Derivatives

Question 1

Is the contract price of a forward a current price or future price?

Answer 1

Future price.

Question 2

What does 3 x 5 FRA mean?

Answer 2

A 60-day contract starting in 90 days.

Question 3

What is the formula for fixed swap rate?

Answer 3

FSR = (1 - Last DR) / Sum of DRs

Question 4

How do you calculate annual swap rate?

Answer 4

Annual swap rate = FSR * 360/ t

Question 5

What is the value of the floating side of an interest swap on a coupon payment date, and why?

Answer 5

0, because the coupon resets to the spot rate.

Question 6

How do dividends affect the value of call options?

Answer 6

They decrease the value.

Question 7

How do dividends affect the value of put options?

Answer 7

They increase the value.

Question 8

What is the relationship between the risk-free rate and call value?

Answer 8

Positively related.

Per put-call parity, S + P = C + K/1+r, so if r increases, C must increase to balance the equation.

Question 9

Are market prices required to calculate implied volatility?

Answer 9

Yes.

Question 10

Are the inputs to calculate delta percentage changes or absolute value changes?

Answer 10

Absolute value changes.

Question 11

In the BSM model, are asset returns or asset prices lognormally distributed?

Answer 11

Asset prices.

Question 12

In the BSM model, does the asset have cash flows?

Answer 12

No.

Question 13

In the BSM model, is the option American, European or Bermudan?

Answer 13

European - it can only be exercised at maturity.

Question 14

What is the formula for calculating the up-factor and down-factor in a binomial pricing model?

Answer 14

Up-Factor = ((1+r) - (1-d%)) / ((1+u%) - (1-d%))

Question 15

When is the delta of an option 1 and when is it 0?

Answer 15

In the money or at maturity date = 1

Out of the money or far from maturity date = 0

Question 16

When is the gamma of an option 1 and when is it 0?

Answer 16

1 = At the money

0 = Away from the money

Question 17

What is a covered call?

Answer 17

Covered Call = Long Stock - Short Call

Question 18

What is a protective put?

Answer 18

Protective Put = Long Stock + Long Put

Question 19

What is a bull call spread?

Answer 19

Bull Call Spread = Long Lower Call - Short Higher Call

Question 20

What is a long straddle?

Answer 20

Long Straddle = Long Call and Long Put

Question 21

What do all spread strategies have in common?

Answer 21

They have limited upside.

Question 22

What is the gamma of equity shares?

Answer 22

0.

Question 23

What is the formula for future price of an index, given, spot price, risk-free rate, time to maturity and dividend yield?

Answer 23

FP = S * Ln(Rf-D))t/365)

Question 24

All things equal, which will have a higher value if the option is in the money, a future or a forward?

Answer 24

A forward, as the future value will only be the value gained since previous mark to market.

Question 25

What is the formula for value of a convertible callable bond?

Answer 25

V = Value of option-free bond
+ Value of conversion option
- Value of call option

Question 26

What is the formula for value of an interest rate swap?

Answer 26

∑DF * (PSFRt - PSFR) * Notional Amount

Question 27

What is the formula for value of an equity swap?

Answer 27

V = Index Return - Last DF - (PSFR*∑DF) * Notional Amount