Futures and Derivatives M4 Flashcards

What is 'basis' in the context of futures trading?

Answer: The difference between the spot price and the futures price of an asset

Basis is calculated as the spot (cash) price minus the futures price, and it typically converges to zero as the contract approaches expiry.

A hedger using futures contracts to protect an existing long position in a commodity portfolio is exposed to which residual risk?

Answer: Basis risk

Even when hedged with futures, the hedger retains basis risk because the futures price and spot price may not move in perfect lockstep.

Which of the following is a key difference between exchange-traded futures and over-the-counter (OTC) derivatives?

Answer: Futures are standardised contracts cleared through a CCP, whereas OTC derivatives are customised bilateral agreements

Exchange-traded futures are standardised in terms and cleared centrally, eliminating counterparty risk, while OTC derivatives are bespoke bilateral contracts with direct counterparty exposure.

If a futures trader receives a margin call, what must they do?

Answer: Deposit additional funds to restore the margin account to at least the initial margin level

When a margin call is issued because the account falls below the maintenance margin level, the trader must top up the account to at least the initial margin requirement.

What does 'open interest' measure in a futures market?

Answer: The total number of outstanding futures contracts that have not been settled or closed

Open interest represents the total number of futures contracts that remain open (not yet offset by an opposite trade or settled by delivery) at any point in time.

Under the SFA in Singapore, which conduct is considered market manipulation in futures markets?

Answer: Entering fictitious transactions to create a false impression of active trading

Creating artificial trading activity through wash trades or fictitious transactions to mislead other market participants constitutes market manipulation under the SFA.

What is the concept of 'leverage' as it applies to futures trading?

Answer: The ability to control a large contract value by depositing only a small initial margin

Leverage in futures arises because the margin deposit is typically a small fraction of the contract's total value, amplifying both potential gains and losses.