CM SIP Capital Markets – Specified Investment Products – Derivatives and Collective Investment Schemes

Correct: Purchasing a higher-strike put and selling a lower-strike put, resulting in a net cash outflow and limited potential profit is the right answer because a bear put spread is a debit spread where the premium paid for the higher-strike (in-the-money) put is greater than the premium received for the lower-strike (out-of-the-money) put. The maximum profit is capped at the difference between the strike prices minus the initial net debit.

Incorrect: The claim that it involves purchasing a lower-strike put and selling a higher-strike put with a net cash inflow is wrong because that describes a bull put spread, which is a credit strategy. The suggestion that it results in a net cash inflow while buying a higher-strike put is incorrect because higher-strike puts are more expensive, creating a net debit. The statement regarding unlimited potential profit or loss is incorrect because vertical spreads like the bear put spread have strictly defined maximum risk and reward levels.

Takeaway: A bear put spread is a bearish vertical spread that requires an initial cash outlay (debit) and provides a limited profit if the underlying asset price falls below the lower strike price.

Correct: The statement that the investor receives cash adjustments for dividends and participates in share splits but does not possess any voting rights is correct. According to the characteristics of CFDs, investors gain exposure to the economic performance of the underlying asset, including dividends and corporate actions like share splits, but because there is no actual change in equity ownership, they are not entitled to voting rights.

Incorrect: The claim about receiving physical share certificates and maintaining voting rights is incorrect because CFDs are cash-settled derivatives and do not involve the delivery of physical instruments. The suggestion that investors receive voting rights but are excluded from share splits is wrong because the opposite is true; they receive economic benefits but no administrative rights. The idea that CFDs are exempt from all corporate action adjustments is false, as the contract must reflect the underlying asset’s performance, including dividend impacts.

Takeaway: CFD investors enjoy the economic benefits of the underlying asset, such as dividends and share splits, but they never acquire legal ownership or voting rights.

Correct: Statement II is correct because the source explicitly states that knock-out barrier options are ideal for speculating on small price movements in a sideways market. Statement IV is correct because R-CBBCs (Residual value) are designed to potentially provide a small cash payment to the holder if a Mandatory Call Event (MCE) is triggered.

Incorrect: Statement I is incorrect because, unlike standard warrants where implied volatility is a key pricing factor, implied volatility is insignificant to the pricing of CBBCs. Statement III is incorrect because the source specifies that no action or adjustment is needed for regular share dividends, as these are already taken into account by the issuer as part of the funding costs.

Takeaway: CBBCs are structured products with pricing driven primarily by the underlying asset price rather than volatility, featuring mandatory call mechanisms that can result in either zero or a small residual payoff. Therefore, statements II and IV are correct.

Correct: Statement I is correct because a bull put spread is constructed by selling a higher strike (in-the-money) put option and buying a lower strike (out-of-the-money) put option on the same underlying asset. Statement II is correct because the maximum profit for this strategy is capped at the net credit received when the trade is initiated, which occurs if the stock price closes above the higher strike price.

Incorrect: Statement III is incorrect because a bull put spread is a credit spread that results in a net cash inflow at execution, whereas a bull call spread is a debit spread requiring a cash outlay. Statement IV is incorrect because the maximum loss is incurred when the share price drops below the lower strike price, not when it remains between the two strike prices.

Takeaway: A bull put spread is a vertical credit spread used for moderately bullish market views, offering limited profit (the net credit) and limited risk (strike difference minus credit). Therefore, statements I and II are correct.

Correct: The statement that maximum potential loss is limited to the initial cash outlay, while maximum profit is achieved at the middle strike price, is correct. According to the CMFAS Module 6A text, a long butterfly spread (whether using calls or puts) is a neutral strategy used when an investor expects low volatility. The maximum profit is attained when the underlying share price remains unchanged at expiration (at the middle strike), and the maximum loss is strictly limited to the initial debit or cash outlay required to enter the position.

Incorrect: The suggestion that the loss is unlimited is incorrect because the long outer-strike options provide a hedge against the short middle-strike options, capping the risk. The claim that profit is unlimited is incorrect because the butterfly spread is specifically designed as a limited-reward strategy for stable markets. The assertion that profit is achieved only below the lowest strike price is incorrect; at that level, the payoffs from the long and short options cancel each other out, resulting in the maximum loss of the initial cash outlay.

Takeaway: A long butterfly spread is a limited-risk, limited-reward neutral strategy that yields its highest return when the underlying asset price matches the middle strike price at expiration.

Correct: Statement I is correct because the source text defines a long butterfly spread as a market neutral strategy involving four options with three different strike prices. Statement II is correct because ratio spreads involve selling more options than are bought (e.g., 2:1), creating a net short position that carries potentially unlimited downside risk. Statement IV is correct because a diagonal spread is explicitly described as a combination of vertical and calendar spreads, utilizing different strike prices and different expiration dates.

Incorrect: Statement III is incorrect because vertical spreads are constructed using options with the same expiration month but different strike prices. Using different expiration dates with the same strike price describes a horizontal (calendar) spread, not a vertical spread.

Takeaway: Understanding the relationship between strike prices and expiration dates is essential for distinguishing between vertical, horizontal, and diagonal spreads and their respective risk profiles. Therefore, statements I, II and IV are correct.

Correct: Statement II is correct because rolling a position involves closing the expiring contract and opening a new one in a subsequent month to maintain market exposure. Statement III is correct because an offset position is achieved by taking an equal and opposite position to the original trade, such as buying to close an initial short position.

Incorrect: Statement I is incorrect because SGX-DT is the subsidiary responsible for derivatives trading, whereas SGX-DC is the entity that handles clearing and settlement. Statement IV is incorrect because SGX AsiaClear is dedicated to providing clearing services for OTC oil swaps and freight futures rather than the trading of equity index products.

Takeaway: Market participants must distinguish between the trading and clearing functions of SGX subsidiaries and understand the mechanics of offsetting or rolling positions to manage contract expiry. Therefore, statements II and III are correct.

Correct: Statement I is correct because the Direct Market Access (DMA) model is the predominant approach for CFD providers in Singapore. Statement II is correct because CFDs do not have a fixed expiry date, which distinguishes them from options and warrants. Statement III is correct because CFD investors are entitled to dividend payments, a feature shared with shares but not with options or warrants.

Incorrect: Statement IV is incorrect because exchange-traded CFDs are not common and are currently only available in Australia; they are not the predominant model used in the Singapore market.

Takeaway: CFDs in Singapore primarily utilize the DMA model and offer features such as dividend entitlements and the absence of fixed expiry dates. Therefore, statements I, II and III are correct.

Correct: Statement II is correct because an exporter receiving foreign currency can hedge against the depreciation of that currency by purchasing a put option on the currency they are receiving. Statement III is correct because a zero-cost collar is specifically constructed by purchasing a protective put to limit downside and selling an out-of-the-money call to offset the cost.

Incorrect: Statement I is incorrect because the premium income from a covered call only provides a minor buffer and does not offer limited downside risk protection in the same way a protective put does. Statement IV is incorrect because a collar is only considered “zero-cost” when the premium received from the short call is equal to the premium paid for the long put.

Takeaway: A zero-cost collar allows an investor to obtain downside protection at no net premium cost by simultaneously capping their potential upside gains. Therefore, statements II and III are correct.

Correct: The unfilled portion remains in the market as a limit order at the price where the initial part was filled because a Market to Limit order is designed to execute at the current market price and then convert any remaining balance into a limit order at that same execution price to prevent further slippage.

Incorrect: The claim that the unfilled portion is automatically cancelled is wrong because that describes an ‘Immediate or Cancel’ order, whereas Market to Limit orders specifically keep the balance open in the market. The statement that the unfilled portion continues to execute as a market order is incorrect as that describes a standard Market Order, which would continue to sweep the order book regardless of price changes. The suggestion that the unfilled portion is converted into a stop-loss order is wrong because stop-loss orders are separate contingent orders used for risk management, not a standard feature of the Market to Limit execution process.

Takeaway: A Market to Limit order provides immediate execution for available volume at the current price, while the remaining quantity stays in the queue as a limit order at that same price level.

Correct: Interest on CFD positions is typically computed on a daily basis using an agreed benchmark rate and is charged for the duration the position remains open. This reflects the financing cost for the total value of the underlying asset being traded.

Incorrect: The statement that GST is applied to the total value of the underlying asset is incorrect because GST is only levied on the commission charged by the dealer firm. The claim that short positions are always exempt from interest is false as CFD providers may charge interest for the borrowing costs incurred in allowing short transactions. The assertion that CFDs do not have expiry dates is inaccurate because CFDs have specific expiry dates determined by the provider, and maintaining a position requires a rollover which may involve fees.

Takeaway: CFD costs include commissions subject to GST, daily interest computed on the total contract value, and potential rollover fees for extending positions past their expiry.

Correct: Statement II is correct because interest rate options focus on interest rate differences, are cash-settled using a scale of 100, and are exercised in the European style. Statement III is correct because the SGX specifically uses futures as the underlying for its options, and these are American-style, allowing exercise at any time before expiry.

Incorrect: Statement I is incorrect because bond options are typically traded over-the-counter (OTC), not on public exchanges, and their valuation is more complex than equity options. Statement IV is incorrect because a currency put option is similar to a short position in currency futures, while a currency call option is similar to a long position.

Takeaway: Different option types have distinct exercise styles and settlement methods; specifically, SGX options are American-style futures options, while interest rate options are European-style and cash-settled. Therefore, statements II and III are correct.

Correct: Statement I is correct because the comparison table in Chapter 12 confirms that CFD holders are entitled to dividends on long positions, while futures holders are not. Statement III is correct because CFDs are mostly OTC products that allow for rollovers or extensions as long as the investor wishes, whereas futures have fixed maturity dates.

Incorrect: Statement II is incorrect because the financing costs for CFDs are explicitly computed and added to the account, whereas for futures, these costs are implicit and embedded within the quoted market price. Statement IV is incorrect because CFD investors may not be entitled to non-cash corporate actions like bonus or rights issues, and providers may even require the closure of positions before the ex-date.

Takeaway: While CFDs offer dividend entitlements and flexible maturity compared to futures, they involve explicit financing costs and do not guarantee participation in all corporate actions. Therefore, statements I and III are correct.

Correct: The representative must use options of the same underlying security and same strike prices but with different expiration dates because this is the definition of a horizontal (or calendar) spread under CMFAS Module 6A.

Incorrect: The description of using the same expiration month but different strike prices is wrong because it defines a vertical spread. The description of using both different strike prices and different expiration dates is wrong because it defines a diagonal spread. The description of combining a bull and bear spread using four options is wrong because it defines a butterfly spread.

Takeaway: Horizontal spreads, also known as calendar spreads, focus on the time dimension of option pricing by keeping strike prices constant while varying the expiration dates.

Correct: The call option is in the money, the put option expires worthless, and the underlying stock is delivered to the call buyer is the right answer because the stock price of $35 exceeds the call strike price of $30. According to the zero cost collar mechanics described in the text, when the stock price is above the upper strike, the call is exercised and the investor must deliver the underlying stock.

Incorrect: The statement that the put is in the money is wrong because a put is only in the money if the stock price is below the strike price of $20. The statement that both options expire worthless is wrong because the call option has intrinsic value when the market price exceeds the strike price. The statement that the call is out of the money is wrong because the market price is higher than the strike price, making it in the money.

Takeaway: A zero cost collar protects against downside risk but caps the potential upside because the investor is obligated to deliver the stock if the price exceeds the call strike.

Correct: The dividend amount is debited from the investor’s account balance because the source text explicitly states that investors with short positions in equity CFDs will have the dividend amount debited from their accounts to reflect the corporate action of the underlying asset.

Incorrect: The claim that the dividend is credited is incorrect because credits are only provided to investors holding long positions. The suggestion that dividends reduce margin levels is wrong as dividends are processed as cash adjustments to the account balance, not as offsets to margin requirements. The statement that dividends are ignored is incorrect because CFD providers must account for corporate actions to maintain the economic equivalence of the contract relative to the underlying security.

Takeaway: In CFD trading, cash dividends result in a credit for long positions and a debit for short positions, ensuring the contract mirrors the total return of the underlying asset.

Correct: Calculating interest daily based on the full value of the CFD position using a spread over a market benchmark is the standard industry practice. This reflects the fact that CFDs are leveraged products where the provider effectively finances the entire value of the underlying asset for the investor.

Incorrect: The suggestion that interest is calculated weekly based only on the initial margin is incorrect because financing is applied daily and covers the total exposure, not just the collateral. The claim that it is a fixed monthly fee is wrong because CFD financing uses floating reference rates like LIBOR, meaning costs fluctuate with market movements. The idea that costs are only applied at closure based on profit or loss is incorrect as financing is an ongoing holding cost that accrues every day the position remains open.

Takeaway: CFD financing costs are calculated daily on the full contract value using floating market benchmarks, which means rising interest rates will increase holding costs and reduce overall investment returns.

Correct: Company warrants typically result in the issuance of new shares upon exercise, whereas structured warrants on the SGX-ST are settled in cash is the right answer because company warrants are issued by the firm itself and involve physical delivery of new shares which causes dilution, while structured warrants are third-party products that are cash-settled on the SGX-ST.

Incorrect: The statement regarding maturity is wrong because company warrants are long-dated (3-5 years) while structured warrants typically expire in less than one year. The claim about issuers is incorrect because structured warrants are issued by third-party financial institutions, not the underlying company. The assertion about margin calls is false because warrants are paid in full upfront and are not subject to margin calls, unlike certain other derivative instruments.

Takeaway: Company warrants result in the issuance of new shares and potential dilution, whereas structured warrants are issued by third parties and are cash-settled on the SGX-ST.

Correct: Statement I is correct because warrants are wasting assets that decline in value over time due to time decay, even if the underlying price remains unchanged. Statement III is correct because effective gearing is defined as the product of the warrant’s delta and its gearing ratio. Statement IV is correct because the source material states that investors expecting a large move in the underlying asset price should buy out-of-the-money warrants.

Incorrect: Statement II is incorrect because the source specifies that put deltas are always negative, not positive, as put warrants move in the opposite direction of the underlying asset price.

Takeaway: Understanding the relationship between delta, gearing, and time decay is essential for evaluating the risk and potential return of structured warrants. Therefore, statements I, III and IV are correct.

Correct: The risk that the announced deal is not completed, potentially leading to losses on both the long and short positions is the primary risk because if a merger fails, the target company’s share price often reverts to its lower pre-bid price while the acquirer’s price may also shift unfavorably.

Incorrect: The option regarding historical price correlation describes a risk more relevant to statistical arbitrage rather than merger arbitrage. The option about the overall market moving upward describes general market risk, whereas merger arbitrage is intended to be market-neutral. The option concerning finance charges and commissions describes a general cost of all pairs trading strategies rather than the specific deal risk associated with mergers.

Takeaway: In CFD merger arbitrage, deal risk is the primary concern, where a failed acquisition can cause the target company’s stock to plummet, resulting in losses on both legs of the trade.

Correct: The statement that the investor may lose the entire initial margin and be liable for further losses beyond that amount is the right answer because ES contracts involve leverage and expose the investor to the full downside of the underlying share’s value. If the market moves against the position, the investor must provide additional funds or face liquidation, remaining liable for any resulting shortfall.

Incorrect: The claim that losses are limited to the initial margin is wrong because ES contracts are not limited-liability instruments; the investor is responsible for the full contract value. The idea that liability is limited to the share value at the time of a margin call is incorrect as the final loss is determined by the liquidation or settlement price. The suggestion that brokers absorb excess losses is false; the investor remains legally liable for any account shortfall after liquidation.

Takeaway: Trading ES contracts involves significant leverage, meaning losses can exceed the initial margin deposit and the investor is exposed to the full price movement of the underlying security.

Correct: The description of an American-style Put Warrant issued by GHI on DEF shares with an expiration of 31 October 2015 is correct because the absence of the ‘e’ prefix signifies American-style exercise, ‘PW’ is the standard code for a Put Warrant, and the date follows the YYMMDD format.

Incorrect: The option suggesting a European-style warrant is incorrect because the ‘e’ prefix is missing from the trading name. The claim that DEF is the issuer is wrong because the first name in the sequence identifies the underlying asset, not the issuer. The identification as a Call Warrant is incorrect as ‘CW’ is the designation for call warrants while ‘PW’ is used for puts. The expiration date of 2031 is a misinterpretation of the YYMMDD date structure.

Takeaway: The trading name of a structured warrant provides essential data including the underlying asset, issuer, exercise style, warrant type, and the specific expiration date.

Correct: Statement I is correct because for warrant issuers who commit to market-making, the minimum issue size requirement is reduced from SGD 5 million to SGD 2 million. Statement IV is correct because the listing document of the structured warrant specifically sets out the maximum spread and minimum lot size that the Designated Market-Maker (DMM) must provide.

Incorrect: Statement II is incorrect because warrant issuers who commit to making a market are specifically exempted from complying with the minimum placement and holder size requirements for listed equity securities. Statement III is incorrect because the vast majority of structured warrants on the SGX-ST are automatically exercised and settled in cash rather than through the physical delivery of the underlying securities.

Takeaway: Structured warrants with a Designated Market-Maker enjoy relaxed listing requirements regarding issue size and holder distribution, and they are primarily settled in cash upon expiration. Therefore, statements I and IV are correct.

Correct: The buying-in price for Extended Settlement (ES) contracts is set at two minimum bids above the highest of the previous day’s closing price, the current last done price, or the current bid. This premium is designed to ensure the Central Depository (CDP) can successfully acquire the shares on the market to satisfy the delivery obligation of a seller who failed to deliver by the third market day after the contract’s expiration.

Incorrect: The suggestion to use the lowest of the three price benchmarks is incorrect because the buying-in process requires a price premium to incentivize immediate sale, not a discount. The option stating only one minimum bid is used is factually wrong as the SGX-ST regulations specifically mandate a buffer of two minimum bids. The option proposing an average of the three prices is incorrect because the rule explicitly requires selecting the highest single value among the three specified market indicators to determine the starting bid.

Takeaway: If an investor fails to deliver shares for an ES contract by the settlement date, CDP will initiate buying-in on the following day at a price two minimum bids above the highest of three specific market benchmarks.

Correct: The rule establishing a minimum initial-to-maintenance margin ratio of one is accurate because SGX sets the initial margin equal to the maintenance margin while expressly permitting members to implement higher requirements for their customers.

Incorrect: The claim that initial margin must be twice the maintenance margin is wrong because the prescribed ratio is one. The suggestion that members are prohibited from setting higher margins is incorrect as the regulations allow members to be more conservative than the SGX minimums. The statement about a flat five percent margin is false because SGX uses fixed tiers based on the volatility of the underlying security.

Takeaway: SGX defines the baseline margin requirements and a 1:1 initial-to-maintenance ratio for ES contracts, but financial institutions may require additional collateral from their clients.

Correct: Statement II is correct because for structured warrants with an automatic exercise feature, the last trading day in the ‘Ready’ market must be at least 3 business days before the expiry date. Statement III is correct because the adjustment factor for dividends is specifically defined as (P – SD – ND) divided by (P – ND) to account for both special and normal distributions. Statement IV is correct because Asian-style warrants are path-dependent contracts where the payoff is calculated from the mean (arithmetic average) of values at certain dates.

Incorrect: Statement I is incorrect because the settlement price is not determined by the closing price on a single day; rather, it is based on the arithmetic average of the official closing price of the underlying for the 5 market days prior to the expiration date.

Takeaway: Structured warrants on the SGX-ST utilize an Asian-style settlement based on a 5-day average price and require specific mathematical adjustments to exercise prices when corporate actions like dividends occur. Therefore, statements II, III and IV are correct.

Correct: Statement I is correct because the clearing fee for Extended Settlement (ES) contracts is 0.04% of the contract value, subject to a maximum cap of SGD 600. Statement IV is correct because a long hedge is specifically used to lock in a purchase price, protecting the investor against a potential rise in the price of the underlying shares before the actual purchase is made.

Incorrect: Statement II is incorrect because ES contracts are not on a separate screen; they are located on the mainboard screen immediately following the respective underlying shares. Statement III is incorrect because prevailing Goods and Services Tax (GST) is applicable to both brokerage fees and clearing fees, not just brokerage fees.

Takeaway: Trading ES contracts involves specific costs including a 0.04% clearing fee and GST on all transaction fees, while providing a mainboard-integrated mechanism to hedge against rising share prices. Therefore, statements I and IV are correct.

Correct: The investor receives a cash settlement of $5.30 because for yield enhanced securities, if the closing price of the underlying asset ($5.50) is at or above the exercise price ($5.30), the holder receives a cash settlement equal to the exercise price. This reflects the ‘cap’ feature of the product where upside potential is limited in exchange for a discounted purchase price.

Incorrect: The suggestion that the investor receives $5.50 is incorrect because yield enhanced securities sacrifice upside exposure above the exercise price; the payout does not track the market price once the cap is exceeded. The suggestion that the investor receives $4.95 is incorrect as this represents the initial issue price (the amount paid to enter the position), not the settlement value at maturity. The suggestion that the investor receives $5.90 is incorrect because $5.90 was the original reference spot price at the time of issuance, which does not dictate the final settlement amount.

Takeaway: Yield enhanced securities (discount certificates) provide a discounted entry price but cap the maximum payout at the exercise price if the underlying asset’s value exceeds that level at maturity.

Correct: ES contracts offer a near 100% hedge with a delta of 1.0, while warrant deltas fluctuate based on the strike price and time to expiry is the right answer because ES contracts provide an immediate and highly effective hedge with a delta of 1.0, whereas warrants typically have a lower delta (such as 0.5 for at-the-money warrants) that changes over time.

Incorrect: The claim that ES contracts remove the requirement for margin maintenance is wrong because the cost of an ES contract includes the cash needed to maintain margin. The assertion that ES contracts utilize a cash-only settlement method is incorrect as the regulations state they are physically settled into the underlying shares on the Last Trading Day. The suggestion that ES contracts ensure a fixed profit margin is false because hedging is intended to mitigate potential losses by locking in a price, not to guarantee a specific profit.

Takeaway: ES contracts are efficient hedging tools because they provide a delta of 1.0 and avoid the complexities of strike price selection and time decay associated with warrants.

Correct: Statement I is correct because structured warrants in Singapore are European-style options, meaning they can only be exercised on the expiry date, and they are settled in cash. Statement II is correct because a zero strike warrant is defined as a synthetic stock with an exercise price of zero, ensuring it remains in-the-money with a price equal to the underlying stock.

Incorrect: Statement III is incorrect because company warrants are issued by the listed companies themselves as sweeteners, while structured warrants are the ones issued by third-party financial institutions. Statement IV is incorrect because implied volatility is a component of warrant pricing where a higher implied volatility leads to a more expensive warrant, not a lower one.

Takeaway: Investors must distinguish between company-issued and third-party warrants, while recognizing that implied volatility and exercise styles significantly impact the valuation and settlement of these derivatives. Therefore, statements I and II are correct.