Common Mistakes Made When Hedging Include: the Possibility of Having

question 6

Multiple Choice

Common mistakes made when hedging include: the possibility of having a natural hedge; liquidity risk; and base risk.Which of the following does NOT represent one of these three possible risks?

• A) Future contracts are negotiated as agreements between parties that are not anonymous. Therefore, there is a possibility that one of the parties may default before the contract is finalized.
• B) The hedge may not be necessary if the firm can effectively pass future cost increases on to their customers through higher prices .
• C) In the event that price changes during the life of the contract require an increased contribution to the margin account, this may be an unanticipated cost for the firm and, if not addressed, could result in a default in the position taken in the contract.
• D) Future contracts require the matching of the quantity and timing of future deliveries. If both parties cannot provide this matching, one party will be unable to completely hedge their future position.

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Definitions:

Closure

The psychological feeling or process of resolving a traumatic or unsettling event, issue, or relationship.

Proximity

The physical or psychological closeness between people or objects, influencing their interaction and perceptions of one another.

Closure

The psychological phenomenon of seeking resolution and clarity on an issue or event.

Organized Whole

A concept in Gestalt psychology that focuses on patterns and relationships between components to form a unified system.