FNAN 321 Chapter 8-12, 15, and 16

Consider a mutual fund with 100 shareholders who each invested $10 for a total of $1,000. If the assets of the mutual fund are worth $900, what is the net asset value for each one of the mutual fund shares? A. $9. B. $90. C. $0.10. D. $10. E. $0.9.

A. $9. Mutual fund share price = Net Asset Value/Number of mutual fund shares NAV per share = $900/100 = $9.00

Consider a six-year maturity, $100,000 face value bond that pays a 5 percent fixed coupon annually. What is the price of the bond if market interest rates are 6 percent? A. $95,082.68. B. $95,769.55. C. $95,023.00. D. $100,000.00. E. $96,557.87.

A. $95,082.68. Use TI-84 FV = 100,000 I = 6 N = 6 PMT = 5,000

A $1,000 six-year Eurobond has an 8 percent coupon, is selling at par, and contracts to make annual payments of interest. The duration of this bond is 4.99 years. What will be the new price using the duration model if interest rates increase to 8.5 percent? A. $976.90. B. -$23.10. C. $977.23. D. $23.10. E. $1,023.10.

A. $976.90. 4.99 / 1.08 = 4.62 $4.62 x 1000 = 4620 4620 X .005 = 23.10 $1000- 23.10 = $976.90

If interest rates increase 75 basis points for an FI that has a gap of -$15 million, the expected change in net interest income is A. -$112,500. B. +$1,125,0000. C. +$112,500. D. -$150,000. E. -$1,125,0000.

A. -$112,500. ∆NII = (CGAP) × ∆R∆NII - $112,500 = (- $15,000,000) × (+ 0.0075)

Commercial bank call reports are provided by banks to the Federal Reserve and are useful in determining the proportion of loans in different classifications for the entire banking system. A. True B. False

A. True

Kansas Bank has a policy of limiting their loans to any single customer so that the maximum loss as a percent of capital will not exceed 20 percent for both secured and unsecured loans. The limit has been adopted under the assumption that if the unsecured loan is defaulted, there will be no recovery of interest or principal payments. For loans that are secured (collateralized), it is expected that 40 percent of interest and principal will be collected. What is the concentration limit (as a % of capital) for secured loans made by this bank? A. 33 percent. B. 50 percent. C. 20 percent. D. 10 percent. E. 40 percent.

A. 33 percent. Concentration limit = Maximum loss as a percent of capital × (1 ÷ Loss rate) CL = 0.20 × (1 ÷ 0.60) = 0.3333 or 33 percent Note that recovery rate for secured loans is 40% therefore the loss rate is 60%

The mean change in the value of a portfolio of trading assets has been estimated to be 0 with a standard deviation of 20 percent. Yield changes are assumed to be normally distributed. What is the maximum yield change expected if a 95 percent confidence (one-tailed) limit is used? A. 39.2%. B. 20.0%. C. 33.0%. D. 46.6%. E. 3.30%.

A. 39.2%. IDK 95% confidence interval (2.5% under each tail) is (0 ± 1.96 × σ) Maximum yield change expected (potential adverse move) = (0 ± 1.96 × 0.20) = 0 ±0.392

Using a modified discriminant function similar to Altman's, Burger Bank estimates the following coefficients for its portfolio of loans Z = 1.4X1 + 1.09X2 + 1.5X3 where X1 = debt to asset ratio; X2 = net income and X3 = dividend payout ratio. Using Z = 1.682 as the cut-off rate, what should be the debt to asset ratio of the firm in order for the bank to approve the loan? A. 46.5 percent. B. 65.0 percent. C. 54.0 percent. D. 40.0 percent. E. 51.5 percent.

A. 46.5 percent.

The duration of a soon to be approved loan of $10 million is four years. The 99th percentile increase in risk premium for bonds belonging to the same risk category of the loan has been estimated to be 5.5 percent. What is the estimated risk-adjusted return on capital (RAROC) of this loan. A. 7.13 percent. B. 10.55 percent. C. 7.00 percent. D. 6.36 percent. E. 25.45 percent.

A. 7.13 percent.

Why does immunization against interest rate shocks using duration for fixed-income securities work? A. Because the gains or losses on reinvested cash flows that result from an interest rate change are exactly offset by losses or gains from the security when it is sold. B. Because cash flows that result from the security are not reinvested so they are not affected by interest rate changes in the same way as the security's gain or loss when it is sold. C. It doesn't work because perfect immunization is impossible to accomplish. D. Because the fixed-income security gravitates toward its maturity value as it approaches its maximum duration. E. Because interest rate changes are relatively predictable.

A. Because the gains or losses on reinvested cash flows that result from an interest rate change are exactly offset by losses or gains from the security when it is sold.

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. Credit risk may be the most important factor affecting the return on a loan. 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. Compensating balances represents the portion of the loan that must be kept on deposit at the bank.

A. 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 is true of the market price of a futures contract over time? A. It changes based on the market value of the underlying asset. B. It is based on supply and demand. C. It is set at time 0. D. It is fixed over the life of the contract. E. It decreases with time to expiration.

A. It changes based on the market value of the underlying asset.

Of the following, which financial intermediary is least likely to be exposed to liquidity risk? A. Mutual funds B. Life insurance companies C. Property-casualty insurance companies D. Depository institutions E. All are equally exposed to liquidity risk

A. Mutual funds

The use of expected shortfall (ES) to measure market risk of a portfolio assumes which of the following? A. That changes in asset prices are normally distributed but with fat tails. B. There is a very small sample size (<30 observations) used to estimate probability distributions. C. That the probability distribution is skewed to the right. D. That the probability distribution is skewed to the left. E. That changes in asset prices follow a standard normal probability distribution.

A. That changes in asset prices are normally distributed but with fat tails.

What is spread effect? A. The effect that a change in the spread between rates on RSAs and RSLs has on net interest income as interest rates change. B. The effect of mismatch of asset and liabilities within a maturity bucket. C. Periodic cash flow of interest and principal amortization payments on long-term assets that can be reinvested at market rates. D. The value of an FI to its owners. E. The premium paid to compensate for the future uncertainty in a security's value.

A. The effect that a change in the spread between rates on RSAs and RSLs has on net interest income as interest rates change.

Which theory of term structure states that long-term rates are equal to the geometric average of current and expected short-term rates plus a risk premium that increases with the maturity of the security? A. The liquidity premium theory. B. The loanable funds theory. C. The market segmentation theory. D. The unbiased expectations theory. E. None of the options.

A. The liquidity premium theory.

A major difficulty in estimating RAROC for a loan is the measurement of individual loan risk. A. True B. False

A. True

A net deposit drain is the amount by which cash withdrawals exceed additions; a net cash outflow. A. True B. False

A. True

As compared to the BIS standardized framework model for measuring market risk, the internal models allowed by the large banks are subject to audit by the regulators. A. True B. False

A. True

Basel III proposes the partial risk factor approach to measuring capital that must be kept against a trading book as a revised standardized approach that FIs may use rather than internal models to measure market risk. A. True B. False

A. True

Comparing the loan mix of an individual FI to a national benchmark loan mix is useful in determining the extent that the individual FI may differ from an efficient portfolio composition. A. True B. False

A. True

Daily price volatility of a bond can be estimated by multiplying the bond's modified duration by the adverse daily yield move. A. True B. False

A. True

Depository institutions generally rely on each other for cash and to meet their daily liquidity needs. A. True B. False

A. True

In many ways, standby letters of credit (SLCs) perform similar functions for a borrower as do loan commitments. A. True B. False

A. True

Investing in a zero-coupon asset with a maturity equal to the desired investment horizon removes interest rate risk from the investment management process. A. True B. False

A. True

Liquidity planning primarily is designed to assist management in dealing with relatively predictable events. A. True B. False

A. True

Managing asset-side liquidity risk can involve either purchased liquidity management or stored liquidity management. A. True B. False

A. True

Monte-Carlo simulation is a process of creating asset returns based on actual trading days so that the probabilities of occurrence are consistent with recent historical experience. A. True B. False

A. True

Most portfolio managers will accept some level of risk above the minimum risk portfolio if they expect to receive higher returns. A. True B. False

A. True

Price volatility is the price sensitivity of a trading position times the potential adverse move in yield. A. True B. False

A. True

Settlement risk on wire transfers involves intraday credit risk. A. True B. False

A. True

Surrender value is the amount of cash a life insurance policy holder can receive by turning in the policy before it expires or matures. A. True B. False

A. True

The Expected Shortfall (ES) is a measure of market risk that estimates the expected losses beyond a given confidence level. A. True B. False

A. True

The Volcker Rule reduces the specialness of banks in maturity intermediation by effectively forcing DIs to hold a matched maturity book. A. True B. False

A. True

The expected return of a portfolio of loans is equal to the weighted average of the expected returns of the individual loans. A. True B. False

A. True

The immunization of a portfolio against interest rate risk means that the portfolio will neither gain nor lose value when interest rates change. A. True B. False

A. True

The maturity model of measuring interest rate risk was a first attempt to include the impact on profitability of interest rate changes A. True B. False

A. True

The partial risk factor approach incorporates the return correlations between assets held in the trading portfolio. A. True B. False

A. True

The probability that a borrower would default in any specific time period is the marginal default probability. A. True B. False

A. True

To avoid being exposed to dramatic declines in borrower creditworthiness over the commitment period, most FIs include an adverse material change in conditions clause by which the FI can cancel or reprice a loan commitment. A. True B. False

A. True

When computing the liquidity coverage ratio, high-quality liquid assets (HQLAs) are divided into two levels. A. True B. False

A. True

When-issued trading involves the commitment to buy and sell securities before they are issued. A. True B. False

A. True

The delta of an option is A. a measure of the option's price volatility. B. equal to the option premium. C. calculated by multiplying the change in the price of the underlying security by the change in the option's price. D. calculated by dividing the price of the underlying security by the change in the option's price. E. usually negative.

A. a measure of the option's price volatility.

Up-front fees on loan commitments are charged as a certain percentage of A. commitment size. B. loan taken down. C. utilized portion of commitment size. D. interest payable on the loan commitment. E. unused portion of commitment size.

A. commitment size.

In 1994, The Federal Reserve Board ruled against a proposal to use quantitative models to assess credit concentration risk because A. current methods to identify concentration risk were not sufficiently advanced. B. there was sufficient information on commercial loan defaults for banks to perform in-house analysis. C. there was no public data on default rates on publicly traded bonds. D. problems related to credit concentration risk have been minimal for U.S. banks. E. there was already a law that requires banks to set aside capital to compensate for credit concentration risk.

A. current methods to identify concentration risk were not sufficiently advanced.

If a future credit crunch is possible, a loan commitment may expose the FI to A. funding risk. B. interest rate risk. C. sovereign country risk. D. credit risk. E. exchange rate risk.

A. funding risk.

If an FI's repricing gap is less than zero, then A. its liability costs are less sensitive to changing market interest rates than are its asset yields. B. it is deficient in its capital ratio requirement. C. it is deficient in its required reserves. D. its liability costs are more sensitive to changing market interest rates than are its asset yields. E. the duration of the FI's liabilities exceeds the duration of FI's assets.

A. its liability costs are less sensitive to changing market interest rates than are its asset yields.

The surrender value of an insurance policy is A. normally a portion of the contract's face value. B. its value upon bankruptcy. C. its holdup value. D. its promised payoff. E. the value of the junk bonds in the insurance company's portfolio.

A. normally a portion of the contract's face value.

Revolving loans are credit lines A. on which a borrower can both draw and repay many times over the life of the loan contract. B. that specify a maximum size and a maximum period of time over which the borrower can withdraw funds. C. whose interest rate adjusts with movements in an underlying market index interest rate. D. that include new and used automobile loans, mobile home loans, and fixed-term consumer loans. E. that allow the borrower to borrow the repeat credit only after the first loan is repaid.

A. on which a borrower can both draw and repay many times over the life of the loan contract.

Suppose a pension fund must have $10,000,000 five years from now to make required payments to retirees. If the pension wants to guarantee the funds are available regardless of future interest rate changes, it should A. purchase 7-year, semi-annual coupon bonds that have a duration of five years. B. purchase 8-year, annual payment bonds that have a dollar duration of $10,000,000. C. sell a 5-year duration bond so that it matures with a book value of $10,000,000. D. sell $10,000,000 face value discount bonds with a duration of five years. E. none of the options since future interest rates are too unpredictable

A. purchase 7-year, semi-annual coupon bonds that have a duration of five years.

As part of measuring unobservable default risk between borrowers, the Moody's Analytics model decomposes asset returns into A. systematic risk and unsystematic risk. B. systematic risk and default risk. C. credit risk and market risk. D. regional risk and maturity risk. E. market risk and sovereign risk.

A. systematic risk and unsystematic risk.

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 repricing gap is zero, so that all assets have a matching liability that reprices at the same time. C. the maturity gap is zero, so that all assets have a matching-maturity liability. D. When the modified duration is equal to the dollar duration. E. the modified duration gap of the balance sheet is zero.

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.

Back-end fees on loan commitments are charged as a certain percentage of A. unused portion of commitment size. B. loan taken down. C. interest payable on the loan commitment. D. commitment size. E. utilized portion of commitment size.

A. unused portion of commitment size.

The variance of returns of a portfolio of loans normally is equal to the arithmetic average of the variance of returns of the individual loans. A. True B. False

B. False

The duration of a soon to be approved loan of $10 million is four years. The 99th percentile increase in risk premium for bonds belonging to the same risk category of the loan has been estimated to be 5.5 percent.If the fee income on this loan is 0.4 percent and the spread over the cost of funds to the bank is 1 percent, what is the expected income on this loan for the current year? A. $40,000. B. $140,000. C. $180,000. D. $280,000. E. $100,000.

B. $140,000.

An FI has assets of $800 million and liabilities of $740 million.What is the balance sheet capital? A. -$60 million. B. $60 million. C. $800 million. D. $740 million. E. This question cannot be answered without information about off-balance sheet assets and liabilities.

B. $60 million. Capital = Equity = Assets - Liabilities Capital = $800 - $740 = $60.

Sumitomo Bank's risk manager has estimated that the DEARs of two of its major assets in its trading portfolio, foreign exchange and bonds, are -$150,000 and -$250,000, respectively. What is the total DEAR of Sumitomo's trading portfolio if the correlations among assets are ignored? A. -$350,000. B. -$400,000. C. -$291,548. D. -$100,000. E. -$380,789.

B. -$400,000. DEAR = (−$150,000 − $250,000) = −$400,000

If a bank's concentration limit (as a percent of capital) is 20 percent, and its expected recovery from defaulted loans is 50 percent, what is the maximum loss it permits to affect its capital in the event of a default? A. 20 percent. B. 10 percent. C. 15 percent. D. 5 percent. E. 25 percent.

B. 10 percent. Concentration limit = Maximum loss as a percent of capital × (1 ÷ Loss rate) Maximum loss as a percent of capital = Concentration limit × Recovery rate Recovery rate = (1 - loss rate) ML = 0.20 × 0.50 = 0.10

What is the FI's expected return on its loan portfolio? A. 15.00 percent. B. 14.67 percent. C. 13.33 percent. D. 12.00 percent. E. 18.00 percent.

B. 14.67 percent.

A bond is scheduled to mature in five years. Its coupon rate is 9 percent with interest paid annually. This $1,000 par value bond carries a yield to maturity of 10 percent. What is the duration of the bond? A. 4.674 years. B. 4.223 years C. 4.677 years. D. 4.328 years. E. 5.000 years.

B. 4.223 years

Which of the following statements best describe a derivative contract? A. Contingent guarantees sold by an FI to underwrite the performance of the buyer of the guaranty. B. Agreement between two parties to exchange a standard quantity of an asset at a predetermined price at a specified date in the future. C. Loans originated by an FI and then sold to other investors with recourse. D. Contractual commitments to make a loan up to a stated amount at a given interest rate in the future. E. Trading in securities prior to their actual issue.

B. Agreement between two parties to exchange a standard quantity of an asset at a predetermined price at a specified date in the future.

Which of the following refers to restrictions in loan and bond agreements that encourage or forbid certain actions by the borrower? A. Credit rationing. B. Covenants. C. Implicit contracts. D. RAROC. E. Mortality rates.

B. Covenants.

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. FDIC Improvement Act (1991). C. The Bank Holding Company Act (1956). D. Financial Institutions Reform Recovery and Enforcement Act (1989). E. Garn-St. Germain Depository Institutions Act (1982).

B. FDIC Improvement Act (1991).

A borrower's reputation is an example of a market-specific factor in the credit decision. A. True B. False

B. False

An FI can protect itself against insolvency resulting from off-balance sheet activities by purchasing insurance. A. True B. False

B. False

An expected net deposit drain on any given day means that deposit withdrawals are less than deposit inflows. A. True B. False

B. False

Bank runs occur because customers know that banks will be forced to liquidate assets at fire-sale prices. A. True B. False

B. False

Commercial letters of credit are guarantees that are issued to cover contingencies that are potentially more severe and less predictable than those covered by standby letters of credit. A. True B. False

B. False

Credit derivatives allow FIs to hedge credit risk on individual assets, but not on portfolios of assets. A. True B. False

B. False

Duration of a fixed-rate coupon bond will always be greater than one-half of the maturity. A. True B. False

B. False

Financing requirement is the financing gap minus the liquid assets. A. True B. False

B. False

For situations in which probability distributions exhibit fat tail losses, expected shortfall (ES) may look relatively small, but value at risk (VAR) may be very large. A. True B. False

B. False

Funds transferred on Fedwire are settled at the end of the day. A. True B. False

B. False

Hedge funds are not susceptible to liquidity risk or a liquidity crisis. A. True B. False

B. False

In terms of liquidity risk measurement, the financing gap is defined as rate sensitive assets minus rate sensitive liabilities. A. True B. False

B. False

In the use of modern portfolio theory (MPT), the sum of the credit risks of loans under estimates the risk of the whole portfolio. A. True B. False

B. False

Income from trading activities of FIs is less important today than the traditional activities of banks. A. True B. False

B. False

It is impossible for money market mutual fund share prices to fall below $1.00. A. True B. False

B. False

Loans sold without recourse have contingent liability off-balance-sheet implications for the FI that sells the loan. A. True B. False

B. False

Migration analysis is not appropriate for an FI to use in the analysis of credit risk of consumer loans and credit card portfolios. A. True B. False

B. False

Modified duration is defined as duration multiplied by 1 plus the interest rate. A. True B. False

B. False

Off-balance-sheet activities generally have risk-reducing attributes, but seldom have risk-increasing attributes. A. True B. False

B. False

Portfolio risk can be reduced through diversification only if the returns of the loans in the portfolio are negatively correlated. A. True B. False

B. False

The National Information Center (NIC) provides an annual list of holding companies with assets greater than $20 billion on its website. A. True B. False

B. False

The Sensitivities-Based Method (SBM) suggests that banks use analysis of "sensitivities" to estimate risk charges against beta risks. A. True B. False

B. False

The all-in-spread (AIS) used in the Moody's Analytics model is the difference between the interest rate on a loan and the prime lending rate at the time the loan was originated. A. True B. False

B. False

The back-end fee is the fee charged for making funds available through a loan commitment. A. True B. False

B. False

The extremely high growth of OBS activities since the early 1990s has caused regulators to recognize the potential risk exposure to FIs from their use. A. True B. False

B. False

The future liquidity position of a DI cannot be forecasted. A. True B. False

B. False

The liquidity index should be a number that is either greater than one or less than zero. A. True B. False

B. False

The risk of the loan reflects the volatility of the loan's default rate around its expected value divided by the amount lost given default. A. True B. False

B. False

The use of duration to predict changes in bond prices for given changes in interest rate changes will always underestimate the amount of the true price change. A. True B. False

B. False

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: βRE = 1.2, βCL = 1.6. The intercept for both regressions is zero. The results can be interpreted as A. 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. 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 3 percent, the losses in the commercial sector, measured as a percentage of total loans, is 5.2 percent. E. 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.

According to Moody's Analytics, default correlations tend to be ________ and lie between ________. A. Low; 0.001 and 0.002 B. Low; 0.002 and 0.15 C. Low; 0 and 0.001 D. High; 1.86 and 2.99 E. High; 2.99 and 3.50

B. Low; 0.002 and 0.15

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 reserve asset management. C. Manage liquidity risk exclusively through liability management. D. Reduce the bank's dependence upon demand deposits. E. Increase interest income by increasing lending.

B. Manage liquidity risk exclusively through reserve asset management.

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. Performance evaluation. B. Regulation. C. Resource allocation. D. Setting limits. E. Management information.

B. Regulation.

From the perspective of an FI, which of the following is an advantage of a floating-rate loan? A. The default risk is completely eliminated. B. The interest rate risk is transferred to the borrower. C. The pre-specified interest rate remains in force over the loan contract period no matter what happens to market interest rates. D. Stable interest payments will be received throughout the loan period. E. The bank can request repayment of a loan at any time in the contract period.

B. The interest rate risk is transferred to the borrower.

First Duration, a securities dealer, has a leverage-adjusted duration gap of 1.21 years, $60 million in assets, 7 percent equity to assets ratio, and market rates are 8 percent. What conclusions can you draw from the duration gap in your answer to the previous question? A. The market value of the dealer's equity becomes negative if interest rates rise. B. The market value of the dealer's equity decreases slightly if interest rates rise. C. The market value of the dealer's equity decreases slightly if interest rates fall. D. The dealer has no interest rate risk exposure. E. The market value of the dealer's equity becomes negative if interest rates fall.

B. The market value of the dealer's equity decreases slightly if interest rates rise.

Which of the following observations is NOT true? A. 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. B. Traditionally, DI managers have relied on purchased liquidity management as the primary mechanism of liquidity management. C. Purchased liquidity management and stored liquidity management are ways of managing a drain on deposits. D. Today, many DIs rely on purchased liquidity management to deal with the risk of cash shortfalls. E. None of the options.

B. Traditionally, DI managers have relied on purchased liquidity management as the primary mechanism of liquidity management.

Can an FI immunize itself against interest rate risk exposure even though its maturity gap is not zero? A. Yes, because with a maturity gap of zero the change in the market value of assets exactly offsets the change in the market value of liabilities. B. Yes, because the maturity model does not consider the timing of cash flows. C. No, because with a maturity gap of zero the change in the market value of assets exactly offsets the change in the market value of liabilities. D. No, because the timing of cash flows is relevant to immunization against interest rate risk exposure. E. No, because a representative bank will always have a positive maturity gap.

B. Yes, because the maturity model does not consider the timing of cash flows.

The market segmentation theory of the term structure of interest rates A. fails to recognize that forward rates are not perfect predictors of future interest rates. B. assumes that market rates are determined by supply and demand conditions within fairly distinct time or maturity buckets. C. assumes that investors will hold long-term maturity assets if there is a sufficient premium to compensate for the uncertainty of the long-term. D. assumes that the yield curve reflects the market's current expectations of future short-term interest rates. E. assumes that both investors and borrowers are willing to shift from one maturity sector to another to take advantage of opportunities arising from changing yields.

B. assumes that market rates are determined by supply and demand conditions within fairly distinct time or maturity buckets.

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: βRE = 1.2, βCL = 1.6. The intercept for both regressions is zero. The results indicate that for the bank A. the commercial loan losses are systematically higher than the total loan losses. B. both the real estate loan losses and the commercial loan losses are systematically higher than the total loan losses. C. the real estate loan losses were systematically lower than the total loan losses and the commercial loan losses are systematically higher than the total loan losses. D. the real estate loan losses were systematically higher than the total loan losses. E. the real estate loan losses were systematically lower than the total loan losses.

B. both the real estate loan losses and the commercial loan losses are systematically higher than the total loan losses.

The repricing model ignores information regarding the distribution of assets and liabilities within maturity buckets. This limitation of the model refers to A. the spread effect. B. overaggregation. C. runoffs and pre-payments. D. market value effect. E. OBS activities.

B. overaggregation.

In models that are based on loan loss ratios, a β that is found to be less than one for a particular loan sector indicates that A. the FI should increase its concentration in that loan sector due to the high rates of return. B. the FI should decrease its exposure to that sector because losses are higher than the rest of the portfolio C. the loan losses in that sector are systematically lower relative to total loan losses. D. the loans in that sector will soon be downgraded soon. E. the calculation is in error because β is restricted to be greater than one.

B. the FI should decrease its exposure to that sector because losses are higher than the rest of the portfolio

Of the following institutions, which will be subject to reinvestment risk within a particular reprice bucket? A. the book value of rate-sensitive assets is less than the book value of equity. B. the book value of rate sensitive assets is greater than the book value of rate-sensitive liabilities. C. the market value of rate-sensitive liabilities is less than the market value of equity. D. the market value of rate-sensitive assets is less than the market value of rate-sensitive liabilities. E. the book value of rate-sensitive liabilities is greater than the book value of rate-sensitive assets.

B. the book value of rate sensitive assets is greater than the book value of rate-sensitive liabilities.

Dollar duration of a fixed-income security is defined as A. The market price of a security following a one-percent change in the return on the security. B. the dollar value change in the price of a security to a one-percent change in the return on the security. C. Macaulay's duration divided by one plus the interest rate times the market price of the security. D. the dollar value change in the price of a security to a change in the Macaulay's duration of the security. E. the modified duration of a security times the price of the security.

B. the dollar value change in the price of a security to a one-percent change in the return on the security.

The capital requirements of internally generated market risk exposure estimates can be met A. only with two types of capital. B. with retained earnings and common stock only. C. only with retained earnings, common stock, and long-term subordinated debt. D. only with short- or long-term subordinated debt. E. only with Tier 1, Tier 2, or Tier 3 capital.

B. with retained earnings and common stock only.

An FI has assets of $800 million and liabilities of $740 million. If the FI bought call options on bonds with a face value of $50 million, what is the minimum amount of the stockholder's potential true net worth? A. $790 million. B. $70 million. C. $110 million. D. $850 million. E. $10 million.

C. $110 million. The call options give the holder the right to purchase the underlying asset at the exercise price. The purchase will only occur if, at the time of exercise, the assets' value is above the exercise price. The stockholders' true net worth is potentially the exercise price plus current net worth $50,000,000 + $60,000,000 = $110,000,000. $60 million came from 800 - 740

An FI finances a $250,000 2-year fixed-rate loan with a $200,000 1-year fixed-rate CD. Use the repricing model to determine (a) the FI's repricing (or funding) gap using a 1-year maturity bucket, and (b) the impact of a 100 basis point (0.01) decrease in interest rates on the FI's annual net interest income? A. +$50,000; -$500. B. -$200,000; -$1,000. C. -$200,000; +$2,000. D. $0; $0. E. -$200,000; -$2,000.

C. -$200,000; +$2,000. 1-year CGAP = RSA - RSL -$200,000 = $0 - $200,000 = -$200,000 ∆NII = (CGAP) × ∆R∆NII + $2,000 = (- $200,000) × (- 0.01)

Calculate the duration of a two-year corporate bond paying 6 percent interest annually, selling at par. Principal of $20,000,000 is due at the end of two years. A. 1.75 years. B. 1.91 years. C. 1.94 years. D. 2 years. E. 1.49 years.

C. 1.94 years.

An FI purchases a $9.982 million pool of commercial loans at par. The loans have an interest rate of 8 percent, a maturity of five years, and annual payments of principal and interest that will exactly amortize the loan at maturity. What is the duration of this asset? A. 5.00 years. B. 4.12 years. C. 2.85 years. D. 3.07 years. E. 2.50 years.

C. 2.85 years.

On loans fully secured by physical, non-real estate loans, the Basel Committee has set a loss given defaults (LGD) rate of A. 40 percent B. 25 percent C. 45 percent D. 60 percent E. 15 percent

C. 45 percent

If a bank's concentration limit (as a percentage of capital) is 25.0 percent, and it does not permit a loss of any loan to impact more than 10 percent of its capital, what is the expected recovery on loans that are defaulted? A. 30 percent. B. 20 percent. C. 50 percent. E. 40 percent. C. 60 percent.

C. 60 percent. Concentration limit = Maximum loss as a percent of capital × (1 ÷ Loss rate) Loss rate = Maximum loss as a percent of capital ÷ Concentration limit Loss rate = 0.10 ÷ 0.25 = 0.40 Therefore, the recovery rate = 1 - loss rate = 1 − 0.40 = 0.60

As of 2015, the top 25 U.S. commercial banks accounted for ________ percent of OBS derivative contracts among FDIC-insured institutions. A. 81.9 B. 60.7 C. 99.8 D. 100 E. 92.6

C. 99.8

What are the two major liquidity risk insulation devices available? A. Liquidity planning and maturity ladder. B. Scenario analysis and liquidity index. C. Deposit insurance and discount window. D. Financing gap and the financing requirement. E. Secondary credit and seasonal credit.

C. Deposit insurance and discount window.

What is a possible reason behind restricted supply of spot loans to borrowers during a credit crunch? A. Decrease in cost of funds. B. Shift to the right in the loan supply function at all interest rates. C. FI's increased aversion toward lending. D. Low aggregate demand from borrowers to take down loan commitments. E. Expansionary monetary policy actions of the Federal Reserve.

C. FI's increased aversion toward lending.

According to Altman's credit scoring model, which of the following Z scores would indicate a low default risk firm? A. Between 1.81 and 2.99. B. Between 1 and 1.81. C. Greater than 2.99. D. 1. E. Less than 1.

C. Greater than 2.99.

In a crisis, which of the following are relatively less likely to withdraw funds quickly from banks and thrifts? A. Pension funds. B. Small business corporations. C. Individual depositors. D. Correspondent banks. E. Mutual funds.

C. Individual depositors.

Which of the following is true about the value of the delta of an option? A. It is always negative. B. It is always equal to 1. C. It lies between 0 and 1. D. It lies between 0 and 0.5. E. It is greater than 1.

C. It lies between 0 and 1.

Which of the following securities is most unlikely to have a symmetrical return distribution, making the use of RiskMetrics model inappropriate? A. Common stock. B. Consol bonds. C. Option contracts. D. Preferred stock. E. 30-year U.S. Treasury bonds.

C. Option contracts.

Which of the following are contracts that give the holder the right, but not the obligation, to buy or sell an underlying asset at a pre-specified price for a specified time period? A. Swaps. B. Futures. C. Options. D. Forwards. E. All of the options

C. Options.

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. Management information. C. Resource allocation. D. Performance evaluation. E. Setting limits.

C. Resource allocation.

Credit scoring models include all of the following broad types of models EXCEPT A. Logit models. B. Linear discriminant models. C. Term structure models. D. Linear probability models. E. None of the options.

C. Term structure models.

Which of the following is not a characteristic of a loan commitment? A. The maximum amount of the loan is negotiated at the time of the loan agreement. B. Floating-rate loans transfer the interest rate risk to the borrower. C. The interest rate on fixed-rate loans is determined at the time of the loan is actually taken down. D. In a floating-rate loan the borrower pays interest rate in force when the loan is actually taken down. E. The time period for which the loan is available is negotiated at the time of the loan agreement.

C. The interest rate on fixed-rate loans is determined at the time of the loan is actually taken down.

Which of the following observations is NOT true? A. Investors do not distinguish between the failing corporation and its surviving affiliate because of name similarity. B. Settlement Risk is a form of OBS risk that FIs participating on private wholesale wire transfer system networks face. C. The settlement risk that an FI is exposed to within-day appears on its balance sheet. D. A holding company is a corporation that owns more than 25 percent of the shares of other corporations. E. Failure of an affiliated firm or bank imposes affiliate risk on another bank in a holding company structure in a number of ways.

C. The settlement risk that an FI is exposed to within-day appears on its balance sheet.

An interest rate increase A. harms the FI by decreasing the market value of the FI's liabilities. B. benefits the FI by increasing the market value of the FI's liabilities. C. benefits the FI by decreasing the market value of the FI's liabilities. D. harms the FI by increasing the market value of the FI's liabilities. E. benefits the FI by decreasing the market value of the FI's assets.

C. benefits the FI by decreasing the market value of the FI's liabilities.

A bank that finances long-term fixed-rate mortgages with short-term deposits is exposed to A. increases in net interest income and decreases in the market value of equity when interest rates fall. B. decreases in net interest income and decreases in the market value of equity when interest rates fall. C. decreases in net interest income and decreases in the market value of equity when interest rates increase. D. increases in net interest income and increases in the market value of equity when interest rates increase. E. decreases in net interest income and increases in the market value of equity when interest rates increase.

C. decreases in net interest income and decreases in the market value of equity when interest rates increase.

For small change in interest rates, market prices of bonds are inversely proportional to their A. asset value. B. liability value. C. duration value. D. equity. E. none of the options

C. duration value.

A Hypothetical Rating Migration, or Transition Matrix, reflects all of the following EXCEPT A. rating at which the portfolio of loans began the year. B. rating at which the portfolio ended the year. C. future migration expected in the portfolio. D. the average proportions of loans that began the year. E. transition probabilities.

C. future migration expected in the portfolio.

All else equal, as compared to an annual payment fixed income security, a semi-annual payment security has a A. higher duration but lower price sensitivity. B. lower duration and more cash flows. C. higher duration and more cash flows. D. lower duration value and lower market value. E. none of the options

C. higher duration and more cash flows.

When an FI pre-commits to lending at a fixed rate, it is exposed to A. credit risk. B. exchange rate risk. C. interest rate risk. D. funding risk. E. takedown risk.

C. interest rate risk.

The root cause of much of the losses of FIs during the financial crisis of 2008-2009 was A. firm-specific risk. B. sovereign risk. C. market risk. D. systematic risk. E. interest rate risk.

C. market risk.

Marginal default probability refers to the A. expected maximum change in the loan rate due to a change in the credit premium. B. marginal increase in the default probability due to a change in credit premium. C. probability that a borrower will default in any given year. D. probability that a borrower will default over a specified multi-year period. E. historic default rate experience of a bond or loan.

C. probability that a borrower will default in any given year.

Periodic cash flow of interest and principal amortization payments on long-term assets, such as conventional mortgages, that can be reinvested at market rates describes which term? A. market value effect. B. overaggregation. C. runoffs D. OBS activities. E. the spread effect

C. runoffs

Of the following institutions, which will be subject to refinancing risk within a particular reprice bucket? A. the book value of rate-sensitive assets is greater than the book value of rate-sensitive liabilities. B. the book value of rate-sensitive assets is less than the book value of equity. C. the book value of rate-sensitive liabilities is greater than the book value of rate-sensitive assets. D. the market value of rate-sensitive assets is less than the market value of rate-sensitive liabilities. E. the market value of rate-sensitive liabilities is less than the market value of equity.

C. the book value of rate-sensitive liabilities is greater than the book value of rate-sensitive assets.

The economic interpretation of duration is A. the maturity elasticity of a security to a small change in cash flows of the security. B. The average time it will take to equate the present value of future cash flows from the security to the cost of the security. C. the interest elasticity of a security to a small change in interest rates. D. the percentage of the current market price of a security that is accounted for by the book value of the security. E. the price elasticity of a security to a small change in interest rates.

C. the interest elasticity of a security to a small change in interest rates.

In the Moody's Analytics portfolio model, the expected loss on a loan is A. annual all-in-spread minus the expected default frequency. B. the volatility of the loan's default rate around its expected value. C. the product of the expected default frequency and the estimated loss given default. 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.

C. the product of the expected default frequency and the estimated loss given default.

In the Moody's Analytics portfolio model, the risk of a loan measures A. the product of the estimated loss given default and risk-free rate on a security of equivalent maturity. B. annual all-in-spread minus the loss given default. C. the volatility of the loan's default rate around its expected value times the amount lost given default. D. the product of the expected default frequency and the estimated loss given default. E. annual all-in-spread minus the expected default frequency

C. the volatility of the loan's default rate around its expected value times the amount lost given default.

The gap ratio expresses the reprice gap for a given time period as a percentage of A. equity. B. current assets. C. total assets. D. current liabilities. E. total liabilities.

C. total assets.

All other things equal, longer term loans are more likely to be A. fixed-rate loans. B. commitment loans. C. variable-rate loans. D. high interest rate loans. E. lowest risk category loans.

C. variable-rate loans.

Onyx Corporation has a $200,000 loan that will mature in one year. The risk free interest rate is 6 percent. The standard deviation in the rate of change in the underlying asset's value is 12 percent, and the leverage ratio for Onyx is 0.8 (80 percent). The value for N(h1) is 0.02743, and the value for N(h2) is 0.96406.What is the current market value of the loan? A. $188,352. B. $200,000. C. $178,571. D. $189,932. E. $160,000.

D. $189,932.

A $200 million loan commitment has an up-front fee of 20 basis points and a back-end fee of 25 basis points on the unused portion.The up-front fee is A. $775,000. B. $4,000,000. C. $250,000. D. $400,000. E. $375,000.

D. $400,000. Up-front fee = Loan size × fee in basis points = $200,000,000 × 0.0020 = $400,000

City bank has six-year zero coupon bonds with a total face value of $20 million. The current market yield on the bonds is 10 percent. What is the daily earnings at risk (DEAR) of this bond portfolio? A. -$246,111. B. -$149,021. C. -$135,474. D. -$218,180. E. -$225,789.

D. -$218,180. DEAR = (dollar value of position) × (price volatility) Calculation of Modified Duration (for price volatility) MD = D/(1 + R) MD = 6/(1.10) MD = 5.4545 DEAR = ($20,000,000) × (5.4545 × -0.0020) = -$218,180.

Suppose that the financial ratios of a potential borrowing firm took the following values: X1 = 0.30 X2 = 0 X3 = -0.30 X4 = 0.15X5 = 2.1 Altman's discriminant function takes the form Z = 1.2 X1+ 1.4 X2 + 3.3 X3 + 0.6 X4 + 1.0 X5 The Z score for the firm would be A. 2.1. B. 3.54. C. 1.64. D. 1.56. E. 2.96.

D. 1.56.

Confidence Bank has made a loan to Risky Corporation. The loan terms include a default risk-free borrowing rate of 8 percent, a risk premium of 3 percent, an origination fee of 0.1875 percent, and a 9 percent compensating balance requirement. Required reserves at the Fed are 6 percent. What is the expected or promised gross return on the loan? A. 12.02 percent. B. 11.90 percent. C. 11.19 percent. D. 12.22 percent. E. 12.29 percent.

D. 12.22 percent.

Kansas Bank has a policy of limiting their loans to any single customer so that the maximum loss as a percent of capital will not exceed 20 percent for both secured and unsecured loans. The limit has been adopted under the assumption that if the unsecured loan is defaulted, there will be no recovery of interest or principal payments. For loans that are secured (collateralized), it is expected that 40 percent of interest and principal will be collected. Suppose Kansas Bank wants to ensure that its maximum loss on a secured (collateralized) loan is 10 percent (as a percent of capital). If it wishes to keep a concentration limit at 40 percent for secured loans, what is the estimated amount lost per dollar of defaulted secured loan? A. 30 cents. B. 40 cents. C. 35 cents. D. 25 cents. E. 20 cents.

D. 25 cents. Concentration limit = Maximum loss as a percent of capital × (1 ÷ Loss rate) Loss rate = Maximum loss as a percent of capital ÷ Concentration limit Loss rate = 0.10 ÷ 0.40 = 0.25

City bank has six-year zero coupon bonds with a total face value of $20 million. The current market yield on the bonds is 10 percent. What is the modified duration of these bonds? A. 10.9 years. B. 6.60 years. C. 10.0 years. D. 5.45 years. E. 6.00 years.

D. 5.45 years. The zero coupon bonds have a duration that is equal to its maturity. MD = D / (1 + R) = 6 / (1.10) = 5.4545.

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. Limits are set by assessing the borrower's current portfolio, its operating unit's business plans, its economists' economic projections, and its strategic plans. C. 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. 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. 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.

Which of the following is NOT used as a method of measuring liquidity risk? A. Liquidity index. B. Liquidity coverage ratio. C. Peer group ratio comparison. D. Current ratio. E. Financing gap and financing requirement.

D. Current ratio.

Which of the following observations about the repricing model is correct? A. It accommodates cash flows from off-balance-sheet activities. B. It accounts for the problem of rate-insensitive asset and liability runoffs and prepayments. C. It considers market value effects of interest rate changes. D. It helps to determine an FI's profit exposure to interest rate changes. E. Its information value is limited.

D. It helps to determine an FI's profit exposure to interest rate changes.

Which of the following is true of the prime lending rate? A. It is the lending rate charged to the FI's lowest-risk customers. B. It is the rate for interbank dollar loans of a given maturity in the Eurodollar market. C. It is also known as LIBOR. D. It is most commonly used in pricing longer-term loans. E. The best and largest borrowers commonly pay above this lending rate.

D. It is most commonly used in pricing longer-term loans.

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. Credit Risk +. B. Loan volume-based model. C. CreditMetrics. D. Loan loss ratio-based model. E. KMV portfolio manager model.

D. Loan loss ratio-based model.

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. Credit risk. B. Sovereign risk. C. Interest rate risk. D. Market risk. E. Default risk.

D. Market risk.

Which approach to measuring market risk, in effect, amounts to simulating or creating artificial trading days and FX rate changes? A. Variance/covariance approach. B. Back simulation approach. C. RiskMetrics Model. D. Monte Carlo simulation approach. E. All of the options.

D. Monte Carlo simulation approach.

The repricing model measures the impact of unanticipated changes in interest rates on A. both market value of equity and net interest income. B. the market value of equity. C. the prices of assets and liabilities. D. net interest income. E. the FI's capital position.

D. net interest income.

Which of the following is a problem encountered while using more observations in the back simulation approach? A. Calculations become highly complex; need to assume a symmetric (normal) distribution for all asset returns. B. Calculations become highly complex. C. Need to assume a symmetric (normal) distribution for all asset returns. D. Past observations become decreasingly relevant in predicting VAR in the future. E. Requirement for calculating the correlations of asset returns.

D. Past observations become decreasingly relevant in predicting VAR in the future.

The following statement is not true of qualitative models. A. The FI manager has to consider borrower-specific factors such as idiosyncratic to the individual borrower. B. In the absence of publicly available information on the quality of borrowers, the FI manager has to assemble information from private sources. C. Qualitative models use subjective judgement from the FI manager. D. Qualitative models use real-time data such as credit scoring models to make decisions. E. The FI manager should weigh market-specific factors, which have an impact on all borrowers at the time of the credit decision.

D. Qualitative models use real-time data such as credit scoring models to make decisions.

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. Syndicated loans seem to have higher mortality rates than corporate bonds. E. The estimates are sensitive to the relative size of issues in each investment grade.

D. Syndicated loans seem to have higher mortality rates than corporate bonds.

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. Loss rate. C. Expected default frequency. D. Systematic loan loss risk. E. Loss given default.

D. Systematic loan loss risk.

Considering the Capital Asset Pricing Model, which of the following observations is incorrect? A. Total risk is the sum of systematic risk and unsystematic risk. B. In a well-diversified portfolio, unsystematic risk can be largely diversified away. C. Systematic risk reflects the co-movement of a stock with the market portfolio. D. Systematic risk is considered to be a diversifiable risk. E. Unsystematic risk is specific to the firm.

D. Systematic risk is considered to be a diversifiable risk.

In making credit decisions, which of the following items is considered a market-specific factor? A. Whether the reputation of the borrower enhances the credit application. B. Whether the debt can be secured by specific property. C. Whether the current debt-equity ratio is sufficiently low to not impact the probability of repayment. D. Whether the position of the economy in the business cycle phase would affect the probability of borrower default. E. Whether the volatility of earnings could present a period where the periodic payment of interest and principal would be at risk.

D. Whether the position of the economy in the business cycle phase would affect the probability of borrower default.

In economic terms, the letters of credit (LCs) and stand-by letters of credit (SLCs) sold by an FI A. are contractual commitments to make a loan up to a stated amount at a given interest rate in the future. B. are standardized contract guaranteed by organized exchanges to deliver and pay for an asset in the future. C. are nonstandard contracts between two parties to deliver and pay for an asset in the future. D. are insurance against the frequency or severity of some particular future occurrence. E. None of the options.

D. are insurance against the frequency or severity of some particular future occurrence.

Calculating modified duration involves A. dividing the value of duration by the curvature effect. B. multiplying the value of duration by discounted change in interest rates. C. dividing the value of duration by discounted change in interest rates. D. dividing the value of duration by 1 plus the interest rate. E. dividing the value of duration by the change in the market interest rate.

D. dividing the value of duration by 1 plus the interest rate.

If a stock portfolio replicates the returns on a stock market index, the beta of the portfolio will be A. negative. B. less than 1. C. greater than 1. D. equal to 1. E. equal to 0.

D. equal to 1.

Takedown risk in a loan commitment exposes the FI to A. externality effects. B. basis risk. C. immediate liquidity risk. D. future liquidity risk. E. spread risk.

D. future liquidity risk.

Immunization of a portfolio implies that changes in ________ will not affect the value of the portfolio. A. maturity B. market prices C. duration D. interest rates E. book value of assets

D. interest rates

A bank's net deposit drain A. fluctuates unpredictably on any given day. B. in unaffected by holiday and vacation periods. C. decreases during holiday and vacation periods. D. is negative if deposits exceed withdrawals. E. is positive if deposits exceed withdrawals.

D. is negative if deposits exceed withdrawals.

The repricing gap does not accurately measure FI interest rate risk exposure because A. FIs cannot accurately predict the magnitude change in future interest rates. B. FIs cannot accurately predict the direction of change in future interest rates. C. accounting systems are not accurate enough to allow the calculation of precise gap measures. D. it does not recognize timing differences in cash flows within the same maturity grouping. E. equity is omitted.

D. it does not recognize timing differences in cash flows within the same maturity grouping.

The duration of a consol bond is A. more than its maturity. B. given by the formula D = 1/(1-R). C. 30 years. D. less than its maturity. E. infinity.

D. less than its maturity.

Cumulative default probability refers to A. probability that a borrower will default in any given year. B. historic default rate experience of a bond or loan. C. expected maximum change in the loan rate due to a change in the credit premium. D. probability that a borrower will default over a specified multi-year period. E. expected maximum change in the loan rate due to a change in the risk factor on the loan.

D. probability that a borrower will default over a specified multi-year period.

In calculating the value at risk (VAR) of fixed-income securities in the RiskMetrics model, A. the price volatility is the product of the modified duration and the adverse yield change. B. the VAR is related in a linear manner to the DEAR. C. the yield changes are assumed to be normally distributed. D. the price volatility is the product of the modified duration and the adverse yield change and the yield changes are assumed to be normally distributed. E. All of the options.

D. the price volatility is the product of the modified duration and the adverse yield change and the yield changes are assumed to be normally distributed.

When repricing all interest-sensitive assets and all interest-sensitive liabilities in a balance sheet, the cumulative gap will be A. a negative value. B. greater than one. C. infinity. D. zero. E. one.

D. zero.

A corporation is planning to issue $10 million worth of 180-day commercial paper. In order to reduce the interest rates by 25 basis points (per year), it plans to back this issue with a standby letter of credit or a loan commitment. The standby letter of credit is available for 20 basis points (per year) to be paid up-front. The loan commitment for $10 million is available for an up-front fee of 15 basis points (per year) and a 5 basis points back-end fee. What are the savings to the corporation if it obtains a standby letter of credit to back its $10 million issue of commercial paper? A. $6,250. B. $5,000. C. $3,750. D. $1,250. E. $2,500.

E. $2,500. Interest Saving = {10 million x (0.0050)} x (180 / 360) = 2,500. OR Cost of SLC = [$10,000,000 × (0.50 × 0.002)] = $10,000 Savings on CP = ([$10,000,000 × (0.50 × 0.0015) = $12,500 Savings on CP - Cost of SLC = $2,500

An FI has $5 million in cash reserves with the Fed in excess of its reserve requirements, $5 million in T-Bills, and a credit line of $10 million to borrow in the repo market. It currently has lent $2 million in the Fed Funds market and borrowed $1 million from the Federal discount window to meet its seasonal needs. Assume that the T-Bills can only be sold at a 10 percent discount, what is the net liquidity of the bank given this information? A. $11.5 million. B. $6.5 million. C. $21.5 million. D. $16.5 million. E. $20.5 million.

E. $20.5 million. Banks Total sources of Liquidity = Cash Reserves + T-Bills + Credit Line + Fed Fund Market lending Banks Total sources of Liquidity = $ 5 million + $ 5 million +$ 10 million + $ 2 million Banks Total sources of Liquidity = $ 22 million Net Liquidity = Sources of liquidity - Uses of Liquidity Net Liquidity = 22 million - 1 million = $21 million If T-bills take a haircut of 10%, their market value is (5 × 0.90) = $4.5 million, a reduction in liquidity of $0.5 million Net Liquidity = Sources of liquidity - Uses of Liquidity Net Liquidity = 21.5 million - 1 million = $20.5 million. If T-bills take a haircut of 10%, their market value is (5 × 0.90) = $4.5 million, a reduction in liquidity of $0.5 million Net Liquidity = Sources of liquidity - Uses of liquidity Net liquidity = 21.5 - 1 = $20.5 million.

Suppose that debt-equity ratio (D/E) and the sales-asset ratio (S/A) were two factors influencing the past default behavior of borrowers. Based on past default (repayment) experience, the linear probability model is estimated as: PDi = 0.5(D/Ei) + 0.1(S/Ai). If a prospective borrower has a debt-equity ratio of 0.4 and sales-asset ratio of 1.8, the expected probability of default is A. 0.02. B. 0.35. C. 0.62. D. 0.98. E. 0.38.

E. 0.38.

The mean change in the value of a portfolio of trading assets has been estimated to be 0 with a standard deviation of 20 percent. Yield changes are assumed to be normally distributed. What is the maximum yield change expected if a 90 percent confidence (one-tailed) limit is used? A. 20.0%. B. 3.30%. C. 46.6%. D. 39.2%. E. 33.0%.

E. 33.0%. IDK 90% confidence interval (5% under each tail) is (0 ± 1.65 × σ)Maximum yield change expected (potential adverse move) = (0 ± 1.65 × 0.20) = 0 ±0.33

What is the duration of a 5-year par value zero coupon bond yielding 10 percent annually? A. 4.40 years. B. 2.00 years. C. 0.50 years. D. 4.05 years. E. 5.00 years

E. 5.00 years

Direct and indirect fees and charges relating to a loan generally fall into which of the following categories? A. A loan origination fee charged to the borrower for processing the application. B. A compensating balance requirement to be held as deposits. C. A reserve requirement imposed by the Federal Reserve on the FI's demand deposits, including any compensating balances. D. A and B E. A, B, and C

E. A, B, and C

Which of the following statements regarding net stable funding (NSFR) ratio is true? A. NSFR evaluates liquidity over the entire balance sheet and provides incentives for Dis to use stable sources of funding. B. NSFR ratio is reported to DI supervisors quarterly as of 2018. C. NSFR takes a longer-term look at liquidity on a DI's balance sheet. D. NSFR is intended to ensure that long-term assets are funded with a minimum amount of stable liabilities. E. All of the above are true.

E. All of the above are true.

The increased regulation of the derivatives markets was intended to achieve which of the following objectives? A. prevent market manipulation, fraud, and other market abuses B. ensure that OTC derivatives are not marked inappropriately to unsophisticated parties. C. prevent activities in those markets from posing risk to the financial system. D. promote the efficiency and transparency of those markets E. All of the above.

E. All of the above.

A method of measuring the interest rate or gap exposure of an FI is A. the duration model. B. the repricing model. C. the maturity model. D. the funding gap model. E. All of the options.

E. All of the options.

Which of the following refers to the fee charged on the unused balance of a loan commitment. A. Compensating balance. B. Facility fee. C. Closing costs. D. Up-front fee. E. Commitment fee.

E. Commitment fee.

Which of the following is an out-of-the-money counterparty in the derivative securities market? A. Counterparty that is currently at an advantage in terms of cash flows. B. FI that trades in securities prior to their actual issue. C. FI that guarantees to underwrite the performance of the buyer of the guaranty. D. Counterparty in a loan commitment contract. E. Counterparty that is currently at a disadvantage in terms of cash flows.

E. Counterparty that is currently at a disadvantage in terms of cash flows.

What is the drawback of deposit insurance facility? A. Deposit holder's place in line affects his or her ability to obtain their funds. B. Deposit holders are less likely to panic if there is a perceived bank solvency problem. C. Even when the DI is in trouble, the deposit holder has no incentive to run. D. Deposit insurance does not deter contagious runs and panics. E. DIs are more likely to increase the liquidity risk on their balance sheets.

E. DIs are more likely to increase the liquidity risk on their balance sheets.

What refers to the risk that the borrower is unable or unwilling to fulfill the terms promised under the loan contract? A. Liquidity risk. B. Interest rate risk. C. Solvency risk. D. Sovereign risk. E. Default risk.

E. Default risk.

Which of the following balance sheet entries is not a tool used in purchased liquidity management? A. Bonds. B. Subordinated note. C. Repurchase agreement. D. Federal fund. E. Demand deposit.

E. Demand deposit.

Managers can achieve the results of duration matching by using these to hedge interest rate risk. A. Rate sensitive assets. B. Consol bonds. C. Rate sensitive liabilities. D. Coupon bonds. E. Derivatives.

E. Derivatives.

The following statement is not true of qualitative models. A. Qualitative models use subjective judgement from the FI manager. B. In the absence of publicly available information on the quality of borrowers, the FI manager has to assemble information from private sources. C. The FI manager should weigh market-specific factors, which have an impact on all borrowers at the time of the credit decision. D. The FI manager has to consider borrower-specific factors such as idiosyncratic to the individual borrower. E. Qualitative models use real-time data such as credit scoring models to make decisions.

E. Qualitative models use real-time data such as credit scoring models to make decisions.

A corporation is planning to issue $10 million worth of 180-day commercial paper. In order to reduce the interest rates by 25 basis points (per year), it plans to back this issue with a standby letter of credit or a loan commitment. The standby letter of credit is available for 20 basis points (per year) to be paid up-front. The loan commitment for $10 million is available for an up-front fee of 15 basis points (per year) and a 5 basis points back-end fee. Which method is preferable, between the loan commitment and the standby letter of credit? A. The loan commitment is preferable because the savings are greater. B. The loan commitment is preferable it has a lower risk of default. C. The standby letter of credit is preferable because it has a lower risk of default. D. The standby letter of credit is preferable because the savings are greater. E. The loan commitment is preferable because the back-end fee is payable at the end of the year.

E. The loan commitment is preferable because the back-end fee is payable at the end of the year.

What does the Moody's Analytics model use as equivalent to holding a call option on the assets of the firm? A. Net income of a firm. B. Short-term debt liabilities of a firm. C. Dividend yield of investments. D. Total liabilities of a firm. E. The value of equity in a firm

E. The value of equity in a firm

Which of the following statements is true? A. An increase in interest rates leads to an increase in the market value of financial securities. B. Value of longer term securities increases at an increasing rate for any decline in interest rates. C. The shorter the maturity of a fixed income asset or liability, the greater the fall in market value for any given interest rate increase. D. The longer the maturity of a fixed income asset or liability, the greater the fall in market value for any given interest rate decrease. E. Value of longer term securities decreases at a diminishing rate for increases in interest rates.

E. Value of longer term securities decreases at a diminishing rate for increases in interest rates.

In making credit decisions, which of the following items is considered a market-specific factor? A. Whether the record of the borrower is sufficient to create an implicit contract. B. Whether the borrower's capital structure is beyond the point where additional debt increases the probability of loss of principal or interest. C. Whether property can be pledged as collateral. D. Whether the volatility of earnings could present a period where the periodic payment of interest and principal would be at risk. E. Whether the relative level of interest rates will encourage the borrower to take excessive risks.

E. Whether the relative level of interest rates will encourage the borrower to take excessive risks.

By combining different economic and financial borrower characteristic, an FI manager is able to A. Evaluate the relative degree or importance of these factors. B. Be better able to screen out bad loan applicants. C. Improve the pricing of default risk. D. Numerically establish which factors are important in explaining default risk. E. all are true.

E. all are true.

Which of the following are included in the methodological approach to calculate the VAR? A. measure sensitivity B. measure risk C. measure exposures D. rank days by risk from worst to best E. all of the above are included in the methodological approach

E. all of the above are included in the methodological approach

Which of the following statements is true regarding duration? A. increases with the maturity of a fixed-income security but at a decreasing rate. B. is equal to the maturity of an immunized security. C. decreases as the coupon or interest payment increases. D. decreases as the yield on a security increases. E. all of the above are true

E. all of the above are true

Off-balance-sheet items are A. risk-free assets and liabilities. B. foreign (off shore) assets and liabilities. C. exceptionally risky assets and liabilities. D. items omitted from the short form balance sheet. E. contingent assets and liabilities.

E. contingent assets and liabilities.

Conceptually, an FI's trading portfolio can be differentiated from its investment portfolio by A. liquidity. B. effects of interest rate changes. C. size of assets. D. time horizon. E. liquidity and time horizon

E. liquidity and time horizon

Loan commitments are classified as A. equity capital. B. on-balance-sheet assets. C. off-balance-sheet liabilities. D. on-balance-sheet liabilities. E. off-balance-sheet assets.

E. off-balance-sheet assets.

Standby letters of credit are classified as A. on-balance-sheet liabilities. B. on-balance-sheet assets. C. equity capital. D. off-balance-sheet assets. E. off-balance-sheet liabilities

E. off-balance-sheet liabilities

Borrower reputation is important in assessing credit quality because A. customers with poor credit histories always default on their loans. B. good past payment performance perfectly predicts future behavior. C. FIs only lend to customers they know. D. a reputation for honesty is important in credit appraisal. E. preservation of a good customer/FI relationship acts as an additional incentive to encourage loan repayment.

E. preservation of a good customer/FI relationship acts as an additional incentive to encourage loan repayment.

Daily earnings at risk (DEAR) is calculated as A. the dollar value of a position times the potential adverse yield move. B. More than one of the above is correct. C. the price volatility times the √N. D. the price sensitivity times an adverse daily yield move. E. the dollar value of a position times the price volatility.

E. the dollar value of a position times the price volatility.