Question

The advantage(s) of contingent claims over forward commitments is the contingent claims could be:

(Note: choose ALL the correct answers that apply)

		Contingent claims have longer expiration date
		Contingent claims have no default risks
		Contingent claims allows gains while protect against losses, depending on different future underlying asset prices
		Contingent claims allow acquiring the underlying asset, but forward commitment does not allow acquisition of the underlying assets

Answer 1

Contingent claims gives one of the party a right and the other party an obligation to fulfill the transaction on occurring of a particular incident. Examples includes options, asset backed securities. While, Forward commitments are agreements wherein both the parties to the transaction have an obligation to fulfill the order at the expiry of a period at fixed price. Examples include forward and futures contract.

Considering the definitions above, ONLY C is correct.

A. False, both forward commitments and commitment claims can have same expiration date.

B. False, commitment claims like options have default risks and pricing of an option changes with changes in the default risk.

C. TRUE. Contingent claims helps to protect against losses and provides gains, depending on underlying prices of asset in future.

D. False, Commitment claim allow acquiring the underlying asset at the wish of the party with right to exercise his will. In case of forward claim, both the parties are obligated to perform the transaction. One party is obligated to sell and the other party is obligated to buy and acquire the underlying asset at the expiration date of the agreement.