BWFN3023 CONFIDENTIAL UUM Universiti Utara Malaysia @UUM UNIVERSITI UTARA MALAYSIA FINAL EXAMINATION SECOND SEMESTER 2014/2015 SESSION COURSE CODE/NAME : BWFN 3023 FUTURES AND OPTIONS MARKETS Scary v DATE 31 JULY 2015 (WEDNESDAY) TIME 19,00 — 11.30 A.M, (2% HOURS) VENUE : BTA 13-18 INSTRUCTIONS: This examination paper contains SIX (6) questions in ELEVEN (11) printed pages, excluding the cover page and appendices. This examination paper also contains formula sheet in ONE (1) printed page. . Candidates are required to answer ALL questions in the space provided. . Candidates are NOT ALLOWED to take the examination question out of the examination hall Candidates are bound by the UUM’s RULES AND PROCEDURES ON ACADEMIC FRAUD. MATRIC NO.: vr in nurbe) IDENTIFICATION CARD NO.: | LECTURER’S NAME: _ croup: [_ TABLE NO.: DO NOT OPEN THIS EXAMINATION PAPER UNTIL INSTRUCTED CONFIDENTIAL‘BWEN3023 FUTURES AND OPTIONS MARKETS (MATRIC NO:__ QUESTION ONE (18 MARKS) A. Define the following terms: i, Marking-to-market (2 marks) ii, Exercise price (2 marks) B. Briefly explain the difference between hedging, speculating and arbitraging. (6 marks)QUESTION TWO (20 MARKS) A ‘BWEN3023 FUTURES AND OPTIONS MARKETS MATRIC NO: Mr. Chandran is a purchasing officer for crude palm oil (CPO) refinery and has just placed an order for 1000 tons of CPO for delivery in Penang on 25 September 2014. The delivery price will be the prevailing spot price on that day. Mr. Chandran decided to hedge his exposure using the CPO futures contract traded at Bursa Malaysia Derivatives, The final trading day for CPO futures contract is on the 15" day of the spot month, Each CPO futures contract calls for delivery of 25 tons. Assuming that the current spot price of CPO is RM2100 and futures prices as followings: Contract month Jul August September October Price (RM per ton) RM2115 RM2118 RM2150 RM2175 i. Explain the hedging strategy that should be taken by Mr. Chandran . (Hint: the futures position, number of contract) tates (4 marks)BWEN3023 FUTURES AND OPTIONS MARKETS MATRIC NO: Assuming that on the 25 September 2014, the current spot price of CPO is RM2190, October CPO futures price and November CPO futures price are RM2188 and 2191, respectively. ii, If Mr. Chanéran closed out his position, calculate profit or loss in the futures market, @ marks) iii, Calculate total cost for Mr. Chandran in spot market after considering hedging profit/loss in futures market. (4 marks)‘BWEN3023 FUTURES AND OPTIONS MARKETS MATRIC NO: iv. Calculate the effective price per ton for the 1000 tons of CPO. Based on your answer, explain whether Mr. Chandran’s exposure is fully hedged as at 25 September 2014. (4 marks) Assuming that in March 2014, Ahmad observes that AirAsian stock price is RM20. This stock is expected to pay a dividend of RM0.80 per share in May 2014. September Airasian futures price is RM22. The risk free interest rate is 5% per annum with continuous compounding for all maturity. Outline the arbitrage strategy, if possible. (S marks)BWEN3024 FUTURES AND OPTIONS MARKETS MATRIC NO: QUESTION THREE (25 MARKS) A. List FOUR (4) factors that affect option pricing, (4 marks) B. A non-dividend paying stock price is RMS0 and the exercise price of a TWO (2) year European put option is RMS4. The risk free rate is 3% with continuous compounding. Find the lower bound for the option that will open to the arbitrage opportunity. (5 marks)‘BIVEN3023 FUTURES AND OPTIONS MARKETS ‘MATRIC NO: The price of a European call option on UMSB stock with an exercise price of RM45 is RM3.50. The current UMSB stock price is RM46. The risk free rate with continuous compounding (all maturities) is 5% per annum. A dividend of RMI is expected in SIX (6) months. What should be the fair price for the UMSB European put option? (6 marks)BWEN3023 FUTURES AND OPTIONS MARKETS MATRIC NO: D. The current price of Berjasa stock is RM50. Assuming that the risk free rate is 5% per annum and the volatility is 20%. Use two-step tree to value a European put option on Berjasa stock with a strike price of RM48 that expires in 12 months. (10 marks).BIVFIN3023 FUTURES AND OPTIONS MARKETS MATRIC NO: QUESTION FOUR (20 MARKS) A. Aninvestor writes a December put option with a strike price of RM30. The price of the option is RM4. Describe the investor's cash flows if the option is held until December and the stock price is RM28 at this time. (4 marks) B. Mega stock price currently is RM29. An investor buy one call option on the Mega stock with an exercise price of RM30 and sells a call option on the Mega stock with an exercise price of RM32.50. The market prices of the options are RM2.75 and RMI.50, respectively. The options have the same maturity date. Describe the investor’s position by using a payoff diagram. (6 marks)BWEN3023 FUTURES AND OPTIONS MARKETS ‘MATRIC NO: Assume the following prices exist in the stock market: Spot price of ABC stock RM5.45 One month RM5.00 ABC call RM0.68 ‘One month RM6.00 ABC call RMO.AR One month RMS5.00 ABC put RMO0.58 One month RM6.00 ABC put RM0.70 i, If.an investor choose to use strangle, construct a pay-off diagram for this strategy. (Label all maximum and minimum profit/loss and all break-even points) (7 marks) ii, Explain why an investor would want to establish this strategy. @ marks)QUESTION FIVE (15 MARKS) BIEN3023 FUTURES AND OPTIONS MARKETS. ‘MATRIC NO: Alpha and Beta companies can borrow for a 5-year term at the following rates. Alpha Beta Moody’s credit rating ‘Aa Baa Fixed-rate borrowing cost 10.5% 12.0% Floating-rate borrowing cost LIBOR TIBORH% Develop an interest rate swap in which both Alpha and Beta have an equal cost savings in their borrowing costs, Assume Alpha desire floating rate debt and Beta desires fixed rate debt. Bank A act as a swap bank is quoting FIVE (5) year dollar interest swaps at 10.7% -10.8% against LIBOR flat. 10 (15 marks)‘BIVEN3023 FUTURES AND OPTIONS MARKETS (MATRICNO: QUESTION SIX (10 MARKS) A. Briefly explain THREE (3) factors for analyzing stock market using fundamental analysis. (6 marks) B. If prices are falling but volume and open interest increase, what does a technical analysis conclude? (4 marks) END OF QUESTIONSFORMULA SHEET apt = ° OF Fy = Soe" Fy = (So— De™ Fy = Se" f =(Fo-Kye™ f= (Fo-1 = Kyer™ Fy = Spe Fy = (Sot U)e™™ Fy = Spero? Fy = Speer C= SyN(d,) - Ke! (da) P = KeTN(-dz) ~ SoN(—dy) where, \r _ (Sfp) (rn 7/, rr dy = dy -ovF Attachment 1 Call: 1 = max(0, $= X) Putz = max(0,X ~ S,) PV(X) =S4P-C _ Ply + (= p)Ca OTT c c= p?Cy2 + 2p = p) Cua + 1 =p)? Cge ~ G+r? where, _ltr-d u-d und (Pfu+ (-Pfal f= eT [p2fun + 2P(A— P)fud +(1—P)*fdd}