Free CISI IAD Derivatives Practice Questions: Delivery and Settlement

CISI means Chartered Institute for Securities & Investment. IAD means Investment Advice Diploma, and this page is for the Derivatives unit. Use this focused CISI IAD Derivatives page as a short practice test for Delivery and Settlement. The items are original Finance Prep sample exam questions built for scenario-based practice, not trivia, puzzle questions, official CISI questions, copied live-exam content, or exam dumps.

Topic snapshot

Sample questions

These are original Finance Prep practice questions aligned to this topic area. They are not official CISI questions, copied live-exam content, or exam dumps. Use them to preview question style and explanation depth before continuing with topic drills, mixed sets, and timed mock exams in Finance Prep.

Question 1

Topic: Delivery and Settlement

A trainee compares two futures positions held to expiry:

• Equity index future: long 1 contract at 7,500, final settlement level 7,520, multiplier £10 per index point, cash settled by the exchange.
• Milling wheat future: long 10 contracts, 50 tonnes per contract, not closed out before the delivery period, delivery permitted only at approved warehouses and in specified grades.

Which interpretation best explains why the delivery terms differ between these contracts?

• A. The index future settles as a £200 cash adjustment, while the wheat position represents 500 tonnes, so the wheat contract needs physical delivery terms for grade, location, and timing.
• B. Both contracts require the same delivery terms because standardisation removes the need to distinguish between financial and physical underlyings.
• C. The index future must specify delivery warehouses because the final settlement level increased, while the wheat future can be settled without delivery terms because its quantity is fixed.
• D. The wheat future avoids delivery specifications because 500 tonnes is too large to deliver, while the index future needs them because it has no physical quantity.

Best answer: A

What this tests: Delivery and Settlement

Explanation: Financial futures commonly reference an index, rate, bond, currency, or other financial value that can be settled through cash flows or delivery of highly standardised financial instruments. In the index future, the settlement movement is 20 points, so the cash settlement is \(20 \times £10 = £200\). No physical index can be delivered. A commodity future may involve actual goods if the position is not closed out. Here, 10 wheat contracts at 50 tonnes each represent 500 tonnes. Because physical commodities differ by grade, storage, location, delivery date, and transport arrangements, the contract must define acceptable delivery terms. These terms protect the contract’s standardisation while still allowing physical delivery where required.

• Treating the index level increase as a reason for warehouse delivery confuses cash settlement with physical delivery.
• Standardisation does not make all underlyings identical; physical commodities still need grade and location rules.
• Large quantity does not remove the need for delivery terms; it makes clear delivery procedures more important.

Financial futures can often be settled by reference to an objective cash value, whereas commodity futures may need detailed physical delivery terms because the underlying goods vary and must be transferred.

Question 2

Topic: Delivery and Settlement

A UK confectionery manufacturer wants to hedge a two-month cocoa purchase. It has no exchange warehouse account and cannot accept or transfer warehouse warrants. Its broker presents these terms:

• Exchange cocoa future: physically deliverable; delivery must be by exchange-approved warehouse warrants for specified grades; first notice day is 15 May and last trading day is 25 May; initial margin is £3,000 per contract with daily cash variation margin; the broker will close or roll any position lacking delivery arrangements before first notice day.
• Bank OTC cocoa swap: cash-settled on 25 May against a published cocoa index; the credit support annex requires a £20,000 independent amount and daily cash variation margin above a £5,000 threshold.

The manufacturer has tight working capital and wants to avoid unintended delivery. Which conclusion best applies the settlement and margin risk principle?

• A. Hold the future to last trading day because approved delivery standards and central clearing remove delivery risk, and margin can be funded from the final hedge gain.
• B. Do not hold the future past first notice day without delivery arrangements; the cash-settled swap removes warrant logistics but still needs cash for collateral calls.
• C. Use the OTC swap because cash settlement and uncleared status eliminate both delivery procedures and collateral liquidity calls before maturity.
• D. Ignore first notice day if the futures hedge is economically matched, because delivery standards affect only sellers who make physical delivery.

Best answer: B

What this tests: Delivery and Settlement

Explanation: Settlement design affects more than final profit or loss. A physically deliverable commodity future may require eligible grades, approved warehouse warrants, delivery notices, and action before first notice day. A user that cannot make or take delivery should close or roll before the notice period or use a structure that avoids physical delivery. Cash settlement removes the operational tasks linked to warrants and delivery standards, but it does not remove liquidity risk. The listed future requires initial and daily variation margin, and the OTC swap requires an independent amount plus possible daily variation margin under its credit support annex. A sound hedge plan therefore covers both operational readiness for expiry and available cash for margin or collateral calls.

• Approved delivery standards reduce quality uncertainty, but they do not remove the need for eligible warrants and expiry procedures.
• Cash settlement avoids physical delivery logistics, but stated collateral terms still create liquidity demands.
• A hedge expected to profit by maturity may still suffer adverse mark-to-market cash calls before maturity.
• First notice day matters for clients that cannot support delivery, even if the economic hedge exposure is appropriate.

Physical delivery creates operational risk without eligible delivery arrangements, while both listed and OTC margin terms can create interim liquidity needs.

Question 3

Topic: Delivery and Settlement

A UK manufacturer enters a cash-settled OTC diesel swap with a dealer. The swap is not centrally cleared. The collateral terms require the dealer to post:

• Initial margin: £80,000
• Variation margin: the full mark-to-market amount in favour of the manufacturer
• Unsecured threshold: £0

At today’s close, the swap is marked £35,000 in favour of the manufacturer. Which interpretation best describes the collateral requirement and its basic purpose?

• A. A £35,000 replacement for formal trade confirmation because the swap is not centrally cleared.
• B. An £80,000 delivery deposit to cover physical diesel storage and transport costs at expiry.
• C. A £115,000 collateral call to reduce bilateral counterparty credit exposure because no clearing house stands between the parties.
• D. A £115,000 settlement payment that fixes the final swap profit and removes price risk until expiry.

Best answer: C

What this tests: Delivery and Settlement

Explanation: Uncleared margin rules are designed to reduce counterparty credit risk when an OTC derivative is not passed through a central counterparty. The parties remain directly exposed to each other, so collateral is required. In this case, the dealer’s collateral call is the stated initial margin plus the variation margin on the current mark-to-market exposure: £80,000 + £35,000 = £115,000. Variation margin reflects the current value owed if the trade were closed out, while initial margin provides a buffer for potential future exposure during the close-out period after a default. The collateral does not settle the derivative, remove market risk, or replace trade documentation.

• Treating the £115,000 as final settlement confuses collateral with realised profit or loss.
• Linking the £80,000 to physical delivery costs is inappropriate because the instrument is a cash-settled OTC swap.
• Treating the £35,000 as a substitute for confirmation confuses collateral management with trade documentation.

The dealer posts £80,000 initial margin plus £35,000 variation margin, reducing the manufacturer’s exposure on an uncleared bilateral trade.

Question 4

Topic: Delivery and Settlement

A derivatives dealer is explaining two exchange-traded futures contracts to a client. The equity index future is cash settled at expiry against an official index level. The robusta coffee future has detailed delivery terms covering approved warehouses, delivery months, grading, certificates, and delivery procedures. Which statement best explains the difference in delivery terms?

• A. Commodity futures require detailed delivery terms because they cannot be closed out before expiry, unlike financial futures.
• B. Financial futures have no delivery risk because they are not margined, while commodity futures need delivery rules because they are margined daily.
• C. Financial futures can usually be settled by reference to a published financial value, while commodity futures need detailed terms because quality, location, storage, and logistics affect the value of the physical asset.
• D. Financial futures are always OTC contracts, while commodity futures are exchange-traded contracts with physical delivery.

Best answer: C

What this tests: Delivery and Settlement

Explanation: Delivery terms differ because the nature of the underlying differs. Many financial futures, such as equity index or interest rate futures, can be settled by cash payment using an official price, rate, or index value. Delivering the actual basket of securities or notional financial exposure may be impractical or unnecessary. Commodity futures may involve real goods that vary by grade, quality, location, storage condition, transport route, and delivery timing. Detailed exchange rules help make physical delivery standardised enough for trading and reduce disputes at expiry. Even where most futures positions are closed out or rolled before expiry, the delivery mechanism remains important because it anchors the futures price to the underlying cash market.

• Daily margining applies to both financial and commodity futures, so it does not explain the different delivery terms.
• Commodity futures can often be closed out before expiry; physical delivery rules still matter for any positions left open.
• Both financial and commodity futures can be exchange-traded, so the distinction is not OTC versus exchange-traded.

Financial underlyings are commonly standardised by price or index reference, whereas commodities require delivery rules to control physical differences and logistics.

Question 5

Topic: Delivery and Settlement

A grain merchant has agreed to deliver milling wheat against exchange-traded futures at expiry. The merchant is short 8 futures contracts. Each contract is for 100 tonnes. The futures were sold at £214 per tonne and the exchange final settlement price at expiry is £203 per tonne. Initial margin of £2,000 per contract was lodged and is returned separately if all obligations are met. Ignoring commissions and delivery costs, what is the single best calculation of the futures profit or loss at expiry?

• A. £8,800 profit
• B. £7,200 loss
• C. £16,000 profit
• D. £8,800 loss

Best answer: A

What this tests: Delivery and Settlement

Explanation: For a futures position held to expiry, the profit or loss is based on the change between the trade price and the final settlement price, multiplied by the contract size and number of contracts. A short position benefits from a fall in price. Here, the price has fallen from £214 to £203, a movement of £11 per tonne in the merchant’s favour. The total gain is £11 × 100 tonnes × 8 contracts = £8,800. Initial margin is collateral rather than a trading cost, so it is not deducted from the profit or loss when calculating the futures result.

• Treating the movement as a loss reverses the hedge direction; a short futures position gains from a price fall.
• Using the £16,000 initial margin as the profit confuses collateral with trading performance.
• Deducting returned margin from the futures gain incorrectly treats margin as an expense of the trade.

A short futures position profits when the final settlement price falls, so the gain is £11 per tonne × 100 tonnes × 8 contracts.

Question 6

Topic: Delivery and Settlement

A food processor is long 4 exchange-traded wheat futures contracts and holds them to expiry for physical delivery. The contract terms are:

Ignoring commission, storage, financing, and VAT, what is the profit or loss on the futures position at expiry?

• A. £45,300 profit
• B. £2,900 profit
• C. £2,900 loss
• D. £725 profit

Best answer: B

What this tests: Delivery and Settlement

Explanation: For a futures position held to expiry, the profit or loss is based on the change between the opening futures price and the final settlement price, multiplied by the contract size and the number of contracts. A long futures position benefits from a price rise. Here, the price increased by £14.50 per tonne (£226.50 - £212.00). The total tonnage covered is 200 tonnes (50 tonnes × 4 contracts). The futures profit is therefore £14.50 × 200 = £2,900. Physical delivery does not change the futures profit calculation; it determines the delivery obligation and settlement mechanics.

• Reversing the sign gives a loss, but that would apply to a short futures position after a price rise.
• Using only one contract gives £725, but the position contains 4 contracts.
• Multiplying the final settlement price by the total tonnage gives the delivery value, not the futures profit.

A long futures position gains when the settlement price rises, so the gain is £14.50 per tonne × 50 tonnes × 4 contracts = £2,900.

Question 7

Topic: Delivery and Settlement

A broker is preparing settlement notes for two June futures positions:

• A UK pension fund is long a FTSE 100 index future to maintain equity exposure during a cash transition.
• A grain merchant is short a milling wheat future to hedge inventory it may deliver if the hedge is not closed out.
• The index future provides for final cash settlement against the index level.
• The wheat future specifies deliverable grades, approved delivery locations, notices and delivery dates.

Which is the BEST explanation for this difference in delivery terms?

• A. Financial futures are cash settled because they are always used by investors, while commodity futures are physically delivered because they are always used by producers.
• B. Commodity futures require detailed delivery terms because they are OTC contracts, while financial futures do not because they are exchange traded.
• C. Financial futures avoid delivery terms because margin removes settlement risk, while commodity futures need delivery terms because margin does not apply to them.
• D. An equity index has no physical asset to deliver, while a commodity contract must define acceptable quality, place, timing and evidence for physical delivery.

Best answer: D

What this tests: Delivery and Settlement

Explanation: Delivery terms reflect the nature of the underlying asset. Many financial futures reference assets that can be transferred electronically or, in the case of an equity index, cannot be physically delivered at all. Cash settlement against an agreed final value is therefore practical and standardised. Commodity futures may result in delivery of a physical good, so the contract must specify matters such as grade, quality tolerances, delivery location, delivery period, notices, warehouse receipts and other logistics. These terms ensure that buyers and sellers know exactly what counts as proper delivery if the position is not closed out or rolled before expiry.

• User type does not determine the settlement method; both investors and commercial hedgers may close out, roll or settle futures.
• Commodity futures can be exchange traded; detailed delivery terms are not a sign that the contract is OTC.
• Margin reduces counterparty credit exposure but does not replace settlement mechanics or remove the need to define a deliverable commodity.

Financial futures often settle by cash reference to a price or index, whereas commodity futures need delivery terms to standardise physical goods that vary by grade, location and logistics.

Question 8

Topic: Delivery and Settlement

A derivatives adviser is reviewing an exchange-traded commodity position for a client that has written 5 call options on December copper futures. The calls have a strike of $8,000 per tonne. The exchange contract specification states that exercise creates the underlying futures position rather than immediate metal delivery. At expiry, the December copper futures settlement price is $8,250, and the long call holders exercise. What is the single best description of the client’s position after assignment?

• A. The client must immediately deliver physical copper to the call holders on the option expiry date.
• B. The client keeps the premium and has no further obligation because the calls have reached expiry.
• C. The client pays only a cash amount equal to the intrinsic value, with no futures position created.
• D. The client is allocated 5 short December copper futures at the strike and must meet futures margin and settlement obligations.

Best answer: D

What this tests: Delivery and Settlement

Explanation: Exercise gives the holder of an in-the-money call the right to obtain the specified outcome under the contract terms. For an exchange-traded option on a futures contract, that outcome is normally creation of a futures position, not immediate physical delivery of the commodity. The exercising call holder receives a long futures position at the strike price, and the assigned call writer receives the corresponding short futures position. Once the short futures position exists, the client is exposed to futures margining and daily settlement. Physical delivery would arise only if the futures contract itself is held into its delivery process and is not closed out or otherwise settled before then.

• Treating expiry as ending all obligations ignores that assignment can convert a written option into a futures obligation.
• Immediate physical delivery is incorrect because the stated contract specification creates futures positions on exercise.
• A cash-only outcome would fit some cash-settled options, but it contradicts the stated exercise mechanics here.

A writer of calls on futures who is assigned takes the opposite futures position to the exercising call holder, so the client becomes short futures.

Question 9

Topic: Delivery and Settlement

An adviser is reviewing an expiry instruction for a client who wrote covered exchange-traded equity calls. The contract terms state that in-the-money contracts are automatically exercised at expiry and assigned to writers. Ignore taxes and brokerage.

Which expiry treatment and net option result should be recorded?

• A. Expect assignment only if the share price falls below 740p; otherwise no delivery is required.
• B. Expect assignment; deliver 6,000 shares at 740p, with a £960 net option loss after the premium received.
• C. Allow the calls to lapse unexercised; retain the £720 premium as the full result.
• D. Exercise the calls; buy 6,000 shares at 740p, with a £960 net option profit after the premium received.

Best answer: B

What this tests: Delivery and Settlement

Explanation: A call is in the money at expiry when the underlying price is above the exercise price. Here, the calls are in the money by 28p per share: 768p - 740p. The client is the writer, not the holder, so the correct expiry event is assignment rather than exercise by the client. Six contracts cover 6,000 shares. The gross intrinsic loss to the call writer is 28p × 6,000 = £1,680. The premium already received is 12p × 6,000 = £720, so the net option result is a £960 loss. Physical settlement means delivery of the shares at the 740p exercise price.

• Exercising the calls would be the holder’s action; the writer responds to assignment.
• Letting the calls lapse is inconsistent with a 768p share price against a 740p call exercise price.
• A lower share price would make a call less likely to be exercised, not more likely.

The short calls are in the money by 28p per share, so assignment is expected and the 12p premium reduces the writer’s net loss to 16p per share on 6,000 shares.

Question 10

Topic: Delivery and Settlement

An investor has written five exchange-traded call option contracts over ABC plc shares. Each contract is physically settled, covers 1,000 shares, has an exercise price of £4.20, and permits exercise at any time up to expiry. Before expiry, the investor receives an assignment notice because a holder has exercised. ABC plc shares are trading at £4.80.

Which action best applies the effect of the assignment notice?

• A. The writer can defer settlement until expiry because the assignment notice is not binding before then.
• B. The writer must pay only the cash difference between £4.80 and £4.20 because call assignments are always cash settled.
• C. The writer must deliver 5,000 ABC plc shares against payment of £4.20 per share under the contract.
• D. The writer may abandon the contracts because exercise is discretionary for both parties.

Best answer: C

What this tests: Delivery and Settlement

Explanation: An option holder has the right to exercise if the contract terms permit it, but the writer has the obligation if assigned. Here, the exercised call is physically settled and covers 5 contracts × 1,000 shares, so the assigned writer must deliver 5,000 ABC plc shares. The writer receives the exercise price of £4.20 per share, even though the market price is £4.80. The higher market price explains why exercise is attractive to the holder, but it does not allow the writer to refuse, abandon, or substitute a cash payment unless the contract is cash settled by its terms.

• Abandonment is a holder decision at expiry or when exercise is not worthwhile; it is not available to an assigned writer.
• Cash settlement applies only where the contract terms provide for it; the facts state physical settlement.
• Assignment creates a binding settlement obligation for the writer according to the contract terms, not merely a notice to act at expiry.

A call writer assigned on a physically settled contract is obliged to deliver the underlying shares at the exercise price.

Continue in the web app

Use Finance Prep for interactive CISI IAD Derivatives practice with mixed sets, timed mock exams, topic drills, explanations, and progress tracking.

Related focused pages

• Free CISI IAD Derivatives Practice Exam
• Free CISI IAD Derivatives Practice Questions: Introduction to Derivatives
• Free CISI IAD Derivatives Practice Questions: Underlying Assets
• Free CISI IAD Derivatives Practice Questions: Exchange-Traded Futures and Options
• Free CISI IAD Derivatives Practice Questions: OTC Derivatives
• Free CISI IAD Derivatives Practice Questions: Clearing
• Free CISI IAD Derivatives Practice Questions: Portfolio Research and Construction
• Free CISI IAD Derivatives Practice Questions: Trading, Hedging, and Investment Strategies
• Free CISI IAD Derivatives Practice Questions: Investment Selection and Administration
• Free CISI IAD Derivatives Practice Questions: Regulatory Requirements

Practice next step

Use the Finance Prep web app above when you want interactive practice beyond this static page.