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LOS i: Evaluate the credit risk of an investment position, including forward contract, swap, and option positions. fficeffice" />

Q1. The long position of a forward contract bears the credit risk if the market price of the underlying is:

A)   less than the exercise price.

B)   equal to the exercise price.

C)   greater than the exercise price.

Correct answer is C)

This is true because the long position will be in-the-money, which means there is a possibility of not being paid what is owed.

 

Q2. Which of the following will have the least amount of credit risk? A(n):

A)   either position in a plain-vanilla currency swap.

B)   short option position.

C)   pay-fixed position in a plain-vanilla interest rate swap.

Correct answer is B)       

The holder of a short option position has received all the income it can expect. Thus, it has no credit risk. Both remaining listed positions have some credit risk.

 

Q3. Prior to expiration, the long position in a European option would have:

A)   zero credit risk.

B)   only potential credit risk.

C)   more current credit risk than potential credit risk.

Correct answer is B)       

Since the long position can only be owed money at expiration, then that is when there is current credit risk. Prior to that, there can only be potential credit risk.