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Msfi 507 :Devivatives Instruments Analysis Question Paper
Msfi 507 :Devivatives Instruments Analysis
Course:Master In Accounting Finance And Investment
Institution: Kenya Methodist University question papers
Exam Year:2015
KENYA METHODIST UNIVERSITY
SCHOOL OF BUSINESS AND ECONOMICS
END OF SEMESTER EXAMINATION FOR MASTER IN ACCOUNTING FINANCE & INVESTMENT
APRIL, 2015
UNIT CODE : MSFI 507
UNIT TITLE : DEVIVATIVES INSTRUMENTS ANALYSIS
TIME: 3 HOURS
INSTRUCTIONS: Answer Question ONE and any other THREE Questions
Question One
Institutions and individuals trade in derivative contracts for various reasons. Explain the reasons and challenges that companies such as Kenya Airways and Kenyan Power experience while trading in derivatives.
(8marks)
Explain how swap trading takes place in Kenya while also highlighting the types of swap contracts available in Kenya.
(6marks)
A gold futures contract requires the long trader to buy 100 troy ounces of gold. The initial margin requirement is $2000 and the maintenance margin requirement is $ 1500.
Martin goes long one June gold futures contract at a futures price of $320 per troy ounce. When could Martin receive a maintenance margin call?
(4marks)
Sarah sells on August gold futures contract at a futures price of $ 323 per ounce. When could Sarah receive a maintaince margin call?
(4marks)
What is the purpose of put-call parity?
(3marks)
Question Two
Consider a two period bionomial model in which a stock currently trades at a price of $ 65. The stock price can go up 20 percent or down 17 percent each period. The risk-free rate is 5 percent.
Calculate the price of a call option expiring in two periods with an exercise price of $ 60.
(5marks)
Base on your answer in part i), calculate the number of units of the underlying stock that would be needed at each point in the binomial tree to construct a risk free hedge. Use 10,000 calls. (6marks)
Briefly explain how a forward contract price is generally derived or established.
(6marks)
Explain FOUR reasons as to why valuation of a forward contract is important?
(8marks)
Question Three
Undertake a comparison of swaps and option while giving examples.
(6marks)
Consider a one year interest rate swap with semi-annual payments. Determine the fixed rate on the swap and express it in annualized terms. The term structure of LIBOR spot rates is give as follows:
Days Rate
180 7.20%
360 8.0%
(5marks)
Assume that your own security currently worth $500. You plan to sell it in two months. The hedge against a possible decline in price during the next two months, you enter into a forward contract to sell the security in two months. The risk-free rate is 3.5 percent.
Calculate the forward contract price.
(4marks)
Suppose the dealer offers to enter into a forward contract of $498. Indicate how you could earn an arbitrage profit.
(5marks)
After one month, the security sells for $ 490. Calculate the gain or loss to your position.
(5marks)
Question Four
a) Discuss the role of options that are traded in the over the counter
markets. (6marks)
b) Consider a one period binomial model in which the underlying is at 65 and can go up 30 percent or down 22percent. The risk free rate is 8 percent:
i) Determine the price of a European call option with exercise prices of
70.
ii) Assume that the call is selling for 9 in the market. Show how to
execute an arbitrage transaction and calculate the rate of return. (Use
1000 call options).
c) Briefly explain how futures contracts are terminated. (4marks)
d) Explain the meaning of caps, floors and collars in relation to swap
contracts. (3marks)
Question Five
a) Discuss the development and trading of derivative contracts in:
i) Kenya and Malaysia. (4marks)
ii) USA and South Africa. (4marks)
b) Briefly explain the characteristics and features of swap contracts.
(7marks)
c) There are various factors that influence option prices. Briefly explain:
The effect of differences in time to expiration on option prices.
(5marks)
ii) The effect of cash flows on the underlying assets on option prices.
(5marks)
Question Six
a) A forward contract is prices at $ 145. European options on the forward
contract have an exercise price of $150 and expire in 65 days. The
continuously compounded risk free rate is 3.75% and volatility is 0.33:
i) Calculate the price of a call option on the forward contract using the Black
Model. (6marks)
ii) Calculate the price of the underlying asset and then calculate the price of a
call option on the underlying asset using the Black Scholes- Merton model.
(6marks)
iii) Calculate the price of a put option on the forward contract using the Black
model. (6marks)
b) Explain how futures contract price is derived. (7marks)
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