CFA Derivatives and Risk Management 3

Question 1

Vega (ν) measures an option's sensitivity to changes in:

Accepted Answer

Implied volatility of the underlying asset

Answer

Vega measures how much the option's price changes for a 1% change in implied volatility; options increase in value with higher volatility (for both calls and puts).

Question 2

Which of the following is an example of basis risk in a hedging strategy?

Accepted Answer

Using a futures contract whose underlying does not perfectly match the asset being hedged, causing imperfect hedge performance

Answer

Basis risk arises when the futures contract's underlying (or its price behavior) does not perfectly match the hedged asset, causing the hedge to be imperfect.

Question 3

A bull call spread is constructed by:

Accepted Answer

Buying a call at a lower strike and selling a call at a higher strike

Answer

A bull call spread = long call at lower strike + short call at higher strike; it profits from moderate upward price moves while capping both profit and loss.

Question 4

In the Black-Scholes-Merton model, an increase in which of the following inputs increases call option value?

Accepted Answer

Increase in time to expiration

Answer

More time to expiration increases option value because there is more opportunity for the underlying to move favorably; time decay (theta) erodes value as expiry approaches.

Question 5

Which of the following is NOT a characteristic of exchange-traded derivatives?

Accepted Answer

Fully customizable terms to meet counterparty needs

Answer

Exchange-traded derivatives have standardized, non-customizable terms; customization is the hallmark of OTC derivatives, which sacrifice standardization for flexibility.

CFA Practice Test

CFA Practice Test

CFA Derivatives and Risk Management 3