Question 1

The overall impact of foreign exchange rate fluctuations on a firm's value is called

Accepted Answer

Economic exposure refers to the overall impact of foreign exchange rate fluctuations on a firm's value. Interest rate risk refers to the risk of changes in interest rates affecting a firm's financial performance, while transaction exposure refers to the risk of losses from foreign exchange fluctuations in specific transactions. None of these fully capture the broad impact of exchange rates on a firm's value.

Question 2

You plan to buy a 2 year zero coupon bond one year from today.If the risk free rate is 5.6% and the forward price for the bond is $843.25,what should be the current price of a three year zero-coupon bond?

Accepted Answer

843.25 = $(1.056)
$ = 798.53

Question 3

The average price at which a futures contract sell at the end of the trading day is called the

Accepted Answer

The settlement price is the average price at which a futures contract is sold at the end of a trading day. It is used to determine profits and losses for traders who hold a futures contract. The opening price is the first price at which a futures contract is traded during the day, while the closing price is the last price at which a futures contract is traded before the market closes. The lifetime price is not a commonly used term in futures trading.

Question 4

If the current spot exchange rate on the Euro is $1.2812/€ and the one year risk free rate for borrowing in dollars is 3% and 4% for borrowing in Euros,what should be the one year $/€ forward exchange rate?

Accepted Answer

1.2812(1.03/1.04)= 1.2689

Question 5

Exhibit 23-1
S&P 500 Index; $250 ´ index May 2004
 
-Refer to Exhibit 23-1.For the purpose of marking to market what is the current value of the December contract?

Accepted Answer

1059.35(250)= 264,837.50

Question 6

If the current spot exchange rate on the Euro is $1.2812/€ and the two year risk free rate for borrowing in dollars is 3% and 4% for borrowing in Euros,what should be the two year $/€ forward exchange rate?

Accepted Answer

1.2812[(1.03)^2/(1.04)^2] = 1.2567

Question 7

Exhibit 23-1
S&P 500 Index; $250 ´ index May 2004
 
-Refer to Exhibit 23-1.What was the lowest value of the December contract on the day quoted?

Accepted Answer

1051(250)= 262,750

Question 8

Suppose the spot price of oil is $49.50 per barrel,while the October futures price is $51.00 per barrel.For this contract,the basis is

Accepted Answer

The basis is the difference between the spot price and the futures price. Therefore, basis = $51.00 - $49.50 = $1.50.

Question 9

A call option on interest rates is called an

Accepted Answer

A call option on interest rates is called an interest rate cap. An interest rate cap is a derivative contract between a buyer and a seller, where the buyer of the cap pays the seller a premium to protect against an increase in interest rates. The cap sets a maximum interest rate that the buyer will pay, and if the interest rate exceeds the cap, the seller will pay the buyer the difference between the cap and the actual interest rate.

Question 10

Suppose the spot exchange rate is 0.5491 pounds per U.S.dollar,while the risk-free borrowing rates are 4% in Britain and 3% in the United States.If the current forward exchange rate is also 0.5491 pounds per dollar,what opportunity exists?

Accepted Answer

The interest rate differential suggests borrowing in the U.S. at 3%, converting to pounds, and investing in Britain at 4%, then selling pounds forward at the same rate to lock in profit.

Question 11

The minimum dollar amount required by an investor when taking a position in a futures contract is called the

Accepted Answer

The initial margin is the minimum amount required by an investor to take a position in a futures contract. This margin is typically a percentage of the total value of the contract and serves as a deposit to guarantee the investor's performance. The initial margin may vary depending on the commodity being traded and the risk associated with it.

Question 12

The process of identifying firm-specific risk exposures and managing those exposures is called

Accepted Answer

Risk management involves identifying, analyzing, and managing risk exposures. Firm-specific risk exposures are those risks that are particular to a specific company, such as operational risks, financial risks, and strategic risks. Therefore, B is the correct answer. Capital management and financial management are related to managing the company's finances, while none of the above is too vague to be the answer.

Question 13

Today,the price of an October oil futures contract closed at $49.50 per barrel.Yesterday,the contract closed at $50.25.When margin accounts are marked to market,

Accepted Answer

When margin accounts are marked to market, the account holder will either receive a credit or a debit depending on the change in the contract price. In this case, since the contract price decreased by $0.75, long positions would have $0.75 per barrel deducted from their margin account. So, option B is the correct answer.

Question 14

Suppose Snooty Wine Importers has an order of Chateau de Snoot wines arriving from France in October,and the order will be paid in euros.If Snooty enters a contract today with a forward rate of 0.9 euros per U.S.dollar for October delivery,and the spot rate in October turns out to be euro 0.85 per U.S.dollar,what is the effect of the forward contract on Snooty?

Accepted Answer

Snooty Importers lost $37,500. The forward rate of 0.9 euros per U.S. dollar means that Snooty agreed to pay 0.9 euros for each U.S. dollar it will use to pay for the order in October. However, the spot rate in October turned out to be 0.85 euros per U.S. dollar, meaning that if Snooty had not entered into the forward contract, it would have paid less euros to cover the cost of its order. Therefore, the forward contract resulted in a loss of $37,500 for Snooty.

Question 15

Exhibit 23-1
S&P 500 Index; $250 ´ index May 2004
 
-Refer to Exhibit 23-1.How many June contracts were outstanding at the end of the trading day?

Accepted Answer

The value of the S&P 500 Index in May 2004 was $250 times the index, which is not provided in the exhibit. Therefore, we cannot calculate the value of the index in May 2004. However, the June contracts outstanding at the end of the trading day are given as 183,158, which is the answer.

Question 16

Exhibit 23-1
S&P 500 Index; $250 ´ index May 2004
 
-Refer to Exhibit 23-1.If you are interested in purchasing a September S&P 500 index futures contract,what is the value of that contract?

Accepted Answer

1049.9(250)= 262,475

Question 17

You plan to buy a 2 year zero coupon bond one year from today.If the risk free rate is 5.6% and a three year zero-coupon bond currently sells for $843.25,what should be the forward price?

Accepted Answer

843.25(1.056)= 890.47

Question 18

If the current spot exchange rate on the Euro is €0.7805/$ and the one year risk free rate for borrowing in dollars is 3% and 4% for borrowing in Euros,what should be the one year $/€ forward exchange rate?

Accepted Answer

(1/.7805)(1.03/1.04)= 1.2689

Question 19

Snooty Wine Importers has an order of exclusive Chateau de Snoot wines arriving from France in October,and the order will be paid in euros.Which of the following will hedge the importer's currency exposure?

Accepted Answer

Buying euros forward will lock in a rate for the importer to purchase euros at a future date, protecting them from any unfavorable currency fluctuations. Selling euros forward would not protect the importer's exposure as they need to purchase euros. Selling dollars forward is also not relevant as the importer is not concerned with the US dollar, and selling wine futures would not protect their currency exposure.

Question 20

Exhibit 23-1
S&P 500 Index; $250 ´ index May 2004
 
-Refer to Exhibit 23-1.What is the highest value at which the June contract has ever been quoted?

Accepted Answer

1044.2(250)= 261,050

Quiz 23: Risk Management