Derivatives: Forward contracts

1. A short forward contract has an unlimited loss potential. True or False

2. On the expiration date of a futures contract, the price of the contract

(A) always equals the purchase price of the contract

(B) always equals the average price over the life of the contract.
(C) always equals the price of the underlying asset
(D) always equals the average of the purchase price and the price of underlying
asset
(E) cannot be determined

3. Explain the margin requirement for financial futures and how marking to market
affects the margin account.

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 Derivatives: Options
1. An agent is only allowed to write options on an underlying asset if he/she already
owns units of the underlying. True or false?

2. A covered call is a portfolio consisting of a written call option and the short
underlying. True or false?

3. Today’s price of a non-dividend-paying stock is $1000 and the annual discretely

compounded risk-free rate is given to be 5%. You write a one-year, $1,050-
strike Eureopan call option for a premium of $10 while you simultaneously buy
the stock (assume you finance the stock purchase by borrowing at the risk-free
rate). What is your profit if the stock’s spot price in one year equals $1,200?

4. For what values of the final asset price is the profit of a long forward contract
with the forward price F = 100 and delivery date T in one year smaller than the
profit of a long call on the same underlying asset with the strike price K = 100
and the exercise date T. Assume that the call’s premium equals $10 and that the
annual effective interest rate equals 10%. Express your answer as an interval.

(A) 0 ≤ ST < 100

(B) 0 ≤ ST < 89
(C) ST ≥ 89
(D) ST ≥ 100
(E) Never

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5. The following one-period binomial stock price model was used to calculate the
price of a one-year 10-strike call option on the stock.

12
%
10
&
8

You are given:

• The period is one year.

• The true probability of an up-move is 0.75.
• The stock pays no dividends.
• The price of the one-year 10-strike call is $1.13.

Upon review, the analyst realizes that there was an error in the model construc-
tion and that Sd, the value of the stock on a down-move, should have been 6
rather than 8. The true probability of an up-move does not change in the new
model, and all other assumptions were correct.
Recalculate the price of the call option.

(A) $1.13
(B) $1.20
(C) $1.33
(D) $1.40
(E) $1.53.