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What financial instrument is derived from the value of an underlying asset?
Answer : B
A forward contract is a derivative instrument whose value is derived from the value of an underlying asset, such as commodities, currencies, or financial instruments. It is a customized agreement between two parties to buy or sell an asset at a future date at a specified price.
Why Other Options are Incorrect:
A . Real estate investment trust: A REIT is an equity instrument tied to real estate assets, not a derivative.
C . Preferred share: A preferred share is an equity security with fixed dividends, not a derivative.
D . Inflation-linked bond: These are fixed-income securities linked to inflation rates but are not considered derivatives.
Reference: CSC Volume 1, Chapter 10, 'The Role of Derivatives -- Forward Contracts' describes forwards as derivatives dependent on underlying assets.
What is a restriction that a mutual fund manager must follow?
Answer : D
Which derivatives transaction has the greatest default risk?
Answer : B
An interest rate forward agreement (FRA) is an over-the-counter (OTC) derivative contract. Unlike exchange-traded derivatives, OTC contracts are not centrally cleared, meaning there is no intermediary to guarantee performance. This increases counterparty (default) risk, making FRAs inherently riskier than exchange-traded contracts.
Why Other Options are Incorrect:
A . Individual investor buying shares on an exchange during the ex-rights period: This is a standard transaction involving equity securities, not derivatives, and carries no default risk.
C . Exchange-traded equity option contract between an individual investor and a dealer: Exchange-traded derivatives are backed by a clearinghouse, which mitigates default risk.
D . Individual investor entering a futures contract with an institutional investor: Futures contracts are also exchange-traded and centrally cleared, reducing default risk.
Reference: CSC Volume 1, Chapter 10, 'The Role of Derivatives -- Counterparty Risks in OTC Contracts' explains the higher default risk associated with OTC derivatives like FRAs.
What is the primary goal of a buy-side trader?
Answer : C
What is the next step after designing an investment policy statement?
Answer : B
