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FRM Part I · FRM Exam Part I · Exchanges and OTC Markets

Which feature most clearly distinguishes an exchange-traded derivative from a traditional bilateral over-the-counter (OTC) derivative?

Exchange-traded derivatives have standardized terms and are normally guaranteed by a clearing house, which stands between buyer and seller. Customized terms, private trading and direct bilateral counterparty credit exposure describe traditional OTC derivatives, not exchange-traded contracts.

  1. AContract terms such as maturity and size are fully customizable between the two parties
  2. BContracts have standardized terms, and trades are normally guaranteed by a clearing houseCorrect
  3. CThe transaction is private, with no price information available to other market participants
  4. DEach party bears the full credit risk of the specific counterparty it traded with

Explanation

Exchange-traded contracts have standardized specifications and are typically guaranteed by a clearing house that becomes counterparty to both sides. Customization, privacy and bilateral credit exposure are characteristics of traditional OTC trades, so the other options describe OTC markets.

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