Risk Management in Trading: Techniques to Drive Profitability of Hedge Funds and Trading Desks

Answer Key

CHAPTER 1

1. What is market risk?
   1. The risk that causes the reputation of the firm to be adversely affected.
   2. The risk that activities internal to an organization (like properly scheduling a commodity delivery) will cause a loss.
   3. The risk that a trading partner will default on its obligations
   4. The risk of losses arising from adverse price moves in market prices.

Correct Answer: D

Explanation: Answer D describes market risk. The other answers describe reputational risk, operational risk, and credit risk.

2. Choose the best answer. Can you buy a contract to sell an asset?
   1. Yes. However, the purchase and sale offset, so there won’t be any purpose in making this trade.
   2. No. It is not possible to purchase a contract to sell an asset.
   3. Yes. A contract is a piece of paper, which can have value, and be bought and sold like any other asset.
   4. No. Financial contracts cannot be transferred.

Correct Answer: C

Explanation: A contract to sell something can be a very valuable asset. For example, a contract to sell electricity to the U.S. government at $90/MWH is very valuable if the prevailing price of electricity is $30/MWH. In general, contracts can be bought and sold like any other asset. In some cases, this requires amending or replacing the contract in a process called novation.

3. If an investor is long a gasoline/crude oil spread, what will happen?
   1. The investor will benefit if the spread gets larger.
   2. The investor will benefit if the spread gets smaller.
   3. The investor will benefit ...