Subject: Derivatives, Option & Future Instructions: Answer all the questions. Marks allotted 100.

0. Each Question carries equal marks. Word limit is 500 words per questions. General Instructions: The Student should submit this assignment in the handwritten form (not in the typed format) The Student should submit this assignment within the time specified by the exam dept Each Question mentioned in this assignment should be answered within the word limit specified The student should only use the Rule sheet papers for answering the questions. The student should attach this assignment paper with the answered papers. Failure to comply with the above Five instructions would lead to rejection of assignment

Question: 1 A. What does duration tell you about the sensitivity of a bond portfolio to interest rates? What are the limitations of the duration measure? B. When the zero curves are upward sloping, the zero rates for a particular maturity is greater than the par yield for that maturity. When the zero curves are downward sloping the reverse is true. Explain this is so. C. 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 today. Would require 102 ounces to be repaid in one year.). The riskfree interest rate is 9.25% per annum, and storage costs are 0.5% per annum. Discuss whether the rate of interest on the gold loan is too high or too low in relation to the rate of interest on the cash loan. The interest rates on the two loans are expressed with annual compounding. The risk-free interest rate and storage costs are expressed with continuous compounding.

Question: 2 A. A company enters into a forward contract with a bank to sell a foreign currency for K1 at times T1. The exchange rate at time T1 proves to be S1 (>K1). The company asks the bank

if it can roll the contract forward until time T2 (>T1) rather than settle at time T1. The bank agrees to a new delivery price, K2. Explain how K2 should be calculated. B. An investor is looking for arbitrage opportunities in the Treasury bond futures market. What complications are created by the fact that the part with a short position can choose to deliver any bond with a maturity over 15 years?

Question: 3 A. Mr. A is the portfolio manager in Osram Mutual Fund Company. He has a debt fund that has invested Rs 200 million in long term corporate debentures. He wants to convert the holding in to a synthetic floating rate portfolio. The portfolio pays 9% fixed return. Assume that a swap dealer offers 9 percent fixed MIBOR. a. What should Mr A do? b. What is the net payment? B. How does a futures market operate and how might it facilitate the trade in industrial and agricultural commodities? What are the consequences of the replacement of futures contracts by options? Should options trading be encouraged or discouraged in commodity markets?

Question: 4 A. Annual payments of $M must be made over a period of n years to redeem a mortgage. Derive the formula for the present value of this stream of payments. If the loan was for $150,000 and the rate of interest was fixed a 5% for the entire period, what should be the size of the annual payment in order to redeem the loan in 20 years time? B. (a) Explain how to create the following trading strategies: (i) A Bear spread using puts. (ii) A Butterfly spread. (iii) A Strangle. (b) For each of the above trading strategies, draw diagrams to reveal the potential profits and losses associated with each of these portfolios as a function of the spot price of the underlying asset at maturity. (c) Explain under which circumstances would you advise an investor to acquire each of the above trading strategies. (d) Establish and justify the formula for the putcall parity. 2