Derivatives

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Question
1 of 20

Relative to spot markets, one key feature of derivatives markets is:

low capital requirements.
high transaction costs.
restrictions on short selling.
Question not answered

Derivatives markets provide the benefit of low capital requirements to hedgers and speculators.
CFA Level I
"Derivative Markets and Instruments," Don M. Chance
Section 6.2
Question
2 of 20

Which of the following statements best describes a feature of an options contract? In an options
contract:
only the long can default.
both the long and the short can default.
only the short can default.
Question not answered

Only the short can default. This scenario occurs when the long exercises the option and the short
fails to fulfill its obligation under the contract.

2014 CFA Level I

"Derivatives Markets and Instruments," by Don M. Chance
Section 4.2.1
Question
3 of 20

An investor purchases ABC stock at $71 per share and executes a protective put strategy. The put
option used in the strategy has a strike price of $66, expires in two months, and is purchased for
$1.45. At expiration, the protective put strategy breaks even when the price of ABC is closest to:
$72.45.
$64.55.
$67.45.
Question not answered

To break even, the underlying stock must be at least as high as the amount expended up front to
establish the position. To establish the protective put, the investor would have spent $71 + $1.45 =
$72.45.
CFA Level I
"Risk Management Applications of Option Strategies," Don M. Chance
Section 2.2.2
Question
4 of 20

The price of a forward contract most likely:

decreases as the price of the underlying goes up.
is constant and set as part of the contract specifications.
increases as market risk increases.
Question not answered

The price of a forward contract remains constant throughout the life of the contract. It is set as part
of the contract specifications.
CFA Level I
"Basics of Derivative Pricing and Valuation," Don M. Chance
Section 2.4
Question
5 of 20

The price of an interest rate swap that involves the exchange of a fixed payment for a floating
payment is most likely:
equal to its value at expiration.
affected by changes in the floating payment.

set at initiation and constant over time.

Question not answered

Swaps have both a price and a value. Price in the context of a swap is a reference to the fixed rate
payment on the swap which is constant over time. The value of a swap is zero at initiation but can
change over the life of the swap as market interest rates change.
CFA Level I
"Basics of Derivative Pricing and Valuation," Don M. Chance
Section 3.3
Question
6 of 20

An investor with $5,000 to invest believes that the price of ABC Corp. stock will appreciate by $7 to
$95 in two months. The two-month at-the-money put on one share of ABC stock costs $1.76,
whereas the two-month at-the-money call costs $1.56. To profit from his view on ABC stock, he
will most likely:
buy calls on shares of ABC.
sell puts on shares of ABC.
sell calls on shares of ABC.
Question not answered

Buying a call gives the owner the right to buy the stock at the exercise price. The investor predicts
that the stock will increase to $95 at the end of two months. He will likely be able to sell his calls for
at least $7 and realize a profit.
CFA Level I
"Risk Management Applications of Option Strategies," Don M. Chance
Section 2.1
Question
7 of 20

If the exercise price of a European put option at expiration is below the price of the underlying, the
value of the option is most likely:
greater than zero.
equal to zero.
less than zero.
Question not answered

If the exercise price of a European put option is below the underlying price at expiration, the option
is worthless and has a value of zero.
CFA Level I
"Basics of Derivative Pricing and Valuation," Don M. Chance
Section 4.1.1

Question
8 of 20

An investor has purchased a share of stock for $190. A call option on this stock, expiring in seven
months and with an exercise price of $200, is priced at $11.40. If the investor enters into a covered
call now, the profit on this strategy if the stock price at expiration is $215 is closest to:
$21.40.
$28.60.
$3.60.
Question not answered

The profit on a covered call is calculated as follows:

= $215 $190 max(0, $215 $200) + $11.40 = $21.40.

CFA Level I
Risk Management Applications of Option Strategies, Don M. Chance
Section 2.2.1
Question
9 of 20

Over time, a forward contract most likely has variable:

price and constant value.
value and variable price.
value and constant price.
Question not answered

The price of a forward contract remains constant throughout its life. It is set as part of the contract
specifications. The value varies with changes in the price of the underlying.
CFA Level I
"Basics of Derivative Pricing and Valuation," Don M. Chance
Section 2.4
Question
10 of 20

If the implied volatility for options on a broad-based equity market index goes up, then it is most
likely that:
the broad-based equity market index has gone up in value.
the general level of market uncertainty has gone up.
market interest rates have gone up.

Question not answered

One benefit of derivatives markets is information discovery. Implied volatility reveals information
about the risk of the underlying. Increases in implied volatility are an implication of increased market
uncertainty.
CFA Level I
Derivative Markets and Instruments, Don M. Chance
Section 5.2
Question
11 of 20

Exercise of a European put option is most likely justified if:

the exercise value is negative.
the exercise price exceeds the value of the underlying.
the option is out-of-the-money.
Question not answered

If the exercise price exceeds the value of the underlying at expiration, the option has positive
exercise value and may be exercised.
CFA Level I
"Basics of Derivative Pricing and Valuation," Don M. Chance
Section 4.1.1
Question
12 of 20

All, else held equal, the value of a European call option is best characterized as having a:
negative relationship with the price of the underlying.
negative relationship with the volatility of the underlying.
positive relationship with the time to expiration.
Question not answered

The value of a European call option is directly related to the time to expiration. That is all else held
equal, the value of a European call option is higher the longer the time to expiration.
CFA Level I
"Basics of Derivative Pricing and Valuation," Don M. Chance
Section 4.1.4
Question
13 of 20

If dividends paid by the underlying increase, the value of a European call option will most likely:
not change.
increase.

decrease.
Question not answered

A European call option is worth less the more dividends are paid by the underlying.
CFA Level I
"Basics of Derivative Pricing and Valuation," Don M. Chance
Section 4.1.7
Question
14 of 20

The value of a long position in a forward contract at expiration is best defined as:
forward price agreed in the contract minus spot price of the underlying.
spot price of the underlying minus forward price agreed in the contract.
value of the forward at initiation minus spot price of the underlying.
Question not answered

The value of a long position in a forward contract at expiration is defined as spot price of the
underlying minus forward price agreed in the contract.
CFA Level I
"Basics of Derivative Pricing and Valuation," Don M. Chance
Section 3.1.1
Question
15 of 20

A swap that involves the exchange of a fixed payment for a floating payment is most
likely equivalent to a series of:
off-market forward contracts.
forward contracts that all have an initial value equal to the fixed payment.
forward contracts that all have an initial positive value .
Question not answered

Since the cost of carrying an asset over different time periods will vary, the values of the implicit
forward contracts embedded in the swap will not be equal., some maybe positive and some maybe
negative. Off-market forward contracts satisfy this condition, as they can be set at any value.
CFA Level I
"Basics of Derivative Pricing and Valuation," Don M. Chance
Section 3.3
Question
16 of 20

At expiration, an option that is in-the-money will most likely have:

both time value and exercise value.

exercise value, but no time value.

time value, but no exercise value.
Question not answered

At expiration, options have no time value, but if they are in-the-money, they have exercise value.
CFA Level I
"Basics of Derivative Pricing and Valuation," Don M. Chance
Sections 4.1.3 and 4.1.4
Question
17 of 20

Which of the following is least likely one of the main benefits of derivative markets? Derivative
markets:
enable companies to more easily practice risk management.
exhibit lower volatility compared with the spot market.
reveal prices and volatility of the underlying assets.
Question not answered

Derivative markets are not necessarily more or less volatile than spot markets. Derivative markets
reveal prices and volatilities of the underlying assets and facilitate risk management.
CFA Level I
"Derivative Markets and Instruments," Don M. Chance
Section 5
Question
18 of 20

If a forward contract requires no cash outlay at initiation, it is most likely true that at initiation:
price exceeds value.
price is equal to value.
value exceeds price.
Question not answered

At initiation, value is equal to zero. Price is a positive number which states the amount that must be
paid when the purchase takes place.
CFA Level I
"Basics of Derivative Pricing and Valuation," Don M. Chance
Section 2.4
Question
19 of 20

In contrast to over-the-counter options, futures contracts most likely:

represent a right rather than a commitment.

are private, customized transactions.
are not exposed to default risk.
Question not answered

Over-the-counter options are exposed to default risk, but futures contracts are standardized
transactions that take place on futures exchanges and are not exposed to default risk.
CFA Level I
"Derivative Markets and Instruments," Don M. Chance
Sections 2 and 3
Question
20 of 20

Which of these is best classified as a forward commitment?

A convertible bond
A call option
A swap agreement
Question not answered

A swap agreement is equivalent to a series of forward agreements, which can be described as

forward commitments.
2014 CFA Level I
"Derivative Markets and Instruments," by Don M. Chance
Section 2