CFA Level I · CFA Level I Exam · Derivative Instrument and Derivative Market Features
An analyst notes that a derivative contract is traded on a organized exchange. Which feature is most likely associated with this contract compared with an over-the-counter derivative?
Exchange-traded derivatives have standardized contract terms and are cleared through a clearinghouse that acts as counterparty to both sides, which lowers default risk. Fully customized terms and privately negotiated trades are features of over-the-counter derivatives, not exchange-traded ones.
- ATerms are fully customized to the needs of the two counterparties
- BContract terms are standardized and a clearinghouse stands between the partiesCorrect
- CCounterparty default risk is higher because trades are privately negotiated
Explanation
Exchange-traded derivatives have standardized terms and are cleared through a clearinghouse, which reduces counterparty credit risk. Customization and private negotiation describe over-the-counter contracts.
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