Roll #________

Section _______
National University of Modern Languages
Department of Management Sciences
M.Com IV (Evening) – End Term Examination – Spring 2021

Paper: Financial Risk Management Total marks :30

Time allowed: 2 hours
Instructions:
 Attempt all questions
 Write down your roll# no on the question paper.
 Attach your question paper with the answer sheet before leaving examination hall.
 Keep your roll # slips and university ID cards with you during the examination.
 Student are required to Submit/turn in their Assessments on Google classroom only, Assessment submitted through
any other Mode will not be considered submitted and will not be marked.
 Student are Required to attempt the assessment in a pdf file.
 The name of file must include student registration No and Name.
 Copy pasted Answers may result in zero marks for the question.
 Submission should be having continues page number and be in pdf form
 X or XX need(s) to be replaced by last two or last one digit(s) of your registration number (if value is 5XX replace
XX with last two digits of roll-number like if you roll number is 12345, then value will become 545 instead of 5XX)

‘Attempt all questions’

Question No 1

Part A. [5 marks]

A Pakistani exporter has following transactions to be settled in following 6 months.

Imports Exports
A $ 5XXm ---
B $ 4XXm $. 5Xm
C $. 5Xm $ 2XXm
Following are the lending, borrowing and inflation rates.
US $ Pak
Lending 5% 10%
Borrowing 7% 13%
Inflation 5% 12%
Spot rate 1 = 105
Required: Q 1. What is effective exchange rate. Q 2. Do they need to hedge.

Part B. [5 marks]

Suppose that you are a Pakistani-based importer of goods from the United state. You expect the value of
the US dollar to increase against the Pakistani Rupee over the next 30 days. You will be making
payment on a shipment of imported goods in 30 days and want to hedge your currency exposure. The
U.S. risk-free rate is 5.X percent, and the Pakistani risk-free rate is 7.X percent. These rates are expected
to remain unchanged over the next month. The current spot rate is Rs. 16X.
A. Indicate whether you should use a long or short forward contract to hedge the currency risk.
B. Move forward 10 days. The spot rate is $15X. Interest rates are unchanged. Calculate the value of
your forward position.

Question No. 2
Part A. [5 Marks]

a. Define option, call option and put option, long and short, covered call and naked call
b. What is the basic difference between forward future and option contracts
c. What are the possible scenarios that a person know for hedging against a possible exchange rate
risk

Part B. [5 Marks]

Draw the following option strategies

Sell 1 put option at low, 1 call at high and Buy 2 call options at middle. (For even roll number)
Sell 2 put option and 1 put option at same exercise price. (For odd roll number)

Exercise price call option Put option

9X 6 3
10X 4.5 3.5
11X 4 5

Question No. 3

Part A [5 Marks]

Consider an ABCD Stock that trades at Rs. 10X today. Call and put options on this asset are available
with an exercise price of Rs. 100. The options expire in 275 days, and the volatility is 0.35. The
compounded risk-free rate is 3 percent.
A. Calculate the value of European call and put options using the Black-Scholes-Merton model. Assume
that the present value of cash flows on the underlying asset over the life of the options is Rs. 4.25.
B. Calculate the value of European call and put options using the Black-Scholes-Merton model. Assume
that the continuously compounded dividend yield is 1.5 percent.

Part B [5 Marks]
Consider a two-period binomial model in which a stock currently trades at a price of $1XX. The stock
price can go up 2X percent or down 1X percent each period. The riskfree rate is 5 percent.
A. Calculate the price of a call and put option expiring in two periods with exercise price of $100.
B. Based on your answer in Part A, calculate the number of units of the underlying stock that would be
needed at each point in the binomial tree in order to construct a risk-free hedge. Use 10,000 puts.