Question 1

Which of the following is NOT true regarding hedge ratio?

Accepted Answer

A) When there is no basis risk hedge ratio is equal to one. 
B) When h = 1, both spot and futures are expected to change together by the same absolute amount. 
C) When h = 1, FX risk of the cash position should be hedged dollar for dollar by buying FX futures. 
D) When basis risk is present, the spot and future exchange rates are expected to move imperfectly together. 
E) The FI must sell a greater number of futures when there is basis risk than it has to when basis risk is absent. 
A) When there is no basis risk hedge ratio is equal to one. 
B) When h = 1, both spot and futures are expected to change together by the same absolute amount. 
C) When h = 1, FX risk of the cash position should be hedged dollar for dollar by buying FX futures. 
D) When basis risk is present, the spot and future exchange rates are expected to move imperfectly together. 
E) The FI must sell a greater number of futures when there is basis risk than it has to when basis risk is absent.

Question 2

Selective hedging that results in an over-hedged position may be regarded as speculative by regulators.

Accepted Answer

A) True 
 B)False

Question 3

Routine hedging will allow the FI to achieve greater return from the assets and liabilities on the balance sheet.

Accepted Answer

A) True 
 B)False

Question 4

Why does basis risk occur?

Accepted Answer

A) Changes in the spot asset's price are not perfectly correlated with changes in the price of the asset delivered under a forward or futures contract. 
B) The daily marking-to-market process enables an FI manager to close out a futures position by taking an exactly offsetting position. 
C) Spot and futures contracts are traded in different markets with different demand and supply functions. 
D) None of these. 
E) Changes in the spot asset's price are not perfectly correlated with changes in the price of the asset delivered under a forward or futures contract, and spot and futures contracts are traded in different markets with different demand and supply functions. 
A) Changes in the spot asset's price are not perfectly correlated with changes in the price of the asset delivered under a forward or futures contract. 
B) The daily marking-to-market process enables an FI manager to close out a futures position by taking an exactly offsetting position. 
C) Spot and futures contracts are traded in different markets with different demand and supply functions. 
D) None of these. 
E) Changes in the spot asset's price are not perfectly correlated with changes in the price of the asset delivered under a forward or futures contract, and spot and futures contracts are traded in different markets with different demand and supply functions.

Question 5

An FI issued $1 million of 1-year maturity floating rate commercial paper. The commercial paper is repriced every three months at the 91-day Treasury bill rate plus 2 percent. What is the FI's interest rate risk exposure and how can it use financial futures and options to hedge that risk exposure?

Accepted Answer

A) The FI can hedge its exposure to interest rate increases by selling financial futures. 
B) The FI can hedge its exposure to interest rate decreases by selling financial futures. 
C) The FI can hedge its exposure to interest rate increases by buying financial futures. 
D) The FI can hedge its exposure to interest rate increases by buying call options. 
E) The FI cannot hedge its exposure to interest rate increases or decreases using financial futures 
A) The FI can hedge its exposure to interest rate increases by selling financial futures. 
B) The FI can hedge its exposure to interest rate decreases by selling financial futures. 
C) The FI can hedge its exposure to interest rate increases by buying financial futures. 
D) The FI can hedge its exposure to interest rate increases by buying call options. 
E) The FI cannot hedge its exposure to interest rate increases or decreases using financial futures

Question 6

Hedging selectively only a portion of the balance sheet is an attempt to increase the return of the FI by accepting some level of interest rate risk.

Accepted Answer

A) True 
 B)False

Question 7

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. If in one year there is no change in either interest rates or exchange rates, what is the end-of-year profit or loss of the U.S. bank's cash position? Assume that annual interest is paid on both the CD and the Canadian bonds on the date of liquidation in exactly one year.

Accepted Answer

A) Profit of US$20,000. 
B) Loss of C$224,000 
C) Profit of US$50,000. 
D) Profit of C$63,000. 
E) Profit of US$313,000. 
A) Profit of US$20,000. 
B) Loss of C$224,000 
C) Profit of US$50,000. 
D) Profit of C$63,000. 
E) Profit of US$313,000.

Question 8

It is not possible to separate credit risk exposure from the lending process itself.

Accepted Answer

A) True 
 B)False

Question 9

Conyers Bank holds Treasury bonds with a book value of $30 million. However, the Treasury bonds currently are worth $28,387,500. If Treasury bond futures prices are currently 89-00/32nds, what is the value of the Treasury bond futures hedge position?

Accepted Answer

A) $30,000,000. 
B) $28,387,500. 
C) $26,700,000. 
D) $89,000,000. 
E) $890,000. 
A) $30,000,000. 
B) $28,387,500. 
C) $26,700,000. 
D) $89,000,000. 
E) $890,000.

Question 10

Historical analysis of recent changes in exchange rates in both the spot and futures markets for a given currency reveals that spot rates are thirty percent more sensitive than futures prices. Given this information, the hedge ratio for this currency is

Accepted Answer

A) 0.70. 
B) 0.77. 
C) 1.30. 
D) 1.43. 
E) 1.86. 
A) 0.70. 
B) 0.77. 
C) 1.30. 
D) 1.43. 
E) 1.86.

Question 11

Hedging effectiveness often is measured by the squared correlation between past changes in the spot asset prices and futures prices.

Accepted Answer

A) True 
 B)False

Question 12

A futures contract

Accepted Answer

A) is tailor-made to fit the needs of the buyer and the seller. 
B) has more credit risk than a forward contract. 
C) is marked to market more frequently than a forward contract. 
D) has a shorter time to delivery than a forward contract. 
E) has more price risk than a forward contract. 
A) is tailor-made to fit the needs of the buyer and the seller. 
B) has more credit risk than a forward contract. 
C) is marked to market more frequently than a forward contract. 
D) has a shorter time to delivery than a forward contract. 
E) has more price risk than a forward contract.

Question 13

Immunizing the balance sheet against interest rate risk means that gains (losses) from an off-balance-sheet hedge will exactly offset losses (gains) from the balance sheet position.

Accepted Answer

A) True 
 B)False

Question 14

A forward contract

Accepted Answer

A) has more credit risk than a futures contract. 
B) is more standardized than a futures contract. 
C) is marked to market more frequently than a futures contract. 
D) has a shorter time to delivery than a futures contract. 
E) is less risky than a futures contract. 
A) has more credit risk than a futures contract. 
B) is more standardized than a futures contract. 
C) is marked to market more frequently than a futures contract. 
D) has a shorter time to delivery than a futures contract. 
E) is less risky than a futures contract.

Question 15

Use the following two choices to identify whether each intermediary or entity is a net buyer or net seller of credit derivative securities.
-Corporations

Accepted Answer

A) Net buyer (typically) 
B) Net seller (typically) 
A) Net buyer (typically) 
B) Net seller (typically)

Question 16

The sensitivity of the price of a futures contract depends on the duration of the deliverable asset underlying the contract.

Accepted Answer

A) True 
 B)False

Question 17

The average duration of the loans is 10 years. The average duration of the deposits is 3 years.   What is the number of T-Bill futures contracts necessary to hedge the balance sheet if the duration of the deliverable T-bills is 0.25 years and the current price of the futures contract is $98 per $100 face value?

Accepted Answer

A) 6,212 contracts. 
B) 6,805 contracts. 
C) 6,900 contracts. 
D) 7,112 contracts. 
E) 7,327 contracts. 
A) 6,212 contracts. 
B) 6,805 contracts. 
C) 6,900 contracts. 
D) 7,112 contracts. 
E) 7,327 contracts.

Question 18

The average duration of the loans is 10 years. The average duration of the deposits is 3 years.   What is the gain or loss on the futures position using T-Bonds (Duration = 9 years, $96 per $100 face value) if the shock to interest rates is 1 percent [i.e. ΔR/(1 + R) = 0.01 and ΔRf/(1 + Rf) = 0.011]?

Accepted Answer

A) $16,320,960 loss. 
B) $16,312,320 gain. 
C) $15,552,750 gain. 
D) $15,552,750 loss. 
E) $13,252,250 gain. 
A) $16,320,960 loss. 
B) $16,312,320 gain. 
C) $15,552,750 gain. 
D) $15,552,750 loss. 
E) $13,252,250 gain.

Question 19

Use the following two choices to identify whether each intermediary or entity is a net buyer or net seller of credit derivative securities.
-Mutual funds

Accepted Answer

A) Net buyer (typically) 
B) Net seller (typically) 
A) Net buyer (typically) 
B) Net seller (typically)

Question 20

Which of the following identifies the largest group of derivative contracts as of June 2012?

Accepted Answer

A) Futures. 
B) Forwards. 
C) Options. 
D) Swaps. 
E) Credit derivatives. 
A) Futures. 
B) Forwards. 
C) Options. 
D) Swaps. 
E) Credit derivatives.

Exam 22: Futures and Forwards

Which of the following is NOT true regarding hedge ratio?

Selective hedging that results in an over-hedged position may be regarded as speculative by regulators.

Routine hedging will allow the FI to achieve greater return from the assets and liabilities on the balance sheet.

Why does basis risk occur?

An FI issued $1 million of 1-year maturity floating rate commercial paper. The commercial paper is repriced every three months at the 91-day Treasury bill rate plus 2 percent. What is the FI's interest rate risk exposure and how can it use financial futures and options to hedge that risk exposure?

Hedging selectively only a portion of the balance sheet is an attempt to increase the return of the FI by accepting some level of interest rate risk.

It is not possible to separate credit risk exposure from the lending process itself.

Conyers Bank holds Treasury bonds with a book value of $30 million. However, the Treasury bonds currently are worth $28,387,500. If Treasury bond futures prices are currently 89-00/32nds, what is the value of the Treasury bond futures hedge position?

Historical analysis of recent changes in exchange rates in both the spot and futures markets for a given currency reveals that spot rates are thirty percent more sensitive than futures prices. Given this information, the hedge ratio for this currency is

Hedging effectiveness often is measured by the squared correlation between past changes in the spot asset prices and futures prices.

A futures contract

Immunizing the balance sheet against interest rate risk means that gains (losses) from an off-balance-sheet hedge will exactly offset losses (gains) from the balance sheet position.

A forward contract

Use the following two choices to identify whether each intermediary or entity is a net buyer or net seller of credit derivative securities. -Corporations

The sensitivity of the price of a futures contract depends on the duration of the deliverable asset underlying the contract.

Use the following two choices to identify whether each intermediary or entity is a net buyer or net seller of credit derivative securities. -Mutual funds

Which of the following identifies the largest group of derivative contracts as of June 2012?

Why Are Financial Institutions Special

Deposit-Taking Institutions

Finance Companies

Securities, Brokerage, and Investment Banking

Mutual Funds, Hedge Funds, and Pension Funds

Insurance Companies

Risks of Financial Institutions

Interest Rate Risk I

Interest Rate Risk II

Credit Risk: Individual Loans

Credit Risk: Loan Portfolio and Concentration Risk

Liquidity Risk

Foreign Exchange Risk

Sovereign Risk

Market Risk

Off-Balance-Sheet Risk

Technology and Other Operational Risks

Liability and Liquidity Management

Deposit Insurance and Other Liability Guarantees

Capital Adequacy

Product and Geographic Expansion

Options, Caps, Floors, and Collars

Swaps

Loan Sales

Securitization Index

Filters

Conyers Bank holds Treasury bonds with a book value of $30 million. However, the Treasury bonds currently are worth $28,387,500. If Treasury bond futures prices are currently 89-00/32^nds, what is the value of the Treasury bond futures hedge position?