Chat with AIExam 10: Fixed Rate Derivatives
Compare and contrast forwards and futures.
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Answered by Examlex AI CopilotForwards and futures are both types of financial contracts that allow parties to buy or sell an asset at a specified price on a future date. However, there are some key differences between the two.
Forwards are private agreements between two parties to buy or sell an asset at a specified price on a future date. They are customizable and can be tailored to the specific needs of the parties involved. Forwards are traded over-the-counter (OTC), meaning they are not traded on an exchange and are not standardized.
Futures, on the other hand, are standardized contracts that are traded on an exchange. They specify the quantity and quality of the underlying asset, as well as the delivery date and location. Futures contracts are more liquid and easily tradable compared to forwards.
Another difference is the way they are settled. Forwards are settled at the end of the contract, meaning the buyer and seller exchange the asset and the payment on the specified future date. Futures, on the other hand, are often settled on a daily basis through a process called marking to market, where gains and losses are settled daily.
In terms of counterparty risk, forwards carry a higher risk because they are private agreements and there is a risk that one party may default on the contract. Futures, being traded on an exchange, have lower counterparty risk as the exchange acts as the intermediary and guarantees the performance of the contract.
Overall, while both forwards and futures serve the same purpose of allowing parties to hedge against price fluctuations, they differ in terms of customization, liquidity, settlement, and counterparty risk.
In a forward rate agreement, the settlement amount is determined by the difference between the benchmark rate and the guaranteed rate.
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VerifiedTrue
Swaps are always exchange- traded.
(47) VerifiedFalse
Which of the following is NOT one of the effects of derivatives?
(32) The prices of A and (B +C) must be the same, otherwise arbitrage will occur.
(30) The cash- and- carry arbitrage becomes a risk arbitrage in the case of share futures because, unlike interest flows, dividend payments cannot be predicted exactly.
(35) The SPI contract on the SFE has face value equal to ($25 × S&P/ASX 200 Index).
(39) A position consisting of futures contracts settling on different dates is known as:
(33) If a university student buys gold six months forward at US$386.25 per ounce and the current spot rate is US$375, then the implied six- month market interest rate is 3%.
(35) The basic equation for swaps is: pay fixed/receive floating swap = Bond - Bill.
(43) If A is the position in the derivative, B is the position in the underlying security, and C is a fixed- interest loan, a short synthetic position in the underlying security is represented as:
(43) The theoretical forward price plus the cost of carrying the commodity to settlement date equals the spot price of the commodity.
(47) Suppose a bank can borrow five- year fixed- rate funds at 9% p.a. and floating rate at BBR (bank bill rate). Assume a company must pay 11% fixed and (BBR + 2%) for floating. Then there is no scope for a profitable swap because the bank is better off in both markets going it alone.
(44) The bank bill contract traded at the SFE has a face value of $1,000,000 and settlement occurs in every month except January.
(32) If the price value of a basis point (PVBP) is 24.13 and the market yield increases by 35 basis points then the gain is $845.
(34) An investor with a fixed- rate investment who fears that interest rates might rise can use:
(28) Futures have the attraction that their credit exposure is carried by the clearing house, not by the holder.
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