1.

 Hedge funds ______ engage in market timing ______ take extensive derivative positions. 
A. cannot; and cannot
B. cannot; but can
C. can; and can
D. can; but cannot
E. none of the above

Hedge funds can engage in market timing and can take extensive derivative positions.

2. An example of a ______ strategy is the mispricing of a futures contract that must be corrected
by contract expiration. 
A. market neutral
B. directional
C. relative value
D. divergence
E. convergence

An example of a convergence strategy is the mispricing of a futures contract that must be

corrected by contract expiration.

3. If the yield on mortgage-backed securities was abnormally low compared to Treasury bonds, a
hedge fund may _______. 
A. short sell the Treasury and short sell the mortgage-backed securities
B. short sell the Treasury and buy the mortgage-backed securities
C. buy the Treasury and buy the mortgage-backed securities
D. buy the Treasury and short sell the mortgage-backed securities
E. C only since short sales are prohibited

4. In a futures contract the futures price is 

A. determined by the buyer and the seller when the delivery of the commodity takes place.
B. determined by the futures exchange.
C. determined by the buyer and the seller when they initiate the contract.
D. determined independently by the provider of the underlying asset.
E. none of the above.

The futures exchanges specify all the terms of the contracts except price; as a result, the traders
bargain over the futures price.
5. The buyer of a futures contract is said to have a __________ position and the seller of a
futures contract is said to have a __________ position in futures. 
A. long; short
B. long; long
C. short; short
D. short; long
E. margined; long

The trader taking the long position commits to purchase the commodity on the delivery date. The
trader taking the short position commits to delivering the commodity at contract maturity. The
trader in the long position is said to "buy" the contract; the trader in the short position is said to
"sell" the contract. However, no money changes hands at this time.

6. The terms of futures contracts such as the quality and quantity of the commodity and the
delivery date are 
A. specified by the buyers and sellers.
B. specified only by the buyers.
C. specified by the futures exchanges.
D. specified by brokers and dealers.
E. none of the above.

The futures exchanges specify all the terms of the contracts except price; as a result, the traders
bargain over the futures price.

7. A trader who has a __________ position in gold futures wants the price of gold to
__________ in the future. 
A. long; decrease
B. short; decrease
C. short; stay the same
D. short; increase
E. long; stay the same

Profit to short position = Original futures price - Spot price at maturity. Thus, the person in the
short position profits if the price of the commodity declines in the future.

8. Which one of the following statements regarding delivery is true? 

A. Most futures contracts result in actual delivery.
B. Only one to three percent of futures contracts result in actual delivery.
C. Only fifty of futures contracts result in actual delivery.
D. Approximately fifty percent of futures contracts result in actual delivery.
E. Futures contracts never result in actual delivery.

Virtually all traders enter reversing trades to cancel their original positions, thereby realizing
profits or losses on the contract.
9. You hold one long corn futures contract that expires in April. To close your position in corn
futures before the delivery date you must 
A. buy one May corn futures contract.
B. buy two April corn futures contract.
C. sell one April corn futures contract.
D. sell one May corn futures contract.
E. none of the above.

The long position is considered the buyer; to close out the position one must take a reversing
position, or sell the contract.

10. Which one of the following statements is true? 

A. The maintenance margin is the amount of money you post with your broker when you buy or
sell a futures contract.
B. The maintenance margin determines the value of the margin account below which the holder
of a futures contract receives a margin call.
C. A margin deposit can only be met with cash.
D. All futures contracts require the same margin deposit.
E. The maintenance margin is set by the producer of the underlying asset.

The maintenance margin applies to the value of the account after the account is opened; if the
value of this account falls below the maintenance margin requirement and the holder of the
contract will receive a margin call. A margin deposit can be made with cash or interest-earning
securities; the margin deposit amounts depend on the volatility of the underlying asset.

11. Which one of the following statements is false? 

A. The maintenance margin is the amount of money you post with your broker when you buy or
sell a futures contract.
B. The maintenance margin determines the value of the margin account below which the holder
of a futures contract receives a margin call.
C. A margin deposit can only be met with cash.
D. All futures contracts require the same margin deposit.
E. A, C, and D

The maintenance margin applies to the value of the account after the account is opened; if the
value of this account falls below the maintenance margin requirement and the holder of the
contract will receive a margin call. A margin deposit can be made with cash or interest-earning
securities; the margin deposit amounts depend on the volatility of the underlying asset.

12. To exploit an expected increase in interest rates, an investor would most likely 
A. sell Treasury bond futures.
B. take a long position in wheat futures.
C. buy S&P 500 index futures.
D. take a long position in Treasury bond futures.
E. none of the above.
If interest rates rise, bond prices decrease. As bond prices decrease, the short position gains.
Thus, if you are bearish about bond prices, you might speculate by selling T-bond futures
contracts.

13. An investor with a long position in Treasury notes futures will profit if 
A. interest rates decline.
B. interest rate increase.
C. the price of the long bond increases.
D. none of the above.

Profit to long position = Spot price at maturity - original futures price. Note that this question
asked about treasury NOTE futures, while answer C is about a bond.

14. To hedge a short position in Treasury bonds, an investor most likely would 
A. buy interest rate futures.
B. sell S&P futures.
C. sell interest rate futures.
D. buy Treasury bonds in the spot market.
E. none of the above.

By taking the short position, the hedger is obligated to deliver T-bonds at the contract maturity
date for the current futures price, which locks in the sales price for the bonds and guarantees that
the total value of the bond-plus-futures position at the maturity date is the futures price.

15. An increase in the basis (futures price and the spot price) will __________ a long hedger and
__________ a short hedger. 
A. hurt; benefit
B. hurt; hurt
C. benefit; hurt
D. benefit; benefit
E. benefit; have no effect upon

If a contract and an asset are to be liquidated early, basis risk exists and futures price and spot
price need not move in lockstep before delivery date. An increase in the basis will hurt the short
hedger and benefit the long hedger.

16. You sold one silver future contract at $3 per ounce. What would be your profit (loss) at
maturity if the silver spot price at that time is $4.10 per ounce? Assume the contract size is 5,000
ounces and there are no transactions costs. 
A. $5.50 profit
B. $5,500 profit
C. $5.50 loss
D. $5,500 loss
E. none of the above.
$3.00 - $4.10 = -$1.10 X 5,000 = -$5,500.

17. On January 1, you sold one April S&P 500 index futures contract at a futures price of 420. If
on February 1 the April futures price were 430, what would be your profit (loss) if you closed
your position (without considering transactions costs) on 250 contracts? 
A. $2,500 loss
B. $10 loss
C. $2,500 profit
D. $10 profit
E. none of the above

$420 - $430 = -$10 X 250 = -$2,500

18. You sold one soybean future contract at $5.13 per bushel. What would be your profit (loss) at
maturity if the wheat spot price at that time were $5.26 per bushel? Assume the contract size is
5,000 ounces and there are no transactions costs. 
A. $65 profit
B. $650 profit
C. $650 loss
D. $65 loss
E. none of the above.

$5.13 - $5.26 = -$0.13 X 5,000 = -$650.

19. You bought one soybean future contract at $5.13 per bushel. What would be your profit
(loss) at maturity if the wheat spot price at that time were $5.26 per bushel? Assume the contract
size is 5,000 ounces and there are no transactions costs. 
A. $65 profit
B. $650 profit
C. $650 loss
D. $65 loss
E. none of the above.

$5.26 - $5.13 = $0.13 X 5,000 = $650.

20. Which of the following items is specified in a futures contract?
I) the contract size
II) the maximum acceptable price range during the life of the contract
III) the acceptable grade of the commodity on which the contract is held
IV) the market price at expiration
V) the settlement price 
A. I, II, and IV
B. I, III, and V
C. I and V
D. I, IV, and V
E. I, II, III, IV, and V

The maximum price range and the market price at expiration will be determined by the market
rather than specified in the contract.

21. With regard to futures contracts, what does the word "margin" mean? 
A. It is the amount of the money borrowed from the broker when you buy the contract.
B. It is the maximum percentage that the price of the contract can change before it is marked to
market.
C. It is the maximum percentage that the price of the underlying asset can change before it is
marked to market.
D. It is a good-faith deposit made at the time of the contract's purchase or sale.
E. It is the amount by which the contract is marked to market.

The exchange guarantees the performance of each party, so it requires a good-faith deposit. This
helps avoid the cost of credit checks.

22. Which of the following is true about profits from futures contracts? 

A. The person with the long position gets to decide whether to exercise the futures contract and
will only do so if there is a profit to be made.
B. It is possible for both the holder of the long position and the holder of the short position to
earn a profit.
C. The clearinghouse makes most of the profit.
D. The amount that the holder of the long position gains must equal the amount that the holder of
the short position loses.
E. Holders of short positions can recognize profits by making delivery early.

The net profit on the contract is zero - it is a zero-sum game.

23. A trader who has a __________ position in oil futures believes the price of oil will
__________ in the future. 
A. short; increase
B. long; increase
C. short; decrease
D. long; stay the same
E. B and C
The trader holding the long position (the person who will purchase the goods) will profit from a
price increase. Profit to long position = Spot price at maturity - Original futures price.

24. A trader who has a __________ position in gold futures wants the price of gold to
__________ in the future. 
A. long; decrease
B. short; decrease
C. short; stay the same
D. short; increase
E. long; stay the same

Profit to short position = Original futures price - Spot price at maturity. Thus, the person in the
short position profits if the price of the commodity declines in the future.