Deck 5: Currency Derivatives

Question 1

Forward contracts:

A) contain a commitment to the owner, and are standardized.
B) contain a commitment to the owner, and can be tailored to the desire of the owner.
C) contain a right but not a commitment to the owner, and can be tailored to the desire of the owner.
D) contain a right but not a commitment to the owner, and are standardized.

Answer 1

B

Question 2

The writer of a call option is obligated to sell the underlying currency to the buyer of the option if the option is exercised.

Answer 2

True

Question 3

A call option on Australian dollars has a strike (exercise) price of £0.40. The present exchange rate is £0.43. This call option can be referred to as:

A) in the money.
B) out of the money.
C) at the money.
D) at a discount.

Answer 3

A

Question 4

The one-year forward rate of the British pound is quoted at $1.20, and the spot rate of the British pound is quoted at $1.23. The forward ____ is ____ percent.

A) discount; 2.5
B) discount; 2.4
C) premium; 2.5
D) premium; 2.4

Question 5

If you purchase a straddle on euros, this implies that you:

A) finance the purchase of a call option by selling a put option in the euros.
B) finance the purchase of a call option by selling a call option in the euros.
C) finance the purchase of a put option by selling a put option in the euros.
D) finance the purchase of a put option by selling a call option in the euros.
E) none of the above

Question 6

There are no transactions costs associated with trading futures or options.

Question 7

Which of the following is not an instrument used by MNCs to cover their foreign currency positions?

A) Forward contracts.
B) Futures contracts.
C) Non-deliverable forward contracts.
D) Options.
E) All of the above are instruments used to cover foreign currency positions.

Question 8

Due to put-call parity, we can use the same formula to price calls and puts.

Question 9

You purchase a call option on dollars for a premium of £0.02 per unit, with an exercise price of £0.57; the option will not be exercised until the expiration date, if at all. If the spot rate on the expiration date is £0.58, your net profit per unit is:

A) £0.00.
B) -£0.02.
C) -£0.01.
D) £0.02.
E) none of the above

Question 10

If you have bought the right to sell, you are a:

A) call writer.
B) put buyer.
C) futures buyer.
D) put writer.

Question 11

You are a speculator who sells a call option on Swiss francs for a premium of £0.04, with an exercise price of £0.42. The option will not be exercised until the expiration date, if at all. If the spot rate of the Swiss franc is £0.47 on the expiration date, your net profit per unit, assuming that you have to buy Swiss francs in the market to fulfil your obligation, is:

A) -£0.02.
B) -£0.01.
C) £0.01.
D) £0.02.
E) none of the above.

Question 12

Since futures contracts are traded on an exchange, the exchange will always take the "other side" of the transaction in terms of accepting the credit risk.

Question 13

Carl is a US option writer. In anticipation of a depreciation of the British pound from its current level of $1.50 to $1.45, he has written a call option with an exercise price of $1.51 and a premium of $.02. If the spot rate at the option's maturity turns out to be $1.54, what is Carl's profit or loss per unit (assuming the buyer of the option acts rationally)?

A) -$0.01
B) $0.01
C) -$0.04
D) $0.04
E) -$0.03

Question 14

The shorter the time to the expiration date for a currency, the ____ will be the premium of a call option, and the ____ will be the premium of a put option, other things equal.

A) greater; greater
B) greater; lower
C) lower; lower
D) lower; greater

Question 15

If you expect the euro to depreciate, it would be appropriate to ____ for speculative purposes.

A) buy a euro call and buy a euro put
B) buy a euro call and sell a euro put
C) sell a euro call and sell a euro put
D) sell a euro call and buy a euro put

Question 16

A Collar is more flexible than futures and forwards allowing limited gains if there is a favourable price movement and it is cheaper than an option as potential gains are limited.

Question 17

The price of a futures contract will generally vary significantly from that of a forward contract.

Question 18

Forward contracts are usually liquidated by actual delivery of the currency, while futures contracts are usually liquidated by offsetting transactions.

Question 19

If your firm expects the euro to substantially depreciate, it could speculate by ____ euro call options or ____ euros forward in the forward exchange market.

A) selling; selling
B) selling; purchasing
C) purchasing; purchasing
D) purchasing; selling

Question 20

When you own ____, there is no obligation on your part; however, when you own ____, there is an obligation on your part.

A) call options; put options
B) futures contracts; call options
C) forward contracts; futures contracts
D) put options; forward contracts

Question 21

Options can be traded on an exchange or over the counter.

Question 22

Futures contracts are standardized with respect to delivery date and the futures price specified for the settlement date.

Question 23

The premium of a currency put option will increase if:

A) the volatility of the underlying asset goes up.
B) the time to maturity goes up.
C) the spot rate declines.
D) none of the above

Question 24

When the futures price on euros is below the forward rate on euros for the same settlement date, astute investors may attempt to simultaneously ____ euros forward and ____ euro futures.

A) sell; sell
B) buy; sell
C) sell; buy
D) buy; buy

Question 25

A UK company has purchased currency put options to hedge a 100,000 Canadian dollar (C$) receivable. The premium is £0.02 and the exercise price of the option is £0.50. If the spot rate at the time of maturity is £0.51, what is the net amount received by the corporation if it acts rationally?

A) £51,000
B) £49,000
C) £53,000
D) £50,000

Question 26

Johnson Ltd a UK-based MNC, will need 10 million Thai baht on August 1. It is now May 1. Johnson has negotiated a non-deliverable forward contract with its bank. The reference rate is the baht's closing exchange rate (in £'s) quoted by Thailand's central bank in 90 days. The baht's rate is £0.012. If the rate quoted by Thailand's central bank on August 1 is £0.014, Johnson will ____ £____.

A) pay; 20,000
B) be paid; 20,000
C) pay; 2,000
D) be paid; 2,000
E) none of the above

Question 27

Assume no transactions costs exist for any futures or forward contracts. The price of the euro futures with a settlement date 180 days from now will:

A) definitely be above the 180-day forward rate.
B) definitely be below the 180-day forward rate.
C) be about the same as the 180-day forward rate.
D) none of the above; there is no relation between the futures and forward prices.

Question 28

If an actual put option premium is less than what is suggested by the put-call parity relationship, arbitrage can be conducted.

Question 29

Forward contracts are the best technique for managing exposure arising from project bidding.

Question 30

A straddle is a speculative strategy that represents the purchase of both a call and a put.

Question 31

The spot rate for the Singapore dollar is £0.32. The 30-day forward rate is £0.319. The forward rate contains an annualized ____ of ____%.

A) discount; -3.76
B) premium; 3.75
C) discount; -3.75
D) premium; 3.76
E) premium; 3.40

Question 32

Hedgers should buy puts if they are hedging an expected inflow of foreign currency.

Question 33

Which of the following is true?

A) Most forward contracts between firms and banks are for speculative purposes.
B) Most future contracts represent a conservative approach by firms to hedge foreign trade.
C) The forward contracts offered by banks have maturities for only four possible dates in the future.
D) none of the above

Question 34

Which of the following is the most likely strategy for a UK firm that will be receiving Swiss francs in the future and desires to avoid exchange rate risk (assume the firm has no offsetting position in francs)?

A) Purchase a call option on francs.
B) Sell a futures contract on francs.
C) Obtain a forward contract to purchase francs forward.
D) All of the above are appropriate strategies for the scenario described.

Question 35

A put option premium has a lower bound that is equal to the greater of zero and the difference between the underlying ____ prices. The upper bound of a call option premium is the ____ price.

A) spot and exercise; exercise
B) spot and exercise; spot
C) exercise and spot; exercise
D) exercise and spot; spot

Question 36

If you expect the US dollar to appreciate, you could speculate by ____ pound call options or ____ pound put options.

A) purchasing; selling
B) purchasing; purchasing
C) selling; selling
D) selling; purchasing

Question 37

A UK firm is bidding for a project needed by the Swiss government. The firm will not know if the bid is accepted until three months from now. The firm will need Swiss francs to cover expenses but will be paid by the Swiss government in pounds if it is hired for the project. The firm can best insulate itself against exchange rate exposure by:

A) selling futures in francs.
B) buying futures in francs.
C) buying franc put options.
D) buying franc call options.

Question 38

Which of the following are true regarding the options markets?

A) Hedgers and speculators both attempt to lower risk.
B) Hedgers attempt to lower risk, while speculators attempt to make riskless profits.
C) Hedgers and speculators are both necessary in order for the market to be liquid.
D) all of the above

Question 39

A UK company expects to receive 5,000,000 Japanese yen 60 days from now. You decide to hedge your position by selling Japanese yen forward. The current spot rate of the yen is £0.005, while the forward rate is £0.0055. You expect the spot rate in 60 days to be £0.0053. How many dollars will you receive for the 5,000,000 yen 60 days from now?

A) £25,000
B) £27,500
C) £26,500
D) £26,000

Question 40

When the futures price is equal to the spot rate of a given currency, and the foreign country exhibits a higher interest rate than the UK interest rate, astute investors may attempt to simultaneously ____ the foreign currency, invest it in the foreign country, and ____ futures in the foreign currency.

A) buy; buy
B) sell; buy
C) buy; sell
D) buy; buy

Question 41

American style options can be exercised any time up to maturity.

Question 42

Which of the following are exchange traded?

A) Forward contracts.
B) Futures contracts.
C) Options.
D) B and C.

Question 43

Non-deliverable forward contracts (NDFs) are frequently used for currencies in emerging markets.

Question 44

Which of the following is not true regarding options?

A) Options are traded on exchanges, never over-the-counter.
B) Similar to futures contracts, margin requirements are normally imposed on option traders.
C) Although commissions for options are fixed per transaction, multiple contracts may be involved in a transaction, thus lowering the commission per contract.
D) Currency options can be classified as either put or call options.
E) All of the above are true.

Question 45

Currency futures contracts sold on an exchange:

A) contain a commitment to the owner, and are standardized.
B) contain a commitment to the owner, and can be tailored to the desire of the owner.
C) contain a right but not a commitment to the owner, and can be tailored to the desire of the owner.
D) contain a right but not a commitment to the owner, and are standardized.

Question 46

Which of the following would result in a profit of a euro futures contract when the euro depreciates?

A) Buy a euro futures contract; sell a futures contract after the euro has depreciated.
B) Sell a euro futures contract; buy a futures contract after the euro has depreciated.
C) Buy a euro futures contract; buy an additional futures contract after the euro has depreciated.
D) None of the above would result in a profit when the euro depreciates.

Question 47

Futures and options are available for crossrates.

Question 48

Assume that a currency's spot and future prices are the same, and the currency's interest rate is higher than the UK rate. The actions of UK investors to lock in this higher foreign return would ____ the currency's spot rate and ____ the currency's futures price.

A) put upward pressure on; put upward pressure on
B) put downward pressure on; put upward pressure on
C) put upward pressure on; put downward pressure on
D) put downward pressure on; put downward pressure on

Question 49

The existing spot rate of the euro is £0.68. The premium on a euro call option is £0.02. The exercise price is £0.70. The option will be exercised on the expiration date if at all. If the spot rate on the expiration date is £0.73, the profit as a percent of the initial investment (the premium paid) is:

A) 0 per cent.
B) 25 per cent.
C) 50 per cent.
D) 150 per cent.
E) none of the above

Question 50

Which of the following is true concerning Collars?

A) A Collar represents a potential benefit which is paid for by a potential cost.
B) They are also called cylinder options, zero cost options or range forward contracts.
C) They limit the range of price movements of the underlying asset that the buyer is exposed to.
D) All of the above.

Question 51

Margin requirements are deposits placed by investors in futures contracts with their respective brokerage firms when they take their position. They are intended to minimize credit risk associated with futures contracts.

Question 52

Assume that a speculator purchases a put option on dollars (with a strike price of £0.84) for £0.03 per unit. A dollar option represents 50,000 units. Assume that at the time of the purchase, the spot rate of the dollar is £0.85 and continually rises to £0.88 by the expiration date. The highest net profit possible for the speculator based on the information above is:

A) £1,500.
B) -£1,500.
C) -£0.
D) -£3,000.

Question 53

The lower bound of a put option premium is the greater of zero and the difference between the exercise price and the spot rate; the upper bound of a currency put option is the exercise price.

Question 54

Margin is used in the forward market to mitigate default risk.

Question 55

If an investor who previously sold futures contracts wishes to liquidate his or her position, he or she could sell futures contracts with the same maturity date.

Question 56

A European option can only be exercised at the expiration date, while an American option can be exercised any time prior to the expiration date.

Question 57

The premium on a euro put option is £0.02 per unit. The exercise price is £0.68. The break-even point is ____ for the buyer of the put, and ____ for the seller of the put. (Assume zero transactions costs and that the buyer and seller of the put option are speculators.)

A) £0.66; £0.68.
B) £0.70; £0.66
C) £0.68; £0.70
D) £0.70; £0.68
E) None of the above

Question 58

The spot rate for the Singapore dollar is £0.320. The 30-day forward rate is £0.325. The forward rate contains an annualized ____ of ____%.

A) discount; -18.75
B) premium; 18.75
C) discount; -18.46
D) premium; 18.46
E) premium; 1.56

Question 59

A put option on dollars has a strike (exercise) price of £0.57. The present exchange rate is £0.58. This put option can be referred to as:

A) in the money.
B) out of the money.
C) at the money.
D) at a discount.

Question 60

A firm wants to use an option to hedge 12.5 million in receivables from New Zealand firms. The premium is £0.01. The exercise price is £0.55. If the option is exercised, what is the total amount of pounds received (after accounting for the premium paid)?

A) £125,000
B) £6,875,000
C) £6,375,000
D) £6,750,000
E) None of the above

Question 61

The purchase of a currency put option would be appropriate for which of the following?

A) Investors who expect to buy a foreign bond in one month.
B) Corporations who expect to buy foreign currency to finance foreign subsidiaries.
C) Corporations who expect to collect on a foreign account receivable in one month.
D) all of the above

Question 62

The 90-day forward rate for the euro is £0.71, while the current spot rate of the euro is £0.73. What is the annualized forward premium or discount of the euro to the nearest per cent?

A) 3 per cent discount.
B) 3 per cent premium.
C) 11 per cent premium.
D) 11 per cent discount.

Question 63

A UK corporation has purchased currency call options to hedge a 70,000 dollar payable. The premium is £0.015 and the exercise price of the option is £0.54. If the spot rate at the time of maturity is £0.59, what is the total amount paid by the corporation if it acts rationally?

A) £36,750
B) £1,050
C) £37,800
D) £38,850

Question 64

European currency options can be exercised ____; American currency options can be exercised ____.

A) any time up to the expiration date; any time up to the expiration date
B) any time up to the expiration date; only on the expiration date
C) only on the expiration date; only on the expiration date
D) only on the expiration date; any time up to the expiration date

Question 65

Which of the following is correct?

A) The longer the time to maturity, the less the value of a currency call option, other things equal.
B) The longer the time to maturity, the less the value of a currency put option, other things equal.
C) The higher the spot rate relative to the exercise price, the greater the value of a currency put option, other things equal.
D) The lower the exercise price relative to the spot rate, the greater the value of a currency call option, other things equal.

Question 66

Research has found that the currency options market is:

A) efficient before controlling for transaction costs.
B) efficient after controlling for transaction costs.
C) highly inefficient.
D) none of the above

Question 67

Macomb plc is a UK firm that invoices some of its exports in Japanese yen. If it expects the yen to weaken, it could ____ to hedge the exchange rate risk on those exports.

A) sell yen put options
B) buy yen call options
C) buy futures contracts on yen
D) sell futures contracts on yen

Question 68

Assume the spot rate of a currency is £0.67 and the 360-day forward rate is £0.63. The forward rate of this currency exhibits a ____ of ____ on an annualized basis.

A) discount; 5.97%
B) premium; 6.35%
C) premium; 5.97%
D) discount; 6.35%

Question 69

Assume the spot rate of the Swiss franc is £0.35 and the one-year forward rate is £0.365. The forward rate exhibits a ____ of ____.

A) premium; about 4.11%
B) discount; about 4.11%
C) discount; about 4.29%
D) premium; about 4.29%

Question 70

Which of the following is true?

A) The futures market is primarily used by speculators while the forward market is primarily used for hedging.
B) The futures market is primarily used for hedging while the forward market is primarily used for speculating.
C) The futures market and the forward market are primarily used for speculating.
D) The futures market and the forward market are primarily used for hedging.

Question 71

When currency options are not standardized and traded over-the-counter, there is ____ liquidity and a ____ bid/ask spread.

A) less; narrower
B) more; narrower
C) more; wider
D) less; wider

Question 72

You are a speculator who sells a put option on Canadian dollars for a premium of £0.03 per unit, with an exercise price of £0.49. The option will not be exercised until the expiration date, if at all. If the spot rate of the Canadian dollar is £0.45 on the expiration date, your net profit per unit is:

A) -£0.04.
B) -£0.07.
C) £0.04.
D) £0.07.
E) none of the above.

Question 73

An MNC frequently uses either forward or futures contracts to hedge its exposure to foreign receivables. To do so, the MNC can either sell the foreign currency forward or sell futures.

Question 74

Graylon ltd, based in Durham, exports products to a German firm and will receive payment of €200,000 in three months. On June 1, the spot rate of the euro was £0.90, and the 3-month forward rate was £0.89. On June 1, Graylon negotiated a forward contract with a bank to sell €200,000 forward in three months. The spot rate of the euro on September 1 is £0.92. Graylon will receive £ ____ for the euros.

A) 179,000
B) 178,000
C) 180,000
D) 181,000

Question 75

If an investor who has previously purchased a futures contract wishes to liquidate his or her position, he or she would sell an identical futures contract with the same settlement date.

Question 76

For a barrier option, if the price during the life of the option touches or crosses a barrier the option can either start (_____) or end (______).

A) knock out; knock in
B) knock in; knock out
C) knock out; knock out
D) knock in; knock in

Question 77

When we talk about the financial management of derivatives for non-financial companies, it should be designed to reduce risk but is subject to a number of risk factors, those include:

A) Companies should not over insure the risk.
B) Companies can be unsure about what risks the company is going to take and what risks the company is not going to take.
C) Derivatives should never be related to an underlying transaction.
D) When companies want to avoid risks, they should always use derivatives.

Question 78

A call option premium has a lower bound that is equal to the greater of zero and the difference between the underlying ____ prices. The upper bound of a call option premium is the ____ price.

A) spot and exercise; exercise
B) spot and exercise; spot
C) exercise and spot; exercise
D) exercise and spot; spot

Question 79

A currency put option is a contract specifying a standard volume of a particular currency to be exchanged on a specific settlement date.

Question 80

The highest amount a buyer of a call or a put option can lose is the exercise price.