Question 1

A miller who needs wheat to mill to flour uses the futures market to protect a profit by:

Accepted Answer

A)  a long hedge to take delivery. 
B)  a short hedge to deliver. 
C)  buying futures to guard against a potential loss. 
D)  Both a long hedge to take delivery; and buying futures to guard against a potential loss. 
E)  Both a short hedge to deliver; and buying futures to guard against a potential loss. 
A)  a long hedge to take delivery. 
B)  a short hedge to deliver. 
C)  buying futures to guard against a potential loss. 
D)  Both a long hedge to take delivery; and buying futures to guard against a potential loss. 
E)  Both a short hedge to deliver; and buying futures to guard against a potential loss. D

Question 2

A bank has a $50 million mortgage bond risk position which it hedges in the Treasury bond futures markets at the Chicago Board of Trade. Approximately how many contracts are needed to be held in the hedge?

Accepted Answer

A)  5 
B)  50 
C)  500 
D)  5,000 
E)  50,000 
A)  5 
B)  50 
C)  500 
D)  5,000 
E)  50,000 C

Question 3

Duration is a measure of the:

Accepted Answer

A)  yield to maturity of a bond. 
B)  coupon yield of a bond. 
C)  price of a bond. 
D)  effective maturity of a bond. 
E)  All of 
A)  yield to maturity of a bond. 
B)  coupon yield of a bond. 
C)  price of a bond. 
D)  effective maturity of a bond. 
E)  All of D

Question 4

If a financial institution has equated the dollar effects of interest rate risk on its assets with the dollar effects on its liabilities,it has engaged in:

Accepted Answer

A)  a long hedge. 
B)  a short hedge. 
C)  a protected swap. 
D)  immunizing interest rate risk. 
E)  None of these. 
A)  a long hedge. 
B)  a short hedge. 
C)  a protected swap. 
D)  immunizing interest rate risk. 
E)  None of these.

Question 5

A swap is an arrangement for two counterparties to:

Accepted Answer

A)  exchange cash flows over time. 
B)  permit fluctuation in interest rates. 
C)  help exchange markets clear. 
D)  All of these. 
E)  None of these. 
A)  exchange cash flows over time. 
B)  permit fluctuation in interest rates. 
C)  help exchange markets clear. 
D)  All of these. 
E)  None of these.

Question 6

LIBOR stands for:

Accepted Answer

A)  Lausanne Interest Basis Offered Rate. 
B)  London International Offered Rate. 
C)  London Interbank Offered Rate. 
D)  London Interagency Offered Rate. 
E)  None of these. 
A)  Lausanne Interest Basis Offered Rate. 
B)  London International Offered Rate. 
C)  London Interbank Offered Rate. 
D)  London Interagency Offered Rate. 
E)  None of these.

Question 7

The main difference between a forward contract and a cash transaction is:

Accepted Answer

A)  only the cash transaction creates an obligation to perform. 
B)  a forward is performed at a later date while the cash transaction is performed immediately. 
C)  only one involves a deliverable instrument. 
D)  neither allows for hedging. 
E)  None of these. 
A)  only the cash transaction creates an obligation to perform. 
B)  a forward is performed at a later date while the cash transaction is performed immediately. 
C)  only one involves a deliverable instrument. 
D)  neither allows for hedging. 
E)  None of these.

Question 8

A financial institution has equity equal to one-tenth of its assets. If its asset duration is currently equal to its liability duration,then to immunize,the firm needs to:

Accepted Answer

A)  decrease the duration of its assets. 
B)  increase the duration of its assets. 
C)  decrease the duration of its liabilities. 
D)  do nothing, i.e., keep the duration of its liabilities equal to the duration of its assets. 
A)  decrease the duration of its assets. 
B)  increase the duration of its assets. 
C)  decrease the duration of its liabilities. 
D)  do nothing, i.e., keep the duration of its liabilities equal to the duration of its assets.

Question 9

Which of the following is true about the user of derivatives?

Accepted Answer

A)  Derivatives usually appear explicitly in the financial statements. 
B)  Academic surveys account for much of our knowledge of corporate derivatives use. 
C)  Smaller firms are more likely to use derivatives than large firms. 
D)  The most frequently used derivatives are commodity and equity futures. 
E)  None of these. are truE. 
A)  Derivatives usually appear explicitly in the financial statements. 
B)  Academic surveys account for much of our knowledge of corporate derivatives use. 
C)  Smaller firms are more likely to use derivatives than large firms. 
D)  The most frequently used derivatives are commodity and equity futures. 
E)  None of these. are truE.

Question 10

The duration of a 2 year annual 10% bond that is selling for par is:

Accepted Answer

A)  1.00 years. 
B)  1.91 years. 
C)  2.00 years. 
D)  2.09 years. 
E)  None of these. 
A)  1.00 years. 
B)  1.91 years. 
C)  2.00 years. 
D)  2.09 years. 
E)  None of these.

Question 11

A chocolate company which uses the futures market to lock in the price of cocoa to protect a profit is an example of:

Accepted Answer

A)  a long hedge. 
B)  a short hedge. 
C)  purchasing futures to guard against a potential loss. 
D)  Both a long hedge; and purchasing futures to guard against a potential loss. 
E)  Both a short hedge; and purchasing futures to guard against a potential loss. 
A)  a long hedge. 
B)  a short hedge. 
C)  purchasing futures to guard against a potential loss. 
D)  Both a long hedge; and purchasing futures to guard against a potential loss. 
E)  Both a short hedge; and purchasing futures to guard against a potential loss.

Question 12

The futures markets are labeled as pure speculation and even gambling. Why is this an inaccurate portrayal of the market's function?

Accepted Answer

There are several reasons:
The market se

Question 13

A mortgage banker had made loan commitments for $20 million in 3 months. How many contracts on Treasury bonds futures must the banker write or buy?

Accepted Answer

A)  Go short 20. 
B)  Go short 200. 
C)  Go long 20. 
D)  Go long 200. 
E)  None of these. 
A)  Go short 20. 
B)  Go short 200. 
C)  Go long 20. 
D)  Go long 200. 
E)  None of these.

Question 14

On June 1,you contract to take delivery of 1 ounce of gold for $965. The agreement is good for any day up to July 1. Throughout June,the price of gold hit a low of $960 and hit a high of $990. The price settled on June 30 at $980,and on July 1st you settle your futures agreement at that price. Your net cash flow is:

Accepted Answer

A)  -$20. 
B)  -$15. 
C)  -$5 
D)  $15. 
E)  $20. 
A)  -$20. 
B)  -$15. 
C)  -$5 
D)  $15. 
E)  $20.

Question 15

A bond manager who wishes to hold the bond with the greatest potential volatility would be wise to hold:

Accepted Answer

A)  short-term, high-coupon bonds. 
B)  long-term, low-coupon bonds. 
C)  long-term, zero-coupon bonds. 
D)  short-term, zero-coupon bonds. 
E)  short-term, low-coupon bonds. 
A)  short-term, high-coupon bonds. 
B)  long-term, low-coupon bonds. 
C)  long-term, zero-coupon bonds. 
D)  short-term, zero-coupon bonds. 
E)  short-term, low-coupon bonds.

Question 16

A financial institution can hedge its interest rate risk by:

Accepted Answer

A)  matching the duration of its assets to the duration of its liabilities. 
B)  setting the duration of its assets equal to half that of the duration of its liabilities. 
C)  matching the duration of its assets, weighted by the market value of its assets with the duration of its liabilities, weighted by the market value of its liabilities. 
D)  setting the duration of its assets, weighted by the market value of its assets to one half that of the duration of the liabilities, weighted by the market value of the liabilities. 
A)  matching the duration of its assets to the duration of its liabilities. 
B)  setting the duration of its assets equal to half that of the duration of its liabilities. 
C)  matching the duration of its assets, weighted by the market value of its assets with the duration of its liabilities, weighted by the market value of its liabilities. 
D)  setting the duration of its assets, weighted by the market value of its assets to one half that of the duration of the liabilities, weighted by the market value of the liabilities.

Question 17

Derivatives can be used to either hedge or speculate. These actions:

Accepted Answer

A)  increase risk in both cases. 
B)  decrease risk in both cases. 
C)  spread or minimize risk in both cases. 
D)  offset risk by hedging and increase risk by speculating. 
E)  offset risks by speculating and increase risk by hedging. 
A)  increase risk in both cases. 
B)  decrease risk in both cases. 
C)  spread or minimize risk in both cases. 
D)  offset risk by hedging and increase risk by speculating. 
E)  offset risks by speculating and increase risk by hedging.

Question 18

You have taken a short position in a futures contract on corn at $2.60 per bushel. Over the next 5 days the contract settled at 2.52,2.57,2.62,2.68,and 2.70. Before you can reverse your position in the futures market on the fifth day you are notified to complete delivery. What will you receive on delivery and what is the net amount you receive in total?

Accepted Answer

A)  $2.60; $-0.10 
B)  $2.60; $0.10 
C)  $2.60; $2.70 
D)  $2.70; $-0.10 
E)  $2.70; $2.60 
A)  $2.60; $-0.10 
B)  $2.60; $0.10 
C)  $2.60; $2.70 
D)  $2.70; $-0.10 
E)  $2.70; $2.60

Question 19

A set of bonds all have the same maturity. Which one has the least percentage price change for given shifts in interest rates:

Accepted Answer

A)  zero coupon bonds. 
B)  high coupon bonds. 
C)  low coupon bonds. 
D)  pure discount bonds. 
E)  not enough information to determinE. 
A)  zero coupon bonds. 
B)  high coupon bonds. 
C)  low coupon bonds. 
D)  pure discount bonds. 
E)  not enough information to determinE.

Question 20

Comparing long-term bonds with short-term bonds,long-term bonds are _____ volatile and therefore experience _____ price change than short-term bonds for the same interest rate shift.

Accepted Answer

A)  less; less 
B)  less; more 
C)  more; more 
D)  more; less 
E)  more; the same 
A)  less; less 
B)  less; more 
C)  more; more 
D)  more; less 
E)  more; the same

Exam 25: Derivatives and Hedging Risk

A miller who needs wheat to mill to flour uses the futures market to protect a profit by:

A bank has a $50 million mortgage bond risk position which it hedges in the Treasury bond futures markets at the Chicago Board of Trade. Approximately how many contracts are needed to be held in the hedge?

Duration is a measure of the:

If a financial institution has equated the dollar effects of interest rate risk on its assets with the dollar effects on its liabilities,it has engaged in:

A swap is an arrangement for two counterparties to:

LIBOR stands for:

The main difference between a forward contract and a cash transaction is:

A financial institution has equity equal to one-tenth of its assets. If its asset duration is currently equal to its liability duration,then to immunize,the firm needs to:

Which of the following is true about the user of derivatives?

The duration of a 2 year annual 10% bond that is selling for par is:

A chocolate company which uses the futures market to lock in the price of cocoa to protect a profit is an example of:

The futures markets are labeled as pure speculation and even gambling. Why is this an inaccurate portrayal of the market's function?

A mortgage banker had made loan commitments for $20 million in 3 months. How many contracts on Treasury bonds futures must the banker write or buy?

A bond manager who wishes to hold the bond with the greatest potential volatility would be wise to hold:

A financial institution can hedge its interest rate risk by:

Derivatives can be used to either hedge or speculate. These actions:

A set of bonds all have the same maturity. Which one has the least percentage price change for given shifts in interest rates:

Comparing long-term bonds with short-term bonds,long-term bonds are _____ volatile and therefore experience _____ price change than short-term bonds for the same interest rate shift.

Introduction to Corporate Finance

Financial Statements and Cash Flow

Financial Statements Analysis and Financial Models

Discounted Cash Flow Valuation

Net Present Value and Other Investment Rules

Making Capital Investment Decisions

Risk Analysis, Real Options, and Capital Budgeting

Interest Rates and Bond Valuation

Stock Valuation

Risk and Return: Lessons From Market History

Return and Risk: the Capital Asset Pricing Model Capm

An Alternative View of Risk and Return: The Arbitrage Pricing Theory

Risk, Cost of Capital, and Valuation

Efficient Capital Markets and Behavioral Challenges

Long-Term Financing

Capital Structure: Basic Concepts

Capital Structure: Limits to the Use of Debt

Valuation and Capital Budgeting for the Levered Firm

Dividends and Other Payouts

Raising Capital

Leasing

Options and Corporate Finance

Options and Corporate Finance: Extensions and Applications

Warrants and Convertibles

Short-Term Finance and Planning

Cash Management

Credit and Inventory Management

Mergers, Acquisitions, and Divestitures

Financial Distress

International Corporate Finance

Filters

Comparing long-term bonds with short-term bonds,long-term bonds are _ volatile and therefore experience _ price change than short-term bonds for the same interest rate shift.