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Quiz 5 - Key

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Phương Phạm Minh
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20 views3 pages

Quiz 5 - Key

Uploaded by

Phương Phạm Minh
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© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Financial Risk Management

Quiz #5

1. Which of the following statements regarding futures contracts is most likely correct? A business with a long
exposure to an asset would hedge this exposure by either entering into a
A. long futures contract or by buying a call option.
B. long futures contract or by buying a put option.
C. short futures contract or by buying a call option.
D. short futures contract or by buying a put option.

2. Which of the following statements is an advantage that is specific only to exchange trading compared to over-the-
counter (OTC) trading? On an exchange system
A. terms are not specified.
B. trades are made in such a way as to reduce credit risk.
C. participants have flexibility to negotiate.
D. there is greater anonymity.

3. An individual that maintains bid and offer prices in a given security and stands ready to buy or sell lots of said
security is
A. a hedger.
B. an arbitrageur.
C. a speculator.
D. a dealer.

4. Which of the following statements regarding the margining process on an exchange is correct?
A. The initial margin is calculated as a function of the futures price.
B. CCPs pay interest on both the initial margin and the variation margin.
C. The initial margin or a futures contract is negotiated between the two parties directly.
D. When providing noncash margin, the haircut is positively correlated with the price volatility of the underlying
asset.

Haircuts increase and decrease accordingly with the price volatility of


the underlying asset.
The initial margin is calculated as a function of futures price volatility
and is determined by the exchange (not by the two parties). CCPs pay
interest on initial margin only. (LO 29.d)

5. A trader sells short 1,000 shares of Stock A, which is currently trading at $40 per share. A margin requirement of
140% applies as well as a maintenance margin of 125%. If the share price rises to $55, the amount of the margin call
is closest to
A. $0.
B. $1,000.
C. $13,000.
D. $14,000.

The short sale of 1,000 shares of Stock A trading at $40 generates


$40,000. Based on a 140% margin requirement, the additional margin
to be posted is $16,000 (= 40% × $40,000) for a total of $56,000. If
the stock price rises to $55, then the shorted shares are worth $55,000
and the maintenance margin becomes $68,750 (= 1.25 × $55,000). The
initial margin of $56,000 is insufficient to cover the maintenance margin,
which means there is a $12,750 margin call (= $68,750 – $56,000).
(LO 29.g)
6. An investor enters into a short position in a gold futures contract with the following characteristics:
 The initial margin is $3,000.
 The maintenance margin is $2,250.
 The contract price is $1,300.
 Each contract controls 100 troy ounces.
If the price drops to $1,295 at the end of the first day and $1,290 at the end of the second day, which of the
following is closest to the variation margin required at the end of the second day?
A. $0
B. $250
C. $500
D. $1,000

7. An equity portfolio is worth $100 million with the benchmark of the Dow Jones Industrial Average (Dow). The
Dow is currently at 10,000, and the corresponding portfolio beta is 1.2. The futures multiplier for the Dow is 10.
Which of the following is the closest to the number of contracts needed to double the portfolio beta?
A. 1,100
B. 1,168
C. 1,188
D. 1,200

(2.4 − 1.2)*[100,000,000/(10,000 × 10)]


= 1.2 × 1,000 = 1,200
where beta = 1.2, target beta = 2.4, A = 10 × 10,000, P = $100 million
(LO 32.f)

8. An investor has an asset that is currently worth $500, and the annually compounded risk-free rate at all maturities
is 3%.
Which of the following amounts is the closest to the no-arbitrage price of a three-month forward contract?
A. $496
B. $500
C. $502
D. $504

Using Equation 1:
$500 × 1.030.25 = $503.71
where S = 500, T = 0.25, r = 0.03
(LO 34.f)

9. A bond pays a semiannual coupon of $40 and has a current value of $1,109. The next payment on the bond is in
four months, and the annual interest rate is 6.50%. Using an annual compounding assumption, the price of a six-
month forward contract on this bond is closest to
A. $1,103.
B. $1,104.
C. $1,145.
D. $1,185.

Use the formula F = (S − I) × (1 + r)T, where I is the present value of


$40 to be received in 4 months, or 0.333 years. At a discount rate of
6.50%:
I = $40 / 1.0650.333 = $39.17
F = ($1,109 − 39.17) × 1.0650.5 = $1,104.05
(LO 34.f)
10. A company has a $20 million portfolio with a beta of 1.2. It would like to use futures contracts on the S&P 500
to hedge its risk. The index futures price is currently standing at 1080, and each contract is for delivery of $250
times the index. What is the hedge that minimizes risk? What should the company do if it wants to reduce the beta of
the portfolio to 0.6?

11. Explain what is meant by a perfect hedge. Does a perfect hedge always lead to a better outcome than an
imperfect hedge? Explain your answer.

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