Derivative Valuation and Analysis (1 -30)
1.
Which of the following is the main reason for the existence of derivatives?
A.
They help shift risk from risk-averse investors to risk-takers.
B.
They help shift risk from risk-takers to risk-averse investors.
C.
They allow investors to speculate.
D.
They allow investors to purchase assets with less risk.
2.
If you enter into a forward contract agreeing to purchase an asset at a specified price at a future specified date, you would be:
A.
Short forward.
B.
Long forward.
C.
Long futures.
D.
Short futures.
3.
Futures differ from forward contracts because:
A.
Forwards have less liquidity risk.
B.
Futures have less credit risk.
C.
Futures have less maturity risk.
D.
Forwards are marked to market.
4.
Consider a stock that is currently trading at N25. What is the intrinsic value for a call option that has an exercise price of N35?
A.
N25
B.
N35
C.
- N10
D.
N0
5.
Futures contract can be used by portfolio managers to:
A.
Protect the investment portfolio against inflation in the economy.
B.
Seek protection against the increasing volatility of interest rates.
C.
Adjust asset allocation.
D.
(B) and (C) above.
6.
A call option differs from a put option in that:
A.
A call option obliges the investor to purchase a given number of shares in a specific ordinary share at a set price; a put obliges the investor to sell a certain number of shares in a ordinary share at a set price.
B.
Both give the investor the opportunity to participate in stock market dealings without the risk of actual stock ownership.
C.
A call option gives the investor the right to purchase a given number of shares of a specified stock at a set price; a put option gives the investor the right to sell a given number of shares of a stock at a set price.
D.
A put option has risk, since leverage is not as great as with a call.
7.
Which of the following statements is a true definition of an out-of-the-money option?
A.
A call option in which the stock price exceeds the exercise price.
B.
A call option in which the exercise price exceeds the stock price.
C.
A call option in which the exercise price equals the stock price.
D.
A put option in which the exercise price exceeds the stock price.
8.
If you were to sell a June call option with an exercise price of 50 for N8 and simultaneously buy a June call option with an exercise price of 60 for N3, you would be:
A.
Bullish and taking a high risk.
B.
Bullish and conservative.
C.
Bearish and taking a high risk.
D.
Bearish and conservative.

9.
Which of the following correctly expresses the value of a call option just prior to expiration? (Note: V is the underlying asset's market price, and X is the option's exercise price)
A.
Max [0, V - X]
B.
Max [0, X - V]
C.
Min [0, V - X]
D.
Min [0, X - V]
10.
Which of the following correctly depicts the put/call parity relationship?
A.
Stock price + Call Price = Put Price + Risk Free Bond Price.
B.
Stock price + Put Price = Call Price + Risk Free Bond Price.
C.
Put price + Call Price = Stock Price + Risk Free Bond Price.
D.
Stock price - Put Price = Call Price + Risk Free Bond Price.
11.
Which of the following statements does not apply to a put option?
A.
You can sell a put option as a means to buy a stock at a price below the current market price.
B.
To protect against a decline in prices of a stock you own, you could sell a put option against your position.
C.
You would buy a put option for a volatile stock you want to buy with good longterm prospects but uncertain near term prospects.
D.
You would sell a put option on a stock you expect to increase in price to earn extra income.
12.
You own a stock which has risen from N10 per share to N32 per share. You wish to delay taking the profit but you are troubled about the short run behaviour of the stock market. Which of the following actions would you take to protect your position?
A.
Purchase a put.
B.
Purchase a call.
C.
Sell a put.
D.
Sell a call.
13.
Futures prices differ from spot prices by which one of the following factors?
A.
The systematic risk.
B.
The risk premium.
C.
The cost of carry.
D.
The spread.
14.
One of the advantages of forward markets is:
A.
The contracts are private and customized.
B.
Trading is well regulated.
C.
Performance is guaranteed.
D.
Trading is less costly and governed by more rules.
15.
The value of a call option is positively related to:
I.
Underlying stock price.
II.
Time to expiration
III.
Exercise price.
A.
I and II only.
B.
I and III only.
C.
II and III only.
D.
All of the above.
16.
Which of the following best describes contango?
A.
The futures price is less than the spot price.
B.
The cost of carry is negative.
C.
The expected spot price is less than the futures price.
D.
The spot price is less than the futures price.

17.
Margin in a futures transaction differs from margin in a stock transaction because:
A.
Stock transactions are much smaller.
B.
Delivery occurs immediately in a stock transaction.
C.
No money is borrowed in a futures transaction.
D.
Futures are much more volatile.
18.
Most futures contracts are closed by:
A.
Exercise.
B.
Offset.
C.
Default.
D.
Delivery.
19.
What happens to the basis through the contract's life?
A.
It initially increases, and then decreases.
B.
It moves toward zero.
C.
It initially decreases, and then increases.
D.
It remains relatively steady.
20.
A short hedge is one in which:
A.
The margin requirement is waived.
B.
The futures price is lower than the spot price.
C.
The hedger is short futures.
D.
The hedger is short in the spot market.
21.
Which of the following investment strategies has unlimited profit potential?
A.
Short put.
B.
Protective put.
C.
Long call.
D.
Writing a call.
22.
An advantage of convertible bonds is:
A.
Investors get the upside potential of a bond.
B.
Investors get the upside potential of a stock.
C.
Issuing firms can get a lower rate of interest on its debt.
D.
(B) and (C) above.
23.
Which of the following strategies will be profitable if the price of the underlying asset is expected to increase?
I.
Buying a put.
II.
Buying a call.
III.
Selling a call.
IV.
Selling a put.
A.
I and II only.
B.
I and III only.
C.
II and IV only.
D.
III and IV only.
24.
The spot price of ABC Limited is N5,000, and the cost of financing is 10% (with continuous compounding). What is the fair price of a one-month futures contract on
ABC Limited?
A.
N5,015.00
B.
N5,041.84
C.
N5,525.85
D.
N5,733.28
25.
The daily process of adjusting the margin in a futures account is called:
A.
Variation margin.
B.
Marking-to-market.
C.
Maintenance margin.
D.
Margin call.

26.
A stock price 6 months to expiration is N42, the exercise price of the option is N40, the risk-free interest rate is 10% per annum, and the volatility is 20% per annum.
What is d
1 as required in the Black-Scholes option valuation model?
A.
0.2209
B.
0.2651
C.
0.6278
D.
0.7693
27.
The delta of an option measures the rate of change of the price of the option with respect to ____________
A.
The price of the underlying asset.
B.
Time to maturity.
C.
Volatility.
D.
Interest rate.
28.
The payoff diagram below depicts which type of option position?
Payoff
A.
Long call.
B.
Short call.
C.
Long put.
D.
Short put.
K
ST
29.
The All Share Index is at 1200. The annualized interest rate is 5% (assume continuous compounding). Calculate the price now of a one-year futures contract.
A.
N1,200
B.
N1,261.53
C.
N1,272.97
D.
N1,278.19
30.
Which of the following statements is correct in respect of stock call options?
A.
An American option may be worth more than an European option.
B.
An American option is always worth more than an European option.
C.
An European option is always worth more than an American option.
D.
An European option always has the same worth as an American option.
Portfolio Management (31 - 70)
31.
Suppose you own two stocks, A and B. In year 1, stock A earns a 2% return and stock B earns a 9% return. In year 2, stock A earns an 18% return and stock B earns an 11% return. __________ has the higher arithmetic average return.
A.
Stock A.
B.
Stock B.
C.
The two stocks have the same arithmetic average return.
D.
At least three periods are needed to calculate the arithmetic average return.

32.
Which of the following statements regarding risk-averse investors is true?
A.
They only accept risky investments that offer risk premiums over the risk-free rate.
B.
They accept investments that are fair games.
C.
They only care about rate of return.
D.
They are willing to accept lower returns and high risk.
33.
An investor invests 60 percent of his wealth in a risky asset with an expected rate of return of 0.14 and a variance of 0.32 and 40 percent in a T-bill that pays 3 percent.
His portfolio's expected return and standard deviation are __________ and
__________ respectively.
A.
0.087; 0.267
B.
0.096; 0.339
C.
0.295; 0.123
D.
0.087; 0.182
34.
When a portfolio consists of only a risky asset and a risk-free asset, increasing the fraction of the overall portfolio invested in the risky asset will:
A.
Increase the expected return on the portfolio.
B.
Increase the standard deviation of the portfolio.
C.
Decrease the standard deviation of the portfolio.
D.
(A) and (B) above.
35.
Given the capital allocation line, an investor's optimal portfolio is the portfolio that:
A.
Maximizes her risk.
B.
Minimizes both her risk and return.
C.
Maximizes her expected utility.
D.
Maximizes her expected profit.
36.
The presence of risk means that:
A.
More than one outcome is possible.
B.
Investors will lose money.
C.
Final wealth will be greater than initial wealth.
D.
The standard deviation of the payoff is larger than its expected value.
37.
Efficient portfolios of N risky securities are portfolios that:
A.
Have the highest rates of return for a given level of risk.
B.
Are formed with the securities that have the highest rates of return regardless of their standard deviations.
C.
Have the highest rates of return and the highest standard deviations.
D.
Are selected from those securities with the lowest standard deviations regardless of their returns.
38.
Consider the following two investment alternatives. First, a risky portfolio that pays a
20 percent rate of return with a probability of 70% or a 7 percent return with a probability of 30%, and second, a T-bill that pays 3 percent. The risk premium on the risky investment is
A.
12.45%.
B.
13.1%.
C.
9.75%.
D.
15.6%.
39.
Which statement about portfolio diversification is correct?
A.
Proper diversification can reduce or eliminate systematic risk.
B.
The risk-reducing benefits of diversification do not occur meaningfully until at least 50-60 individual securities have been purchased.
C.
Typically, as more securities are added to a portfolio, total risk would be expected to decrease at a decreasing rate.
D.
Because diversification reduces a portfolio's total risk, it necessarily reduces the portfolio's expected return.

40.
Portfolio theory as described by Markowitz is most concerned with:
A.
The elimination of systematic risk.
B.
The identification of unsystematic risk.
C.
The effect of diversification on portfolio risk.
D.
Active portfolio management to enhance returns.
41.
A statistics that measures how the returns of two risky assets move together is:
A.
Correlation.
B.
Standard deviation.
C.
Covariance.
D.
(A) and (C) above.
42.
The first step a pension fund should take before beginning to invest is to:
A.
Establish investment objectives.
B.
Develop a list of investment managers with superior records to interview.
C.
Establish asset allocation guidelines.
D.
Decide between active and passive management.
43.
Security C has expected return of 12% and standard deviation of 20%. Security D has expected return of 15% and standard deviation of 27%. If the two securities have a correlation coefficient of 0.7, what is their covariance?
A.
0.038
B.
0.070
C.
0.018
D.
0.054
44.
In the context of the Capital Asset Pricing Model (CAPM) the relevant measure of risk is:
A.
Unique risk.
B.
Beta.
C.
Standard deviation of returns.
D.
Variance of returns.
45.
Where the risk-free rate is 7 percent, the expected market rate of return is 15 percent and you expect a stock with a beta of 1.3 to offer a rate of return of 12 percent, what would you do?
A.
Sell short the stock because it is overpriced.
B.
Buy the stock because it is overpriced.
C.
Sell the stock short because it is underpriced.
D.
Buy the stock because it is underpriced.
46.
The following factors might affect stock returns:
A.
Interest rate fluctuations.
B.
The business cycle.
C.
Inflation rates.
D.
(A) and (B) above.
47.
Portfolio X has expected return of 10% and standard deviation of 19%. Portfolio Y has expected return of 12% and standard deviation of 17%. Rational investors will:
A.
Borrow at the risk free rate and buy X.
B.
Sell Y short and buy X.
C.
Sell X short and buy Y.
D.
Borrow at the risk free rate and buy Y.
48.
A pension fund that begins with N500,000 earns 15% the first year and 10% the second year. At the beginning of the second year, the sponsor contributes another
N300,000. The Naira-weighted and time-weighted rates of return, respectively, were___________
A.
11.7% and 12.5%
B.
12.1% and 12.5%
C.
12.5% and 11.7%
D.
12.5% and 12.1%

49.
Suppose the risk-free return is 3%. The beta of a managed portfolio is 1.75, the alpha is 0%, and the average return is 16%. Based on Jensen's measure of portfolio performance, you would calculate the return on the market portfolio as:
A.
12.3%
B.
10.4%
C.
15.1%
D.
16.7%
50.
__________ refer to strategies aimed at attaining the established rate of return requirements while meeting expressed risk tolerance and applicable constraints.
A.
Investment constraints.
B.
Investment policies.
C.
Investment objectives.
D.
All of the above.
51.
The reward-to-variability ratio is given by:
A.
The slope of the capital allocation line.
B.
The second derivative of the capital allocation line.
C.
The excess return on a security divided by the security’s beta.
D.
None of the above.
52.
You purchased a share of stock for N20. One year later you received a N1 dividend and sold the share for N24. What is your holding period return?
A.
20.8%
B.
30.0%
C.
33.6%
D.
25.0%
53.
To achieve maximum diversification, what should the correlation coefficient be between two stocks that are being considered for inclusion in a portfolio?
A.
+1.0
B.
- 0.5
C.
0
D.
-1.0
54.
According to Markowitz portfolio theory:
A.
Combining any two risky assets in a portfolio will reduce unsystematic risk compared to a portfolio holding only one of the two risky assets.
B.
Adding a risky stock to a (less risky) bond portfolio can decrease portfolio risk.
C.
When there is no risk-free asset, choosing any portfolio on the efficient frontier will minimize portfolio risk.
D.
None of the above.
55.
The returns of Stock J over the past 3 years were –5%, 0% and 5%. What is Stock
J’s return using the geometric average method?
A.
5%
B.
–0.0834%
C.
–0.25%
D.
99.75%
56.
Which of the following statements about the real rate of return is true?
A.
If there is no inflation, then the real rate of return is equal to the nominal rate of return.
B.
The real rate of return is larger than the nominal rate of return.
C.
The real rate of return cannot be negative.
D.
The real rate of return is equal to the geometric average rate of return.

57.
Your research department has constructed the following table for Stock A:
Probability
0.25
0.40
0.25
0.10
Corresponding Return
12%
15%
8%
-9%
What is the expected return for this stock?
A.
5.90%
B.
6.72%
C.
8.40%
D.
10.10%
58.
A manager constructs a portfolio with just two stocks. Stock A has a standard deviation of 12% and Stock B has a standard deviation of 18%. If each stock represents half the portfolio and the correlation coefficient between the two stocks is zero, what must the standard deviation of the portfolio be equal to?
A.
15.0%
B.
10.8%
C.
0
D.
13.4%
59.
Which statement best refers to the concept of unsystematic risk:
A.
This risk is common to the all companies trading in a specific market.
B.
This risk is unique to each specific company.
C.
A stock's beta is a measure used to capture a security's unsystematic risk.
D.
After adding a certain number of securities, a portfolio's unsystematic risk can no longer be diversified.
60.
A primary motivation for investment in commodities is most likely the:
A.
Positive correlation of commodities with unexpected inflation.
B.
Positive correlation of commodities with stock and bond investments.
C.
Positive volatility of commodities relative to stock and bond investments.
D.
None of the above.
61.
Which of the following statements regarding the Markowitz efficient frontier is least likely to be correct? The optimal portfolio for:
A.
An investor is the portfolio that lies on the efficient frontier and provides her with the greatest level of utility.
B.
An investor is found at the point of tangency between the efficient frontier and an investor's highest utility curve.
C.
A more risk-averse investor will lie inside the efficient frontier but will lie outside the efficient frontier for a less risk-averse investor.
D.
None of the above.
62.
Passive portfolio management techniques assume that:
A.
The demand and supply of shares not included in the portfolio is not in equilibrium.
B.
The capital market is not in equilibrium.
C.
The capital market is in equilibrium.
D.
The market portfolio beta is equal to portfolio beta.
63.
Which of the following statements about performance attribution is true?
A.
It does not require the identification of a benchmark of performance.
B.
It seeks to distinguish the factors responsible for the portfolio’s overall performance.
C.
It is typically a bottom-up approach.
D.
It analyses two basic factors: allocation effect and risk management effect.

64.
A stock below the security market line is:
A.
Underpriced.
B.
Appropriately priced.
C.
Overpriced.
D.
Of high risk.
65.
Index futures cannot be used for which of these purposes?
A.
To hedge against rising share prices.
B.
To hedge against falling prices.
C.
To eliminate unsystematic risk.
D.
None of the above.
66.
If you were confident that the price of stock Y would fall dramatically within two months, which of the following investment transactions would yield the highest return on your investment?
A.
Purchase a call on stock Y.
B.
Write a put on stock Y.
C.
Purchase stock Y.
D.
Short sell stock Y.
67.
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.
68.
The capital asset pricing model (CAPM) asserts that the equilibrium return on a particular asset depends on:
A.
The standard deviation of the asset but not on the correlation with the market portfolio.
B.
The variance of the asset but not on the correlation with the market portfolio.
C.
The covariance of the asset with the market portfolio.
D.
None of the above answers is correct.
69.
A portfolio yields a return of 12% while the market portfolio has a performance of
10%. The sensitivity of the portfolio with the market is 1.6 and the current risk free interest rate is 6%. Under these circumstances, the portfolio has:
A.
Performed in accordance with the market.
B.
Outperformed the market.
C.
Underperformed the market.
D.
Inconclusive performance position.
70.
Consider the following two investments with the given expected returns and standard deviations:
Expected Return Standard Deviation
Investment A 0.20 0.07
Investment B 0.23 0.10
The riskier of the two investments based on the coefficient of variation is:
A.
Investment A.
B.
Investment B.
C.
Both are equally risky.
D.
Insufficient data to conclude.

Commodity Trading and Futures (71 - 100)
71.
Janet wrote a call on a commodity she did not own. What is this investment strategy called?
A.
Anticipatory call.
B.
Naked call.
C.
Covered call.
D.
Short selling.
72.
What is the method of settlement whereby the underlying asset is actually exchanged?
A.
Spot price.
B.
Delivery of underlying.
C.
Cash settlement.
D.
(A) and (C) above.
73.
With respect to commodities futures contracts, what type of margin relates to the fluctuation in the value of an investor’s account?
A.
Initial margin.
B.
Linked margin.
C.
Variation margin.
D.
Maintenance margin.
74.
Under what condition does an investor who has established a long position in a
3-month oil futures contract profit from this position?
A.
When the spot price of oil is lower than today’s futures price in three months.
B.
When the spot price of oil is higher than today’s futures price in three months.
C.
When the spot price of oil increases over the next three months.
D.
When the spot price of oil decreases over the next three months.
75.
What is a speculator who believes in the rising in price of a particular investment called?
A.
Bear.
B.
Bull.
C.
Speculator.
D.
Trader.
76.
What is a situation whereby the spot price of an asset is higher than the price of a nearby futures refereed to?
A.
Contango.
B.
Fair value.
C.
Basis.
D.
Normal Backwardation.
77.
An option that gives the buyer the right but not the obligation to sell the underlying asset at an agreed price within a specific time for a premium is called __________
A.
Put option.
B.
Asian option.
C.
Call option.
D.
Delivery option.
78.
What factor would account for the futures price being higher than the spot price?
A.
Negative cost of carry.
B.
Positive cost of carry.
C.
Contango.
D.
Low systematic risk.

79.
Consider a trader who has entered into a short Wheat futures contract. If he wants to close his futures position, what should he do?
A.
Purchase the underlying asset at the spot market.
B.
Sell the underlying asset at the spot market.
C.
Short a similar futures contract on the underlying asset.
D.
Long a similar futures contract on the underlying asset.
80.
In comparing forward contracts with futures contracts, which of the following statements is/are correct?
I.
Forward contracts have default risk to be borne by each counterparty.
II.
Forward contracts are more traded on organized secondary markets.
III.
Forward contracts are less liquid.
A.
I only.
B.
II only.
C.
I and II only.
D.
I and III only.
81.
Due to convergence, at expiration, the price of a futures contract would be:
A.
Less than the spot price.
B.
Equal to the spot price.
C.
More than the spot price.
D.
(A) and (C) above.
82.
A trader who enters into a futures contract in order to protect his existing position in an underlying asset, has engaged in what strategy?
A.
Arbitrage.
B.
Speculation.
C.
Hedging.
D.
Smart trading.
83.
Which of the following is not a basic type of order recognized by futures exchanges?
A.
Stop.
B.
Limit.
C.
Market-if-touched.
D.
None of the above.
84.
Basis is impacted by all of the following items except:
A.
Local supply and demand.
B.
Substitute availability.
C.
Margin.
D.
Middleman’s fees.
85.
The objective of futures markets is to ___________
A.
Create a standardized market that reduces counterparty risk.
B.
Reduces price risk.
C.
Allows for bespoke contract design.
D.
All of the above.
86.
If your client would like to ensure that the market is moving in a certain direction before entering or exiting a position you might recommend a ___________
A.
Market order.
B.
Fill-or-kill order.
C.
Stop-limit order.
D.
Good-till-cancelled order:

87.
All of the following strategies are bullish except:
A.
Writing puts.
B.
Long call.
C.
Short futures.
D.
Long shares.
88.
Synthetic long call consists of which of the following?
A.
Long futures.
B.
Short futures plus long put.
C.
Long futures plus long put.
D.
Long futures plus short call.
89.
The option to give delivery is given during a period identified as:
A.
Delivery notice period.
B.
Settlement period.
C.
Delivery period.
D.
Option notice period.
90.
Whenever delivery notices are given by the seller, the __________ identifies the buyer to whom the notice may be assigned.
A.
The clearing house.
B.
The buyer.
C.
The exchange.
D.
The seller.
91.
Which of the following best describes a contract for a difference?
A.
A contract in which different qualities of the commodity can be delivered.
B.
A contract in which different quantities of a commodity can be delivered.
C.
An index product.
D.
None of the above.
92.
“Circuit breakers” imposed by an exchange that places limit on absolute price movement on the futures contract on any day is called:
A.
Position limits.
B.
Margin limits.
C.
Price limits.
D.
Variation limits.
93.
A May soybean contract is selling for N4.30. A May N4.50 soybean futures call option has what intrinsic value?
A.
N0/bu
B.
N0.20/bu
C.
N0.30/bu
D.
N0.40/bu
94.
Which of the following statements is correct?
A.
To offset a long position, a trader must take delivery of the commodity.
B.
The base grade specified within a futures contract states the minimum grade of commodity acceptable for delivery.
C.
The delivery price of financial futures is based on the prices established by the futures position.
D.
None of the above.

95.
What should be included in the calculation of an index future’s fair value?
I.
The risk free rate.
II.
Time to maturity.
III.
Volatility.
IV.
Brokers fees.
A.
I only.
B.
I and II only.
C.
I, II and III only.
D.
All of the above.
96.
A put with a strike price of N4.10 was purchased by your client at N0.50. The underlying futures price is now N4.20. What is the intrinsic time of the put?
A.
N0
B.
N0.40
C.
N0.50
D.
N4.10
97.
Which of the following is a soft commodity?
I.
Coffee.
II.
Cocoa.
III.
Sugar fruit.
A.
I only.
B.
I and II only.
C.
II and III only.
D.
All of the above.
98.
All of the following could be considered to be significant influences on commodity prices except:
A.
Weather.
B.
Quotas.
C.
Interest rates.
D.
Tariffs.
99.
A key feature of the energy market is ___________
A.
Supply is infinite.
B.
Prices usually do not react to political situations.
C.
Prices could be raised by producers by restricting supply.
D.
None of the above.
100.
Which of the following countries is currently the largest producer of coffee in the world?
A.
Brazil.
B.
Vietnam.
C.
Colombia.
D.
Indonesia.
Total = 100 marks
END OF PAPER

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: