Explanation:
Correct answer: B. BETTER liquidity
Exotic derivatives typically have non-standard terms, which means they are usually less liquid than plain vanilla derivatives. Their main advantages are often customization, which can lead to lower basis risk and therefore better hedge effectiveness. Because many exotic derivatives are traded OTC rather than on an exchange, they also often involve higher counterparty risk.
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Q-1 09.01. In comparison to a plain vanilla derivative, each of the following is true of an EXOTIC derivative EXCEPT for (most likely answer):
A
BETTER hedge effectiveness
B
BETTER liquidity
C
LOWER basis risk
D
HIGHER (more) counterparty risk