2010_erp practice exam

GLOBAL ASSOCIATION OF RISK PROFESSIONALS

Energy RiskProfessional (ERP)Examination2010 Practice Exam

2010 ERP Examination Practice Exam

© GARP, Global Association of Risk Professionals, Inc., 2009It is illegal to reproduce this material in any format without prior written approval of GARP, Global Association of Risk Professionals, Inc. 1


Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .3

2010 ERP Practice Exam ICandidate Answer Sheet . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .5

2010 ERP Practice Exam IQuestions . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .7

2010 ERP Practice Exam ICorrect Answer Sheet . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .21

2010 ERP Practice Exam IAnswers and Explanations . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .23

2010 ERP Practice Exam IICandidate Answer Sheet . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .51

2010 ERP Practice Exam IIQuestions . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .53

2010 ERP Practice Exam IICorrect Answer Sheet . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .67

2010 ERP Practice Exam IIAnswers and Explanations . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .69

TABLE OF CONTENTS



INTRODUCTION

The ERP Exam is a practice-oriented examination. Its questions are derivedfrom a combination of theory, as set forth in the readings, and “real world”work experience. Candidates are expected to understand energy risk management concepts and approaches and how they would apply to a risk manager’s day-to-day activities.

The ERP Exam is also a comprehensive examination, testing an energy riskprofessional on a number of risk management concepts and approaches. It is very rare that a risk manager will be faced with an issue that canimmediately be slotted into one category. In the real world, an energy riskmanager must be able to identify any number of risk-related issues and be able to deal with them effectively.

The 2010 ERP Practice Exam has been developed to aid candidates in theirpreparation for the ERP Examination in May 2010. This practice exam isbased on a sample of actual questions used in the 2009 ERP Examination.

The 2010 ERP Practice Exam contains 100 multiple choice questions. Notethat the 2010 ERP Examination will consist of a morning and afternoon session containing 90 multiple choice questions for each session. The practice exam is designed to be shorter to allow candidates a chance tocalibrate their preparedness without being overwhelmed.

The 2010 ERP Practice Exam does not necessarily cover all topics to be tested in the 2010 ERP Examination. For a complete list of topics and corereadings, candidates should refer to the 2010 ERP Examination StudyGuide. Core readings were selected by the Energy Oversight Committee(EOC) to assist candidates in their review of the subjects covered by theexam. Questions for the ERP Examination are derived from these core read-ings in their entirety. As such, it is strongly suggested that candidatesreview all core readings listed in the 2010 ERP Study Guide in-depth priorto sitting for the exam.

Suggested Use of Practice Exam

To maximize the effectiveness of the practice exam, candidates are encouraged to follow these recommendations:

1. Plan a date and time to take the practice exam. Set the date appropriatelyto give sufficient study/review time between the practice exam and theactual exam.

2. Simulate the test environment as closely as possible.

• Take the practice exam in a quiet place.• Have only the practice exam, candidate answer sheet, approved

calculator, and writing instruments (pencils, erasers) available.• Minimize possible distractions from other people, cell phones and

study material.• Allocate approximately 2 minutes per question for the practice

exam and set an alarm to alert you when 200 minutes have passed(or 2-100 minute sessions with a break in between to simulate the actual exam conditions). Complete the exam, but note the questions answered after the 200 minute mark.

• Follow the ERP calculator policy. Candidates are allowed to bring cer-tain types of calculators into the exam room only. The only calculatorsauthorized for use on the ERP Exam in 2010 are listed below. Therewill be no exceptions to this policy. You will not be allowed into theexam room with a personal calculator other than the following:• Hewlett Packard 12C (including the HP 12C Platinum)• Texas Instruments BA II Plus (including the BA II Plus Professional)• Hewlett Packard 10B II• Hewlett Packard 20B

3. After completing the practice exam,

• Calculate your score by comparing your answer sheet with the practice exam answer key. Only include questions completed in the first 200 minutes.

• Use practice exam Answers and Explanations to better understandcorrect and incorrect answers and to identify topics that requireadditional review. Consult referenced core readings to prepare for exam.

• Remember: pass/fail status for the actual exam is based on the distribution of scores from all candidates, so use your scores only to gauge your own progress and level of preparedness.

GLOBAL ASSOCIATION OF RISK PROFESS IONALS

Energy RiskProfessional (ERP)Examination2010 Practice Exam I


2010 ERP PRACTICE EXAM I: CANDIDATE ANSWER SHEET

a. b. c. d.

1. � � � �2. � � � �3. � � � �4. � � � �5. � � � �6. � � � �7. � � � �8. � � � �9. � � � �10. � � � �11. � � � �12. � � � �13. � � � �14. � � � �15. � � � �16. � � � �17. � � � �18. � � � �19. � � � �20. � � � �21. � � � �22. � � � �23. � � � �24. � � � �25. � � � �26. � � � �27. � � � �

a. b. c. d.

28. � � � �29. � � � �30. � � � �31. � � � �32. � � � �33. � � � �34. � � � �35. � � � �36. � � � �37. � � � �38. � � � �39. � � � �40. � � � �41. � � � �42. � � � �43. � � � �44. � � � �45. � � � �46. � � � �47. � � � �48. � � � �49. � � � �50. � � � �

Correct way to complete

1. � � � �Wrong way to complete

1. � � � ��

1. E10 is a fuel mixture of:

a. 10% ethanol and 90% gasoline b. 10% gasoline and 90% ethanolc. 10% ethanol and 90% benzened. 10% benzene and 90% ethanol

2. Interest in mining coal for energy generation in the United States could spike if:

a. Middle East countries experience dramatic political upheavalb. Clean Air Act amendments are passed into law with more severe limits on emissions, no subsidies for new energy

technology, and no grandfathering of existing coalc. The United States signs the Kyoto Protocol or its successord. More dams are slated for construction in the Western United States

3. Each of these could be a point of dispute on commodity contract performance EXCEPT

a. Credit rating b. Missed deliveries or deadlines c. Poor commodity quality d. Default on a debt

4. Which of the following is an example of operational risk mitigation in crude oil storage?

a. Regular testing for quality controlb. Soliciting public opinion before construction of proposed tank farmsc. Ensuring the counter-party in a contract has sound creditd. Maintaining safe fill allowances in storage tanks

5. Andre, ERP, received an exemption authorization to exceed position limits imposed under the rule on Expiration andCurrent Delivery Month Position Limits. How often does Andre have to file an updated application to maintain the position limit exemption for exposure associated with NYMEX?

a. Quarterlyb. Semi-annuallyc. Annuallyd. Bi-annually



6. Which of the following characteristics is NOT associated with pumped storage electricity generation?

a. It is very useful for providing for ancillaries such as reserves and balancing.b. It can be dispatched at will (i.e. with very little ramp-up time).c. It relies on electricity as its source of energy.d. It consumes less input energy than output energy.

7. A landman is used to determine the legal rights of a company to drill for petroleum and natural gas, and to facilitatemandatory legal requirements. Of the landman's responsibilities, which of the following is NOT one of his/her roles?

a. Conduct seismological tests to locate minerals.b. Locate mineral owners.c. Verify mineral ownership via title searches.d. Negotiate leasing terms necessary for drilling.

8. According to the Securities Exchange Commission (SEC), how long must an accountant maintain all audit review recordsafter a review has concluded?a. 1 yearb. 5 yearsc. 12 yearsd. Indefinitely

9. Which measures the sensitivity of an option’s price to changes in the underlying instrument’s implied volatility?

a. Deltab. Gammac. Thetad. Vega

10. An analyst from PB Energy Trade is implementing VaR methodology and choosing between Monte Carlo simulations andvariance-covariance models. Compared to the analytical method, what is the advantage of Monte Carlo simulation?

a. Ability to handle energy portfolios containing large number of risk factors.b. Inexpensive to compute large numbers of risk factors.c. Simplicity and ease of handling large energy portfolios.d. Ability to estimate VaR for energy portfolios with significant components of nonlinear assets.

© GARP, Global Association of Risk Professionals, Inc., 2009It is illegal to reproduce this material in any format without prior written approval of GARP, Global Association of Risk Professionals, Inc.8


11. LNG can be a preferred method of transmitting natural gas for which reason?

a. Pipeline accessible sources of natural gas may be non-existent. b. The economics of shipping LNG are competitive with pipelines over all distances.c. Unlike pipelines, LNG ships are not vulnerable to weather.d. LNG ships are easier to maintain than pipelines.

12. It is quite usual that crude oils extracted in West Africa are sold based on a formula indexed to Brent crude plus premiumsand discounts, case by case on each cargo. If a West African producer is also executing futures on Brent, which type ofrisk is likely reduced?

a. Basis risk and supply riskb. Basis risk and directional riskc. Supply riskd. Market risk

13. Gas basis is the:

a. Underlying cost of the commodityb. Price difference between locationsc. Tax rate for gas inventoryd. Convenience yield for gas ownership

14. The cost of crude oil typically accounts for 70–80% of the total operating expenses of a refinery. As such, crude oils thatoffer the highest margins are often sought. Which of the following is NOT a typical method used to evaluate crude oil fora refinery?

a. Break-even analysisb. Crude oil replacement economicsc. Crude oil absolute economicsd. Fischer-Tropsch analysis



15. When futures prices for short maturities in the crude oil market are more expensive than those maturing later, the marketis __________.

a. Backwardatedb. Contangoc. In equilibriumd. In extreme volatility

16. Rank the following countries from highest to lowest according to percentage of electricity produced by nuclear power:

a. France, Japan, USA, Russia b. Japan, USA, France, Russiac. USA, Japan, Russia, Franced. USA, Russia, France, Japan

17. Regulatory constraints on greenhouse gas (GHG) emissions would affect the economic operation of a coal-to-liquids plantbecause:

a. GHG emissions associated with CTL production are high and need to be mitigated within the confines of whateverGHG regime is operative.

b. The technical risks associated with carbon dioxide capture are high. c. Carbon dioxide capture is uneconomic. d. There is no economic use for the captured carbon dioxide.

18. _____ risk in the crude oil market can be mitigated with _____.

a. Operational / futures contracts b. Counter-party / irrevocable letters of creditc. Regulatory / collateralization d. Basis / forward contracts



19. Which of the following are true?

I. Extracting oil sands on a large scale has significant environmental impacts.II. Mining and in-situ operations in oil sands use a significant amount of water.III. Large tailing ponds are created in mining oil sands and their management is one of the main challenges for the

industry.IV. Tailing ponds contain hazardous contaminants and are a source of methane emissions.

a. I and II b. II and III c. I, II, and IIId. All are correct

20. Given the Commission’s authority under The Energy Policy Act of 2005 (EPAct), which of the following mechanisms andpowers CANNOT be exercised by the Commission?

a. Identifying violationsb. Using criminal penalty authorityc. Tightening efficiency requirementsd. Overseeing mandatory reliability standards governing the nation’s electricity grid

21. A generating plant has a nameplate rating of 650 megawatts and is expected to be offline for 720 hours for a scheduledoutage during the year. A typical year is comprised of 8,760 hours. Actual generation during the year was 4,270,500megawatt hours. What is the plant’s load factor?

a. 81.7%b. 75.0%c. 72.76%d. 76.0%

22. The “P90” of an oil field is 50 Mbbl. What does this classification indicate?

a. There is a 90% probability the oil field will actually produce more than 50 Mbbl of oil.b. There is a 90% probability the oil field contains 50 Mbbl of oil.c. The oil field is 90% depleted.d. The oil field is determined to contain 90% petroleum and 10% other material (e.g. natural gas).



23. Which of the following statements about the Sarbanes-Oxley Act of 2002 (SOX) are FALSE?

I. SOX specifically states that the destruction, alteration or falsification of records in federal investigations and bankruptcy proceedings is a criminal act.

II. SOX establishes accounting and reporting standards for derivative instruments, including certain derivative instru-ments embedded in other contracts, and for hedging activities.

III. SOX stipulates that each annual and quarterly financial report filed with the SOX Commission must disclose off-balance sheet transactions.

IV. Principal executives and officers must certify each annual or quarterly report submitted to the SOX Commission.

a. All are trueb. I and IIIc. II only d. II and IV

24. A portfolio manager has both energy futures and energy forwards in her portfolio. Which can she typically sell WITHOUTthe permission of the holder of the opposite side of the transaction (the counterparty)?

a. Futures b. Forwards c. Either d. Neither

25. On June 20, Caufield Refining knows it will need to purchase 40,000 barrels of crude in October. On NYMEX, oil futurescontracts are traded for delivery every month. Thus, Caufield decides to hedge using a November contract. The Novemberfutures price on June 20 is USD 67.00/bbl. On October 12, Caufield is ready to purchase their needed crude and closes outits futures contract on that day; at this time the spot price is USD 70.10/bbl and the futures price is USD 68.50/bbl. In thisscenario, what is the effective price paid per barrel?

a. USD 68.50 b. USD 68.60 c. USD 70.10 d. USD 70.40



26. Qatari LNG Inc. wishes to construct a new mega-train LNG plant. While the mega-train facility will provide an economy ofscale (7.8 MMt/y), vast amounts of investment capital will be at risk. Which strategy might be best for Qatari LNG Inc. topursue in order to minimize this risk?

a. Seek multiple buyers willing to sign for multiple, small LNG contracts.b. Consider dividing the project into two smaller LNG trains. c. Power the mega-train plant with steam turbines, since they are cheaper than gas turbines.d. Solicit project sponsors who can also purchase entire train production.

27. In energy markets, an example of basis risk is:

a. Natural gas prices spiking at peak demand for a power generation plant.b. Failure to comply with FERC financial reporting regulations.c. A megawatt of electricity costs USD 75 in Pennsylvania, but costs USD 82.50 in New York. d. The inability of a power generation plant to meet demand in a given market.

28. Because of high pressure in the subsurface reservoir, a considerable volume of natural gas occurs dissolved in crude oil.This is called:

a. Non-associated gas b. Crude oil gas c. Associated gas d. Free gas



29. An estimate of the purchase cost of a process unit at time t2, C(t2), is obtained by multiplying the original (quoted) costat time t1, C(t1), by a ratio of cost indices:

In 2005, a 150,000 BPD distillation column could be purchased for USD 100 million. Using the Nelson-Farrar refinery construction cost indexes per year (below), what is the estimated cost for this unit in 2008?

2005 (1,919)2006 (2,008)2007 (2,107)2008 (2,251)

a. USD 100 millionb. USD 110 millionc. USD 117 milliond. USD 225 million

30. When futures prices for short maturities in the crude oil market are less expensive than those maturing later, the market is_____________.


31. What is the leading cause of dam failures?

a. Too much rainb. Poor geologic choicec. Poor constructiond. Inadequate inspection regimes

32. The size and complexity of a Fischer-Tropsch plant brings additional risks because:

a. The startup of a first-of-kind facility is inherently problematic. b. The availability of skilled manpower is limited. c. Poor management is systemic. d. The political climate of the country in which the plant will be built is unfavorable.



33. Taking into account a snapshot from the table below, one can calculate that the probability of a B3 rated bond defaultingin the fifth year is _____, surviving until the end of year four is _____.

Default probability in %

Moody’s YearRating 1 2 3 4 5

B1 4.680 8.3800 11.5800 13.8500 16.1200B2 7.1600 11.6700 15.5500 18.1300 20.7100B3 11.6200 16.6100 21.0300 24.0400 27.0500Caa1 17.3816 23.2341 28.6386 32.4788 36.3137

a. 2.58%; 84.45%b. 84.45%; 2.58%c. 3.01%; 75.96%d. 75.96%; 3.01%

34. In order to better understand the operating complexities of oil pipelines, pipeline engineers need to consider which of thefollowing issues?

a. Oil is transported “as is” from the wellhead all the way to the consumers.b. Oil products pipelines carry multiple products.c. Oil undergoes only minor processing at oil plants before it is suitable for consumption by its various customers.d. In most cases in the Unites States, the oil transmission lines never actually own the oil.

35. Jane, Energy Risk Professional, attempts to receive an exemption from the position limits from the IntercontinentalExchange (Europe). Which of the following positions may be granted an exemption by the Exchange?

l. Arbitrage positionsII. Inter-commodity spread positionsIII. Eligible option/option or option/futures spread positions

a. I onlyb. I and IIIc. II and IIId. All of the above



36. Which characteristic from the following list is NOT associated with zonal transmission?

a. Zones are groupings of nodes.b. Zones are drawn using an electrical rather than geographical map.c. All producers and consumers are treated equally within a zone.d. Zones handle issues such as constraints and redundancy effectively.

37. To determine the NPV of a future stream of cash flows, it is useful to know which of the following:

a. Tenor of flowsb. Notional of flowsc. Discount rated. All of the above

38. The effective compliance and ethics program under the 2004 Sentencing Guidelines demands organizations take reason-able steps to ensure its compliance and ethics program is followed, including which of the following?

a. Publicly identifying company personnel caught engaging in illegal activities.b. Conducting effective training programs and periodic evaluations of the program’s effectiveness.c. Publishing its compliance program for public viewing and announcing amendments via press releases and other

public formats.d. Discouraging anonymous reporting of wrongdoings of personnel internally.

39. What is an attribute of energy forward contracts?

a. They are not traded on any organized exchanges b. The contracts are standardizedc. They are bilateral d. They are processed through clearinghouses



40. In regards to hedging portfolios, which of the following statements is true?

I. Delta is the ratio of the change in price of an option to a change in the underlying.II. Forward contracts have non-zero gamma.III. You cannot make a portfolio that is delta, gamma, and vega neutral.IV. Vega is the ratio of change in price of an option to a change in the underlying’s volatility.

a. I and IIb. II and IIIc. III and IVd. I and IV

41. LNG plants operate using parallel trains because:

a. It is cheaper to build several small plants rather than a single large one. b. Large compressors are more expensive than small compressors to operate. c. Parallel trains enable the plant to continue operating when one of the trains is shut down for maintenance or repair. d. Multiple trains allow liquefaction plants to be constructed in multiple places along the shore.

42. Northern Oil Company expected its customers to use 1000 gallons of heating oil this winter, but it temperatures havebeen significantly colder this year, increasing demand for oil. Northern Oil expects it will need 5-10% more oil to covercustomer demand. One way this company could have protected against the possibility of needing more oil would havebeen by:

a. Selling put optionsb. Purchasing put optionsc. Selling call optionsd. Purchasing physical call options



43. Natural gas can be stored in various facilities, including:

I. Depleted oil and gas reservoirsII. Fresh water aquifersIII. Underground salt cavernIV. Above-ground steel tanks

a. I and II b. II and IIIc. I, III, and IV d. All are correct

44. Which of the following processes begins the refining of crude oil into separate fractions or cuts?

a. Distillationb. Treatmentc. Blendingd. Conversion

45. To calculate the historical volatility for use in a Geometric Brownian Motion (GBM) process you need to do which of thefollowing?

I. Determine the commodity’s long run mean priceII. Calculate the standard deviation of the prices about the long term meanIII. Calculate the standard deviation of the logarithmic price returnsIV. Annualize the standard deviation by the appropriate factor

a. I and IIb. I, II, and IVc. III and IVd. III only

46. The largest risk faced by geothermal power is:

a. Loss of reservoir water causing steam generation to diminish.b. Inducing earthquakes.c. Underground energy sources expropriated by a government.d. Starting a volcanic eruption through the geothermal drill hole.



47. Carbon dioxide sequestration is a necessary aspect of a coal-to-liquids plant, but it is risky in the U.S. because:

a. Carbon dioxide is a poisonous gas.b. Large-scale carbon sequestration has not yet been demonstrated in the United States. c. Sequestration sites have not been identified. d. Local regulation and permitting activities in place effectively prevent investment in CTL plants.

48. Which of the following is true of a countertrade?

a. The conclusion of a countertrade with the same counterparty increases the settlement risk of sold forward contractsand reduces the actual replacement risk.

b. The conclusion of a countertrade with the same counterparty reduces the settlement risk of sold forward contractsand reduces the actual replacement risk.

c. The conclusion of a countertrade with the same counterparty increases the settlement risk of sold forward contractsand locks the actual replacement risk.

d. The conclusion of a countertrade with the same counterparty reduces the settlement risk of sold forward contractsand locks the actual replacement risk.

49. A team of prospective investors needs to decide whether or not to build a pipeline. Which process flow should the prelimi-nary decision process follow?

a. Select origins and destinations → estimate construction costs → estimate volumes → calculate economics → estimate rates

b. Estimate construction costs → estimate rates → estimate volumes → calculate economics → select origins and destinations

c. Select origins and destinations → estimate volumes → estimate construction costs → estimate rates → calculate economics

d. Estimate rates → estimate construction costs → estimate volumes → select origins and destinations → calculate economics.

50. According to the FERC Standards of Conduct for Transmission Providers, the Commission simplified the Standards in orderto achieve all of the following goals EXCEPT:

a. Greater clarityb. Efficiencies of operationc. Ease of complianced. Enforcement of the concept of energy affiliate




2010 ERP PRACTICE EXAM I: CORRECT CANDIDATE ANSWER SHEET

a. b. c. d.

1. � � � �2. � � � �3. � � � �4. � � � �5. � � � �6. � � � �7. � � � �8. � � � �9. � � � �10. � � � �11. � � � �12. � � � �13. � � � �14. � � � �15. � � � �16. � � � �17. � � � �18. � � � �19. � � � �20. � � � �21. � � � �22. � � � �23. � � � �24. � � � �25. � � � �26. � � � �27. � � � �

a. b. c. d.

28. � � � �29. � � � �30. � � � �31. � � � �32. � � � �33. � � � �34. � � � �35. � � � �36. � � � �37. � � � �38. � � � �39. � � � �40. � � � �41. � � � �42. � � � �43. � � � �44. � � � �45. � � � �46. � � � �47. � � � �48. � � � �49. � � � �50. � � � �



1. � � � ��


Energy RiskProfessional (ERP)Examination2010 Practice Exam IAnswers and Explanations

1. E10 is a fuel mixture of:

a. 10% ethanol and 90% gasoline b. 10% gasoline and 90% ethanolc. 10% ethanol and 90% benzened. 10% benzene and 90% ethanol

Correct answer: a

Reference: Nersesian; Chapter 3, p. 53

Reason: a is correct. Automobile owners who buy E10 gasohol (10 percent ethanol and 90 percent gasoline) in the corn-growing regions of the United States do so on the premise that their purchase of the higher-priced ethanol component of gasohol benefits the local economy.

2. Interest in mining coal for energy generation in the United States could spike if:

a. Middle East countries experience dramatic political upheavalb. Clean Air Act amendments are passed into law with more severe limits on emissions, no subsidies for new energy

technology, and no grandfathering of existing coalc. The United States signs the Kyoto Protocol or its successord. More dams are slated for construction in the Western United States

Correct answer: a

Reference: Speight; Chapter 2, p. 32-38

Reason: a is correct. The United States’ renewed interest in coal production was sparked by the two oil shocks of 1973and 1979 and upheaval in Iran in 1980, effects with roots in the oil rich Middle East. Since the burning of coal emitsharmful greenhouse gases, a bolstered version of the Clean Air Act or signing onto the Kyoto Protocol—regulations thatseek to inhibit global warming—would not necessarily encourage more coal mining and use. Dams are constructed forhydroelectric power generation and have no need for burning coal to generate power.



3. Each of these could be a point of dispute on commodity contract performance EXCEPT

a. Credit rating b. Missed deliveries or deadlines c. Poor commodity quality d. Default on a debt

Correct answer: a

Reference: Kaminski; Chapter 12, p. 348-349

Reason: A is correct. Events and disputes that may come up with a physical contract include force majeure, the quality ofthe commodity being delivered, default on a debt, missed payments, or missed deliveries. Credit ratings are not created ina contract but rather via third parties.

4. Which of the following is an example of operational risk mitigation in crude oil storage?

a. Regular testing for quality controlb. Soliciting public opinion before construction of proposed tank farmsc. Ensuring the counter-party in a contract has sound creditd. Maintaining safe fill allowances in storage tanks

Correct answer: d

Reference: Meisner and Leffler: Chapter 12, p. 289-91

Reason: Safe fill allowance is the safety factor allowed to keep from overfilling the storage tank.



5. Andre, ERP, received an exemption authorization to exceed position limits imposed under the rule on Expiration andCurrent Delivery Month Position Limits. How often does Andre have to file an updated application to maintain the posi-tion limit exemption for exposure associated with NYMEX?

a. Quarterlyb. Semi-annuallyc. Annuallyd. Bi-annually

Correct answer: c

Reference: NYMEX; Online Rulebook 9A.29A

Reason: Any person who has received from the Compliance Department written authorization to exceed position limitsimposed under Rule 9A.27 (Expiration and Current Delivery Month Position Limits) must file with the Exchange an updat-ed application annually not later than the anniversary date of the initial authorization, or waive the exemption.

6. Which of the following characteristics is NOT associated with pumped storage electricity generation?

a. It is very useful for providing for ancillaries such as reserves and balancing.b. It can be dispatched at will (i.e. with very little ramp-up time).c. It relies on electricity as its source of energy.d. It consumes less input energy than output energy.

Correct answer: d

Reference: Harris: Chapter 6, p. 207

Reason: Pumped storage electricity requires more pumping of energy to fill the pond than what is output.



7. A landman is used to determine the legal rights of a company to drill for petroleum and natural gas, and to facilitatemandatory legal requirements. Of the landman's responsibilities, which of the following is NOT one of his/her roles?

a. Conduct seismological tests to locate minerals.b. Locate mineral owners.c. Verify mineral ownership via title searches.d. Negotiate leasing terms necessary for drilling.

Correct answer: a

Reference: Hyne; Chapter 14, p. 234

Reason: It is the job of a landman to identify and locate mineral rights owner of fee land. This is done by searchingthrough the county or parish courthouse records. Commercial land ownership maps that are frequently updated are usedto determine the status of a leases, the names of lessees and the identity of surface right and mineral rights owners. Atitle opinion can be obtained from an attorney who determines the mineral rights owner and attempts to persuade theowner to sign a lease. It is the company's responsibility to partake in exploration geophysics. The landman's responsibili-ties are strictly legal.

8. According to the Securities Exchange Commission (SEC), how long must an accountant maintain all audit review recordsafter a review has concluded?

a. 1 yearb. 5 yearsc. 12 yearsd. Indefinitely

Correct answer: b

Reference: Sarbanes-Oxley Act, Section 802: http://www.sox-online.com/soxact.html#sec802

Reason: According to Section 802 of Sarbanes-Oxley, any accountant who conducts an audit of an issuer of securities towhich section 10A(a) of the Securities Exchange Act of 1934 (15 U.S.C. 78j-1(a)) applies, shall maintain all audit or reviewworkpapers for a period of 5 years from the end of the fiscal period in which the audit or review was concluded.



9. Which of the following measures the sensitivity of an option’s price to changes in the underlying instrument’s implied volatility?

a. Deltab. Gammac. Thetad. Vega

Correct answer: d

Reference: James: Chapter 6, p. 141-3

Reason: a is incorrect: Delta shows how much the option’s price changes when there is a change in the underlying assetprices. It is closely related, but not equal, to the probability that the option will be exercised. b is incorrect: Gamma meas-ures rate of change in Delta. c is incorrect: Theta measures premium sensitivity to changes in time to expiry. d is correct:Vega measures the sensitivity of an option to a change in implied volatility.

10. An analyst from PB Energy Trade is implementing VaR methodology and choosing between Monte Carlo simulations andvariance-covariance models. Compared to the analytical method, what is the advantage of Monte Carlo simulation?

a. Ability to handle energy portfolios containing large number of risk factors.b. Low price of computing large numbers of risk factors.c. Simplicity and ease of handling large energy portfolios.d. Ability to estimate VaR for energy portfolios with significant components of nonlinear assets.

Correct answer: d

Reference: Eydeland and Wolyniec; Chapter 10, p. 446

Reason: d is correct. The advantages of Monte Carlo simulations include the ability to model evolution of risk factorsover the holding period. Furthermore, there is no need to approximate portfolio values in this method—they are computed exactly. Hence, the method can be used for estimating VaR in the most nonlinear portfolio, which is a valuablecharacteristic for energy portfolios with assets.

On the negative side, the curse of the dimension, that is, a large number of risk factors even in a medium size energyportfolio, can make Monte Carlo simulations very expensive computationally (answer 2). Various aggregation techniquescan help, from the numerical efficiency point of view, although they result in the reduction of accuracy of the method.Hence, answer 4 is the correct answer because Monte Carlo allows for VaR estimation in the most nonlinear portfolios.



11. LNG can be a preferred method of transmitting natural gas for which reason?

a. Pipeline accessible sources of natural gas may be non-existent. b. The economics of shipping LNG are competitive with pipelines over all distancesc. Unlike pipelines, LNG ships are not vulnerable to weather.d. LNG ships are easier to maintain than pipelines.

Correct answer: a

Reference: Tusiani and Shearer: Chapter 1, p.20-21

Reason: a is correct. Where pipeline accessible resources of LNG are non-existent, or pipelines are difficult to construct,LNG is a preferred method of delivery of natural gas. This is especially true for Japan. b is incorrect. While LNG has thepotential to be more cost-effective or competitive with pipelines, over short distances pipelines are usually cheaper. Overlong distances, however, LNG shipping is more cost-effective than pipelines. c is incorrect. Because LNG ships acrossoceans they are susceptible to weather patterns and cannot operate year round (for example, cannot run during hurri-canes). Pipelines can run year round and are less affected by weather, if at all. d is incorrect. Pipelines are easier to main-tain than LNG ships.

12. It is quite usual that crude oils extracted in West Africa are sold based on a formula indexed to Brent crude plus premiumsand discounts, decided case by case on each cargo. If a West African producer is also executing futures on Brent, whichtype of risk is likely reduced?

a. Basis risk and supply riskb. Basis risk and directional riskc. Supply riskd. Market risk

Correct answer: d

Reference: Beutel: Chapter 3, p. 19-21 (and much of the entire chapter)

Reason: Answer d is correct. Futures can be used only to reduce the impact of price volatility, and they do not have anyimpact on the availability of a good, hence answers a and c are wrong. The producer is exposed to directional risk, i.e. theprice of Brent crude, and basis risk, i.e. the premiums and discounts in the price formula. Consequently, by transactingfutures he can only reduce the market risk, not the basis risk.



13. Gas basis is the:

a. Underlying cost of the commodityb. Price difference between locationsc. Tax rate for gas inventoryd. Convenience yield for gas ownership

Correct answer: b

Reference: Pilipovic: Chapter 2, p. 32

Reason: b is correct. Decentralization introduces geographic “basis risk,” which is unique to energies. In financial markets,today’s dollar is worth a dollar anywhere in the country. In energy markets, price depends on location. A megawatt of electricity is priced according to delivery point; the same holds true for natural gas. Location is a fundamental driver of price.Pilipovic defines “basis risk” as: The difference in prices between identical products but in two different markets.

14. The cost of crude oil typically accounts for 70–80% of the total operating expenses of a refinery. As such, crude oils thatoffer the highest margins are often sought. Which of the following is NOT a typical method used to evaluate crude oil fora refinery?

a. Break-even analysisb. Crude oil replacement economicsc. Crude oil absolute economicsd. Fischer-Tropsch analysis

Correct answer: d

Reference: Gary, et al: Chapter 14, p. 302-303

Reason: Answers a, b, and c are all typical methods of crude oil evaluation, thus incorrect. Break-even analysis involvesdetermining the difference in value of increments of crude oils compared to a reference crude oil. Other methods, such ascrude oil replacement economics, crude oil absolute economics, and cargo replacement economics, are valid for a givensituation. Because crude oil value can vary more than USD 1–2/bbl, depending on the evaluation method, it is importantto use an evaluation technique the closely resembles the method by which crude oil will be processed. Thus, d is correct.Fischer-Tropsch is actually chemical reaction process used to create fuel.



15. When futures prices for short maturities in the crude oil market are more expensive than those maturing later, the marketis __________.


Correct answer: a

Reference: Geman: Chapter 2, p. 11

Reason: a is correct. Crude oil forward curves have traditionally been in one of these two shapes: backwardation, whenthe futures prices for short maturities are more expensive than those maturing later, or contango, which is the oppositesituation.

16. Rank the following countries from highest to lowest according to the percentage of electricity produced by nuclear power:

a. France, Japan, USA, Russia b. Japan, USA, France, Russiac. USA, Japan, Russia, Franced. USA, Russia, France, Japan

Correct answer: a

Reference: Nersesian; Chapter 8, p. 284-285

Reason: a is correct. Europe has the highest percentage of electricity produced by nuclear power, followed by NorthAmerica, FSU (Russia and Ukraine), and Asia. Countries with the highest percentage of electricity generated by nuclearpower are France (78 percent), Japan (26 percent), and the United States (20 percent). Russia’s nuclear generationamounts to about 17% of its electricity needs.



17. Regulatory constraints on greenhouse gas (GHG) emissions would affect the economic operation of a coal-to-liquids plantbecause:

a. GHG emissions associated with CTL production are high and need to be mitigated within the confines of whateverGHG regime is operative.

b. The technical risks associated with carbon dioxide capture are high. c. Carbon dioxide capture is uneconomic. d. There is no economic use for the captured carbon dioxide.

Correct answer: a

Reference: Bartis, et al: Chapter 3, p. 32-37

Reason: a is correct. The high greenhouse-gas emissions associated with CTL production will likely preclude the develop-ment of a large CTL industry in the United States unless plant-site carbon dioxide emissions are managed.

18. _____ risk in the crude oil market can be mitigated with _____.

a. Operational / futures contracts b. Counter-party / irrevocable letters of creditc. Regulatory / collateralization d. Basis / forward contracts

Correct answer: b

Reference: James: 16, p. 324

Reason: In the energy-derivatives industry most counterparties who require collateral will request irrevocable standbyletters of credit (this form of collateral having already been listed in the credit-support annex to their ISDA master agreement or other master agreement form). Unfortunately, this is not very efficient and such letters can also be expen-sive, and difficult to modify and distribute. The wording and procedures of letters of credit (LCs) were built to cover specific trade-finance exposures that do not change (for example, if a cargo of crude oil is purchased at a cost of USD15 million, the payment can be covered by an LC). This type of document, though, is not very well suited to covering deriva-tives exposures that change daily, and amending letters of credit is time-consuming. Some banks have created specific LCs with flexible wording in an attempt to give cover on the daily variable exposures of unrealized/realized losses on OTC swap positions. However, some of these have paid out up to 10 times the amount for which they were originally issued. There are also some legal issues over whether this type of LC could really be tested in a court of law in forcing a bank to pay out more than the stated face value. Commercially, though, the bank may wish to try to accommodate the counter-party when it tries to draw more than the face value in order to avoid loss of face and loss of future business.



19. Which of the following are true?

I. Extracting oil sands on a large scale has significant environmental impacts.II. Mining and in-situ operations in oil sands use a significant amount of water.III. Large tailing ponds are created in mining oil sands and their management is one of the main challenges for the

industry.IV. Tailing ponds contain hazardous contaminants and are a source of methane emissions.

a. I and II b. II and III c. I, II, and IIId. All are correct

Correct answer: d

Reference: Toman: Chapter 4, p. 19-20

Reason: d is correct. All statements are factual.

20. Given the Commission’s authority under The Energy Policy Act of 2005 (EPAct), which of the following mechanisms andpowers CANNOT be exercised by the Commission?

a. Identifying violationsb. Using criminal penalty authorityc. Tightening efficiency requirementsd. Overseeing mandatory reliability standards governing the nation’s electricity grid

Correct answer: b

Reference: FERC and EPAct 2005; Overview, p. 4-6

Reason: EPAct gives the Commission civil penalty authority, which the Commission has indicated it will exercise carefullyby assuring that its market manipulation rules are clear. That will make it easier for regulated entities to assure compli-ance, and make it easier for the Commission to identify violations.

For the first time, the Commission was granted authority to oversee mandatory reliability standards governing the nation’selectricity grid.

Pursuant to directives in EPAct, the Commission tightened the thermal efficiency requirements for qualifying cogenerationfacilities under PURPA.



21. A generating plant has a nameplate rating of 650 megawatts and is expected to be offline for 720 hours for a scheduledoutage during the year. A typical year is comprised of 8,760 hours. Actual generation during the year was 4,270,500megawatt hours. What is the plant’s load factor?

a. 81.7%b. 75.0%c. 72.76%d. 76.0%

Correct answer: b


Reason: Answer a is incorrect because scheduled outages are not reflect in denominator.

4,270,500 MWH——————————— = 81.7%650 MW x (8,760 hr – 720 hr)

Answer b is correct.

4,270,500 MWH——————–— =81.7%650 MW x 8,760 hr

Answer c is incorrect because scheduled outages are not reflected in the numerator:

4,270,500 MWH – 650 MW x 720 hr—————————————— =81.7%

650 MW x (8,760 hr – 720 hr)



22. The “P90” of an oil field is 50 Mbbl. What does this classification indicate?

a. There is a 90% probability the oil field will actually produce more than 50 Mbbl of oil.b. There is a 90% probability the oil field contains 50 Mbbl of oil.c. The oil field is 90% depleted.d. The oil field is determined to contain of 90% petroleum and 10% other material (e.g. natural gas).

Correct answer: a

Reference: Institut Francais; Chapter 3, p. 91

Reason: In 1997 the Society of Petroleum Engineers (SPE) and the World Petroleum Council formulated and adoptedstandards of reserve definitions. Px means there is an x% likelihood that the oil field will actually produce the statedamount of oil. For example, if the P10 of a field is 100 Mbbl, there is a 10% probability that the actual size of the fieldexceeds 100 Mbbl. Thus, in this case, P90 indicates a 90% probability the oil field will actually produce more than 50Mbbl of oil. Other relevant classifications include P95, P50, P10 and P5.

23. Which of the following statements about the Sarbanes-Oxley Act of 2002 (SOX) are FALSE?

I. SOX specifically states that the destruction, alteration or falsification of records in federal investigations and bankruptcy proceedings is a criminal act.

II. SOX establishes accounting and reporting standards for derivative instruments, including certain derivative instruments embedded in other contracts, and for hedging activities.

III. SOX stipulates that each annual and quarterly financial report filed with the SOX Commission must disclose off-balance sheet transactions.

IV. Principal executives and officers must certify each annual or quarterly report submitted to the SOX Commission.

a. All are trueb. I and IIIc. II only d. II and IV

Correct answer: c

Reference: Sarbanes-Oxley Act; FASB 133



Reason: Statement I is true, as noted in Section 802, “Criminal Penalties for Altering Documents,” Section 1519:Destruction, alteration, or falsification of records in Federal investigations or bankruptcy. Statement II is false. This processis actually covered by the Financial Accounting Standards Board, Statement 133. Sarbanes-Oxley Act plays no role inestablishing accounting mechanisms for derivative or hedging instruments. Statement III is true, as covered in Section401, “Disclosures in Periodic Reports.” (…each annual and quarterly financial report required to be filed with theCommission shall disclose all material off-balance sheet transactions, arrangements, obligations…). Statement IV is true,as noted in Section 302, “Corporate responsibility for Financial Reports.” (…that the principal executive officer or officersand the principal financial officer or officers, or persons performing similar functions, certify in each annual or quarterlyreport filed or submitted under either such section…). Thus, answer 3 is correct.

24. A portfolio manager has both energy futures and energy forwards in her portfolio. Which can she typically sell WITHOUTthe permission of the holder of the opposite side of the transaction (the counterparty)?

a. Futures b. Forwards c. Either d. Neither

Correct answer: a

Reference: Dahl: Chapter 15, p. 373

Reason: a is correct. A futures contract is purchased through an organized exchange with a standardized contract thatcan be resold on the exchange. A forward contract is not purchased on an exchange and cannot typically be resold with-out the agreement of both parties.



25. On June 20, Caufield Refining knows it will need to purchase 40,000 barrels of crude in October. On NYMEX, oil futurescontracts are traded for delivery every month. Thus, Caufield decides to hedge using a November contract. The Novemberfutures price on June 20 is USD 67.00/bbl. On October 12, Caufield is ready to purchase their needed crude and closes outits futures contract on that day; at this time the spot price is USD 70.10/bbl and the futures price is USD 68.50/bbl. In thisscenario, what is the effective price paid per barrel?

a. USD 68.50 b. USD 68.60 c. USD 70.10 d. USD 70.40

Correct answer: b

Reference: James: Chapter 13, p. 263

Reason: The effective price paid (in dollars per barrel) is the final spot price less the gain on the futures, or 70.10 – 1.50 = 68.60. This can also be calculated as the initial futures price plus the final basis, 67.00 + 1.60 = 68.60.

26. Qatari LNG Inc. wishes to construct a new mega-train LNG plant. While the mega-train facility will provide an economy ofscale (7.8 MMt/y), vast amounts of investment capital will be at risk. Which strategy might be best for Qatari LNG Inc. topursue to minimize this risk?

a. Seek multiple buyers willing to sign for multiple, small LNG contractsb. Consider dividing the project into two smaller LNG trains c. Power the mega-train plant with steam turbines, since they are cheaper than gas turbinesd. Solicit project sponsors who can also purchase entire train production

Correct answer: d

Reference: Tusiani and Shearer: Chapter 5, p.128-131

Reason: d is correct. While mega-trains are demonstrably technically feasible, establishing their commercial viability is a far more complex issue. Although mega-train projects do provide economies of scale, they require a larger reserve base than typical projects and place more capital at risk. Finding sales outlets for mega-trains also constitutes a greater challenge than for traditional projects, as volumes are substantially greater. Only a few buyers may be willing to makelarge purchase commitments from single trains, as LNG buyers typically seek multiple smaller LNG contracts to diversifytheir supply sources and match the requirements of newly liberalizing and competitive LNG markets. Thus, the trend withthe Qatari mega-trains has been to have the sponsors emerge as the buyers for the entire train production and assumethe risk of placing the LNG in the market. Option c is not correct because gas turbines are generally cheaper than steamturbines, which typically require boilers, boiler feed water makeup facilities, and steam condensers.



27. In energy markets, an example of basis risk is:

a. Natural gas prices spiking at peak demand for a power generation plant.b. Failure to comply with FERC financial reporting regulations.c. A megawatt of electricity costs USD 75 in Pennsylvania, but costs USD 82.50 in New York. d. The inability of a power generation plant to meet demand in a given market.

Correct Answer: c


Reason: c is correct. Decentralization introduces geographic “basis risk,” which is unique to energies. In financial markets,today’s dollar is worth a dollar anywhere in the country. In energy markets, price depends on location. A megawatt of electricity is priced according to delivery point; the same holds true for natural gas. Location is a fundamental driver of price.Pilipovic defines “basis risk” as the difference in prices between identical products but in two different markets.

28. Because of high pressure in the subsurface reservoir, a considerable volume of natural gas occurs dissolved in crude oil.This is called:

a. Non-associated gas b. Crude oil gas c. Associated gas d. Free gas

Correct answer: c

Reference: Hyne: Chapter 1, p 11

Reason: c is correct. Because of high pressure in the subsurface reservoir, a considerable volume of natural gas occurs dissolved in crude oil. The formation, dissolved or solution gas/oil ratio is the cubic feet of natural gas dissolved in onebarrel of oil in that reservoir under subsurface conditions. The volume measurements are reported under surface condi-tions. In general, as the pressure of the reservoir increases with depth, the amount of natural gas that can be dissolved in crude oil increases. When crude oil is lifted up a well to the surface, the pressure is relieved, and the natural gas, calledsolution gas, bubbles out of the oil. The producing gas-oil ratio (GOR) of a well is the number of cubic feet of gas the wellproduces per barrel of oil. Non-associated natural gas is gas that is not in contact with oil in the subsurface. A non-associ-ated gas well produces almost pure methane. Associated natural gas occurs in contact with crude oil in the subsurface. Itoccurs both as gas in the free gas cap above the oil and gas dissolved in the crude oil.



29. An estimate of the purchase cost of a process unit at time t2, C(t2), is obtained by multiplying the original (quoted) costat time t1, C(t1), by a ratio of cost indices:

In 2005, a 150,000 BPD distillation column could be purchased for USD 100 million. Using the Nelson-Farrar refinery con-struction cost indexes per year (below), what is the estimated cost for this unit in 2008?

2005 (1,919)2006 (2,008)2007 (2,107)2008 (2,251)

a. USD 100 millionb. USD 110 millionc. USD 117 milliond. USD 225 million

Correct answer: c

Reference: Gary, et al: Chapter 1, p. 27

Reason: c is correct. The ratio of the 2008 to 2005 construction cost indices yields 2,251/1,919 = 1.17, and when multiplied by the USD 100 million capital cost of the unit in 2005, yields USD 117 million expected cost in 2008, thus, answer c is correct.

30. When futures prices for short maturities in the crude oil market are less expensive than those maturing later, the market is_____________.


Correct answer: b

Reference: Geman: Chapter 2, p. 11

Reason: b is correct. Crude oil forward curves have traditionally been in one of these two shapes: backwardation, whenthe futures prices for short maturities are more expensive than those maturing later, or contango, which is the oppositesituation.



31. What is the leading cause of dam failures?

a. Too much rainb. Poor geologic choicec. Poor constructiond. Inadequate inspection regimes

Correct answer: a

Reference: Nersesian: Chapter 8, p. 291

Reason: a is correct. The other choices are contributing causes for dam failure, but the initial step is most often drench-ing rains.

32. The size and complexity of a Fischer-Tropsch plant brings additional risks because:

a. The startup of a first-of-kind facility is inherently problematic. b. The availability of skilled manpower is limited. c. Poor management is systemic. d. The political climate of the country in which the plant will be built is unfavorable.

Correct answer: a

Reference: Bartis, et al: Chapter 3, p. 41

Reason: a is correct. The sheer size and complexity of an FT CTL plant brings additional risks. The unanticipated difficultiesexperienced by Sasol in starting up its FT GTL Oryx plant in Qatar are a case in point. A problem with the FT section of theplant seriously constrained initial operational capacity. Post-construction modifications required to correct this problemcaused the plant start-up period, which normally requires a few months, to extend to at least 18 months during which “theOryx joint venture only generated a marginal cash contribution.” As Sasol reported, “our experience is that starting up technically complex and first-of-kind facilities takes time and is inherently problematic.”



33. Taking into account a snapshot from the table below, one can calculate that the probability of a B3 rated bond defaultingin the fifth year is _____, surviving until the end of year four is _____.

Default probability in %

Moody’s YearRating 1 2 3 4 5

B1 4.680 8.3800 11.5800 13.8500 16.1200B2 7.1600 11.6700 15.5500 18.1300 20.7100B3 11.6200 16.6100 21.0300 24.0400 27.0500Caa1 17.3816 23.2341 28.6386 32.4788 36.3137

a. 2.58%; 84.45%b. 84.45%; 2.58%c. 3.01%; 75.96%d. 75.96%; 3.01%

Correct answer: c

Reference: Burger: Chapter 6, p. 269-270

Reason: c is correct. The unconditional default probability of a B3 rated bond year in year five is calculated as 27.05%–24.04% = 3.01%. The probability the bond will survive to end of year four is calculated as 100% –24.04% = 75.96%.



34. In order to better understand the operating complexities of oil pipelines, pipeline engineers need to consider which of thefollowing issues?

a. Oil is transported “as is” from the wellhead all the way to the consumers.b. Oil products pipelines carry multiple products.c. Oil undergoes only minor processing at oil plants before it is suitable for consumption by its various customers.d. In most cases in the Unites States, the oil transmission lines never actually own the oil.

Correct answer: b

Reference: Miesner and Leffler; Chapter 1, p. 6-7

Reason: b is correct. Crude oil pipelines sell transportation to shippers, which could be refiners, crude oil producers andtraders, or other intermediaries. In most cases in the United States, the natural gas transmission lines never actually ownthe natural gas. They simply transport natural gas for a fee, just like railroads transport other commodities without owningthem. So natural gas is transported “as is” from the wellhead all the way to consumers, with the exception of some minorprocessing at gas plants. In contrast, oil goes through major transformation at refineries before it is suitable for consump-tions by its various customers. Because of that, oil products pipelines carry multiple products.

35. Jane, Energy Risk Professional, attempts to receive an exemption from the position limits from the IntercontinentalExchange (Europe). Which of the following positions may be granted an exemption by the Exchange?

l. Arbitrage positionsII. Inter-commodity spread positionsIII. Eligible option/option or option/futures spread positions

a. I onlyb. I and IIIc. II and IIId. All of the above

Correct answer: d

Reference: Intercontinental Exchange Regulations (2009), p. 5

Reason: Arbitrage and Spread Positions: The Exchange may grant exemptions from the position limits for arbitrage, intra-commodity spread, inter-commodity spread, and eligible option/option or option/futures spread positions.



36. Which characteristic from the following list is NOT associated with zonal transmission?

a. Zones are groupings of nodes.b. Zones are drawn using an electrical rather than geographical map.c. All producers and consumers are treated equally within a zone.d. Zones handle issues such as constraints and redundancy effectively.

Correct answer: d


Reason: Zonal transmission does not handle more local issues such as constraints and redundancy very well.

37. To determine the NPV of a future stream of cash flows, it is useful to know which of the following:

a. Tenor of flowsb. Notional of flowsc. Discount rated. All of the above

Correct answer: d

Reference: Institut Francais, Ch. 6, p. 219-20

Reason: The net present value (NPV) is the algebraic sum of the present values of all cash flows associated with the project(specifically, cash flows in nominal terms, discount rate in nominal terms, and number of periods). The net present value is anabsolutely fundamental concept in economic evaluation. It is a measure of the value created by an investment and is equalto the maximum sum which can be borrowed in year 0 (by the project department from the finance department), in additionto the capital cost of the investment, such that the revenues generated by the project will repay the total of these amountsand give a return equal to the discount rate. The NPV criterion: a given project which is independent of any other project willbe realized if the NPV is positive. In choosing between a number of mutually exclusive projects, the project with the highest NPV will be chosen.



38. The effective compliance and ethics program under the 2004 Sentencing Guidelines demands organizations take reason-able steps to ensure its compliance and ethics program is followed, including which of the following?

a. Publicly identifying company personnel caught engaging in illegal activities.b. Conducting effective training programs and periodic evaluations of the program’s effectiveness.c. Publishing its compliance program for public viewing and announcing amendments via press releases and other

public formats.d. Discouraging anonymous reporting of wrongdoings of personnel internally.

Correct answer: b

Reference: U.S. Federal Sentencing Guidelines, Chapter 8—Part B: Remedying Harm from Criminal Conduct, andEffective Compliance and Ethics Program. http://www.ussc.gov/2004guid/8b2_1.htm.

Reason: b is correct. According to the guidelines, the organization shall take reasonable steps to communicate periodicallyand in a practical manner its standards and procedures, and other aspects of the compliance and ethics program, to the indi-viduals referred to in subdivision (b) by conducting effective training programs and otherwise disseminating informationappropriate to such individuals’ respective roles and responsibilities. Moreover, the organization shall take reasonable steps:(a) to ensure that the organization’s compliance and ethics program is followed, including monitoring and auditing to detectcriminal conduct; (b) to evaluate periodically the effectiveness of the organization’s compliance and ethics program; and (c)to have and publicize a system, which may include mechanisms that allow for anonymity or confidentiality, whereby theorganization’s employees and agents may report or seek guidance regarding potential or actual criminal conduct withoutfear of retaliation. Answer a is incorrect because it is not a recommended action. Answer c is incorrect because they are notrecommended actions. Answer d is incorrect. Indeed, the Guidelines require than a system of anonymous reporting must beput in place.

39. What is an attribute of energy forward contracts?

a. They are not traded on any organized exchanges b. The contracts are standardizedc. They are bilateral d. They are processed through clearinghouses

Correct answer: c


Reason: c is correct. Energy forward contracts are traded on ICE, they are typically not standardized, and are notprocessed through clearinghouses. They are bilateral.



40. In regards to hedging portfolios, which of the following statements is true?

I. Delta is the ratio of the change in price of an option to a change in the underlying.II. Forward contracts have non-zero gamma.III. You cannot make a portfolio that is delta, gamma, and vega neutral.IV. Vega is the ratio of change in price of an option to a change in the underlying’s volatility.

a. I and IIb. II and IIIc. III and IVd. I and IV

Correct Answer: d

Reference: Clewlow and Strickland: Chapter 9, p. 164, 171, 173

Reason: Statement I is true: Delta measures the sensitivity of the option price to changes in the underlying. Statement IIis false, hence incorrect: In order to neutralize the gamma of a portfolio we must use another option since gamma of aforward or futures contract is zero. Statement III is false, hence incorrect: In many cases a trader may want to neutralizedelta, gamma and vega. This requires trading in two different positions, say ‘hedge 1’ and ‘hedge 2’. Since options haveboth gamma and vega, we must neutralize both gamma and vega simultaneously by solving two equations. With thesesolutions for the positions in the hedging options the residual delta can be calculated to obtain the position required inthe underlying energy asset. Statement IV is true: the sensitivity of an option or portfolio to changes in volatility is calledvega. Thus answer d, I and IV, is correct.



41. LNG plants operate using parallel trains because:

a. It is cheaper to build several small plants rather than a single large one. b. Large compressors are more expensive than small compressors to operate. c. Parallel trains enable the plant to continue operating when one of the trains is shut down for maintenance or repair. d. Multiple trains allow liquefaction plants to be constructed in multiple places along the shore.

Correct answer: c

Reference: Tusiani and Shearer: Chapter 3, p. 71

Reason: a is incorrect. Indeed, the largest single investment in the LNG is the construction of the LNG plant. b is incor-rect. c is correct. Plants are usually set up as a number of parallel processing units, called trains, each of which treats thegas and then liquefies it. The maximum capacity of each train is determined by the size of the equipment, such as heatexchangers and gas or steam turbines, which drive the compressors essential for the liquefaction process. Historically, par-allel trains were developed to enable the plant to continue operating when one of the trains was shut down for mainte-nance or repair. d is incorrect. Parallel trains are constructed at a single plant and are not spread up and along a coastline.

42. Northern Oil Company expected its customers to use 1000 gallons of heating oil this winter, but it temperatures havebeen significantly colder this year, increasing demand for oil. Northern Oil expects it will need 5-10% more oil to covercustomer demand. One way this company could have protected against the possibility of needing more oil would havebeen by:

a. Selling put optionsb. Purchasing put optionsc. Selling call optionsd. Purchasing physical call options

Correct Answer: d

Reference: Beutel: Chapter 3, p. 29

Reason: d is correct. One way to protect against the possibility of needing greater supply is through buying call options.If temperatures are normal, they can be allowed to expire unused. If one needs 5-10% more, they can provide a cushion.This applies to any end-user or reseller planning ahead.

The same is true for warm winters, when the risk is on the downside, through the use of put options. If one does not needthe additional material, puts can protect against a weakening market with excess gallons looking for a home. Since in thisscenario the winter was colder, not warmer, put options are incorrect.



43. Natural gas can be stored in various facilities, including:

I. Depleted oil and gas reservoirsII. Fresh water aquifersIII. Underground salt cavernIV. Above-ground steel tanks

a. I and II b. II and IIIc. I, III, and IV d. All are correct

Correct answer: d

Reference: Kidnay and Parrish: Chapter 12, p. 255-257

Reason: d is correct. All of the above named types of storage facilities exist in the U.S. and are available throughoutmost of the world.

44. Which of the following processes begins the refining of crude oil into separate fractions or cuts?

a. Distillationb. Treatmentc. Blendingd. Conversion

Correct answer: a

Reference: Gary et al, Chapter 1, p. 2

Reason: a is correct. Refining begins with distillation by boiling crude into separate fractions or cuts.



45. To calculate the historical volatility for use in a Geometric Brownian Motion (GBM) process you need to do which of thefollowing?

I. Determine the commodity’s long run mean priceII. Calculate the standard deviation of the prices about the long term meanIII. Calculate the standard deviation of the logarithmic price returnsIV. Annualize the standard deviation by the appropriate factor

a. I and IIb. I, II, and IVc. III and IVd. III only

Correct Answer: c

Reference: Clewlow and Strickland: Chapter 3.2.1, p. 40

Reason: For historical volatility that will be used in a GBM process, you need to calculate the standard deviation of thelogarithmic price returns and then to scale it by the appropriate factor to annualize the volatility.

46. The largest risk faced by geothermal power is:

a. Loss of reservoir water causing steam generation to diminish.b. Inducing earthquakes.c. Underground energy sources expropriated by a government.d. Starting a volcanic eruption through the geothermal drill hole.

Correct answer: b

Reference: Nersesian: Chapter 9, p. 306

Reason: b is correct. Geothermal drilling activity ceased in Switzerland, for example, when a geothermal drilling programwas blamed for low-level earthquake activity. This risk can be fatal. Loss of reservoir water can be overcome by pumpingdown water, and nationalization is always a risk, but geothermal projects don’t seem to rank high on a governmenttakeover list. Geothermal wells are 10-30 miles away from penetrating the earth’s crust.



47. Carbon dioxide sequestration is a necessary aspect of a coal-to-liquids plant, but it is risky in the U.S. because:

a. Carbon dioxide is a poisonous gas. b. Large-scale carbon sequestration has not yet been demonstrated in the United States. c. Sequestration sites have not been identified. d. Local regulation and permitting activities in place effectively prevent investment in CTL plants.

Correct answer: b

Reference: Bartis, et al: Chapter 6, p. 74

Reason: b is correct. Large-scale carbon sequestration has not yet been demonstrated in the United States. U.S.Department of Energy plans for demonstrating large-scale carbon-sequestration center on the Regional CarbonSequestration Partnerships. Managed by the National Energy Technology Laboratory, this partnership program may resultin the start-up of eight or more moderate- to large-scale demonstrations over the next five years. These demonstrationsare intended to provide information required for selecting sequestration sites (including associated federal, state, andlocal regulation and permitting activities), assessing permanence of storage, designing injection and monitoring systems,determining overall economics, and reducing public uncertainties regarding risks. Once the viability of carbon sequestra-tion is established, CTL production and use should be possible with net greenhouse-gas emissions that are commensuratewith or slightly below those of conventional-petroleum products.

48. Which of the following is true of a countertrade?

a. The conclusion of a countertrade with the same counterparty increases the settlement risk of sold forward contractsand reduces the actual replacement risk.

b. The conclusion of a countertrade with the same counterparty reduces the settlement risk of sold forward contractsand reduces the actual replacement risk.

c. The conclusion of a countertrade with the same counterparty increases the settlement risk of sold forward contractsand locks the actual replacement risk.

d. The conclusion of a countertrade with the same counterparty reduces the settlement risk of sold forward contractsand locks the actual replacement risk.

Correct answer: d

Reference: Burger: Chapter 6, p. 268

Reason: Countertrade: If there is a netting agreement, the conclusion of a countertrade with the same counterpartyreduces the settlement risk of sold forward contracts and locks the actual replacement risk. Since the countertrade is concluded at the actual market price and the replacement risk cannot be reduced.



49. A team of prospective investors needs to decide whether or not to build a pipeline. Which process flow should the preliminarydecision process follow?

a. Select origins and destinations → estimate construction costs → estimate volumes → calculate economics → estimate rates

b. Estimate construction costs → estimate rates → estimate volumes → calculate economics → select origins and destinations

c. Select origins and destinations → estimate volumes → estimate construction costs → estimate rates → calculate economics

d. Estimate rates → estimate construction costs → estimate volumes → select origins and destinations → calculate economics.

Correct answer: c

Reference: Miesner and Leffler; Chapter 10, p. 216

Reason: c is correct. The decision to build or expand is made in an iterative process involving demand, supply, cost, andrevenue forecasts, tempered with public opinion and public policy considerations.

Following is a flow chart showing some of the factors considered to arrive at a preliminary decision concerning whetheror not to build a line: Select origins and destinations → estimate volumes → estimate construction costs → estimaterates → estimate operating costs → calculate economics → preliminary decision

50. According to the FERC Standards of Conduct for Transmission Providers, the Commission simplified the Standards in orderto achieve all of the following goals EXCEPT:

a. Greater clarityb. Efficiencies of operationc. Ease of complianced. Enforcement of the concept of energy affiliate

Correct answer: d

Reference: FERC Standards of Conduct for Transmission Providers, p. 8-9

Reason: The vast majority agreed with the Commission’s goals of simplifying the Standards in order to achieve greaterclarity, efficiencies of operation, and ease of compliance. The Commission therefore adopts the employee functionalapproach, as set forth in the regulatory text, and eliminates the concept of energy affiliates.




Energy RiskProfessional (ERP)Examination2010 Practice Exam II


2010 ERP PRACTICE EXAM II: CANDIDATE ANSWER SHEET

a. b. c. d.

1. � � � �2. � � � �3. � � � �4. � � � �5. � � � �6. � � � �7. � � � �8. � � � �9. � � � �10. � � � �11. � � � �12. � � � �13. � � � �14. � � � �15. � � � �16. � � � �17. � � � �18. � � � �19. � � � �20. � � � �21. � � � �22. � � � �23. � � � �24. � � � �25. � � � �26. � � � �27. � � � �

a. b. c. d.

28. � � � �29. � � � �30. � � � �31. � � � �32. � � � �33. � � � �34. � � � �35. � � � �36. � � � �37. � � � �38. � � � �39. � � � �40. � � � �41. � � � �42. � � � �43. � � � �44. � � � �45. � � � �46. � � � �47. � � � �48. � � � �49. � � � �50. � � � �



1. � � � ��

1. Cogeneration refers to:

a. The generation of electricity using two forms of fossil fuel. For example, coal and natural gas being used, dependingon market price advantages for each form of fuel.

b. The generation of electricity using a combination of two distinct types of generating units, with output being combined.c. A generating unit where the process generates both electricity and heat.d. Refers to a generating unit where there is more than one owner, resulting in electric output being shared.

2. Once it has been determined that a formation contains hydrocarbons, the total quantities of hydrocarbons physically present and any associated reserves are evaluated. This is done by evaluating the ratio of recoverable hydrocarbons to the total quantity of hydrocarbons in the reservoir. The size distribution of a particular field is generally reasonably wellrepresented by a lognormal distribution, but this is subject to error because:

a. These figures are rarely published. b. The lognormal distribution does not represent small fields well, and in some cases completely misrepresents them. c. The numbers are, at best, inspired guesses. d. There is no sure way of representing reserve numbers.

3. According to Section 302 (Corporate Responsibility for Financial Reports) of the Sarbanes-Oxley Act, which of the follow-ing is TRUE?

a. Significant changes in internal controls in gathering and reporting financial information does not have to be disclosed.b. Off-balance sheet transactions must be reported.c. Disclosure of the fair values of derivative instruments and their gains and losses must be presented in easy to read

formats.d. Signing officers must disclose to auditors deficiencies in the design or operation of reporting financial data.

4. As of 2009, the most sophisticated and liquid environmental market for emissions-trading is:

a. Carbon monoxideb. Carbon dioxidec. Nitrogen oxided. Sulfur dioxide





5. A call has premium of USD 5 and a strike price of USD 28. If the price of the underlying is USD 31, what is the time value of the call?

a. USD 5b. USD 3c. USD 2d. USD 0

6. Typically, royalties on an LNG project involve:

a. Payment made on a percentage of the sales revenues. b. Payment based on a percentage of the profits. c. Payment based on profits minus local tax payments. d. Payment based on varying unit costs.

7. Virgin Oil is a crude oil producer willing to hedge 100% of its future production along the next calendar year. In order toachieve this objective, it sells a swap on Brent crude for 1 million barrels at USD 60/bbl. Later the company discovers that the real production will be 20% lower than estimated. Bank “A” offers to buy from Virgin Oil swaps Brent crude for 200,000 barrels, at a price of USD 50/bbl. Bank “B” offers to buy from Virgin Oil swaps Brent crude for 500,000 barrels at a price of USD 53/bbl. Put in order the following four different options, from the least to the most riskiest:

I. Doing nothing.II. Accept the offer from bank “A.”III. Accept the offer from bank “B.”IV. Unwind everything.

a. II, III, IV, Ib. II, I, III, IVc. III, IV, II, Id. I, III, II, IV

8. The English unit of volume measurement for natural gas is a cubic foot (ft3). Because gas expands and contracts withpressure and temperature changes, the measurement is made under or is converted to standard conditions which is:

a. The way it has been done since natural gas was first used as a commodity. b. The correct way to do it. c. Defined by law. d. Defined by the industry.

9. Which of the following statements describes the conversion stage of a refinery process?

a. Changes the size or structure of hydrocarbon molecules by decomposition, unification, and reforming.b. Both prepare hydrocarbon streams for additional processing and finished products using chemical or physical

separation.c. Used for mixing and combining hydrocarbon fractions, additives, and other components to produce finished products

with specific performance properties.d. Applied to separate crude oil in atmospheric and vacuum distillation columns into groups of hydrocarbon compound

based on molecular size and boiling-point ranges.

10. A natural gas call option with a strike at USD 6.00 on an August contract is trading at a Black-implied volatility of 45%.Another call option with the same contract specifications, except for a different strike of USD 6.50, is trading at a Black-implied volatility of 50%, exhibiting a volatility “smile.” The following conclusions can be made given the above marketinformation:

a. The volatility smile tells us that the market is feeling good about the economy and prices are expected to go higher.b. The different volatilities implied by the premia of the two call options tell us that the log-normal Black model cannot

capture the true underlying price behavior with a single volatility measure. c. A call option with the same contract specifications as the two options in the problem but with a strike of USD 7.00

must therefore be trading at a Black-implied volatility of 55%. d. The two options should have exactly the same volatility, and therefore this is a case of market arbitrage: the

USD 6.00 option is under-priced relative to the USD 6.50 option.

11. From an investment risk viewpoint, alternative energy companies are:

a. A sure-thing considering the potential market demandb. Risky because of uncertainty about which firms will even survivec. Risky because of the difficulty of forecasting profitsd. A sure-thing because of government backing of alternative energy sources

12. Time series analysis is necessary for _____, while distribution analysis is important in _____.

a. constant drift-term calibration / average volatility calculationb. option modeling / spot price modelingc. comparing long-term price behavior to model-implied behavior / calibrating model parametersd. calibrating model parameters / comparing long-term price behavior to model-implied behavior



13. Which of the following statements regarding “implied” volatility is NOT true?

a. Implied volatility is normally determined by using an option pricing model and solving for the volatility factor resultsin the same premium calculation that is quoted in the market (solving an option pricing model in reverse).

b. Implied volatility is very similar to historical volatility, as long as, the natural logs of spot prices are used c. Implied volatility is the average volatility to expiryd. Implied volatility has a distinct term structure meaning that implied volatility may be different depending on the time

to expiry

14. Capital costs for a coal-to-liquids plant involve:

a. All outlays made after the decision to construct a commercial plant and prior to the production of salable products. b. All outlays made after the decision to construct a commercial plant and which include the production of

salable products. c. All outlays made before the decision to construct a commercial plant and prior to the production of salable products. d. All outlays made before the decision to construct a commercial plant and including factors to account for either infla-

tion or interest accrued during construction.

15. Consider the purchase and sales price of a pipeline. In order to establish the seller’s lowest acceptable price and the pur-chaser’s maximum purchase price based on NPV analysis, which valuation approach should be applied?

a. Comparable salesb. Economic valuec. Reconstruction cost new (RCN)d. Book value

16. Which of the following statements regarding public utility commissions (PUCs) is NOT true?

a. All states have PUCs to govern actions of state regulated utilities.b. PUCs are considered quasi-judicial and quasi-legislative entities.c. PUCs hold hearings to fix rates that may be charged by utilities, but may not investigate service related issues.d. PUCs hold hearings to fix rates that may be charged by utilities.





17. Around 1960, King Hubbert, then an engineer at Shell, forecast, by fitting a normal curve to the production profile of 48American states, that production would reach its peak in 1969. Production would then decline in a manner symmetrical tothe growth phase. The fact that his theory was vindicated for one particular example does not mean, however, that hismodel has been validated generally because:

a. Conventional crude oil and heavy oil are different. b. Probability estimates are not accurate. c. The method does not account for off shore reserves. d. There is no reason to believe that all production profiles will display this pattern.

18. Company ABC has made significant changes in their operations that have resulted in substantial negative consequencesto their financial condition. Because the company is worried about, among other things, reputational risk, executives havedelayed time and again disclosure of this information to the public. Which rule is being violated here?

a. FASB 161b. Sarbanes-Oxley, Section 409c. FERC Federal Order, 670d. None. The company is acting legally for its own interests

19. Assume you hold a short put position with a strike price of EUR 40 and a long call position with a strike price of EUR 40.At expiration, the spot price of the asset is EUR 50. The value of your combined positions is:

a. EUR 20b. EUR 10c. EUR 0d. Negative EUR 10

20. NG is an attractive alternative energy resource because:

I. Access to large, untapped natural gas reserves ensures LNG can be monetized quickly. II. Natural gas use continues to rise worldwide. III. Remaining reserves of oil are concentrated in increasingly fewer countries.IV. LNG ships can move material year round and are easier to maintain than pipelines.

a. I and IIb. I, III and IVc. II and IIId. I and IV

21. For good risk management practices, which of the following information must be kept track of on a regular basis?

I. Transaction recordsII. Position reportsIII. Margins and equityIV. Counterparty documentation

a. I and IIIb. II and IIIc. I, II, and IIId. All of the above

22. Facilities at gas plants remove acid gases (carbon dioxide and hydrogen sulfide) and natural gas liquids because carbondioxide and hydrogen sulfide:

a. Reduce the sales value b. Cause corrosion in the pipeline and the consumer’s facilities c. Increase the risk of fire and explosion d. Cause the gas to be odiferous

23. In order to construct a robust economic model of a refinery, which of the following factors should be incorporated intothe model as performance function variables?

l. Acquisition price of crude oilII. Operating costIII. Final product pricesIV. Strategic decisions

a. I, II and IVb. I and IIIc. II, III and IVd. All of the above





24. Daily and monthly-settled options in power markets are often seen trading at very different Black-implied volatilities forexact same month of delivery. These differences in Black-implied volatilities between daily and monthly settled options forthe same month of delivery are due to:

a. Averaging effects where daily forward prices exhibit perfect correlations with each other, and the fact that daily set-tled options ride down the decreasing volatility curve all the way to the day of delivery.

b. Monthly settled options expire prior to the first day of delivery in the month, whereas daily settled options expirethroughout the month, with volatility difference simply reflecting this difference in time to expiration.

c. Averaging effects where daily forward prices show non-perfect correlations with each other, and the fact that dailysettled options ride up the volatility curve all the way to the day of delivery, whereas monthly settled options expireprior to realizing the full volatility potential for all the days of delivery in the month.

4. The two options should have exactly the same volatility, and therefore this is a case of market arbitrage.

25. In terms of satisfying energy demand, alternative energy will remain marginal for a while because:

a. Of opposition from the fossil fuel business, particularly the coal lobby.b. Of opposition from environmental groups, such as those protesting bird kills from wind turbines.c. Industry’s capacity limitations to build wind turbines and photovoltaic solar cells.d. Conventional energy sources are huge in magnitude.

26. What is the key weakness of the comparable sales method often used to establish the market value of a pipeline?

a. The buyers and sellers make different assumptions about the asset.b. The transaction involves time-consuming processes to decide what cash flow to use and which discount factor or

multiples to apply.c. The method requires too many adjustments—age, supply/demand outlook, and throughput—to arrive at an

appropriate value.d. The method is only appropriate as a check by purchasers to assure themselves they do not pay more than it would

cost to build the same or similar pipeline.

27. We assume that the heat rate of a natural gas peaking unit is 10,000 Btu/kWh. The price of electricity is USD 25.00 perMWH, and the price of natural gas is USD 2.00. What is the “spark spread” in USD per KWH?

a. USD 0.005b. USD 0.02c. USD 0.03d. USD 0.04

28. Eloise, ERP, is the risk manager for a large natural gas company. The company uses VAR with a 95% confidence level tomeasure risk exposure and compliance. Eloise is concerned with extreme events. She should:

a. Continue using VAR at the 95% confidence level.b. Change the VAR confidence level to 97%.c. Change the VAR confidence level to 90%.d. Implement stress testing to assess the impact of extreme events.

29. There are three models for trading arrangements for electricity transactions. Which of the following is NOT one of thesemodels?

a. Integrated modelb. Open access modelc. Wheeling modeld. Decentralized model

30. During the entire period of a contract, the contract holder must:

a. Report revenues to the Commodities Futures Trading Commission. b. Must not keep separate accounts for tax purposes. c. Keep separate accounts in accordance with accounting procedures appended to the contract. d. Notify local governing bodies (e.g. city council) that a contract has been made.

31. In analyzing the risk of a portfolio containing both spot and futures contracts on natural gas, you are aware that the principle of parallelism would tend to result in:

a. Low correlation of spot and futures pricesb. High correlation of spot and futures pricesc. Volatile correlation of spot and futures pricesd. Little or no impact on the correlation between spot and futures prices





32. All of these major conditions for the development of an LNG project are true, EXCEPT:

a. Because capacity for spot trading of LNG can vary, securing long-term commitments from buyers is preferred. b. The location of a re-gasification terminal is ideally situated near densely populated areas.c. LNG tankers are subject to regulations issued by the International Maritime Organization.d. Because liquefying hard to reach natural gas is technically easy, constructing a temporary LNG facility on natural gas

nearly depleted reserves is usually economically viable.

33. Natural gas is stored for the following reasons:

I. To provide baseload storage to meet seasonal demands. II. To provide peak storage to smooth out the demand curve.III. To serve as a place to “park” gas when prices are low and sell gas when prices are high.

a. I and IIb. II and III c. I, II and III d. None of these

34. Two Gulf coast refineries, Alpha and Beta have configurations described below:

Refinery Alpha: complexity index = 11.3Refinery Beta: complexity index = 5.6Location: TexasTime: 2009

Which of the following is/are correct?

I. Refinery A can process heavier crudes than refinery B.II. If both refineries are in the same condition (age, maintenance requirements, etc.) with the same capacity, refinery A

would sell at a higher price than refinery B.III. Refinery B will sell for a price twice that of refinery A.

a. I onlyb. II onlyd. I and II d. All of the above

35. Daily and monthly-settled options in power markets are often seen trading at very different Black-implied volatilities forexact same month of delivery. These differences in Black-implied volatilities between daily and monthly settled options forthe same month of delivery would disappear if:

a. Power markets were single-factor markets where all the forward prices were perfectly correlated with each other, andvolatility term structure for daily settled forwards was flat.

b. All the daily forward prices had the same volatility.c. Averaging effects in monthly settled options disappeared.d. Daily settled options all expired on the same day as the monthly settled option but with delivery still spanning all the

days of the month.

36. The Federal Energy Regulatory Commission (FERC) is responsible for the interstate transmission of:

a. Electricity.b. Electricity and natural gas.c. Electricity, natural gas, and oil.d. Electricity, natural gas, oil, and also licensing and inspecting LNG projects.

37. Alessandro, Energy Risk Professional, analyzes a pipeline sale and needs to understand whether to record a financial gainor loss for the sale. What type of valuation methods should Alessandro use?

a. Economic value b. Comparable salesc. Replacement costd. Book value

38. In order to correctly estimate the sufficient size of each intermediate storage location or petroleum product terminal, thefollowing tank sizing formula should be used:

a. Tank size = (Average daily demand / Cycle time) – Safety stock + Tank bottoms – Safe fill allowanceb. Tank size = (Average daily demand x Cycle time) – Safety stock + Tank bottoms + Safe fill allowancec. Tank size = (Average daily demand x Cycle time) + Safety stock + Tank bottoms – Safe fill allowanced. Tank size = (Average daily demand x Cycle time) + Safety stock + Tank bottoms + Safe fill allowance





39. An electric market uses a capacity market to promote the building of new capacity. Given the following information, howmuch capacity (MWs) would an end-use customer be required to purchase?

Expected end-user peak load: 100 MWAverage end-user load: 90 MWPercentage reserve margin: 10%

a. 10 MWb. 110 MWc. 100 MWd. 99 MW

40. A royalty is:

a. An amount equal to a percentage of the value of production paid by the holder to the government in cash or in kind.b. An amount paid by the contract holder to an independent agent. c. The money collected by the site inspector. d. A tax independent of profits.

41. You run a lucrative kerosene business and wish to hedge your exposure to kerosene price changes on a contract that isclose to delivery. By implementing this hedge using heating oil derivatives you are exposed to changes in _____ basis.

a. Locationb. Storagec. Productd. Mismatch

42. Clean Gas Product Inc, a supplier of LNG, must assure that the quality of the gas from an LNG terminal fulfills the follow-ing specification:

a. It is characteristic of the gas as it came from the reservoir.b. It meets the seller’s specifications.c. It serves the buyers.d. It is consistent with the requirements of downstream gas customers.

43. Underground storage salt caverns are formed by:

I. Dissolving with fresh waterII. Hard rock miningIII. High explosive detonationsIV. Dissolving with sulfuric acid

a. I and II b. II and III c. I, II and IV d. All are correct

44. Consider the following yields from a simple, complex, and very complex refinery. Each is processing the same mediumsour, heavy crude oil. Identify refineries X, Y, and Z by complexity level.

Product Type / Refinery X Y Z

Gasoline 60 50 30Jet Fuel 15 15 15Distillate Fuel 25 25 20Residual Fuel – 5 30LPG 5 – –Coke 15 10 8Refinery Fuel Gain (20) (5) (3)

a. X = simple, Y = complex, Z = very complex b. X = simple, Y = very complex, Z = complexc. X = complex, Y = simple, Z = very complex d. X = very complex, Y = complex, Z = simple

45. You know that a European call option on natural gas with a strike of USD 5.6000/mmBtu has a vega of 1.0893. The current gas price is USD 5.80/mmBtu and the current interest rate is 5%. What is the vega of a European put option with the same strike?

a. -1.0893 b. 1.0893 c. 0.0893 d. Not enough information to solve





46. Given a flat volatility term structure for the entire WTI forward price curve at 35%, the Black-equivalent volatility of alookback cash-settled average price option with a 3-month averaging period would ______ over the last three months ofthe option’s life because _______.

a. increase / volatility of the underlying forward price tends to grow as option expiration time decreasesb. decrease / volatility of the underlying forward price tends to drop as option expiration time decreasesc. increase / as we begin collecting the daily forward price settlements to ultimately determine the average price at

option settlement, the uncertainty around the value of the average price settlement value dropsd. decrease / as we begin collecting the daily forward price settlements to ultimately determine the average price at

option settlement, the uncertainty around the value of the average price settlement value drops

47. Consider a storage tank that must be sufficiently sized to store the market demand of oil as other products pass by on thepipeline. Given the following parameters, calculate the size of an oil tank sufficient for the project:

Tank bottoms 4,000 bblSafety stock 7,000 bblState fill allowance 5,000 bblAverage daily demand 1,000 bblCycle time 15 days

a. 38,000 bblb. 31,000 bblc. 26,000 bbl d. 24,000 bbl

48. The concept of “location” as an important factor for electricity markets has become more important than for other commodities. Which of the following four reasons is NOT one of these factors?

a. Complexity of networks due to interconnection of markets and wheeling of power across long distances.b. Transmission constraints.c. Increased geographical dispersion of large-scale generation and commercial markets.d. Advent or regional transmission organizations (RTO) and their impact on limiting transmission.

49. You are concerned with high electricity prices for the upcoming month. Monthly on-peak options are available at USD 75per megawatt for a 100 MW contract. If you purchase a monthly on-peak power option contract, how many megawatthours will you receive, assuming there are 20 business days per month?

a. 32,000 mWhb. 48,000 mWhc. 16,000 mWhd. 2,000 mWh

50. Akiko, Energy Risk Professional, is pricing a daily transportation deal between Henry Hub and Houston Ship Channel usingthe mean reverting Ornstein-Uhlenbeck price process to model gas prices. She asks you to calculate the ATM impliedvolatilities for Henry Hub and Houston Ship Channel. You should:

a. Tell her that implied volatilities from Black Scholes calculation are not the same volatilities used in the Ornstein-Uhlenbeck process and you will need to calculate the correct volatilities.

b. You first need to scale the implied volatilities by as it is a daily deal.

c. Provide her with the implied volatilities. Nothing else needs to be done.

d. You first need to scale the implied volatilities by as it is a daily deal.




2010 ERP PRACTICE EXAM II: CORRECT CANDIDATE ANSWER SHEET

a. b. c. d.

1. � � � �2. � � � �3. � � � �4. � � � �5. � � � �6. � � � �7. � � � �8. � � � �9. � � � �10. � � � �11. � � � �12. � � � �13. � � � �14. � � � �15. � � � �16. � � � �17. � � � �18. � � � �19. � � � �20. � � � �21. � � � �22. � � � �23. � � � �24. � � � �25. � � � �26. � � � �27. � � � �

a. b. c. d.

28. � � � �29. � � � �30. � � � �31. � � � �32. � � � �33. � � � �34. � � � �35. � � � �36. � � � �37. � � � �38. � � � �39. � � � �40. � � � �41. � � � �42. � � � �43. � � � �44. � � � �45. � � � �46. � � � �47. � � � �48. � � � �49. � � � �50. � � � �



1. � � � ��


Energy RiskProfessional (ERP)Examination2010 Practice Exam IIAnswers and Explanations



1. Cogeneration refers to:

a. The generation of electricity using two forms of fossil fuel. For example, coal and natural gas being used, dependingon market price advantages for each form of fuel.

b. The generation of electricity using a combination of two distinct types of generating units, with output being com-bined.

c. A generating unit where the process generates both electricity and heat.d. Refers to a generating unit where there is more than one owner, resulting in electric output being shared.

Correct answer: c

Reference:Warkentin-Glenn: Chapter 1, p. 42

Reason: Answer c is correct. Both electricity and heat (for use in various business processes) is produced. Answer a isincorrect. The basic characteristic of cogeneration is that electricity and heat are produced. Answers b and d are incorrect;irrelevant.

2. Once it has been determined that a formation contains hydrocarbons, the total quantities of hydrocarbons physically present and any associated reserves are evaluated. This is done by evaluating the ratio of recoverable hydrocarbons to the total quantity of hydrocarbons in the reservoir. The size distribution of a particular field is generally reasonably wellrepresented by a lognormal distribution, but this is subject to error because:

a. These figures are rarely published. b. The lognormal distribution does not represent small fields well, and in some cases completely misrepresents them. c. The numbers are, at best, inspired guesses. d. There is no sure way of representing reserve numbers.

Correct answer: b

Reference: Institut Francais: Chapter 3, p. 100

Reason: Modern geoscientific techniques (geology, geophysics, geochemistry and geostatistics) allow the potentialreserves in the field to be described by means of a probability distribution function. Because of the uncertainties in themeasured values it is meaningless to say that the reserves in a field are 100 million barrels (MMbbl). What can be said isthat there is a certain probability that its size exceeds 100 MMbbl. The size distribution of a particular field is generallyreasonably well represented by a lognormal distribution. In practice the reserves are represented by providing a numberof the parameters of the lognormal distribution (the mean or a number of percentiles: 10%, 50%, 90%, etc.) which is supposed to represent the size of the field.



3. According to Section 302 (Corporate Responsibility for Financial Reports) of the Sarbanes-Oxley Act, which of the followingis TRUE?

a. Significant changes in internal controls in gathering and reporting financial information does not have to be disclosed.b. Off-balance sheet transactions must be reported.c. Disclosure of the fair values of derivative instruments and their gains and losses must be presented in easy to read

formats.d. Signing officers must disclose to auditors deficiencies in the design or operation of reporting financial data.

Correct answer: d

Reference: Sarbanes-Oxley Act, Section 302: http://www.sox-online.com/act_section_302.html

Reason: Answer d is correct. According to section 5, “the signing officers have disclosed to the issuer's auditors and theaudit committee of the board of directors (or persons fulfilling the equivalent function): (a) all significant deficiencies inthe design or operation of internal controls which could adversely affect the issuer's ability to record, process, summarize,and report financial data and have identified for the issuer's auditors any material weaknesses in internal controls…” Answer a is incorrect. In fact, significant changes in such internal controls must be reported by the signing officers. Answer b is incorrect. Section 401, Disclosures in Periodic Reports, makes this stipulation. Answer c is incorrect. FASB Statement No. 161, not Sarbanes-Oxley, requires disclosure of the fair values of derivative instruments and their gains and losses in a tabular format.

4. As of 2009, the most sophisticated and liquid environmental market for emissions-trading is:

a. Carbon monoxideb. Carbon dioxidec. Nitrogen oxided. Sulfur dioxide

Correct answer: d

Reference: James and Fusaro: Chapter 3, p. 39-40

Reason: d is correct. The sulfur dioxide emissions-trading market is the most sophisticated emissions-trading market inthe world and one of the oldest. The SO2 market is also the most liquid of all environmental markets. SO2 has beenactively traded daily in spot and forward markets since the inception of the market and can now be traded on regulatedfutures markets. The annual value of SO2 trades is USD 3billion.



5. A call has premium of USD 5 and a strike price of USD 28. If the price of the underlying is USD 31, what is the time value of the call?

a. USD 5b. USD 3c. USD 2d. USD 0

Correct answer: c

Reference: James: Chapter 6, p. 137-8

Reason: a is incorrect, this is the premium. b is incorrect, this is the intrinsic value. c is correct. It is the premium less theintrinsic value: intrinsic value = USD 31 - USD 28 = 3, so USD 5 - USD 3 = USD 2, therefore time value = USD 2. d isincorrect. Only when the premium and intrinsic value are equal is the time value 0.

6. Typically, royalties on an LNG project involve:

a. Payment made on a percentage of the sales revenues. b. Payment based on a percentage of the profits. c. Payment based on profits minus local tax payments. d. Payment based on varying unit costs.

Correct answer: a

Reference: Tusiani and Shearer: Chapter 11, p. 303

Reason: a is correct. Typically speaking, in the upstream, royalties are a common device by which governments cansecure a share of a project's revenue. High royalties can be onerous to an LNG project, since they involve a payment tothe sovereign made directly out of the sales revenues irrespective of the project’s actual earnings. These royalties can be on oil and/or gas; in the case of an LNG project, any liquids produced are often subject to the same royalties as oil production. Royalties are usually expressed as a percentage of initial revenue. For current LNG projects, they generally fall in a range of 5%–20%. Less commonly, they can be calculated as a fixed unit cost (USD /MMBtu).

7. Virgin Oil is a crude oil producer willing to hedge 100% of its future production along the next calendar year. In order toachieve this objective, it sells a swap on Brent crude for 1 million barrels at USD 60/bbl.

Later the company discovers that the real production will be 20% lower than estimated. Bank “A” offers to buy fromVirgin Oil swaps Brent crude for 200,000 barrels, at a price of USD 50/bbl. Bank “B” offers to buy from Virgin Oil swapsBrent crude for 500,000 barrels at a price of USD 53/bbl. Put in order the following four different options, from the leastto the riskiest:

I. Doing nothing.II. Accept the offer from bank “A.”III. Accept the offer from bank “B.”IV. Unwind everything.

a. II, III, IV, Ib. II, I, III, IVc. III, IV, II, Id. I, III, II, IV

Correct answer: b

Reference: Leppard: Chapter 8, p. 193-194

Reason: b is correct. The net resulting exposure of the four options are: I (-200,000 bbls), II (0 bbls), III (+300,000 bbls),IV (800,000 bbls).



8. The English unit of volume measurement for natural gas is a cubic foot (ft3). Because gas expands and contracts withpressure and temperature changes, the measurement is made under or is converted to standard conditions which is:

a. The way it has been done since natural gas was first used as a commodity. b. The correct way to do it. c. Defined by law. d. Defined by the industry.

Correct answer: c

Reference: Hyne: Chapter 1, p. 12

Reason: c is correct. The English unit of volume measurement for natural gas is a cubic foot (cf). Because gas expandsand contracts with pressure and temperature changes, the measurement is made under or is converted to standard conditions defined by law. It is usually 60°F and 14.65 psi (15°C and 101.325 kPa) and is called standard cubic feet (scf).The abbreviation for 1000 cubic feet is Mcf, a million cubic feet is MMcf, a billion cubic feet is Bcf and a trillion cubic feetis Tcf. Condensate content is measured in barrels per million cubic feet of gas.



9. Which of the following statements describes the conversion stage of a refinery process?

a. Changes the size or structure of hydrocarbon molecules by decomposition, unification, and reforming.b. Both prepare hydrocarbon streams for additional processing and finished products using chemical or physical

separation.c. Used for mixing and combining hydrocarbon fractions, additives, and other components to produce finished products

with specific performance properties.d. Applied to separate crude oil in atmospheric and vacuum distillation columns into groups of hydrocarbon compound

based on molecular size and boiling-point ranges.

Correct answer: a


Reason: a is correct. Petroleum refining processes and operations are classified into five basic types:1) Distillation is the separation of crude oil in atmospheric and vacuum distillation columns into groups of hydrocarboncompounds based on molecular size and boiling-point ranges. 2) Conversion processes change the size or structure ofhydrocarbon molecules by; a) Decomposition: Breaking down large molecules into smaller molecules with lower boilingpoints through cracking and related processes; b) Unification: Building small molecules into larger molecules throughalkylation, polymerization, and related processes; c) Reforming: Rearranging molecules into different geometric structuresin isomerization, catalytic reforming, and related processes; 3) Treatment processes prepare hydrocarbon streams for additional processing and to prepare finished products using chemical or physical separation. Processes include desalting,hydro-desulfurization, solvent refining, sweetening, solvent extractions, and dewaxing; 4) Blending is the process of mixing and combining hydrocarbon fractions, additives, and other components to produce finished products with specificperformance properties; 5) Other refining operations include light-ends recovery, sour-water stripping, solid waste andwastewater treatments, process-water treatment and cooling, storage and handling, product movements, hydrogen production, acid and tail gas treatment, and sulfur recovery.



10. A natural gas call option with a strike at USD 6.00 on an August contract is trading at a Black-implied volatility of 45%.Another call option with the same contract specifications, except for a different strike of USD 6.50, is trading at a Black-implied volatility of 50%, exhibiting a volatility “smile.” The following conclusions can be made given the above marketinformation:

a. The volatility smile tells us that the market is feeling good about the economy and prices are expected to go higher.b. The different volatilities implied by the premia of the two call options tell us that the log-normal Black model cannot

capture the true underlying price behavior with a single volatility measure. c. A call option with the same contract specifications as the two options in the problem but with a strike of USD 7.00

must therefore be trading at a Black-implied volatility of 55%. d. The two options should have exactly the same volatility, and therefore this is a case of market arbitrage: the

USD 6.00 option is under-priced relative to the USD 6.50 option.

Correct answer: b


Reason: b is correct. The reason there is such a thing as a volatility “smile” (or “frown” as the case may be) is that differing Black-implied volatilities for options with same specifications but different strikes are necessary to capture thetrue underlying price behavior and therefore traded option prices. Black option pricing model assumes log-normal pricebehavior for the underlying forward prices, which generally does not capture the full spectrum of behavior of energyprices given a single volatility measure. Therefore the correct answer is answer b.

There is nothing in the problem statement to suggest that answer a is the correct answer. Similarly, answer c attempts tointerpolate the implied volatility across higher strikes in a linear fashion that is not supported by any information stated inthe problem. Finally, while there are times where arbitrage can be seen in the market place, and certainly there are traderswho have a better understanding of underlying price distributions then others, as a general statement answer d is incorrect.



11. From an investment risk viewpoint, alternative energy companies are:

a. A sure-thing considering the potential market demand.b. Risky because of uncertainty about which firms will even survive.c. Risky because of the difficulty of forecasting profits.d. A sure-thing because of government backing of alternative energy sources.

Correct answer: b

Reference: Fisher: Chapter 6, p. 152

Reason: b is correct. In any fledgling industry, just picking the survivors is a low probability game. It is definitely not asure-thing and government backing does not guarantee success.

12. Time series analysis is necessary for _____, while distribution analysis is important in _____.

a. Constant drift-term calibration / average volatility calculationb. Option modeling / spot price modelingc. Comparing long-term price behavior to model-implied behavior / calibrating model parametersd. Calibrating model parameters / comparing long-term price behavior to model-implied behavior

Correct answer: d

Reference: Pilipovic: Chapter 5, p. 72-3

Reason: Time series analysis is specifically used in calibrating model parameters while distribution analysis is importantin testing model-implied behavior against actual long-term price behavior. Hence, answer d is the correct answer. Driftterm calibration is one of the results of time series analysis. However, other model parameters are also calibrated.Similarly, while average volatilities can be implied through distribution analysis, this can be only a part of the process ofperforming a distribution analysis. So while answer a is somewhat appropriate, it does not provide the best answer.Answers b and c are both incorrect, as the opposite of the statements is true.



13. Which of the following statements regarding “implied” volatility is NOT true?

a. Implied volatility is normally determined by using an option pricing model and solving for the volatility factor resultsin the same premium calculation that is quoted in the market (solving an option pricing model in reverse).

b. Implied volatility is very similar to historical volatility, as long as, the natural logs of spot prices are used. c. Implied volatility is the average volatility to expiry.d. Implied volatility has a distinct term structure meaning that implied volatility may be different depending on the time

to expiry.

Correct answer: b

Reference: Eydeland and Wolyniec: Chapter 4, p. 146-8

Reason: Implied volatility is based on market quotes for options, historical volatility is based on historical spot prices. Seepages 146, last two lines for instantaneous volatility (historical volatility), and page 148 for implied volatility.

14. Capital costs for a coal-to-liquids plant involve:

a. All outlays made after the decision to construct a commercial plant and prior to the production of salable products. b. All outlays made after the decision to construct a commercial plant, which include the production of salable products. c. All outlays made before the decision to construct a commercial plant and prior to the production of salable products. d. All outlays made before the decision to construct a commercial plant and including factors to account for either

inflation or interest accrued during construction.

Correct answer: a

Reference: Bartis, et al: Appendix A, p. 119

Reason: a is correct. For our calculations, capital costs are defined as all outlays made after the decision to construct a commercial plant and prior to the production of salable products. Capital costs, as defined in this approach, do notinclude factors to account for either inflation or interest accrued during construction. The effects of interest payments during construction are accounted for in the discounted-cash-flow calculations. For an FT CTL plant, our capital costs do not include investments associated with developing the mine or mines that will supply coal to the plant. Instead, we assume that coal will be purchased via long-term contracts at prices that account for the costs associated with developing and operating a coal mine.



15. Consider the purchase and sales price of a pipeline. In order to establish the seller’s lowest acceptable price and the pur-chaser’s maximum purchase price based on NPV analysis, which valuation approach should be applied?

a. Comparable salesb. Economic valuec. Reconstruction cost new (RCN)d. Book value

Correct answer: b

Reference: Miesner and Leffler: Chapter 10, p. 226

Reason: B is correct. There are various ways of calculating economic value. Together they are the criteria most often usedto establish the seller’s bottom acceptable price and the purchaser’s maximum purchase price. Existing pipelines have ahistory of return. Potential purchasers may base the price they are willing to pay on forecasts of volumes, rates, andexpenses based on history. The forecasts are used to develop a future stream of cash flows. These are then discounted toarrive at a value, called net present value (NPV).

16. Which of the following statements regarding public utility commissions (PUCs) is NOT true?

a. All states have PUCs to govern actions of state regulated utilities.b. PUCs are considered quasi-judicial and quasi-legislative entities.c. PUCs hold hearings to fix rates that may be charged by utilities, but may not investigate service related issues.d. PUCs hold hearings to fix rates that may be charged by utilities.

Correct answer: c

Reference:Warkentin-Glenn: Chapter 4, p. 103, 105

Reason: c is correct. PUCs are considered to be quasi-judicial and quasi-legislative entities. There is no real separation ofpower, since they act as administrator, judge, and legislator. Commissions act as administrator when, for instance, theyinvestigate rates or service. In a judicial capacity, PUCs exercise this power when they hold hearings, examine evidence,and make final determinations of a particular utility’s conduct.



17. Around 1960, King Hubbert, then an engineer at Shell, forecast, by fitting a normal curve to the production profile of 48American states, that production would reach its peak in 1969. Production would then decline in a manner symmetrical tothe growth phase. The fact that his theory was vindicated for one particular example does not mean, however, that hismodel has been validated generally because:

a. Conventional crude oil and heavy oil are different. b. Probability estimates are not accurate. c. The method does not account for off shore reserves. d. There is no reason to believe that all production profiles will display this pattern.

Correct answer: d

Reference: Institut Francais: Chapter 3, p. 99-100

Reason: d is correct. One glaring issue with Hubbert’s model is that it makes time the only explanatory variable for theproduction of a region, thereby disallowing the possibility of reserves (for instance) being created as a result technicalprogress. Even if, in several regions of the world, production profiles are found to be distributed normally, there is no reason to believe that all production profiles will display this pattern. However attempts have been made to explain or justify the Hubbert phenomenon “mathematically.” One such attempt appeals to one of the most celebrated theorems of probability theory: the central limit theorem. This states that under certain regularity hypotheses the sum of a large number of independent random phenomena (even if highly asymmetric or multimodal) tends to produce a random variablewith a normal distribution, that is, symmetrical with a bell-shaped distribution, like that used in the Hubbert approach. Butthe probability density of the sum is not equal to the sum of the probability density (in this case the production profiles ofthe fields). Furthermore the Hubbert phenomenon does not fall within the scope of this theorem. In the first place the production profiles summed are obviously not independent of one another, particularly when they relate to the same geographical zone, and secondly the theorem relates to numerical distributions rather than temporal distributions, as inHubbert’s model. Temporal distributions are subject to a completely different tool of probability theory, namely time seriesanalysis. Great care must therefore be taken not to misuse this method which, however appealing it may seem on the basisof a few examples, has no scientific basis. If certain aggregated profiles exhibit the characteristics of the normal distribu-tion, these are curiosities, the real reason for which it would be very interesting to explore, rather than a phenomenon ofgeneral applicability as claimed by Hubbert and his numerous followers. Hubbert himself ended up by repudiating the normal curve in favor of the logistic curve which unfortunately is no more justified than the normal curve.



18. Company ABC has made significant changes in their operations that have resulted in substantial negative consequencesto their financial condition. Because the company is worried about, among other things, reputational risk, executives havedelayed time and again disclosure of this information to the public. Which rule is being violated here?

a. FASB 161b. Sarbanes-Oxley, Section 409c. FERC Federal Order, 670d. None. The company is acting legally for its own interests

Correct answer: b

Reference: Sarbanes-Oxley Act, Section 409: http://www.sox-online.com/soxact.html#sec409

Reason: b is correct. According to Section 409 of Sarbanes-Oxley, “Real Time Issuer Disclosures:” Each issuer reportingunder section 13(a) or 15(d) shall disclose to the public on a rapid and current basis such additional information concern-ing material changes in the financial condition or operations of the issuer, in plain English, which may include trend andqualitative information and graphic presentations, as the Commission determines, by rule, is necessary or useful for theprotection of investors and in the public interest.

19. Assume you hold a short put position with a strike price of EUR 40 and a long call position with a strike price of EUR 40.At expiration, the spot price of the asset is EUR 50. The value of your combined positions is:

a. EUR 20b. EUR 10c. EUR 0d. Negative EUR 10

Correct answer: b


Reason: b is correct. The payoff from the short put is -max[K-S,0] = -max[40-50,0] = 0 and the payoff for the long call ismax[S-K,0] = max[50-40,0]=10.



20. LNG is an attractive alternative energy resource because:

I. Access to large, untapped natural gas reserves ensures LNG can be monetized quickly. II. Natural gas use continues to rise worldwide. III. Remaining reserves of oil are concentrated in increasingly fewer countries. IV. LNG ships can move material year round and are easier to maintain than pipelines.

a. I and IIb. I, III and IVc. II and IIId. I and IV

Correct answer: c

Reference: Tusiani and Shearer: Chapter 1, p. 1-3; 20-21

Reason: Statement III is correct. Remaining reserves of oil are concentrated in increasingly fewer countries, not all friend-ly to the principal consuming nations. State oil companies have grown in importance as high prices and ready access totechnology enabled them to operate independently of the major and large independent oil companies on who they tradi-tionally depended. Moreover, global oil reserves represent just 40 years of consumption at current production rates.Statement I is incorrect. There is no world price for natural gas or LNG, and many end-use markets remain essentiallyclosed to competition, under the control of regulated utilities. Simply having access to large untapped reserves of naturalgas does not ensure that these reserves will be monetized easily or quickly. Statement II is correct. Natural gas use isnearly on par with coal and is projected to become the second most widely used fuel after 2020. Despite the stronggrowth in consumption, especially over the past decade, the worldwide reserves of natural gas have grown faster thanconsumption and, at current rates of production, are sufficient to last almost 70 years. Statement IV is incorrect. BecauseLNG ships cross oceans they are susceptible to weather patterns and cannot operate year round (for example, cannot runduring hurricanes). Pipelines can run year round and are less affected by weather, if at all. Also, pipelines are easier tomaintain than LNG ships. Thus, answer c is correct.



21. For good risk management practices, which of the following information must be kept track of on a regular basis?

I. Transaction recordsII. Position reportsIII. Margins and equityIV. Counterparty documentation

a. I and IIIb. II and IIIc. I, II, and IIId. All of the above

Correct Answer: d

Reference: James: Chapter 10, p. 192

Reason: D is correct. All four of these should be maintained

22. Facilities at gas plants remove acid gases (carbon dioxide and hydrogen sulfide) and natural gas liquids because carbondioxide and hydrogen sulfide:

a. Reduce the sales value b. Cause corrosion in the pipeline and the consumer’s facilities c. Increase the risk of fire and explosion d. Cause the gas to be odiferous

Correct answer: b

Reference: Meisner and Leffler: Chapter 1, p. 5

Reason: b is correct. Facilities at gas plants usually remove acid gases and the NGLs. The acid gases include carbon dioxide and hydrogen sulfide, having the potential to corrode the facilities of both the pipeline and the consumer. The NGL could include natural gasoline, butanes, propane, and sometime ethane.



23. In order to construct a robust economic model of a refinery, which of the following factors should be incorporated intothe model as a performance function variable?

l. Acquisition price of crude oilII. Operating costIII. Final product pricesIV. Strategic decisions

a. I, II and IVb. I and IIIc. II, III and IVd. All of the above

Correct answer: d


Reason: d is correct. The economic performance of a refinery is a function of many variables—the plant configuration,acquisition price of crude oil, product prices, strategic decisions, operating cost, and environmental requirements—and sosimple economic models rarely provide sufficient guidance as an aid in decision making.



24. Daily and monthly-settled options in power markets are often seen trading at very different Black-implied volatilities forexact same month of delivery. These differences in Black-implied volatilities between daily and monthly settled options forthe same month of delivery are due to:

a. Averaging effects where daily forward prices exhibit perfect correlations with each other, and the fact that daily set-tled options ride down the decreasing volatility curve all the way to the day of delivery.

b. Monthly settled options expire prior to the first day of delivery in the month, whereas daily settled options expirethroughout the month, with volatility difference simply reflecting this difference in time to expiration.

c. Averaging effects where daily forward prices show non-perfect correlations with each other, and the fact that dailysettled options ride up the volatility curve all the way to the day of delivery, whereas monthly settled options expireprior to realizing the full volatility potential for all the days of delivery in the month.

d. The two options should have exactly the same volatility, and therefore this is a case of market arbitrage.

Correct answer: c


Reason: c is correct. Daily settled options imply generally much higher Black-equivalent volatilities than do monthly-settled options for the same month of delivery. This is due to several factors. The fact that monthly settled options areoptions on an average of daily forward prices that tend to exhibit non-perfect correlations allows for averaging effectswhich diminish the effective volatility of the average relative to the daily-settled volatility. Also, since daily settled volatili-ties settle into next day delivery, the daily option volatilities get the benefit of riding up the steep volatility curve all theway to the day of delivery, whereas monthly-settled options do not get this benefit as they expire prior to the first day ofdelivery in the month. Therefore the correct answer is answer c. Answer 1 and 4 are in conflict with what is observed inpower option markets, and answer b is very limited in scope.



25. In terms of satisfying energy demand, alternative energy will remain marginal for a while because:

a. Of opposition from the fossil fuel business, particularly the coal lobby.b. Of opposition from environmental groups, such as those protesting bird kills from wind turbines.c. Industry’s capacity limitations to build wind turbines and photovoltaic solar cells.d. Conventional energy sources are huge in magnitude.

Correct answer: d

Reference: Fisher: Chapter 6, p. 155

Reason: d is correct. The magnitude of coal, for instance, in generating electricity is so huge that the enormous growth inoutput of wind, solar etc. can do nothing but reduce the growth of demand without affecting base demand. Despite theimpressive growth in wind, more coal will be consumed in 2030 than is consumed today.

26. What is the key weakness of the comparable sales method often used to establish the market value of a pipeline?

a. The buyers and sellers make different assumptions about the asset.b. The transaction involves time-consuming processes to decide what cash flow to use and which discount factor or

multiples to apply.c. The method requires too many adjustments – age, supply/demand outlook, and throughput – to arrive at an

appropriate value.d. The method is only appropriate as a check by purchasers to assure themselves they do not pay more than it would

cost to build the same or similar pipeline.

Correct answer: c

Reference: Miesner and Leffler: Chapter 10, p. 227-8

Reason: c is correct. Establishing value based on sales of similar items works well where similar assets, like houses, aresold every year, thus establishing a market value. It does not work well for pipelines. Too many adjustments are needed toarrive at an appropriate value—age, throughput, and the supply/demand outlook for the commodities being transported.Buyers and sellers may use similar sales as indicators to help them understand the range of values. However, this valua-tion method normally only complements the economic value method in pipeline sales.



27. We assume that the heat rate of a natural gas peaking unit is 10,000 Btu/kWh. The price of electricity is USD 25.00 perMWH, and the price of natural gas is USD 2.00. What is the “spark spread” in USD per KWH?

a. USD 0.005b. USD 0.02c. USD 0.03d. USD 0.04

Correct answer: a

Reference: Kaminski (Kaminski, et al): Chapter 3, p. 120

Reason: a is correct. Output price – USD 25/MWh = USD 25/1,000 kWh = USD 0.025/kWh. Input price – 10,000 Btu/kWhx USD 2.00/MmBtu= 10,000 Btu/kWh X USD 2.00/1,000,000 Btu= USD 2.00/100kWh= USD 0.02/kWh.The spark spread istherefore USD 0.005/kWh. b is incorrect, input price: USD 25/1000 kWh= .025/kWh – 10,000 x USD 2.00 x1,000,000 Btu= .02/kWh. c is incorrect, random number. d is incorrect, random number.

28. Eloise, ERP, is the risk manager for a large natural gas company. The company uses VAR with a 95% confidence level tomeasure risk exposure and compliance. Eloise is concerned with extreme events. She should:

a. Continue using VAR at the 95% confidence level.b. Change the VAR confidence level to 97%.c. Change the VAR confidence level to 90%.d. Implement stress testing to assess the impact of extreme events.

Correct answer: d

Reference: James and Fusaro: Chapter 11, p. 194

Reason: d is correct. VAR measures only possible reality, not what the reality will be. a is incorrect, only measures impactgiven probability, not what result will be as in stress testing. b is incorrect, only measures impact given probability, notwhat result will be as in stress testing. c is incorrect, only measures impact given probability, not what result will be as instress testing.



29. There are three models for trading arrangements for electricity transactions. Which of the following is NOT one of thesemodels?

a. Integrated modelb. Open access modelc. Wheeling modeld. Decentralized model

Correct answer: b

Reference: Hunt: Chapter 7, p. 127-129

Reason: Answer a is incorrect: it is one of the three models. Under integrated models, which are used in three regions of the United States, and also in most markets abroad, the system operator schedules forward contracts at the request oftraders, but also takes bids from traders to modify scheduled contracts and to provide imbalances, congestion manage-ment, and ancillary services. The system operator runs the spot market using a large computer optimization program (ofwhich more will be said later), and by doing so, the system operator minimizes the overall cost of these services. Answer c is incorrect: it is one of the three models. Under wheeling (the type of model used in much of the rest of the UnitedStates, in those areas that have not gone fully to competition) an integrated utility with its own generation runs the trans-mission and system operations; it provides access to the transmission by scheduling contracts at the request of traders,after it has scheduled its own resources for its own load. The utility provides imbalances and manages congestion andancillary services using its own generation resources. These services are priced at regulated rates. There is no formal spot market. Answer d is incorrect: it is one of the three models. Under decentralized models (California and Texas in the United States are partially decentralized, and the new NETA in the UK is the main example elsewhere), the systemoperator also schedules traders’ contracts, but the aim is to get the system operator out of the spot markets. The systemoperator has to administer arrangements for imbalances. As far as possible, the traders run the spot market and managecongestions; separate arrangements are set up for ancillary services.



30. During the entire period of a contract, the contract holder must:

a. Report revenues to the Commodities Futures Trading Commission. b. Must not keep separate accounts for tax purposes. c. Keep separate accounts in accordance with accounting procedures appended to the contract. d. Notify local governing bodies (e.g. city council) that a contract has been made.

Correct answer: c


Reason: c is correct. During the entire period of validity of the contract, the contract holder must keep separate accounts inaccordance with accounting procedures appended to the contract. These procedures are set up in accordance with the rulesapplying in the country concerned, but may be subjected to slight changes to allow them to cater for specific petroleum mech-anisms, for example depreciation procedures, the period of carry-forward of losses and the definition of petroleum costs. Theclause in the main agreement relating to the accounts of the contract holder can therefore be quite short because it will referto the accounting procedure in which all the practical procedures are indicated. It will specify the currency in which accountsare to be kept (often U.S. dollars), rules for conversion and the right of the government to have the accounts audited.

31. In analyzing the risk of a portfolio containing both spot and futures contracts on natural gas, you are aware that the prin-ciple of parallelism would tend to result in:

a. Low correlation of spot and futures pricesb. High correlation of spot and futures pricesc. Volatile correlation of spot and futures pricesd. Little or no impact on the correlation between spot and futures prices

Correct answer: b

Reference: Errera: Chapter 3 p. 32

Reason: b is correct. Parallelism occurs because the same factors that impact cash prices tend also to impact the price ofthe commodity for future delivery.



32. All of these major conditions for the development of an LNG project are true, EXCEPT:

a. Because capacity for spot trading of LNG can vary, securing long-term commitments from buyers is preferred. b. The location of a re-gasification terminal is ideally situated near densely populated areas.c. LNG tankers are subject to regulations issued by the International Maritime Organization.d. Because liquefying hard to reach natural gas is technically easy, constructing a temporary LNG facility on natural gas

reserves nearly depleted is usually economically viable.

Correct answer: d

Reference: Tusiani and Shearer: Chapter 1, p. 15-19

Reason: Answer a is true, thus incorrect. While a liquefaction facility may have varying degrees of its capacity reservedfor short-term or spot trades, the capital costs required in order to build a facility usually dictate that a downstream buyeror buyers, who will contract for the majority of the plant’s output, must be secured. Answer b is true, thus incorrect. Themost desirable location from an infrastructure standpoint is often near densely populated areas. Answer c is true, thusincorrect. LNG tankers are subject to a variety of regulations and conventions issued by the International MaritimeOrganization (IMO), the tanker’s flag state, and the maritime regulatory bodies of the countries in which the tanker isexpected to load and unload its cargo. Answer d is false, thus the correct answer. A project must have dedicated provenreserves that allow the project to operate at its design level for 20-30 years, with an additional reserve margin to protectagainst unexpected production declines.

33. Natural gas is stored for the following reasons:

I. To provide baseload storage to meet seasonal demands. II. To provide peak storage to smooth out the demand curve.III. To serve as a place to “park” gas when prices are low and sell gas when prices are high.

a. I and IIb. II and III c. I, II and III d. None of these

Correct answer: c

Reference: Kidnay and Parish: Chapter 12, p. 254

Reason: c is correct. All statements are factual.



34. Two Gulf coast refineries, Alpha and Beta have configurations described below:

Refinery Alpha: complexity index = 11.3Refinery Beta: complexity index = 5.6Location: TexasTime: 2009

Which of the following is/are correct?

I. Refinery A can process heavier crudes than refinery B.II. If both refineries are in the same condition (age, maintenance requirements, etc.) with the same capacity, refinery A

would sell at a higher price than refinery B.III. Refinery B will sell for a price twice that of refinery A.

a. I onlyb. II onlyc. I and II d. All of the above

Correct answer: c

Reference: Leffler: Chapter 20, p. 194-195

Reason: c is correct. Statements I and II are factual. There is a positive correlation between complexity and valuation asdescribed in II, but no discussion of the magnitude can be inferred without more detailed empirical analysis. Just becausethe complexity index of A is twice the complexity of B does not imply that A will sell for twice B’s valuation.



35. Daily and monthly-settled options in power markets are often seen trading at very different Black-implied volatilities forexact same month of delivery. These differences in Black-implied volatilities between daily and monthly settled options forthe same month of delivery would disappear if:

a. Power markets were single-factor markets where all the forward prices were perfectly correlated with each other, andvolatility term structure for daily settled forwards was flat.

b. All the daily forward prices had the same volatility.c. Averaging effects in monthly settled options disappeared.d. Daily settled options all expired on the same day as the monthly settled option but with delivery still spanning all the

days of the month.

Correct answer: a


Reason: Answer a is correct. Daily settled options imply generally much higher Black-equivalent volatilities than do monthly-settled options for the same month of delivery. This is due to several factors. The fact that monthly settled options are optionson an average of daily forward prices that tend to exhibit non-perfect correlations allows for averaging effects that diminishthe effective volatility of the average relative to the daily-settled volatility. Also, since daily settled volatilities settle into nextday delivery, the daily option volatilities get the benefit of riding up the steep volatility curve all the way to the day of delivery,whereas monthly-settled options do not get this benefit as they expire prior to the first day of delivery in the month. Thereforethe only way the volatilities could match is if all the daily forward prices became perfectly correlated (i.e. implying a single factor market) and the volatilities of all the daily forward prices had no term structure. Answers b, c and d offer only limitedchanges which would not ultimately result in equivalent Black-implied volatilities.

36. The Federal Energy Regulatory Commission (FERC) is responsible for the interstate transmission of:

a. Electricity.b. Electricity and natural gas.c. Electricity, natural gas, and oil.d. Electricity, natural gas, oil, and also licensing and inspecting LNG projects.

Correct answer: d

Reference: FERC: https://www.ferc.gov/about/about.asp

Reason: d is correct. The Federal Energy Regulatory Commission, or FERC, is an independent agency in the United Statesthat regulates the interstate transmission of natural gas, oil, and electricity. FERC also regulates natural gas andhydropower projects.



37. Alessandro, Energy Risk Professional, analyzes a pipeline sale and needs to understand whether to record a financial gainor loss for the sale. What type of valuation methods should Alessandro use?

a. Economic value b. Comparable salesc. Replacement costd. Book value

Correct answer: d


Reason: d is correct. Book value is used by sellers to allow them to understand if they need to record a financial gain or loss for the sale. It is not particularly useful for purchasers, since book value has little relevance to what the asset is currently worth. Sometimes it is used to reallocate ownership between joint venture partners if the venture was set toprovide for this approach.

38. In order to correctly estimate the sufficient size of each intermediate storage location or petroleum product terminal, thefollowing tank sizing formula should be used:

a. Tank size = (Average daily demand / Cycle time) – Safety stock + Tank bottoms – Safe fill allowanceb. Tank size = (Average daily demand x Cycle time) – Safety stock + Tank bottoms + Safe fill allowancec. Tank size = (Average daily demand x Cycle time) + Safety stock + Tank bottoms – Safe fill allowanced. Tank size = (Average daily demand x Cycle time) + Safety stock + Tank bottoms + Safe fill allowance

Correct answer: d

Reference: Miesner and Leffler: Chapter 12 - Storage, p. 290

Reason: d is correct. Each intermediate storage location or petroleum products terminal must have enough tanks of sufficient size to segregate the various product and grades. Each of these tanks (or combinations of tanks) must be sufficiently large to store the market demand of their product as other grades pass by on the pipeline. The basic elementsof the tank sizing formula are: Tank size = (Average daily demand x Cycle time) + Safety stock + Tank bottoms + Safe fillallowance.



39. An electric market uses a capacity market to promote the building of new capacity. Given the following information, howmuch capacity (MWs) would an end-use customer be required to purchase?

Expected end-user peak load: 100 MWAverage end-user load: 90 MWPercentage reserve margin: 10%

a. 10 MWb. 110 MWc. 100 MWd. 99 MW

Correct answer: b

Reference: Hunt: Chapter 8, p. 166

Reason: Answer a is incorrect. 10% of 100 MW is not correct. Answer b is correct. Capacity requirement is peak loadtime, multiplied by (1+ reserve margin percentage). Answer c is incorrect. This choice assumes peak load is capacityrequirement. Answer d is incorrect. This choice assumes average load—peak load is used.

40. A royalty is:

a. An amount equal to a percentage of the value of production paid by the holder to the government in cash or in kind.b. An amount paid by the contract holder to an independent agent. c. The money collected by the site inspector. d. A tax independent of profits.

Correct answer: a


Reason: A royalty is effectively a tax directly proportional to the value of production, that is, a tax on turnover, and independent of profits. The amount of the royalty depends not only on the applicable percentage, but also on a number of other parameters which must be carefully specified.



41. You run a lucrative kerosene business and wish to hedge your exposure to kerosene price changes on a contract that isclose to delivery. By implementing this hedge using heating oil derivatives you are exposed to changes in _____ basis.

a. Locationb. Storagec. Productd. Mismatch

Correct answer: c

Reference: Errera: Chapter 3 p. 49

Reason: c is correct. The difference between the futures price and the price of a similar cash commodity is called product basis.

42. Clean Gas Product Inc, a supplier of LNG, must assure that the quality of the gas from an LNG terminal fulfills the follow-ing specification:

a. It is characteristic of the gas as it came from the reservoir.b. It meets the seller’s specifications.c. It serves the buyers.d. It is consistent with the requirements of downstream gas customers.

Correct answer: d

Reference: Tusiani and Shearer, Chapter 7, p. 180

Reason: d is correct. The quality of the gas that comes from an LNG import terminal must be consistent with the require-ments of downstream gas customers or meet the specifications of the interconnected gas transmission lines, which vary byregion and by country. For example, receiving facilities located close to producing regions may be permitted to accept LNGwith wide-ranging and fairly high calorific values. For example, the Lake Charles, Louisiana, receiving terminal can import leanLNG from places such as Trinidad, as well as rich LNG from Australia and Qatar. This is because the regasified LNG immediatelymingles downstream from the terminal with gas production from the Gulf of Mexico and is often treated in NGL-processingplants before being sent on to market. But LNG import terminals that are located in market areas or that serve buyers withspecific gas quality restrictions must closely monitor and, where necessary, adjust the quality of the regasified LNG that isdelivered into the local grid.



43. Underground storage salt caverns are formed by:

I. Dissolving with fresh waterII. Hard rock miningIII. High explosive detonationsIV. Dissolving with sulfuric acid

a. I and II b. II and III c. I, II and IV d. All are correct

Correct answer: a

Reference: Kidnay and Parrish: Chapter 12, p. 254-258

Reason: a is correct. Underground gas storage caverns can be constructed by leaching with fresh water, as is common inthe U.S. Gulf Coast, or via hard rock mining, as popular in the Eastern U.S. and in parts of Europe. Statements III and IVare incorrect.



44. Consider the following yields from a simple, complex, and very complex refinery. Each is processing the same mediumsour, heavy crude oil. Identify refineries X, Y, and Z by complexity level.

Product Type / Refinery X Y Z

Gasoline 60 50 30Jet Fuel 15 15 15Distillate Fuel 25 25 20Residual Fuel – 5 30LPG 5 – –Coke 15 10 8Refinery Fuel Gain (20) (5) (3)

a. X = simple, Y = complex, Z = very complex b. X = simple, Y = very complex, Z = complexc. X = complex, Y = simple, Z = very complex d. X = very complex, Y = complex, Z = simple

Correct answer: d

Reference: Leffler: Chapter 20, p. 196

Reason: d is correct. Refinery complexity refers to the capacity and type of processing units that comprise a refinery.Refinery complexity will increase when “complex” units with large capacity are added since they have greater ability to convert (heavy) crude input into gasoline. For a given grade of crude oil (in this case, medium sour, heavy), as the complexity of the refinery increases the gasoline yield increases and the residual fuel yield decreases (the residual fuelstream is being converted to gasoline).



45. You know that a European call option on natural gas with a strike of USD 5.6000/mmBtu has a vega of 1.0893. The cur-rent gas price is USD 5.80/mmBtu and the current interest rate is 5%. What is the vega of a European put option with thesame strike?

a. -1.0893 b. 1.0893 c. 0.0893 d. Not enough information to solve

Correct Answer: b

Reference: Burger, Graeber, and Schindlmayr: Chapter 2, p. 61

Reason: a is incorrect, wrong sign. b, 1.0893, is correct. Vegas for puts and calls with the same strike are the same. This follows from the put call parity relation. c is incorrect. d is incorrect. There is definitely enough information for the problem.

46. Given a flat volatility term structure for the entire WTI forward price curve at 35%, the Black-equivalent volatility of alookback cash-settled average price option with a 3-month averaging period would ______ over the last three months ofthe option’s life because _______.

a. Increase / volatility of the underlying forward price tends to grow as option expiration time decreasesb. Decrease / volatility of the underlying forward price tends to drop as option expiration time decreasesc. Increase / as we begin collecting the daily forward price settlements to ultimately determine the average price at

option settlement the uncertainty around the value of the average price settlement value dropsd. Decrease / as we begin collecting the daily forward price settlements to ultimately determine the average price at

option settlement the uncertainty around the value of the average price settlement value drops

Correct answer: d


Reason: d is correct. In case of an Asian option, once we begin taking in the forward price settles that ultimately willdefine the final average price for option settle, the volatility of that average price starts dropping significantly. Hence, thecorrect answer is answer d. Since volatility decreases answers a and c cannot be right. Finally, the statement in answer bcontradicts the problem statement where we are assuming that forward price volatility is stable at 35%.



47. Consider a storage tank that must be sufficiently sized to store the market demand of oil as other products pass by on thepipeline. Given the following parameters, calculate the size of an oil tank sufficient for the project:

Tank bottoms 4,000 bblSafety stock 7,000 bblState fill allowance 5,000 bblAverage daily demand 1,000 bblCycle time 15 days

a. 38,000 bblb. 31,000 bblc. 26,000 bbl d. 24,000 bbl

Correct answer: b


Reason: b is correct. The basic elements of the tank sizing formula are:Tank size = (Average daily demand x Cycle time) + Safety stock + Tank bottoms + Safe fill allowance. Tank size = (1,000 x 15) + 7,000 + 4,000 + 5,000 = 31,000 bbl.

48. The concept of “location” as an important factor for electricity markets has become more important than for other commodities. Which of the following four reasons is NOT one of these factors?

a. Complexity of networks due to interconnection of markets and wheeling of power across long distances.b. Transmission constraints.c. Increased geographical dispersion of large-scale generation and commercial markets.d. Advent or regional transmission organizations (RTO) and their impact on limiting transmission.

Correct answer: d


Reason: Answer d is false, thus correct. RTOs help improve transmission and to overcome locational issues. For example,RTOs have coordinated planning for logical transmission expansion.



49. You are concerned with high electricity prices for the upcoming month. Monthly on-peak options are available at USD 75per megawatt for a 100 MW contract. If you purchase a monthly on-peak power option contract, how many megawatthours will you receive, assuming there are 20 business days per month?

a. 32,000 mWhb. 48,000 mWhd. 16,000 mWhd. 2,000 mWh

Correct answer: a

Reference: Kaminski (Eydeland and Geman): Chapter 2, p. 59

Reason: a is correct. 16 hours per day times 20 days, times 100 MWs = 32,000. b is incorrect, since calculations assume24 hours per day. c is incorrect, since calculation assumes 8 off-peak hours per day. d is incorrect, since calculationassumes zero hours during the day.

50. Akiko, Energy Risk Professional, is pricing a daily transportation deal between Henry Hub and Houston Ship Channel usingthe mean reverting Ornstein-Uhlenbeck price process to model gas prices. She asks you to calculate the ATM implied volatilities for Henry Hub and Houston Ship Channel. You should:

a. Tell her that implied volatilities from Black Scholes calculation are not the same volatilities used in the Ornstein-Uhlenbeck process and you will need to calculate the correct volatilities.

b. You first need to scale the implied volatilities by as it is a daily deal.

c. Provide her with the implied volatilities. Nothing else needs to be done.

d. You first need to scale the implied volatilities by as it is a daily deal.

Correct Answer: a

Reference: Clewlow and Strickland: Chapter 3.2.2, p. 41

Reason: a is correct. Volatility has to be estimated in the context of the stochastic process assumption. The volatility for an Ornstein-Uhlenbeck process has different units to that which is used in the Black-Scholes model. The volatility for the Ornstein-Uhlenbeck process has units of dollars. The volatilities in Black-Scholes and Ornstein-Uhlenbeck are not interchangeable.



Creating a culture of risk awareness.TM

Global Association ofRisk Professionals

111 Town Square PlaceSuite 1215Jersey City, New Jersey 07310USA+ 1 201.719.7210

Minster House, 1st Floor42 Mincing LaneLondon EC3R 7AEUK+ 44 (0) 20 7397 9631

www.garp.org

© 2010 Global Association of Risk Professionals. All rights reserved. 5-10