal amount are exchanged at the initiation of the swap. C) each party pays a fixed rate of interest on a notional amount.

A) one party pays a floating rate and the other pays a fixed rate, both based on the notional amount.

Which of the following is least likely a characteristic of futures contracts? Futures contracts: A) require weekly settlement of gains and losses. B) are backed by the clearinghouse. C) are traded in an active secondary market

A) require weekly settlement of gains and losses.

The payoff of a call option on a stock at expiration is equal to: A) the maximum of zero and the stock price minus the exercise price. B) the maximum of zero and the exercise price minus the stock price. C) the minimum of zero and the stock price minus the exercise price.

A) the maximum of zero and the stock price minus the exercise price.

One reason that criticism has been leveled at derivatives and derivatives markets is that: A) they are complex instruments and sometimes hard to understand. B) derivatives have too much default risk. C) derivatives expire.

A) they are complex instruments and sometimes hard to understand.

The intrinsic value of an option is equal to: A) zero or the amount that it is in the money. B) the amount that it is in or out of the money. C) its speculative value.

A) zero or the amount that it is in the money.

Which of the following statements regarding futures and forward contracts is least accurate? A) Futures contracts are highly standardized. B) Both forward contracts and futures contracts trade on organized exchanges. C) Forwards require no cash transactions until the delivery date, while futures require a margin deposit when the position is opened.

B) Both forward contracts and futures contracts trade on organized exchanges.

James Anthony has a short position in a put option with a strike price of $94. If the stock price is below $94 at expiration, what will happen to Anthony's short position in the option? A) He will let the option expire. B) He will have the option exercised against him at $94 by the person who is long the put option. C) The person who is long the put option will not exercise the put option

B) He will have the option exercised against him at $94 by the person who is long the put option.

Which of the following statements regarding plain-vanilla interest rate swaps is least accurate? A) The settlement dates are when the interest payments are to be made. B) In a swap contract, the counterparties usually swap the notional principal. C) The time frame covered by the swap is called the tenor of the swap.

B) In a swap contract, the counterparties usually swap the notional principal.

Given the following data regarding Printer, Inc.'s call options, which of the following statements is least accurate? Stock Price Expiration Strike Option Prem. (Last) 50 June 45 6 50 June 50 2 50 June 55 0.50 A) The June $45.00 call is an in-the-money option. B) The June $55.00 call is an in-the-money option. C) The intrinsic value of the June $45.00 call is $5.00.

B) The June $55.00 call is an in-the-money option.

The settlement price for a futures contract is: A) the price of the asset in the future for all trades made in the same day. B) an average of the trade prices during the 'closing period'. C) the price of the last trade of a futures contract at the end of the trading day.

B) an average of the trade prices during the 'closing period'.

The calculation of derivatives values is based on an assumption that: A) arbitrage opportunities do not arise in real markets. B) arbitrage opportunities are exploited rapidly. C) investors are risk neutral.

B) arbitrage opportunities are exploited rapidly.

Which of the following statements regarding exchange-traded derivatives is NOT correct? Exchange-traded derivatives: A) often trade in a physical location. B) are illiquid. C) are standardized contracts

B) are illiquid.

A legally binding promise to buy 140 oz. of gold two months from now at a price agreed upon today is most likely a: A) hedge. B) forward commitment. C) futures contract.

B) forward commitment.

Bea Moran wants to establish a long derivatives position in a commodity she will need to acquire in six months. Moran observes that the six-month forward price is 45.20 and the six month futures price is 45.10. This difference most likely suggests that for this commodity: A) there is an arbitrage opportunity among forward, futures, and spot prices. B) futures prices are negatively correlated with interest rates. C) long investors should prefer futures contracts to forward contracts.

B) futures prices are negatively correlated with interest rates.

A negative net cost of carry will: A) have no effect on the no-arbitrage forward price. B) increase the no-arbitrage forward price. C) decrease the no-arbitrage forward price.

B) increase the no-arbitrage forward price.

The process of arbitrage does all of the following EXCEPT: A) promote pricing efficiency. B) insure that risk-adjusted expected returns are equal. C) produce riskless profits.

B) insure that risk-adjusted expected returns are equal.

In a credit default swap (CDS), the buyer of credit protection: A) exchanges the return on a bond for a fixed or floating rate return. B) makes a series of payments to a credit protection seller. C) issues a security that is paid using the cash flows from an underlying bond.

B) makes a series of payments to a credit protection seller.

Standardized futures contracts are an aid to increased market liquidity because: A) standardization results in less trading activity. B) uniformity of the contract terms broadens the market for the futures by appealing to a greater number of traders. C) standardization of the futures contract stabilizes the market price of the underlying commodity.

B) uniformity of the contract terms broadens the market for the futures by appealing to a greater number of traders.

Consider a call option with an exercise price of $32. If the stock price at expiration is $41, the value of the call option is: A) $0. B) $41. C) $9.

C) $9.

Which of the following statements regarding futures and forward contracts is least accurate? A) Forwards require no cash transactions until the delivery date, while futures require a margin deposit when the position is opened. B) Futures contracts are highly standardized. C) Both forward contracts and futures contracts trade on organized exchanges.

C) Both forward contracts and futures contracts trade on organized exchanges.

Which of the following is most accurate regarding derivatives? A) Derivatives have no default risk. B) Exchange-traded derivatives are created and traded by dealers in a market with no central location. C) Derivative values are based on the value of another security, index, or rate.

C) Derivative values are based on the value of another security, index, or rate.

Which of the following is a common criticism of derivatives? A) Derivatives are too illiquid. B) Fees for derivatives transactions are relatively high. C) Derivatives are likened to gambling.

C) Derivatives are likened to gambling.

Which of the following instruments is a component of the put-call-forward parity relationship? A) The future value of the forward price of the underlying asset. B) The spot price of the underlying asset. C) The present value of the forward price of the underlying asset.

C) The present value of the forward price of the underlying asset.

If the margin balance in a futures account with a long position goes below the maintenance margin amount: A) a margin deposit equal to the maintenance margin is required within two business days. B) a deposit is required which will bring the account to the maintenance margin level. C) a deposit is required to return the account margin to the initial margin level.

C) a deposit is required to return the account margin to the initial margin level.

Which of the following statements regarding call options is most accurate? The: A) breakeven point for the seller is the strike price minus the option premium. B) call holder will exercise (at expiration) whenever the strike price exceeds the stock price. C) breakeven point for the buyer is the strike price plus the option premium.

C) breakeven point for the buyer is the strike price plus the option premium.

A one-period binomial model is useful for valuing options because it: A) does not require an assumption about volatility. B) considers the additional risk inherent in options. C) can account for contingent payoffs of options.

C) can account for contingent payoffs of options.

A forward rate agreement (FRA): A) is risk-free when based on the Treasury bill rate. B) is settled by making a loan at the contract rate. C) can be used to hedge the interest rate exposure of a floating-rate loan.

C) can be used to hedge the interest rate exposure of a floating-rate loan.

When interest rates and futures prices for an asset are uncorrelated and forwards are less liquid than futures, it is most likely that the price of a forward contract is: A) less than the price of a futures contract. B) greater than the price of a futures contract. C) equal to the price of a futures contract.

C) equal to the price of a futures contract.

Typically, forward commitments are made with respect to all the following EXCEPT: A) equities. B) bonds. C) inflation.

C) inflation.

Using put-call parity, it can be shown that a synthetic European call can be created by a portfolio that is: A) long the stock, long the put, and long a pure discount bond that pays the exercise price at option expiration. B) long the stock, short the put, and short a pure discount bond that pays the exercise price at option expiration. C) long the stock, long the put, and short a pure discount bond that pays the exercise price at option expiration

C) long the stock, long the put, and short a pure discount bond that pays the exercise price at option expiration

Compared to an American call option on a stock that does not pay a dividend, an otherwise identical European call option will have: A) a higher value. B) a lower value. C) the same value.

C) the same value.