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Exam 22: Appendix a Derivatives

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Question 1

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If a derivative is not designated as a hedging instrument, or doesn't qualify as one, any gain or loss from fair value changes is not recognized immediately in earnings.

A) True
B) False

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Question 2

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The key criterion for qualifying as a hedge is that the hedging relationship:

A) Must be highly effective in achieving offsetting changes in fair values or cash flows.
B) Must have predictable results.
C) Must have fixed outcomes.
D) None of these.

E) A) and C)
F) A) and D)

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Question 3

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The effectiveness of a hedge is influenced by the closeness of the match between the item being hedged and the financial instrument chosen as a hedge.

A futures contract to hedge possible future price changes of a forecasted sale of copper:

An interest rate swap to synthetically convert floating rate debt into fixed rate debt would:

What is a futures contract? A financial futures contract? Provide an example of each.

Arshan Inc. engaged in an interest rate swap on several of its fixed interest debenture notes in order to hedge against interest rate reduction that would raise the value of its debt. Possibly, investor perceptions may cause the value of the debentures to rise beyond the prices due to changes in general interest rates. If they do, the additional increase in the value of the debt:

Derivatives create either rights or obligations that meet the definition of assets or liabilities.

Some financial instruments are called derivatives. Why? According to the FASB, should gains and losses on a fair value hedge be recorded as they occur, or should they be recorded to coincide with losses and gains on the item being hedged?

Hedging is used to deal with exposure to:

Green Import Company held a fixed-rate debt of $4 million. The company wanted to hedge its fair value exposure with an interest rate swap. However, the only notional available at the time on the type of swap it desired was $4.5 million. What will be the effect of any gain or loss on the $500,000 notional difference?

Explain why a stock option is a type of derivative instrument.

The financial futures market exists to provide a mechanism to buy and sell the underlying financial instruments.

How are derivatives reported on the balance sheet? Why?

An options contract to hedge possible future price changes of an inventory of supply parts would:

The key criterion for qualifying as a hedge is that the hedging relationship must be highly effective in achieving offsetting changes in fair values or cash flows based on the hedging company's specified risk management objective and strategy. Explain what happens if a swap is used ineffectively to hedge the fair value of a note.

Which of the following is not an example of a derivative?

In an annual report to shareholders, Merck & Co., Inc. disclosed the following in regard to its financial instruments:

An agreement by a British company to import manufactured goods from Thailand, denominated in US dollars:

USA Jewelers' hedge of its net investment in a South African diamond mine: