Financial Engineering
Final Exam Questions
Course Introduction
Financial Engineering is an interdisciplinary course that explores the application of mathematical methods, computational techniques, and statistical tools to solve complex problems in finance. The course covers the design, analysis, and management of financial instruments and portfolios, with a focus on derivatives, risk management, asset pricing, and structured products. Students will learn how to model financial markets, implement quantitative strategies, and utilize software tools for simulation and optimization. Emphasis is placed on real-world case studies and current trends in financial innovation, preparing students for roles that bridge finance, mathematics, and technology.
Recommended Textbook
Foundations of Financial Markets and Institutions 4th Edition by Frank J. Fabozzi
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Chapter 1: Introduction
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Q1) The third economic function of a financial market is that it reduces the cost of transacting. Name and describe the two costs associated with this economic function.
Answer: There are two costs associated with reducing the cost of transacting:search costs and information costs.
Search costs represent explicit costs, such as the money spent to advertise one's intention to sell or purchase a financial asset, and implicit costs, such as the value of time spent in locating a counterparty. The presence of some form of organized financial market reduces search costs.
Information costs are costs associated with assessing the investment merits of a financial asset, that is, the amount and the likelihood of the cash flow expected to be generated. In an efficient market, prices reflect the aggregate information collected by all market participants.
Q2) The market stability regulator would take on the traditional role of the Federal Reserve by giving it the responsibility and authority to ensure overall financial market stability.
A)True
B)False
Answer: True
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Page 3
Chapter 2: Financial Institutions, Financial Intermediaries, and Asset Management Firms
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Q1) Financial intermediaries play the basic role of transforming financial assets that are less desirable for a large part of the public into other financial assets (their own liabilities) which are more widely preferred by the public. This transformation involves at least one of four economic functions. Which of the below is NOT one of these functions?
A) providing maturity intermediation
B) enhancing risk via diversification
C) reducing the costs of contracting and information processing
D) providing a payments mechanism
Answer: B
Q2) The objective of a ________ is to earn a positive spread between the assets it invests in (what it has sold the money for) and the costs of its funds (what it has purchased the money for).
A) limited partnership
B) corporation
C) life insurance company
D) depository institution
Answer: D
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Chapter 3: Depository Institutions: Activities and Characteristics
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Sample Questions
Q1) The three sources of funds for banks are ________.
A) salaries, nondeposit borrowing, common stock, and retained earnings.
B) deposits, nondeposit borrowing, common stock, and retained earnings.
C) deposits, salaries and wages, common stock, and retained earnings.
D) deposit borrowing, bonds, and retained earnings.
Answer: B
Q2) The basic motivation behind creation of S&Ls was the providing of funds for financing the purchase of a home.
A)True
B)False
Answer: True
Q3) In our financial system, commercial banks provide numerous services that can be broadly classified. Which of the below is NOT one of these broadly classified services?
A) individual banking
B) forthright banking
C) institutional banking
D) global banking
Answer: B
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Chapter 4: The US Federal Reserve and the Creation of Money
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Q1) The Federal Reserve System consists of 12 districts covering the entire country; each district has a Federal Reserve Bank with its own president.
A)True
B)False
Q2) The Fed's most powerful instrument is its authority to conduct ________, which means that the Fed may buy and sell, in open debt markets, government securities for its own account.
A) reserve requirements
B) open market repurchase agreements
C) open market operations
D) discount rate
Q3) ________ is developing and coordinating information sharing within the Bank, with the FSA and HM Treasury, and with authorities internationally to ensure future financial crises are handled and managed effectively.
A) Risk Assessment
B) Crisis management
C) Risk Reduction
D) Oversight of Payment Systems
Q4) Describe the meaning of the word money.
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Chapter 5: Monetary Policy in the United States
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Q1) Overall, according to the Keynesian view of the economy, a ________ in the fed funds rate should lead to a(n) ________ level of output and employment in the economy.
A) decline; lower
B) rise; higher
C) decline; unknown
D) None of these
Q2) An easy money policy of expanding the money supply (that is, stimulating higher growth rates for one or more monetary aggregates) may appear to promote ________, but it may also raise the prospect of inflation, affect the exchange rate disadvantageously, and increase interest rates.
A) growth and low interest rates
B) growth and high interest rates
C) stagnation and low interest rates
D) stagnation and high interest rates
Q3) Interestingly, in recent years, many central banks have adopted inflation, despite certain problems in measurement, as a key intermediate variable.
A)True
B)False
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Page 7
Chapter 6: Insurance Companies
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Q1) Which of the below is TRUE of term life insurance?
A) Term insurance is pure life insurance.
B) If the insured retires at the age of 62 while the policy is intact, the beneficiary of the policy receives the benefit.
C) If the insured does not die within the period, the policy is valid and still has a cash value.
D) The policyholder can borrow against the policy.
Q2) Liability insurance insures against the inability of employed persons to earn an income in either their own occupation or any occupation.
A)True
B)False
Q3) Traditional cash value life insurance, usually called ________ insurance, has a guaranteed buildup of cash value based on the general account portfolio of the insurance company.
A) term life
B) cash value life
C) whole life
D) guaranteed life
Q4) Name and briefly describe four major types of insurance.
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Chapter 7: Investment Companies and Exchange Traded Funds
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Q1) Which of the below statements is FALSE?
A) ETFs do not have ticker symbols.
B) ETFs can be sold short or bought on margin (i.e., with borrowed money), and it is even possible to trade options on many ETFs.
C) To assure that the price of the ETF would be very close to the continuously known NAV of the portfolio, an agent could be commissioned to arbitrage between the ETF and the underlying portfolio and keep their values equal.
D) Rather than dealing directly with the fund company, investors buy ETF shares from another individual investor via an exchange at a price determined by supply and demand for the ETF, not the ETF's underlying NAV as is the case for mutual funds.
Q2) Financial intermediaries provide some or all of the following six economic functions: (1) risk reduction via diversification, (2) lower costs of contracting and processing information, (3) professional portfolio management, (4) liquidity, (5) variety, and (6) a payments mechanism. Describe three of these functions, as provided by mutual funds.
Q3) What are variable annuities?
Q4) Explain what is meant by an index fund. In your answer contrast it with an active fund.
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Chapter 8: Pension Funds
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Q1) There are several fundamental differences between defined-benefit plans and defined-contribution plans. In the defined-benefit plan, the plan sponsor does which of the following?
A) The sponsor does not guarantee the retirement benefit
B) The sponsor does not make the investment choices
C) The sponsor bears the investment risk if the investments earn enough to fund the guaranteed retirement benefits.
D) The sponsor bears the investment risk if the investments do not earn enough to fund the guaranteed retirement benefits.
Q2) A major change of the Pension Fund Protection Act of 2006 required underfunded plans to pay additional premiums to the Pension Benefit Guaranty Corporation (PBGC).
A)True
B)False
Q3) The Pension Protection Act of 2006 (PPA) contains two major parts. Describe these two parts.
Q4) Describe the essence of a qualified fund.
Q5) Explain the "prudent man" concept.
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Chapter 9: Properties and Pricing of Financial Assets
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Sample Questions
Q1) Suppose the cash flows for a bond's coupon payment for years 1 through 4 are $100. That is, CFt = $100 for t (t = 1, ... ,4). Further assume the the discount rate is 9.00% and at the end of year the bond will pay back the bond's par value of $1,000. To the nearest dollar, what is the correct price for this bond?
A) $866
B) $932
C) $1,012
D) $1,032
Q2) Suppose that you have a bond issued by a German firm and that all payments are in euros for the maturity of the bond which is four years. Why is the cash flow in U.S. dollars that you will receive as a U.S. investor uncertain? In your answer illustrate the uncertainty in terms of an exchange rate premium and the appropriate discount rate.
Q3) A ________ asset is one that provides options for the issuer or the investor, or both, and so represents a combination of simpler assets.
A) complex
B) taxable
C) predictable and divisible
D) liquid
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Chapter 10: The Level and Structure of Interest Rates
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Sample Questions
Q1) Explain what is meant by the liquidity effect.
Q2) Which of the below statements is FALSE?
A) Although an increase in the money supply is an economically expansionary policy, the resultant increase in income depends substantially on the amount of slack in the economy at the time of the Fed's action.
B) In Fisher's terms, the interest rate reflects the interaction of the savers' marginal rate of time preference and borrowers' marginal productivity of capital.
C) Changes in the money supply can affect the level of interest rates through the liquidity effect, the income effect, and the price expectations effect; their relative magnitudes depend upon the level of economic activity at the time of the change in the money supply.
D) Because the price level (and expectations regarding its changes) affects the money demand function, the liquidity effect is an increase in the interest rate.
Q3) The ________ the market price, the higher the yield to maturity.
A) higher
B) less risky
C) more safe
D) lower
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Chapter 11: The Term Structure of Interest Rates
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Q1) Which of the below statements is TRUE?
A) The pure expectations theory pays attention to the risks inherent in investing in bonds and like instruments.
B) In regards to the uncertainty about the return over some investment horizon, one risk involves the uncertainty about the price of the bond at the beginning of the investment horizon.
C) An investor who plans to invest for five years would not consider the alternative of investing in a 30-year bond and selling it at the end of five years.
D) The risk that the price of the bond will be lower than currently expected at the end of the investment horizon is called price risk.
Q2) There have not been many instances in the recent history of the U.S. Treasury market where the yield curve exhibited ________.
A) a downward-sloping.
B) a normal sloping yield curve.
C) a reverted yield curve.
D) an upward-sloping yield curve.
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Chapter 12: Risk/Return and Asset Pricing Models
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Q1) An repelling feature of the APT model is that it makes few assumptions about investors and the structure of the market.
A)True
B)False
Q2) Consider an investor who holds a risky portfolio that has the same risk as the market portfolio. If the beta is one then the investor should expect to earn ________. Consider another investor who holds a riskless portfolio such as Treasury bills. If the beta is zero then the investor should earn ________.
A) the riskless rate of return; the market portfolio rate of return.
B) the risky return; the riskless rate of return.
C) the market portfolio rate of return; the riskless rate of return.
D) the market portfolio rate of return; the corporate bond rate of return.
Q3) ________ postulates that a security's expected return is influenced by a variety of factors, as opposed to just the single market index.
A) The arbitrage pricing theory model
B) The CAPM
C) The multifactor CAPM
D) The capital asset pricing model
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Chapter 13: Primary Markets and the Underwriting of Securities
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Q1) The registration is actually divided into two parts. Part I is the ________. It is this part that is typically distributed to the public as an offering of the securities. Part II contains ________, which is not distributed to the public as part of the offering but is available from the SEC upon request.
A) registration; additional information
B) prospectus; supplemental information
C) supplemental information; registration
D) beginning information; prospectus
Q2) The type of information contained in the registration statement includes ________.
A) the nature of the business of the issuer and key provisions or features of the security.
B) the nature of the investment risks associated with the security and the background of management.
C) the nature of the business of the issuer and the background of management.
D) All of these
Q3) An offering of a new security cannot be made by means of an auction process.
A)True
B)False
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Page 15
Chapter 14: Secondary Markets
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Q1) By taking the opposite side of a trade when there are no other orders, the dealer prevents the price from ________ from the price at which a recent trade was consummated.
A) materially converging
B) materially diverging
C) immaterially concurring
D) immaterially diverging
Q2) ________ are necessary to the smooth functioning of a secondary market.
A) Inexperienced investors
B) Initial public offerings
C) Investment bankers
D) Brokers and dealers
Q3) This practice of selling securities that are not owned at the time of sale is referred to as ________.
A) buying short.
B) selling short.
C) selling long.
D) buying and selling simultaneously.
Q4) In the United States, secondary trading of common stock occurs in a number of trading locations. Describe these locations.
Page 16
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Chapter 15: Treasury and Agency Securities Markets
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Q1) When the Fed buys collateral for its own account, this is called a collateral system.
A)True
B)False
Q2) What is the reason for distinguishing between local debt ratings and foreign currency debt ratings?
Q3) ________, additional bonds of a previously outstanding bond issue are auctioned where the government announces periodically that it is adding this new supply.
A) In the regular calendar auction/Dutch-style auction system
B) In the regular calendar auction/minimum-price offering system
C) In the ad hoc auction system
D) In a tap system
Q4) There are four methods that have been used in distributing new securities of central governments. Which of the below is NOT one of these?
A) One of these is the regular calendar auction/Dutch-style system.
B) One of these is the ad hoc auction system.
C) One of these is the top system/maximum-price offering system.
D) One of these is the regular calendar auction/minimum-price offering system.
Q5) Describe two types of government-chartered entities.
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Chapter 16: Municipal Securities Markets
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Q1) The reasons for the exemption afforded municipal securities appear to relate to
A) a desire for harmonious and cooperative relations among the various levels of government in the United States.
B) the presence of recurrent abuses in transactions involving municipal securities.
C) the greater level of naïveté of investors in this segment of the securities markets.
D) the fact that there had been many defaults by municipal issuers
Q2) The Municipal Securities Rulemaking Board (MSRB) has no enforcement or inspection authority.
A)True
B)False
Q3) What is The Bond Buyer.
Q4) The investor in a municipal security is not exposed to credit risk.
A)True
B)False
Q5) There are two types of tax risk to which tax-exempt municipal securities buyers are exposed. Describe one of these two types.
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Chapter 17: Markets for Common Stock: The Basic
Characteristics
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Q1) A transaction in which an investor borrows to buy shares using the shares themselves as collateral is called ________.
A) buying on margin.
B) selling on margin.
C) buying on loan.
D) selling on loan.
Q2) Empirical evidence on insider trading argues against the notion that the market is efficient in the ________ sense.
A) weak form
B) true form
C) strong-form
D) None of these
Q3) If the price at a future date ________ the purchase price, then there is a ________.
A) less than; capital gain
B) less than; a taxable gain
C) exceeds; capital loss
D) exceeds; capital gain
Q4) Name and describe the three different forms of pricing efficiency.
Page 19
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Chapter 18: Markets for Common Stock: Structure and Organization
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Q1) ________ matches buy and sell orders in a multinational trade at a price that is set elsewhere.
A) Investment Technologies Groups (ITG)
B) A debit network
C) A crossing network
D) WorthNET
Q2) Contrast the differences between exchanges and publicly owned equity-based organization.
Q3) Among the advantages of dark pools are less or no visibility and no price discovery.
A)True
B)False
Q4) In contrast to ________ that is a nonprofit organization, a publicly owned equity-based organization is ________ and operated for a profit.
A) a corporation; an exchange
B) an exchange; a corporation
C) a corporation; a government entity
D) a government entity; an exchange
Q5) What is a dark pool? Describe two of the sponsors of dark pools.
Page 20
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Chapter 19: Markets for Corporate Senior Instruments: I
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Q1) ________ may have a subsidiary that is a finance company, which provides loans to enable individuals and businesses to acquire a wide range of products.
A) Bank property companies
B) Captive finance companies
C) Bank holding companies
D) Independent finance companies
Q2) In regards to a syndicated bank loan, which of the below statements is TRUE?
A) A syndicated loan is not arranged by either a bank or a securities house.
B) Each bank in the syndicate provides the funds for which it has committed.
C) The banks outside the syndicate have the right to sell their parts of the loan subsequently to other banks.
D) Syndicated loans are distributed by two methods: assignment or participation with each method having its relative advantages and disadvantages, with the method of participation the more desirable of the two.
Q3) Commercial rating companies play a key role in the functioning of common stock markets in the United States, and their role in other countries is increasing.
A)True
B)False
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Chapter 20: Markets for Corporate Senior Instruments: II
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Q1) Which of the below statements is TRUE?
A) Fixed-rate securities are attractive to some institutional investors because they allow them to buy an asset with an income stream that closely matches the floating nature of the income of some of their liabilities.
B) The lowest-grade bonds are designated by Moody's by the symbol Aaa and by the other three rating systems by the symbol AAA.
C) Frequently, the ability of an issuer to make interest and principal payments is seriously and unexpectedly changed by a natural or industrial accident or some regulatory change.
D) Each rating agency periodically publishes a table showing the upgrade and downgrade history of the issues that it rated.
Q2) Business risk is the risk associated with operating cash flows.
A)True
B)False
Q3) Common stock is a class of stock in which the dividend rate is typically a fixed percentage of par or face value.
A)True
B)False
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Chapter 21: The Markets for Bank Obligations
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Q1) Which of the below statements is FALSE?
A) The Federal Reserve imposes no limit on the amount of eligible bankers acceptances that may be issued by a bank.
B) An accepting bank that has decided to retain a bankers acceptance in its portfolio may be able to use it as collateral for a loan at the discount window of the Federal Reserve.
C) The Federal Reserve imposes a reserve requirement on funds raised via bankers acceptances that are ineligible.
D) Investing in bankers acceptances exposes the investor to credit risk.
Q2) The effective fed funds rate is the rate least often cited for the fed funds market. A)True B)False
Q3) Banks in the United States can be classified into four groups. Name three of these four groups.
Q4) Investing in bankers acceptances exposes the investor to credit risk. Describe this risk.
Q5) The yields posted on CDs vary depending on three factors. Name these three factors.
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Chapter 22: The Residential Mortgage Market
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Q1) Which of the below statements is TRUE?
A) For an fixed-rate mortgage (FRM), as the name implies, the note rate changes over the life of the loan.
B) A category of reference rates used in ARMs is the nominal rate.
C) The basic ARM is one that resets periodically and has no other terms that affect the monthly mortgage payment.
D) An unpopular form of an ARM is the hybrid ARM.
Q2) The amount of the payment made in excess of the monthly mortgage payment is called a prepayment.
A)True
B)False
Q3) Mortgage servicers include bank-related entities, thrift-related entities, and mortgage bankers. There are five sources of revenue from mortgage servicing. Describe two of these five sources.
Q4) The two primary quantitative underwriting standards are (1) the payment-to-income ratio (PTI), and (2) the loan-to-value ratio (LTV). Describe these two ratios.
Q5) What is the mission of Freddie Mac and Fannie Mae? What does their federal charter allow for?
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Chapter 23: Mortgage-Backed Securities Market
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Q1) What is a PO?
Q2) A ________ security divides the cash flow from the underlying pool of mortgages on a pro rata basis to the securityholders, while a ________ security is created by altering that distribution of principal and interest from a pro rata distribution to an unequal distribution.
A) mortgage pass-through; stripped mortgage-backed
B) hedged pass-through; prepayment mortgage-backed
C) hedged pass-through; stripped mortgage-backed
D) mortgage pass-through; prepayment mortgage-backed
Q3) The "private label mortgage market" sector includes loans that ________.
A) conform for a reason other than credit quality or if the loan is not a first lien on the property.
B) do not satisfy the underwriting standards of Ginnie Mae, Fannie Mae, and Freddie Mac (i.e., conforming loans).
C) fail to conform for a reason other than credit quality or if the loan is not a first lien on the property.
D) fail to conform the underwriting standards of Ginnie Mae, Fannie Mae, and Freddie Mac (i.e., conforming loans).
Q4) What does the creation of a CMO accomplish? Briefly explain.
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Chapter 24: Market for Commercial Mortgage Loans and Commercial Mortgage-Backed Securities
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Q1) ________ is a security backed by one or more commercial mortgage loans.
A) A CMBS
B) An RMBS
C) An FHA
D) A COM
Q2) CMBS can be issued by ________.
A) Ginnie Mac
B) Fannie Mac.
C) Freddie Mae.
D) private entities.
Q3) Which of the below statements is FALSE?
A) Although there are residential mortgages with prepayment penalties, they are a small fraction of the market.
B) In structuring a CMBS, if there is a defeasance, the credit risk of a CMBS virtually disappears because it is then backed by U.S. Treasury securities.
C) With commercial mortgages, the loan can be transferred by the servicer to the special servicer when the borrower is in default, imminent default, or in violation of covenants.
D) None of these
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Chapter 25: Market for Asset-Backed Securities
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Q1) The collateral in a securitization can be classified as either amortizing or nonamortizing assets.
A)True
B)False
Q2) The assets that are securitized can have a fixed rate or a floating rate, which in turn impacts the structure in terms of the coupon rate for the bonds issued. Illustrate this.
Q3) The cash flow for auto loan-backed securities consists of regularly scheduled monthly loan payments (interest and scheduled principal repayments) and any prepayments.
A)True
B)False
Q4) If there are a few borrowers in the pool that are significant in size relative to the entire pool balance, this diversification benefit can be lost, resulting in a higher level of credit risk referred to as ________.
A) focus risk.
B) concentration risk.
C) concentric risk.
D) intensity risk.
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Chapter 26: Financial Futures Markets
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Q1) In regards to interest rate futures contracts, which of the below statements is FALSE?
A) Interest rate futures contracts can be classified by the maturity of their underlying security.
B) Short-term interest rate futures contracts have an underlying security that matures in less than one year.
C) The maturity of the underlying security of long-term futures contracts exceeds one year.
D) A few of the major financial markets outside the United States have similar futures contracts in which the underlying security is a fixed-income security issued by the central government.
Q2) Most financial futures contracts have settlement dates in the months of ________.
A) January, April, July, October
B) March, June, September, or December.
C) February, May, August, November
D) All of these
Q3) Why would investors consider a futures market as more efficient for their investment objective? Explain.
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Chapter 27: Options Markets
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Q1) If the buyer of the futures option exercises, the futures price for the futures contract will be set equal to the exercise price, but the position of the two parties is then immediately marked to market based on the then-current futures price.
A)True
B)False
Q2) Suppose you purchase a call option on Asset XYZ that has an exercise price of $50. The option price is $3 per share. Suppose that on the expiration date, the current price is $49. What is your net profit or loss per share?
A) -$4.00
B) -$3.00
C) -$2.00
D) $0.00
Q3) The price at which the underlying (that is, the asset or commodity) may be bought or sold is called the ________.
A) exercise price.
B) wallop price.
C) strike-out price.
D) strike charge.
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Chapter 28: Pricing of Futures and Options Contracts
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Q1) At the delivery date, the price of a futures contract diverges from the cash market price.
A)True
B)False
Q2) Suppose a portfolio consisting of the long position in the asset and the short position in the call option is riskless and will produce a return that equals the risk-free interest rate. A portfolio constructed in this way is called ________.
A) a risk-reduced portfolio.
B) an unhedged portfolio.
C) a hedged portfolio.
D) a speculative portfolio.
Q3) ________ on the underlying asset tend to decrease the price of a call option because the cash payments make it more attractive to hold the underlying asset than to hold the option. For put options, ________ on the underlying asset tend to increase the price.
A) Noncash payments; cash payments
B) Cash payments; noncash payments
C) Cash payments; cash payments
D) Noncash payments; noncash payments
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Chapter 29: The Applications of Futures and Options Contracts
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Q1) Which of the below statements is TRUE?
A) Stock options cannot be used to take advantage of the anticipated price movement of individual stocks.
B) An investor can protect against a decline in the price of a stock in her portfolio by buying a call option on that stock.
C) By taking an appropriate position in a suitable stock index option, an institutional investor can create a protective put for part of the diversified portfolio.
D) A protective put buying strategy allows an investor to protect against a decline in the price of a stock in her portfolio by buying a put option on that stock.
Q2) Because futures are highly leveraged and transactions costs are less than in the cash market, market participants can alter their risk exposure to a market (stock or bond) less efficiently in the futures market.
A)True
B)False
Q3) Give two examples of how interest rate futures can be used to hedge against adverse interest rate movements by locking in either a price or an interest rate.
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Chapter 30: OTC Interest Rate Derivatives: Forward Rate
Agreements, Swaps, Caps, and Floors
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Q1) Which of the below statements is FALSE?
A) A serious obstacle to accepting the credit arbitrage explanation of the swap market is that opportunities for credit arbitrage should be rare in reasonably efficient international credit markets.
B) An argument suggested for the growth of the interest rate swap market is the increased volatility of interest rates that has led borrowers and lenders to hedge or manage their exposure.
C) To reduce the risk of default, today's swap transactions require that the lower credit-rated entity obtain a guarantee from a highly rated commercial bank.
D) To make money in the swaps market, intermediaries have to do a sufficient volume of business, which is possible only if they have (1) an extensive client base willing to use swaps, and (2) a large inventory of swaps.
Q2) A ceiling is created by buying an interest rate cap and selling an interest rate floor.
A)True B)False
Q3) What is forward start swap?
Q4) Describe an interest rate cap and an interest rate floor.
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Chapter 31: Market for Credit Risk Transfer Vehicles: Credit
Derivatives and Collateralized Debt Obligations
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Q1) ________ means that if a credit event as defined by the documentation occurs, the reference obligation is delivered by the protection buyer to the protection seller in exchange for a cash payment.
A) Documentation
B) Cash delivery
C) Physical delivery
D) Protection delivery
Q2) The interdealer market has evolved to where single-name credit default swaps for corporate and sovereign reference entities are ________.
A) customized.
B) standardized.
C) nonstandardized.
D) institutionalized.
Q3) In a synthetic CDO, payments to the tranches issued are generated from the collateral's coupon interest and principal from maturing or prepaid debt obligations.
A)True
B)False
Q4) By whom and for what reasons are credit derivatives used? Give an example.
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Chapter 32: The Market for Foreign Exchange and Risk
Control Instruments
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Q1) In general, an exchange rate is defined ________.
A) as the amount of one currency that can be exchanged for a unit of another currency.
B) as the amount of two currencies that can be exchanged for a unit of another currency.
C) as the amount of a Japanese yen (and no other currency) that can be exchanged for a unit of any other currency in the world.
D) as the amount of one currency (of any country) that can be exchanged for a unit of a U.S. dollar and no other currency.
Q2) A ________ is the number of units of a local currency exchangeable for one unit of a foreign currency, while an ________ is the number of units of a foreign currency that can be exchanged for one unit of a local currency.
A) direct price; indirect sale
B) indirect price; direct quote
C) direct quote; indirect quote
D) indirect quote; direct sale
Q3) Contrast what a currency option contract gives compared to a forward or futures contract. What is the option price?
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