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business
options futures and other derivatives

Questions and Answers of Options Futures And Other Derivatives

11. You invested $25,000 in the stock of Dell Computer Corporation in early 2011. You have compiled the monthly returns on Dell’s stock during the period 2006–2010, as given below.
10. An analyst would like to know the VaR for a portfolio consisting of two asset classes: longterm government bonds issued in the United States and long-term government bonds issued in the United
9. Suppose you are given the following sample probability distribution of annual returns on a portfolio with a market value of $10 million.
8. Each of the following statements about VaR is true except:A. VaR is the loss that would be exceeded with a given probability over a specific time period.B. Establishing a VaR involves several
7. A. An organization’s risk management function has computed that a portfolio held in one business unit has a 1% weekly value at risk (VaR) of £4.25 million. Describe what is meant in terms of a
6. Ford Credit is the branch of Ford Motor Company that provides financing to Ford’s customers. For this purpose, it obtains funding from various sources. As a result of its interest rate risk
5. A large trader on the government bond desk of a major bank loses €20 million in a year, in the process reducing the desk’s overall profit to €10 million. Senior management, on looking into
4. Sue Ellicott supervises the trading function at an asset management firm. In conducting an in-house risk management training session for traders, Ellicott elicits the following statements from
3. NatWest Markets (NWM) was the investment banking arm of National Westminster Bank, one of the largest banks in the United Kingdom. On 28 February 1997, NWM revealed that a substantial loss had
2. Stewart Gilchrist follows the automotive industry, including Ford Motor Company. Based on Ford’s 2003 annual report, Gilchrist writes the following summary:Ford Motor Company has businesses in
1. Discuss the difference between centralized and decentralized risk management systems, including the advantages and disadvantages of each.
What information should be reported to investors and other stakeholders concerning the risk of an enterprise or a portfolio?
How can our success or lack of success in risk taking be evaluated?
Which risks are worth taking on a regular basis, which are worth taking on occasion, and which should be avoided altogether?
What is an effective process for identifying, measuring, and managing risk?
demonstrate the use of VaR and stress testing in setting capital requirements?
discuss the Sharpe ratio, risk-adjusted return on capital, return over maximum drawdown, and the Sortino ratio as measures of risk-adjusted performance;
demonstrate the use of exposure limits, marking to market, collateral, netting arrangements, credit standards, and credit derivatives to manage credit risk;
demonstrate the use of risk budgeting, position limits, and other methods for managing market risk;
evaluate the credit risk of an investment position, including forward contract, swap, and option positions;
compare alternative types of stress testing and discuss advantages and disadvantages of each;
discuss advantages and limitations of VaR and its extensions, including cash flow at risk, earnings at risk, and tail value at risk;
compare the analytical (variance–covariance), historical, and Monte Carlo methods for estimating VaR and discuss the advantages and disadvantages of each;
calculate and interpret value at risk (VaR) and explain its role in measuring overall and individual position market risk;
evaluate a company’s or a portfolio’s exposures to financial and nonfinancial risk factors;
describe steps in an effective enterprise risk management system;
evaluate strengths and weaknesses of a company’s risk management process;
discuss features of the risk management process, risk governance, risk reduction, and an enterprise risk management system;
10. The option trade that Nuñes should recommend relating to the government committee’s decision is a:A. collar.B. bull spread.C. long straddle.
9. Based on Exhibit 1, the best explanation for Nuñes to implement Strategy 8 would be that, between the February and December expiration dates, she expects the share price of XDF to:A. decrease.B.
8. Based on Exhibit 1, the maximum gain per share that could be earned if Strategy 7 is implemented is:A. €5.74.B. €5.76.C. unlimited.
7. Based on Exhibit 1, the breakeven share price for Strategy 6 is closest to:A. €22.50.B. €28.50.C. €33.50.
6. Based on Exhibit 1, Strategy 5 offers:A. unlimited upside.B. a maximum profit of €2.48 per share.C. protection against losses if QWY’s share price falls below €28.14.
5. Strategy 5 is best described as a:A. collar.B. straddle.C. bear spread.
4. Based on Exhibit 1, the maximum loss per share that would be incurred if Strategy 4 was implemented is:A. €2.99.B. €3.99.C. unlimited.
3. Based on Exhibit 1, the breakeven share price of Strategy 3 is closest to:A. €92.25.B. €95.61.C. €95.82.
2. Based on Exhibit 1, Nuñes should expect Strategy 2 to be least profitable if the share price of IZD at option expiration is:A. less than €91.26.B. between €91.26 and €95.00.C. more than
1. Strategy 1 would require Nuñes to buy:A. shares of IZD.B. a put option on IZD.C. a call option on IZD.
3. What is the breakeven point with an OCT 45/50 bull call spread?A. 46.10 B. 47.50 C. 48.88
2. What is the maximum loss with an OCT 45/50 bear put spread?A. 1.12 B. 3.88 C. 4.38
1. What is the maximum gain with an OCT 45/50 bull call spread?A. 1.10 B. 3.05 C. 3.90
3. Which of the following correctly calculates the maximum loss from writing a covered call?A. S0 − c0 = 25.00 − 1.55 = 23.45 B. ST − c0 = 31.33 − 1.55 = 29.78 C. ST − X + c0 = 31.33 −
2. Which of the following correctly calculates the breakeven stock price from writing a covered call?A. S0 − c0 = 25.00 − 1.55 = 23.45 B. ST − c0 = 31.33 − 1.55 = 29.78 C. X + c0 = 30.00 +
1. Which of the following correctly calculates the maximum profit from writing a covered call?A. (ST − X) + c0 = 31.33 − 30.00 + 1.55 = 2.88 B. (ST − S0) − c0 = 31.33 − 25.00 − 1.55 =
2. Which of the following is most similar to a long call position?A. Buy stock, buy put B. Buy stock, write put C. Short stock, write put
1. Which of the following is most similar to a long put position?A. Buy stock, write call B. Short stock, buy call C. Short stock, write call
3. A stock portfolio manager who enters into a Libor-based equity swap and pays the equity return would owe money to the counterparty under which of the following conditions?A. Portfolio return >
2. A typical currency swap used to hedge a bond portfolio differs from an interest rate swap with respect to the:A. tenor of the swap.B. size of the initial cash flows.C. presence of counterparty
1. A US bond portfolio manager who wants to hedge a bond portfolio against a potential rise in domestic interest rates could best hedge by:A. buying Treasury bond futures.B. paying a fixed rate in an
Identify and evaluate appropriate derivatives strategies consistent with given investment objectives.
Describe uses of calendar spreads;
Calculate and interpret the value at expiration, profit, maximum profit, maximum loss, and breakeven underlying price at expiration of the following option strategies: bull spread, bear spread,
Describe the investment objective(s), structure, payoffs, and risks of the following option strategies: bull spread, bear spread, collar, and straddle;
Contrast protective put and covered call positions to being long an asset and short a forward on the asset;
Calculate and interpret the value at expiration, profit, maximum profit, maximum loss, and breakeven underlying price at expiration for covered calls and protective puts;
Describe the investment objectives, structure, payoff, and risks(s) of a protective put position;
Describe the investment objectives, structure, payoff, and risk(s) of a covered call position;
Describe how to replicate an asset by using options and by using cash plus forwards or futures;
Describe how interest rate, currency, and equity swaps, futures, and forwards can be used to modify risk and return;
18. Lee’s put-based hedge strategy for Solomon’s ETF position would most likely result in a portfolio gamma that is:A. negative.B. neutral.C. positive.
17. The strategy suggested by Lee for hedging small moves in Solomon’s ETF position would most likely involve:A. selling put options.B. selling call options.C. buying call options.
16. The valuation inputs used by Lee to price a call reflecting Solomon’s interest rate views should include an underlying FRA rate of:A. 0.60% with six months to expiration.B. 0.75% with nine
15. Based on Solomon’s observation about the model price and market price for the put option in Exhibit 2, the implied volatility for the GPX is most likely:A. less than the historical
14. Which of the following is the correct answer to Solomon’s question regarding the option Greek letter?A. Vega B. Theta C. Gamma
13. What are the correct spot value (S) and the risk-free rate (r) that Lee should use as inputs for the Black model?A. 186.73 and 0.39%, respectively B. 186.73 and 2.20%, respectively C. 187.95 and
12. To determine the long put option value on TCB stock in Exhibit 1, the correct BSM valuation approach is to compute:A. 0.4404 times the present value of the exercise price minus 0.6217 times the
11. Based on Exhibit 1 and the BSM valuation approach, the initial portfolio required to replicate the long call option payoff is:A. long 0.3100 shares of TCB stock and short 0.5596 shares of a
10. Lee’s statement about the assumptions of the BSM model is accurate with regard to:A. interest rates but not continuous prices.B. continuous prices but not the return distribution.C. the stock
9. Which of Sousa’s reasons for the decrease in the value of the interest rate option is correct?A. Reason 1 only B. Reason 2 only C. Both Reason 1 and Reason 2
8. Based on Exhibit 2 and the parameters used by Sousa, the value of the interest rate option is closest to:A. 5,251.B. 6,236.C. 6,429.
7. Which of Sousa’s statements about binomial models is correct?A. Statement 1 only B. Statement 2 only C. Both Statement 1 and Statement 2
6. The value of the American-style put option on Beta Company shares is closest to:A. 4.53.B. 5.15.C. 9.32.
5. The value of the European-style call option on Beta Company shares is closest to:A. 4.83.B. 5.12.C. 7.61.
4. For the Alpha Company option, the positions to take advantage of the arbitrage opportunity are to write the call and:A. short shares of Alpha stock and lend.B. buy shares of Alpha stock and
3. The value of the Alpha Company call option is closest to:A. 3.71.B. 5.71.C. 6.19.
2. The risk-neutral probability of the up move for the Alpha Company stock is closest to:A. 0.06.B. 0.40.C. 0.65.
1. The optimal hedge ratio for the Alpha Company call option using the one-period binomial model is closest to:A. 0.60.B. 0.67.C. 1.67.
3. Identify the correct interpretation of an option delta.A. Option delta measures the curvature in the option price with respect to the stock price.B. Option delta is the change in an option value
2. The appropriate delta hedge, assuming the hedging instrument is calls, is executed by which of the following transactions? Select the closest answer.A. Sell 7,876 call options.B. Sell 4,190 call
1. The appropriate delta hedge, assuming the hedging instrument is stock, is executed by which of the following transactions? Select the closest answer.A. Buy 5,320 shares of stock.B. Short sell
2. The discount factor used in pricing this option would be over what period of time?A. 15 May–15 June B. 15 June–15 September C. 15 May–15 September
1. In using the Black model to value this interest rate call option, what would the underlying rate be?A. 0.55%B. 0.68%C. 0.60%
3. Suppose now that the stock does not pay a dividend—that is, δ = 0%. Identify the correct statement.A. The BSM model option value is the same as the previous problems because options are not
2. Which answer best describes how the BSM model is used to value a put option with the parameters given?A. The BSM model put value is the exercise price times N(d1) less the present value of the
1. Which answer best describes how the BSM model is used to value a call option with the parameters given?A. The BSM model call value is the exercise price times N(d1) less the present value of the
2. Which is the correct pair of statements? The BSM model assumes:A. the return on the underlying has a normal distribution. The price of the underlying can jump abruptly to another price.B.
2. The call option value will be closest to:A. €13.B. €15.C. €17.
1. The optimal hedge ratio will be closest to:A. 0.57.B. 0.60.C. 0.65.
1. Identify the trading strategy that will generate the payoffs of taking a long position in a call option within a single-period binomial framework.A. Buy h = (c+ + c−)/(S+ + S−) units of the
Define implied volatility and explain how it is used in options trading
Describe the role of gamma risk in options trading;
Describe how a delta hedge is executed;
Interpret each of the option Greeks;
Describe how the Black model is used to value European interest rate options and European swaptions;
Describe how the Black model is used to value European options on futures;
Describe how the Black–Scholes–Merton model is used to value European options on equities and currencies;
Interpret the components of the Black–Scholes–Merton model as applied to call options in terms of a leveraged position in the underlying;
Identify assumptions of the Black–Scholes–Merton option valuation model;
Describe how the value of a European option can be analyzed as the present value of the option’s expected payoff at expiration;
Calculate and interpret the value of an interest rate option using a two-period binomial model;

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