Answer: Financing long-term assets with short-term liabilities

**Correct answer: B** Hull discusses several common ways derivatives can be misused, including: - **Over-diversification**, which can dilute oversight and make risk harder to monitor. - **Pricing illiquid or exotic instruments off actively traded instruments**, which can create large valuation errors when the instruments are not truly comparable. - **Too much trust in models**, which can lead firms to underestimate tail risk, model risk, and parameter uncertainty. By contrast, **financing long-term assets with short-term liabilities** is a funding and liquidity mismatch, but it is not one of Hull's direct examples of how derivatives themselves are easily misused.

Author: Manit Arora