Question #97

Reading: Reading 31 Valuation of Contingent Claims

PDF File: Reading 31 Valuation of Contingent Claims.pdf

Page: 46

Status: Unattempted

Correct Answer: B

Part of Context Group: Q97-99 First in Group
Shared Context
- In order to create a delta-neutral hedge using put option contracts, Davalos would most accurately need to: A) buy 2,000 contracts. B) buy 5,103 contracts. C) sell 510,271 contracts.
Question
An equity swap to hedge the equity risk for Gier would result in a net return on the portfolio of a:
Answer Choices:
A. fixed rate of 4.5% for the year
B. variable rate based on the total return of QJX stock
C. fixed rate of 1.5% per quarter
Explanation
To offset the equity risk, Gier would pay a variable rate based on the total return of QJX and receive a fixed rate. The quoted rate is an annualized rate and since the swap is for three quarters or nine months, the full 6.0% will not be realized. The 6.0% annualized rate is equivalent to 1.5% per quarter. Any return on the portfolio would be passed on to the swap counterparty and Gier will be immune to equity market movements.
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