Question 1

Who are the common buyers of credit forwards?

Accepted Answer

A) Insurance companies. 
B) Banks. 
C) Federal Reserve. 
D) Stock brokers. 
E) Credit unions. 
A) Insurance companies. 
B) Banks. 
C) Federal Reserve. 
D) Stock brokers. 
E) Credit unions.

Question 2

The average duration of the loans is 10 years. The average duration of the deposits is 3 years.   What is the leveraged-adjusted duration gap of the bank's portfolio?

Accepted Answer

A) 10 years. 
B) 7.3 years. 
C) 7 years. 
D) 7.18 years. 
E) 3 years. 
A) 10 years. 
B) 7.3 years. 
C) 7 years. 
D) 7.18 years. 
E) 3 years.

Question 3

Conyers Bank holds Treasury bonds with a book value of $30 million. However, the Treasury bonds currently are worth $28,387,500. If the portfolio manager wants to shorten the bank's asset maturity, what type of risk is she concerned about?

Accepted Answer

A) Credit risk. 
B) Foreign exchange rate risk. 
C) The risk of rising interest rates. 
D) The risk of falling interest rates. 
E) Default risk. 
A) Credit risk. 
B) Foreign exchange rate risk. 
C) The risk of rising interest rates. 
D) The risk of falling interest rates. 
E) Default risk.

Question 4

An off-balance-sheet forward position is used to hedge the FI's on-balance-sheet risk exposure.

Accepted Answer

A) True 
 B)False

Question 5

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 6

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. What type of currency hedge is necessary to protect the FI from exchange rate risk?

Accepted Answer

A) Buy € currency futures. 
B) Sell € currency futures. 
C) Finance the loan with € deposits. 
D) Finance the loan with Eurodollar deposits. 
E) Either sell € currency futures or finance the loan with Eurodollar deposits. 
A) Buy € currency futures. 
B) Sell € currency futures. 
C) Finance the loan with € deposits. 
D) Finance the loan with Eurodollar deposits. 
E) Either sell € currency futures or finance the loan with Eurodollar deposits.

Question 7

In a forward contract agreement, the quantity of product to be traded, the time of the actual trade and the price are determined at the time of the agreement.

Accepted Answer

A) True 
 B)False

Question 8

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 9

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

Accepted Answer

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

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. What type of currency hedge is necessary to protect the FI from exchange rate risk?

Accepted Answer

A) Buy € currency futures. 
B) Sell € currency futures. 
C) Finance the loan with € deposits. 
D) Finance the loan with Eurodollar deposits. 
E) Either sell € currency futures or finance the loan with Eurodollar deposits. 
A) Buy € currency futures. 
B) Sell € currency futures. 
C) Finance the loan with € deposits. 
D) Finance the loan with Eurodollar deposits. 
E) Either sell € currency futures or finance the loan with Eurodollar deposits.

Question 11

What is the purpose of a credit forward agreement?

Accepted Answer

A) To allow property-casualty insurers to hedge the extreme losses that occur after major catastrophes. 
B) To adjust prices on outstanding futures each day to reflect current futures market conditions. 
C) To facilitate the future exchange of an asset for cash at a price that is determined daily. 
D) To hedge a cash asset on a direct dollar-for-dollar basis with a forward or futures contract. 
E) To hedge against an increase in the default risk of a loan. 
A) To allow property-casualty insurers to hedge the extreme losses that occur after major catastrophes. 
B) To adjust prices on outstanding futures each day to reflect current futures market conditions. 
C) To facilitate the future exchange of an asset for cash at a price that is determined daily. 
D) To hedge a cash asset on a direct dollar-for-dollar basis with a forward or futures contract. 
E) To hedge against an increase in the default risk of a loan.

Question 12

What is overhedging?

Accepted Answer

A) Selectively hedging a proportion of an FI's balance sheet position. 
B) Choosing to bear some interest rate risk as well as credit and FX risks. 
C) Reducing the risk to the lowest level possible. 
D) Using more hedge vehicles than is necessary to offset the risk in the cash asset. 
E) Partially hedging the individual assets and liabilities. 
A) Selectively hedging a proportion of an FI's balance sheet position. 
B) Choosing to bear some interest rate risk as well as credit and FX risks. 
C) Reducing the risk to the lowest level possible. 
D) Using more hedge vehicles than is necessary to offset the risk in the cash asset. 
E) Partially hedging the individual assets and liabilities.

Question 13

The primary benefit of a futures exchange is

Accepted Answer

A) always knowing its exact location. 
B) indemnifying counterparties against credit or default risk. 
C) guarantee of trading volume. 
D) intervention on the trader's behalf with government regulators. 
E) availability of free legal services. 
A) always knowing its exact location. 
B) indemnifying counterparties against credit or default risk. 
C) guarantee of trading volume. 
D) intervention on the trader's behalf with government regulators. 
E) availability of free legal services.

Question 14

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 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. What is the end-of-year profit or loss on the bank's cash position if in one year both Canadian bond rates increase to 7.5 percent and the exchange rate falls to US$0.765 per Canadian dollar (Assume no change in U.S. interest rates.) (Choose the closest answer)

Accepted Answer

A) Loss of US$12,000. 
B) Loss of US$75,000. 
C) Profit of C$9,000. 
D) Profit of US$50,000. 
E) Loss of C$119,000. 
A) Loss of US$12,000. 
B) Loss of US$75,000. 
C) Profit of C$9,000. 
D) Profit of US$50,000. 
E) Loss of C$119,000.

Question 16

A perfect hedge, or perfect immunization, seldom occurs.

Accepted Answer

A) True 
 B)False

Question 17

Microhedging uses futures or forward contracts to hedge the entire balance sheet duration gap.

Accepted Answer

A) True 
 B)False

Question 18

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 the current (spot) rate for one-year British pound futures is currently at $1.58/£ and each contract size is £62,500, how many contracts are required to be purchased or sold in order to fully hedge against the pound exposure? (Assume no basis risk).

Accepted Answer

A) Sell 1,600 BP futures. 
B) Buy 1,600 BP futures. 
C) Sell 1,712 BP futures. 
D) Buy 2,560 BP futures. 
E) Buy 1,712 BP futures. 
A) Sell 1,600 BP futures. 
B) Buy 1,600 BP futures. 
C) Sell 1,712 BP futures. 
D) Buy 2,560 BP futures. 
E) Buy 1,712 BP futures.

Question 19

Macrohedging uses a derivative contract, such as a futures or forward contract, to hedge a particular asset or liability risk.

Accepted Answer

A) True 
 B)False

Question 20

More FIs fail due to credit risk exposure than exposure to either interest rate risk or foreign exchange risk.

Accepted Answer

A) True 
 B)False

Exam 22: Futures and Forwards

Who are the common buyers of credit forwards?

The average duration of the loans is 10 years. The average duration of the deposits is 3 years. What is the leveraged-adjusted duration gap of the bank's portfolio?

Conyers Bank holds Treasury bonds with a book value of $30 million. However, the Treasury bonds currently are worth $28,387,500. If the portfolio manager wants to shorten the bank's asset maturity, what type of risk is she concerned about?

An off-balance-sheet forward position is used to hedge the FI's on-balance-sheet risk exposure.

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

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. What type of currency hedge is necessary to protect the FI from exchange rate risk?

In a forward contract agreement, the quantity of product to be traded, the time of the actual trade and the price are determined at the time of the agreement.

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. -Hedge funds

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. What type of currency hedge is necessary to protect the FI from exchange rate risk?

What is the purpose of a credit forward agreement?

What is overhedging?

The primary benefit of a futures exchange is

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

A perfect hedge, or perfect immunization, seldom occurs.

Microhedging uses futures or forward contracts to hedge the entire balance sheet duration gap.

Macrohedging uses a derivative contract, such as a futures or forward contract, to hedge a particular asset or liability risk.

More FIs fail due to credit risk exposure than exposure to either interest rate risk or foreign exchange risk.

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Securities, Brokerage, and Investment Banking

Mutual Funds, Hedge Funds, and Pension Funds

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Interest Rate Risk I

Interest Rate Risk II

Credit Risk: Individual Loans

Credit Risk: Loan Portfolio and Concentration Risk

Liquidity Risk

Foreign Exchange Risk

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Off-Balance-Sheet Risk

Technology and Other Operational Risks

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Deposit Insurance and Other Liability Guarantees

Capital Adequacy

Product and Geographic Expansion

Options, Caps, Floors, and Collars

Swaps

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