Question 1

A plot showing how the value of the firm is affected by changes in prices or rates is called a:

Accepted Answer

The answer of A plot showing how the value of...

Question 2

You are a grain exporter and need to acquire 160,000 bushels of soybeans for export next month. Futures contracts are for 5,000 bushels and are quoted at 7.50 per bushel. If you want to hedge your cost risk, what should you do?

Accepted Answer

To hedge against the cost risk of acquiring soybeans, you would buy futures contracts to lock in the price. The calculation is 160,000 bushels / 5,000 bushels per contract = 32 contracts. The contract value is calculated as 160,000 bushels * $7.50 per bushel = $1,200,000.

Question 3

You can hedge against an increase in interest rates by buying a ____ option on a bond or by buying _____ option on interest rates.

Accepted Answer

Buying a put option on a bond allows you to profit if bond prices fall (which happens when interest rates rise). Buying a call option on interest rates allows you to profit if interest rates increase.

Question 4

You are the purchasing agent for a food producer. You anticipate that your firm will need 160,000 bushels of oats in March. You decide to hedge your position today and did so at the closing price of the day. Assume that the actual market price turns out to be 174.6 on the day you actually buy the oats. By buying the contract you:

Oats - 5,000 bu.; cents per bu.

Accepted Answer

The answer of You are the purchasing agent for a...

Question 5

If you can create a perfect hedge, then you:

Accepted Answer

A perfect hedge is designed to eliminate the risk of loss due to price movements, meaning that you neither profit nor lose if prices change.

Question 6

A futures contract can best be defined as:

Accepted Answer

A futures contract is essentially a standardized forward contract that includes the daily settlement feature, meaning gains and losses are realized each day rather than only at the end of the contract period.

Question 7

An option contract can best be defined as:

Accepted Answer

An option contract is defined as an agreement that grants the holder the right, but not the obligation, to buy or sell a specific asset at a specific price within a specified time frame.

Question 8

A swap contract can best be defined as:

Accepted Answer

A swap contract is essentially an agreement between two parties to exchange sequences of cash flows for a set period of time in the future, usually based on different financial instruments or interest rates.

Question 9

A call option can best be defined as:

Accepted Answer

A call option specifically gives the owner the right, but not the obligation, to buy an asset at a specified price within a certain time period.

Question 10

Basis risk can best be defined as:

Accepted Answer

Basis risk refers to the risk that the futures prices will not move in perfect correlation with the cash prices of the asset being hedged, leading to imperfect hedging.

Question 11

You are the purchasing agent for a cookie company. You anticipate that your firm will need 15,000 bushels of oats in March. You decide to hedge your position today and did so at the closing price of the day. Assume that the actual market price turns out to be 261´0 on the day you actually buy the oats. How much more would you have spent or saved if you had not taken the hedge position?

Oats - 5,000 bu.: cents per bu.

Accepted Answer

The answer of You are the purchasing agent for a...

Question 12

A firm has a risk profile that depicts a linear positive relationship between changes in prices and changes in firm value. To eliminate the downside risk, the firm should:

Accepted Answer

Buying a put option allows the firm to hedge against the downside risk by giving it the right to sell the underlying asset at a predetermined price, thus protecting against a decline in the asset's value.

Question 13

You grow wheat and figure that you will have 60,000 bushels to sell in the next month. Futures contracts are for 5,000 bushels and are quoted at 7.50 per bushel. If you want to hedge your price risk, what should you do?

Accepted Answer

The answer of You grow wheat and figure that you...

Question 14

A plot showing the gains and losses that will occur on a financial asset as a result of unexpected price changes is called a _______________.

Accepted Answer

A payoff profile illustrates the potential gains and losses of a financial asset due to unexpected price changes.

Question 15

A financial asset that represents a claim on another financial asset is called a(n) ____________.

Accepted Answer

Derivative securities are financial instruments whose value is derived from the value of another asset, which they represent a claim on. This includes options, futures, and swaps, among others.

Question 16

If a firm creates an interest rate collar on a variable rate loan, then the rate the firm pays will always:

Accepted Answer

An interest rate collar involves setting a cap and floor on the interest rate on a loan. The firm's interest payments will not exceed the cap rate and will not fall below the floor rate, ensuring that the rate the firm pays is always at least the floor rate but no more than the cap rate.

Question 17

A put option can best be defined as:

Accepted Answer

A put option grants the holder the right to sell an asset at a predetermined price within a specified time frame, distinguishing it from a call option, which provides the right to buy.

Question 18

You are the buyer for a cereal company. You think you will need 230,000 bushels of corn next month. The futures contracts on corn are based on 5,000 bushels and are currently quoted at 261.60 cents per bushel for delivery next month. If you want to hedge your cost risk, you should _____ contracts at a current value of _____ per contract.

Accepted Answer

To hedge against cost risk for 230,000 bushels, you divide by the contract size (230,000 / 5,000 = 46 contracts). The value per contract is 5,000 bushels * 261.60 cents/bushel = 13,080,000 cents, or $13,080.

Question 19

Cross-hedging can best be defined as:

Accepted Answer

Cross-hedging involves using hedging instruments based on a related, but not identical, asset to the one being hedged. This is often done when direct hedging instruments for the asset in question are not available or are less efficient.

Question 20

A forward contract on wheat:

Accepted Answer

A forward contract is a customized contract between two parties to buy or sell an asset at a specified price on a future date. It obligates the buyer to purchase and the seller to sell the specified asset at the agreed-upon price, regardless of the market price at the time of contract settlement.

Quiz 24: Enterprise Risk Management