Try 10 Series 3 Hedging and Options sample questions with explanations, then continue with the full Securities Prep practice test.
Series 3 Hedging and Options questions help you isolate one part of the NFA outline before returning to a mixed practice test. The questions below are original Securities Prep practice items aligned to this topic and are not copied from any exam sponsor.
| Item | Detail |
|---|---|
| Exam | NFA Series 3 |
| Official topic | Part 1C - Hedging, Spreads, Speculation, and Options Strategies |
| Blueprint weighting | 24% |
| Questions on this page | 10 |
A customer speculates by buying 2 NYMEX WTI crude oil futures contracts at 74.20 and later offsetting the position by selling at 75.05. The contract size is 1,000 barrels, and prices are quoted in dollars per barrel. Ignore commissions and fees.
Which statement about the trade’s gross profit/loss is INCORRECT?
Best answer: C
Explanation: Total futures P/L is the price change times contract size times number of contracts, so two contracts doubles (not halves) the dollar result.
For a futures trade, gross P/L equals the price change (exit minus entry) multiplied by the contract size and the number of contracts. Here the price rises by 0.85 per barrel, which produces a profit per contract of 0.85 \(\times\) 1,000 = $850. With 2 contracts, the total gross profit is $1,700.
Gross futures P/L is computed from the quoted price move, scaled by the contract size and the number of contracts. Because the customer is long, a higher offsetting sale price creates a profit.
\[ \begin{aligned} \Delta P &= 75.05 - 74.20 = 0.85\text{ per barrel}\\ \text{P/L per contract} &= 0.85 \times 1{,}000 = USD 850\\ \text{Total P/L} &= USD 850 \times 2 = USD 1{,}700 \end{aligned} \]A common mistake is forgetting to multiply by the number of contracts (or incorrectly dividing by it).
Which statement best describes a calendar spread in options on futures and what primarily drives changes in its value over time?
Best answer: A
Explanation: A calendar spread is same strike/different expiration, and its P/L is dominated by how fast each option’s time value erodes.
A calendar spread (time spread) in options on futures uses the same strike but different expirations—typically long the deferred option and short the nearby option. Because both legs reference the same underlying futures, the position’s value is primarily affected by the difference in time-value decay between the two expirations, along with changes in implied volatility by term.
A calendar spread in options on futures is created by buying one option and selling another option on the same underlying futures contract with the same strike price but different expiration months (a “time spread”). The spread’s value is largely the net time value between the two options.
As time passes, the nearby option generally loses time value faster than the deferred option. Therefore, many calendar spreads are structured to benefit when the short, near-term option’s time decay outpaces the long, longer-dated option’s time decay. A secondary driver is term structure of implied volatility (near vs. deferred IV), but the defining high-level driver is the different theta across expirations.
In contrast, vertical spreads are defined by different strikes within the same expiration.
A retail customer tells an AP at an FCM that geopolitical disruptions could sharply reduce near-term crude oil supply, and he wants a bullish trade for the next 3 months. He wants a defined maximum loss and does not want to face futures variation margin calls. To lower the upfront premium, he is willing to cap his upside above a target price. Which trade best meets these constraints?
Best answer: A
Explanation: A bull call spread is bullish with limited risk (net premium) and reduced cost, but caps upside above the short strike.
The customer is bullish but requires defined risk and wants to avoid futures margin calls, which points to using options rather than a futures position. Because he also wants to reduce premium and is willing to cap gains, a bull call spread (long call financed by a short higher-strike call) best matches the stated trade-offs.
This is a trade-construction question: match the market view (bullish crude oil) and the customer’s constraints (defined maximum loss, avoid futures variation margin calls, reduce premium, willing to cap upside). A long futures position is bullish but has potentially large losses and daily variation margin. Option spreads can define risk and use the premium received from the short option to reduce the net premium paid.
A bull call spread fits:
Compared with buying a call outright, the spread better satisfies the “lower premium” constraint.
An AP shows a customer the following quote snapshot for CME 3‑Month SOFR futures. The contract convention is:
Exhibit: SOFR futures quotes
| Contract month | Futures price |
|---|---|
| June | 95.60 |
| December | 94.90 |
Based on these quotes, by approximately how many basis points is the market implying 3‑month SOFR will change from June to December? (Round to the nearest 1bp.)
Best answer: C
Explanation: June implies 4.40% and December implies 5.10%, a rise of 0.70% (70bp).
Convert each futures price to an implied short-term rate using 100 minus price. The lower December futures price implies a higher expected 3‑month SOFR than June, so the market is pricing higher short-term rates later in time by the difference between those implied rates.
This question tests reading the term structure of short-term rates from SOFR futures. Because the quoted price equals 100 minus the implied annualized 3-month SOFR, a lower futures price means a higher implied rate.
The key takeaway is that the futures curve here implies rising expected short-term rates over time (an upward-sloping expected short-rate term structure).
A registered AP at an IB reviews a new customer’s futures account after the customer calls to complain about “constant in-and-out trading” and high commissions. The account is non-discretionary and lists the objective as “moderate growth with limited risk.”
Exhibit: Last 30 days (account summary)
Net liquidating value: $25,000
Round-turn futures trades: 120
Commissions and fees: $9,000
The AP suspects the trading pattern may constitute churning. What is the best next step?
Best answer: A
Explanation: Potential churning is a serious sales-practice red flag and should be promptly documented and escalated for supervisory review before further solicitations continue.
Churning is excessive trading designed to generate commissions and creates significant regulatory exposure for both the individual and the firm. When a churning red flag appears, the proper sequence is to document it and escalate it to supervisory/compliance personnel for investigation and appropriate restrictions. This supports required supervision and helps prevent further potentially abusive trading.
The core issue is a potential sales-practice abuse: churning (excessive trading to generate commissions). Even in a non-discretionary account, an AP can create churning exposure through frequent solicitations that effectively control the trading and produce a commission-heavy pattern inconsistent with the customer’s stated objectives.
When a red flag appears (for example, very high round-turn volume and commissions relative to account equity plus a customer complaint), the appropriate process is to:
Taking corrective trading action or jumping directly to regulators is not the first step; supervision and investigation come first so the firm can address and, if needed, stop the problematic conduct.
A customer wants to trade a corn futures calendar spread to reduce exposure to the overall direction of corn prices. The spread is currently quoted as December minus July = 20 cents/bushel. She expects the December–July price difference to narrow to about 10 cents and enters: long 1 July corn futures and short 1 December corn futures.
Which risk/limitation matters most for whether this spread trade makes or loses money?
Best answer: B
Explanation: A futures spread profits when the price differential between the two legs moves in the expected direction, regardless of whether both futures prices rise or fall.
A futures spread is a combined position in two related futures (different months or different but related contracts). Because one leg is long and the other is short, the key driver of profit or loss is the change in the price difference (the spread) between the two legs. If the spread widens instead of narrows, the position can lose money even if corn prices move as expected overall.
A futures spread is a two-legged futures position designed to trade the relative value between the legs (for example, an intermonth/calendar spread such as July vs. December corn). In a spread, one leg is long and the other is short, so much of the outright price movement can offset.
What matters for P/L is the change in the spread (the price differential) from entry to exit:
The key limitation is that being “right” about general price direction is not enough; the relative move between months is what determines the outcome.
A farmer expects to sell 50,000 bushels of corn in October and wants to hedge using December corn futures. On June 1, the local cash bid is $5.60/bu and December futures are $5.80/bu.
The AP sells 5 December corn futures contracts, mistakenly believing each contract is for 10,000 bushels (the actual contract size is 5,000 bushels).
In October, the farmer sells corn at a local cash price of $5.20/bu and offsets the futures at $5.40/bu. Assume the basis is unchanged and ignore commissions.
What is the most likely outcome of this hedging error on the farmer’s net price?
Best answer: D
Explanation: Selling only 5 contracts hedges 25,000 of 50,000 bushels, so the $0.40 futures gain adds only $0.20/bu to the cash sale.
Because the AP used the wrong contract size, the farmer is underhedged: 5 contracts cover only 25,000 bushels, not 50,000. The futures position gains $0.40/bu, but that gain applies to only half the crop, adding $0.20/bu to the $5.20 cash sale. The result is a net price of about $5.40/bu instead of the fully hedged net price.
This is a contract-size (hedge-ratio) error. A short futures hedge improves the net sale price when prices fall because the futures position gains, but the gain only applies to the quantity actually hedged.
If the farmer had sold 10 contracts, the unchanged basis would have produced about $5.60/bu, but the undersized hedge leaves half the crop exposed to the price drop.
A customer speculates by going long 2 WTI crude oil futures contracts at 78.40 and later offsets the position by selling 2 contracts at 79.15. The contract size is 1,000 barrels per contract. Ignoring commissions and fees, which option correctly matches the trade’s gross result? (All amounts are in USD.)
Best answer: B
Explanation: The price increased by 0.75, so profit is \(0.75 \times 1{,}000 \times 2 = \) $1,500.
For a long futures position, gross profit equals the price increase times the contract size times the number of contracts. Here the futures price rises from 78.40 to 79.15, a gain of 0.75 per barrel. Multiplying by 1,000 barrels per contract and 2 contracts gives a $1,500 gross profit.
Gross P/L on a futures trade is driven by (1) whether the trader is long or short, (2) the price change, (3) the contract size, and (4) the number of contracts. Because the customer is long, a price increase creates a profit.
Compute the result:
\[ \begin{aligned} \text{Price change} &= 79.15 - 78.40 = 0.75 \\ \text{Profit} &= 0.75 \times 1{,}000 \times 2 = 1{,}500 \end{aligned} \]Key takeaway: always scale the per-unit price move by both the contract size and the number of contracts, then apply the correct sign for long vs short.
A cattle feeder expects to sell 40,000 lb of live cattle in 2 months and wants to reduce price risk. Live cattle futures are 10,000 lb per contract; all prices are in cents per lb.
At hedge initiation:
At sale (hedge lifted the same day as the cash sale):
The feeder sells 4 futures contracts at initiation and buys them back at sale. Which statement best describes the hedge outcome and the role of basis risk?
Best answer: B
Explanation: The short futures gain (180.00 − 172.00 = 8.00) offsets the cash drop, and the net differs from expectations because basis changed.
With a short hedge, the cash sale price is combined with the futures gain or loss to estimate a net price. Here, the feeder gains 8.00 cents in futures, so the net is approximately 170.00 + 8.00 = 178.00 cents per lb. Any difference between the net price and what was anticipated at hedge initiation is driven by basis risk (basis changing over time).
A short hedge is designed to offset a decline in the cash price by taking an opposite position in futures. The net price received is approximated as:
Here, the feeder sold futures at 180.00 and bought them back at 172.00, for an 8.00-cent gain. Adding that gain to the 170.00-cent cash sale price gives a net of about 178.00 cents per lb. Basis risk remains because the basis (cash − futures) can change between hedge initiation and hedge lifting; in this case basis moved from −4.00 to −2.00 (strengthened), improving the net relative to what a constant basis would imply.
A customer is long 10 June crude oil futures and wants to “roll” the position into September today. The customer’s main concern is avoiding leg risk (being filled on one month without the other).
Exhibit: Quote board (calendar spread is Near − Far, in USD per barrel)
CL Jun 2026 78.40 x 120 78.42 x 95
CL Sep 2026 77.90 x 110 77.92 x 80
Jun/Sep spread +0.48 x 60 +0.52 x 55
Based on the exhibit, which order approach is most consistent with the customer’s objective?
Best answer: D
Explanation: A spread order executes as a single package at the quoted spread, minimizing leg risk versus working two separate outright orders.
The quote board shows a tradable Jun/Sep calendar spread market, quoted as Near minus Far. Using a spread order routes the roll as one spread transaction (selling June and buying September) and is designed to reduce the risk of getting filled on only one leg compared with entering two separate outright orders.
A calendar spread quote represents a market for executing both legs together at a single spread price (here, June minus September). Because the customer is rolling a long June position into September, the customer needs to sell the near month (June) and buy the far month (September), which is a sale of the Jun/Sep spread.
Using a spread order targets the exchange’s spread book (and any implied liquidity) so the trade is treated as one package:
This approach is the standard way to reduce leg risk compared with placing two separate outright orders that can fill at different times and prices.
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