Fundamentals of Futures and Options Markets, 8e (Hull)

Chapter 24 Weather, Energy, and Insurance Derivatives

1) On a certain day the highest temperature is 77 degrees and the lowest temperature is 61
degrees. What is the day's HDD?
A) 5
B) 12
C) 4
D) 0
Answer: D

2) On a certain day the highest temperature is 77 degrees and the lowest temperature is 61
degrees. What is the day's CDD?
A) 5
B) 12
C) 4
D) 0
Answer: C

3) Which of the following are products refined from crude oil?

A) Heating oil
B) Gasoline
C) Kerosene
D) All of the above
Answer: D

4) Which of the following typically has the highest volatility?

A) Crude oil
B) Natural gas
C) Electricity
D) Sometimes crude oil and sometimes natural gas
Answer: C

5) Which of the following typically has the lowest volatility?

A) Crude oil
B) Natural gas
C) Electricity in the winter
D) Electricity in the summer
Answer: A

6) Which of the following describes a typical reinsurance contract?

A) Covers a percentage of all losses by an insurance company
B) Covers all losses of the insurance company up to a certain amount
C) Covers all losses of the insurance company above a certain amount
D) Covers all losses of the insurance company between two amounts
Answer: D

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7) Which of the following describes a CAT bond?
A) Has a great deal of systematic risk
B) Has very little systematic risk
C) Has a moderate amount of systematic risk
D) Has negative systematic risk
Answer: B

8) Which of the following is a common use of weather derivatives?

A) Hedge the volume of electricity that will be demanded by customers in the summer
B) Hedge the price of oil that must be purchased in the winter
C) Hedge the price of electricity that must be purchased in the summer
D) Hedge the price and volume of gas that must be purchased for heating in the winter
Answer: A

9) Which of the following describes the period during which a "5 times 8" contract provides
electricity?
A) From 11pm to 7am on five successive days
B) From 8am to 4pm on five successive days
C) For any 5 hours of a day on 8 successive days
D) For any 8 hours of a day in five successive days
Answer: A

10) Which of the following describes the period during which a "5 times 16" contract provides
electricity?
A) From 7am to 11pm on five successive days
B) From 4pm to 8am on five successive days
C) For any 5 hours of a day on 16 successive days
D) For any 16 hours of a day in five successive days
Answer: A

11) Which of the following is NOT true about electricity?

A) Supply and demand for electricity are matched within 140 control areas in the US, then
excess power sold to other control areas
B) The ability to sell excess power is constrained by transmission capacity
C) Electricity is a commodity that can be easily stored
D) Air conditioning is a big use of electricity
Answer: C

12) Where are oil, gas, and electricity derivatives traded?

A) On exchanges and the OTC market
B) On exchanges, but not on the OTC market
C) On the OTC market, but not on exchanges
D) Oil is traded in both markets, but the other two are traded only in the OTC market
Answer: A

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13) Which of the following is NOT seasonal?
A) Spot electricity
B) Spot natural gas
C) Electricity futures prices
D) Spot price of corn
Answer: C

14) How can an energy producer hedge its risks?

A) Use weather derivatives for price risk and energy derivatives for volume risk
B) Use energy derivatives for price and volume risk
C) Use energy derivatives for price risk and weather derivatives for volume risk
D) Use weather derivatives for price and volume risk
Answer: C

15) Which of the following are least likely to use weather derivatives?
A) Energy producers
B) Food and drink manufacturers
C) Companies in the leisure industry
D) Automobile manufacturers
Answer: D

16) When a reinsurer covers the layer of hurricane losses for an insurance company between $20
million and $30 million, which of the following describes the insurance company's losses?
A) A bull spread on total hurricane losses
B) A bear spread on total hurricane losses
C) A long call option on total hurricane losses
D) A short put option on total hurricane losses
Answer: A

17) An August CDD weather option is offered on the cumulative monthly CDD at an Atlanta
weather station. An investor has a long call with a strike price of 375 and a short call with a
strike price of 400. The payment is $10,000 per degree day. What is the maximum payoff?
A) $500,000
B) $250,000
C) $100,000
D) $50,000
Answer: B

18) Which of the following is the average of CDD and HDD for a day?
A) The highest temperature during the day
B) The lowest temperature during the day
C) The average temperature during the day
D) None of the above
Answer: D

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19) Which of the following is the basis for calculating HDD and CDD?
A) The average temperature during the day
B) The average of the highest and lowest temperature during the day
C) The temperature at 12 noon during the day
D) None of the above
Answer: B

20) Which of the following might we expect to be the result of global warming?
A) An decrease in observed CDDs
B) An increase in observed CDDs
C) An increase in observed HDDs
D) None of the above
Answer: B

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