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Diagnostic Exam I

Which is the better portfolio in terms of risk and return among the following two portfolios?
T-bill has 5% return

Portfolio A is better
Portfolio B is better
Both give same return
Explanation :
The Sharpe ratio of Portfolio A is 0.25 whereas for Portfolio B it is 0.30. This means that for a unit
of risk taken by the portfolio B, the return is 0.30 which is higher than 0.25

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Diagnostic Exam I

The correlation coefficient respecting the following dataset is:

0.134
0.146
1.271
0.984
Explanation :

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Diagnostic Exam I

A risk-free portfolio is non-existent since

it is impossible to construct a risk-free portfolio
a risk free portfolio exists only at a conceptual level and hence is impractical
systematic risk cannot be diversified away
unsystematic risk cannot be diversified away
Explanation :
Portfolio risk can be decomposed into unsystematic risk and systematic risk; the latter cannot be
diversified away.

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Diagnostic Exam I

A portfolio comprised of 20 - 30 assets

can achieve greater risk reduction if the number of assets is raised to 300
can achieve greater risk reduction if the number of assets is brought down to just 3
can achieve greater risk reduction if the number of assets is brought down to 100
can achieve the same level of risk reduction that can be achieved by increasing the
number of assets to 100 or 300.
Explanation :
This is because risks that arise at the micro-level or firm level or industry level tend to cancel
each other out without in any way contributing to overall portfolio risk.

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Diagnostic Exam I

The major benefit of diversification is to:

Increase the expected return
Increase the size of the investment portfolio
Reduce brokerage commission
Reduce the expected risk
Explanation :
The main advantage of portfolio diversification is it reduces the expected risk.

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Diagnostic Exam I

Which of the following is not an assumption of the Capital Assets Pricing Model (CAPM)?
Investors are risk-averse and use the expected rate of return and standard deviation of
return as appropriate measures of return and risk respectively.
Investors make their investment decisions based on a single period horizon i.e., the
next immediate time period.
Transaction costs in financial markets are low enough to ignore and assets can be
bought and sold in any unit desired.
Investors make their investment decisions based on multi-period horizon.
Explanation :
Investors make their investment decisions based on a single period horizon i.e., the next
immediate time period.

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Diagnostic Exam I

True or False?
Tax liability need not be adjusted while calculating the cost of debt.
True
False
Explanation :
Cost of debt needs an adjustment for tax liability for the reason that, interest is a charge on profit
and is an deductible expenditure for computation of tax purposes. Cost of debt is given by: Kd =
(I NP) * (1 T)

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Diagnostic Exam I

The following monthly data of yields on 5-year Treasury bonds was extracted from the Reserve
Bank Bulletin:

What type of yield curve is indicated by the above data set?

Normal yield curve
Inverse yield curve
Humped yield curve
Variable yield curve
Explanation :
Since it can be noticed that the short-term yield are higher than the long-term yield.

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Diagnostic Exam I

If an asset is selling at US$120.30 in the cash market, and the price of a futures contract on the
same asset is 98.28, what is the basis?
22.02
218.58
Zero
-22.02
Explanation :
Basis point = $120.30 - $98.28 = 22.02

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Diagnostic Exam I

In May, Company A bought a 3 x 6 FRA from Novel bank at a bid rate of 3.65% for a notional
principal amount of $50,000. If on August the LIBOR rate is 3.22%, how will the settlement take
place?
Company A receives 3.65% from Novel bank
Company A pays 3.65% to Novel Bank
Company A pays 0.43% to Novel Bank
Company A receives 0.43% from Novel bank
Explanation :
The buyer of FRA is protecting itself from a rise in interest rates. In case the interest rate rises
above the FRA rate, the bank will make payment to company and when interest rate falls below
FRA rate, the company makes payment to bank.

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Diagnostic Exam I

The fractional price change in an option resulting from a one-point change in price of the
underlying instrument is called:
Gamma.
Hedge ratio.
Vega.
Sharpe Ratio.

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Diagnostic Exam I

Which of the following is/are true?

The price difference between two American puts cannot exceed the difference in
exercise prices
The price difference between two European puts cannot exceed the difference in
exercise prices
The price difference between two American puts cannot exceed the difference in the
present value of exercise prices
Both (a) and (b)
Explanation :
For American put, the restriction is P < X.
So, P1 - P2 = X1 - X2

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Diagnostic Exam I

If the current yield on a bond is 9% and its face value is $1000 with a coupon rate of 7% its
current market price is
$700
$778
$845
$1175
Explanation :
Current yield = Annual dollar coupon interest/Price
0.09= 70/Price
Price =$778

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Diagnostic Exam I

In September, the December natural gas futures are trading at US$4.12 while the January natural
gas futures are trading at US$ 4.26. A spread trader expects the spread to narrow over the next
month, with the December price down relative to the January price. What positions will the trader
take to profit from this situation?
Sell December futures and buy January futures
Buy September futures and sell December futures
Buy December futures and sell January futures
Cannot answer without more information

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Diagnostic Exam I

A portfolio manager wants to invest $5 million in T-bonds in six months from now. He fears that
the interest rates will fall and therefore wants to hedge his risk. Which hedging strategy is
advisable?
Reverse hedge
Long hedge
Long hedge
Cross hedge

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Diagnostic Exam I

Companies employ Swaps for

Investment purposes
Hedging
Reduce funding costs
All of the above
Explanation :
Swaps help companies to meet all of the mentioned objectives.

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Diagnostic Exam I

Assume that the daily volatility of a stock is 1.75%, and trading happens on 256 days a year. The
volatility () used in the Black & Scholes formula should be:
30%
1.92%
1.38%
28%
Explanation :
1.75 * Sqrt(256)
= 28%

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Diagnostic Exam I

If the Spread consists of buying lower strike price Call Option and selling higher strike price Call
Option, it is referred to _________________.
Bull Call Spread
Bear Call Spread
Bull Put Spread
Bear Put Spread
Explanation :
In a bull call spread, a Call option is bought with a strike price of x and another call option, sold
with a strike of y, producing a net initial payment. (x < y).

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Diagnostic Exam I

Which of the following is a type of credit derivative?

I. A put option on a corporate bond
II. A total return swap on a loan portfolio
III. A note that pays an enhanced yield in the case of a bond downgrade
IV. A put option on an off-the-run treasury bond
I, II, and III
II and III only
II only
All of the above.
Explanation :
An option on a T bond has no credit component.

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Diagnostic Exam I

The option component of the swaption can be designated to be exercised only at its expiration
date for _________________; on specific pre-specified dates for ________________; at any
time up to and including the exercise date for ______________.
Bermudan swaption; American swaption; European swaption
American swaption; Bermudan swaption; European swaption
European swaption; Bermudan swaption; American swaption
American swaption; European swaption; Bermudan swaption

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Diagnostic Exam I

A repurchase agreement occurs when:

A company agrees to buy back its commercial paper before maturity
A bank depositor agrees, in advance, to re-invest money in a negotiable certificate of
deposit
An investor buys part of a government security dealers inventory and simultaneously
agrees to sell it back
The federal government agrees to buy T-bills
Explanation :
A repurchase agreement involves the sale of a security to a counterparty with an agreement to
repurchase it at a fixed price on an established future date.

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Diagnostic Exam I

The quoted rate on a US T-bill with 60 days to maturity is 8.12%. Its purchase price is $ 98.0 per
$ 100. The money market yield is:
10.25%
11.25%
12.25%
13.25%
Explanation :
MMY = (100-98.00)/98.00*(360*100/60)
=12.25%

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Diagnostic Exam I

What is the correct order for progress in the foreign exchange?

I. The Inter-war Period
II. The Gold Standard
III. The Floating Rate Period
IV. The Bretton Woods Par Value Period
I, II, III, IV
II, I, IV, III
IV, III, II, I
III, II, I, IV
Explanation :
The Gold Standard, 1880 - 1914
The Inter-war Period, 1919 - 1939
The Bretton Woods Par Value Period, 1946-1971
The Floating Rate Period, 1971 to Present

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Diagnostic Exam I

You are short CHF 13 million at 1.4525. If the USD/CHF is now quoted at 1.4685/90 and if you
deal at that rate, what profit or loss would you make?
Profit of USD 100,528.54
Loss of USD 99,980.83
NIL
Profit of USD 97,515.41
Explanation :
To settle the short CHF position you need to buy CHF. You can buy 13 million CHF at
13,000,000/1.4685 i.e., USD 8,852,570.65. The initial value of 13 million CHF is
13,000,000/1.4525 i.e., USD 8,950,086.06. so the profit is USD 8,950,086.06 minus USD
8,852,570.65 i.e., USD 97,515.41.

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Diagnostic Exam I

An order in which no time or price is fixed for the execution of the order for the security to be
purchased or sold and it remains in effect until it is either cancelled or executed is known as:
Market order
Open order
Stop order
Limit order

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Diagnostic Exam I

Which of the following intermediaries operate in the equity markets?

Dealers
Brokers
Sub-brokers
All of the above

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Diagnostic Exam I

Tick size is the minimum price fluctuation available in a marketplace-expressed in terms of points
or fractions of a point of the price or rate.
True
False

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Diagnostic Exam I

Which of the following statements is not true?

Commodities are store of value
Commodities are physical substances
Commodities are traded only in spot markets
Commodities are traded in spot and derivative markets
Explanation :
Commodities are traded in spot as well as derivatives market.

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Diagnostic Exam I

Power markets are more fragmented than other commodity markets because it cannot be stored
in the conventional sense. Therefore it is known as a _____ commodity.
flow
cash and carry
volatile
all of the above
Explanation :
Since, storage of electricity cannot be done in the conventional sense it is known as a flow
commodity.

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