FREE CDP Derivatives Markets & Instruments Questions and Answers

Question 1

What is a derivative in financial markets?

Accepted Answer

A financial contract based on underlying assets.

Answer

A derivative is a financial contract whose value is derived from an underlying asset, group of assets, or benchmark. These assets can include stocks, bonds, commodities, currencies, interest rates, or market indices. Derivatives allow investors to speculate on the future price movements of these underlying assets or to hedge against potential risks.

Question 2

Which of the following is NOT a common type of derivative?

Accepted Answer

Stocks

Answer

Stocks represent ownership shares in a company and are primary financial assets, not derivatives. Derivatives, by definition, derive their value from an underlying asset. Futures, options, and swaps are all common types of derivative contracts, as their value is dependent on the performance of other underlying assets.

Question 3

What is the primary purpose of using derivatives?

Accepted Answer

To hedge against financial risk.

Answer

While derivatives can be used for speculation and arbitrage, their primary economic purpose is often hedging. Hedging involves using derivatives to offset potential losses from adverse price movements in an underlying asset or liability. For example, a company can use a futures contract to lock in a future price for a commodity, protecting against price volatility.

Question 4

Which derivative instrument gives the holder the right but not the obligation to buy or sell an asset at a specified price?

Accepted Answer

Option contract

Answer

An option contract grants the buyer the right, but not the obligation, to buy (call option) or sell (put option) an underlying asset at a predetermined price (strike price) on or before a specific date. This "right, not obligation" feature is the defining characteristic that distinguishes options from futures or forward contracts, which impose an obligation on both parties.

Question 5

What distinguishes a futures contract from a forward contract?

Accepted Answer

Futures are standardized and exchange-traded.

Answer

Futures contracts are highly standardized agreements traded on organized exchanges, featuring daily marking-to-market and clearinghouse guarantees. In contrast, forward contracts are customized, privately negotiated agreements between two parties, typically over-the-counter (OTC), and carry counterparty risk. Standardization and exchange trading are key differentiators for futures.

CDP - Certified Derivatives Professional Practice Test

CDP - Certified Derivatives Professional Practice Test

FREE CDP Derivatives Markets & Instruments Questions and Answers