optiix

The buyer (long) in a deliverable equity forward contract on a portfolio of stocks:

A) is obligated to buy the portfolio in the future at the forward price.

B) will profit on the contract if the price of the equity asset rises over the life of the contract.

C) will profit if the equity declines in price over the life of the contract.

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In a deliverable contract, the long is obligated to buy the portfolio at the forward price. The forward contract price will generally (except for a very high dividend paying portfolio) be higher than the current market price; a rise in price from the current level is no guarantee of profits on the contract.

optiix

An equity forward contract may be on all of the following assets EXCEPT a(n):

A) specific portfolio of five stocks.

B) index.

C) bond.

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A forward contract on a bond is not an equity forward contract.

clearlycanadian

Which of the following statements regarding forward contract dealers is NOT correct?

A) Forward contract dealers are often banks.

B) Dealers are compensated through up-front payments by the parties to forward contracts.

C) Dealers offer long and short forward contracts at different prices.

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There is typically no payment from either the long or the short to enter into a forward contract. Dealers make money through the bid-ask spread, the difference between the forward prices they offer to buyers and sellers.

clearlycanadian

All of the following are typically end users of forward contracts EXCEPT:

A) non-profit institutions.

B) governmental units.

C) a forwards dealer.

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A dealer is not an end user. Dealers typically take offsetting positions with different end users to limit their exposure to the asset price risk in individual forward contracts.

clearlycanadian

Which statement regarding forward contract dealers is least accurate?

A) Not all of them are banks.

B) They try to balance their long and short positions to limit risk.

C) They bear default risk but not asset-price risk.

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Dealers bear both default risk as well as asset-price risk from unhedged positions. Nonbank financial institutions can deal in forward contracts. Ideally, dealers will balance their long contract positions with other parties who seek the opposite risk exposure.

clearlycanadian

Which of the following statements regarding forward contracts is NOT correct?

A) Dealers make the majority of their profits by anticipating price moves in the underlying asset.

B) End users of forwards most often have a business exposure to price risk from the asset covered by the contract.

C) Dealers will enter into forward contracts with other dealers.

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Dealers do not make most of their profits from speculating on price moves or interest rate moves. They profit from the bid-ask spread. They take offsetting positions with different end users to hedge their price risk.

clearlycanadian

Which of the following is NOT a method of terminating a forward contract prior to expiration?

A) Exercise a swaption.

B) Make an agreed upon payment to the counterparty.

C) Enter into an offsetting forward contract with the original counterparty.

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A swaption can be used to terminate a swap. The others are both ways to terminate a forward contract prior to expiration.

clearlycanadian

An investor can exit a forward position prior to contract expiration by all of the following methods EXCEPT:

A) exercising the early delivery option.

B) making a cash payment or accepting a cash payment by agreement with the original counterparty.

C) entering into an offsetting contract with the original counterparty.

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There is typically no early delivery option in a forward contract. The other two methods are both usual ways of terminating a forward contract prior to the settlement date specified in the contract.

clearlycanadian

When a party to a forward contract terminates the contract prior to the original expiration date by entering into a perfectly offsetting forward contract with a second counterparty:

A) there is no future liability, but default risk remains for all parties until the original contract settlement date.

B) the party terminating the contract is exposed to default risk, but has no further asset price risk.

C) the party terminating the forward contract has no default risk, but both counterparties face default risk.

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When a forward contract is terminated by an offsetting contract with a second counterparty, there is no further asset price risk, but since there are two separate contracts with different counterparties, all parties are exposed to default risk until both contracts are settled. Since the two contracts may have different forward prices, the terminating party may have a future liability at settlement, but the amount is fixed at the time the offsetting contract is initiated. The terminating party may have ‘locked in’ a future gain or loss, depending on the difference between the forward prices of the two offsetting contracts.

clearlycanadian

A forward contract that must be settled by a sale of an asset by one party to the other party is termed a:

A) take-and-pay contract.

B) deliverable forward contract.

C) physicals-only contract.

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A deliverable forward contract can be settled at expiration only by actual delivery of the asset in exchange for the contract value. The other terms are made up.