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Prepare for the PRMIA Exam I: Finance Theory, Financial Instruments, Financial Markets – 2015 Edition exam with our extensive collection of questions and answers. These practice Q&A are updated according to the latest syllabus, providing you with the tools needed to review and test your knowledge.
QA4Exam focus on the latest syllabus and exam objectives, our practice Q&A are designed to help you identify key topics and solidify your understanding. By focusing on the core curriculum, These Questions & Answers helps you cover all the essential topics, ensuring you're well-prepared for every section of the exam. Each question comes with a detailed explanation, offering valuable insights and helping you to learn from your mistakes. Whether you're looking to assess your progress or dive deeper into complex topics, our updated Q&A will provide the support you need to confidently approach the PRMIA 8006 exam and achieve success.
The questions for 8006 were last updated on Jan 6, 2025.
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Which of the following statements is true:
1. The OTC market for foreign exchange is much larger than the exchange traded futures market for foreign currencies
II. DVP arrangements help avoid the risk of counterparty defaults on settlements
III. Exchanges offer the advantage of lower trading costs than ECNs
IV. ISDA master agreements form the basis of a large number of OTC derivative trades
The OTC market for foreign exchange is indeed much larger than the exchange traded futures market for FX. Therefore statement I is correct.
Delivery-versus-payment (DVP) arrangements make sure that title to a security passes only when payment has been made, and these arrangements, usually implemented through national clearing agencies such as the DTC in the US, help avoid the risk of counterparty defaults.
Electronic Clearing Networks (ECNs) offer cheaper trading costs than exchanges, in fact that is their primary attraction. Exchanges offer other advantages, but lower trading costs is not one of them.
ISDA master agreements provide templates that a large number of OTC market participants use to standardize their OTC trading activities. Therefore statement IV is correct.
A company has a long term loan from a bank at a fixed rate of interest. It expects interest rates to go down. Which of the following instruments can the company use to convert its fixed rate liability to a floating rate liability?
A fixed for floating interest rate swap would be the most appropriate to the company's needs. It will allow it to receive a fixed rate (which will offset the fixed payment it has to make on the loan) and pay a floating rate which it expects will be lower than the fixed rates. Choice 'a' is the correct answer.
Which of the following expressions represents Jensen's alpha, where is the expected return, is the standard deviation of returns, rm is the return of the market portfolio and rf is the risk free rate:
A.
B)
C)
D)
The Sharpe ratio is the ratio of the excess returns of a portfolio to its volatility. It provides an intuitive measure of a portfolio's excess return over the risk free rate. The Sharpe ratio is calculated as [(Portfolio return - Risk free return)/Portfolio standard deviation].
The Treynor ratio is similar to the Sharpe ratio, but instead of using volatility in the denominator, it uses the portfolio's beta. Therefore the Treynor Ratio is calculated as [(Portfolio return - Risk free return)/Portfolio's beta]. Therefore Choice 'a' is the correct answer.
Jensen's alpha is another risk adjusted performance measure. It considers only the 'alpha', or the return attributable to a portfolio manager's skill. It is the difference between the return of the portfolio, and what the portfolio should theoretically have earned. Any portfolio can be expected to earn the risk free rate (rf), plus the market risk premium (which is given by [Beta x (Market portfolio's return - Risk free rate)]. Jensen's alpha is therefore the actual return earned less the risk free rate and the beta return. Choice 'c' is the correct answer.
Refer to the tutorial on risk adjusted performance measures for more details.
Backwardation in commodity futures is explained by:
Backwardation is said to occur when futures prices are lower than the current spot prices. This would happen only when carrying costs are negative. Carrying costs are equal to interest, plus storage costs and less any 'convenience yield'. The existence of large convenience yields may explain backwardation in commodity futures prices. Therefore Choice 'd' is the correct answer.
Contango is the 'normal' market situation where forward prices are higher than spot prices. Storage costs explain contango, not backwardation. Risk free rates, or the cost of funding for the futures position, are always positive and do not explain backwardation.
Which of the following will have the effect of increasing the duration of a bond, all else remaining equal:
1. Increase in bond coupon
II. Increase in bond yield
III. Decrease in coupon frequency
IV. Increase in bond maturity
An increase in coupon brings the 'average' cash flows closer, thereby decreasing duration. The higher the coupon, the lower the duration.
An increase in yield discounts the cash flows that are further away more than it does the closer cash flows, so an increase in yield decreases duration.
An increase in coupon frequency brings the bond's cash flows closer, thereby decreasing duration. Decreasing the coupon frequency has the opposite effect.
An increase in maturity pushes the payments further out, thereby increasing duration.
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