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Hedging and Contract Types Quiz

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Questions and Answers

What are the payoffs for financial derivatives linked to?

The volatility of interest rates

Securities that will be issued in the future

Government regulations specifying allowable rates of return

Previously issued securities (correct)

Which of the following is NOT considered a financial derivative?

Forward contracts

Futures

Options

Stocks (correct)

What is one reason to hedge a portfolio?

To reduce exchange rate risk

To increase the probability of gains

To limit exposure to risk (correct)

To profit from capital gains when interest rates fall

How is hedging risk for a long position typically accomplished?

Taking a short position (D) Signup and view all the answers

By hedging a portfolio, what risk does a bank manager typically aim to reduce?

Reinvestment risk (A) Signup and view all the answers

Which of the following is a characteristic of financial derivatives?

Linked to previously issued securities (B) Signup and view all the answers

When interest rates fall, what happens to the value of securities compared to futures contracts?

The increase in the value of the securities equals the decrease in the value of the futures contracts. (A) Signup and view all the answers

What is the purpose of hedging risk for a short position?

Taking a long position (C) Signup and view all the answers

What is a contract that requires the investor to buy securities on a future date called?

Long contract (A) Signup and view all the answers

What is the hedge called when a financial institution hedges the interest-rate risk for a specific asset?

Micro hedge (B) Signup and view all the answers

In a long contract, what does the investor need to do in the future?

Buy securities in the future (A) Signup and view all the answers

What is the term for the number of futures contracts outstanding?

Open interest (C) Signup and view all the answers

What does a person agree to do when they 'go long' in an asset at a future date?

Go short (B) Signup and view all the answers

Which feature of futures contracts was NOT designed to increase liquidity?

Marked to market daily (D) Signup and view all the answers

What is required of an investor in a short contract concerning the future?

Sell securities in the future (A) Signup and view all the answers

In hedging interest-rate risk on its overall portfolio, what type of hedge does a financial institution use?

Macro hedge (D) Signup and view all the answers

Which aspect characterizes a micro hedge in financial risk management?

Focuses on specific asset-level risk exposure (A) Signup and view all the answers

When a contract requires an investor to sell securities on a future date, what is it called?

Short contract (D) Signup and view all the answers