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options futures and other derivatives

Questions and Answers of Options Futures And Other Derivatives

Explain what is meant by (a) an ABS and (b) an ABS CDO.
What was the role of GNMA (Ginnie Mae) in the mortgage-backed securities market of the 1970s?
Company X is based in the United Kingdom and would like to borrow $50 million at a fixed rate of interest for 5 years in US funds. Because the company is not well known in the United States, this has
Suppose that the term structure of interest rates is flat in the United States and Australia.The USD interest rate is 7% per annum and the AUD rate is 9% per annum. The current value of the AUD is
Under the terms of an interest rate swap, a financial institution has agreed to pay 10% per annum and to receive 3-month LIBOR in return on a notional principal of $100 million with payments being
Company A, a British manufacturer, wishes to borrow US dollars at a fixed rate of interest. Company B, a US multinational, wishes to borrow sterling at a fixed rate of interest. They have been quoted
The 1-year LIBOR rate is 10% with annual compounding. A bank trades swaps where a fixed rate of interest is exchanged for 12-month LIBOR with payments being exchanged annually. The 2- and 3-year swap
(a) Company X has been offered the rates shown in Table 7.3. It can invest for 4 years at 5.5%. What floating rate can it swap this fixed rate into? (b) Company Y has been offered the rates shown in
(a) Company A has been offered the rates shown in Table 7.3. It can borrow for 3 years at 6.45%. What floating rate can it swap this fixed rate into? (b) Company B has been offered the rates shown in
The LIBOR zero curve is flat at 5% (continuously compounded) out to 1.5 years. Swap rates for 2- and 3-year semiannual pay swaps are 5.4% and 5.6%, respectively. Estimate the LIBOR zero rates for
Explain how you would value a swap that is the exchange of a floating rate in one currency for a fixed rate in another currency.
A bank finds that its assets are not matched with its liabilities. It is taking floating-rate deposits and making fixed-rate loans. How can swaps be used to offset the risk?
Why is the expected loss from a default on a swap less than the expected loss from the default on a loan with the same principal?
"Companies with high credit risks are the ones that cannot access fixed-rate markets directly. They are the companies that are most likely to be paying fixed and receiving floating in an interest
After it hedges its foreign exchange risk using forward contracts, is the financial institution's average spread in Figure 7.11 likely to be greater than or less than 20 basis points? Explain your
A financial institution has entered into a 10-year currency swap with company Y. Under the terms of the swap, the financial institution receives interest at 3% per annum in Swiss francs and pays
Companies A and B face the following interest rates (adjusted for the differential impact of taxes): Company A US dollars (floating rate): Canadian dollars (fixed rate): LIBOR +0.5% 5.0% Company B
A financial institution has entered into an interest rate swap with company X. Under the terms of the swap, it receives 10% per annum and pays 6-month LIBOR on a principal of $10 million for 5 years.
Companies X and Y have been offered the following rates per annum on a $5 million 10-year investment: Fixed rate Floating rate Company X: Company Y: 8.0% 8.8% LIBOR LIBOR Company X requires a
Explain why a bank is subject to credit risk when it enters into two offsetting swap contracts.
A corporate treasurer tells you that he has just negotiated a 5-year loan at a competitive fixed rate of interest of 5.2%. The treasurer explains that he achieved the 5.2% rate by borrowing at
Explain the difference between the credit risk and the market risk in a financial contract.
A currency swap has a remaining life of 15 months. It involves exchanging interest at 10% on 20 million for interest at 6% on $30 million once a year. The term structure of interest rates in both the
Explain what a swap rate is. What is the relationship between swap rates and par yields?
A $100 million interest rate swap has a remaining life of 10 months. Under the terms of the swap, 6-month LIBOR is exchanged for 7% per annum (compounded semiannually). The average of the bid-offer
Company X wishes to borrow US dollars at a fixed rate of interest. Company Y wishes to borrow Japanese yen at a fixed rate of interest. The amounts required by the two companies are roughly the same
Companies A and B have been offered the following rates per annum on a $20 million 5-year loan: Fixed rate Floating rate Company A: Company B: LIBOR +0.1% LIBOR +0.6% 5.0% 6.4% Company A requires a
A portfolio manager plans to use a Treasury bond futures contract to hedge a bond portfolio over the next 3 months. The portfolio is worth $100 million and will have a duration of 4.0 years in 3
The futures price for the June 2011 CBOT bond futures contract is 118-23. (a) Calculate the conversion factor for a bond maturing on January 1, 2027, paying a coupon of 10%. (b) Calculate the
A Canadian company wishes to create a Canadian LIBOR futures contract from a US Eurodollar futures contract and forward contracts on foreign exchange. Using an example, explain how the company should
Assume that a bank can borrow or lend money at the same interest rate in the LIBOR market. The 90-day rate is 10% per annum, and the 180-day rate is 10.2% per annum, both expressed with continuous
It is March 10, 2011. The cheapest-to-deliver bond in a December 2011 Treasury bond futures contract is an 8% coupon bond, and delivery is expected to be made on December 31, 2011. Coupon payments on
A Eurodollar futures quote for the period between 5.1 and 5.35 years in the future is 97.1. The standard deviation of the change in the short-term interest rate in one year is 1.4%. Estimate the
The December Eurodollar futures contract is quoted as 98.40 and a company plans to borrow $8 million for three months starting in December at LIBOR plus 0.5%. (a) What rate can the company lock in by
Explain why the forward interest rate is less than the corresponding futures interest rate calculated from a Eurodollar futures contract.
The 3-month Eurodollar futures price for a contract maturing in 6 years is quoted as 95.20. The standard deviation of the change in the short-term interest rate in 1 year is 1.1%. Estimate the
Suppose that a Eurodollar futures quote is 88 for a contract maturing in 60 days. What is the LIBOR forward rate for the 60- to 150-day period? Ignore the difference between futures and forwards for
Between October 30, 2012, and November 1, 2012, you have a choice between owning a US government bond paying a 12% coupon and a US corporate bond paying a 12% coupon. Consider carefully the day count
How can the portfolio manager change the duration of the portfolio to 3.0 years in Problem 6.17?
On August 1, a portfolio manager has a bond portfolio worth $10 million. The duration of the portfolio in October will be 7.1 years. The December Treasury bond futures price is currently 91-12 and
Suppose that it is February 20 and a treasurer realizes that on July 17 the company will have to issue $5 million of commercial paper with a maturity of 180 days. If the paper were issued today, the
Suppose that a bond portfolio with a duration of 12 years is hedged using a futures contract in which the underlying asset has a duration of 4 years. What is likely to be the impact on the hedge of
Suppose that the 300-day LIBOR zero rate is 4% and Eurodollar quotes for contracts maturing in 300, 398, and 489 days are 95.83, 95.62, and 95.48. Calculate 398-day and 489-day LIBOR zero rates.
Suppose that the 9-month LIBOR interest rate is 8% per annum and the 6-month LIBOR interest rate is 7.5% per annum (both with actual/365 and continuous compounding). Estimate the 3-month Eurodollar
An investor is looking for arbitrage opportunities in the Treasury bond futures market. What complications are created by the fact that the party with a short position can choose to deliver any bond
It is July 30, 2013. The cheapest-to-deliver bond in a September 2013 Treasury bond futures contract is a 13% coupon bond, and delivery is expected to be made on September 30, 2013. Coupon payments
Suppose that the Treasury bond futures price is 101-12. Which of the following four bonds is cheapest to deliver?
It is May 5, 2011. The quoted price of a government bond with a 12% coupon that matures on July 27, 2014, is 110-17. What is the cash price?
The price of a 90-day Treasury bill is quoted as 10.00. What continuously compounded return (on an actual/365 basis) does an investor earn on the Treasury bill for the 90-day period?
It is January 30. You are managing a bond portfolio worth $6 million. The duration of the portfolio in 6 months will be 8.2 years. The September Treasury bond futures price is currently 108-15, and
The 350-day LIBOR rate is 3% with continuous compounding and the forward rate calculated from a Eurodollar futures contract that matures in 350 days is 3.2% with continuous compounding. Estimate the
What is the purpose of the convexity adjustment made to Eurodollar futures rates? Why is the convexity adjustment necessary?
A Eurodollar futures price changes from 96.76 to 96.82. What is the gain or loss to an investor who is long two contracts?
How is the conversion factor of a bond calculated by the CME Group? How is it used?
It is January 9, 2013. The price of a Treasury bond with a 12% coupon that matures on October 12, 2020, is quoted as 102-07. What is the cash price?
A US Treasury bond pays a 7% coupon on January 7 and July 7. How much interest accrues per $100 of principal to the bondholder between July 7, 2011, and August 9, 2011? How would your answer be
A company enters into a forward contract with a bank to sell a foreign currency for K at time T. The exchange rate at time Ti proves to be S (> K). The company asks the bank if it can roll the
A trader owns gold as part of a long-term investment portfolio. The trader can buy gold for $1,250 per ounce and sell it for $1,249 per ounce. The trader can borrow funds at 6% per year and invest
A company that is uncertain about the exact date when it will pay or receive a foreign currency may try to negotiate with its bank a forward contract that specifies a period during which delivery can
A bank offers a corporate client a choice between borrowing cash at 11% per annum and borrowing gold at 2% per annum. (If gold is borrowed, interest must be repaid in gold. Thus, 100 ounces borrowed
A stock is expected to pay a dividend of $1 per share in 2 months and in 5 months. The stock price is $50, and the risk-free rate of interest is 8% per annum with continuous compounding for all
The spot price of oil is $80 per barrel and the cost of storing a barrel of oil for one year is$3, payable at the end of the year. The risk-free interest rate is 5% per annum continuously compounded.
The current USD/euro exchange rate is 1.4000 dollar per euro. The six-month forward exchange rate is 1.3950. The six-month USD interest rate is 1% per annum continuously compounded. Estimate the
An index is 1,200. The three-month risk-free rate is 3% per annum and the dividend yield over the next three months is 1.2% per annum. The six-month risk-free rate is 3.5%"per annum and the dividend
A US company is interested in using the futures contracts traded by the CME Group to hedge its Australian dollar exposure. Define r as the interest rate (all maturities) on the US dollar and rf as
The Value Line Index is designed to reflect changes in the value of a portfolio of over 1,600 equally weighted stocks. Prior to March 9, 1988, the change in the index from one day to the next was
Explain carefully what is meant by the expected price of a commodity on a particular future date. Suppose that the futures price for crude oil declines with the maturity of the contract at the rate
Show that equation (5.3) is true by considering an investment in the asset combined with a short position in a futures contract. Assume that all income from the asset is reinvested in the asset. Use
Show that the growth rate in an index futures price equals the excess return on the portfolio underlying the index over the risk-free rate. Assume that the risk-free interest rate and the dividend
It is sometimes argued that a forward exchange rate is an unbiased predictor of future exchange rates. Under what circumstances is this so?
When a known future cash outflow in a foreign currency is hedged by a company using a forward contract, there is no foreign exchange risk. When it is hedged using futures contracts, the daily
Suppose that F1 and F are two futures contracts on the same commodity with times to maturity, t and 12, where t2> 11. Prove that F2 Fe(12-11) where r is the interest rate (assumed constant) and there
The spot price of silver is $15 per ounce. The storage costs are $0.24 per ounce per year payable quarterly in advance. Assuming that interest rates are 10% per annum for all maturities, calculate
The 2-month interest rates in Switzerland and the United States are, respectively, 2% and 5% per annum with continuous compounding. The spot price of the Swiss franc is $0.8000. The futures price for
What is the option’s intrinsic value?
Estimate the difference between short-term interest rates in Mexico and the United States on May 26, 2010, from the information in Table
Suppose that the risk-free interest rate is 10% per annum with continuous compounding and that the dividend yield on a stock index is 4% per annum. The index is standing at 400, and the futures price
Assume that the risk-free interest rate is 9% per annum with continuous compounding and that the dividend yield on a stock index varies throughout the year. In February, May, August, and November,
The risk-free rate of interest is 7% per annum with continuous compounding, and the dividend yield on a stock index is 3.2% per annum. The current value of the index is 150. What is the 6-month
A 1-year long forward contract on a non-dividend-paying stock is entered into when the stock price is $40 and the risk-free rate of interest is 10% per annum with continuous compounding. (a) What are
Is the futures price of a stock index greater than or less than the expected future value of the index? Explain your answer.
Explain why a foreign currency can be treated as an asset providing a known yield.
Explain carefully the meaning of the terms convenience yield and cost of carry. What is the relationship between futures price, spot price, convenience yield, and cost of carry?
Explain carefully why the futures price of gold can be calculated from its spot price and other observable variables whereas the futures price of copper cannot.
A stock index currently stands at 350. The risk-free interest rate is 8% per annum (with continuous compounding) and the dividend yield on the index is 4% per annum. What should the futures price for
Suppose that you enter into a 6-month forward contract on a non-dividend-paying stock when the stock price is $30 and the risk-free interest rate (with continuous compounding) is 12% per annum. What
What is the difference between the forward price and the value of a forward contract?
Explain what happens when an investor shorts a certain share.
Portfolio A consists of a 1-year zero-coupon bond with a face value of $2,000 and a 10-year zero-coupon bond with a face value of $6,000. Portfolio B consists of a 5.95-year zero-coupon bond with a
The following table gives the prices of bonds?
What is the 2-year par yield when the zero rates are as in Problem 4.30? What is the yield on a 2-year bond that pays a coupon equal to the par yield?
The 6-month, 12-month, 18-month, and 24-month zero rates are 4%, 4.5%, 4.75%, and 5%, with semiannual compounding. (a) What are the rates with continuous compounding? (b) What is the forward rate for
An interest rate is quoted as 5% per annum with semiannual compounding. What is the equivalent rate with (a) annual compounding, (b) monthly compounding, and (c) con- tinuous compounding.
A bank can borrow or lend at LIBOR. Suppose that the six-month rate is 5% and the nine-month rate is 6%. The rate that can be locked in for the period between six months and nine months using an FRA
A bank can borrow or lend at LIBOR. The two-month LIBOR rate is 0.28% per annum with continuous compounding. Assuming that interest rates cannot be negative, what is the arbitrage opportunity if the
Suppose that LIBOR rates for maturities of one, two, three, four, five, and six months are 2.6%, 2.9%, 3.1%, 3.2%, 3.25%, and 3.3% with continuous compounding. What are the forward rates for future
A five-year bond provides a coupon of 5% per annum payable semiannually. Its price is 104. What is the bond's yield? You may find Excel's Solver useful.
"An interest rate swap where 6-month LIBOR is exchanged for a fixed rate of 5% on a principal of $100 million for 5 years involves a known cash flow and a portfolio of nine FRAS." Explain this
The cash prices of 6-month and 1-year Treasury bills are 94.0 and 89.0. A 1.5-year bond that will pay coupons of $4 every 6 months currently sells for $94.84. A 2-year bond that will pay coupons of
A 5-year bond with a yield of 11% (continuously compounded) pays an 8% coupon at the end of each year. (a) What is the bond's price? (b) What is the bond's duration? (c) Use the duration to calculate

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