Reading 46: Basics of Derivative Pricing and Valuation

Which of the following best describes the concept of arbitrage?

In the context of derivative pricing, what does the term 'replication' refer to?

Risk-neutral pricing determines the value of a derivative by discounting expected future cash flows at which rate?

At the initiation of a forward contract, which of the following statements regarding its value and price is correct?

Calculate the no-arbitrage forward price for a 1-year contract on an asset with a spot price of 100 EUR, assuming a risk-free rate of 5 percent and no holding costs or benefits.

An investor holds a long position in a forward contract with a forward price of 50. At expiration, the spot price of the underlying asset is 55. What is the payoff to the investor?

A forward contract was initiated with a forward price of 105. Six months later, the spot price of the asset is 110, and the risk-free rate is 4 percent. What is the value of the long forward position? (Assume T=1 at initiation, so 0.5 years remain).

How do monetary benefits, such as dividends, affect the no-arbitrage forward price of an asset?

What is the 'convenience yield' of an asset?

Calculate the no-arbitrage futures price for a 1-year contract on an asset with a spot price of 200, given a risk-free rate of 3 percent and a net cost of carry of -5 (negative).

If a forward contract on an asset has a positive net cost of carry (benefits exceed costs), the forward price will be:

What is the primary difference between a Forward Rate Agreement (FRA) and a standard forward contract?

To create a synthetic long position in an FRA (to hedge against rising rates), a bank could:

Why might the price of a futures contract differ from the price of an otherwise identical forward contract?

If interest rates and futures prices are positively correlated, the futures price will generally be:

An interest rate swap is economically equivalent to:

At the initiation of a plain vanilla interest rate swap, the value of the swap is:

A 'call' option is said to be 'in-the-money' when:

Calculate the exercise value (intrinsic value) of a put option with a strike price of 50 when the underlying stock is trading at 42.

An option has a premium of 5. Its exercise value is 3. What is its time value?

How does an increase in the volatility of the underlying asset affect the value of call and put options?

Which of the following factors is inversely related to the value of a call option (i.e., higher factor value leads to lower call value)?

Which of the following describes the relationship between the risk-free rate and the value of a put option?

According to put-call parity for European options, a fiduciary call (Call + Risk-free bond) has the same payoff as which portfolio?

Given the following: Stock Price = 52, Put Price = 1.50, Strike Price = 50, Risk-free Rate = 5 percent, Time = 0.25 years. Calculate the no-arbitrage price of the Call option using put-call parity.

Using put-call parity, how can a synthetic share of stock be created?

Put-Call-Forward parity is derived by substituting which of the following into the standard put-call parity equation?

In the binomial model, the risk-neutral probability of an up-move depends on:

Calculate the value of a 1-year call option using a one-period binomial model. Current Stock = 30. Up factor = 1.15. Down factor = 0.87. Risk-free rate = 7 percent. Strike = 30.

Under what condition would an American call option on a stock be worth more than an otherwise identical European call option?

Why might an American put option be exercised early?

If a portfolio has a guaranteed payoff of 105 in one year and costs 100 today, and the risk-free rate is 3 percent, what action should an arbitrageur take?

A 'fiduciary call' consists of:

For an asset with storage costs, the forward price is calculated as:

A 'synthetic' European put option can be created by:

Which of the following best describes the 'payoff' of a protective put at expiration?

In a one-period binomial model, the risk-neutral probability of a down move is:

If a call option is 'at-the-money', its time value is:

A 'synthetic' bond (risk-free asset) can be constructed using options and stock by:

If the forward price is F0(T) = 100 and the contract expires in T=1 year, what is the value of the forward contract to the long party when the spot price is 102 just before expiration (essentially t=T)?

An off-market forward contract is one where:

Which of the following portfolios replicates a long position in a Forward Rate Agreement (receiving floating, paying fixed)?

If the convenience yield of a commodity is extremely high, the market is likely in:

Calculate the price of a 1-year swap where the present value of expected floating payments is 2.0 million and the notional principal is 100 million. The discount factor for 1 year is 0.95.

A call option is worth more 'alive than dead' (uncercised) usually because:

Which factor would decrease the value of a call option?

In the binomial model, if the risk-free rate increases while U and D remain constant, the risk-neutral probability of an up-move (pi_U):

Value of a forward contract at expiration (Time T) is:

How is the settlement price of a futures contract typically determined?

What is the lower bound of a European call option price on a non-dividend paying stock?