Objective Type Questions on Derivatives

State True or false 1) Credit risk is composed of default risk and credit migration risk. True 2) Generally, modelling credit risk is less difficult than modelling market risk. False 3) Operational risk is hard to quantify. True 4) Diversification can be used to diversify away market risk. False 5) Insurance is particularly useful for management of credit and operational risks. True 6) An option is an asymmetrical instrument since the holder of an option will only exercise it if it’s beneficial to him or her. True 7) By buying a protective put option, investors can set a floor on their losses True 8) In an interest rate swap the notional principal is the same for both parties. True 9) In a fixed for floating swap, the received fixed counterparty receives a payment when the floating rate exceeds the fixed rate. False 10) The first option contracts were created when the Chicago Board Options Exchange opened on April 26, 1973. False 11) American-style options can be exercised any time before expiration. True 12) Derivatives cannot be replicated by buying or short selling the underlying asset and borrowing or lending the money. False 13) An option’s value can never be less than zero. True 14) Margin requirements are usually significantly higher for futures than for stocks. False 15) Everything else held constant, the intrinsic value of an option decreases as the option approaches expiration. False 16) The buyer of a forward contract is obligated to buy the underlying asset when the contract expires. True 17) The buyer of a call option is obligated to buy the underlying asset when the contract expires. False 18) Parties to forward contracts are more exposed to default risk than parties to futures contracts. 19) With forward contracts, all gains and losses are accumulated to one payment on the delivery date, whereas futures contracts recognize gains and losses daily. True 20) Most futures contracts do not result in delivery of the underlying asset. True 21) The clearinghouse eliminates default risk in futures transactions. True 22) Naked option trading refers to option trades with a simultaneous offsetting position in other instruments. False An option position where the buyer or seller has no underlying security position. Naked options are very risky. Profits are huge if the underlying asset moves in the direction desired by the investor. On the other hand, a writer of a naked option can lose big if the underlying asset moves in the opposite direction. 23) The payoff pattern for of a forward is different from that of the underlying asset. False 24) Having a stock and writing a call option on that same stock is called covered call writing. True 25) A high credit rating means you will always be approved for a line of credit, while a low rating score means you will be turned down. False 26) Credit ratings do not take into account factors such as gender, race, marital status, or nationality. True 27) Lenders are not obligated to reveal why you were turned down for credit. False

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28) Closing old loan accounts will undoubtedly raise your credit score. False 29) Inaccurate information can be taken off of your credit report. True 30) Value at risk is the maximum loss that a portfolio may be expected to suffer over a given holding period, at a given level of confidence. True 31) The value at risk depends on two key parameters: the holding period and the confidence level. True Choose Correct Option from the Given choice 1) Nowadays we frequently read news items about ’Derivatives’ as used in the world of finance and money market. Which of the following statement(s) correctly describes what a derivative is and how it affects money finance markets? a) Derivatives enable individuals and companies to insure themselves against financial risk. b) Derivatives are like fixed deposits in a bank and are the safest way to invest one’s idle money lying in a bank. c) Derivatives are the financial instruments which were used in India even during the British Raj. d) None of these 2) Futures contracts are traded a) Over the counter. b) On stock exchanges. c) Through private placement. d) All the above. 3) Which of the following is false? a) Futures contracts allow fewer delivery options than forward contracts. b) Futures contracts are more liquid than forward contracts. c) Futures contracts trade on a financial exchange. d) Futures contracts are marked to market. 4) Which of the following does the most to reduce default risk for futures contracts? a) Credit checks for both buyers and sellers b) High liquidity. c) Marking to market d) Flexible Delivery arrangement 5) Using futures contracts to transfer price risk is called: a) Speculating b) Arbitrage c) Hedging d) Diversifying 6) Which of the following is best described as simultaneous buying & selling in two different market to take advantage of price dis-equilibrium? a) Speculating b) Arbitrage c) Hedging d) Diversifying 7) A put option has a strike price of Rs.35. The price of the underlying stock is currently Rs.42. The put is:

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a) At the money b) Out of the money c) In the money d) Near the money 8) Which of the following has the right to sell an asset at a predetermined price? a) A put buyer. b) A call buyer c) A put writer d) A call writer 9) Which of the following is potentially obligated to sell an asset at a predetermined price? a) A put buyer. b) A call buyer c) A put writer d) A call writer 10) Which of the following is a major difference between swaps and futures contracts? a) Swaps are derivative securities, but futures contracts are not. b) Swaps are typically short term, whereas futures contracts tend to extend over several years. c) A futures contract involves only one future transaction, whereas a swap typically involves several future transactions. d) Swaps are usually marked to market, whereas futures contracts are not. 11) Why is the system of trading on margin practised in futures markets? a) to allow people to make high rates of profit b) to make futures contracts more readily tradable c) to reduce the risk of default on contracts d) to allow poor people to participate in futures trading 12) What advantage do over-the-counter derivatives have over exchange-traded derivatives? a) over-the-counter contracts are more readily tradable b) over-the-counter contracts are always for longer periods c) over-the-counter contracts are more flexible d) there is less risk of default on over-the-counter contracts 13) The buyer of a futures contract: a) goes long in the cash market because the contract requires him/her to take delivery of the underlying asset on the expiry date

b) goes short in the cash market because the contract requires her to deliver the underlying asset on the expiry date

c) goes short in the cash market because the contract requires her to take delivery of the underlying asset on the expiry date

d) goes long in the cash market because the contract requires her to deliver the underlying asset on the expiry date 14) Futures contracts seldom lead to the delivery of the underlying asset because: a) sellers of contracts frequently default b) either the buyer or the seller cannot meet margins payments c) holders of contracts reverse the contracts before delivery date; d) buyers of contracts frequently default

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e) the clearing house charges a penalty if contracts result in delivery 15) The relationship between the price of the underlying asset and the futures price is the result of: a) the standardization of exchange-traded contracts b) Liquidity c) Speculation d) the decisions of the clearing house in determining the settlement price e) aribtrage 16) The size of the initial margin payable on a futures contract is related to: a) the length of the contract b) the volatility of the price of the underlying asset c) the current open interest in the contract d) the number of contracts entered into by the buyer e) the past financial record of the buyer of the contract 17) When a contract is marked-to-market: a) one of the parties to the contract defaults b) delivery of the underlying asset occurs c) the contract is reversed d) the margins account of the contract holder is adjusted to reflect changes in prices in the underlying market e) the holder engages in arbitrage between the underlying market and the futures market 18) An option which gives the holder the right to sell a stock at a specified price at some time in the future is called a(n) a) Call option. b) Put option. c) Out-of-the-money option. d) Naked option. e) Covered option. 19) An example of a derivative security is ______. a) a common share of Infosys b) a call option on TCS stock c) a commodity futures contract d) B and C e) A and B 20) __________ are a way U. S. investor can invest in foreign companies. a) ADRs b) Interest rate futures c) Special Drawing Rights d) Futures. e) Interest Rate Swaps 21) The sale of a mortgage portfolio trough SPV by setting up mortgage pass-through securities is an example of ________. a) credit enhancement b) securitization c) unbundling d) derivatives e) none of the above

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22) Investment bankers perform the following role(s) ___________. a) market new stock and bond issues for firms b) provide advice to the firms as to market conditions, price, etc c) design securities with desirable properties d) all of the above e) none of the above 23) Important factors/trends changing the investment environment are : a) globalization. b) securitization. c) information and computer networks. d) financial engineering. e) all of the above 24) Although derivatives can be used as speculative instruments, businesses most often use them to a) attract customers. b) Please stockholders. c) offset debt. d) hedge. e) enhance their balance sheets. 25) Derivatives are: a) On-Balance Sheet item b) Off-Balance Sheet item c) P & L account item d) Cash flow fund flow item 26) Money market securities ____________. a) are short term b) pay a fixed income c) are highly marketable d) generally very low risk e) all of the above 27) The consideration for option contract is a sum of money called: a) Commission b) Option discount c) Option premium d) Option cost 28) Through which of the following we can lower the average cost of production? a) Economies of scale b) Economies of supply c) Economies of distribution d) Economies of markets.

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