[ 2009 FRM Sample Exam ] Market risk measurement and management Q2 forward, contract, expressed, continuous, management

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2. What is the no?arbitrage price of a forward contract if the time to expiration is 3 months, the underlying asset is worth $1,000, the continuously compounded annualized risk?free rate is 6% and storage costs are expressed in terms of a continuous annualized yield of 3%?

A. USD 1,008

B. USD 972

C. USD 1,023

D. USD 1,039

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Correct answer is Cfficeffice" />

A is incorrect. The storage costs expressed in percentage are missing from the equation. Using the equation for the price of a forward contract, the forward price is F = ($1,000 ? $50)*e(0.06+0.03)*0.25 = 964.

B is incorrect. Using the equation for the price of a forward contract, the forward price is F = ($1,000 ? $50)*e(0.06+0.03)*0.25 = 972.

C is correct. The cost of carry is missing from the equation. Using the equation for the price of a forward contract, the forward price is F = ($1,000 ? $50)*e(0.06+0.03)*0.25 = 1,023.

D is incorrect. The time component is missing from the equation. Using the equation for the price of a forward contract, the forward price is F = ($1,000 ? $50)*e(0.06+0.03)*0.25 = 1,039.

Assigned readings:

John Hull, Options, Futures, and Other Derivatives, 5th ed. (ffice:smarttags" />New York: Prentice Hall, 2002), Chapter 3.

Type of Question: Market Risk