CMFAS Futures and Derivatives M4 2 — Questions and Answers
Question 1: What is 'basis' in the context of futures trading?
- The difference between the spot price and the futures price of an asset (Correct answer)
- The commission charged by a futures broker on each trade
- The minimum price movement of a futures contract
- The expiry date of a futures contract
Correct 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.
Question 2: A hedger using futures contracts to protect an existing long position in a commodity portfolio is exposed to which residual risk?
- Basis risk (Correct answer)
- Liquidity risk only
- Credit risk from the exchange
- Interest rate risk from margin calls
Correct 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.
Question 3: Which of the following is a key difference between exchange-traded futures and over-the-counter (OTC) derivatives?
- Futures are standardised contracts cleared through a CCP, whereas OTC derivatives are customised bilateral agreements (Correct answer)
- Futures contracts have no expiry date, whereas OTC derivatives always expire monthly
- Futures can only be used for speculation, whereas OTC derivatives are only for hedging
- Futures require physical delivery, whereas OTC derivatives are always cash-settled
Correct 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.
Question 4: If a futures trader receives a margin call, what must they do?
- Deposit additional funds to restore the margin account to at least the initial margin level (Correct answer)
- Immediately close all open futures positions
- Transfer the futures contract to another broker
- Request a waiver from the clearing house
Correct 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.
Question 5: What does 'open interest' measure in a futures market?
- The total number of outstanding futures contracts that have not been settled or closed (Correct answer)
- The total trading volume of futures contracts on a given day
- The difference between the highest and lowest prices traded during a session
- The number of contracts available for trading on the exchange
Correct 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.
Question 6: Under the SFA in Singapore, which conduct is considered market manipulation in futures markets?
- Entering fictitious transactions to create a false impression of active trading (Correct answer)
- Executing large trades that legitimately move the market price
- Holding a significant long position in a futures contract
- Using publicly available information to make trading decisions
Correct 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.
Question 7: What is the concept of 'leverage' as it applies to futures trading?
- The ability to control a large contract value by depositing only a small initial margin (Correct answer)
- The process of borrowing securities from a broker to short sell
- The difference between the bid and ask price of a futures contract
- The maximum loss a trader can incur on any single futures trade
Correct 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.
CMFAS Futures and Derivatives M4 2
What is 'basis' in the context of futures trading?