FIN 461 Exam 2

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? 11.90% 12.22% 12.02% 11.19% 12.29%

12.22%

If the amount lost per dollar on a defaulted loan is 40 percent, then a bank that does not permit the loss of a loan to exceed 10 percent of its bank capital should set its concentration limit (as a percentage of capital) to 5 percent. 15 percent. 50 percent. 25 percent. 30 percent.

25 percent

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

45 percent.

What is the impact of a 50 basis point increase in interest rates on the net asset value of an open-end bond mutual fund holding a seven year, $100 million face value 7 percent annual coupon bond selling at par? The fund has 10 million shares. A decrease of $0.265 per share. An increase of $0.24 per share. An increase of $0.05 per share. An increase of $0.265 per share. A decrease of $0.05 per share.

A decrease of $0.265 per share.

Any model that seeks to estimate an efficient frontier for loans, and thus the optimal proportions in which to hold loans made to different borrowers, needs to determine and measure the expected return on each loan to a borrower. risk of each loan made to a borrower.correlation of default risks between loans made to borrowers. expected return of the entire loan portfolio. All of the options.

All of the options

Which of the following is a source of loan volume data? Commercial bank call reports. Data on shared national credits. Commercial databases. All of the options. Only the Federal Reserve has this data.

All of the options

Matrix Bank has compiled the following migration matrix on consumer loans. Which of the following statements accurately summarizes this data? Ten percent of grade two loans were upgraded during the year. Grade one loans have a higher probability of downgrade than grades two or three. Grade three loans have a higher probability of upgrade than grade two loans. Grade three loans have a higher probability of downgrade than grade two loans. All of the options.

All of the options.

Which of the following factors may affect the promised return an FI receives on a loan? The collateral backing of the loan. Fees relating to the loan. The interest rate on the loan. The credit risk premium on the loan. All of the options.

All of the options.

An open-end bond mutual fund is holding a three-year, $1 million face value 5 percent annual coupon bond selling at par. What is the impact on the total asset value of the fund of a 1 percent decrease in interest rates? A decrease of $10,000. An increase of $10,000. A decrease of $26,730. The answer depends upon the number of mutual funds shares outstanding. An increase of $27,751

An increase of $27,751

Which intermediation function results in an FI's exposure to liquidity risk? Conduit for monetary policy. Information production. Brokering between funds deficit units and funds surplus units. Asset transformation. Lender of last resort.

Asset transformation.

Which of the following is a condition for a DI to be growing? The liability side of its balance sheet is decreasing. Net positive drain on deposits. Average deposit drains such that new deposit funds more than offset deposit withdrawals. Peak of the net deposit drain probability distribution should lie at a point to the right of zero. Unused loan commitments is increasing.

Average deposit drains such that new deposit funds more than offset deposit withdrawals.

How does purchased liquidity management affect profitability? By its impact on the interest rate sensitivity of assets. By its impact on the cost of purchased funds. By enhancing the liquidity of assets held. By its impact on the interest rate sensitivity of liabilities. By determining the default risk of investment securities.

By its impact on the cost of purchased funds.

A disadvantage of using stored liquidity management to manage a FI's liquidity risk is the resulting shrinkage of the FI's balance sheet. loss of flexibility as a result of dependence upon purchased liabilities. the accessibility of international money markets. the high cost of purchased liabilities.tax considerations.

the resulting shrinkage of the FI's balance sheet.

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

Greater than 2.99.

Which of the following observations is true of a spot loan? It is a nonbank loan substitute. It is a line of credit. It involves immediate withdrawal of the entire loan amount by the borrower. It involves a maximum size and a maximum period of time over which the borrower can withdraw funds. It is an unsecured short-term debt instrument issued by corporations.

It involves immediate withdrawal of the entire loan amount by the borrower.

Under which model does an FI compare its own allocation of loans in any specific area with the national allocations across borrowers to measure the extent to which its loan portfolio deviates from the market portfolio benchmark? Moody's Analytics portfolio manager model. Credit Risk +. Loan loss ratio-based model CreditMetrics. Loan volume-based model.

Loan volume-based model

Which of the following statements does NOT reflect credit decisions at the retail level? Retail loans tend to be smaller than wholesale loans. Loans to retail customers are more likely to be rationed through interest rates than loan quantity restrictions. Mortgage loans often are discriminated based on loan to price ratios rather than interest rates. Most loan decisions at the retail level tend to be accept or reject decisions. Household borrowers require higher costs of information collection for lenders.

Loans to retail customers are more likely to be rationed through interest rates than loan quantity restrictions.

If the bank decides to cut down on interest expenses by reducing its dependence upon borrowed funds, what policy must the bank follow? Manage liquidity risk exclusively through reserve asset management. Manage liquidity risk exclusively through liability management. Increase interest income by increasing securities holdings. Increase interest income by increasing lending. Reduce the bank's dependence upon demand deposits.

Manage liquidity risk exclusively through reserve asset management.

Which of the following methods measure loan concentration risk by tracking credit ratings of firms in particular sectors or ratings class for unusual downgrades? Moody's Analytics portfolio manager model. Loan loss ratio-based model. Migration analysis. Concentration limits. Loan volume-based model.

Migration analysis

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? Expected default frequency. Systematic loan loss risk. Loss given default. Loss rate. Concentration limit.

Systematic loan loss risk.

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

The interest rate risk is transferred to the borrower.

What are the possible ways that the bank can meet an expected net deposit drain of +4 percent using purchased liquidity management techniques? All of the options. Utilize further the Fed funds market. Utilize repurchase agreements. Liquidate all cash holdings. Utilize further the Fed funds market and repurchase agreements.

Utilize further the Fed funds market and repurchase agreements.

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

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

What is the essential idea behind Risk-adjusted return on capital (RAROC) models? Extracting expected default rates from the current term structure of interest rates. Dividing net interest and fees by the amount lent. Balancing expected interest and fee income less the cost of funds against the loan's expected risk. Evaluating the actual or contractually promised annual ROA on a loan. Analyzing historic or past default risk experience.

Balancing expected interest and fee income less the cost of funds against the loan's expected risk.

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

Deposit insurance and discount window.

Which of the following is the major weakness of the linear probability model? The model is based on past data of the borrower. Measurement of the loan risk is difficult. Estimated probabilities of default may lie outside the interval 0 to 1. Neither the market value of a firm's assets nor the volatility of the firm's assets is directly observed. None of the options is a weakness of the linear probability model.

Estimated probabilities of default may lie outside the interval 0 to 1

Older loan pools provide very little evidence of credit risk to a particular sector when forming new loans of loans to that sector. True False

False

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

Individual depositors.

Credit rationing by an FI is not used by FIs at the retail level. results from a positive linear relationship between interest rates and expected loan returns. involves restricting the quantity of loans made available to individual borrowers. involves rationing consumer loans using price or interest rate differences.is only relevant to banks.

Involves restricting the quantity of loans made available to individual borrowers.

What is a fire-sale price? Book value of an asset. Maximum price that will be received on sale of an asset irrespective of the time of sale. Price received for an asset that has to be liquidated immediately. Replacement value of an asset.Market value of an asset.

Price received for an asset that has to be liquidated immediately

Which of the following is NOT a potential cause of liquidity risk for a DI? An increase in requests by depositors to withdrawal large amounts of deposits. A decrease in asset prices of securities held in the investment portfolio. A decrease in the DI's stock price caused by market factors. An increase in requests to fund large amounts of loan commitments. A decrease in the availability of short-term borrowed funds.

Selected Answer: A decrease in the DI's stock price caused by market factors.

From the lender's point of view, debt can be evaluated as writing a call option on the borrower's assets with the exercise price equal to the face value of the debt. buying a put option on the borrower's assets with the exercise price equal to the face value of the debt. buying a call option on the borrower's liabilities with the exercise price equal to the market value of the debt. writing a put option on the borrower's assets with the exercise price equal to the face value of the debt. writing a put option on the borrower's liabilities with the exercise price equal to the market value of the debt.

Writing a put option on the borrower's assets with the exercise price equal to the face value of the debt.

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

systematic risk and unsystematic risk.

A weakness of migration analysis to evaluate credit concentration risk is that the analysis makes use of historical data classified only by industries. information obtained for this analysis is ex-ante (i.e. before the fact). migration of firms may only be temporary. analysis makes use of historical data classified by individual firms. information obtained for this analysis is usually ex-post (i.e. after the fact).

information obtained for this analysis is usually ex-post (i.e. after the fact).