Chapter 9-15
net worth exposure
The larger the size of an FI, the larger the ___________ from any given interest rate shock. A. net interest income B. risk of bankruptcy C. immunization effect D. duration mismatch E. net worth exposure
net asset value.
The price at which an open-end investment fund stands ready to redeem existing shares is the A. face value. B. net asset value. C. net worth. D. strike price. E. book value.
future migration expected in the portfolio.
A Hypothetical Rating Migration, or Transition Matrix, reflects all of the following EXCEPT A. rating at which the portfolio ended the year. B. future migration expected in the portfolio. C. transition probabilities. D. rating at which the portfolio of loans began the year. E. the average proportions of loans that began the year.
is negative if deposits exceed withdrawals.
A bank's net deposit drain A. is negative if deposits exceed withdrawals. B. fluctuates unpredictably on any given day. C. is positive if deposits exceed withdrawals. D. in unaffected by holiday and vacation periods. E. decreases during holiday and vacation periods.
estimates of past returns used in the model may not be relevant to the current market returns.
A disadvantage of the historic or back simulation model for quantifying market risk includes A. estimates of past returns used in the model may not be relevant to the current market returns. B. calculation of the correlation between asset returns is not required. C. calculation of a standard deviation of returns is not required. D. it accounts for non-standard return distributions. E. None of the above.
the relatively high cost of purchased liabilities.
A disadvantage of using purchased liquidity management to manage a FI's liquidity risk is A. the relatively high cost of purchased liabilities. B. the accessibility of international money markets. C. the resulting shrinkage of the FI's balance sheet. D. tax considerations. E. loss of flexibility as a result of dependence upon purchased liabilities.
the resulting shrinkage of the FI's balance sheet.
A disadvantage of using stored liquidity management to manage a FI's liquidity risk is A. the resulting shrinkage of the FI's balance sheet. B. tax considerations. C. the high cost of purchased liabilities. D. loss of flexibility as a result of dependence upon purchased liabilities. E. the accessibility of international money markets.
Regulation.
A reason for the use of market risk management (MRM) for the purpose of identifying potential misallocations of resources caused by prudential regulation is which of the following? A. Regulation. B. Resource allocation. C. Management information. D. Setting limits. E. Performance evaluation.
a high default risk firm.
According to Altman's credit scoring model, a firm with a 1.56 Z-score should be considered A. a low default risk firm. B. a high default risk firm. C. a lowest risk customer. D. an indeterminant default risk firm. E. Either C or D.
Greater than 2.99.
According to Altman's credit scoring model, which of the following Z scores would indicate a low default risk firm? A. Greater than 2.99. B. Less than 1. C. Between 1.81 and 2.99. D. 1. E. Between 1 and 1.81.
Low; 0.002 and 0.15
According to Moody's Analytics, default correlations tend to be ________ and lie between ________. A. High; 2.99 and 3.50 B. Low; 0.001 and 0.002 C. Low; 0.002 and 0.15 D. Low; 0 and 0.001 E. High; 1.86 and 2.99
variable-rate loans.
All other things equal, longer term loans are more likely to be A. high interest rate loans. B. variable-rate loans. C. commitment loans. D. lowest risk category loans. E. fixed-rate loans.
calculation of a standard deviation of returns is not required.
An advantage of the historic or back simulation model for quantifying market risk includes A. all return distributions must be symmetric and normal. B. calculation of a standard deviation of returns is not required. C. the systematic risk of the trading positions is known. D. there is a high degree of confidence when using small sample sizes. E. None of the above.
systematic risk and unsystematic risk.
As part of measuring unobservable default risk between borrowers, the Moody's Analytics model decomposes asset returns into A. systematic risk and default risk. B. market risk and sovereign risk. C. regional risk and maturity risk. D. credit risk and market risk. E. systematic risk and unsystematic risk.
Answers B and C
A regression of sectoral loan losses against total loans losses, both measured as a percentage of total loans, of a bank results in the following beta coefficients for the real estate (RE) and commercial (CL) loan variables: ȕRE = 1.2, ȕCL = 1.6. The intercept for both regressions is zero. The results indicate that for the bank A. the real estate loan losses were systematically lower than the total loan losses. B. the commercial loan losses are systematically higher than the total loan losses. C. the real estate loan losses were systematically higher than the total loan losses. D. Answers A and C. E. Answers B and C.
increasing the average duration of its liabilities to 9.782 years.
A risk manager could restructure assets and liabilities to reduce interest rate exposure for this example by A. increasing the average duration of its liabilities to 6.78 years. B. increasing the average duration of its liabilities to 9.782 years. C. increasing the leverage ratio, k, to 1. D. decreasing the average duration of its assets to 4.00 years. E. increasing the average duration of its assets to 9.56 years.
information obtained for this analysis is usually ex-post (i.e. after the fact).
A weakness of migration analysis to evaluate credit concentration risk is that the A. analysis makes use of historical data classified by individual firms. B. migration of firms may only be temporary. C. information obtained for this analysis is usually ex-post (i.e. after the fact). D. analysis makes use of historical data classified only by industries. E. information obtained for this analysis is ex-ante (i.e. before the fact).
All of the above.
Any model that seeks to estimate an efficient frontier for loans, and thus the optimal proportions in which to hold loans made to different borrowers, needs to determine and measure the A. expected return of the entire loan portfolio B. expected return on each loan to a borrower. C. risk of each loan made to a borrower. D. correlation of default risks between loans made to borrowers. E. All of the above.
Term structure models.
Credit scoring models include all of the following broad types of models EXCEPT A. Linear discriminant models. B. Linear probability models. C. Logit models. D. Term structure models. E. None of the above.
the higher the loan amount, the lower the RAROC.
Which of the following completes the statement: All else equal, the higher the duration of a loan, A. the lower the expected change in risk premium, the lower the RAROC. B. the higher the loan amount, the lower the RAROC. C. the higher the expected change in risk premium, the higher the RAROC. D. the lower the loan amount, the lower the RAROC. E. the lower the current level of interest rates, the higher the RAROC.
All of the above
Which of the following factors may affect the promised return an FI receives on a loan? A. Fees relating to the loan. B. The interest rate on the loan. C. The credit risk premium on the loan. D. The collateral backing of the loan. E. All of the above.
equal to time to repricing of the instrument.
The duration of all floating rate debt instruments is A. less than the time to repricing of the instrument. B. time interval between the purchase of the security and its sale. C. equal to the time to maturity. D. infinity. E. equal to time to repricing of the instrument.
All of the above
The earnings at risk for an FI is a function of A. the potential adverse move in yield. B. the dollar market value of the position. C. the time necessary to liquidate assets. D. the price sensitivity of the position. E. All of the above.
A decrease in the DI's stock price caused by market factors.
Which of the following is NOT a potential causes of liquidity risk for a DI? A. An increase in requests by depositors to withdrawal large amounts of deposits. B. A decrease in asset prices of securities held in the investment portfolio. C. A decrease in the DI's stock price caused by market factors. D. A decrease in the availability of short-term borrowed funds. E. An increase in requests to fund large amounts of loan commitments.
Syndicated loans seem to have higher mortality rates than corporate bonds.
Which of the following is NOT a valid conceptual or application problem of the mortality rate approach to estimate default risk? A. The estimates are sensitive to the number of issues in each investment grade. B. The estimated probability values are historic or backward-looking measures. C. Implied future probabilities are sensitive to the period over which MMRs are calculated. D. The estimates are sensitive to the relative size of issues in each investment grade. E. Syndicated loans seem to have higher mortality rates than corporate bonds.
High sensitivity of an asset price to interest rate shocks.
Which of the following is indicated by high numerical value of the duration of an asset? A. High sensitivity of an asset price to interest rate shocks. B. Smaller capital loss for a given change in interest rates. C. Low sensitivity of an asset price to interest rate shocks. D. High interest inelasticity of a bond. E. Lack of sensitivity of an asset price to interest rate shocks.
The interest rate on fixed-rate loans is determined at the time of the loan is actually taken down.
Which of the following is not a characteristic of a loan commitment? A. Floating-rate loans transfer the interest rate risk to the borrower. B. The interest rate on fixed-rate loans is determined at the time of the loan is actually taken down. C. The time period for which the loan is available is negotiated at the time of the loan agreement. D. In a floating-rate loan the borrower pays interest rate in force when the loan is actually taken down. E. The maximum amount of the loan is negotiated at the time of the loan agreement.
Migration analysis.
Which of the following methods measure loan concentration risk by tracking credit ratings of firms in particular sectors or ratings class for unusual downgrades? A. Loan loss ratio-based model. B. Moody's Analytics portfolio manager model. C. Loan volume-based model. D. Migration analysis. E. Concentration limits.
Bank regulators in recent years have limited loan concentrations to individual borrowers to a maximum of 30 percent of a bank's capital.
Which of the following observations concerning concentration limits is not true? A. FIs may set aggregate portfolio limits or combinations of industry and geographic limits. B. When two industry groups' performances are highly correlated, an FI may set an aggregate limit of less than the sum of the two individual industry limits. C. FIs set concentration limits to reduce exposures to certain industries and increase exposures to others. D. Bank regulators in recent years have limited loan concentrations to individual borrowers to a maximum of 30 percent of a bank's capital. E. Limits are set by assessing the borrower's current portfolio, its operating unit's business plans, its economists' economic projections, and its strategic plans.
They have less credit risk than fixed-rate loans.
Which of the following observations concerning floating-rate loans is NOT true? A. In rising interest rate environments, borrowers may find themselves unable to pay the interest on their floating-rate loans. B. They pass the risk of interest rate changes onto borrowers. C. They better enable FIs to hedge the cost of rising interest rates on liabilities. D. The loan rate can be periodically adjusted according to a formula. E. They have less credit risk than fixed-rate loans.
A dollar exposure amount or as a relative amount against some benchmark.
How can market risk be defined in absolute terms? A. The cost incurred by an FI when its technological investments do not produce anticipated cost savings. B. The gap between promised cash flows from loans and securities and realized cash flows. C. The capital required to offset a sudden decline in the value of its assets. D. The change in value of an FI's assets and liabilities denominated in nondomestic currencies. E. A dollar exposure amount or as a relative amount against some benchmark.
Derivatives
Managers can achieve the results of duration matching by using these to hedge interest rate risk. A. Coupon bonds. B. Derivatives. C. Rate sensitive liabilities. D. Consol bonds. E. Rate sensitive assets.
By using statistical analysis to isolate and weight factors to arrive at default risk classification of a commercial borrower.
How can discriminant analysis be used to make credit decisions? A. By updating FI bankruptcy experiences. B. By using statistical analysis to isolate and weight factors to arrive at default risk classification of a commercial borrower. C. By discriminating between good and bad borrowers. D. By using statistical analysis to bypass qualitative credit decision making. E. By using statistical analysis to predict the default probabilities.
By its impact on the cost of purchased funds.
How does purchased liquidity management affect profitability? A. By its impact on the interest rate sensitivity of liabilities. B. By enhancing the liquidity of assets held. C. By determining the default risk of investment securities. D. By its impact on the interest rate sensitivity of assets. E. By its impact on the cost of purchased funds.
Answers B and D
If Bank A's average return on its loan portfolio is lower than that of Bank B's, A. its standard deviation is lower than Bank B's. B. its risk-adjusted return is lower than Bank B's. C. its risk-adjusted return is higher than Bank B's. D. its standard deviation is higher than Bank B's. E. Answers B and D
equal to 1.
If a stock portfolio replicates the returns on a stock market index, the beta of the portfolio will be A. equal to 0. B. less than 1. C. equal to 1. D. greater than 1. E. negative.
unsystematic risk.
If an FIs trading portfolio of stock is not well-diversified, the additional risk that must be taken into account is A. systematic risk. B. unsystematic risk. C. interest rate risk. D. timing risk. E. default risk.
the balance sheet will increase by the amount of the new loan.
If purchased liquidity is used by a DI to fund an exercised loan commitment A. there will be no effect on the balance sheet. B. the balance sheet will decrease by the amount of the new loan. C. only the liability side of the balance sheet will increase. D. only the asset side of the balance sheet will increase. E. the balance sheet will increase by the amount of the new loan.
a positive spread of 165 basis points by selling 1-year CDs to finance 2-year loans
If rates do not change, the balance sheet position that maximizes the FI's returns is A. a positive spread of 85 basis points by financing the purchase of a 1-year loan with a 2-year CD. B. a positive spread of 100 basis points by selling 1-year CDs to finance 1-year loans. C. a positive spread of 165 basis points by selling 1-year CDs to finance 2-year loans. D. a positive spread of 15 basis points by selling 1-year CDs to finance 2-year CDs. E. a positive spread of 150 basis points by selling 2-year CDs to finance 2-year loans.
there will be no effect on the balance sheet.
If stored liquidity is used by a DI to fund an exercised loan commitment A. only the liability side of the balance sheet will increase. B. there will be no effect on the balance sheet. C. the balance sheet will increase by the amount of the new loan. D. only the asset side of the balance sheet will increase. E. the balance sheet will decrease by the amount of the new loan.
probability that a borrower will default in any given year.
Marginal default probability refers to the A. historic default rate experience of a bond or loan. B. probability that a borrower will default in any given year. C. marginal increase in the default probability due to a change in credit premium. D. expected maximum change in the loan rate due to a change in the credit premium. E. probability that a borrower will default over a specified multiyear period.
performance evaluation.
Market risk measurement considers the return-risk ratio of traders, which may allow a more rational compensation system to be put in place. Thus market risk measurement (MRM) aids in A. regulation. B. resource allocation. C. management information. D. setting limits. E. performance evaluation.
All of the above.
Matrix Bank has compiled the following migration matrix on consumer loans. Which of the following statements accurately summarizes this data? A. Grade one loans have a higher probability of downgrade than grades two or three. B. Ten percent of grade two loans were upgraded during the year. C. Grade three loans have a higher probability of upgrade than grade two loans. D. Grade three loans have a higher probability of downgrade than grade two loans. E. All of the above.
with retained earnings and common stock only.
The capital requirements of internally generated market risk exposure estimates can be met A. with retained earnings and common stock only. B. only with two types of capital. C. only with short- or long-term subordinated debt. D. only with Tier 1, Tier 2, or Tier 3 capital. E. only with retained earnings, common stock, and long-term subordinated debt.
less than its maturity
The duration of a consol bond is A. infinity. B. less than its maturity. C. more than its maturity. D. 30 years. E. given by the formula D = 1/(1-R).
2015 for LCR and 2018 for NSFR.
The liquidity coverage ratio (LCR) and net stable funding ratio (NSFR) proposed by the Bank for International Settlements are scheduled to take effect in A. 2013 for LCR and 2016 for NSFR. B. 2014 for both LCR and NSFR. C. 2015 for LCR and 2018 for NSFR. D. 2012 for both LCR and NSFR. E. 2011 for LCR and 2014 for NSFR.
is the investment portfolio.
The portfolio of a bank that contains assets and liabilities that are relatively illiquid and held for longer holding periods A. is the trading portfolio. B. contains only long term derivatives. C. is the investment portfolio. D. cannot be differentiated on the basis of time horizon and liquidity. E. is subject to regulatory risk.
If the total loan losses of the bank measured as a percentage of total loans is 2 percent, the losses in the commercial sector, measured as a percentage of total loans, is 3.2 percent.
The results can be interpreted as A. If the total loan losses of the bank measured as a percentage of total loans is 3 percent, the losses in the real estate sector, measured as a percentage of total loans, is 4 percent. B. If the total loan losses of the bank measured as a percentage of total loans is 2 percent, the losses in the commercial sector, measured as a percentage of total loans, is 3.2 percent. C. If the total loan losses of the bank measured as a percentage of total loans is 2 percent, the losses in the real estate sector, measured as a percentage of total loans, is 1.2 percent. D. If the total loan losses of the bank measured as a percentage of total loans is 2 percent, the losses in the commercial sector, measured as a percentage of total loans, is 6.4 percent. E. If the total loan losses of the bank measured as a percentage of total loans is 3 percent, the losses in the commercial sector, measured as a percentage of total loans, is 5.2 percent.
market risk.
The root cause of much of the losses of FIs during the financial crisis of 2008-2009 was A. market risk. B. firm-specific risk. C. interest rate risk. D. systematic risk. E. sovereign risk.
it does not assume a flat term structure, so its estimation is imprecise.
The shortcomings of this strategy are the following except A. duration changes as the time to maturity changes, making it difficult to maintain a continuous hedge. B. it is difficult to compute market values for many assets and liabilities. C. estimation of duration is difficult for some accounts such as demand deposits and passbook savings account. D. it ignores convexity which can be distorting for large changes in interest rates. E. it does not assume a flat term structure, so its estimation is imprecise.
normally a portion of the contract's face value.
The surrender value of an insurance policy is A. normally a portion of the contract's face value. B. its holdup value. C. the value of the junk bonds in the insurance company's portfolio. D. its promised payoff. E. its value upon bankruptcy.
The probability distribution indicates there is a possibility of a "fat tail" loss.
The use of expected shortfall (ES) is most appropriate when A. a continuous probability distribution cannot be constructed. B. the probability distribution is skewed to the right. C. the VAR indicates there is no possibility of losses so another method must be used to determine market risk. D. there is a small sample size used to estimate probability distributions. E. The probability distribution indicates there is a possibility of a "fat tail" loss.
That changes in asset prices are normally distributed but with fat tails.
The use of expected shortfall (ES) to measure market risk of a portfolio assumes which of the following? A. That changes in asset prices follow a standard normal probability distribution. B. That the probability distribution is skewed to the right. C. There is a very small sample size (<30 observations) used to estimate probability distributions. D. That the probability distribution is skewed to the left. E. That changes in asset prices are normally distributed but with fat tails.
2.33 and 2.665
To measure market risk at the 1 percent level of risk, what is the the scaling factor for the value at risk (VAR) and the expected shortfall (ES) respectively? A. 1.65 and 2.063 B. 1.65 and 2.665 C. 2.33 and 2.063 D. 2.33 and 2.665 E. none of the above is the correct scaling factor.
Loan volume-based model.
Under which model does an FI compare its own allocation of loans in any specific area with the national allocations across borrowers to measure the extent to which its loan portfolio deviates from the market portfolio benchmark? A. Loan loss ratio-based model. B. Loan volume-based model. C. Credit Risk +. D. CreditMetrics. E. Moody's Analytics portfolio manager model.
Resource allocation.
Using market risk management (MRM) to identify the potential return per unit of risk in different areas by comparing returns to market risk so that more capital and resources can be directed to preferred trading areas is considered to be which of the following? A. Regulation. B. Resource allocation. C. Management information. D. Setting limits. E. Performance evaluation.
Bank B, because its earnings of 12 percent is higher compared to Bank A's 11 percent, while its standard deviation is the same.
Using standard deviations, which bank is in a better position if the average earnings on the assets of Bank A is 11 percent and Bank B is 12 percent (ignore all other factors)? A. Bank B, because its earnings of 12 percent is higher than Bank A's 11 percent while, its standard deviation is lower. B. Bank A, because although its earnings of 11 percent is lower compared to Bank B's 12 percent, its standard deviation is significantly lower. C. Bank B, because its earnings of 12 percent is higher compared to Bank A's 11 percent, while its standard deviation is higher. D. Bank B, because its earnings of 12 percent is higher compared to Bank A's 11 percent, while its standard deviation is the same. E. Bank A, because although its earnings of 11 percent is lower compared to Bank B's 12 percent, its standard deviation is the same.
Answers A and B only.
What are the possible ways that the bank can meet an expected net deposit drain of +4 percent using purchased liquidity management techniques? A. Utilize further the Fed funds market. B. Utilize repurchase agreements. C. Liquidate all cash holdings. D. All of the above. E. Answers A and B only.
Liquidate some securities and/or loans.
What are the possible ways that the bank can meet an expected net deposit drain of +4 percent using stored liquidity management techniques? A. Liquidate all cash and use more Fed funds. B. Liquidate all cash holdings. C. Liquidate some securities and/or loans. D. Utilize further the Fed funds market. E. All of the above are suitable techniques.
Deposit insurance and discount window.
What are the two major liquidity risk insulation devices available? A. Financing gap and the financing requirement. B. Deposit insurance and discount window. C. Secondary credit and seasonal credit. D. Liquidity planning and maturity ladder. E. Scenario analysis and liquidity index.
Default probability on each loan in a portfolio.
What does Moody's Analytics Portfolio Manager Model use to identify the overall risk of the portfolio? A. Historical loan loss ratios. B. Maximum loss as a percent of capital. C. Mean of the value of loans in a portfolio. D. Default probability on each loan in a portfolio. E. Market value of an asset and the volatility of that asset's price.
The value of equity in a firm.
What does the Moody's Analytics model use as equivalent to holding a call option on the assets of the firm? A. The value of equity in a firm. B. Net income of a firm. C. Total liabilities of a firm. D. Short-term debt liabilities of a firm. E. Dividend yield of investments.
Peer group ratio comparison.
What information does the net liquidity statement provide? A. Sources and uses of liquidity. B. A long-term focus on liquidity. C. Liquidity index information. D. Peer group ratio comparison. E. Net asset value.
Price received for an asset that has to be liquidated immediately
What is a fire-sale price? A. Maximum price that will be received on sale of an asset irrespective of the time of sale. B. Market value of an asset. C. Replacement value of an asset. D. Book value of an asset. E. Price received for an asset that has to be liquidated immediately.
Exposed to increasing rates.
What is the FI's interest rate risk exposure? A. Exposed to long-term rate changes. B. Exposed to increasing rates. C. Perfectly balanced. D. Exposed to decreasing rates. E. Insufficient information.
DIs are more likely to increase the liquidity risk on their balance sheets.
What is the drawback of deposit insurance facility? A. DIs are more likely to increase the liquidity risk on their balance sheets. B. Deposit insurance does not deter contagious runs and panics. C. Deposit holder's place in line affects his or her ability to obtain their funds. D. Deposit holders are less likely to panic if there is a perceived bank solvency problem. E. Even when the DI is in trouble, the deposit holder has no incentive to run.
Balancing expected interest and fee income less the cost of funds against the loan's expected risk.
What is the essential idea behind RAROC? A. Balancing expected interest and fee income less the cost of funds against the loan's expected risk. B. Extracting expected default rates from the current term structure of interest rates. C. Analyzing historic or past default risk experience. D. Evaluating the actual or contractually promised annual ROA on a loan. E. Dividing net interest and fees by the amount lent.
The risk that interest rates will rise since the FI must sell a 1-year CD in one year.
What is the interest rate risk exposure of the optimal transaction in the previous question over the next 2 years? A. The risk that interest rates will fall since the FI must sell a 2-year loan in one year. B. The risk that interest rates will rise since the FI must purchase a 2-year CD in one year. C. The risk that interest rates will rise since the FI must sell a 1-year CD in one year. D. There is no interest rate risk exposure. E. The risk that interest rates will fall since the FI must buy a 1-year loan in one year.
Market value of equity to book value of long-term debt ratio
What is the least important factor determining bankruptcy, according to the Altman Z-score model? A. Market value of equity to book value of long-term debt ratio B. Sales to assets ratio C. Working capital to assets ratio D. Earnings before interest and taxes to assets ratio E. Retained earnings to assets ratio
Earnings before interest and taxes to assets ratio.
What is the most important factor determining bankruptcy, according to the Altman Z-score model? A. Retained earnings to assets ratio. B. Market value of equity to book value of long-term debt ratio. C. Working capital to assets ratio. D. Earnings before interest and taxes to assets ratio. E. Sales to assets ratio.
Capital notes and other long-term financing alternatives.
Which of the following is NOT a primary source of liquidity? A. Excess cash reserves over and above regulatory reserve requirements. B. Capital notes and other long-term financing alternatives. C. Cash-type assets that can be sold with little price risk and low transaction costs. D. Borrowings in the purchased funds market. E. Borrowings in the money market.
Average deposit drain such that new deposit funds more than offset deposit withdrawals.
Which of the following is a condition for a DI to be growing? A. Unused loan commitments is increasing. B. Average deposit drain such that new deposit funds more than offset deposit withdrawals. C. Net positive drain on deposits. D. The liability side of its balance sheet is decreasing. E. Peak of the net deposit drain probability distribution should lie at a point to the right of zero.
All of the above
Which of the following is a source of loan volume data? A. Commercial databases. B. Data on shared national credits. C. Commercial bank call reports. D. All of the above. E. Only the Federal Reserve has this data.
A reduction in securities and/or current loans totaling $50,000.
If the bank experiences a $50,000 sudden liquidity drain caused by a loan commitment draw down, what will be the impact on the balance sheet if stored liquidity management techniques are used? A. A decrease in lending of $50,000. B. A reduction in cash of $21,000 and an increase in demand deposits of $29,000. C. A reduction in securities and/or current loans totaling $50,000. D. A decrease in equity of $50,000. E. A reduction in cash of $21,000 and a decrease in securities holdings of $29,000.
interest rates
Immunization of a portfolio implies that changes in _________ will not affect the value of the portfolio. A. duration B. maturity C. book value of assets D. interest rates E. market prices
According to the expected shortfall measure, if tomorrow is a bad trading day, losses will exceed $25 million.
Based on your answers to the previous three question, which of the following is true? A. Both securities have the same expected payoff and value at risk (VAR), therefore it makes no difference which is in the trading portfolio. B. Security Beta is the better asset to have in the trading portfolio since there is a 50 percent probability of a $400 payoff versus only $355 with security Alpha. C. Both securities have the same expected payoff; therefore, it makes no difference which is in the trading portfolio. D. According to the expected shortfall measure, if tomorrow is a bad trading day, losses will exceed $25 million. E. Security Alpha represents the riskier of the two assets in the trading portfolio because there is a one-percent probability of loss the following day.
preservation of a good customer/FI relationship acts as an additional incentive to encourage loan repayment.
Borrower reputation is important in assessing credit quality because A. preservation of a good customer/FI relationship acts as an additional incentive to encourage loan repayment. B. FIs only lend to customers they know. C. a reputation for honesty is important in credit appraisal. D. customers with poor credit histories always default on their loans. E. good past payment performance perfectly predicts future behavior.
dividing the value of duration by 1 plus the interest rate.
Calculating modified duration involves A. dividing the value of duration by 1 plus the interest rate. B. dividing the value of duration by the change in the market interest rate. C. multiplying the value of duration by discounted change in interest rates. D. dividing the value of duration by the curvature effect. E. dividing the value of duration by discounted change in interest rates.
Answers A and B only.
Conceptually, an FI's trading portfolio can be differentiated from its investment portfolio by A. liquidity. B. time horizon. C. size of assets. D. effects of interest rate changes. E. Answers A and B only.
Systematic risk is considered to be a diversifiable risk.
Considering the Capital Asset Pricing Model, which of the following observations is incorrect? A. Systematic risk is considered to be a diversifiable risk. B. In a well-diversified portfolio, unsystematic risk can be largely diversified away. C. Unsystematic risk is specific to the firm. D. Systematic risk reflects the co-movement of a stock with the market portfolio. E. Total risk is the sum of systematic risk and unsystematic risk.
involves restricting the quantity of loans made available to individual borrowers.
Credit rationing by an FI A. is not used by FIs at the retail level. B. involves restricting the quantity of loans made available to individual borrowers. C. involves rationing consumer loans using price or interest rate differences. D. is only relevant to banks. E. results from a positive linear relationship between interest rates and expected loan returns.
probability that a borrower will default over a specified multiyear period.
Cumulative default probability refers to A. probability that a borrower will default in any given year. B. expected maximum change in the loan rate due to a change in the credit premium. C. expected maximum change in the loan rate due to a change in the risk factor on the loan. D. historic default rate experience of a bond or loan. E. probability that a borrower will default over a specified multiyear period.
the dollar value of a position times the price volatility.
Daily earnings at risk (DEAR) is calculated as A. the dollar value of a position times the potential adverse yield move. B. the dollar value of a position times the price volatility. C. the price sensitivity times an adverse daily yield move. D. the price volatility times the √ N. E. More than one of the above is correct.
DI relies heavily on the short-term money market to fund loans.
For a DI, what does a high ratio of loans to deposits indicate? A. High degree of loan commitments. B. Liquidity concerns are at a bare minimum for the FI. C. DI has large amounts of asset-side liquidity. D. DI relies heavily on core deposits to fund loans. E. DI relies heavily on the short-term money market to fund loans.
duration value
For small change in interest rates, market prices of bonds move in an inversely proportional manner according to the size of the A. duration value. B. equity. C. asset value. D. liability value. E. Answers A and B only.
writing a put option on the borrower's assets with the exercise price equal to the face value of the debt.
From the lender's point of view, debt can be evaluated as A. writing a put option on the borrower's liabilities with the exercise price equal to the market value of the debt. B. buying a put option on the borrower's assets with the exercise price equal to the face value of the debt. C. writing a call option on the borrower's assets with the exercise price equal to the face value of the debt. D. writing a put option on the borrower's assets with the exercise price equal to the face value of the debt. E. buying a call option on the borrower's liabilities with the exercise price equal to the market value of the debt.
The interest rate risk is transferred to the borrower.
From the perspective of an FI, which of the following is an advantage of a floating-rate loan? A, Stable interest payments will be received throughout the loan period. B. The interest rate risk is transferred to the borrower. C. The bank can request repayment of a loan at any time in the contract period. D. The pre-specified interest rate remains in force over the loan contract period no matter what happens to market interest rates. E. The default risk is completely eliminated.
Manage liquidity risk exclusively through reserve asset management.
If the bank decides to cut down on interest expenses by reducing its dependence upon borrowed funds, what policy must the bank follow? A. Increase interest income by increasing securities holdings. B. Manage liquidity risk exclusively through liability management. C. Increase interest income by increasing lending. D. Reduce the bank's dependence upon demand deposits. E. Manage liquidity risk exclusively through reserve asset management.
the effect of a change in the level of interest rates on the value of the assets of the FI is exactly offset by the effect of the same change in interest rates on the liabilities of the FI.
Immunizing the balance sheet to protect equity holders from the effects of interest rate risk occurs when A. the effect of a change in the level of interest rates on the value of the assets of the FI is exactly offset by the effect of the same change in interest rates on the liabilities of the FI. B. the maturity gap is zero. C. the duration gap is zero. D. the repricing gap is zero. E. after-the-fact analysis demonstrates that immunization coincidentally occurred.
current methods to identify concentration risk were not sufficiently advanced.
In 1994, The Federal Reserve Board ruled against a proposal to use quantitative models to assess credit concentration risk because A. there was sufficient information on commercial loan defaults for banks to perform in-house analysis. B. problems related to credit concentration risk have been minimal for U.S. banks. C. current methods to identify concentration risk were not sufficiently advanced. D. there was already a law that requires banks to set aside capital to compensate for credit concentration risk. E. there was no public data on default rates on publicly traded bonds.
Mutual funds.
In a crisis, which of the following are more likely to withdraw funds quickly from banks and thrifts? A. Individual depositors. B. Foreign depositors. C. Correspondent banks. D. Small business corporations. E. Mutual funds.
Individual depositors.
In a crisis, which of the following are relatively less likely to withdraw funds quickly from banks and thrifts? A. Correspondent banks. B. Pension funds. C. Individual depositors. D. Small business corporations. E. Mutual funds.
1
In applying the loan loss ratio models, the loss rate "ȕ" for the whole loan portfolio is A. 1. B. 0.5. C. 2. D. 0. E. negative.
Answers B and C only.
In calculating the value at risk (VAR) of fixed-income securities in the RiskMetrics model A the VAR is related in a linear manner to the DEAR. B the yield changes are assumed to be normally distributed. C. the price volatility is the product of the modified duration and the adverse yield change. D. All of the above. E. Answers B and C only.
Whether the relative level of interest rates will encourage the borrower to take excessive risks.
In making credit decisions, which of the following items is considered a market-specific factor? A. Whether the borrower's capital structure is beyond the point where additional debt increases the probability of loss of principal or interest. B. Whether the record of the borrower is sufficient to create an implicit contract. C. Whether the relative level of interest rates will encourage the borrower to take excessive risks. D. Whether the volatility of earnings could present a period where the periodic payment of interest and principal would be at risk. E. Whether property can be pledged as collateral.
Whether the position of the economy in the business cycle phase would affect the probability of borrower default.
In making credit decisions, which of the following items is considered a market-specific factor? A. Whether the debt can be secured by specific property. B. Whether the position of the economy in the business cycle phase would affect the probability of borrower default. C. Whether the volatility of earnings could present a period where the periodic payment of interest and principal would be at risk. D. Whether the current debt-equity ratio is sufficiently low to not impact the probability of repayment. E. Whether the reputation of the borrower enhances the credit application.
the FI should decrease its exposure to that sector because losses are higher than the rest of the portfolio
In models that are based on loan loss ratios, a ȕ that is found to be less than one for a particular loan sector indicates that A. the FI should decrease its exposure to that sector because losses are higher than the rest of the portfolio B. the loans in that sector will soon be downgraded soon. C. the FI should increase its concentration in that loan sector due to the high rates of return. D. the loan losses in that sector are systematically lower relative to total loan losses. E. the calculation is in error because ȕ is restricted to be greater than one.
average loans minus average deposits.
In terms of liquidity risk measurement, the financing gap is defined as A. total deposits minus core deposits. B. financing requirement plus liquid assets. C. rate sensitive assets minus rate sensitive liabilities. D. average loans minus average deposits. E. total assets minus total liabilities.
financing gap plus liquid assets.
In terms of liquidity risk measurement, the financing requirement is defined as A. financing gap plus liquid assets. B. average loans minus average deposits. C. total assets minus total liabilities. D. rate sensitive assets minus rate sensitive liabilities. E. total deposits minus core deposits.
The correlation of default risk.
In the Moody's Analytics model, which of the following is a function of the historical returns of the individual assets. A. The volatility of the loan's default rate. B. The risk of a loan. C. The expected default frequency. D. The correlation of default risk. E. The loss given default.
the product of the expected default frequency and the estimated loss given default.
In the Moody's Analytics portfolio model, the expected loss on a loan is A. the volatility of the loan's default rate around its expected value. B. the product of the expected default frequency and the estimated loss given default. C. annual all-in-spread minus the loss given default. D. annual all-in-spread minus the expected default frequency. E. the product of the estimated loss given default and risk-free rate on a security of equivalent maturity.
annual all-in-spread minus the expected loss on the loan
In the Moody's Analytics portfolio model, the expected return on a loan is the A. the interest and fees paid by the borrower minus the expected loss on the loan. B. the interest and fees paid by the borrower minus the interest paid by the FI to fund the loan. C. annual all-in-spread minus the loss given default. D. annual all-in-spread minus expected probability of the borrower defaulting over the next year. E. annual all-in-spread minus the expected loss on the loan.
the volatility of the loan's default rate around its expected value times the amount lost given default.
In the Moody's Analytics portfolio model, the risk of a loan measures A. the product of the expected default frequency and the estimated loss given default. B. the volatility of the loan's default rate around its expected value times the amount lost given default. C. annual all-in-spread minus the expected default frequency. D. the product of the estimated loss given default and risk-free rate on a security of equivalent maturity. E. annual all-in-spread minus the loss given default.
DEAR times the √ N
In the RiskMetrics model, value at risk (VAR) is calculated as A. the price sensitivity times an adverse daily yield move. B. the price volatility times the √ N C. DEAR times the √ N D. the dollar value of a position times the price volatility. E. the dollar value of a position times the potential adverse yield move.
have an incentive to avoid a run since that will deplete the fund net asset value.
In the event of financial distress, open-ended mutual fund investors A. have an incentive to cash in their shares quickly since that will increase the fund's net asset value. B. will switch into low risk bank deposits. C. have an incentive to avoid a run since the Federal Reserve guarantees mutual fund holdings. D. have an incentive to avoid a run since that will deplete the fund net asset value. E. have an incentive to cash in their shares quickly since they are paid on a first come, first served basis.
the identification of credit concentration by observing the downgrading or upgrading of credit ratings on securities in different sectors of industry by public rating agencies.
Migration analysis is a tool to measure credit concentration risk and refers to A. the identification of credit concentration by observing trends in market borrowing by different sectors of the industry. B. the identification of shifts in debt/asset ratios of firms in specific industries. C. the identification of borrowing patterns such as long or short term debt by different sectors of industry. D. the identification of problem loans in sectors by observing periodic migration of industries. E. the identification of credit concentration by observing the downgrading or upgrading of credit ratings on securities in different sectors of industry by public rating agencies.
45 percent
On loans fully secured by physical, non-real estate loans, the Basel Committee has set a loss given defaults (LGD) rate of A. 25 percent B. 60 percent C. 15 percent D. 45 percent E. 40 percent
less than one year.
Regulators usually view tradable assets as those held for horizons of A. less than three years. B. less than a quarter. C. less than one year. D. less than a week. E. greater than one year.
on which a borrower can both draw and repay many times over the life of the loan contract.
Revolving loans are credit lines A. that include new and used automobile loans, mobile home loans, and fixed-term consumer loans. B. that allow the borrower to borrow the repeat credit only after the first loan is repaid. C. whose interest rate adjusts with movements in an underlying market index interest rate. D. that specify a maximum size and a maximum period of time over which the borrower can withdraw funds. E. on which a borrower can both draw and repay many times over the life of the loan contract.
Expected Default Frequency (EDF) models.
Simulations by Moody's Analytics have shown which of the following models to be relatively better predictors of corporate failure and distress? A. S&P rating changes. B. Logit models. C. Expected Default Frequency (EDF) models. D. Linear probability models. E. Z score-type models.
The bank is exposed to increasing interest rates because it has a positive duration gap of +0.21 years.
What is this bank's interest rate risk exposure, if any? A. The bank is exposed to decreasing interest rates because it has a positive duration gap of +0.21 years. B. The bank is not exposed to interest rate changes since it is running a matched book. C. The bank is exposed to decreasing interest rates because it has a negative duration gap of -0.21 years. D. The bank is exposed to increasing interest rates because it has a negative duration gap of -0.21 years. E. The bank is exposed to increasing interest rates because it has a positive duration gap of +0.21 years.
Default risk.
What refers to the risk that the borrower is unable or unwilling to fulfill the terms promised under the loan contract? A. Solvency risk. B. Sovereign risk. C. Liquidity risk. D. Interest rate risk. E. Default risk.
may shrink the balance sheet if cash is used as the liquidity adjustment mechanism
When banks use stored liquidity management, they A. necessarily increase the asset side of the balance sheet. B. must pay interest on the funds that are stored. C. threaten the capital position of the institution. D. store the funds at the U.S. Treasury. E. may shrink the balance sheet if cash is used as the liquidity adjustment mechanism.
mutual funds have less liquidity risk than banks because all shareholders share the loss of value on a pro rata basis.
When comparing banks and mutual funds, A. mutual funds have more liquidity risk than banks because all shareholders have the ability to withdraw their money on a first-come first basis. B. mutual funds have less liquidity risk than banks because all shareholders share the loss of value on a pro rata basis. C. mutual funds have more liquidity risk than banks because all shareholders share the loss of value on a pro rata basis. D. mutual funds have the same liquidity risk as banks because both shareholders and depositors share the fall in the loss of value on a pro rata basis. E. mutual funds have less liquidity risk than banks because all shareholders have the ability to withdraw their money on a first-come first basis.
As interest rate shocks increase in size.
When does "duration" become a less accurate predictor of expected change in security prices? A. When maturity distributions of an FI's assets and liabilities are considered. B. As interest rate shocks increase in size. C. As interest rate shocks decrease in size. D. When the leverage adjustment is incorporated. E. As inflation decreases.
the price sensitivity times an adverse daily yield move.
When using the RiskMetrics model, price volatility is calculated as A. the price sensitivity times an adverse daily yield move. B. the dollar value of a position times the potential adverse yield move. C. the price volatility times the √ N D. the dollar value of a position times the price volatility. E. None of the above.
Monte Carlo simulation approach.
Which approach to measuring market risk, in effect, amounts to simulating or creating artificial trading days and FX rate changes? A. Back simulation approach. B. Variance/covariance approach. C. RiskMetrics Model. D. Monte Carlo simulation approach. E. All of the above.
Management information.
Which benefit of market risk measurement (MRM) provides senior management with information on the risk exposure taken by FI traders? A. Regulation. B. Resource allocation. C. Management information. D. Setting limits. E. Performance evaluation.
Asset transformation.
Which intermediation function results in an FI's exposure to liquidity risk? A. Asset transformation. B. Brokering between funds deficit units and funds surplus units. C. Lender of last resort. D. Information production. E. Conduit for monetary policy.
Loan loss ratio-based model.
Which model involves estimating the systematic loan loss risk of a particular sector or industry relative to the loan loss risk of an FI's total loan portfolio? A. Loan volume-based model. B. Credit Risk +. C. KMV portfolio manager model. D. CreditMetrics. E. Loan loss ratio-based model.
Demand deposit.
Which of the following balance sheet entries is not a tool used in purchased liquidity management? A. Federal fund. B. Demand deposit. C. Subordinated note. D. Bonds. E. Repurchase agreement.
Revolving consumer loans include new and used automobile loans, mobile home loans, and fixed-term consumer loans.
Which of the following is NOT characteristic of the consumer loans at U.S. banks? A. Consumer loans differ widely with respect to collateral, rates, maturity, and noninterest fees. B. Credit card loans often have default rates between four and eight percent. C. Non revolving consumer loans is the largest class of loans. D. Revolving consumer loans include new and used automobile loans, mobile home loans, and fixed-term consumer loans. E. Usury ceilings affect the rate structure for consumer loans.
Borrowers prefer fixed-rate loans to ARMs during periods of high interest rates.
Which of the following is NOT characteristic of the real estate portfolio for most banks? A. Commercial real estate mortgages have been the fastest growing component of real estate loans. B. The proportion of ARMs to fixed-rate mortgages can vary considerably over the rate cycle. C. Residential mortgages are the largest component of the real estate loan portfolio. D. Borrowers prefer fixed-rate loans to ARMs during periods of high interest rates. E. Adjustable rate mortgages have rates that are periodically adjusted to some index.
Government guaranteed mortgage-backed securities.
Which of the following is NOT included as high-quality liquid assets when computing a liquidity coverage ratio? A. Central bank reserves. B. Bank capital. C. Sovereign debt. D. Cash. E. Government guaranteed mortgage-backed securities.
Current ratio.
Which of the following is NOT used as a method of measuring liquidity risk? A. Liquidity index. B. Liquidity coverage ratio. C. Financing gap and financing requirement. D. Peer group ratio comparison. E. Current ratio.
Liquidity index.
Which of the following is a measure of the potential losses an FI could suffer as the result of fire-sale disposal of assets? A. Peer group ratio. B. Current ratio. C. Liquidity index. D. Financing gap and financing requirement. E. Quick ratio.
Systematic loan loss risk.
Which of the following is a measure of the sensitivity of loan losses in a particular business sector relative to the losses in an FI's loan portfolio? A. Concentration limit. B. Expected default frequency. C. Systematic loan loss risk. D. Loss given default. E. Loss rate.
Weight sample size observations so that the more recent observations contribute a larger amount to the model.
Which of the following is a method that may overcome weaknesses in the historic or back simulation model? A. The weaknesses in the model cannot be overcome. B. The use of smaller sample sizes to estimate return distributions. C. Decrease the number of assets in the trading portfolio so that past returns will provide more accuracy to the model. D. Increase the number of assets in the trading portfolio in order to benefit from higher levels of diversification. E. Weight sample size observations so that the more recent observations contribute a larger amount to the model.
Past observations become decreasingly relevant in predicting VAR in the future.
Which of the following is a problem encountered while using more observations in the back simulation approach? A. Need to assume a symmetric (normal) distribution for all asset returns. B. Past observations become decreasingly relevant in predicting VAR in the future. C. Requirement for calculating the correlations of asset returns. D. Calculations become highly complex. E. Answers B and C only.
It does not consider gradations of default.
Which of the following is a problem in using discriminant analysis to evaluate credit risk? A. Data on loan specific information of banks are readily available. B. The weights in the discriminant function are assumed to be dynamic. C. It does not assume that variables are independent of one another. D. It can include hard-to-quantify factors. E. It does not consider gradations of default.
Borrower ethnic origin.
Which of the following is not a qualitative factor in credit risk analysis? A. Borrower ethnic origin. B. Borrower reputation. C. Collateral available. D. The level of interest rates. E. Leverage position of the borrower.
FDIC Improvement Act (1991).
Which of the following is the legislation that required bank regulators to incorporate credit concentration risk into their evaluation of bank insolvency risk. A. Depository Institutions Deregulation and Monetary Control Act (1980). B. Garn-St. Germain Depository Institutions Act (1982). C. Financial Institutions Reform Recovery and Enforcement Act (1989). D. FDIC Improvement Act (1991). E. The Bank Holding Company Act (1956).
Estimated probabilities of default may lie outside the interval 0 to 1.
Which of the following is the major weakness of the linear probability model? A. The model is based on past data of the borrower. B. Estimated probabilities of default may lie outside the interval 0 to 1. C. Measurement of the loan risk is difficult. D. Neither the market value of a firm's assets nor the volatility of the firm's assets is directly observed. E. None of the above is a weakness of the linear probability model.
It may help a corporation to raise funds often at rates below those banks charge.
Which of the following is true of commercial paper? A. All corporations can tap the commercial paper market. B. Total commercial paper outstanding in the US is smaller than total C&I loans. C. It is a secured long-term debt instrument issued by corporations. D. It is always issued via an underwriter. E. It may help a corporation to raise funds often at rates below those banks charge.
It is most commonly used in pricing longer-term loans.
Which of the following is true of the prime lending rate? A. It is the rate for interbank dollar loans of a given maturity in the Eurodollar market. B. It is most commonly used in pricing longer-term loans. C. The best and largest borrowers commonly pay above this lending rate. D. It is the lending rate charged to the FI's lowest-risk customers. E. It is also known as LIBOR.
Back simulation creates a higher degree of confidence in the estimates.
Which of the following items is not considered to be an advantage of using back simulation over the RiskMetrics approach in developing market risk models? A. Asset returns do not need to be normally distributed. B. A worst-case scenario value is determined by back simulation. C. Back simulation is less complex. D. The correlation matrix does not need to be calculated. E. Back simulation creates a higher degree of confidence in the estimates.
None of the above
Which of the following loan applicant characteristics is not relevant in the credit approval decision? A. Borrower income. B. Borrower reputation. C. Value of collateral. D. Leverage position of the borrower. E. None of the above.
Primary credit is available to sound depository institutions on a very short-term basis.
Which of the following observations concerning the Fed's discount window is true? A. Secondary credit is available only to depository institutions that are eligible for primary credit. B. Eligible institutions for seasonal credit are big banks located in urban areas. C. Primary credit is available to sound depository institutions on a very short-term basis. D. Four lending programs are offered through the Fed's discount window. E. The facility is provided to meet DIs' permanent liquidity needs.
Traditionally, DI managers have relied on purchased liquidity management as the primary mechanism of liquidity management.
Which of the following observations is NOT true? A. Today, many DIs rely on purchased liquidity management to deal with the risk of cash shortfalls. B. Purchased liquidity management and stored liquidity management are ways of managing a drain on deposits. C. Traditionally, DI managers have relied on purchased liquidity management as the primary mechanism of liquidity management. D. The largest banks with access to the money market and other nondeposit markets for funds rely on purchased liquidity management to deal with the risk of cash shortfalls. E. None of the above.
It involves immediate withdrawal of the entire loan amount by the borrower.
Which of the following observations is true of a spot loan? A. It is an unsecured short-term debt instrument issued by corporations. B. It is a nonbank loan substitute. C. It involves immediate withdrawal of the entire loan amount by the borrower. D. It is a line of credit. E. It involves a maximum size and a maximum period of time over which the borrower can withdraw funds.
Covenants
Which of the following refers to restrictions in loan and bond agreements that encourage or forbid certain actions by the borrower? A. Implicit contracts. B. Credit rationing. C. Covenants. D. RAROC. E. Mortality rates.
Historic default rate experience of a bond or loan.
Which of the following refers to the term "mortality rate"? A. Historic default rate experience of a bond or loan. B. The success rate of new investments. C. The probability that a borrower will default over a specified multiyear period. D. A one-period rate of interest expected on a bond issued at some date in the future. E. The probability that a borrower will default in any given year.
Option contracts.
Which of the following securities is most unlikely to have a symmetrical return distribution, making the use of RiskMetrics model inappropriate? A. Preferred stock. B. Common stock. C. Option contracts. D. 30-year U.S. Treasury bonds. E. Consol bonds.
Larger the gap in absolute terms, the more exposed the FI is to interest rate shocks.
Which of the following statements about leverage adjusted duration gap is true? A. It is equal to the duration of the assets minus the duration of the liabilities. B. Larger the gap in absolute terms, the more exposed the FI is to interest rate shocks. C. It indicates the dollar size of the potential net worth. D. It reflects the degree of maturity mismatch in an FI's balance sheet. E. Its value is equal to duration divided by (1 + R).
Loans to retail customers are more likely to be rationed through interest rates than loan quantity restrictions.
Which of the following statements does NOT reflect credit decisions at the retail level? A. Most loan decisions at the retail level tend to be accept or reject decisions. B. Loans to retail customers are more likely to be rationed through interest rates than loan quantity restrictions. C. Mortgage loans often are discriminated based on loan to price ratios rather than interest rates. D. Retail loans tend to be smaller than wholesale loans. E. Household borrowers require higher costs of information collection for lenders.
A borrower's leverage ratio is positively related to the probability of default over all levels of debt.
Which of the following statements does not reflect a borrower-specific factor often used in qualitative default risk models? A. Reputation is an implicit contract regarding borrowing and repayment that extends beyond the formal explicit legal contract. B. Loans can be collateralized or uncollateralized. C. Firms with high earnings variance are less attractive credit risks than those firms that have a history of stable earnings. D. A borrower's leverage ratio is positively related to the probability of default over all levels of debt. E. Reputation is a key reason why initial public offering of debt securities by small firms have a higher interest rate than do debt issues of more seasoned borrowers.
Compensating balances reduce the effective cost of loans for the borrower because the deposit interest rate is typically greater than the loan rate.
Which of the following statements involving the promised return on a loan is NOT true? A. Compensating balances reduce the effective cost of loans for the borrower because the deposit interest rate is typically greater than the loan rate. B. Compensating balances represents the portion of the loan that must be kept on deposit at the bank. C. Increased collateral is a method of compensating for lending risk. D. Compensating balance requirements provide an additional source of return for the lending institution. E. Credit risk may be the most important factor affecting the return on a loan.
A DI sustains no cost under stored liquidity risk management.
Which of the following statements is NOT true? A. A DI sustains no cost under stored liquidity risk management. B. DIs hold cash reserves in excess of the minimum required to meet liquidity drains. C. When the DI uses its cash as the liquidity adjustment mechanism, both sides of its balance sheet contract. D. Traditionally DIs have stored cash reserves at the Federal Reserve and in their vaults to overcome liquidity risk. E. Stored liquidity management involves liquidation of assets.
The number of outstanding shares of a closed-ended fund may change when the issuing fund chooses to repurchase them.
Which of the following statements is true? A. Open-end funds need not stand ready to buy back previously issued shares from investors at the current market price for the fund's shares. B. The number of outstanding shares of a closed-ended fund may change when the issuing fund chooses to repurchase them. C. At a given market price, the supply of open-end fund shares is perfectly inelastic. D. Closed-end funds issue an unlimited number of shares as liabilities. E. Open-end funds supply limited number of shares to investors.
Duration gap measures the impact of changes in interest rates on the market value of equity.
Which of the following statements is true? A. The shorter the maturity of the FI's securities, the greater the FI's interest rate risk exposure. B. Duration gap measures the impact of changes in interest rates on the market value of equity. C. The duration of equity is equal to the duration of assets minus the duration of liabilities. D. The optimal duration gap is zero. E. The duration of all floating rate debt instruments is equal to the time to maturity.
Market risk.
Which term defines the risk related to the uncertainty of an FI's earnings on its trading portfolio caused by changes, and particularly extreme changes in market conditions? A. Default risk. B. Sovereign risk. C. Credit risk. D. Market risk. E. Interest rate risk.
Depository institutions.
Which type of financial intermediary is more highly exposed to liquidity risk? A. Property-casualty insurance companies. B. Depository institutions. C. Mutual funds. D. Life insurance companies. E. Pension funds.
Because it insulates the assets of an FI from normal drains on liability liquidity.
Why have purchased liquidity management techniques become very popular in spite of its limitations? A. Because funds can be easily raised in the eventuality of a liquidity crunch. B. Because the funds are covered by deposit insurance. C. Because of decrease in the cost of funds during periods of high interest rate volatility. D. Because the adjustment to the deposit drain occurs on the liability side of the balance sheet. E. Because it insulates the assets of an FI from normal drains on liability liquidity.