FIN 3604 Conceptual

(Interest rate swap problem #1, 2 of 4) Company X wants to borrow $10,000,000 floating for 5 years; Company Y wants to borrow $10,000,000 fixed for 5 years. Their external borrowing opportunities are shown below: Credit Rating Fixed-Rate Borrowing Cost Floating Rate Borrowing Cost Company X AA 10.5% LIBOR Company Y A 12.0% LIBOR+1% Assume a swap bank is quoting five-year dollar interest rate swaps at 10.7-10.8 percent against LIBOR flat.Therefore, the QSD in this swap is ________.

0.5% Explanation: (12%-10.5%) - (LIBOR+1%-LIBOR) = 0.5%

(Interest rate swap problem #1, 4 of 4) Company X wants to borrow $10,000,000 floating for 5 years; Company Y wants to borrow $10,000,000 fixed for 5 years. Their external borrowing opportunities are shown below: Credit Rating Fixed-Rate Borrowing Cost Floating Rate Borrowing Cost Company X AA 10.5% LIBOR Company Y A 12.0% LIBOR+1% Please match borrowers to their respective absolute and relative competitive advantages. 1. Absolute advantage 2. Comparative advantage in borrowing at a floating interest rate 3. Comparative advantage in borrowing at a fixed interest rate

1. Firm X 2. Firm Y 3. Firm X

Which of the following is a Benefits of the eurozone? A. All the statements are correct. B. Investors who reside in the eurozone can invest in stock in member countries without worrying about exchange rate risk. C. It encourages more long-term international trade arrangements between firms within the eurozone because they no longer have to worry about exposure to future foreign exchange movements. D. All consumers and businesses both inside and outside the eurozone enjoy price transparency and increased price-based competition.

A. All the statements are correct.

Which of the following statements regarding forward contracts is CORRECT? A. Both buyers and sellers of forward contracts face non-trivial counterparty risk. B. Forward contracts are mark-to-market daily. C. Buyers or sellers of forward contracts need to post margin at time zero (i.e., when they enter into the contract). D. In forwards market, a clearinghouse serves as a third party to all transactions. E. Forward contracts represent a right but not a contractual obligation to complete the transaction in the future.

A. Both buyers and sellers of forward contracts face non-trivial counterparty risk.

Company X and Company Y have mirror-image financing needs (they both want to borrow equivalent amounts for the same amount of time). Company X has a AAA credit rating, but company Y's credit standing is considerably lower. A. Company X should more readily agree to a swap involving Company Y if there is a swap bank providing credit risk intermediation. B. Since Company Y has a poor credit rating, it would not be a participant in the swap market. C. Company Y should play hard to get. D. Company Y should demand most of the QSD in any swap with Company X.

A. Company X should more readily agree to a swap involving Company Y if there is a swap bank providing credit risk intermediation.

Hong Kong has pegged its currency—Hong Kong dollar (HKD)—to the U.S. dollar since 1983. Which of the following highlights the downside of this FX arrangement? A. Due to the peg, Hong Kong has imported low interest rates that the U.S. Federal Reserve has implemented since the Great Recession (2008-2009), which has led to inflated prices in the real estate market. B. The peg resulted in the replacement of the local currency with the U.S. dollar. C. Because of the peg, Hong Kong can insulate itself and its companies from risk of currency volatilities. D. The peg has allowed Hong Kong firms to engage in direct foreign investment without currency risks. E. The peg has helped Hong Kong attract foreign investment because the exchange rate is stable.

A. Due to the peg, Hong Kong has imported low interest rates that the U.S. Federal Reserve has implemented since the Great Recession (2008-2009), which has led to inflated prices in the real estate market.

Which of the following graph is the payoff profile of a call option? A. Graph A B. Graph B graph 2

A. Graph A

Which of the following is the payoff profile of the buyer of a futures contract? A. Line A B. Line B

A. Line A

Which of the following is the payoff profile of the seller of a forward contract? A. Line B B. Line A graph 1

A. Line B

Which of the following is the payoff profile of the seller of a futures contract? A. Line B B. Line A graph 1

A. Line B

__________ is a trade with the objective to profit by trading on expectations about prices in the future, which is in contrast with ________ whose objective is to reduce risks. A. Speculation, hedging B. Hedging, speculation

A. Speculation, hedging

Basis risk in a swap refers to ______________________ .A. a situation in which the floating rates of the two counterparties are not pegged to the same index B. Exchange rates might move against the swap bank after it has only gotten half of a swap set up C. interest rate changing unfavorably before the swap bank can lay off to an opposing counterparty the other side of an interest rate swap entered into with a counterparty D. the probability that a country will impose exchange restrictions on a currency involved in a swap

A. a situation in which the floating rates of the two counterparties are not pegged to the same index

Special Drawing Rights (SDR) are _________________________ . A. all of the choices are correct B. used in addition to gold and foreign exchanges, to make international payments C. a "portfolio" of currencies, and its value tends to be more stable than the currencies that it is comprised of D. an artificial international reserve allotted to the members of the International Monetary Fund (IMF), who can then use it for transactions among themselves or with the IMF

A. all of the choices are correct

The advent of the euro marks the first time that sovereign countries have voluntarily given up their ____________ . A. monetary independence to foster economic integration B. fiscal policy independence to foster economic integration

A. monetary independence to foster economic integration

Suppose the quote for a five-year swap with semiannual payments is 2.11—2.22 percent in dollars and 3.60—4.80 percent in euro against six-month dollar LIBOR. The means _______________________. A. that both statements are correct B. the swap bank will enter into a currency swap in which it would pay semiannual fixed-rate dollar payments of 2.11 percent against receiving semiannual fixed-rate euro payments of 4.80. C. the swap bank will enter into a currency swap in which it would pay semiannual fixed-rate euro payments of 3.60 percent against receiving semiannual fixed-rate dollar payments of 2.22

A. that both statements are correct

With regard to a swap bank acting as a dealer in swap transactions, interest rate risk refers to ___________________. A. the risk that interest rates changing unfavorably before the swap bank can lay off to an opposing counterparty on the other side of an interest rate swap entered into with the first counterparty B. the risk that arises from the situation in which the floating-rates of the two counterparties are not pegged to the same index C. the risk the swap bank faces from fluctuating exchange rates during the time it takes for the bank to lay off a swap it undertakes with one counterparty with an opposing transaction D. the risk that a counterparty will default

A. the risk that interest rates changing unfavorably before the swap bank can lay off to an opposing counterparty on the other side of an interest rate swap entered into with the first counterparty

Suppose the quote for a five-year swap with semiannual payments is 2.50—2.60 percent in dollars against six-month dollar LIBOR. This means ___________________. A. the swap bank will pay semiannual fixed-rate dollar payments of 2.50 percent against receiving six-month dollar LIBOR B. the swap bank will pay semiannual fixed-rate dollar payments of 2.60 percent against receiving six-month dollar LIBOR

A. the swap bank will pay semiannual fixed-rate dollar payments of 2.50 percent against receiving six-month dollar LIBOR

For an American call option, B and A in the graph are ________________, respectively. A. time value and intrinsic value B. intrinsic value and time value graph 3

A. time value and intrinsic value

The current spot exchange rate is $1.55/€1 and the three-month forward rate is $1.50/€. You enter into a long position on €1,000. At maturity, the spot exchange rate is $1.60/€. How much have you made or lost? A. -$100 B. $100 C. -$50 D. $50

B. $100Explanation:€1000*$1.50=$1500€1000*$1.60=$1600You will receive $1500 instead of $1600, so there would be a loss of $1600-$1500=$100

(Interest rate swap problem #1, 3 of 4) Company X wants to borrow $10,000,000 floating for 5 years; Company Y wants to borrow $10,000,000 fixed for 5 years. Their external borrowing opportunities are shown below: Credit Rating Fixed-Rate Borrowing Cost Floating Rate Borrowing Cost Company X AA 10.5% LIBOR Company Y A 12.0% LIBOR+1% Assume a swap bank is quoting five-year dollar interest rate swaps at 10.7-10.8 percent against LIBOR flat. If Firm Y enters into this swap, what is the borrow cost of Firm Y? A. 9.8% B. 11.8% C. LIBOR+1% D. 12% E. 10.8%

B. 11.8% Explanation: (LIBOR+1%) +10.8% -LIBOR = 11.8%

In a currency swap, ________________________________ . A. it may be the possible that each firm enjoys a lower cost of funding B. All of the statements are correct C. it may be the case that firms have a comparative advantage in borrowing in their domestic markets D. it may be the case that two counterparties have equivalent credit ratings

B. All of the statements are correct

Which of the following facilitates a country to maintain a pegged FX arrangement? A. Consistent current account surpluses B. All of the statements are correct C. Favorable economic and political conditions D. Government's commitment to maintain the peg E. A large FX reserve

B. All of the statements are correct

Which of the following correctly explains the potential disadvantage of a freely floating exchange rate regime? A. A freely floating exchange rate may compound a country's inflationary problem. It is because if a country experiences high levels of inflation, its currency may weaken. Higher foreign prices may force domestic consumers to buy domestic products. Recognizing that their foreign competition has been reduced by the weak home currency, domestic producers may raise prices without fearing losing customers to foreign competition, compounding the country's inflationary problem. B. All the arguments are correct C. A freely floating exchange rate may compound a country's inflationary problem. It is because if a country experiences high levels of inflation, its currency may weaken. A weaker currency can cause import prices to rise, which can increase the prices of materials and supplies and subsequently the price of the finished goods, compounding the country's inflationary problem. D. A freely floating exchange rate regime may adversely affect a country that has high unemployment. It is because if the unemployment rate is high, the demand for import will decrease, putting appreciation pressure on the home currency. A stronger home currency will cause domestic consumers to purchase foreign, rather than domestic products, because the foreign products are now cheaper. This reaction of domestic consumers can be detrimental to a country during periods of high unemployment.

B. All the arguments are correct

A swap bank quotes 5-year swaps for AAA-rated firms at 7.0—7.2 percent in Euro against dollar LIBOR flat. This means ________________________. A. The bank stands ready to pay $7.2% against receiving dollar LIBOR on 5-year loans B. The bank stands ready to pay $7.0% against receiving dollar LIBOR on 5-year loans C. The bank stands ready to pay €7.0% against receiving dollar LIBOR on 5-year loans D. The bank stands ready to pay €7.2% against receiving dollar LIBOR on 5-year loans

C. The bank stands ready to pay €7.0% against receiving dollar LIBOR on 5-year loans

According to the famous Triffin paradox, if the Chinese government wants to fix the value of its currency, then _________________________. A. China can have an open economy (i.e., allowing free flow of capital) as long as its central bank can keep its inflation rate within a narrow band B. China can no longer have an open economy (i.e., allowing free flow of capital), if it also desires an interest rate policy that is free from outside influence C. All of the statements are correct D. China can have an open economy (i.e., allowing free flow of capital) as long as it is in control of its interest rate policy

B. China can no longer have an open economy (i.e., allowing free flow of capital), if it also desires an interest rate policy that is free from outside influence Explanation: The famous Triffin paradox states that no matter which policy regime it chooses, a central bank can never achieve all three of the following goals at the same time: Exchange rate stability, capital mobility, and monetary policy autonomy.

Which of the following statements if FALSE? A. Sellers (buyers) of currency futures can close out their positions by buying (selling) identical futures contracts prior to settlement. B. Currency futures is a non-binding contract that locks in for a future trade in FX at a specified exchange rate. C. Most currency futures contracts are closed out before the settlement date. D. The price of currency futures will be similar to the forward rate. E. Currency futures are often sold by speculators who expect that the spot rate of a currency will be less than the rate at which they would be obligated to sell it.

B. Currency futures is a non-binding contract that locks in for a future trade in FX at a specified exchange rate.

A European option is different from an American option in that _____________. A. one is traded in Europe and one in traded in the United States B. European options can only be exercised at maturity; American options can be exercised prior to maturity C. European options tend to be worth more than American options, ceteris paribus

B. European options can only be exercised at maturity; American options can be exercised prior to maturity

Which of the following properties DOES NOT explain why gold has served such an important role as international means of payments? A. The supply of gold is very limited. B. Gold is very heavy. C. Gold has non-monetary value. D. Gold is stable, perfectly divisible, and maintains its value when divided. E. Gold does not spoil or devalue over time.

B. Gold is very heavy.

Which of the following statements is FALSE? A. A put option on $15,000 with a strike price of €10,000 is the same thing as a call option on €10,000 with a strike price of $15,000. B. In-the-money options are more expensive, the less in-the-money they are. C. American call and put premiums should be at least as large as their intrinsic value. D. For American options, the intrinsic value is the difference between the time value and the market value. E. Speculators who expect a currency to appreciate should purchase call options on that currency.

B. In-the-money options are more expensive, the less in-the-money they are.

Which of the following is the payoff profile of the buyer of a forward contract? A. Line B B. Line A (graph 1)

B. Line A

Assume you are the buyer of a put option on €10,000. The option premium is $0.25 per €. The exercise price is $1.125 per €. Should you exercise the put option if the current market price is $1.50 per €? A. Yes B. No

B. No Explanation: You should let the put option expire because the option is out of the money (S>X)

Assume a spot price of 112.01, which of the following American call options is in of the money? Exercise price Call premium Option 1 111 1.83 Option 2 113 0.76 A. Option 2 B. Option 1

B. Option 1

Assume a spot price of 112.01, which of the following American put options is out of the money? Exercise price Call premium Option 1 111 0.66 Option 2 113 1.57 A. Option 2 B. Option 1

B. Option 1

Assume a spot price of 112.01, which of the following American call options is out of the money? Exercise price Call premium Option 1 111 1.83 Option 2 113 0.76 A. Option 1 B. Option 2

B. Option 2

The majority of countries got off the gold standard in 1914 when ______________ . A. World War II started B. World War I broke out C. the American Civil War ended

B. World War I broke out

Assume you are the holder of a call option on €10,000. The option premium is $0.25 per €. The exercise price is $1.125 per €. Should you exercise the call option if the current market price is $1.50 per €? A. No B. Yes

B. Yes Explanation: As the holder of the call option, the option is in the money (S>X)

Consider the dollar- and euro-based borrowing opportunities of companies A and B. A is a U.S.-based MNC with AAA credit; B is an Italian firm with AAA credit. Firm A wants to borrow €1,000,000 for one year and B wants to borrow $2,000,000 for one year. The spot exchange rate is $2.00 = €1.00 and the one-year forward rate is given by IRP as $2.0377/€1. Is there a mutually beneficial swap?Euro borrowing USD borrowingCompany A €7% $8%Company B €6% $9% A. No, QSD = 0 B. Yes, QSD = 2% = (7% - 6%) - (8% - 9%) = 1% - (-1%) C. Yes, QSD = [€7% - €6%] × $2.00/€1.00 - ($8% - $9%) = $2% + $1% = $3%

B. Yes, QSD = 2% = (7% - 6%) - (8% - 9%) = 1% - (-1%)

Suppose the quote for a five-year swap with semiannual payments is 8.50—8.60 percent in dollar against dollar LIBOR (London Interbank Offered Rate) flat. It means ________________________ .A. the swap bank will pay semiannual fixed-rate dollar payments of 8.60 percent against receiving six-month dollar LIBOR B. if the swap bank is successful in getting counterparties to both legs of the swap at these prices, the bank will have an annual profit of ten basis points C. the swap bank will receive semiannual fixed-rate dollar payments of 8.50 percent against paying six-month dollar LIBOR D. The swap bank stands ready to pay 8.60 percent against receiving dollar LIBOR on five-year loans

B. if the swap bank is successful in getting counterparties to both legs of the swap at these prices, the bank will have an annual profit of ten basis points Explanation: Key: The swap bank will pay semiannual fixed-rate dollar payments of 8.50 percent against receiving six-month dollar LIBOR. The swap bank will receive semiannual fixed-rate dollar payments of 8.60 percent against paying six-month dollar LIBOR

Assume a FX trader agreed to sell £1,000,000 30-day forward@$1.118/£. Further assume S0 = $1.112/£ and S30-day = $1.120/£. The trader ___________ . A. lost $6,000 by engaging in this FX trade B. lost $2,000 by engaging in this FX trade C. gained £2,000 by engaging in this FX trade D. $2,000 by engaging in this FX trade

B. lost $2,000 by engaging in this FX tradeExplanation: ($1.118/£-$1.120/£)*£1,000,000=-$2000

Under the Bretton Woods system, ______________________. A. all currencies of member states were fully convertible to gold B. the U.S. dollar was the only currency that was fully convertible to gold; other currencies were not directly convertible to gold C. all currencies of member states were fully convertible to gold or silver

B. the U.S. dollar was the only currency that was fully convertible to gold; other currencies were not directly convertible to gold

Suppose the quote for a five-year swap with semiannual payments is 8.50—8.60 percent in dollars and 6.60—6.80 percent in euro against six-month dollar LIBOR. The means _______________________. A. if the swap bank is successful in getting counterparties to both legs of the swap at these prices, the bank will have an annual profit of ten basis point B. the swap bank will enter into a currency swap in which it would pay semiannual fixed-rate dollar payments of 8.50 percent against receiving semiannual fixed-rate euro payments of 6.80 C. the swap bank will enter into a currency swap in which it would pay semiannual fixed-rate dollar payments of 8.50 percent against receiving semiannual fixed-rate euro payments of 6.60 D. the swap bank will enter into an interest rate swap in which it would pay semiannual fixed-rate euro payments of 6.60 percent against receiving semiannual fixed-rate dollar payments of 8.60

B. the swap bank will enter into a currency swap in which it would pay semiannual fixed-rate dollar payments of 8.50 percent against receiving semiannual fixed-rate euro payments of 6.80

Because of their _______, American call and put premium should be at least at large as their _______________ . A. intrinsic value, time value B. time value, intrinsic value

B. time value, intrinsic value

For the same maturity, we should have __________. A. value of at-the-money options > value of in-the-money options > value of out-of-money options B. value of in-the-money options > value of at-the-money options > value of out-of-money options C. value of out-of-money options > value of at-the-money options > value of in-the-money options

B. value of in-the-money options > value of at-the-money options > value of out-of-money options

(Interest rate swap problem #1, 4 of 4) Company X wants to borrow $10,000,000 floating for 5 years; Company Y wants to borrow $10,000,000 fixed for 5 years. Their external borrowing opportunities are shown below: Credit Rating Fixed-Rate Borrowing Cost Floating Rate Borrowing Cost Company X AA 10.5% LIBOR Company Y A 12.0% LIBOR+1% Assume a swap bank is quoting five-year dollar interest rate swaps at 10.7-10.8 percent against LIBOR flat, the swap bank would have made a profit of ___________. A. $100,000 B. $1,000 C. $10,000 D. $0

C. $10,000 Explanation: $10,000,000*(-10.7%+10.8%) = $10,000

Because forward contract is tailored made, one main benefit of forward contract is _____. A. high liquidity B. 100% elimination of counterparty risk C. 100% elimination of price risk

C. 100% elimination of price risk

Which of the following is FALSE? A. The primary reason for a counterparty to use a currency swap is to obtain debt financing in the swapped currency at an interest cost reduction brought about through comparative advantages each counterparty has in its national capital market. B. The swap market offers price discovery to market participants. C. At the inception of an interest-only interest rate swap, the equivalent principal amounts are exchanged at the spot rate. D. As a broker, the swap bank matches counterparties but does not assume any of the risks of the swap. E. All types of debt instruments are not regularly available for all borrowers. Swaps assist in tailoring financing to the type desired by a particular borrower.

C. At the inception of an interest-only interest rate swap, the equivalent principal amounts are exchanged at the spot rate. Explanation: At the inception of the currency swap, the equivalent principal amounts are exchanged at the spot rate. In interest-only interest rate swaps, principal does not actually change hands, hence the term notional or theoretical principal. Notional principal is used only as a reference measure to determine interest payments

Which of the following is a COST of the eurozone? A. It encourages more long-term international trade arrangements between firms within the eurozone because they no longer have to worry about exposure to future foreign exchange movements. B. Investors who reside in the eurozone can invest in euro-denominated bonds issued by foreign governments and firms who are eurozone countries without worrying about the exchange rate risk C. Loss of national monetary autonomy D All consumers and businesses both inside and outside the eurozone enjoy price transparency and increased price-based competition. E. Investors who reside in the eurozone can invest in stock in member countries without worrying about exchange rate risk. C. Loss of national monetary autonomy

C. Loss of national monetary autonomy

Which of the following statement is FALSE? A. Dollarization (i.e., replacing the local currency with U.S. dollar) is a step further beyond the currency board because it forces the local currency to be replaced with the U.S. dollar. B. It is difficult to maintain the peg when a country experiences major political or economic problems. C. Most large developed countries such as the United States, the United Kingdom, Australia, Canada, and Japan combine government intervention with market forces to set exchange rates. D. The interest rates of pegged currency will move in tandem. In other words, if Country A's currency is pegged to Country B's, when Country B raises its interest rate, Country A will also raise its interest rate. E. A free-floating FX regime does not require central bank to maintain exchange rates within specified boundaries.

C. Most large developed countries such as the United States, the United Kingdom, Australia, Canada, and Japan combine government intervention with market forces to set exchange rates.

Which of the following statements is FALSE? A. Japanese Yen as a haven asset will depreciate if global economic indicators are strong and investors are optimistic about the capital markets. B. Monetary policies (e.g., cutting interest rates) have less simulative effect on the economy when interest rates are close to zero (i.e., zero-bound interest rate) because it is difficult for financial institutions to pass on negative interest rates to consumers. C. The favored currencies for cross-currency basis-swaps are the U.S. dollar, Chinese RMB, and Korean won. D. Inverted yield curves occur when short-term debt instruments have a higher interest rate than long-term debt instruments. E. When two firms both have better name recognition in their home countries than in the other's country where they are trying to raise funds, they may utilize a currency swap to take advantage of their comparative advantage.

C. The favored currencies for cross-currency basis-swaps are the U.S. dollar, Chinese RMB, and Korean won.Explanation: The favored currencies for cross-currency basis-swaps are the U.S. dollar, Euro, and Japanese yen.

(Interest swap problem #2, 4 of 4) Company X wants to borrow $10,000,000 floating for 5 years; company Y wants to borrow $10,000,000 fixed for 5 years. Their external borrowing opportunities are given below. A swap bank proposes the following interest only swap: X will pay the swap bank annual payments on $10,000,000 with the coupon rate of LIBOR - 0.15%; in exchange the swap bank will pay to company X interest payments on $10,000,000 at a fixed rate of 9.90%. Y will pay the swap bank interest payments on $10,000,000 at a fixed rate of 10.30% and the swap bank will pay Y annual payments on $10,000,000 with the coupon rate of LIBOR - 0.15%. What is the value of this swap to the swap bank? A. The swap bank will lose money on the deal. B. The swap bank will break even. C. The swap bank will earn 40 basis points per year on $10,000,000 = $40,000 per year.

C. The swap bank will earn 40 basis points per year on $10,000,000 = $40,000 per year. Explanation: 10.3%-9.9%=0.4%, which is 40 basis points

A call option to buy £10,000 at a strike price of $1.80 = £1.00 is equivalent to ___________________________ . A. a put option on £10,000 at a strike price of $1.80 = £1.00 B. a call option on $18,000 at a strike price of $1.80 = £1.00 C. a put option to sell $18,000 at a strike price of $1.80 = £1.00

C. a put option to sell $18,000 at a strike price of $1.80 = £1.00

A __________ is an agreement in which two parties exchange the principal amount of a loan and the interest in one currency for the principal and interest in another currency A. currency future B. currency option C. currency swap D. currency forward

C. currency swap

One potential drawback of the gold standard is ________________ . A. gold has important industrial use such as the manufacture of electronics B. gold is scarce C. the world economy can be subject to deflationary pressure due to the limited supply of monetary gold D. the world economy can be subject to inflationary pressure without changes in the supply of monetary gold E. gold as a metal is stable, portable, non-toxic, and malleable

C. the world economy can be subject to deflationary pressure due to the limited supply of monetary gold

With any hedge ___________________________________________. A. you should spend at least as much time working the hedge as working the underlying deal itself B. you should agree to anything your banker puts in front of your face C. your losses on one side should about equal your gains on the other side D. you should try to make money on both sides of the transaction so that way you make money coming and going

C. your losses on one side should about equal your gains on the other side

Which company has the absolute comparative advantage in borrowing in this example?Company A Company B

Company A

According to the famous Triffin paradox, if the U.S.' government wants to have a free-floating exchange rate, then _________________________. A. the United States can still have fiscal and monetary policy independence B. the United States can still allow capital to flow freely across its border C. the United States has to accept FX volatility D All of the statements are correct

D All of the statements are correct Explanation: The famous Triffin paradox states that no matter which policy regime it chooses, a central bank can never achieve all three of the following goals at the same time: Exchange rate stability, capital mobility, and monetary policy autonomy.

The current spot exchange rate is $1.55/€1.00 and the three-month forward rate is $1.60/€1.00. Consider a three-month American call option on €62,500 with a strike price of $1.50/€1.00. If you pay an option premium of $5,000 to buy this call, at what exchange rate will you break-even? A. $1.50/€1.00 B. $1.62/€1.00 C. $1.68/€1.00 D. $1.58/€1.00

D. $1.58/€1.00 Explanation: $5,000=(S-$1.50/€)*€62,500$0.08=S-$1.50/€S=$1.58/€

The international monetary system went through several distinct stages of evolution. These stages are summarized, in alphabetic order, as follows: (i) - Bimetallism (ii) - Bretton Woods system (iii) - Classical gold standard (iv) - Flexible exchange rate regime( v) - Interwar period A. (iii), (i), (iv), (ii), and (v) B. (iii), (i), (iii), (ii), (v), and (iv) C. (ii), (iii), (i), (v), and (iv) D. (i), (iii), (v), (ii), and (iv) E. (vi), (i), (iii), (ii), and (v)

D. (i), (iii), (v), (ii), and (iv)

(Interest swap problem #2, 1 of 4) Use the following information to calculate the quality spread differential (QSD). Fixed-rate borrowing cost. Floating-rate borrowing cost Company X 10% LIBOR Company Y 12% LIBOR+1.5% A. 1.00% B. 1.50% C. 2.00% D. 0.50%

D. 0.50% Explanation: Quality Spread Differential (QSD) = (12% − 10%) − (LIBOR + 1.5% − LIBOR) = 0.50%

Which of the following statements regarding futures contracts is CORRECT? A. More than 90 percent of the futures contracts result in the actual delivery of the underlying asset. B. Futures face higher counterpart risk than forwards. C. Compared to forwards, futures are less liquid and are traded on OTC rather than on exchanges. D. A futures contract is a standardized contract between two parities to buy or sell an asset at a specified price on a future date. E. Futures contracts are tailor made in terms of contract size and delivery date by an international bank for its clients.

D. A futures contract is a standardized contract between two parities to buy or sell an asset at a specified price on a future date.

(Interest swap problem #2, 2 of 4) Company X wants to borrow $10,000,000 floating for 5 years; company Y wants to borrow $10,000,000 fixed for 5 years. Their external borrowing opportunities are given below. A swap bank proposes the following interest only swap: Y will pay the swap bank annual payments on $10,000,000 with a fixed rate of rate of 9.90% in exchange the swap bank will pay to company Y interest payments on $10,000,000 at LIBOR - 0.15%. What is the value of this swap to company X? Fixed-rate borrowing cost Floating-rate borrowing cost Company X 10% LIBOR Company Y 12% LIBOR+1.5% A. Company X will only break even on the deal. B. Company X will lose money on the deal. C. Company X will save 25 basis points per year on $10,000,000 = $25,000 per year. D. Company X will save 5 basis points per year on $10,000,000 = $5,000 per year.

D. Company X will save 5 basis points per year on $10,000,000 = $5,000 per year. Explanation: Company X borrowing costs if engaging in the swap: 10% + (LIBOR − 0.15%) − 9.9% = LIBOR − 0.05%. Compared to the borrowing cost of LIBOR without swap, Company X saves 0.05%, which is 5 basis points.

(Interest swap problem #2, 3 of 4) Company X wants to borrow $10,000,000 floating for 5 years; company Y wants to borrow $10,000,000 fixed for 5 years. Their external borrowing opportunities are given below. A swap bank proposes the following interest only swap: Y will pay the swap bank annual payments on $10,000,000 with a fixed rate of rate of 9.90% in exchange the swap bank will pay to company Y interest payments on $10,000,000 at LIBOR - 0.15%. What is the value of this swap to company Y? Fixed-rate borrowing cost Floating-rate borrowing costCompany X 10% LIBOR Company Y 12% LIBOR+1.5% A. Company Y will save 5 basis points per year on $10,000,000 = $5,000 per year. B. Company Y will save 15 basis points per year on $10,000,000 = $15,000 per year. C. Company Y will only break even on the deal. D. Company Y will save 45 basis points per year on $10,000,000 = $45,000 per year.

D. Company Y will save 45 basis points per year on $10,000,000 = $45,000 per year. Explanation: Company Y borrowing costs if engaging in the swap: 9.9% − (LIBOR − 0.15%) + LIBOR + 1.5% = 11.55%. Compared to the borrowing cost of LIBOR without swap, Company Y saves 45% basis points, 12% − 11.55% = 0.45%, or 45 basis points.

Which of the following currencies is part of the IMF's Special Drawing Right Basket? A. Euro, Japanese Yen, US dollar B. Euro, Japanese Yen, US dollar, British pound C. Euro, Japanese Yen, US dollar, Canadian dollar D. Euro, Japanese Yen, US dollar, British pound, Chinese RMB

D. Euro, Japanese Yen, US dollar, British pound, Chinese RMB Explanation: In 1969, the IMF created an artificial international reserve asset, Special Drawing Rights (SDR), to partially alleviate the pressure on the dollar as the central reserve currency

Which of the following is a BENEFIT of the eurozone? A. Investors who reside in the eurozone can invest in stock in member countries without worrying about exchange rate risk. B. Firms in the eurozone may face more competition because their prices can be measured against the prices of all other firms in the same industry within the eurozone, not just within their own country. C. Member countries must coordinate monetary and foreign exchange policies. D. Firms can engage in international trade within the eurozone without incurring foreign exchange transaction costs. E. A monetary policy used in the eurozone during a particular period may enhance conditions in some countries but adversely affect others. F. The European Central Bank (ECB) sets the interest rate for all member countries.

D. Firms can engage in international trade within the eurozone without incurring foreign exchange transaction costs.

A swap bank has identified two companies with mirror-image financing needs (they both want to borrow equivalent amounts for the same amount of time.) Company X has agreed to one leg of the swap but company Y is "playing hard to get." A. The swap bank should take time and find another company that has mirror image financing needs of Company X. B. Company X should lobby Y to "get on board." C. Company Y should calculate the quality spread differential (QSD) and subtract that from their best outside offer. D. If the swap bank has already contracted one leg of the swap, they should be anxious to offer better terms to company Y to just get the deal done.

D. If the swap bank has already contracted one leg of the swap, they should be anxious to offer better terms to company Y to just get the deal done.

Which of the following statement is INCORRECT? A. Put options give the holder the right, but not the obligation, to sell a given quantity of an asset at some time in the future at a price agreed upon today. B. Derivatives are so named because their values are derived from underlying assets.C. Stock can be viewed as an option with zero exercise price. D. The buyer of an option is referred to as the writer of the option. E. Speculation is a trade with the objective to profit by trading on expectations about prices in the future.

D. The buyer of an option is referred to as the writer of the option.

Under a purely flexible exchange rate system, _______________________________________ . A. the central bank can reset a fixed exchange rate by devaluing or reducing the value of the currency against other currencies B. governments can set the exchange rate by restricting capital flow C. governments can set exchange rates with fiscal policy D. supply and demand set the exchange rates

D. supply and demand set the exchange rates

A major risk faced by a swap dealer is mismatch risk. This is ____________________. A. the probability that a country will impose exchange restrictions on a currency involved in a swap B. the probability that both counterparties default C. the probability that floating rates and exchange rates will NOT move together D. the difficulty in finding a second counterparty for a swap that the bank has agreed to take with another party

D. the difficulty in finding a second counterparty for a swap that the bank has agreed to take with another party

The current spot exchange rate is $1.55/€1.00 and the three-month forward rate is $1.60/€1.00. Consider a three-month American put option on €25,000 with a strike price of $1.50/€1.00. If you pay an option premium of $1,200 to buy this option, at what exchange rate will you break-even? A. $1.648/€1.00 B. $1.640/€1.00 C. $1.502 /€1.00 D. None of answers is correct E. $1.452/€1.00

E. $1.452/€1.00 Explanation: P=(X-S)$1,200=($1.50/€-S)*€25,00$0.048/€=($1.50/€-S)S=$1.452/€

Which of the following statements is FALSE? A. The Bretton Woods system failed because the supply of the U.S. dollar as not sufficient to support the growth in global trade and the related financial transactions. B. Under the Bretton Woods system, each country had to have a monetary policy that kept the exchange rate of its currency within a fixed value—plus or minus one percent—in terms of gold. C. Under the Bretton Woods system, the U.S. dollar was the only currency that was full convertible to gold because after WWII, the United States held three-fourths of the world's supply of gold. No other countries had enough gold to back its currency. D. The Bretton Woods agreement of 1944 replaced the gold standard with the U.S. dollar as the global currency.E. The Bretton Woods system created the World Bank to enforce the agreement and serve the function of the global central bank from which member countries can borrow. E. The Bretton Woods system created the World Bank to enforce the agreement and serve the function of the global central bank from which member countries can borrow.Explanation: the Bretton Woods system created the International Monetary Fund to enforce the agreement and serve the function of the global central bank.

E. The Bretton Woods system created the World Bank to enforce the agreement and serve the function of the global central bank from which member countries can borrow. Explanation: the Bretton Woods system created the International Monetary Fund to enforce the agreement and serve the function of the global central bank.

With regard to the current exchange rate arrangement between the U.S. and the U.K., it is best characterized as _____________ . A. crawling peg B. currency board C. pegged exchange rate within a horizontal band D. managed float E. independent floating (market determined)

E. independent floating (market determined)

During the period of the classical gold standard, there were ___________________ . A. moderately volatile exchange rates B. no exchange rates C. highly volatile exchange rates D. volatile exchange rates E. stable exchange rates

E. stable exchange rates

Consider the dollar- and euro-based borrowing opportunities of Firm A and B. Firm A is a U.S.-based MNC with AAA credit. Firm A can borrow in Italy at 7% or in the US at 8%. Firm B is an Italian firm with AAA credit. Firm B can borrow in Italy at 6% or in the US at 9%. Firm A wants to borrow €1,000,000 for one year and B wants to borrow $2,000,000 for one year. The spot exchange rate is $2.00 = €1.00 and the one-year forward rate is given by IRP as $2.0377/€1 given that the interest rate in the U.S. is 8% and the interest rate in Italy is 6% ($2.001.08/€1.001.06 = $2.0377/€1). Suppose they agree to the swap shown below. Is this mutually beneficial swap equally fair to both parties?https://drive.google.com/file/d/1eRQsvjYPy3TUJ5cfZLdZhdBbAktXxyEc/view?usp=drivesdk A. No, company A borrows at 6% in euro but company B borrows at 8% in dollar B. Yes, A can be better off by 1% on €1 million; B by 1% on $2 million C. Yes, QSD = [€7% - €6% × $2.00/€1.00 - ($8% - $9%) = $2% + $1% = $3%

Explanation:Euro USD QSDborrowing borrowing (saving to be sharedvia swaps)Company A €7% $8% Company B €6% $9% Relative 7%-6%=1% 8%-9%=-1% 1%-(-1%)=2% borrowing advantage Observe the arrow of €6% going away from A to B, which suggests that A is paying interesting payments to B at €6% instead of €7%. Therefore, by entering into the swap, A can be better off by 1% on €1 million.Similarly, observe the arrow of $8% going away from B to A, which suggests that B is paying interesting payments to A at $8% instead of $9%. Therefore, by entering into the swap, B can be better off by 1% on $2 million.