Derivative Valuation and Analysis (1 -30)
1.
The portion of an option contract’s value represented by the value that would be realised if exercised immediately is called the:
A.
Time value.
B.
Intrinsic value.
C.
Premium value.
D.
At-the-money value.
2.
Which of the following is least correct about over-the-counter (OTC) market?
A.
OTC market is an important alternative to exchanges.
B.
Trades in OTC markets are relatively smaller than trades in exchanges.
C.
OTC contract terms are not specified by exchanges.
D.
Parties to OTC are exposed to certain form of credit risk.
3.
You write (sell) a call option on bond futures contracts with a strike price of N1,175.
Which of the following statements best describes your position? You have:
A.
The right but not the obligation to sell bond futures contracts at N1,175
B.
An obligation to sell bond futures contracts at N1,175
C.
The right but not the obligation to buy bond futures contracts at N1,175
D.
An obligation to buy bond futures contracts at N1,175
4.
A put option is “in-the-money” when what is true? The price of the underlying asset is:
A.
Lower than the exercise price of the option at any time.
B.
Higher than the exercise price of the option at any time.
C.
Lower than the exercise price of the option at expiration.
D.
Higher that the exercise price of the option at maturity.
5.
Which of the following is true of options?
A.
Options are traded on the exchanges only and not in the OTC market.
B.
American options can be executed only at the expiration of the contract.
C.
European options are generally easier to analyze than American options.
D.
An option gives the holder the obligation to buy or sell the underlying assets.
6.
Which of the following statements best describes arbitrage? Making a:
A.
Return in excess of the risk-free rate of interest.
B.
Profit with no risk.
C.
Profit from all identifiable payoffs.
D.
Profit with no risk and no investment.
7.
Which of the following position provides the best hedge against a decrease in stock prices?
A.
Buy stock futures contracts.
B.
Sell stock futures contracts.
C.
Buy call options on stock futures contracts.
D.
Sell call options on stock futures contracts.
8.
Which of the following statements is incorrect?
A.
Hedgers trade to reduce some pre-existing risk exposure.
B.
The clearinghouse guarantees that traders in the futures market will honour their obligations.
C.
If an account rises to or exceeds the maintenance margin, the trader must deposit variation margin.
D.
In marking-to-market, any losses for the day are removed from the trader’s account, and any gains are added to the trader’s account.

9.
The theoretical price of a forward contract:
A.
Equations the long’s expectation of the future price of the underlying asset.
B.
Is always greater than the current price of the underlying asset.
C.
Is the no-arbitrage price.
D.
Is always less than the current price of the underlying asset.
10.
An investor buys a put option on stock that she owns. Which of the following best describes the total return of her position as compared to the return from the stock alone if the stock price stays the same?
A.
Significantly higher return.
B.
Slightly higher return.
C.
Slightly lower return.
D.
Significantly lower return.
11.
A decrease in the market rate of interest will:
A.
Increase put and call prices.
B.
Decrease put and call prices.
C.
Decrease put prices and increase call prices.
D.
Increase put prices and decrease call prices.
12.
The payoff on an interest rate option:
A.
Comes only at exercise.
B.
Is periodic, typically every 90 days.
C.
Is always positive.
D.
Comes some period after option expiration.
13.
A stock is selling at N40, a 3-month put at N50 is selling for N11, a 3-month call at
N50 is selling for N1 and the risk-free rate is 6%. How much, if anything, can be made on an arbitrage?
A.
N0 (no arbitrage)
B.
N0.28
C.
N0.72
D.
N2.83
14.
Which of the following market prices would be rational for an American call option that is similar in all respect to a European call option selling for N3.75?
A.
N2.75
B.
N3.25
C.
N3.50
D.
N4.00
15.
A company is due to receive a certain amount of revenue in foreign currency in three months. What type of option contract is appropriate for hedging?
A.
A short position in call option in three month.
B.
A long position in call option in three month.
C.
A long position in put option in three month.
D.
A short position in put option in three month.
16.
When an investor chooses to use futures markets to hedge a risk, his primary aim is:
A.
To take a position that neutralizes the risk as far as possible.
B.
To make superior gains by taking higher risk.
C.
To prevent exposing himself to default risk.
D.
To lock in a riskless profit by simultaneously enter into transactions in two or more markets.
17.
You are given the following information about a call option on QPR stock:
Stock price: N42
Exercise Price: N40
Risk-free rate: 10% per annum
Volatility: 20% per annum

Time to expiration: 6 months
Which of the following variables required in valuing the call option, using the Black -
Scholes formula, is incorrect?
A.
S o
= 42
B.
T = 6
C.
σ = 0.04
D.
(B) and (C) above.
18.
The writing of covered calls does all of the following except:
A.
Requires no cash margin deposit.
B.
Caps the value of the combined positions.
C.
Places a floor on the value of the combined positions.
D.
Generates income not available through holding the long position alone.
19.
If options are identical in all other respects than what is listed below, which of the following is true?
A.
The put with the higher strike price will be worth more.
B.
The call with the higher strike price will be worth more.
C.
The option most near expiration will be worth more.
D.
The American call will always be worth more than the European call.
20.
Which of the following variables would not result in an increase in the value of a call option?
A.
The passage of time.
B.
An increase in the risk-free rate.
C.
An increase in the stock price.
D.
Greater volatility of the price of the underlying shares.
21.
Given the following information about a 1-year European put option, what is the value of the corresponding European call option?
• Value of the put option is N14
• Current stock price is N75
• Strike price is N85
• Risk-free rate is 6%
A.
N8.95
B.
N9.05
C.
N9.35
D.
N9.85
22.
Which of these derivative instruments is/are not a type of contingent claim?
I.
Options.
II.
Forward contract.
III.
Futures.
A.
I only.
B.
I and II only.
C.
II and III only.
D.
All of the above.
23.
As convergence occurs:
A.
The basis between the cash price and future price becomes wider.
B.
The basis between the cash price and future price remains the same.
C.
The basis between the cash price and future price becomes smaller.
D.
None of the above.

24.
The price at which the buyer of a put option can sell the stock during the life of the option is called:
A.
Exercise price.
B.
Bid price.
C.
Call price.
D.
Premium price.
25.
Which of these is not a feature of derivative instruments?
A.
They are highly leveraged.
B.
They could be very complex.
C.
They could be risky for small investors.
D.
None of the above.
26.
The daily process of adjusting the margin in futures account is called:
A.
Maintenance margin.
B.
Marking–to-market.
C.
Variation margin.
D.
None of the Above.
27.
Tom bought a speculative put with a strike price of N65 for a premium of N3 at a time the stock was trading at N66. On expiry the underlying stock is trading at a price of N63. What is Tom's profit or loss?
A.
N2 profit.
B.
N3 profit.
C.
N1 loss.
D.
N5 loss.
28.
The short in a deliverable forward contract:
A.
Makes a cash settlement to the long at settlement.
B.
Is obligated to deliver the specific asset.
C.
To receive payment at contract initiation.
D.
Has no default risk.
29.
To lock-in a future selling price, an owner of an assets should employ a(n):
A.
Short hedge.
B.
Long hedge.
C.
Cross hedge.
D.
Uncrossed hedge.
30.
When using a regression analysis to compute a hedge ratio, the hedge ratio will be equal to the:
A.
Intercept of the regression.
B.
Slope coefficient of the regression.
C.
Correlation coefficient of the regression.
D.
Coefficient of determination of the regression.
Portfolio Management (31 - 70)
31.
Investors can expect to be compensated for:
A.
Systematic risk.
B.
Company-specific risk.
C.
Total risk.
D.
Market risk and diversifiable risk.
32.
What is the required rate of return for a stock with a beta of 0.7, when the risk-free rate is 7 percent and the market is offering 14 percent?
A.
11.9%
B.
14.0%
C.
14.9%
D.
16.8%

33.
If the market’s perception of risk increases, the security market line (SML) will:
A.
Rotate clockwise.
B.
Rotate counterclockwise.
C.
Shift upward parallel to the original SML.
D.
Shift downward parallel to the original SML.
34.
As the number of stocks in a portfolio is increased, the systematic risk will:
A.
Remain constant.
B.
Increase at a decreasing rate.
C.
Decrease at a decreasing rate.
D.
Decrease at an increasing rate.
35.
The risk-free rate is 5 percent and the expected market return is 15 percent. An investor sees a stock with a beta of 1.2 selling for N25 that will pay a N1 dividend next year. If he thinks the stock will be selling for N30 at year end, he should:
A.
Buy it, because it is overpriced.
B.
Sell it, because it is overpriced.
C.
Buy it, because it is underpriced.
D.
Sell it, because it is underpriced.
36.
Based on the concept of the Markowitz efficient frontier, which portfolio would an investor prefer to own?
Return Standard Deviation
A.
B.
C.
D.
13%
15%
15%
9%
37.
Which of the following methods of calculating investment performance reflects the impact of the timing of each flow into and out of the portfolio?
A.
Money-weighted rate of return.
B.
Simple average rate of return.
C.
Time-weighted.
D.
Geometric average.
38.
The standard deviation of a two-stock portfolio generally:
A.
Is less than the weighted average of the two stock’s standard deviations.
B.
Is equal to the weighted average of the two stocks’ standard deviations.
C.
Is greater than the weighted average of the two stocks’ standard deviations.
D.
May be less than, equal to, or greater than the weighted average of the two stocks’ standard deviations.
39.
“A portfolio that has the same Treynor ratio as the market is an efficient portfolio”. Is this statement always true?
A.
Yes, always true.
B.
No, always false.
C.
Not necessarily.
D.
More information is needed.
40.
Following the constant mix strategy, ___________
A.
You buy high and sell low.
B.
You buy low and sell high.
C.
You don’t enter any transaction.
D.
None of the above.

41.
The required rate of return on a security is a function of:
I.
The risk premium for the investment.
II.
The real risk-free rate.
III.
The expected rate of inflation.
A.
I and II only.
B.
I and III only.
C.
II and III only.
D.
All of the above.
42.
The following table shows the trading activity of a portfolio over a three-year period:
Yr Transaction Shares traded (units) Price (N)
0 Buy
1 Buy
2 Buy
3 Sell
100
200
300
600
100
132
144
The portfolio time-weighted return is nearest to:
A.
13%
B.
12.90%
C.
11.60%
D.
9.67%
43.
You bought the stock of Second plc for N25. You sold the stock for N27 after 90 days. No dividend was paid during the interval. Convention = 30/360. The annualized simple and continuous return is:
A.
Simple return %
32.00%
Continuously compounded return %
B.
27.76%
C.
36.05%
D.
30.79%
44.
A stock has beta factor of 1.8 and required return of 14%. If market return is 10%, determine the return required on a stock with beta of 0.
A.
0%
B.
10%
C.
5%
D.
1%
45.
Which of the following statements about co-variance and correlation is false?
A.
Positive covariance means that asset return move together.
B.
A zero covariance implies there is no linear relationship between the two variables.
C.
If two assets have perfect negative correlation, it is impossible to reduce the portfolio’s overall variance.
D.
The covariance of a two-stock portfolio is equal to the correlation coefficient times the standard deviation of one stock times the standard deviation of the other stock.
46.
A liquid asset may:
A.
Be converted into cash.
B.
Be converted into cash with little chance of loss.
C.
Not be converted into cash.
D.
Not be converted without loss.
47.
Hedge funds may invest or engage in ________
A.
Convertible bonds.
B.
Currency speculation.
C.
Merger arbitrage.
D.
All of the above.

48.
Which of the following should you use to compare the performance of different fund managers?
A.
The internal rate of return.
B.
The time–weighted rate of return.
C.
The money-weighted rate of return.
D.
Simple average rate of return.
49.
A portfolio to the right of the market portfolio on the CML is:
A.
A lending portfolio.
B.
A borrowing portfolio.
C.
An inefficient portfolio.
D.
An impossible portfolio.
50.
According to the theory of arbitrage:
A.
High-beta stocks are consistently overpriced.
B.
Low-beta stocks are consistently overpriced.
C.
Positive alpha will quickly disappear.
D.
Rational investors will arbitrage consistent with their risk tolerance.
51.
A common characteristic of CAPM; index and market models is:
A.
They are each multifactor models.
B.
They each assume that there is no residual error.
C.
They assume the expected return of a security is related only to one factor and that the market index can be used as a proxy for that factor.
D.
None of the above.
52.
Which of the following statements about the SML and the CML is false?
A.
Securities that plot above the SML are undervalued.
B.
Investors expect to be compensated for systematic risk.
C.
The market portfolio consists of all the risky assets in the universe.
D.
Securities that fall on the SML have no intrinsic value to the investor.
53.
Contingent immunization is:
A.
Is a mixed-active passive bond portfolio management strategy.
B.
Is a strategy whereby the portfolio may or may not be immunized.
C.
Is a strategy whereby if and when some trigger point value of the portfolio is reached, the portfolio is immunized to insure a minimum required return.
D.
All of the above.
54.
Which of the following statements about investment policy statements is true?
A.
For some investors, specifying an investment goal in terms of return alone is appropriate.
B.
An investment policy statement should be objectives and constraints.
C.
Risk is an important investment policy constraint.
D.
Taxes are the most important legal constraint.
55.
The return objective of an investor who is relatively risk averse yet has a long time horizon and little need for liquidity would most likely be described as:
A.
Capital preservation.
B.
Capital appreciation.
C.
Total return.
D.
Long-term appreciation.
56.
Which of the following actions is most accurately associated with tactical asset allocation?
A.
Investment decisions with a long term perspective.
B.
Investment decisions that do not emphasize current market conditions.
C.
Investment decisions with a primary goal of maximizing return.
D.
Investment decisions that do not depend on ability to diversity.

57.
The strong-form EMH asserts that stock prices fully reflect which of the following types of information?
A.
Market.
B.
Market and public.
C.
Public and private.
D.
Public, private and future.
58.
A random walk occurs when:
A.
Stock price changes are random but predictable.
B.
Stock prices respond slowly to both new and old information.
C.
Future price changes are uncorrelated with past price changes.
D.
Past information is useful in predicting future prices.
59.
Assume the following data:
Analyst’s portfolio
Risk-matched market portfolio
Beginning price
Ending price
Cash Flow
During the year
N40 N41 N6.00
N10 N11 N0.25
How does the analyst portfolio performance compare to the risk-matched portfolio performance?
A.
Equal.
B.
Inferior.
C.
Superior.
D.
Slightly worse.
60.
In an efficient market, __________
A.
Security prices react quickly to new information.
B.
Security prices are seldom far above or below their justified levels.
C.
One cannot make money.
D.
(A) and (B) above.
61.
What is the monthly average return for a stock whose yearly simple return has been
47%?
A.
3.26%
B.
3.92%
C.
10.11%
D.
47.00%
62.
Index futures are used for which of these purposes?
A.
To hedge against rising share prices.
B.
To hedge against falling prices.
C.
For adjusting the beta of a stock portfolio.
D.
All of the above.
63.
Consider a portfolio that has generated the following returns over three consecutive periods: 15%, 5% and -10%. What is the total return of the portfolio for all three periods?
A.
3.33%
B.
8.68%
C.
10.00%
D.
Cannot conclude as period lengths are unknown.
64.
Suppose two portfolios A and B have the same average return, the same standard deviation of returns, but portfolio A has a lower beta than portfolio B. According to the Sharpe ratio, the performance of portfolio A:
A.
Is poorer than the performance of portfolio B.
B.
Is the same as the performance of portfolio B.
C.
Is better than the performance of portfolio B.
D.
None of the above.

65.
In the absence of inflation and uncertainty of return, the required rate of return of a give investment for a given time to maturity would be:
A.
Less than the real risk free rate of return.
B.
Greater than the real risk free rate of return.
C.
Equal to the real risk free rate of return.
D.
None of the above.
66.
The return of a portfolio consisting of n assets depends on which of the following?
I.
Weight of each asset in the portfolio.
II.
Return of each asset in the portfolio.
III.
Correlations between the assets.
A.
I and II only.
B.
I and III only.
C.
II and III only.
D.
All of the above.
67.
A regression analysis is required to calculate:
I.
Treynor’s measure.
II.
Jensen’s alpha.
III.
Appraisal ratio.
A.
I and II only.
B.
I and III only.
C.
II and III only.
D.
All of the above.
68.
Which of the following statements regarding human capital is (are) true?
I.
Human capital represents the investor’s capacity to generate income by working.
II.
Human capital represents investors’ accumulated savings.
A.
I only.
B.
II only.
C.
I and II above.
D.
Neither of the above.
69.
An analysts has gathered the following data about a stock:
• A beta of 1.375
• The actual return of 10.5%
• The market rate of return is 6%
• The risk-free rate 2%
What is the abnormal return of the stock?
A.
2%
B.
3%
C.
4%
D.
5%
70.
Consider the following two investment with the given expected return and standard deviations:
Expected
Return
Standard
Deviation
Investment A 0.10 0.07
Investment B 0.15 0.09
Which is the riskier of the two investments based on the coefficient of variation?
A.
Investment A.
B.
Investment B.
C.
(A) and (B) above.
D.
Insufficient data to conclude.

Commodity Trading and Futures (71 - 100)
71.
Consider two assets with identical storage costs. For the asset with greater convenience yield, the percentage difference between the no-arbitrage price and the spot price will be:
A.
Lower any time prior to expiration.
B.
Greater at contract initiation but the same at expiration.
C.
Greater throughout the term of contract.
D.
Zero from initiation to maturity.
72.
If interest rates rise, assuming all else equal, the spread between the futures price minus the spot price for new contracts on gold:
A.
If positive would become larger.
B.
If positive would become smaller.
C.
If negative would become larger in absolute value terms.
D.
Would probably not be affected.
73.
With respect to the category of futures contracts that are on a “physical deliverable,” all of the following qualify as an underlying except:
A.
Silver.
B.
Live cattle.
C.
Natural gas.
D.
A treasury bond.
74.
The most often-used method for ending a futures contract is by:
A.
Default.
B.
Delivery.
C.
An exchange for physicals.
D.
An offsetting trade or reversal.
75.
The cost of holding an asset over time is called:
A.
Cost of asset.
B.
Cost of carry.
C.
Intrinsic value.
D.
None of the above.
76.
The first use of derivatives contract was:
A.
To manage price uncertainty.
B.
For speculation.
C.
For arbitrage.
D.
None of the above.
77.
What is the continuously compounded rate for an asset with a 10 percent stated annual interest rate?
A.
0.09531
B.
0.09999
C.
0.10000
D.
0.10530
78.
Which of the following best describes open interest?
A.
The sum of long and short positions awaiting delivery.
B.
The total of all long or short positions awaiting delivery.
C.
Daily volume in contracts less deliveries made.
D.
The difference between the number of long and short positions held by the clearinghouse.
79.
The spot price for gold is N332 and the 1-year futures price is N351. What is the implied repo rate?
A.
0.0
B.
0.027
C.
0.0541
D.
0.0572

80.
All of the following are elements of the cost of carry except:
A.
Storage.
B.
Licensing.
C.
Transportation.
D.
Financing costs.
81.
Which of the following is not a source of hedging error?
A.
Basis risk.
B.
Estimation error of a regression.
C.
The duration of the hedged instrument may be incorrectly estimated.
D.
High correlation between the asset underlying the futures contract and the asset being hedged.
82.
The margin is charged so as to cover _________ that can be encountered on the position of the days.
A.
One day loss.
B.
One week loss.
C.
One month loss.
D.
One trading period loss.
83.
The spot price of silver is N1,537.50 and the futures price is N1,605.00. Ignoring storage costs estimate the annualized 6-month interest rate, use continuous rate.
A.
– 1.43%
B.
4.31%
C.
8.59%
D.
6.75%
84.
What is another name for counterparty risk?
A.
Liquidity risk.
B.
Novation risk.
C.
Credit risk.
D.
Exchange risk.
85.
Which of the following statements regarding normal backwardation is correct?
Futures prices tend to:
A.
Rise over the life of the contract because hedgers are net long and have to receive compensation for bearing risk.
B.
Rise over the life of the contract because speculators are net long and have to receive compensation for bearing risk.
C.
Fall over the life of the contract because hedgers are net short and have to receive compensation for bearing risk.
D.
None of the above.
86.
When calculating the theoretical price of a commodity future contract, you do not need:
A.
The spot price of the underlying commodity.
B.
The volatility of the underlying commodity.
C.
The risk free rate.
D.
The cost of storage for the underlying commodity.
87.
What is the closing price of the underlying commodity on the last trading day of the futures contract?
A.
Market price.
B.
Final settlement price.
C.
Auction price.
D.
Daily settlement price.

88.
Which of the following features differentiates a commodity futures contract from a financial futures contract?
A.
Standardised contract size.
B.
Margin requirements.
C.
Varying quality of underlying asset.
D.
Exchange traded product.
89.
A commodity trader buys futures contract when:
A.
The futures price is equal to the expected spot price of the underlying at maturity.
B.
The futures price is higher than the expected than the expected spot price of the underlying at maturity.
C.
The futures price is lower than the expected spot price of the underlying at maturity.
D.
There is great interest volatility in the market.
90.
The optimal hedge ratio to protect oneself form market fluctuation, can be determined considering:
I.
The variance of the future.
II.
The covariance between the future and the spot.
A.
I only.
B.
II only.
C.
I and II above.
D.
Neither of the above.
91.
Suppose you buy 3 futures contracts on crude oil maturing in October at
N1,320/barrel. The initial margin is N800,000 per contract and the maintenance margin is N600,000 per contract. The contract size is 5,000 barrels. What futures price change will cause a margin call?
A.
- N1,200/barrel.
B.
– N40/barrel.
C.
+ N40/barrel.
D.
+ N1,200 barrel.
92.
The best measure of the amount of credit risk exposure for a forward contract, at a point in time, is the:
A.
Liabilities of the counterparty.
B.
Value of the contract.
C.
Notional amount of the contract.
D.
Asset of the counterparty.
93.
Which of the following is not a fraction of crude oil?
A.
Gas oil.
B.
Naphtha.
C.
Natural gas
D.
Kerosene.
94.
Which of the following is the correct formula for calculating basis?
A.
Cash – Futures.
B.
Cash + Futures.
C.
Cash – Futures + Interest charges.
D.
Cash + Futures - Interest charges.
95.
Contango is where:
A.
Bid prices are lower than offer prices.
B.
Futures are more expensive than cash prices.
C.
The cash price is higher than the futures price.
D.
Market volatility increases.

96.
An increase in the delta of a copper call option is mostly to result in:
A.
An increase in various margin for the long position.
B.
An increase in variation margin for the short position.
C.
A decrease in various margin for the long position.
D.
A decrease in various margin for the short position.
97.
Which of the following countries is not in OPEC?
A.
Iraq.
B.
Saudi Arabia.
C.
Russia.
D.
Venezuela.
98.
What is the purpose of ISDA definitions?
A.
To provide market participants with added security in the event of default.
B.
To define the events of default.
C.
To define what collateral is acceptable and the terms of use.
D.
To define the terms that are used in confirmation.
99.
What is the definition of fair value?
A.
The price of a future that makes it equivalent in economic value to the underlying asset.
B.
The difference between the price of a future and the price of the underlying asset.
C.
The same as the value of the basis.
D.
The future price in a contango market.
100.
Which of the following statements about a stop order is true?
A.
It is given to interrupt/cancel a previous order issued in error.
B.
It becomes active at the beginning of the next day’s trading.
C.
It might not be executed at the specified price.
D.
It is issued by the exchange.
Total = 100 marks

1)
Black and Scholes Options pricing model:
2)
2)
;
General cost of carry relationship:
3) Continuous time cost of carry relationship:
4) Determinants of Options Price:
5) Correlation/Covariance:
6) Static portfolio insurance using put option:
7) Hedging with Stock Index Futures:
8) Risk adjusted performance measures:
;
9)
Binomial Option Valuation Model: