F420 Chapter 22 Futures Market

Determine the futures price of a one-year contract on a broad market index. The spot index value is 1000, the risk-free rate is 4%, while the dividend yield on the index is 3%. A. 1010 B. 1000 C. 970 D. 1040

A. 1010 Reason: 1000 times (1 + 0.04 - 0.03).

Andrew Full is a high net worth investor who strongly believes the price of ethanol is going to fall sharply over the next three months. If Full uses a futures contract, he is most likely ______. A. speculating B. hedging

A. speculating Reason: Speculators use futures contracts to make a price movement bet without having any interest in buying or selling the underlying asset.

As the settlement date of a futures contract approaches, its open interest typically ______. A. rises B. remains the same C. falls

C. falls

Which statements describe being long futures contracts and which describe being long a call options contract?

One cannot simply walk away from the contract matches -----> Futures It confers the right, not the obligation, to purchase the asset -----> Option The contract is purchased -----> Option The price adjusts to make the present value of the position zero -----> Futures Its payoff can be negative -----> Futures Losses are limited to initial purchase price ------> Option

True or false: Because of convergence, the futures price at maturity equals the spot price so total futures profits may be expressed as PT - FO

True

True or false: In the strategy of a calendar spread, profits accrue if the differences in futures prices between the two contracts change in the hoped-for direction, if the future prices on the contract held long increases by more than the futures price on the contract held short.

True

The theory of ______ ______ suggests that the futures price will be bid down to a level below the expected spot price and will rise over the life of the contract until the maturity date, at which points FT = PT.

normal backwardation

There are 10 short positions open in a natural gas futures contract that matures in 7 weeks. Suppose one additional contract is created today between an energy supplier and a large natural gas explorer. The total open interest is now ______ contracts. A. 11 B. 10 C. 22

A. 11 Reason: Open interest is the number of short or long positions on any given contract.

Select all that apply Which statements are true of futures markets? A. Buyers and sellers trade in a centralized futures exchange. B. Futures contracts call for a daily settling up of any gains or losses. C. No money changes hands until the delivery date. D. Closing a position requires renegotiation. E. The contracts are standardized.

A. Buyers and sellers trade in a centralized futures exchange. B. Futures contracts call for a daily settling up of any gains or losses. E. The contracts are standardized.

Select all that apply Which aspects of futures contracts are standardized by the exchange? A. Delivery location B. Grade of the deliverable asset C. Contract Price D. Delivery date

A. Delivery location B. Grade of the deliverable asset D. Delivery date

Select all that apply Which statements are true of the spot-futures parity theorem? A. It predicts a futures price of S0(1 + rf - d). B. It predicts a futures price of S0(1 - rf + d). C. Violation of the parity relationship gives rise to arbitrage opportunities. D. It is also called the cost-of-carry relationship.

A. It predicts a futures price of S0(1 + rf - d). C. Violation of the parity relationship gives rise to arbitrage opportunities. D. It is also called the cost-of-carry relationship.

The current spot price of gold is $1,000 per troy ounce while the futures price for a two-month gold contract is priced at $1,080. Economists at a large financial institution expect the spot price of gold to be $1,070 in two months. This market is most likely in ______. A. contango B. normal backwardation

A. contango Reason: Contango is defined as a futures price that exceeds the expected future spot price.

According to the expectations hypothesis, the futures contract price is ______. A. equal to the expected value of the future spot price B. equal to the current spot price

A. equal to the expected value of the future spot price Reason: Market expectations suggests the price paid today for a futures contract must be equal to the expected spot price.

A jeweler who wishes to purchase gold in the futures market would take the ______ position. A. long B. short

A. long Reason: The long agrees to purchase the asset at some time in the future.

Select all that apply According to portfolio theory, the equilibrium futures price will be ______ than the currently expected time T spot price if the asset has a ______ beta. A. lower; positive B. lower; negative C. higher; positive D. higher; negative

A. lower; positive Reason: The hedge imposes an expected loss on the short position who is willing to accept that expected loss as a means to shed systematic risk. D. higher; negative Reason: The hedge provides an expected gain on the short position who requires it to accept systematic risk.

The term used in futures quotations for the representative trading price during the last few minutes of trading of the day is the ______ price. A. settlement B. ending C. discovery D. open

A. settlement

An oil producer who wishes to sell barrels of oil in three months would most likely take the _____ position in the futures market. A. short B. long

A. short

Select all that apply At the maturity of a futures contract, the profit to the ______ position is ______. A. short; original futures price − spot price at maturity B. long; spot price at maturity − original futures price C. short; spot price at maturity − original futures price D. long; original futures price − spot price at maturity

A. short; original futures price − spot price at maturity B. long; spot price at maturity − original futures price

Dana Mills has the long position in a sugar futures contract with a current futures price of $0.20 per pound. Suppose the futures price rises to $0.21 per pound during the trading day. Marking to market will require ______. A. the short position to transfer $0.01 per pound on the maturity date of the contract B. Mills to transfer $0.01 per pound to the clearing house today C. the short position to transfer $0.01 per pound to the futures clearinghouse today

A. the short position to transfer $0.01 per pound on the maturity date of the contract Reason: Daily settlement requires accounts to be marked daily, not at the end of the contract's life.

Since futures are a financial asset, the total net value of long and short positions equals ______. A. zero B. the sum of the margin posted for long and short positions C. the present value of the underlying assets in the contracts

A. zero

Consider a futures contract on corn in which the futures price is $2 per bushel and the spot price is $1.93 per bushel. The basis of the contract is ______. A. $2.00 B. $0.07 C. $1.93

B. $0.07 Reason: The basis is the difference between the spot price and the futures price.

James Webb takes the long position in a wheat futures contract when the spot price of wheat is $4.00 per bushel and the futures price of wheat is $4.10 per bushel. If the spot price at maturity date of the contract is $4.20, what is the profit to Webb's position? A. $0.30 per bushel B. $0.10 per bushel C. $0.20 per bushel

B. $0.10 per bushel Reason: Profit to the long position is the maturity spot price minus the original futures price ($4.20 - $4.10)

The profit for the owner of a long position who buys a contract and closes, or reverses, it at a later time is the change in the ______ over the period. A. intrinsic value B. futures price C. time value D. spot price

B. futures price

John's Soup Company (JSC) uses corn in many of its recipes and purchases corn regularly throughout the year. If JSC uses a futures contract to purchase corn, it is most likely ______. A. speculating B. hedging

B. hedging Reason: Hedgers enter futures contracts to remove price risk, which is the goal of JSC.

When hedgers are willing to take a loss on their short positions in the futures market, it is known as ______. A. contango B. normal backwardation

B. normal backwardation Reason: In a normally backward market, hedgers are willing to accept small losses in the sale of their underlying asset to remove price risk with the futures contract.

Select all that apply The role of the CFTC is to A. make futures trading recommendations B. oversees maintenance of daily trading records C. authorizes trading in new contracts D. set capital requirements for member firms of the futures exchanges

B. oversees maintenance of daily trading records C. authorizes trading in new contracts D. set capital requirements for member firms of the futures exchanges

The price of a financial futures contract will be less than the spot price if ______. A. the risk-free rate exceeds the dividend yield B. the dividend yield exceeds the risk--free rate

B. the dividend yield exceeds the risk--free rate Reason: The cost of carry relationship shows this explicitly.

The obligation, rather than the right, to buy or sell an underlying asset is specified by ______. A. neither forward nor futures contracts B. futures contracts but not forward contacts C. both forward and futures contracts D. forward contracts but not futures contracts

C. both forward and futures contracts

A clearinghouse serves as the third party to transactions for ______ contracts. A. neither forward nor futures contracts B. forward contracts but not futures contracts C. futures contracts but not forward contacts D. both forward and futures contracts

C. futures contracts but not forward contacts

Futures markets are regulated by the ______. A. CFPB B. SEC C. OCC D. CFTC

D. CFTC Reason: Commodities Futures Trading Commission

True or false: Trading of futures contracts is almost exclusively performed between floor traders in the trading pit on futures exchanges.

False Reason: Trading today is done electronically.

The risk attributable to uncertain movements in the spread between a futures price and a spot price is referred to as ______ ______.

basis risk

An investor takes a long position in a futures contract of one maturity and a short position in a contract on the same commodity but with a different maturity in a(n) ______ ______.

calendar spread

A futures contract that calls for "delivery" of a cash amount equal to the value that the index attains on the maturity date of the contract is an example of a ______ ______

cash settlement

The provision of some futures contracts that requires not delivery of the underlying assets but the dollar value of the asset is referred to as ______ ______.

cash settlement

Established by exchanges to facilitate transfer of securities resulting from trades, the middleman between two futures traders is the ______.

clearinghouse

Because long hedgers will agree to pay high furthers prices to shed risk, and speculators must be paid a premium to enter the short position, the ______ theory holds that Fo must exceed E(PT).

contango

That the futures price and the spot price at the maturity of a futures contract must be the same is referred to as the ______ property.

convergence

The ______-______-______ relationship is also called the ______ relationship because it asserts that the futures price is determined by the relative costs of buying a stock with deferred deliver in the futures market vs. buying in the spot market with immediate delivery and "carrying" it in inventory.

cost-of-carry; parity

The ______ ______ states that the futures price equals the expected value of the future spot price: Fo = E(PT).

expectations hypothesis

An agreement calling for future delivery of, and payment for, an asset at a previously agreed-upon price is a ______ contract.

forward

A ______ ______ is a deferred-deliver sale of some asset with the sales price agreed on now.

forward contract

______ ______ replace informal ______ ______ with highly standardized, exchange-traded securities.

future markets; forward contracts

The ______ ______ is not purchased; it is simply a contract.

futures contract

The futures contract calls for delivery of a commodity at a specified deliver or maturity date, for an agreed-upon ______ ______, to be paid at contract maturity.

futures price

The price at which a futures trader commits to make or take delivery of the underlying asset is the ______ ______

futures price

The established value below which a trader's margin cannot fall without triggering a margin call is ______ margin.

maintenance

If the value of an account falls below the maintenance margin, the trader receives a ______ ______, requiring that the ______ account be replenished or the position be reduced to a size commensurate with the remaining funds.

margin call; margin

Futures contracts are marked-to-______ on a daily basis at the new settlement price.

market

A futures investor can undo a position through a(n) ______ trade.

reversing

A representative trading price during the last few minutes of trading is known as the ______ price.

settlement

Futures contracts on the shares of one company rather than an index are _______-______ futures.

single-stock

In addition to indexes on broad stock indexes, the electronic OneChicago market lists ______-______ ______ on some actively traded individual stocks and narrowly based stock indexes.

single-stock futures

The theoretically correct relationship between spot and futures prices is given by the ______-______ _____ theorem.

spot-futures parity

The theoretically correct relationship between spot and futures prices is given by the ______-______ ______

spot-futures parity

Until about 20 years ago, most futures trades in the U.S. occurred among floor traders in the "______ ______" for each contract.

trading pit