Question 1

The payoff on a catastrophe futures contract is adjusted for the actual loss ratio of the insurer.

Accepted Answer

A) True 
 B)False

Question 2

All bonds that are deliverable under a Treasury bond futures contract have a maturity of 20 years and an interest rate of 8 percent.

Accepted Answer

A) True 
 B)False

Question 3

An FI with a negative duration gap is exposed to interest rate declines and could hedge its interest rate risk by buying forward contracts.

Accepted Answer

A) True 
 B)False

Question 4

Which of the following indicates the need to place a hedge?

Accepted Answer

A) The price movement in the underlying cash asset cannot be forecasted perfectly. 
B) The prices of the assets or liabilities are imperfectly correlated over time with the prices on the futures. 
C) Basis risk prevents the minimum risk of the portfolio from reaching zero. 
D) Treasury has been issuing more shorter-dated bonds to finance U.S. budget deficits. 
E) Spot bonds and futures on bonds are traded in different markets. 
A) The price movement in the underlying cash asset cannot be forecasted perfectly. 
B) The prices of the assets or liabilities are imperfectly correlated over time with the prices on the futures. 
C) Basis risk prevents the minimum risk of the portfolio from reaching zero. 
D) Treasury has been issuing more shorter-dated bonds to finance U.S. budget deficits. 
E) Spot bonds and futures on bonds are traded in different markets.

Question 5

A U.S. bank issues a 1-year, $1 million U.S. CD at 5 percent annual interest to finance a C$1.274 million investment in 2-year fixed-rate Canadian bonds selling at par and paying 7 percent annually. The U.S. bank expects to liquidate its position in 1 year upon maturity of the CD. Spot exchange rates are US$0.78493 per Canadian dollar. What is the end-of-year profit or loss on the bank's cash position if in one year the exchange rate falls to US$0.765/C$1? Assume there is no change in interest rates. (Choose the closest answer)

Accepted Answer

A) Loss of US$75,000. 
B) Profit of C$274,000. 
C) Loss of US$7,000. 
D) Profit of C$9,000. 
E) Loss of US$5,000. 
A) Loss of US$75,000. 
B) Profit of C$274,000. 
C) Loss of US$7,000. 
D) Profit of C$9,000. 
E) Loss of US$5,000.

Question 6

An FI has a 1-year 8-percent US$160 million loan financed with a 1-year 7-percent UK£100 million CD. The current exchange rate is $1.60/£. If at the end of the year, the exchange rate is $1.65/£, what is the spread earned on the loan by the FI in dollars after adjusting fully for exchange rates?

Accepted Answer

A) -$3,750,000. 
B) -$1,250,000. 
C) +$1,250,000. 
D) +$3,750,000. 
E) +$5,000,000. 
A) -$3,750,000. 
B) -$1,250,000. 
C) +$1,250,000. 
D) +$3,750,000. 
E) +$5,000,000.

Question 7

A credit forward agreement specifies a credit spread on a benchmark U.S. Treasury bond.

Accepted Answer

A) True 
 B)False

Question 8

An adjustment for basis risk with a value of "br" less than one means that the percent change in the spot rates is greater than the change in rate in the deliverable bond in the futures market.

Accepted Answer

A) True 
 B)False

Question 9

An agreement between a buyer and a seller at time 0 to exchange a pre-specified asset for cash at a specified later date is the characteristic of a

Accepted Answer

A) spot contract. 
B) forward contract. 
C) futures contract. 
D) put options contract. 
E) call options contract. 
A) spot contract. 
B) forward contract. 
C) futures contract. 
D) put options contract. 
E) call options contract.

Question 10

A Canadian FI wishes to hedge a €10,000,000 loan using euro currency futures. Each euro futures contract is for 125,000 euros, and the hedge ratio is 1.40. The loan is payable in one year in euros. How many currency contracts are necessary to hedge this asset?

Accepted Answer

A) 112 contracts. 
B) 57 contracts. 
C) 80 contracts. 
D) 75 contracts. 
E) 42 contracts. 
A) 112 contracts. 
B) 57 contracts. 
C) 80 contracts. 
D) 75 contracts. 
E) 42 contracts.

Question 11

The notational value of the world-wide credit derivative securities markets stood at _________ trillion as of June 2012, which compares to _________ trillion as of July 2008.

Accepted Answer

A) $24.9; $54.6 
B) $13.2; $31.2 
C) $31.2; $16.8 
D) $7.8; $14.7 
E) $16.0; $27.4 
A) $24.9; $54.6 
B) $13.2; $31.2 
C) $31.2; $16.8 
D) $7.8; $14.7 
E) $16.0; $27.4

Question 12

The average duration of the loans is 10 years. The average duration of the deposits is 3 years.   What is the number of T-bond futures contracts necessary to hedge the balance sheet if the duration of the deliverable bonds is 9 years and the current price of the futures contract is $96 per $100 face value?

Accepted Answer

A) 1,630 contracts. 
B) 1,475 contracts. 
C) 1,900 contracts. 
D) 2,078 contracts. 
E) 3,225 contracts. 
A) 1,630 contracts. 
B) 1,475 contracts. 
C) 1,900 contracts. 
D) 2,078 contracts. 
E) 3,225 contracts.

Question 13

Conyers Bank holds Treasury bonds with a book value of $30 million. However, the Treasury bonds currently are worth $28,387,500. The portfolio manager for Conyers Bank wishes to sell the entire issue of Treasury bonds at a current price of 87-05/32nds. What will be the gain or loss on the cash position since the futures contract was placed? (That is, since the bonds were valued at $28,387,500.)

Accepted Answer

A) Loss of $3,834,375. 
B) Loss of $3,853,125. 
C) Gain of $2,240,625. 
D) Gain of $3,853,125. 
E) Loss of $2,240,625. 
A) Loss of $3,834,375. 
B) Loss of $3,853,125. 
C) Gain of $2,240,625. 
D) Gain of $3,853,125. 
E) Loss of $2,240,625.

Question 14

If a 12-year, 6.5 percent semi-annual $100,000 T-bond, currently yielding 4.10 percent, is used to deliver against a 6-year, 5 percent T-bond at 110-17/32, what is the conversion factor? What would the buyer have to pay the seller?

Accepted Answer

A) 1.1027; $110,531. 
B) 1.2257; $135,478. 
C) 1.8370; $253,830. 
D) 1.3622; $163,339. 
E) 1.7263; $141,788. 
A) 1.1027; $110,531. 
B) 1.2257; $135,478. 
C) 1.8370; $253,830. 
D) 1.3622; $163,339. 
E) 1.7263; $141,788.

Question 15

A U.S. bank issues a 1-year, $1 million U.S. CD at 5 percent annual interest to finance a C$1.274 million investment in 2-year fixed-rate Canadian bonds selling at par and paying 7 percent annually. The U.S. bank expects to liquidate its position in 1 year upon maturity of the CD. Spot exchange rates are US$0.78493 per Canadian dollar. The U.S. bank's position is exposed to:

Accepted Answer

A) interest rate risk only. 
B) credit risk only. 
C) exchange rate risk only. 
D) interest rate and exchange rate risk only. 
E) interest rate risk, exchange rate risk, and credit risk. 
A) interest rate risk only. 
B) credit risk only. 
C) exchange rate risk only. 
D) interest rate and exchange rate risk only. 
E) interest rate risk, exchange rate risk, and credit risk.

Question 16

When will the estimated hedge ratio be greater than one?

Accepted Answer

A) When spot rate changes are greater than futures rate changes. 
B) When spot rate changes are less sensitive than futures price changes over time. 
C) When spot rate changes are equally sensitive as futures price changes over time. 
D) When basis risk is absent. 
E) When the spot and future exchange rates are expected to move perfectly together. 
A) When spot rate changes are greater than futures rate changes. 
B) When spot rate changes are less sensitive than futures price changes over time. 
C) When spot rate changes are equally sensitive as futures price changes over time. 
D) When basis risk is absent. 
E) When the spot and future exchange rates are expected to move perfectly together.

Question 17

An FI has reduced its interest rate risk exposure to the lowest possible level by selling sufficient futures to offset the risk exposure of its whole balance sheet or cash positions in each asset and liability. The FI is involved in

Accepted Answer

A) microhedging. 
B) selective hedging. 
C) routine hedging. 
D) overhedging. 
E) speculation. 
A) microhedging. 
B) selective hedging. 
C) routine hedging. 
D) overhedging. 
E) speculation.

Question 18

Derivative contracts allow an FI to manage interest rate and foreign exchange risk.

Accepted Answer

A) True 
 B)False

Question 19

What does a low value of R2 indicate?

Accepted Answer

A) It means the degree of confidence increases in the use of futures contracts, with a given hedge ratio estimate, to hedge cash asset-risk position. 
B) It means that we have little confidence that the slope coefficient from the regression is actually the true hedge ratio. 
C) It indicates that there is no statistical association at all between spot rates and future prices. 
D) It indicates that the regression line does not fit the scatter of observations. 
E) It indicates a low value of hedging ineffectiveness. 
A) It means the degree of confidence increases in the use of futures contracts, with a given hedge ratio estimate, to hedge cash asset-risk position. 
B) It means that we have little confidence that the slope coefficient from the regression is actually the true hedge ratio. 
C) It indicates that there is no statistical association at all between spot rates and future prices. 
D) It indicates that the regression line does not fit the scatter of observations. 
E) It indicates a low value of hedging ineffectiveness.

Question 20

A Canadian FI wishes to hedge a €10,000,000 loan using euro currency futures. Each euro futures contract is for 125,000 euros, and the hedge ratio is 1.40. The loan is payable in one year in euros. How many currency contracts are necessary to hedge this asset?

Accepted Answer

A) 112 contracts. 
B) 57 contracts. 
C) 80 contracts. 
D) 75 contracts. 
E) 42 contracts. 
A) 112 contracts. 
B) 57 contracts. 
C) 80 contracts. 
D) 75 contracts. 
E) 42 contracts.

Exam 22: Futures and Forwards

The payoff on a catastrophe futures contract is adjusted for the actual loss ratio of the insurer.

All bonds that are deliverable under a Treasury bond futures contract have a maturity of 20 years and an interest rate of 8 percent.

An FI with a negative duration gap is exposed to interest rate declines and could hedge its interest rate risk by buying forward contracts.

Which of the following indicates the need to place a hedge?

An FI has a 1-year 8-percent US$160 million loan financed with a 1-year 7-percent UK£100 million CD. The current exchange rate is $1.60/£. If at the end of the year, the exchange rate is $1.65/£, what is the spread earned on the loan by the FI in dollars after adjusting fully for exchange rates?

A credit forward agreement specifies a credit spread on a benchmark U.S. Treasury bond.

An adjustment for basis risk with a value of "br" less than one means that the percent change in the spot rates is greater than the change in rate in the deliverable bond in the futures market.

An agreement between a buyer and a seller at time 0 to exchange a pre-specified asset for cash at a specified later date is the characteristic of a

A Canadian FI wishes to hedge a €10,000,000 loan using euro currency futures. Each euro futures contract is for 125,000 euros, and the hedge ratio is 1.40. The loan is payable in one year in euros. How many currency contracts are necessary to hedge this asset?

The notational value of the world-wide credit derivative securities markets stood at _________ trillion as of June 2012, which compares to _________ trillion as of July 2008.

If a 12-year, 6.5 percent semi-annual $100,000 T-bond, currently yielding 4.10 percent, is used to deliver against a 6-year, 5 percent T-bond at 110-17/32, what is the conversion factor? What would the buyer have to pay the seller?

When will the estimated hedge ratio be greater than one?

An FI has reduced its interest rate risk exposure to the lowest possible level by selling sufficient futures to offset the risk exposure of its whole balance sheet or cash positions in each asset and liability. The FI is involved in

Derivative contracts allow an FI to manage interest rate and foreign exchange risk.

What does a low value of R2 indicate?

A Canadian FI wishes to hedge a €10,000,000 loan using euro currency futures. Each euro futures contract is for 125,000 euros, and the hedge ratio is 1.40. The loan is payable in one year in euros. How many currency contracts are necessary to hedge this asset?

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The notational value of the world-wide credit derivative securities markets stood at _ trillion as of June 2012, which compares to _ trillion as of July 2008.

What does a low value of R² indicate?