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FIN 350 Week 11 Quiz – Strayer University New

FIN/350 Week 11 Quiz – Strayer

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Quiz 10 Chapter 22 and 23

Finance Company Operations

1. ____ finance companies concentrate on purchasing credit contracts from retailers and dealers.
a. Consumer
b. Sales
c. Commercial
d. None of the above

2. Which of the following is not a source of finance company funds to support operations?
a. loans from banks
b. commercial paper
c. federal funds
d. bonds

3. When a finance company’s assets are ____ interest rate sensitive than its liabilities and when interest rates are expected to ____, bonds can provide long-term financing at a rate that is completely insulated from rising market rates.
a. less; increase
b. less; decrease
c. more; increase
d. more; decrease

4. Finance companies differ from commercial banks, savings institutions, and credit unions in that they
a. normally do not obtain funds from deposits.
b. focus on financing acquisitions by companies.
c. focus on providing residential mortgages.
d. use most of their funds to purchase stocks.

5. Which of the following is not a main source of funds for finance companies?
a. bank loans
b. commercial paper issues
c. bonds
d. capital

6. Finance companies are more likely to issue bonds when their assets are presently ____ interest-rate sensitive than their liabilities, and when interest rates are expected to ____.
a. more; decrease
b. less; increase
c. more; increase
d. less; decrease

7. If finance companies were confident about projections of ____ interest rates, they may consider using the funds obtained from issuing bonds to offer loans with ____ rates.
a. declining; variable
b. rising; fixed
c. rising; variable
d. A and B

8. Finance companies would prefer to increase their long-term debt most once interest rates
a. have declined.
b. have increased.
c. were stable for several years.
d. were projected to decline.

9. The main competition for finance companies in the consumer loan market comes from
a. pension funds.
b. life insurance companies and property and casualty insurance companies.
c. commercial banks and savings and institutions.
d. mutual funds.

10. When finance companies purchase a firm’s receivables at a discount, and are responsible for processing and collecting the balances of these accounts, they act as a
a. leasing agent.
b. lessor.
c. lessee.
d. factor.

11. When a finance company purchases equipment for use by another business, the finance company provides financing in the form of
a. factoring.
b. leasing.
c. a banker’s acceptance.
d. a letter of credit.

12. Finance companies are exempt from state regulations.
a. True
b. False

13. Finance companies are not subject to state regulations on intrastate business.
a. True
b. False

14. Finance companies are subject to
a. a maximum limit on loan size.
b. ceiling interest rates on loans provided.
c. a maximum length on loan maturity.
d. regulations on intra-state banking.
e. all of the above

15. If finance companies with a greater rate-sensitivity of liabilities than assets wanted to reduce interest-rate risk, they could
a. shorten their average asset life.
b. lengthen their average asset life.
c. shorten the maturity of debt that they issue.
d. make greater use of fixed-rate loans.

16. Overall, the liquidity risk of finance companies is higher than that of other financial institutions.
a. True
b. False

17. Compared to other lending financial institutions, finance companies have a ____ loan delinquency rate, and the average rate charged on loans is ____ on average.
a. lower; lower
b. lower; higher
c. higher; higher
d. higher; lower

18. A wholly owned subsidiary whose primary purpose is to finance sales of the parent company’s products and services, provide wholesale financing to distributors of the parent company’s products, and purchase receivables of the parent company is a
a. captive finance subsidiary.
b. factor.
c. leasing agent.
d. captive factoring agent.

19. Which of the following statements is incorrect?
a. A captive finance subsidiary’s purpose is to finance sales of the parent company’s products and services.
b. An operating agreement between the parent and the captive specifies the type of receivables that qualify for same and specific services provided by the parent.
c. A captive can be used to finance distributor or dealer inventories until a sale occurs.
d. A captive is rarely used to finance products leased to others.

20. ____ provide loans to firms that cannot obtain financing from commercial banks.
a. Consumer finance companies
b. Sales finance companies
c. Commercial finance companies
d. None of the above

21. Which of the following is not a use of finance company funds?
a. consumer loans
b. business loans
c. commercial paper
d. real estate loans
e. All of the above are uses of finance company funds.

22. Finance companies commonly act as ____ for accounts receivable; that is, they purchase a firm’s receivables at a discount and are responsible for processing and collecting the balances of these accounts.
a. brokers
b. dealers
c. market makers
d. factors
e. none of the above

23. Most finance companies are commonly exposed to all forms of risk below except ____ risk.
a. exchange rate
b. interest rate
c. liquidity
d. credit

24. Changes in economic growth are ____ related to a finance company’s cash flows, and changes in the risk-free rate are ____ related to a finance company’s cash flows.
a. positively; negatively
b. negatively; positively
c. negatively; negatively
d. positively; positively

25. Finance companies participate in the ____ market to reduce interest rate risk.
a. money
b. bond
c. options
d. swap

26. Many consumer finance companies also provide personal loans, directly to individuals to finance purchases of large household items.
a. True
b. False

27. Business finance companies focus on loans to very large businesses.
a. True
b. False

28. Consumer finance companies sometimes provide Business finance companies to individuals.
a. True
b. False

29. Although commercial paper is available only for short-term financing, finance companies can continually roll over their issues to create a permanent source of funds.
a. True
b. False

30. After interest rates increase, finance companies tend to use more long-term debt to lock in the cost of funds over an extended period of time.
a. True
b. False

31. Some finance companies offer credit card loans through a particular retailer.
a. True
b. False

32. The main competition for finance companies in the consumer loan market comes from pension funds and insurance companies.
a. True
b. False

33. The value of a finance company can be modeled as the present value of its future cash flows.
a. True
b. False

34. The most important risk for finance companies is ____ risk.
a. settlement
b. accounting
c. credit
d. exchange rate

35. Finance companies can accumulate capital by doing all of the following except
a. retaining earnings.
b. issuing stock.
c. issuing commercial paper.
d. Finance companies can build their capital base by doing all of the above.

36. Consumer finance companies primarily focus on for
a. consumer loans.
b. consumer advising.
c. consumer regulation.
d. none of the above

37. Finance companies are regulated by the states but are not subject to regulation by an agency of the federal government.
a. True
b. False

38. Historically, captive finance subsidiaries were associated with:
a. the automobile industry.
b. the oil and gas industry.
c. the textile industry.
d. department stores.

Chapter 23—Mutual Fund Operations

1. Which of the following statements is incorrect?
a. Mutual funds serve as a key financial intermediary.
b. Managers of mutual funds do not analyze economic and industry trends.
c. Because of their diversification, management expertise, and liquidity, mutual funds have grown at a rapid pace.
d. Some mutual funds offer check-writing privileges.

2. No-load mutual funds are normally promoted by ____. Load funds are promoted by ____.
a. registered representatives of a brokerage firm; registered representatives of a brokerage firm
b. registered representatives of a brokerage firm; the mutual fund of concern
c. the mutual fund of concern; registered representatives of a brokerage firm
d. the mutual fund of concern; the mutual fund of concern

3. To cover managerial expenses, mutual funds typically charge
a. management fees of less than 2 percent of total assets per year.
b. commissions of typically 8 to 10 percent of transaction market value per year.
c. management fees of typically more than 10 percent of total assets per year.
d. commissions of typically 3 to 5 percent of the transaction market value per year.

4. Mutual funds that are willing to repurchase their shares from investors at any time are referred to as
a. closed-end funds.
b. load mutual funds.
c. no-load mutual funds.
d. open-end mutual funds.

5. ____ funds do not normally repurchase their shares from investors.
a. Closed-end
b. Load mutual
c. No-load mutual
d. Open-end mutual

6. Most closed-end funds invest in
a. stock and bonds.
b. money market securities.
c. gold.
d. derivatives.

7. Exchange-traded funds are like open-end funds in the sense that
a. their shares are traded on an exchange, and their share price changes throughout the day.
b. they have a fixed number of shares.
c. they are not actively managed.
d. none of the above

8. Hedge funds differ from open-end mutual funds in the sense that
a. they require a much smaller initial investment.
b. they are open to additional investments at any time.
c. their investors cannot sell shares back to the fund at any time they desire.
d. they invest in very limited set of securities.

9. Shares of open-end mutual funds are purchased and sold on exchanges.
a. True
b. False

10. Mutual funds
a. are unregulated.
b. are required to disclose the names of their portfolio managers in the prospectus.
c. are not required to disclose any information about their past performance.
d. are exempt from all taxes.

11. Which of the following is not disclosed in the prospectus?
a. the minimum amount of investment required
b. the investment objective of the funds
c. the fees incurred by the mutual fund
d. all of the above are disclosed

12. The net asset value of a mutual fund is estimated once every week.
a. True
b. False

13. Mutual funds with ____ expense ratios tend to ____ others that have a similar investment objective.
a. lower; underperform
b. higher; outperform
c. lower; outperform
d. A and B

14. A front-end load is a withdrawal fee assessed when you withdraw money from the mutual fund.
a. True
b. False

15. Money market funds invest mostly in
a. stocks.
b. long-term bonds.
c. real estate.
d. short-term securities.

16. If investors sell their mutual fund shares after the net asset value of the fund increases, the return is called
a. share price appreciation.
b. capital gains distribution.
c. dividends.
d. split net asset value.

17. Mutual funds composed of stocks that have potential for very high growth, but may also be unproven, are called
a. income funds.
b. capital appreciation funds.
c. specialty funds.
d. dividend funds.

18. Mutual funds composed of bonds that offer periodic coupon payments are
a. income funds.
b. specialty funds.
c. dividend funds.
d. growth funds.

19. Mutual funds whose bonds have a ____ average time to maturity are ____ sensitive to interest rate fluctuations.
a. longer; less
b. shorter; less
c. shorter; more
d. A and C

20. The net asset value of international stock mutual funds ____ as the dollar strengthens against foreign currencies. (Assume no change in the prices of foreign stocks.)
a. increases
b. decreases
c. is unaffected
d. can increase or decrease depending on the dollar’s degree of strength

21. Mutual funds that include some non-U.S. stocks and U.S. stocks are called ____ funds.
a. global
b. foreign
c. combined
d. mixed

22. A mutual fund consisting only of stocks of firms that are in a specific industry is an example of a ____ fund.
a. specialty
b. growth
c. capital appreciation
d. growth and income

23. The majority of mutual fund assets are in the form of
a. common stocks.
b. preferred stocks.
c. U.S. government bonds.
d. municipal bonds.

24. If a mutual fund distributes at least ____ percent of its taxable income to shareholders, the fund is exempt from taxes on dividends, interest, and capital gains distributed to shareholders.
a. 25
b. 50
c. 75
d. 90

25. When the redemptions of money market mutual fund shares exceeds sales of shares, the fund accommodates the amount of excessive redemptions by
a. selling some of the assets contained in the portfolio.
b. issuing stock.
c. issuing bonds.
d. borrowing from banks.

26. Money market fund assets include all of the following, except
a. stocks.
b. repurchase agreements.
c. Treasury bills.
d. CDs.

27. If money market funds definitely expect interest rates to increase, they will ____ their average asset maturity.
a. not adjust
b. shorten
c. lengthen
d. shorten (if the expected change is small) or lengthen (if the expected change is large)

28. Money market funds are normally perceived to have ____ interest rate risk, and ____ default risk.
a. low; high
b. high; high
c. high; low
d. low; low

29. Equity real estate investment trusts invest
a. in mortgage and construction loans.
b. directly in properties.
c. in common stocks issued by construction companies.
d. in common stocks issued by real estate brokerage firms.

30. Because ____ real estate investment trusts essentially represent a fixed income portfolio, their market value will ____ as interest rates increase.
a. equity; increase
b. equity; decrease
c. mortgage; increase
d. mortgage; decrease

31. When interest rates decline, investors who want to earn a high return may tend to ____ in stock mutual funds, and ____ deposits in depository institutions.
a. reduce; reduce
b. reduce; increase
c. increase; reduce
d. increase; increase

32. The composition of asset allocation funds
a. is focused completely on one type of security as specified by the particular mutual fund.
b. is fixed and not altered by the mutual fund managers.
c. A and B
d. none of the above

33. A mutual fund prospectus does not contain
a. minimum amount of investment required.
b. return on the fund since its inception.
c. investment objective of the mutual fund.
d. exposure of the mutual fund to various types of risk.
e. fees incurred by the mutual fund.

34. The ____ of a mutual fund indicates the value per share.
a. net asset value
b. gross asset value
c. net stock value
d. net bond value
e. none of the above

35. Mutual funds whose funds are promoted strictly by the mutual fund of concern are called
a. closed-end funds.
b. load mutual funds.
c. no-load mutual funds.
d. open-end mutual funds.

36. Mutual funds that are composed of bonds that offer periodic coupon payments are called ____ mutual funds.
a. tax-free
b. income
c. high-yield
d. growth
e. none of the above

37. ____ are most likely to invest in mortgages.
a. Stock mutual funds
b. Bond mutual funds
c. Load funds
d. Closed-end funds

38. Hedge funds that exceed a specified size must register with the
a. Securities and Exchange Commission (SEC).
b. Federal Reserve.
c. Office of Thrift Supervision.
d. Federal Mutual Fund Board.

39. According to SEC regulations, the majority of the members on a mutual fund’s board of directors must be
a. employed by the fund.
b. outsiders (not employed by the fund).
c. certified public accountants.
d. certified financial analysts.

40. An expense ratio represents ____ divided by the fund’s ____.
a. annual fees charged to investors; 12b-1 fees
b. annual fees charged to investors; net asset value
c. initial sales charge (load); 12b-1 fees
d. initial sales charge (load); net asset value

41. The most common investment by closed-end funds is in
a. derivatives.
b. bonds.
c. money market securities.
d. international equity securities.

42. ____ are beneficial for investors who want to invest in tax-exempt securities.
a. Municipal bond funds
b. Growth and income funds
c. International and global funds
d. Money market funds

43. When the demand for a particular closed-end fund is ____, the fund is likely priced at a ____.
a. high; discount
b. low; discount
c. high; premium
d. B and C are correct

44. Which of the following statements is incorrect?
a. Commercial paper is commonly purchased by money market funds.
b. From an investor’s perspective, money market funds usually have a low level of credit risk.
c. Money market funds tend to have low interest rate risk compared to bond funds.
d. If mutual fund managers expect interest rates to decrease in the future, they should use funds generated from maturing securities today to purchase new securities with shorter maturities.

45. The number of exchange-traded funds has declined over the last several years because the cost of managing them was excessive.
a. True
b. False

46. Exchange-traded funds can be purchased on margin.
a. True
b. False

47. Investors can sell exchange-traded funds short.
a. True
b. False

48. Mutual fund managers seek securities that have much liquidity so that they could easily sell them in the secondary market at any time.
a. True
b. False

49. Closed-end funds are closed to new investment but allow redemptions by shareholders.
a. True
b. False

50. Closed-end fund managers must hold more cash than mutual fund managers.
a. True
b. False

51. Index mutual funds are not traded throughout the day, while exchange-traded funds are.
a. True
b. False

52. Venture capital funds typically invest in stocks of publicly-traded companies.
a. True
b. False

53. Many businesses that go public are partially backed by venture capital before the IPO.
a. True
b. False

54. Private equity funds use most of their money to invest in stocks of publicly-traded companies.
a. True
b. False

55. Vulture funds are a type of private equity fund that purchase distressed assets of a firm that is in or near bankruptcy.
a. True
b. False

56. Hedge funds commonly engage in short selling.
a. True
b. False

57. ____ are not exchange-traded funds.
a. Spiders
b. Growth mutual funds
c. Diamonds
d. Sector Spiders

58. Which of the following statements is incorrect?
a. ETFs are like index mutual funds because the share price adjusts over time in response to the change in the index level.
b. Both ETFs and index mutual funds pay dividends in the form of additional shares to investors.
c. The portfolio management of both ETFs and index mutual funds is very complex.
d. ETFs can be traded throughout the day.

59. Funds that are designed to mimic particular stock indexes and are traded on a stock exchange are known as
a. index mutual funds.
b. exchange-traded funds.
c. money market funds.
d. none of the above

60. Exchange traded funds can be
a. traded throughout the day.
b. purchased on margin.
c. sold short.
d. all of the above

61. ____ trade at one-tenth of the S&P 500 value.
a. Spiders
b. Cubes
c. Diamonds
d. World Equity Benchmark Shares

62. Mutual funds must register with the U.S. Treasury and provide to interested investors a prospectus that discloses details about the components of the funds and risks involved.
a. True
b. False

63. The net asset value (NAV) is estimated each day by first determining the market value of all securities comprising the mutual fund.
a. True
b. False

64. Portfolio managers are hired by the mutual fund to invest in a portfolio of securities that satisfies the desires of investors.
a. True
b. False

65. The expenses incurred by a mutual fund are billed separately to investors, and are not included in the fund’s net asset value (NAV).
a. True
b. False

66. A front-end load is a withdrawal fee assessed when you withdraw money from the mutual fund.
a. True
b. False

67. Large mutual funds can exert some control over the management of firms because they commonly represent the largest shareholders.
a. True
b. False

68. Investors who feel capable of making their own investment decisions often prefer to invest in load funds.
a. True
b. False

69. The term “mutual funds” is normally used to represent closed-end funds, and does not include open-end funds.
a. True
b. False

70. Exchange-traded funds differ from open-end funds in that their share price is adjusted only at the end of every day.
a. True
b. False

71. Capital appreciation funds are suited for investors who are more willing to risk a possible loss in value.
a. True
b. False

72. The returns on international stock mutual funds are affected only by foreign companies’ stock prices, and are independent of currency movements.
a. True
b. False

73. Index funds are becoming increasingly unpopular because most mutual fund managers consistently outperform indexes.
a. True
b. False

74. A mutual fund’s performance is usually unrelated to market conditions.
a. True
b. False

75. The SEC requires that a majority of the directors of a mutual fund board be independent (not employed by the fund).
a. True
b. False

76. Diversification among types of mutual funds usually does little to reduce the volatility of returns on the overall investment.
a. True
b. False

77. Closed-end funds may sometimes engage in a stock repurchase, in which they purchase shares on the exchange where the shares are listed.
a. True
b. False

78. Because money market funds contain instruments with short-term maturities, their market values are not very sensitive to movements in market interest rates.
a. True
b. False

79. Equity REITs are sometimes purchased to hedge against inflation, as rents and property values tend to rise with inflation.
a. True
b. False

80. Equity REITs essentially represent fixed-income portfolios. Thus, their market values will be influenced by interest rate movements.
a. True
b. False

81. Hedge funds are more heavily regulated than mutual funds.
a. True
b. False

82. Which of the following is not true regarding mutual funds?
a. They are a key financial intermediary.
b. They provide an important service to individual investors seeking to invest funds.
c. Most mutual funds use experienced portfolio managers, so investors do not have to manage the portfolio themselves.
d. They provide a way for individual investors to diversify, but most individual investors are unable to afford the purchase of mutual fund shares.

83. Which of the following statements is incorrect?
a. Exchange-traded funds (ETFs) are designed to mimic particular stock indexes and are traded on a stock exchange.
b. Unlike a closed-end fund, an ETF has a fixed number of shares.
c. ETFs differ from most open-end and closed-end funds in that they are not actively managed.
d. One disadvantage of ETFs is that each purchase of additional shares must be done through the exchange where they are traded.

84. A mutual fund prospectus does not contain the
a. minimum amount of investment required.
b. investment objective of the mutual fund.
c. exposure of the mutual fund to various types of risk.
d. return on the fund since its inception.
e. fees incurred by the mutual fund.

85. The ____ of a mutual fund represents the price at which shares can be purchased from a mutual fund.
a. gross asset value
b. net asset value
c. net stock value
d. net bond value

86. Which of the following is incorrect about money market funds (MMFs)?
a. The credit risk of MMFs is normally perceived to be lower than that of corporate bonds.
b. MMFs have higher interest rate risk than bond funds.
c. MMFs normally generate positive returns over time
d. All of the above are correct.

87. ____ are most likely to invest in mortgages.
a. Stock mutual funds
b. Real estate investment trusts (REITs)
c. Load funds
d. Closed-end funds
e. None of the above

88. Mutual funds are not required to disclose which of the following in the prospectus?
a. the names of the portfolio managers
b. the length of time that the portfolio managers have been employed by the fund in that position
c. the performance record in recent years
d. the number of investors currently investing in the mutual fund
e. Mutual funds are required to disclose all of the above in a prospectus

89. Which of the following is not a way in which mutual funds generate returns for their shareholders?
a. They can pass on any earned income as dividend payments to shareholders.
b. They distribute the capital gains resulting from the sale of securities within the fund.
c. The mutual fund price appreciates.
d. All of the above are ways in which a mutual fund generates returns to its shareholders.

90. A(n) ____ fund contains a sales charge.
a. load
b. no-load
c. closed-end
d. open-end
e. none of the above

91. ____ funds are open to investment from investors at any time.
a. Load
b. No-load
c. Open-end
d. Closed-end
e. None of the above

92. Which of the following statements is incorrect?
a. Investors can purchase shares directly from an open-end fund at any time.
b. The number of shares of an open-end fund is always changing.
c. Open-end funds typically maintain some cash on hand in case investments exceed redemptions.
d. There are many different categories of open-end mutual funds.

93. ____ funds focus on a group of companies sharing a particular characteristic.
a. Specialty
b. Growth and income
c. Closed-end
d. Capital appreciation
e. None of the above

94. Bond portfolios with some bonds rated below Baa by Moody’s or BBB by Standard and Poor’s, available for investors desiring high return and willing to incur high risk, are called ____ funds.
a. growth
b. capital appreciation
c. junk bond
d. bond
e. none of the above

95. Which of the following statements is incorrect?
a. A mutual fund is usually run by an investment company.
b. Although many mutual funds have grown substantially over time, their expense ratios have generally increased over time.
c. For each mutual fund, all expenses charged and reflected in the expense ratio are always valid.
d. The SEC requires that a majority of the directors of a mutual fund board be independent.

96. Money market funds commonly invest in
a. stocks.
b. real estate.
c. commercial paper.
d. U.S. Treasury bonds.
e. none of the above

97. Which of the following is not true with respect to venture capital funds?
a. They typically invest in young, growing firms that need equity funding but are not ready or willing to go public.
b. More than half of all VC investing is in businesses that are being created.
c. Venture capital funds tend to focus on technology firms, which have the potential for high returns but also exhibit a high level of risk.
d. Because VC funds invest in fairly safe ventures, a low percentage of their ventures fail.
e. All of the above are correct with respect to venture capital funds.

98. ____ funds sell shares to wealthy individuals and financial institutions and use the proceeds to invest in securities.
a. Growth
b. Open-end
c. Capital appreciation
d. Hedge
e. Specialty

99. Exchange-traded funds distribute their capital gains to their shareholders, who must pay tax on the gains.
a. True
b. False

100. Shares of exchange-traded funds can be sold _________, and shares of open-end mutual funds can be sold _________.
a. at any time during trading hours; at any time via private trading networks
b. only at the end of the day; at any time during trading hours
c. at any time via private trading networks; at any time during trading hours
d. at any time during trading hours; only at the end of the day

101. The average annual fee on actively managed exchange-traded funds is ________, which is _________.
a. zero.
b. lower than the typical annual fee on open-end mutual funds.
c. higher than the typical annual fee on open-end mutual funds.
d. the same as the typical annual fee on open-end mutual funds.

102. An investor who believes that technology stocks will perform well but does not want to select individual technology stocks might invest in:
a. Spiders.
b. WEBs.
c. Cubes.
d. Diamonds.

103. If interest rates are expected to ________, mortgage real investment trusts (REITs) ___________.
a. decline; become less attractive
b. rise; become less attractive
c. rise; are not affected
d. decline; are not affected

104. Investors who invest in a hedge fund of funds essentially pay two layers of management fees.
a. True
b. False

105. Hedge funds commonly use financial leverage, which can:
a. magnify their returns and magnify their losses.
b. magnify their returns and limit their losses.
c. reduce their risk and limit their losses.
d. magnify their returns and not affect their risk.

ECO 410 Week 11 Quiz – Strayer University New

ECO/410 Week 11 Quiz – Strayer

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Quiz 10 Chapter 19 and 20

Working Capital Management

19.1 Trident Brazil’s Operating Cycle

Multiple Choice

1) Working capital management involves the management of:
A) current and long-term assets.
B) current assets and current liabilities.
C) current liabilities and long-term assets.
D) current liabilities and long-term debt and equity.

2) The cash conversion cycle:
A) is a subset of the operating cycle.
B) occurs in the latter stages of the operating cycle.
C) is a subset of the accounts receivable period.
D) all of the above.

3) The proper order of events for the operating cycle is:
A) input serving period, accounts receivable period, inventory period, quotation period.
B) quotation period, accounts receivable period, inventory period, input servicing period.
C) quotation period, input servicing period, inventory period, accounts receivable period.
D) accounts receivable period, input servicing period, quotation period, inventory period.

4) TrinityApps Corporation (US) has bid a price on a project for a Korean firm, but the Korean firm has not yet placed an order. This portion of the operating cycle is best described as the:
A) quotation period.
B) input sourcing period.
C) cash conversion cycle.
D) accounts payable cycle.

5) The period in the cash cycle where the customer places the order, and the firm determines what materials for manufacture are NOT in inventory is called the ________ period.
A) quotation
B) input sourcing
C) accounts payable
D) accounts receivable

6) The accounts payable period of the operating cycle:
A) is equal to the inventory period.
B) may run concurrently but shorter than the inventory period.
C) may run concurrently but longer than the inventory period.
D) Any one of the above may be true.

True/False

1) Typically, the inventory period and the accounts payable period at least partially overlap in the firms operating cycle.

2) Typically, the inventory period and the accounts receivable period at least partially overlap in the firms operating cycle.

3) The operating cycle begins with the quotation period and ends with the accounts payable period.

19.2 Trident’s Repositioning Decisions

Multiple Choice

1) Of the following, which would NOT be a significant decision-making factor in a multinational firm’s repositioning decision-making?
A) the subsidiary’s tax environment (high or low)
B) the stability of the local currency
C) the ability to move capital in and out of the subsidiary’s country
D) All of the above are significant factors.

True/False

1) In a country with a relatively high tax rate, it make sense the the MNE to reposition cash flows TO that country.

2) The MNE would prefer to leave capital with a firm in a country with high growth prospects over the alternative of leaving capital with a firm in a country with low growth prospects (other factors equal).

19.3 Constraints on Repositioning Funds

Multiple Choice

1) Each of the following is listed by your authors as a constraint on repositioning funds by an MNE EXCEPT:
A) political constraints.
B) tax constraints.
C) transaction costs.
D) All of the above are listed by your authors.

True/False

1) Local liquidity needs sometimes impact a firm’s worldwide optimal cash position.

2) The constraints on repositioning of funds that occur when exchanging one currency for another are considered to be primarily political constraints.

3) Political constraints can block the transfer of funds either overtly or covertly. OVERT blockage occurs when dividends or other forms of fund remittances are severely limited, heavily taxed, or excessively delayed by the need for bureaucratic approval.

19.4 Conduits for Moving Funds by Unbundling Them

Multiple Choice

1) ________ allows a multinational firm to recover funds from subsidiaries without piquing host country sensitivities over large dividend drains.
A) Unbundling funds
B) Bundling funds
C) Coordinating funds
D) none of the above

2) Unbundling of funds by an MNE may be a useful practice for which of the following reasons?
A) An increase in the funds flow (charges) in any of the before-tax categories reduces the taxable profits of the foreign subsidiary if the host-country tax authorities acknowledge the charge as a legitimate expense.
B) An item-by-item matching of remittance to input, such as royalties for intellectual property, and fees for patents and advice, is equitable to the host country and foreign investor alike.
C) Unbundling facilitates allocation of overhead from a parent”s international division, so-called shared services, to each operating subsidiary in accordance with a predetermined formula.
D) All of the reasons listed above

True/False

1) If all investment inputs are unbundled, part of what might have been classified as residual profits may turn out to be tax-deductible expenses related to a specific purchased benefit.

2) The before-tax/after-tax distinction is quite significant to a parent company attempting to repatriate funds in the most tax-efficient method if it is attempting to manage its own foreign tax credit/deficits between foreign units.

19.5 International Dividend Remittances

Multiple Choice

1) In anticipation of a foreign exchange loss, an MNE may speed up the transfer of funds out of the company via dividends. When undertaking such an activity the MNE must be concerned with all of the following EXCEPT:
A) interest rate differences between the two countries.
B) the negative impact on host country relations.
C) defection on the part of executives in the home headquarters.
D) MNEs must be concerned with all of the above.

True/False

1) Political risk may motivate parent firms to require foreign subsidiaries to remit all locally generated funds above that required to internally finance growth in sales and planned capital expansions.

19.6 Net Working Capital

Multiple Choice

1) One possible definition of net working capital (NWC) provided by your authors is:
A) NWC = A/R + inventory – A/P.
B) NWC = cash + A/P – inventory.
C) NWC = A/P + A/R – short-term loans.
D) NWC = A/R + inventory – long-term debt.

2) Which of the following actions will result in an increase in NWC?
A) an increase in A/P that exceeds an increase in A/R
B) a reduction in inventory
C) a reduction in A/P plus a smaller reduction in A/R
D) an increase in A/P and a smaller reduction in inventory

3) Which of the following statements is true?
A) A/R provide part of the funding for inventory.
B) A/P provide part of the funding for A/R and inventory.
C) Inventory pays for A/R and A/P.
D) None of the above is true.

TABLE 19.1
Use the information to answer following question(s).

TrinityApps Corporation Balance Sheet December 31, 20xx

4) Refer to Table 19.1. The NWC for TrinityApps is:
A) $80,000
B) $680,000
C) $35,000
D) $45,000

5) Refer to Table 19.1. If TrinityApps increases inventory by $10,000 and A/P also by $10,000, the net change in NWC is:
A) $20,000
B) $10,000
C) $0
D) none of the above

6) Refer to Table 19.1. NWC currently makes up what percentage of total firm value for TrinityApps?
A) 6.6%
B) 5.1%
C) 11.8%
D) 9.2%

Instruction 19.1:
Use the information to answer the following question(s).

Sunny Manufacturing Systems Inc. is supplied with plastic chips for their plastic injection molding manufacturing process. Their supplier, Sun Chemical, Inc. offers financing terms of a 2% discount if the accounts payable are paid in 10 days or less with the full balance due in 45 days. Short-term financing available to Sunny Manufacturing is available at an annual rate of 9.6%. Sunny Manufacturing has just purchased $400,000 of plastic chips from Sun Chemical.

7) Refer to Instruction 19.1. What is the amount of money Sunny Manufacturing will save on accounts payable if they accept the discount?
A) $400,000
B) $8,000
C) $33,333
D) $20,000

8) Refer to Instruction 19.1. What is the effective annual interest cost of supplier financing offered by Sun Chemical?
A) 7.3%
B) 9.5%
C) 10.4%
D) 22.9%

9) Refer to Instruction 19.1. Should Sunny Manufacturing take the discount offered by Sun Chemical?
A) Yes, Sunny Manufacturing will get to use their raw materials 35 days earlier than if they waited to pay at the end of the 45 days.
B) No, Sunny Manufacturing will not have to pay any interest if they just pay in 45 days.
C) Yes, Sunny Manufacturing’s short term borrowing rate of 9.6% is less than Sun’s offered cost of carry of 22.9%.
D) No, it costs Sunny Manufacturing 22.9% to accept the discount and they are better off paying the full amount in 45 days.

10) Days working capital is equal to:
A) days payables + days receivables – days inventory.
B) days inventory + days receivables – days payables.
C) days payables + days inventory + days receivables.
D) none of the above

11) Amundsen of Norway receives raw materials from their corporate parent in the U.S. with payment terms of net 60 days. Most of their sales are to firms in Norway where normal payment terms are net 30 days. This causes a problem for the subsidiary with working capital management because:
A) accounts receivable are so much longer than accounts payable.
B) accounts payable are so much longer than accounts receivable.
C) accounts receivable and accounts payable are equal.
D) This doesn’t really cause a problem; in fact it is to the benefit of the Norwegian subsidiary.

True/False

1) In principle, the firm tries to minimize its NWC balance.

2) Other things equal, managers prefer a lower “days working capital” to a higher one.

3) The authors present empirical evidence that shows the days sales basis for working capital to be 30 days GREATER in the U.S. compared to a similar industry in Europe.

Essay

1) What is a free-trade zone? Identify three techniques and provide examples of how firms and countries can benefit from having free trade zones.

19.7 International Cash Management

Multiple Choice

1) Other things equal, a firm would rather have ________ in a depreciating currency, and ________ in an appreciating currency.
A) accounts receivable; accounts payable
B) accounts receivable; accounts receivable
C) accounts payable; accounts receivable
D) none of the above

2) Which of the following is NOT a precautionary motive for holding cash?
A) Anticipated funds to be remitted from several Middle East countries are in question due to unrest in the region.
B) The firm has several short-term obligations in unhedged foreign currency-denominated contracts.
C) The firm must pay ordinary wages in two days.
D) All are precautionary motives.

3) Increases to cash flows can be anticipated if which of the following occurs?
A) A receivables contract is denominated in an appreciating foreign currency.
B) Sales are less than anticipated.
C) Days in accounts receivable increase by 15 days.
D) none of the above

4) A centralized depository benefits the firm primarily by:
A) reducing the cost of repatriating funds.
B) positioning profits where taxes are lowest.
C) reducing the total amount of capital employed within the total firm.
D) earning a higher rate of return than in domestic banking deposits.

5) The Clearing House Interbank Payment System (CHIPS) is:
A) the largest publicly operated payments system in the world.
B) owned and operated by the world’s seven largest central banks.
C) a computerized network that connects banks globally.
D) none of the above

6) An organizational structure employed by an MNE to reduce its use of bank lending for the support of operations is:
A) a centralized depository.
B) a reinvoicing center.
C) a cost center.
D) a syndicated bank.

7) ________ is the process that cancels via offset all, or part, of the debt owed by one entity to another related entity.
A) Syndicated banking
B) Centralized depositing
C) Multilateral netting
D) Debt cancellation

True/False

1) In an inflationary economy, demand for credit usually exceeds supply.

2) For disbursement purposes, it is to the benefit of the firm to minimize float.

3) Regarding wire transfers, CHIPS actually clears transactions whereas SWIFT does not.

4) A significant problem with centralized cash depositories is that they are isolated from the rest of the firm and tend to be at an information disadvantage.

5) A reason for holding all precautionary balances in a central pool is that the total pool, if centralized, can be reduced in size without any loss in the level of protection.

6) A disadvantage of a centralized cash management system is that managers will not be able to get the lowest average rate available for the firm. Instead, it misses out on the really low borrowing rates.

Essay

1) Central depositories are used for international cash management. What is a central depository? Identify and provide examples of at least three advantages to MNEs of having a central depository.

19.8 Financing Working Capital

Multiple Choice

1) A precautionary cash balance:
A) is used to replace spoiled or damaged inventory.
B) is held to facilitate cash disbursements when receipts slow down.
C) is used for normal day-to-day operations.
D) is held for the benefit of a sister affiliate.

2) An in-house bank:
A) is a separate bank chartered to operate within a business firm.
B) is in fact a set of functions performed by the firm’s existing treasury department.
C) assesses the credit standing of the bank’s customers.
D) provides banking services for employees.

3) A foreign banking office that is separately incorporated in the host country is:
A) a correspondent bank.
B) a representative office.
C) a bank subsidiary.
D) an Edge Act corporation.

True/False

1) An Edge Act corporation is a subsidiary of a U.S. bank located outside of the U.S. and incorporated to engage in international banking and financing operations.

2) Because they are direct payments, dividends are among the most efficient way for foreign subsidiaries to remit funds back to the parent.

3) Even though dividends are cash payments, firms typically must consider both cash flow and net income when making dividend distribution decisions.

Chapter 20 International Trade Finance

20.1 The Trade Relationship

Multiple Choice

1) The exporter-importer relationship to a corporation of a foreign importer that has not previously conducted business with the firm would be an:
A) unaffiliated known.
B) affiliated party.
C) unaffiliated unknown.
D) any of the above

2) Which of the following relationships between importing and exporting parties would require the least detailed contract to conduct business?
A) affiliated party
B) unaffiliated unknown party
C) known unaffiliated party
D) domestic supplier

3) Polaris Corporation has made an agreement to ship goods to a foreign firm with whom they have not entered into a contract for three years. However, the firms have communicated regularly since the last sale three years ago. This is an example of an:
A) unaffiliated known party transaction.
B) unaffiliated unknown party transaction.
C) affiliated party transaction.
D) none of the above

True/False

1) Today, international trade is dominated by transactions between unaffiliated parties (known or unknown).

2) Because most international transactions are between affiliated parties, international transaction contracts are less complex, but the management of the total value of the MNE is more complex.

3) An advantage of trading with an affiliated party for an MNE, compared to an unaffiliated party, could be reduced contracting costs and less to even no need to protect against nonpayment.

20.2 The Trade Dilemma

Multiple Choice

1) Which of the following is NOT a financial instrument that may be included in an international trade transaction?
A) Letter of Credit
B) Sight Draft
C) Order bill of lading
D) Federal funds transaction

True/False

1) The fundamental dilemma of foreign trade is being unwilling to trust a stranger in a foreign land.

20.3 Benefits of the System

Multiple Choice

1) The combination of a letter of credit, a sight draft, and an order bill of lading protect both parties in international transactions from which of the following?
A) the risk of noncompletion
B) the risk of foreign exchange risk (when combined with a various hedging techniques)
C) the risk that financing will not be available due to foreign exchange risk
D) All of these risks are reduced when using these trade implements.

True/False

1) If a foreign exchange transaction calls for payment in the importer’s currency, the exporter has the foreign exchange risk.

2) If a foreign exchange transaction calls for payment in the exporter’s currency, the importer has the foreign exchange risk.

3) In the case of international trade, the risk of nonpayment is essentially eliminated with the use of a letter of credit issued through a trustworthy bank.

20.4 Key Documents

Multiple Choice

1) Which of the following is NOT true regarding a letter of credit?
A) The importer and exporter agree on a transaction.
B) The importer applies to its local bank for the issuance of a letter of credit.
C) The exporter applies to its local bank for the issuance of a letter of credit.
D) The importer’s bank cuts a sales contract based on its assessment of the creditworthiness of the importer.

2) A/An ________ letter of credit is intended to serve as a means of arranging payment, but not as a guarantee of payment.
A) irrevocable
B) revocable
C) confirmed
D) unconfirmed

3) A/An ________ letter of credit is an obligation only of the issuing bank whereas other banks honor a/an ________ letter of credit.
A) irrevocable; unconfirmed
B) revocable; confirmed
C) confirmed; irrevocable
D) unconfirmed; confirmed

4) A letter of credit that is confirmed in the ________ country has the additional advantage of eliminating the problem of ________.
A) exporter’s; portfolio risk
B) importer’s; blocked foreign exchange
C) exporter’s; blocked foreign exchange
D) none of the above

5) The draft is the instrument normally used in international commerce to:
A) transfer product.
B) prove ownership.
C) transfer title.
D) initiate the sale.

6) The ________ is the instrument normally used to actually effect payment in international commerce.
A) banker’s acceptance
B) bill of exchange
C) bill of lading
D) letter of credit

7) The person or company initiating the draft or bill of exchange is known as the:
A) maker.
B) drawer.
C) originator.
D) any of the above

8) The person or company to whom the draft or bill of exchange is addressed is the:
A) drawee.
B) drawer.
C) maker.
D) originator.

9) Drafts that have been accepted by banks become:
A) clean drafts.
B) nonmarketable.
C) banker’s acceptances.
D) none of the above

10) Which of the following purposes is NOT served by the bill of lading?
A) It acts as a receipt.
B) It acts as a contract.
C) It acts as a document of title.
D) It acts as all of the above.

11) The ________ is issued to the exporter by a common carrier transporting the merchandise.
A) bill of lading
B) draft
C) banker’s acceptance
D) line of credit

12) A straight bill of lading is most likely to be used under which of the following circumstances?
A) when the merchandise has not been paid for in advance
B) when the transaction is being financed by a bank
C) when the shipment is to an affiliate
D) none of the above

13) To become a negotiable instrument, a draft must conform to the following requirements EXCEPT:
A) it must be in writing and signed by the maker or drawer.
B) it must be payable to order or to bearer.
C) it must be written in English.
D) it must be payable on demand or at a fixed or determinable future date.

True/False

1) A letter of credit is an agreement by the bank to pay against documents rather than the actual merchandise.

2) The primary advantage of a letter of credit is that it reduces risk.

3) The major advantage of a letter of credit to the exporter is that the exporter does not receive any funds until the documents have arrived at a local port or airfield.

4) To constitute a true letter of credit transaction, the issuing bank must receive a fee or other valid business consideration for issuing the L/C.

5) To constitute a true letter of credit transaction, the bank’s L/C must contain a specified expiration date or a definite maturity.

6) To constitute a true letter of credit transaction, the bank’s commitment must be open-ended and cannot have a stated maximum amount of money.

7) A revocable L/C is intended to serve as a means of arranging payment but not as a guarantee of payment.

8) A sight draft is payable on presentation to the drawee; a time draft allows a delay in payment.

9) A draft is sometimes called a revocable letter of credit.

10) A time draft is payable on presentation to the drawee; the drawee must pay at once or dishonor the draft. A sight draft, allows a delay in payment.

11) The bill of lading is issued to the exporter by a common carrier transporting the merchandise. It serves three purposes: a receipt, a contract, and a document of title.

Essay

1) Explain what a letter of credit (L/C) is, who the principle parties are, what the principle advantage is, and how the L/C facilitates international trade.

20.5 Example: Documentation in a Typical Trade Transaction

Multiple Choice

1) In a typical international trade transaction, the order of activity would be which of the following?
A) The foreign buyer places an order; The domestic manufacturer ships to the buyer; The manufacturer’s bank presents a draft and documents to the buyer’s bank for acceptance; The buyer’s bank submits payment to the manufacturer’s bank.
B) The domestic manufacturer ships to the buyer; The buyer’s bank submits payment to the manufacturer’s bank; The foreign buyer places an order; The domestic manufacturer ships to the buyer; The manufacturer’s bank presents a draft and documents to the buyer’s bank for acceptance.
C) The foreign buyer places an order; The manufacturer’s bank presents a draft and documents to the buyer’s bank for acceptance; The domestic manufacturer ships to the buyer; The buyer’s bank submits payment to the manufacturer’s bank.
D) The domestic manufacturer ships to the buyer; The manufacturer’s bank presents a draft and documents to the buyer’s bank for acceptance; The foreign buyer places an order; The buyer’s bank submits payment to the manufacturer’s bank.

True/False

1) Because of the risks involved in international trade, most transactions follow conventional methods and rarely require flexibility or creativity on the part of management.

Comment: Few international transactions are typical and often require flexibility or creativity on the part of management.

20.6 Government Programs to Help Finance Exports

Multiple Choice

1) The Export-Import Bank is an independent agency of the U.S. government established in 1934 to:
A) ship money abroad.
B) import agricultural products during the recession.
C) facilitate and stimulate foreign trade of the United States.
D) none of the above

2) In the United States, the Foreign Credit Insurance Corporation:
A) is a subsidiary of the Export-Import Bank.
B) provides letters of credit for U.S. importers.
C) provides letters of credit for U.S. exporters.
D) provides policies that protect U.S. exporters against default by foreign importers.

Instruction 20.1:
Use the information to answer the following question(s).

Cypress Systems Inc., of Florida, agrees to sell specialized hydroponic growing equipment to Landcaster’s of Australia. Because the two companies have never done business with each other, Cypress requires a banker’s acceptance as payment for the $1,000,000 order. The banker’s acceptance carries a 1.4% commission per annum and payment is to be received in 6 months. If Cypress Inc. chooses to discount or sell the bankers acceptance to its bank, the discount rate is 1.00% per annum.

3) Refer to Instruction 20.1. What is the size of the discount (not including the commission fee) Cypress must take for receiving the proceeds of the sale today rather than waiting for six months?
A) $7,000
B) $5,000
C) $12,000
D) $14.000

4) Refer to Instruction 20.1. What is the size of the commission Cypress will pay the bank for the banker’s acceptance?
A) $7,000
B) $5,000
C) $12,000
D) $14,000

5) Refer to Instruction 20.1. What is the total Cypress can expect to receive if the firm takes payment today?
A) $993,000
B) $995,000
C) $988,000
D) $996,000

6) Refer to Instruction 20.1. ________ is an unsecured promissory note.
A) A banker’s acceptance
B) An overdraft
C) A securitized loan
D) Commercial paper

7) Rogue Spices Inc. has a Canadian receivables contract for $200,000 due in 270 days. The firm has been approached by a factoring firm that offers to purchase the receivables at a 12% per annum discount plus a 1% charge for a nonrecourse clause. What is the annualized percentage all-in-cost of this factoring alternative?
A) 14.82%
B) 13.00%
C) 12.00%
D) 9.09%

True/False

1) The Foreign Credit Insurance Association is a branch of the U.S. federal government.

2) The Export-Import Bank (also called Eximbank) is an independent agency of the U.S. government, established in 1934 to stimulate and facilitate the foreign trade of the United States.

3) Essentially, the Eximbank lends dollars to borrowers inside the United States for the purchase of U.S. goods and services.

4) Banker’s acceptances can be used to finance only international trade receivables but not domestic trade receivables.

Essay

1) What is a banker’s acceptance? How are they initiated? Why are they desirable for the exporter?

20.7 Forfaiting: Medium- and Long-Term Financing

Multiple Choice

1) ________ is a specialized technique to eliminate the risk of nonpayment by importers in instances where the importing firm and/or its government is perceived by the exporter to be too risky for open account credit.
A) Forfeiting
B) Marketable Bank Shares
C) Forfaiting
D) Banker’s Acceptances

True/False

1) In effect, the forfaiter functions both as a money market firm and a specialist in packaging financial deals involving country risk.

FIN 350 Week 9 Quiz – Strayer University New

FIN 350 Week 9 Quiz – Strayer

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Quiz 8 Chapter 18 and 19

Bank Regulation

1. Deposit insurance has a limit of:
a. $10,000.
b. $25,000.
c. $100,000.
d. $250,000.

2. The opening of a commercial bank in the United States
a. does not require a charter.
b. always requires a charter from a state government.
c. always requires a charter from the federal government.
d. requires a charter from a state or the federal government.
e. requires a charter from both the state and federal government.

3. Commercial banks that are not members of the Federal Reserve System ____ borrow from the Fed, and ____ subject to the Fed’s reserve requirements.
a. may; are
b. may; are not
c. may not; are not
d. may not; are

4. National banks are regulated by ____, and state banks are regulated by ____.
a. the Comptroller of the Currency; their state agency
b. the Comptroller of the Currency; the Comptroller of the Currency
c. their state agency; their state agency
d. their state agency; the Comptroller of the Currency

5. All Fed member banks must hold
a. private insurance on deposits.
b. FDIC insurance on deposits.
c. both FDIC and private insurance on deposits.
d. none of the above

6. Commercial banks ____ restricted to a maximum percentage of their capital to loan to a single customer, and ____ allowed to use borrowed or deposited funds to purchase common stock.
a. are; are
b. are; are not
c. are not; are
d. are not; are not

7. Banks commonly use depositor funds to invest in stocks.
a. True
b. False

8. An “off-balance-sheet commitment” that provides the bank’s guarantee on the financial obligations of a borrower to a specific party is a
a. standby letter of credit.
b. federal funds agreement.
c. repurchase agreement.
d. discount window agreement.

9. The Depository Institutions Deregulation and Monetary Control Act of 1980 allowed banks to set their own
a. reserve requirements.
b. capital ratios.
c. interest rates on savings deposits.
d. corporate loan interest rates.

10. The Glass-Steagall Act of 1933 prevented
a. any firm that accepts deposits from underwriting stocks and bonds of corporations.
b. any firm that accepts deposits from underwriting general obligation bonds of states and municipalities.
c. any firm that accepts deposits from holding any corporate bonds in its asset portfolio.
d. state-chartered banks from offering commercial loans.

11. Which of the following is not a main deregulatory provision of Depository Institutions Deregulation and Monetary Control Act of 1980?
a. phase-out of deposit rate ceilings
b. allowance of checkable deposits for all depository institutions
c. new lending flexibility of depository institutions
d. allowance of interstate banking for depository institutions in most states

12. The Financial Reform Act was intended to:
a. prevent another credit crisis.
b. reduce capital ratios.
c. impose interest rate ceilings on deposits.
d. prevent banks from offering securities services.

13. The Garn-St. Germain Act of 1982
a. permitted depository institutions to offer money market deposit accounts.
b. prevented depository institutions from acquiring problem institutions across geographical boundaries.
c. required the Fed to explicitly charge depository institutions for its services.
d. allowed the Fed to provide check clearing to depository institutions at no charge.

14. Which of the following is not a specific criterion the FDIC uses to monitor banks?
a. capital adequacy
b. dollar value of fixed assets
c. asset quality
d. earnings
e. sensitivity to financial market conditions

15. The potential risk that financial problems can spread through financial institutions and the financial system is referred to as:
a. systemic
b. systematic
c. unsystematic
d. market

16. The Basel framework recommends capital requirements in proportion to:
a. mortgages
b. commercial paper
c. liabilities
d. risk-weighted assets

17. The Basel Accord
a. forces banks with greater risk to maintain more deposits.
b. forces banks with greater risk to maintain more capital.
c. forces banks with greater risk to maintain less capital.
d. none of the above

18. In general, a bank defines its value-at-risk as the estimated potential loss from its traditional businesses that could result from adverse movements in market prices.
a. True
b. False

19. Which of the following statements is incorrect?
a. The validity of a bank’s estimated VAR is assessed with backtests in which the actual daily trading gains or losses are compared to the estimated VAR over a particular period.
b. Some banks supplement the VAR estimate with stress tests.
c. In general, the VAR model does not lend itself to determine capital requirements.
d. All of the statements above are correct.

20. Which of the following is an “off-balance-sheet commitment?”
a. long-term debt
b. additional paid-in capital
c. notes payable
d. guarantees backing commercial paper issued by firms

21. The liquidity component of the CAMELS rating refers to
a. regulators’ concern about how a bank’s earnings would change if economic conditions change.
b. how well the bank’s management would detect its own financial problems.
c. a bank’s sensitivity to financial market conditions.
d. monitoring the type of loans that are given, the bank’s process for deciding whether to provide loans, and the credit rating of debt securities that it purchases.
e. excessive borrowing by banks from outside sources, such as the discount window.

22. Which of the following is not a corrective action taken by regulators when a bank is identified as a problem bank?
a. Regulators may examine such banks frequently and thoroughly.
b. Regulators may request that a bank boost its capital level or delay its plans to expand.
c. Regulators can require that additional financial information be periodically updated to allow continued monitoring.
d. Regulators have the authority to take legal action against a problem bank if the bank does not comply with their suggested remedies.
e. All of the above are possible corrective actions taken by bank regulators.

23. The fee banks pay to the FDIC for deposit insurance is now
a. a fixed dollar amount for all banks.
b. a fixed percentage of the bank’s deposit level for all banks.
c. a fixed percentage of the bank’s loan volume for all banks.
d. based on the risk of the bank.

24. Generally, the failure of small banks
a. causes more widespread concern about the safety of the banking system than the failure of large banks.
b. causes equal concern about the safety of the banking system as the failure of large banks.
c. causes less concern about the safety of the banking system than the failure of large banks.
d. Either A or B can be true, depending on the type of business cycle that exists while the failures occur.

25. The Sarbanes-Oxley Act was enacted to make corporate managers, board members, and auditors more accountable for the accuracy of the financial statements that their respective firms provide.
a. True
b. False

26. Bank A has a 10 percent capital ratio and uses a significant proportion of its assets to invest in very highly-rated bonds. Bank B has an 12 percent capital ratio and uses a significant proportion of its assets to invest in highly leveraged transactions. How would Bank A rate versus Bank B using the capital and asset quality criteria?
a. Bank A is perceived as safer by both criteria.
b. Bank B is perceived as safer by both criteria.
c. Bank A is perceived as safer according to capital, but more risky according to asset quality.
d. Bank B is perceived as safer according to capital, but more risky according to asset quality.

27. The key reason for regulatory examinations (such as CAMELS ratings) is to
a. rate past performance.
b. detect problems of a bank in time to correct them.
c. check for embezzlement.
d. monitor reserve requirements.

28. Deposit insurance now covers all bank deposits without imposing any limit.
a. True
b. False

29. Which banking act allowed banks to cross state lines in order to acquire a failing institution?
a. McFadden Act
b. Glass-Steagall Act
c. DIDMCA
d. Garn-St. Germain Act

30. Which banking act allowed for the creation of NOW accounts?
a. McFadden Act
b. Glass-Steagall Act
c. DIDMCA
d. Garn-St. Germain Act

31. Which banking act allowed interstate banking?
a. Reigle-Neal Interstate Banking and Branching Efficiency Act
b. Glass-Steagall Act
c. DIDMCA
d. Sarbanes-Oxley Act

32. Which banking act permanently increased FDIC insurance up to $250,000?
a. DIDMCA
b. Sarbanes-Oxley Act
c. Financial Reform Act
d. Garn-St. Germain Act

33. Which banking act removed deposit rate ceilings?
a. McFadden Act
b. Glass-Steagall Act
c. DIDMCA
d. Garn-St. Germain Act

34. The argument that interstate banking would allow banks to grow and more fully achieve a reduction in operating costs per unit of output as output increases is based on
a. economies of scale.
b. financial leverage.
c. diseconomies of scale.
d. capital adequacy theory.

35. Federal deposit insurance
a. existed since the 1800s.
b. was created in 1933.
c. was created after World War II.
d. was created in 1960.

36. ____ is not a characteristics used by the Federal Deposit Insurance Corporation (FDIC) to rate banks.
a. Capital adequacy
b. Current stock price
c. Asset quality
d. Management
e. All of the above are used by the FDIC to rate banks.

37. The moral hazard problem is minimized when deposit insurance premiums are
a. zero (not imposed by the FDIC).
b. the same percentage of assets for all banks.
c. set at a fixed percentage of assets for large banks, and is zero for small banks.
d. set at a percentage of assets that is based on the bank’s risk level.

38. Which of the following statements is incorrect with respect to the Financial Services Modernization Act of 1999?
a. It complemented the Glass-Steagall Act.
b. It enabled commercial banks to more easily pursue securities and insurance activities.
c. It gave securities firms and insurance companies the right to acquire banks.
d. The Act requires that commercial banks must have a strong rating in community lending in order to pursue additional expansion in securities and other nonbank activities.
e. All of the above are true.

39. The ____ is the fund used to cover insured depositors.
a. Bank Insurance Fund
b. Federal Deposit Insurance Corporation (FDIC)
c. money market mutual fund
d. growth fund
e. none of the above

40. ____ is not a rating criterion used by the FDIC.
a. Capital adequacy
b. Off-balance sheet financing
c. Asset quality
d. Management
e. Liquidity

41. The uniform global capital requirements mandated a minimum level of Tier 1 capital, which primarily consists of funds obtained from
a. issuing commercial paper and bonds.
b. retaining earnings and issuing commercial paper.
c. retaining earnings and issuing common stock.
d. issuing bonds and common stock.

42. During the 2008-2010 period, the ____ was implemented to alleviate the financial problems experienced by banks and other financial institutions with excessive exposure to mortgages or mortgage-backed securities.
a. Riegle Program
b. Sarbanes-Oxley Program
c. FDIC Program
d. Troubled Asset Relief Program (TARP)

43. The act of taking a risk because of protection from adverse consequences due to the risk is referred to as a moral hazard problem.
a. True
b. False

44. The Sarbanes-Oxley Act (SOX) was enacted in 2002 in order to ensure a more transparent process for reporting on productivity and the financial condition of the firm.
a. True
b. False

45. The Sarbanes-Oxley Act (2002) was enacted in response to some banks taking too much risk.
a. True
b. False

46. Publicly-traded banks have incurred larger reporting expenses to comply with the Sarbanes-Oxley Act.
a. True
b. False

47. The Financial Services Modernization Act of 1999
a. gave banks and other financial service firms less freedom to merge.
b. allowed financial institutions to offer a diversified set of financial services without being subjected to stringent constraints.
c. offers very few benefits to a financial institution’s clients.
d. increased the reliance of financial institutions on the demand for the single service they offer.

48. Which of the following is not true regarding the Financial Services Modernization Act of 1999?
a. It provided more momentum for the consolidation of financial services.
b. Financial institutions were finally able to offer a diversified set of financial services without being subjected to stringent constraints on the form or amount of financial services that they could offer.
c. Banks and other financial service firms were given more freedom to merge, but were forced to divest some of the financial services that they acquired.
d. Financial institutions no longer had to search for loopholes or monitor their business to ensure that the degree of financial services offered remained within the regulatory constraints that were previously imposed.
e. all of the above are true

49. All state banks are required to be members of the Federal Reserve System.
a. True
b. False

50. State banks are regulated by the Comptroller of the Currency.
a. True
b. False

51. Banks that are insured by the Federal Deposit Insurance Corporation (FDIC) are also regulated by the FDIC.
a. True
b. False

52. Commercial banks are allowed to invest in junk bonds.
a. True
b. False

53. In general, banks would prefer to maintain a high amount of capital to boost their return on equity ratio, yet regulators have argued that banks need only a sufficient amount of capital to absorb potential operating losses.
a. True
b. False

54. The provision of a letter of credit by a bank to issue commercial paper issued by a corporation is an example of an off-balance sheet commitment.
a. True
b. False

55. As a result of the Reigle-Neal Act, bank customers have benefited because of lower costs to banks and because of convenience.
a. True
b. False

56. There is much emphasis by regulators on the bank’s sensitivity to interest rate movements, since many banks have liabilities that are repriced more frequently than their assets and are adversely affected by rising interest rates.
a. True
b. False

57. If regulators reduce bank failures by imposing regulations that reduce competition, bank efficiency will be increased.
a. True
b. False

58. An ideal solution to react to a large failing bank would prevent a run on deposits of other large banks, yet not reward a poorly performing bank with a bailout.
a. True
b. False

59. ____ is not a rating criterion used by the Federal Deposit Insurance Corporation (FDIC).
a. Capital adequacy
b. Off-balance sheet financing
c. Asset quality
d. Management
e. Liquidity

60. A federal bank charter is issued by the
a. Comptroller of the Currency.
b. Securities and Exchange Commission.
c. U.S. Treasury.
d. Federal Reserve.
e. none of the above

61. Bank regulations typically:
a. involve a tradeoff between the safety of the banking system and the efficiency of bank operations.
b. impose restrictions on the types of assets in which banks can invest.
c. set requirements for the minimum amount of capital that banks must hold.
d. all of the above

62. When a bank holds a lower level of capital, a given dollar level of profits represents a lower return on equity.
a. True
b. False

63. Shareholders and managers of banks may prefer that banks be required to hold higher levels of capital because this would allow for higher share prices for the banks and larger bonuses for bank managers.
a. True
b. False

64. A bank can increase its capital ratio by:
a. buying back shares of its stock from shareholders.
b. selling assets.
c. increasing its dividend to encourage more investors to purchase its stock.
d. increasing its off-balance sheet activities.

65. The Basel III framework proposes:
a. lower capital requirements for banks to enable them to generate higher earnings to make up for their losses during the credit crisis.
b. relying on the rating agencies to assess the risk of bank assets.
c. increased capital requirements and liquidity requirements for banks.
d. using the gap ratio to set the capital ratio.

66. During the credit crisis, all of the following occurred except:
a. some securities firms were allowed to become bank holding companies.
b. the Federal Reserve rescued American International Group, an insurance company.
c. the Treasury injected funds into financial institutions.
d. the Supreme Court ruled that the Federal Reserve had exceeded its authority by assisting Bear Stearns because Bear was a securities firm and not a commercial bank.

67. The Volcker rule, named for a former Fed chair:
a. is intended to increase the powers of the Fed.
b. states that the U.S. government will rescue certain large banks if necessary to reduce systemic risk in the financial system.
c. sets limits on banks’ proprietary trading.
d. requires all banks to undergo annual stress tests.

68. The Wall Street Reform and Consumer Protection Act (Dodd-Frank Act) of 2010:
a. ended the system of risk-based insurance premiums.
b. set requirements for the Deposit Insurance Fund’s reserves.
c. raised the limit for insured deposits to $750,000 per depositor.
d. allowed large insurance companies such as American International Group to compete with the FDIC to insure bank deposits.

Chapter 19—Bank Management

1. Which of the following statements is incorrect?
a. Managers may be tempted to make decisions that are in their own best interests rather than shareholder interests.
b. Directors are responsible for making most of the bank’s decisions regarding loans to customers, which encourages a loan department to extend loans with a very high concern for risk.
c. To prevent agency problems, some banks provide stock as compensation to managers.
d. The underlying goal behind the managerial policies of a bank is to maximize the wealth of the bank’s shareholders.

2. When cash outflows temporarily exceed cash inflows, banks are most likely to experience
a. higher dividend payments.
b. illiquidity.
c. a negative duration on its assets.
d. an excess of capital.

3. Banks can resolve cash deficiencies by
a. creating additional liabilities.
b. selling assets.
c. buying back common stock.
d. increasing dividend payouts.
e. A or B

4. As the secondary market for loans has become active, banks are more able to satisfy their liquidity needs with a ____ proportion of loans while achieving ____ profitability.
a. higher; higher
b. lower; lower
c. higher; lower
d. lower; higher

5. Banks are more liquid as a result of securitization because it allows them to request repayment of the loan principal from the borrower upon demand.
a. True
b. False

6. If a bank that relies heavily on short-term deposits expects interest rates to consistently decrease over time, it would allocate most of its loans with ____ rates if it desires to maximize its expected returns. It could reduce its exposure to interest rate risk by setting ____ rates on its loans.
a. fixed; fixed
b. variable; fixed
c. variable; variable
d. fixed; variable

7. During a period of rising interest rates, a bank’s net interest margin will likely ____ if its liabilities are ____ its assets.
a. increase; more rate-sensitive than
b. decrease; more rate-sensitive than
c. increase; equally rate-sensitive as
d. decrease; equally rate-sensitive as

8. If a bank expected interest rates to consistently ____ over time, it will consider allocating most funds to rate-____ assets.
a. decrease; sensitive
b. decrease; insensitive
c. increase; insensitive
d. none of the above

9. Petri Bank had interest revenues of $70 million last year and $30 million in interest expenses. About $300 million of Petri’s $800 million in assets are rate-sensitive, while $600 million of its liabilities are rate-sensitive. Petri Bank’s net interest margin is ____ percent.
a. 4.0
b. 3.6
c. 6.7
d. 5.0

10. Petri Bank had interest revenues of $70 million last year and $30 million in interest expenses. About $300 million of Petri’s $800 million in assets are rate-sensitive, while $600 million of its liabilities are rate-sensitive. Petri Bank’s gap is $____.
a. −300 million
b. 300 million
c. −500 million
d. 500 million

11. Petri Bank had interest revenues of $70 million last year and $30 million in interest expenses. About $300 million of Petri’s $800 million in assets are rate-sensitive, while $600 million of its liabilities are rate-sensitive. Petri Bank’s gap ratio is ____ percent.
a. 37.5
b. 50.0
c. 100.0
d. 40.0

12. The measure of interest rate risk that uses the difference between rate-sensitive assets and rate-sensitive liabilities is called
a. gap measurement.
b. duration measurement.
c. duration ratio.
d. gap ratio.

13. A gap ratio of less than one suggests that
a. rate-sensitive assets exceed rate-sensitive liabilities.
b. an increase in interest rates would increase the bank’s net interest margin.
c. rate-sensitive liabilities exceed rate-sensitive assets.
d. a decrease in interest rates would decrease the bank’s net interest margin.
e. B and D

14. Each bank may have its own classification system of interest rate sensitivity, because there is no perfect measurement of the gap.
a. True
b. False

15. The duration of zero-coupon bonds will be ____ the duration of coupon bonds with the same maturity.
a. lower than
b. higher than
c. the same as
d. A or B, depending on the size of the coupon payment

16. In general, the duration of zero-coupon securities with short maturities is ____ than the duration of zero-coupon securities with long maturities.
a. higher than
b. lower than
c. equal to
d. A or B, depending on the issuer of the securities

17. Other things equal, assets with shorter maturities have ____ durations. Assets that generate more frequent coupon payments have ____ durations.
a. shorter; longer
b. shorter; shorter
c. longer; shorter
d. longer; longer

18. For most banks, the average duration of assets ____ the average duration of liabilities, so the duration gap is ____.
a. exceeds; zero
b. exceeds; negative
c. exceeds; positive
d. is less than; negative

19. Other things being equal assets with ____ maturities and ____ frequent coupon payments have shorter durations.
a. shorter; more
b. shorter; less
c. longer; more
d. longer; less

20. If a bank attempts to reduce exposure to interest rate risk by replacing long-term marketable securities with more floating-rate commercial loans, it is likely that the bank’s
a. default risk would decrease.
b. default risk would increase.
c. liquidity risk would increase.
d. liquidity risk would decrease.
e. B and C

21. Which of the following is not a likely method used by a bank to reduce interest rate risk?
a. maturity matching
b. using fixed-rate loans
c. using interest rate futures contracts
d. using interest rate caps

22. Floating-rate loans cannot completely eliminate interest rate risk; if the cost of funds is changing more frequently than the rate on assets, the bank’s net interest margin is still affected by interest rate fluctuations.
a. True
b. False

23. The ____ of interest rate futures ____ the potential adverse effect of rising interest rates on a bank’s interest expenses.
a. sale; increases
b. sale; reduces
c. purchase; reduces
d. both A and C are correct

24. Which of the following financial institutions would be most willing to swap variable-rate payments for fixed-rate payments in order to reduce exposure to interest rate risk?
a. one whose assets and liabilities are equally interest-rate sensitive
b. one whose assets are more interest-rate sensitive than its liabilities
c. one whose liabilities are more interest-rate sensitive than its assets
d. one whose gap ratio is equal to 1.0

25. Banks increase their risk by increasing their capital as a percentage of assets.
a. True
b. False

26. Banks generally ____ loans and ____ their purchases of low-risk securities when the economy is weak.
a. increase; increase
b. reduce; reduce
c. increase; reduce
d. reduce; increase

27. Banks tend to focus their loans in one industry so that they can specialize on one industry and reduce the credit risk of their loan portfolio.
a. True
b. False

28. Most loan sales enable the bank originating the loan to continue servicing the loan.
a. True
b. False

29. ROE is defined as
a. .
b. .
c. .
d. .

30. The greater the ____, the greater the amount of assets per dollar’s worth of equity.
a. leverage measure
b. ratio of equity to debt
c. capital ratio
d. proportion of loans to securities in the asset portfolio

31. A bank has a return on assets of 2 percent, $40 million in assets, and $4 million in equity. What is the return on equity?
a. 10 percent
b. .2 percent
c. 2 percent
d. 20 percent
e. none of the above

32. A bank has the following asset and liability portfolios. What is the gap?

Rate-sensitive Amount Rate-sensitive Amount
assets (in millions) liabilities (in millions)
Floating-rate
loans $4,000 NOW accounts $1,750

Floating-rate
mortgages 1,000 MMDAs 4,500

Short-term
Treasury securities 1,500 Short-term CDs 1,000

$6,500 $7,250

a. $750 million
b. −$750 million
c. 1.12
d. .896
e. none of the above

33. A bank has the following asset and liability portfolios. What is the gap ratio?

Rate-sensitive Amount Rate-sensitive Amount
assets (in millions) liabilities (in millions)
Floating-rate
loans $4,000 NOW accounts $1,750

Floating-rate
mortgages 1,000 MMDAs 4,500

Short-term
Treasury securities 1,500 Short-term CDs 1,000

$6,500 $7,250

a. $750 million
b. −$750 million
c. 1.12
d. .896
e. none of the above

34. If Bank A has a negative gap and Bank B has a positive gap. Which of the following is true?
a. Bank A is more favorably affected by rising interest rates.
b. Bank B is more favorably affected by falling interest rates.
c. Bank A is adversely affected by falling interest rates.
d. none of the above

35. Which of the following is a measure for banks to assess their exposure to interest rate risk?
a. capital ratio
b. leverage measure
c. duration measurement
d. gap ratio
e. C and D

36. If a bank sells interest rate futures, it ____ of rising interest rates and ____ of declining interest rates on its interest expenses.
a. reduces the potential adverse effect; reduces the potential favorable effect
b. increases the potential adverse effect; increases the potential favorable effect
c. decreases the potential adverse effect; increases the potential favorable effect
d. increases the potential adverse effect; decreases the potential favorable effect

37. Which of the following loan portfolios are best diversified against default risk?
a. consumer loans to farmers and commercial loans to farm equipment dealers in a local area
b. commercial loans to the same industry
c. commercial loans to various retail stores in the same city
d. consumer and commercial loans to different industries in different cities

38. Banks can increase their liquidity position by restructuring their asset portfolio to contain less ____ and more ____.
a. excess reserves; Treasury bills
b. Treasury bonds; corporate bonds
c. loans; Treasury bills
d. none of the above

39. Banks would reduce their liquidity position by restructuring their asset portfolio to contain less ____ and more ____.
a. Treasury securities; excess reserves
b. loans; Treasury securities
c. corporate bonds; Treasury securities
d. none of the above

40. Banks can reduce their default risk by restructuring their asset portfolio to contain less ____ and more ____.
a. Treasury bonds; corporate bonds
b. Treasury bonds; municipal bonds
c. Treasury bonds; commercial loans
d. none of the above

41. Banks can increase their potential interest revenues by restructuring their asset portfolio to contain less ____ and more ____.
a. Treasury bonds; commercial loans
b. Treasury bonds; excess reserves
c. consumer loans; Treasury bills
d. none of the above

42. If a bank desired to maximize its net interest margin, it would best achieve its goal by attempting to obtain most of its funds through ____ and use most of its funds for ____ (assuming that all loans will be repaid).
a. traditional demand deposits; commercial loans
b. traditional demand deposits; consumer loans
c. NOW accounts; consumer loans
d. NOW accounts; commercial loans

43. A bank that holds a greater percentage of traditional demand deposits and loans will likely incur ____ non-interest expenses and have a ____ net interest margin than other banks of the same size (assuming that its loan losses are no higher than those at other banks).
a. greater; higher
b. greater; lower
c. less; higher
d. less; lower

44. A bank’s net interest margin is commonly defined as
a. interest revenues minus interest expenses.
b. (interest revenues minus interest expenses)/total assets.
c. (interest revenues minus interest expenses)/total liabilities.
d. (interest revenues minus interest expenses)/capital.

45. A common method for banks to reduce their default risk is to
a. specialize in loans to just one or a few particular industries in which they have expertise in assessing creditworthiness.
b. specialize in loans of companies whose earnings patterns are quite similar over time.
c. A and B
d. none of the above

46. International diversification of loans can best reduce the bank’s overall default risk if
a. the countries where loans are given are clustered together in a single continent.
b. the countries where loans are given have economic cycles that do not move together over time.
c. A and B
d. none of the above

47. A bank’s net interest margin will likely decline if it has a large amount of
a. rate-sensitive assets and no rate-sensitive liabilities.
b. rate-sensitive liabilities and no rate-sensitive assets.
c. loans to technology firms.
d. real estate loans.

48. Banks can reduce their required capital levels by
a. increasing their loans.
b. reducing their loans.
c. increasing their dividends.
d. obtaining more deposits.

49. Terp Bank obtains a relatively large portion of its funds from conventional demand deposits as it creates many branches with many employees to attract demand deposits. Its interest expenses should be relatively ____, while its noninterest expenses should be relatively ____.
a. high; low
b. low; high
c. high; high
d. low; low
e. none of the above

50. Bank A has interest revenues of $4 million, interest expenses of $5 million, and assets totaling $20 million. Bank A’s net interest margin is
a. $1 million.
b. −$1 million.
c. −5 percent.
d. 5 percent.

51. ____ is not a method used to assess interest rate risk.
a. Efficiency analysis
b. Gap analysis
c. Duration analysis
d. Regression analysis

52. Durango Bank has $2 million in rate-sensitive liabilities and $3 million in rate sensitive assets. Durango’s gap is ____, and Durango is probably more concerned about a(n) ____ in interest rates.
a. −$1 million; increase
b. −$1 million; decrease
c. $1 million; increase
d. $1 million; decrease
e. none of the above

53. Leskar Bank has $2 million in rate-sensitive liabilities and $3 million in rate sensitive assets. Leskar’s gap ratio is ____.
a. 1.5
b. 0.67
c. $1 million
d. none of the above

54. ____ is (are) least likely to be used as a method of reducing interest rate risk.
a. Maturity matching
b. Using floating-rate loans
c. Stock options
d. Using interest rate swaps
e. Using interest rate caps

55. Ringo Bank has a profit after taxes of $3.0 million, total assets of $300 million, and shareholder’s equity of $30 million. Ringo’s return on equity (ROE) is ____ percent.
a. 1.0
b. 10.0
c. 3.0
d. none of the above

56. For a commercial bank, when the average duration of assets exceeds the average duration of liabilities, the duration gap is
a. zero.
b. positive.
c. negative.
d. B or C

57. Assume a bank accepts deposits on Australian dollars (A$) and makes some fixed-rate loans in British pounds. Which of the following would reduce the bank’s profit margin?
a. the A$ appreciates against the pound
b. the A$ is stable against the pound
c. the A$ depreciates against the pound
d. the British interest rates increase
e. C and D

58. The performance of a bank that continually concentrates in short-term deposits in euros and adjustable-rate dollar loans with equal rate-sensitivity is
a. unaffected if European interest rates increase and U.S. rates decrease.
b. unaffected if U.S. interest rates increase and European interest rates decrease.
c. adversely affected if European interest rates increase and U.S. rates decrease.
d. adversely affected if U.S. interest rates increase and European rates decrease.
e. A and B

59. If a bank has assets and liabilities in dollars and euros, its exposure to interest rate risk can best be minimized if the
a. currency mix of assets is similar to that of liabilities.
b. overall rate-sensitivity of assets and liabilities are similar.
c. rate sensitivity of assets and liabilities is matched for each currency.
d. A and B

60. The risk of a loss due to closing out a transaction is referred to as ____ risk.
a. credit
b. settlement
c. interest rate
d. exchange rate
e. none of the above

61. The Sarbanes-Oxley Act has had little impact on the monitoring conducted by the board members of commercial banks.
a. True
b. False

62. Whether a bank has a temporary or a permanent need for funds, the decision should be to borrow in the federal funds market.
a. True
b. False

63. A positive gap (or gap ratio of more than 1.00) suggests that rate-sensitive liabilities exceed rate-sensitive assets.
a. True
b. False

64. For most banks, the average duration of liabilities exceeds the average duration of assets, so the duration gap is positive.
a. True
b. False

65. Floating-rate loans completely eliminate interest rate risk.
a. True
b. False

66. A bank can usually simultaneously maximize its return on assets and minimize credit risk.
a. True
b. False

67. If the currency mix of a bank’s assets is similar to that of its liabilities and the overall rate sensitivity of its assets and liabilities is similar, interest rate risk is completely nonexistent.
a. True
b. False

68. Macon Bank has interest revenues of $4 million, interest expenses of $5 million, and assets totaling $20 million. Macon Bank’s net interest margin is
a. $1 million.
b. −1 million.
c. 5 percent.
d. −5 percent.

69. ____ is not a method used to assess interest rate risk.
a. Gap analysis
b. Ratio analysis
c. Duration analysis
d. Regression analysis
e. All of the above are methods to assess interest rate risk.

70. ____ is (are) least likely to be used as a method of reducing interest rate risk.
a. Maturity matching
b. Floating-rate loans
c. Stock options
d. Interest rate swaps
e. Interest rate caps

71. Crazer Bank has a profit after taxes of $2 million, total assets of $100 million, and shareholder’s equity of $10 million. Crazer’s return on equity (ROE) is ____ percent.
a. 18
b. 210
c. 15
d. 20
e. none of the above

72. Parsons Bank reported $3 million in interest revenues and $1 million in interest expenses. Parsons has $20 million in assets and $8 million in liabilities. Parsons net interest margin is ____ percent.
a. 10
b. −10
c. 35
d. 25
e. none of the above

73. If a bank expects interest rates to consistently ____ over time, it will consider allocating most of its funds to rate-____ assets.
a. decrease; sensitive
b. increase; insensitive
c. increase; sensitive
d. answers A and B are correct
e. none of the above

74. During a period of ____ interest rates, a bank’s net interest margin will likely ____ if its liabilities are more rate sensitive than its assets.
a. decreasing; decrease
b. increasing; increase
c. decreasing; increase
d. increasing; decrease
e. answers C and D are correct

75. If interest rates ____, banks with ____ duration gaps will be ____ affected.
a. rise; positive; positively
b. rise; positive; adversely
c. decrease; positive; adversely
d. decrease; negative; positively
e. none of the above

76. In a regression of a bank’s stock return on an interest rate proxy and market returns, a ____ coefficient for the interest rate variable suggests that bank performance is ____ affected by ____ interest rates.
a. positive; adversely; rising
b. positive; favorably; declining
c. negative; adversely; rising
d. negative; favorably; rising
e. none of the above

77. If a bank has a ____ duration gap, its average asset duration is probably ____ than its liability duration.
a. negative; smaller
b. positive; larger
c. negative; larger
d. none of the above

78. In an interest rate swap, a bank whose liabilities are ____ rate sensitive than its assets can swap payments with a ____ interest rate in exchange for payments with a ____ interest rate.
a. more; fixed; variable
b. more; variable; fixed
c. less; fixed; variable
d. less; fixed; fixed
e. none of the above

79. Because riskier assets offer ____ returns, a bank’s strategy to increase its return will typically entail a(n) ____ in the overall credit risk of its asset portfolio.
a. lower; increase
b. lower; decrease
c. higher; increase
d. higher; decrease
e. none of the above

80. The risk of a loss due to closing out a transaction is referred to as ____ risk.
a. settlement
b. credit
c. interest rate
d. exchange rate
e. none of the above

81. An effective way to align bank managers’ interests with shareholders’ goal of higher returns is to compensate the managers with fixed salaries without a bonus.
a. True
b. False

82. Which of the following is not a function of a bank’s board of directors?
a. overseeing acquisitions
b. determining a compensation system for the bank’s executives
c. overseeing policies for changing the bank’s capital structure
d. pursuing a proxy contest to change the bank’s dividend policy

83. As part of its liquidity management, a bank might:
a. purchase interest rate swaps.
b. issue commercial paper.
c. purchase long-term Treasury securities.
d. A and C

84. A(n) ____________ is an agreement for a fee to receive payments when the interest rate of a particular security rises above a specified level by a specified date.
a. interest rate cap
b. interest rate futures contract
c. interest rate swap
d. maximum rate contract

85. Which of the following is a method that a bank can use to reduce its credit risk?
a. diversifying its loans across industries
b. focusing on credit card loans
c. focusing on consumer loans
d. selling its holdings of Treasury securities

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Quiz 8 Chapter 15 and 16

Multinational Tax Management

15.1 Tax Principles

Multiple Choice

1) The issue of ethics in the reporting of income and the payment of taxes is a considerable one. The authors state that most MNEs operating in foreign countries tend to follow the general principle of:
A) “when in Rome, do as the Romans do.”
B) full disclosure to the tax authorities.
C) maintain a competitive playing field by cheating as much as the local competition, no more, no less.
D) none of the above

2) Which of the following is an unlikely objective of U.S. government policy for the taxation of foreign MNEs?
A) to raise revenues
B) to provide an incentive for U.S. private investment in developing countries
C) to improve the U.S. balance of payments
D) All of the above are objectives.

3) A ________ tax policy is one that has no impact on private decision-making, while a ________ policy is designed to encourage specific behavior.
A) flat; tax incentive
B) neutral; flat
C) neutral; tax incentive
D) none of the above

4) Which of the following is NOT an example of a tax incentive policy?
A) The federal government gives a tax credit to MNEs that make domestic capital improvements but not foreign capital improvements.
B) Corporations are allowed to take a direct tax credit for each dollar of matching donations they make to institutions of higher education.
C) A tax law is passed that makes interest on property non tax-deductible, but interest payments on durable goods are.
D) All are examples of a tax incentive policy.

5) Toyota Motor Company operates in many different countries and pays taxes at many different rates. However, they always pay the same rate as their local competitors. Toyota Motor Company is operating in an environment of ________ tax policy.
A) domestic neutrality
B) foreign neutrality
C) territorial approach
D) none of the above

6) The United States taxes the domestic and remitted foreign earnings of U.S. based MNEs no matter where the earnings occurred. This is an example of a/an ________ approach to levying taxes.
A) worldwide
B) territorial
C) neutral
D) equitable

7) The United States taxes all earnings on U.S. soil by both domestic and foreign firms. This is an example of a ________ approach to levying taxes.
A) worldwide
B) neutral
C) territorial
D) none of the above

8) Bacon Signs Inc. is based in a country with a territorial approach to taxation but generates 100% of its income in a country with a worldwide approach to taxation. The tax rate in the country of incorporation is 25%, and the tax rate in the country where they earn their income is 50%. In theory, and barring any special provisions in the tax codes of either country, Bacon should pay taxes at a rate of:
A) 75%.
B) 62.5%.
C) 0%.
D) 50%.

9) The territorial approach to taxation policy is also termed the ________ approach.
A) source
B) ethical
C) greedy
D) location

10) A tax that is effectively a sales tax at each stage of production is defined as a/an ________ tax.
A) flat
B) equitable
C) value-added tax
D) none of the above

11) What is the total value of taxes paid in the following example if the value added tax is 10%? A farmer raises wheat that he sells for $1.50 to the grain company. The grain company sells to the processor for $2.00 per bushel. The processor turns the wheat into a breakfast cereal and wholesales it for $3.00 per bushel. The retailer sells the cereal for $4.00 per bushel.
A) $0.15
B) $0.20
C) $0.30
D) $0.40

TABLE 15.1
Use the information to answer following question(s).

BayArea Designs Inc., located in Northern California, has two international subsidiaries, one located in the Ukraine, the other in Korea. Consider the information below to answer the next several questions.

12) Refer to Table 15.1. If BayArea pays out 50% of its earnings from each subsidiary, what are the additional U.S. taxes due on the foreign sourced income from the Ukraine and Korea respectively.
A) Ukraine = $0; Korea = ($30,000)
B) Ukraine = $100,000; Korea = $0
C) Ukraine = $0; Korea = $66,250
D) none of the above

13) Refer to Table 15.1. The additional U.S. taxes due on the repatriation of income from the Ukraine to the United States, alone, assuming a 50% payout rate, is:
A) excess foreign tax credits of $110,000.
B) additional U.S. taxes due of $97,000.
C) additional U.S. taxes due of $36,500.
D) excess foreign tax credits of $18,500.

14) Refer to Table 15.1. How much in additional U.S. taxes would be due if BayArea averaged the tax credits and liabilities of the two foreign units, assuming a 50% payout rate from each?
A) $3,750
B) $13,750
C) $2,500
D) $0

15) Refer to Table 15.1. If BayArea set the payout rate from the Ukraine subsidiary at 25%, how should BayArea set the payout rate of the Korean subsidiary (approximately) to more efficiently manage its total foreign tax bill?
A) 28.5%
B) 24.5%
C) 42.6%
D) 82.3%

16) Refer to Table 15.1. What is the minimum effective tax rate that BayArea can achieve on its foreign-sourced income?
A) 26%
B) 35%
C) 40%
D) 0%

17) Tax-haven subsidiaries are typically established in a country that can meet the following requirements:
A) a low tax on foreign investment or sales income earned by resident corporations and a low dividend withholding tax on dividends paid to the parent firm.
B) the facilities to support financial services, for example, good communications, professional qualified office workers, and reputable banking services.
C) a stable government that encourages the establishment of foreign-owned financial and service facilities within its borders.
D) all of the above

18) A tax that is a form of social redistribution of income is defined as a/an ________ tax.
A) un-American
B) transfer
C) flat
D) none of the above

19) A ________ is a direct reduction of taxes whereas a ________ reduces the taxable income before taxes.
A) foreign tax credit; domestic tax credit
B) tax deduction; tax credit
C) tax credit; tax deduction
D) none of the above

Instruction 15.1:
Use the information to answer the following question(s).

Green Valley Exporters USA has $100,000 of before tax foreign income. The host country has a corporate income tax rate of 25% and the U.S. has a corporate income tax rate of 35%.

20) Refer to Instruction 15.1. If the U.S. has no bilateral trade agreement with the host country, what is the total amount of income taxes Green Valley Exporters will pay?
A) $25,000
B) $35,000
C) $51,250
D) $60,000

21) Refer to Instruction 15.1. If the U.S. has a bilateral trade agreement with the host country that calls for the total tax paid to be equal to the maximum amount that could be paid in the highest taxing country, what is the total amount of income taxes Green Valley Exporters will pay to the host country, and how much will they pay in U.S income taxes on the foreign earned income?
A) $25,000; $10,000
B) $25,000; $26,250
C) $35,000; $0
D) none of the above

22) Refer to Instruction 15.1. If the U.S. treated the taxes paid on income earned in the host country as a tax-deductible expense, then Green Valley’s total U.S. corporate tax on the foreign earnings would be:
A) $10,000.
B) $26,250.
C) $35,000.
D) $51,250.

23) Refer to Instruction 15.1. If the U.S. treated the taxes paid on income earned in the host country as a tax-credit, then Green Valley’s total U.S. corporate tax on the foreign earnings would be:
A) $51,250.
B) $35,000.
C) $26,250.
D) $10,000.

24) Tax treaties typically result in ________ between the two countries in question.
A) lower property taxes for U.S. citizens overseas
B) elimination of differential tax rates
C) increased double taxation
D) reduced withholding tax rates

25) Transfer pricing is a strategy that may be used by MNEs to:
A) reduce consolidated corporate income taxes.
B) partially finance a subsidiary in another country.
C) transfer funds from a subsidiary to the parent corporation.
D) all of the above

26) ________ is the pricing of goods, services, and technology between related companies.
A) Among pricing
B) Retail pricing
C) Transfer pricing
D) Wholesale pricing

True/False

1) The primary objective of multinational tax planning is to minimize the firm’s worldwide tax burden.

2) A country CANNOT have both a territorial and a worldwide approach as a national tax policy.

3) Tax treaties generally have the effect of increasing the withholding taxes between the countries that are negotiating the treaties.

4) A value-added tax has gained widespread usage in Western Europe, Canada, and parts of Latin America.

5) All indications are that the value-added tax will soon be the dominant form of taxation in the U.S.

6) Among the G7 nations, the U.S. has a below average corporate income tax rate that makes it attractive for other countries to invest in the U.S.

7) In the mid 1980s the U.S. led the way to higher corporate income tax rates worldwide. Today, most of the G7 nations have surpassed the U.S. and have higher corporate income tax rates than the U.S.

8) The ideal tax should not only raise revenue efficiently but also have as few negative effects on economic behavior as possible.

9) The worldwide approach, also referred to as the residential or national approach to tax policy, levies taxes on the income earned by firms that are incorporated in the host country, regardless of where the income was earned (domestically or abroad).

10) The territorial approach, also referred to as the source approach to tax policy, levies taxes on the income earned by firms that are incorporated in the host country, regardless of where the income was earned (domestically or abroad).

11) Of the OECD 30 countries, most employ a worldwide approach to tax policy, but a few, including the United States, use the worldwide approach.

12) FEW governments rely on income taxes, both personal and corporate, for their primary revenue source.

13) Between 2006 – 2012, global corporate tax rates have trended upward.

14) Tax credits are LESS valuable on a dollar-for-dollar basis than are deductible expenses.

15) Tax treaties typically result in reduced withholding tax rates between the two signatory countries.

16) Tax credits are less valuable on a dollar-for-dollar basis than are tax-deductible expenses.

17) The U.S. Internal Revenue Service can reallocate revenues and expenses between parent corporations and their subsidiaries to more clearly reflect a proper allocation of income. In such instances it is the responsibility of the corporation to prove that the IRS has been arbitrary in its decision-making, thus establishing a “guilty until proved innocent” tax approach.

18) Tax haven subsidiaries of MNEs are categorically referred to as international offshore financial centers.

Essay

1) Explain the worldwide and territorial approaches of national taxation. The authors state that the United States uses both approaches. How can this be? Give an example of each taxation approach.

2) What is a value-added tax? Where is this type of tax in wide usage? Why do you suppose this form of taxation has NOT been widely accepted in the United States?

Chapter 16 International Portfolio Theory and Diversification

16.1 International Diversification and Risk

Multiple Choice

1) Beta may be defined as:
A) the measure of systematic risk.
B) a risk measure of a portfolio.
C) the ratio of the variance of the portfolio to the variance of the market.
D) all of the above

2) ________ risk is measured with beta.
A) Systematic
B) Unsystematic
C) International
D) Domestic

3) A fully diversified domestic portfolio has a beta of:
A) 0.0
B) 1.0
C) -1.0
D) There is not enough information to answer this question.

4) Unsystematic risk:
A) is the remaining risk in a well-diversified portfolio.
B) is measured with beta.
C) can be diversified away.
D) all of the above

5) A well-diversified portfolio has about ________ of the risk of the typical individual stock.
A) 8%
B) 19%
C) 27%
D) 52%

6) An internationally diversified portfolio:
A) should result in a portfolio with a lower beta than a purely domestic portfolio.
B) has the same overall risk shape as a purely domestic portfolio.
C) is only about 12% as risky as the typical individual stock.
D) all of the above

7) In some respects, internationally diversified portfolios are the same in principle as a domestic portfolio because:
A) the investor is attempting to combine assets that are perfectly correlated.
B) investors are trying to reduce systematic risk.
C) investors are trying to reduce the total risk of the portfolio.
D) all of the above

8) In some respects, internationally diversified portfolios are different from a domestic portfolio because:
A) investors may also acquire foreign exchange risk.
B) international portfolio diversification increases expected return but does not decrease risk.
C) investors must leave the country to acquire foreign securities.
D) all of the above

Instruction 16.1:
Use the information to answer the following question(s).

In September 2009 a U.S. investor chooses to invest $500,000 in German equity securities at a then current spot rate of $1.30/euro. At the end of one year the spot rate is $1.35/euro.

9) Refer to Instruction 16.1. How many euros will the U.S. investor acquire with his initial $500,000 investment?
A) €650,000
B) €370,370
C) €500,000
D) €384,615

10) Refer to Instruction 16.1. At an average price of €60/share, how many shares of stock will the investor be able to purchase?
A) 8333 shares
B) 6410 shares
C) 6173 shares
D) 10,833 shares

11) Refer to Instruction 16.1. At the end of the year the investor sells his stock that now has an average price per share of €57. What is the investor’s average rate of return before converting the stock back into dollars?
A) 5.0%
B) -3.0%
C) -5.0%
D) 3.0%

12) Refer to Instruction 16.1. At the end of the year the investor sells his stock that now has an average price per share of €57. What is the investor’s average rate of return after converting the stock back into dollars?
A) -1.35%
B) 5.0%
C) -5.0%
D) -7.24%

13) A U.S. investor makes an investment in Britain and earns 14% on the investment while the British pound appreciates against the U.S. dollar by 8%. What is the investor’s total return?
A) 22.00%
B) 23.12%
C) 6.00%
D) 4.88%

14) Which of the following statements is NOT true?
A) International diversification benefits induce investors to demand foreign securities.
B) An international security adds value to a portfolio if it reduces risk without reducing return.
C) Investors will demand a security that adds value.
D) All of the above are true.

True/False

1) Portfolio diversification can eliminate 100% of risk.

2) Increasing the number of securities in a portfolio reduces the unsystematic risk but not the systematic risk.

3) International diversification benefits may induce investors to demand foreign securities.

4) If the addition of a foreign security to the portfolio of the investor aids in the reduction of risk for a given level of return, then the security adds value to the portfolio.

5) If the addition of a foreign security to the portfolio of the investor decreases the expected return for a given level of risk, then the security adds value to the portfolio.

16.2 Internationalizing the Domestic Portfolio

Multiple Choice

1) Portfolio theory assumes that investors are risk-averse. This means that investors:
A) cannot be induced to make risky investments.
B) prefer more risk to less for a given return.
C) will accept some risk, but not unnecessary risk.
D) All of the above are true.

2) The efficient frontier of the domestic portfolio opportunity set:
A) runs along the extreme left edge of the opportunity set.
B) represents optimal portfolios of securities that represent minimum risk for a given level of expected portfolio return.
C) contains the portfolio of risky securities that the logical investor would choose to hold.
D) all of the above

3) The addition of foreign securities to the domestic portfolio opportunity set shifts the efficient frontier:
A) down and to the left.
B) up and to the right.
C) up and to the left.
D) down and to the right.

4) Relative to the efficient frontier of risky portfolios, it is impossible to hold a portfolio that is located ________ the efficient frontier.
A) to the left of
B) to the right of
C) on
D) to the right or left of

5) The ________ connects the risk-free security with the optimal domestic portfolio.
A) security market line
B) capital asset pricing model
C) capital market line
D) none of the above

Instruction 16.2:
Use the information to answer the following question(s).

A U.S. investor is considering a portfolio consisting of 60% invested in the U.S. equity index fund and 40% invested in the British equity index fund. The expected returns for the funds are 10% for the U.S. and 8% for the British, standard deviations of 20% for the U.S. and 18% for the British, and a correlation coefficient of 0.15 between the U.S. and British equity funds.

6) Refer to Instruction 16.2. What is the expected return of the proposed portfolio?
A) 9.2%
B) 9.0%
C) 19.2%
D) 19%

7) Refer to Instruction 16.2. What is the standard deviation of the proposed portfolio?
A) 38.00
B) 19.20
C) 19.00
D) 14.45

True/False

1) The graph for the efficient frontier has beta on the vertical axis and standard deviation of the horizontal axis.

2) The portfolio with the least risk among all those possible in the domestic portfolio opportunity set is called the minimum risk domestic portfolio.

3) The optimal domestic portfolio of risky securities is always the portfolio of minimum risk.

4) The standard deviation of a portfolio is the sum of the weighted average standard deviations of the individual assets.

5) The optimal domestic portfolio combines the risk-free asset and a portfolio of domestic securities found on the efficient frontier.

6) The internationally diversified portfolio opportunity set shifts TO THE RIGHT of the purely domestic opportunity set.

Essay

1) Draw the curve representing the Optimal Domestic Efficient Frontier. Be sure to draw and label the following: The vertical axis and the horizontal axis, the risk-free security, the minimum risk portfolio, the domestic portfolio opportunity set, the optimal domestic portfolio, and the capital market line. Choose a point along the domestic portfolio opportunity set between the optimal domestic portfolio and the minimum risk domestic portfolio and explain why that point is not the optimal risky domestic portfolio for investors to hold.

16.3 National Markets and Asset Performance

Multiple Choice

1) The authors present a comparison of correlation coefficients between major global equity markets over a variety of different periods. The comparison yields a number of conclusions listed here EXCEPT:
A) the correlation between equity markets for the full twentieth century shows quite low levels of correlation between some of the largest markets (close to 0.50 in some cases).
B) that same century of data, however, yields a high correlation between the U.S. and Canada (0.80).
C) the correlation coefficients between those same equity markets for selected sub periods over the last quarter of the twentieth century, however, show significantly different correlation coefficients.
D) None of the answers listed are inaccurate conclusions.

True/False

1) Capital markets around the world are on average less integrated today than they were 20 years ago.

2) In an empirical study on national market returns in the 20th century, Dimson, Marsh, and Staunton (2002) determined that the equity returns in the United States out-performed the other 15 countries in the study.

3) In an empirical study on national market returns in the 20th century, Dimson, Marsh, and Staunton (2002) found that just under one-half of the 16 countries in the study had negative average returns in their equity markets.

4) In an empirical study on national market returns in the 20th century, Dimson, Marsh, and Staunton (2002) determined that due to high levels of correlation or returns between countries, there is almost NO BENEFIT to international portfolio diversification.

5) Of the major trading partners with the United States, Canada has among the LOWEST correlation of returns with the U.S.

Essay

1) If an investor is able to determine a global beta for his portfolio and holds a portfolio that is well-diversified with international investments, which performance measure is more appropriate, the Sharpe Measure or the Treynor Measure? Why? Explain each performance measure.

16.4 Market Performance Adjusted for Risk: The Sharpe and Treynor Performance Measures

Multiple Choice

1) The Sharpe measure uses ________ as the measure of risk and the Treynor measure uses ________ as the measure of risk.
A) standard deviation; variance
B) beta; variance
C) standard deviation; beta
D) beta; standard deviation

TABLE 16.1
Use the information to answer following question(s).

2) Refer to Table 16.1. What is the value of the Sharpe Measure for France?
A) 0.113
B) 0.0071
C) either A or B
D) neither A nor B

3) Refer to Table 16.1. What is the value of the Treynor Measure for the Netherlands?
A) 0.197
B) 0.0109
C) either A or B
D) neither A nor B

4) Refer to Table 16.1. ________ appears to have the greatest amount of risk as measured by monthly standard deviation, but ________ has the best return per unit of risk according to the Sharpe Measure.
A) United States; Austria
B) France; Austria
C) United States; Netherlands
D) France; Netherlands

5) The Sharpe and Treynor Measures tend to be consistent in their ranking of portfolios when the portfolios:
A) are poorly diversified.
B) are properly diversified.
C) contain only U.S. equity investments.
D) none of the above

True/False

1) The Sharpe and Treynor measures are each measures of return per unit of risk.

2) Good financial advice would suggest that investors should examine returns by the amount of return per unit of risk accepted, rather than in isolation.

3) The denominator of the Treynor measure is portfolio risk as measured by the standard deviation of the portfolio.

4) The denominator of the Sharpe measure is portfolio risk as measured by the standard deviation of the portfolio.

5) The denominator of the Sharpe measure is the portfolio’s beta, the systematic risk of the portfolio, as measured against the world market portfolio.

6) The denominator of the Treynor measure is the portfolio’s beta, the systematic risk of the portfolio, as measured against the world market portfolio.

FIN 350 Week 8 Quiz – Strayer University New

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Quiz 7 Chapter 16 and 17

Chapter 16—Foreign Exchange Derivative Markets

1. At any given point in time, the price at which banks will buy a currency is ____ the price at which they sell it.
a. higher than
b. lower than
c. the same as
d. none of the above

2. Which of the following is most likely to provide currency forward contracts to their customers?
a. commercial banks
b. international mutual funds
c. brokerage firms
d. insurance companies

3. The ____ allowed for the devaluation of the dollar in 1971.
a. Bretton Woods Agreement
b. Louvre Accord
c. Smithsonian Agreement
d. none of the above

4. The Bretton Woods Era was the era
a. of free-floating exchange rates.
b. of floating rates without boundaries, but subject to government intervention.
c. in which governments maintained exchange rates within 1 percent of a specified rate.
d. in which exchange rates were maintained within 10 percent of a specified rate.

5. A system whereby exchange rates are market determined without boundaries but subject to government intervention is called
a. a dirty float.
b. a free float.
c. the gold standard.
d. the Bretton Woods era.

6. A system whereby one currency is maintained within specified boundaries of another currency or unit of account is a
a. pegged system.
b. free float.
c. dirty float.
d. managed float.

7. A country that pegs its currency is still able to maintain complete control over its local interest rates.
a. True
b. False

8. If the demand for British pounds ____, the pound will ____, other things being equal.
a. increases; appreciate
b. decreases; appreciate
c. increases; depreciate
d. B and C

9. A(n) ____ in the supply of euros for sale will cause the euro to ____.
a. increase; appreciate
b. increase; depreciate
c. decrease; depreciate
d. none of the above

10. Beginning with an equilibrium situation, if European inflation suddenly ____ than U.S. inflation, this forced ____ pressure on the value of the euro.
a. becomes much higher; upward
b. becomes much higher; downward
c. becomes much less; upward
d. becomes much less; downward
e. B and C

11. Purchasing Power Parity suggests that the exchange rate will on average change by a percentage that reflects the ____ differential between two countries.
a. income
b. interest rate
c. inflation
d. tax

12. In reality, exchange rates do not always change as suggested by purchasing power parity.
a. True
b. False

13. If U.S. interest rates suddenly become much higher than European interest rates (and if it does not cause concern about higher inflation there), the U.S. demand for euros would ____, and the supply of euros to be exchanged for dollars would ____, other factors held constant.
a. increase; increase
b. increase; decrease
c. decrease; increase
d. decrease; decrease

14. Assume interest rate parity exists. If the spot rate on the British pound is $2 and the 1-year British interest rate is 7 percent, and the 1-year U.S. interest rate is 11 percent, what is the pound’s forward discount or premium?
a. 3.74 percent premium
b. 3.74 percent discount
c. 3.60 percent premium
d. 3.60 percent discount

15. When a government influences factors, such as inflation, interest rates, or income, in order to affect currency’s value, this is an example of
a. direct intervention.
b. indirect intervention.
c. a freely floating system.
d. a pegged system.

16. Which of the following statements is incorrect?
a. Central banks often consider adjusting a currency’s value to influence economic conditions.
b. If the U.S. central bank wishes to stimulate the economy, it could weaken the dollar.
c. A weaker dollar could cause U.S. inflation by reducing foreign competition.
d. Direct intervention occurs when the central bank influences the factors that determine the dollar’s value.

17. Direct intervention is always extremely effective.
a. True
b. False

18. If the U.S. government imposed trade restrictions on U.S. imports, this would ____ the U.S. demand for foreign currencies, and would place ____ pressure on the values of foreign currencies (with respect to the dollar).
a. increase; upward
b. increase, downward
c. limit; upward
d. limit; downward

19. If a commercial bank expects the euro to appreciate against the dollar, it may take a ____ position in euros and a ____ position in dollars.
a. short; short
b. long; short
c. short; long
d. long; long

20. Generally, a ____ home currency can ____ domestic economic growth.
a. weak; dampen
b. strong; stimulate
c. strong; dampen
d. A and B

21. A ____ home currency can ____ domestic inflation.
a. strong; increase
b. weak; decrease
c. strong; decrease
d. A and B

22. If the forward rate of a foreign currency ____ the existing spot rate, the forward rate will exhibit a ____.
a. exceeds; discount
b. is below; premium
c. is below; discount
d. A and B

23. ____ forecasting involves the use of historical exchange rate data to predict future values.
a. Technical
b. Fundamental
c. Market-based
d. Mixed

24. ____ forecasting is usually based on either the spot rate or the forward rate.
a. Technical
b. Fundamental
c. Market-based
d. Mixed

25. Fundamental forecasting has been found to be consistently superior to the other forecasting techniques.
a. True
b. False

26. Which of the following is not a method of forecasting exchange rate volatility?
a. using the volatility of historical exchange rate movements
b. using a time series of volatility patterns in previous periods
c. using the volatility of future exchange rate movements
d. using the exchange rate’s implied standard deviation

27. Assume the following information.

• Interest rate on borrowed euros is 5 percent annualized
• Interest rate on dollars loaned out is 6 percent annualized
• Spot rate for €0.83 per dollar (one € = $1.20)
• Expected spot rate in five days is €0.85 per dollar
• Alonso Bank can borrow €10 million

What is the euro profit to Alonso Bank over the five-day period from shorting euros and going long on dollars?
a. €200,311.11
b. €207,111.11
c. €201,555.56
d. none of the above

28. Which of the following statements is incorrect?
a. Forward contracts are contracts typically negotiated with a commercial bank that allow the purchase or sale of a specified amount of a particular foreign currency at a specified exchange rate on a specified future date.
b. The forward market is located in New York City.
c. Many of the commercial banks that offer foreign exchange on a spot basis also offer forward transactions for the widely traded currencies.
d. Forward contracts can hedge a corporation’s risk that a currency’s value may appreciate over time.

29. If the spot rate of the British pound is $2, and the 180-day forward rate is $2.05, what is the annualized premium or discount?
a. 2.5 percent discount
b. 2.5 percent premium
c. 10 percent premium
d. 5 percent discount
e. 5 percent premium

30. Currency futures contracts differ from forward contracts in that they
a. are an obligation.
b. are not an obligation.
c. are standardized.
d. can specify any amount and maturity date.

31. If the spot rate ____ the exercise price, a currency ____ option would not be exercised.
a. remains below; call
b. remains below; put
c. remains below; put
d. A and B

32. The pegged exchange rate system is no longer used by any countries.
a. True
b. False

33. If a firm planning to hedge receivables is certain of the future direction a spot rate will move, and requires a tailor-made hedge in terms of amount and maturity date, it should use a
a. call options contract traded on an exchange.
b. futures contract traded on an exchange.
c. forward contract.
d. put options contract traded on an exchange.

34. Assume that a British pound put option has a premium of $.03 per unit, and an exercise price of $1.60. The present spot rate is $1.61. The expected future spot rate on the expiration date is $1.52. The option will be exercised on this date if at all. What is the expected per unit net gain (or loss) resulting from purchasing the put option?
a. $.01 loss
b. $.09 loss
c. $.09 gain
d. $.05 gain

35. The speculative risk of purchasing a ____ is that the foreign currency value ____ over time.
a. put option; increases
b. put option; decreases
c. call option; increases
d. futures contract; increases

36. Bank A asks $.555 for Swiss francs and Banks B and C are willing to pay $.557 for francs. An institution could capitalize on these differences by engaging in
a. covered interest arbitrage.
b. triangular arbitrage.
c. locational arbitrage.
d. witching hour arbitrage.

37. According to interest rate parity, if the interest rate in a foreign country is ____ than in the home country, the forward rate of the foreign country will have a ____.
a. higher; discount
b. lower; premium
c. higher; premium
d. A and B

38. ____ serve as financial intermediaries in the foreign exchange market by buying or selling currencies to accommodate customers.
a. Pension funds
b. International mutual funds
c. Insurance companies
d. Commercial banks
e. None of the above

39. In the Wall Street Journal, you observe that the British pound (£) is quoted for $1.65. The Australian dollar (A$) is quoted for $0.60. What is the value of the Australian dollar in British pounds?
a. A$2.75
b. A$0.36
c. £2.75
d. £0.36
e. none of the above

40. If European inflation suddenly becomes much higher than U.S. inflation, the U.S. demand for European goods will ____. In addition, the supply of euros to be sold for dollars will ____; both forces will place ____ pressure on the value of the euro.
a. increase; decline; upward
b. increase; decline; downward
c. decrease; increase; upward
d. decrease; increase; downward
e. none of the above

41. If British interest rates suddenly increase substantially relative to U.S. interest rates, the demand by U.S. investors for British pounds ____, the supply of British pounds to be sold in exchange for dollars ____, and the British pound will ____.
a. increases; decreases; appreciate
b. increases; decreases; depreciate
c. decreases; increases; appreciate
d. decreases; increases; depreciate
e. none of the above

42. Assume the following information.

• Interest rate on borrowed euros is 5 percent annualized.
• Interest rate on dollars loaned out is 6 percent annualized.
• Spot rate is 1.10 euros per dollar (one euro = $0.909).
• Expected spot rate in five days is 1.15 euros per dollar.
• Fabrizio Bank can borrow 10 million euros.

If Fabrizio Bank attempts to capitalize on the above information, its profit over the five-day period is
a. 2,653,597.22 euros.
b. 455,266.81 euros.
c. 452,426.04 euros.
d. none of the above

43. A country that pegs its exchange rate to another exchange rate does not have complete control over its interest rates.
a. True
b. False

44. The euro is presently pegged to the British pound in order to stabilize international payments between European countries.
a. True
b. False

45. Financial institutions rarely use the forward market.
a. True
b. False

46. If the quoted cross rate between two foreign currencies is not aligned with the two corresponding exchange rates, investors can profit from triangular arbitrage.
a. True
b. False

47. The indirect exchange rate specifies the value of the currency in U.S. dollars.
a. True
b. False

48. The forward rate premium is dictated by the national income differential of the two currencies.
a. True
b. False

49. The potential benefits from using foreign exchange derivatives are independent of the expected exchange rate movements.
a. True
b. False

50. The forward rate is the exchange rate for immediate delivery.
a. True
b. False

51. The Smithsonian Agreement allowed for a devaluation of the dollar and for a widening of the boundaries within which currencies were allowed to fluctuate.
a. True
b. False

52. A country that pegs its currency does not have complete control over its local interest rates, as its interest rates must be aligned with the interest rates of the currency to which it is tied.
a. True
b. False

53. Exchange rates usually change precisely as suggested by the purchasing power parity (PPP) theory.
a. True
b. False

54. Central bank intervention can be overwhelmed by market forces and may not always succeed in reversing exchange rate movements.
a. True
b. False

55. When countries experience substantial net outflows of funds, they commonly use indirect intervention by raising interest rates to discourage excessive outflows of funds and therefore limit any downward pressure on the value of their currency.
a. True
b. False

56. The forward rate premium reflects the percentage by which the spot rate exceeds the forward rate on an annualized basis.
a. True
b. False

57. The primary advantage of currency options over forward and futures contracts is that they provide a right rather than an obligation to purchase or sell a particular currency at a specified price within a given period.
a. True
b. False

58. A speculator who expects a foreign currency to appreciate could purchase the currency forward and, when received, sell it in the spot market.
a. True
b. False

59. The following information refers to Fresno Bank and Champaign Bank.

Bid Rate on Euros Ask Rate on Euros
Fresno Bank $1.002 $1.009
Champaign Bank $0.997 $1.000

Based on this information, locational arbitrage would be profitable.
a. True
b. False

60. Purchasing power parity suggests that the forward rate premium (or discount) should be about equal to the differential in interest rates between the countries of concern.
a. True
b. False

61. ____ are not foreign exchange derivatives.
a. Forward contracts
b. Currency futures contracts
c. Currency swaps
d. Currency options
e. All of the above are foreign exchange derivatives.

62. ____ serve as financial intermediaries in the foreign exchange market by buying or selling currencies to accommodate customers.
a. Commercial banks
b. International mutual funds
c. Insurance companies
d. Pension funds
e. All of the above

63. In the Wall Street Journal, you observe that the British pound (£) is quoted for $1.67. The Australian dollar (A$) is quoted for $0.62. What is the value of the Australian dollar in British pounds?
a. A$2.69
b. £0.37
c. £2.69
d. A$0.37
e. none of the above

64. In a(n) ____ exchange rate system, the foreign exchange market is totally free from government intervention.
a. pegged
b. dirty floating
c. freely floating
d. Bretton Woods
e. none of the above

65. The supply and demand for a currency are influenced by all of the following, except
a. differential interest rates.
b. differential inflation rates.
c. direct government intervention.
d. indirect government intervention.
e. The supply and demand for a currency are affected by all of the above.

66. If U.S. inflation suddenly becomes much higher than European inflation, the U.S. demand for European goods will ____. In addition, the supply of euros to be sold for dollars will ____; both forces will place ____ pressure on the value of the euro.
a. increase; decline; upward
b. increase; decline; downward
c. decrease; increase; upward
d. decrease; increase; downward
e. none of the above

67. Assume an equilibrium state in which European inflation and U.S. inflation are both 4 percent. If U.S. inflation suddenly decreased to 2 percent, the euro will ____ against the dollar by approximately ____ percent, according to purchasing power parity.
a. appreciate; 2
b. depreciate; 2
c. appreciate; 4
d. depreciate; 4
e. none of the above

68. Which of the following is the least feasible strategy for a speculator who expects the Australian dollar to depreciate?
a. sell Australian dollars forward and then purchase them in the spot market just before fulfilling the forward obligation
b. sell futures contracts on Australian dollar; purchase Australian dollars in the spot market just before fulfilling the futures obligation
c. purchase put options on Australian dollars, at some point before the expiration date, when the spot rate is less than the exercise price, purchase Australian dollars in the spot market and then exercise the put option
d. purchase call options on Australian dollars; at some point before the expiration date, exercise the call option and then sell the Australian dollars received in the spot market
e. All of the above are possible strategies for a speculator who expects the Australian dollar to depreciate.

69. The act of capitalizing on the discrepancy between the forward rate premium and the interest rate differential is called
a. triangular arbitrage.
b. locational arbitrage.
c. covered interest arbitrage.
d. interest rate parity.

70. The indirect exchange rate is always the reciprocal of the direct exchange rate.
a. True
b. False

71. The exchange rate between two foreign (nondollar) currencies is known as a(n):
a. indirect dollar rate.
b. forward rate.
c. cross-exchange rate.
d. derived exchange rate.

72. The devaluation of a country’s currency:
a. makes foreign products more expensive for consumers in that country.
b. increases foreign demand for that country’s exports.
c. can lead to deflation in that country.
d. A and B

73. Currency futures contracts are standardized, whereas forward contracts are more flexible and can specify whatever amount and maturity date are desired.
a. True
b. False

74. When the Federal Reserve attempt to lower interest rates by increasing the U.S. money supply, it puts upward pressure on the value of the dollar.
a. True
b. False

75. A speculator who expects the euro to depreciate might:
a. sell euros forward and then purchase them in the spot market just before fulfilling the forward obligation.
b. purchase euros forward and, when they are received, sell them in the spot market.
c. purchase futures contracts on euros and, when the euros are received, sell them in the spot market.
d. all of the above

Chapter 17—Commercial Bank Operations

1. Which of the following statements is incorrect?
a. Banks have expanded their business across services over time.
b. Acquisitions have been a convenient method for banks to grow quickly and capitalize on economies of scale.
c. The banking industry has become less concentrated in recent years.
d. All of the statements above are correct.

2. Commercial banks have expanded in recent years not only by acquiring other banks but also by acquiring other types of financial service firms.
a. True
b. False

3. Commercial banks can be a lender or a borrower when using repurchase agreements and loans in the federal funds market.
a. True
b. False

4. The operations, management, and regulation of a financial conglomerate are the same irrespective of the types of services offered.
a. True
b. False

5. ____ are offered to bank customers who desire to write checks against their account.
a. Time deposit accounts
b. CDs
c. Demand deposit accounts
d. Money market deposit accounts

6. Which type of savings account transfers funds to a checking account when checks are written?
a. ATS
b. passbook savings
c. CDs
d. MMDAs

7. A(n) ____ account provides checking services as well as interest.
a. demand deposit
b. negotiable order of withdrawal (NOW)
c. passbook savings
d. time deposit

8. Protective covenants impose conditions in which the bank must provide additional loans to a borrower to protect the borrower from going bankrupt.
a. True
b. False

9. A ____ is a time deposit offered by some large banks to corporations, with a specific maturity date, minimum deposit of $100,000 or more, and a secondary market.
a. retail CD
b. negotiable CD
c. market CD
d. protective CD

10. A bank’s sources of funds represent liabilities or equity of the bank.
a. True
b. False

11. Money market deposit accounts differ from conventional time deposits in that they
a. specify a maturity.
b. offer limited check writing privileges.
c. are less liquid.
d. none of the above

12. The intent of federal funds transactions is to
a. correct short-term fund imbalances experienced by banks.
b. correct long-term fund imbalances experienced by banks.
c. serve as a permanent source of bank capital.
d. serve as the primary depository source of funds.

13. For any given bank, federal funds ____ represent a(n) ____.
a. purchased; asset
b. sold; liability
c. purchased; liability
d. A and B

14. The federal funds rate is ____ the yield on a Treasury security with a similar term remaining until maturity.
a. substantially above
b. substantially below
c. close to
d. none of the above; the rate is much higher than the Treasury yield in some periods, and much lower than the Treasury yield in other periods

15. Obtaining funds through ____ is not a common source of funds for banks to satisfy a temporary deficiency of funds?
a. issuing bonds
b. the federal funds market
c. repurchase agreements
d. borrowing from the Federal Reserve

16. Which of the following is true?
a. The primary credit lending rate is set by the president of the United States.
b. The federal funds rate is set by the president of the United States.
c. The primary credit lending rate is set by commercial banks.
d. The primary credit lending rate is now set at a level above the federal funds rate.
e. A and B

17. The Federal Reserve provides loans to banks in order to
a. resolve permanent shortages of funds experienced by banks.
b. resolve temporary shortages of funds experienced by banks.
c. finance the shortages of funds of finance companies.
d. none of the above

18. When a bank in need of funds for a few days sells some of its government securities to a corporation with a temporary excess of funds, then buys them back shortly thereafter, this is a
a. federal funds loan.
b. discount window loan.
c. repurchase agreement.
d. commercial paper transaction.

19. When banks need funding for just a few days, they would most likely
a. issue bonds and then call them.
b. issue stock and then repurchase it.
c. borrow in the federal funds market.
d. issue NCDs.

20. Because U.S. dollars are widely used as an international medium of exchange, the Eurodollar market is very active.
a. True
b. False

21. Subordinated notes and debentures are examples of
a. primary capital.
b. secondary capital.
c. depository sources of funds.
d. repurchase agreements.

22. All other things equal, when banks issue new stock, they
a. increase reported earnings per share.
b. decrease their ability to absorb operating losses.
c. dilute the ownership of the bank.
d. A and B

23. As a source of funds, small banks rely more heavily on ____, and larger banks rely more heavily on ____.
a. time deposits and foreign deposits; savings deposits and short-term borrowings
b. savings deposits and short-term borrowings; foreign deposits and time deposits
c. savings and time deposits; foreign deposits and short-term borrowings
d. foreign deposits and short-term borrowings; savings and time deposits

24. Cash held ____ represents the major portion of a bank’s required reserves.
a. at other commercial banks
b. in a bank’s vault
c. on deposit at the federal funds window
d. on deposit with the Board of Governors

25. The main use of bank funds is for
a. loans.
b. investment securities.
c. fixed assets.
d. repurchase agreements.

26. Bank loans designed to support a firm’s ongoing business operations are called
a. term loans.
b. working capital loans.
c. direct lease loans.
d. revolving credit loans.

27. ____ loans are primarily used to finance the purchase of fixed assets.
a. Term
b. Working capital
c. Informal line of credit
d. Revolving credit

28. Which of the following is most appropriate for a business that may experience a sudden need for funds but does not know precisely when?
a. working capital loan
b. direct lease loan
c. term loan
d. informal line of credit

29. A ____ loan may be especially appropriate when the bank wishes to avoid adding more debt to its balance sheet.
a. term
b. bullet
c. direct lease
d. revolving credit

30. The interest rate banks charge their most creditworthy customers is known as the
a. federal funds rate.
b. primary credit lending rate.
c. prime rate.
d. call money rate.

31. Transaction deposits do not include
a. demand deposits.
b. NCDs.
c. NOW accounts.
d. all of the above are transactions deposits

32. Commercial banks are not allowed to invest in
a. Treasury securities.
b. Freddie Mac securities.
c. Fannie Mae securities.
d. Banks can invest in all securities mentioned above.

33. Money market deposit accounts (MMDAs)
a. require a maturity of 6 months or longer.
b. allow a limited number of checks to be written against the account.
c. pay a higher interest rate than CDs.
d. none of the above

34. Which of the following accounts does not allow checks (at least a limited amount) to be written?
a. NOW accounts
b. money market deposit accounts (MMDAs)
c. retail CDs
d. all of the above allow checks to be written

35. Banks sometimes need funds and sometimes have excess funds available. Which of the following is commonly a source of bank funds and a use of bank funds?
a. MMDAs
b. federal funds
c. the discount window
d. retail CDs

36. The bank holding company structure allows more flexibility to borrow funds, issue stock, repurchase the company’s own stock, and acquire other firms.
a. True
b. False

37. Like other market interest rates, the primary credit lending rate moves in reaction to changes in demand or supply of funds or both.
a. True
b. False

38. The yield on repurchase agreements is slightly higher than the federal funds rate at any given point in time.
a. True
b. False

39. Bank regulators are concerned that banks may maintain a higher level of capital than they should and have therefore imposed capital requirements on them.
a. True
b. False

40. In a revolving credit loan, the bank typically charges businesses a commitment fee on any unused funds.
a. True
b. False

41. Bank rates on credit card balances are usually not very different from the rate charged on business loans.
a. True
b. False

42. While U.S. banks have expanded into non-U.S. markets, few non-U.S. banks have entered U.S. markets.
a. True
b. False

43. ____ is (are) not a major source of funds for commercial banks.
a. Deposit accounts
b. Borrowed funds
c. Commercial loans
d. Bank capital
e. All of the above are commercial banks sources of funds.

44. Which of the following statements is incorrect with respect to the federal funds market?
a. It allows depository institutions to accommodate the short-term liquidity needs of other financial institutions.
b. Federal funds purchased represent an asset to the borrowing bank and a liability to the lending bank that sells them.
c. The federal funds market is typically most active on Wednesday, because that is the final day of each particular settlement period for which each bank must maintain a specified volume of reserves required by the Fed.
d. All of the above are true with respect to the federal funds market.

45. The federal funds rate is typically ____ the primary credit lending rate.
a. greater than
b. less than
c. equal to
d. none of the above

46. ____ are the largest bank source of funds as a percentage of total liabilities.
a. Small-denomination time deposits
b. Money market deposit accounts (MMDAs)
c. Transaction deposits
d. Borrowed funds
e. Savings deposits (including MMDAs)

47. ____ do not specify a maturity and provide limited check-writing ability (they allow only a limited number of transactions per month).
a. Money market deposit accounts (MMDAs)
b. Negotiable CDs (NCDs)
c. Retail CDs
d. Callable CDs
e. Negotiable order of withdrawal (NOW) accounts

48. ____ loans are extended primarily to finance the purchase of fixed assets such as machinery.
a. Term
b. Working capital
c. Federal fund
d. Direct lease

49. Which of the following is not an off-balance sheet activity for commercial banks?
a. consumer loans
b. loan commitments
c. standby letters of credit
d. swap contracts
e. All of the above are off-balance sheet activities.

50. A ____ is a type of loan commitment.
a. standby letter of credit (SLC)
b. note issuance facility (NIF)
c. forward contract
d. swap contract
e. none of the above

51. When a bank obtains funds through a ____, the provider of the funds receives collateral.
a. retail CD
b. NOW account
c. repurchase agreement
d. money market deposit account

52. When banks obtain funds in the federal funds market, the providers of the funds are
a. other depository institutions.
b. nonfinancial corporations.
c. consumers.
d. the Federal Reserve.

53. A single loan in the federal funds market is usually for ____; when a bank sells a single repurchase agreement, the maturity is usually ____.
a. just a few days; one year or more
b. several weeks; one year or more
c. several weeks; just a few days
d. just a few days; just a few days

54. The interest rate charged on loans between depository institutions is commonly referred to as the
a. federal funds rate.
b. discount rate.
c. primary credit lending rate.
d. none of the above

55. The interest rate charged on loans from the Federal Reserve to banks is commonly referred to as the
a. federal funds rate.
b. primary credit lending rate.
c. repo rate.
d. none of the above

56. The primary credit lending rate is determined by
a. the Federal Reserve.
b. Congress.
c. the Treasury.
d. the President of the United States.

57. Bank capital represents funds obtained through ____ and through ____.
a. issuing stock; offering long-term CDs
b. issuing repurchase agreements; issuing bonds
c. issuing stock; retaining earnings
d. offering long-term CDs; issuing bonds

58. Banks sometimes prefer to minimize their amount of capital since
a. interest payments must be paid by the bank on all capital that is held.
b. they try to avoid diluting ownership of the bank.
c. A and B
d. none of the above

59. When a bank obtains funds through ____, households are not a common provider of the funds.
a. NOW accounts
b. retail CDs
c. passbook savings accounts
d. NCDs

60. Which of the following is not an off-balance sheet activity?
a. highly leveraged transactions (HLTs)
b. standby letters of credit
c. forward contracts
d. swap contracts

61. A bank’s uses of funds represent liabilities of a bank.
a. True
b. False

62. ____ are the largest bank source of funds (as a percentage of total liabilities).
a. Small-denomination time deposits
b. Large-denomination time deposits
c. Transaction deposits
d. Savings deposits (including MMDAs)

63. The five largest banks in the United States account for about one-tenth of all assets in U.S. banks.
a. True
b. False

STA: DISC.FMAI.MADU.15.03

64. From a bank manager’s perspective, the differential in interest between a bank’s loans and its deposits;
a. must not exceed the federal funds rate.
b. is called the primary credit lending rate.
c. must be sufficient to cover the bank’s other expenses and generate a reasonable profit for the bank’s owners.
d. must be sufficient to cover the bank’s deposit insurance premiums and its reserve requirements at the Federal Reserve.

65. In a loan participation arrangement, normally all of the participating banks are exposed to credit (default) risk.
a. True
b. False

66. Banks will not accept intangible assets, such as patents and brand names, as collateral for commercial loans.
a. True
b. False

67. Proprietary trading is generally less risky than a bank’s lending operations.
a. True
b. False

68. When a bank engages in proprietary trading, it:
a. uses its own funds to make investments.
b. is not subject to regulations.
c. lends the funds in the federal funds market.
d. normally uses the funds to build its capital.

69. In a standby letter of credit, a bank agrees to:
a. charge a fixed interest rate for a line of credit for a specified period.
b. back a customer’s obligation to a third party.
c. provide a customer with funds up to a specified maximum amount over a specified period.
d. service credit card loans originated by another bank.

70. A forward contract on currency:
a. is a way to hedge credit (default) risk.
b. is used to to swap fixed interest payments in euros for variable interest payments in dollars.
c. is an agreement between a customer and a bank to exchange one currency for another on a specified date at a specified exchange rate.
d. is an agreement between a customer and a bank to exchange one currency for another on a specified date at whatever the exchange rate is on that day.

71. Before the credit crisis, _________ were heavily used to protect against the credit (default) risk from investing in mortgage-backed securities.
a. standby letters of credit
b. interest rate swap contracts
c. credit default swap contracts
d. forward contracts on mortgages

72. Before establishing foreign branches, a U.S. bank must obtain the approval of the:
a. U.S. Treasury.
b. U.S. Commerce Department.
c. Federal Deposit Insurance Corporation.
d. Federal Reserve.

ECO 410 Week 8 Quiz – Strayer University New

ECO/410 Week 8 Quiz – Strayer

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Quiz 7 Chapter 13 and 14

Chapter 13

The Global Cost and Availability of Capital

13.1 Financial Globalization and Strategy

Multiple Choice

1) If a firm lies within a country with ________ or ________ domestic capital markets, it can achieve lower global cost and greater availability of capital with a properly designed and implemented strategy to participate in international capital markets.
A) liquid; segmented
B) liquid; large
C) illiquid; segmented
D) large; illiquid

2) Other things equal, a firm that must obtain its long-term debt and equity in a highly illiquid domestic securities market will probably have a:
A) relatively low cost of capital.
B) relatively high cost of capital.
C) relatively average cost of capital.
D) cost of capital that we cannot estimate from this question.

3) Relatively high costs of capital are more likely to occur in:
A) highly illiquid domestic securities markets.
B) highly liquid domestic securities markets.
C) unsegmented domestic securities markets.
D) none of the above

4) Reasons that firms may find themselves with relatively high costs of capital include:
A) The firms reside in emerging countries with undeveloped capital markets.
B) The firms are too small to easily gain access to their own national securities market.
C) The firms are family owned and they choose not to access public markets and lose control of the firm.
D) all of the above

5) Which of the following is NOT a contributing factor to the segmentation of capital markets?
A) excessive regulatory control
B) perceived political risk
C) anticipated foreign exchange risk
D) All of the above are contributing factors.

6) Which of the following is NOT a contributing factor to the segmentation of capital markets?
A) lack of transparency
B) asymmetric availability of information
C) insider trading
D) All of the above are contributing factors.

7) The weighted average cost of capital (WACC) is:
A) the required rate of return for all of a firm’s capital investment projects.
B) the required rate of return for a firm’s average risk projects.
C) not applicable for use by MNE.
D) equal to 13%.

8) The capital asset pricing model (CAPM) is an approach:
A) to determine the price of equity capital.
B) used by marketers to determine the price of saleable product.
C) that can be applied only to domestic markets.
D) none of the above

9) Which of the following is NOT a key variable in the equation for the capital asset pricing model?
A) the risk-free rate of interest
B) the expected rate of return on the market portfolio
C) the marginal tax rate
D) All are important components of the CAPM.

10) ________ risk is a function of the variability of expected returns of the firm’s stock relative to the market index and the measure of correlation between the expected returns of the firm and the market.
A) Systematic
B) Unsystematic
C) Total
D) Diversifiable

11) Systematic risk:
A) is the standard deviation of a security’s return.
B) is measured with beta.
C) is measured with standard deviation.
D) none of the above

12) Which of the following is generally unnecessary in measuring the cost of debt?
A) a forecast of future interest rates
B) the proportions of the various classes of debt a firm proposes to use
C) the corporate income tax rate
D) All of the above are necessary for measuring the cost of debt.

13) The after-tax cost of debt is found by:
A) dividing the before-tax cost of debt by (1 – the corporate tax rate).
B) subtracting (1 – the corporate tax rate) from the before-tax cost of debt.
C) multiplying the before-tax cost of debt by (1 – the corporate tax rate).
D) subtracting the corporate tax rate from the before-tax cost of debt.

14) A firm whose equity has a beta of 1.0:
A) has greater systematic risk than the market portfolio.
B) stands little chance of surviving in the international financial market place.
C) has less systematic risk than the market portfolio.
D) None of the above is true.

15) The difference between the expected (or required) return for the market portfolio and the risk-free rate of return is referred to as:
A) beta.
B) the geometric mean.
C) the market risk premium.
D) the arithmetic mean.

16) In general the geometric mean will be ________ the arithmetic mean for a series of returns.
A) less than
B) greater than
C) equal to
D) greater than or equal to

17) The beginning share price for a security over a three-year period was $50. Subsequent year-end prices were $62, $58 and $64. The arithmetic average annual rate of return and the geometric average annual rate of return for this stock was:
A) 9.30% and 8.58% respectively.
B) 9.30% and 7.89% respectively.
C) 9.30% and 7.03% respectively.
D) 9.30% and 6.37% respectively.

18) If a company fails to accurately predict it’s cost of equity, then:
A) the firm’s wacc will also be inaccurate.
B) the firm may not be using the proper interest rate to estimate NPV.
C) the firm may incorrectly accept or reject projects based on decisions made using the cost of capital computed with an incorrect cost of equity.
D) All of the above are true.

19) Which of the following statements is NOT true regarding beta?
A) Beta will have a value of less than 1.0 if the firm’s returns are less volatile than the market.
B) Beta will have a value of greater than 1.0 if the firm’s returns are more volatile than the market.
C) Beta will have a value of equal to 1.0 if the firm’s returns are of equal volatility to the market.
D) All of the statements above are true.

20) Which of the following will NOT affect a firm’s beta?
A) the choice of the market portfolio against which to compare the variability of a firm’s returns
B) the choice of the risk-free security
C) the choice of the time period used to calculate the firm’s beta
D) None of the above, because each of them affects the calculation of a firm’s beta.

True/False

1) A national securities market is segmented if the required rate of return on securities in that market differs from comparable securities traded in other, unsegmented markets.

2) Other things equal, an increase in the firm’s tax rate will increase the WACC for a firm that has both debt and equity financing.

3) If a firm’s expected returns are more volatile than the expected return for the market portfolio, it will have a beta less than 1.0.

4) The WACC is usually used as the risk-adjusted required rate of return for new projects that are of the same average risk as the firm’s existing projects.

5) One of the elegant beauties of international equity markets is that over the last 100 or so years, the average market risk premium is almost identical across major industrial countries.

6) Firms acquire debt in either the form of loans from commercial banks, or by selling new common stock.

7) When estimating an average corporate after-tax cost of capital, the component cost of equity is multiplied by (1-t) to allow for the tax-deductibility of dividend payments.

8) International CAPM (ICAPM) assumes that there is a global market in which the firm’s equity trades, and estimates of the firm’s beta, and the market risk premium, must then reflect this global portfolio.

9) Use of the International CAPM (ICAPM) assures that the WACC will be lower than if a purely domestic market portfolio had been used in the estimation of the cost of equity.

10) A global portfolio is an index of all the securities in the world, whereas a world portfolio represents those securities actually available to an investor.

11) The CAPM has now become very widely accepted in global business as the preferred method of calculating the cost of equity for a firm. As a result of this, there is now little debate over what numerical values should be used in its application.

12) The geometric mean will, in all but a few extreme circumstances, yield a larger return than the arithmetic mean return.

Essay

1) What are the components of the weighted average cost of capital (WACC) and how do they differ for an MNE compared to a purely domestic firm?

13.2 The Demand for Foreign Securities: The Role of International Portfolio Investors

Multiple Choice

1) The primary goal of both domestic and international portfolio managers is:
A) to maximize return for a given level of risk, or to minimize risk for a given level of return.
B) to minimize the number of unique securities held in their portfolio.
C) to maximize their WACC.
D) all of the above

2) Which of the following is NOT a portfolio diversification technique used by portfolio managers?
A) diversify by type of security
B) diversify by the size of capitalization of the securities held
C) diversify by country
D) All of the above are diversification techniques.

3) If all capital markets are fully integrated, securities of comparable expected return and risk should have the same required rate of return in each national market after adjusting for:
A) time of day and language requirements.
B) political risk and time lags.
C) foreign exchange risk and political risk.
D) foreign exchange risk and the spot rate.

4) Capital market segmentation is a financial market imperfection caused mainly by:
A) government constraints.
B) institutional practices.
C) investor perceptions.
D) all of the above

5) Capital market imperfections leading to financial market segmentation include:
A) asymmetric information between domestic and foreign-based investors.
B) high securities transaction costs.
C) foreign exchange risks.
D) all of the above

6) Capital market imperfections leading to financial market segmentation include:
A) political risks.
B) corporate governance differences.
C) regulatory barriers.
D) all of the above

7) The authors refer to companies that have access to a ________ as MNEs, and firms without such access are identified as ________.
A) global cost and availability of capital; domestic firms.
B) large domestic capital market; geographically challenged.
C) world financial markets; antiquated.
D) none of the above

8) The MNE can ________ its ________ by gaining access to markets that are more liquid and/or less segmented than its own.
A) increase; MCC.
B) decrease; MCC.
C) maintain; MRR.
D) none of the above

True/False

1) Internationally diversified portfolios often have a lower rate of return and almost always have a higher level of portfolio risk than their domestic counterparts.

2) Empirical tests of market efficiency fail to show that most major national markets are reasonably efficient.

3) A MNEs marginal cost of capital is constant for considerable ranges in its capital budget, but this statement cannot be made for most domestic firms.

4) Capital market segmentation is a financial market imperfection caused mainly by government constraints, institutional practices, and investor perceptions.

5) Since the 1980s and 1990s, segmentation in global financial markets has been reduced. As a result of this, the correlation among securities markets has increased, thereby reducing, but not eliminating, the benefits of international portfolio diversification.

13.3 The Cost of Capital for MNEs Compared to Domestic Firms

Multiple Choice

1) Theoretically, most MNEs should be in a position to support higher ________ than their domestic counterparts because their cash flows are diversified internationally.
A) equity ratios
B) debt ratios
C) temperatures
D) none of the above

2) According to your authors, diversifying cash flows internationally may help MNEs reduce the variability of cash flows because:
A) of a lack of competition among international firms.
B) of an offset to cash flow variability caused by exchange rate variability.
C) returns are not perfectly correlated between countries.
D) none of the above

3) Which of the following statements is NOT true regarding MNEs when compared to purely domestic firms?
A) MNEs tend to rely more on short and intermediate term debt.
B) MNEs have greater foreign exchange risk.
C) MNEs have greater costs of asymmetric information.
D) MNEs have higher agency costs.

4) Empirical research has found that systematic risk for MNEs is greater than that for their domestic counterparts. This could be due to:
A) the fact that the increase in the correlation of returns between the market and the firm is less than the increase in the standard deviation of returns of the firm.
B) the fact that the decrease in the correlation of returns between the market and the firm is greater than the increase in the standard deviation of returns of the firm.
C) the reduction in the correlation of returns between the firm and the market is less than the increase in the variability of returns caused by factors such as asymmetric information, foreign exchange risk, and the like.
D) None of the above; systematic risk is less for MNEs than for their domestic counterparts.

5) The optimal capital budget:
A) occurs where the marginal cost of capital equals the marginal rate of return of the opportunity set of projects.
B) is typically larger for purely domestic firms than for MNEs.
C) is an illusion found only in international finance textbooks.
D) none of the above

6) Empirical studies indicate that MNEs have higher costs of capital than purely domestic firms. This could be due to higher levels of:
A) political risk.
B) exchange rate risk.
C) agency costs.
D) all of the above

7) Despite the theoretical elegance of this hypothesis, empirical studies have come to the opposite conclusion.Despite the favorable effect of international diversification of cash flows, bankruptcy risk was only about the same for MNEs as for domestic firms. However, MNEs faced higher costs for each of the following EXCEPT:
A) agency costs.
B) political risk.
C) asymmetric information.
D) In fact, each of these costs were higher for the MNE than for the domestic firm.

True/False

1) Because of the international diversification of cash flows, the risk of bankruptcy for MNEs is significantly lower than that for purely domestic firms.

2) The opportunity set of projects is typically smaller for MNEs than for purely domestic firms because international markets are typically specialized niches.

3) Surprisingly, empirical studies find that MNEs have a higher level of systematic risk than their domestic counterparts.

Essay

1) What do theory and empirical evidence say about capital structure and the cost of capital for MNEs versus their domestic counterparts?

13.4 The Riddle: Is the Cost of Capital Higher for MNEs?

Multiple Choice

1) Empirical studies indicate that WACC for an MNE is higher than for their domestic competitors. Reasons cited for this increased cost include all of the following EXCEPT:
A) agency costs.
B) foreign exchange risk.
C) political risk.
D) All of the above are cited as reasons for an MNE’s increased WACC.

True/False

1) Empirical studies indicate that MNEs have a lower debt/capital ratio than domestic counterparts, indicating that MNEs have a lower cost of capital.

Chapter 14 Raising Equity and Debt Globally

14.1 Designing a Strategy to Source Capital Globally

Multiple Choice

1) The choice of when and how to source capital globally is usually aided early on by the advice of:
A) an investment banker.
B) your stock broker.
C) a commercial banker.
D) an underwriter.

2) Investment banking services include which of the following?
A) advising when a security should be cross-listed
B) preparation of stock prospectuses
C) help to determine the price of the issue
D) all of the above

3) Which of the following is the typical order of sourcing capital abroad?
A) an international bond issue, then cross listing the outstanding issues on other exchanges, then an international bond issue in the target market
B) an international bond issue in the target market, then cross listing the outstanding issues on other exchanges, then an international bond issue
C) an international bond issue in less prestigious markets, then an international bond issue in the target market, and ultimately a eurobond issue
D) cross listing the outstanding issues on other exchanges, then an international bond issue, then an international bond issue in the target market

4) By cross listing and selling its shares on a foreign stock exchange, a firm typically tries to accomplish which of the following?
A) improve the liquidity of its existing shares
B) increase its share price
C) increase the firm’s visibility
D) all of the above

True/False

1) Most firms raise their initial capital in foreign markets.

14.2 Optimal Financial Structure

Multiple Choice

1) Which financial economists are most closely associated with the financial theory of optimal capital structure?
A) Modigliani and Miller
B) Fama, Fisher, Jensen, and Roll
C) Black and Scholes
D) Markowitz and Sharpe

2) For most firms, the cost of capital decreases to a low point as the firm ________ debt financing. At some point beyond this optimal level, the cost of capital increases as the amount of debt ________.
A) decreases; increases
B) decreases; decreases
C) increases; increases
D) increases; decreases

3) One of the most important factors in making debt less expensive than equity is:
A) the tax deductibility of depreciation.
B) the tax deductibility of equity.
C) the tax deductibility of dividends.
D) the tax deductibility of interest.

4) One of the most important factors in making debt less expensive than equity is:
A) the seniority of equity obligations to debt claims.
B) the tax deductibility of dividends.
C) the tax deductibility of equity.
D) the seniority of debt obligations to equity claims.

5) Which of the following is NOT a factor offsetting the tax advantage of debt as a source of financing?
A) increased agency costs
B) increased probability of financial distress (bankruptcy) due to fixed interest payments
C) alternative tax shields to those supplied by interest payments
D) All of the above offset the tax advantage of debt as a source of financing.

6) Most financial theorists believe that the optimal capital structure is a ________ with a debt to total value ratio somewhere around ________.
A) point; 50%
B) point; 25%
C) range; 30%-60%
D) range; 10%-40%

7) Not all firms have the same optimal capital structure. Factors that might influence a firm’s capital structure include:
A) the industry in which it operates.
B) the volatility of its sales and operating income.
C) the collateral value of its assets.
D) all of the above

8) MNEs situated in countries with small illiquid and segmented markets are most like:
A) small domestic U.S. firms in that they must rely on internally generated funds and bank borrowing.
B) large U.S. MNEs in that they are all MNEs and have worldwide markets and sources of financing.
C) small domestic U.S. firms in that they have a strong niche market in the U.S.
D) None of the above is true.

9) In theory, the MNE should support ________ debt ratios than a purely domestic firm because their cash flows are ________.
A) lower; more stable due to international diversification
B) lower; less stable due to international diversification
C) higher; more stable due to international diversification
D) higher; less stable due to international diversification

10) TropiKana Inc., a U.S firm, has just borrowed $1,000,000 to make improvements to an Italian fruit plantation and processing plant. If the interest rate is 6.00% per year, how much interest will they pay in the first year?
A) $6,000
B) $60,000
C) $600,000
D) €60,000

11) TropiKana Inc., a U.S firm, has just borrowed euro 1,000,000 to make improvements to an Italian fruit plantation and processing plant. If the interest rate is 5.50% per year and the Euro depreciates against the dollar from $1.40/€ at the time the loan was made to $1.35/€ at the end of the first year, how much interest will TropiKana pay at the end of the first year (rounded)?
A) $55,000
B) €74,250
C) $74,250
D) $77,000

12) TropiKana Inc., a U.S firm, has just borrowed euro 1,000,000 to make improvements to an Italian fruit plantation and processing plant. If the interest rate is 5.50% per year and the Euro appreciates against the dollar from $1.40/€ at the time the loan was made to $1.45/€ at the end of the first year, how much interest will TropiKana pay at the end of the first year (rounded)?
A) $55,000
B) $79,750
C) $77,000
D) $37,931

13) TropiKana Inc., a U.S firm, has just borrowed euro 1,000,000 to make improvements to an Italian fruit plantation and processing plant. If the interest rate is 5.50% per year and the Euro appreciates against the dollar from $1.40/€ at the time the loan was made to $1.45/€ at the end of the first year, how much interest and principle will TropiKana pay at the end of the first year if they repay the entire loan plus interest (rounded)?
A) $1,529,750
B) €1,529,750
C) $1,055,000
D) $1,477,000

14) TropiKana Inc., a U.S firm, has just borrowed euro 1,000,000 to make improvements to an Italian fruit plantation and processing plant. If the interest rate is 5.50% per year and the Euro depreciates against the dollar from $1.40/€ at the time the loan was made to $1.35/€ at the end of the first year, how much interest and principle will TropiKana pay at the end of the first year if they repay the entire loan plus interest (rounded)?
A) $1,477,000
B) $1,055,000
C) €1,424,250
D) $1,424,250

15) TropiKana Inc., a U.S firm, has just borrowed euro 1,000,000 to make improvements to an Italian fruit plantation and processing plant. If the interest rate is 5.50% per year and the Euro appreciates against the dollar from $1.40/€ at the time the loan was made to $1.45/€ at the end of the first year, what is the before tax cost of capital if the firm repays the entire loan plus interest (rounded)?
A) 1.73%
B) 5.50%
C) 10.50%
D) 9.27%

True/False

1) Financial theory has at last provided us with a single optimal capital structure for domestic firms.

2) Financial practice suggests that there is a range for an optimal capital structure for a firm within an industry rather than a specific optimal ratio of debt to equity.

3) In part because of access to global markets, MNEs are better able than their domestic counterparts to maintain their desired debt ratio even when raising new capital.

4) When a firm borrows in a foreign currency, the effective cost is the foreign interest rate plus an adjustment for changes in the exchange rate.

5) The domestic theory of optimal capital structure does not need to be modified for MNEs.

6) Portfolio diversification of domestic firms reduces risk because cash flows are not perfectly correlated. The same reasoning is often argued for MNEs diversifying into international markets.

7) A significant advantage of borrowing foreign currency-denominated bonds is that the borrower need not worry about relative changes in the value of the home currency.

8) For firms to raise capital in international markets, it is more important to adhere to capital structure ratios similar to those found in the United States and United Kingdom than to those in the firm’s home country.

14.3 Raising Equity Globally

Multiple Choice

1) The stock exchange with the greatest value of shares traded is:
A) NYSE.
B) Tokyo.
C) Nasdaq.
D) London.

2) The number of foreign firms traded on the London exchange is ________ than the number traded on the NYSE, and the costs of listing and disclosure in London are ________ those for the NYSE.
A) less than; less than
B) less than; greater than
C) greater than; less than
D) greater than; greater than

True/False

1) The Tokyo exchange is the number one choice of firms looking to gain liquidity by cross-listing their equity securities.

2) The least liquid stock markets as identified by the authors offer little liquidity for their own domestic firms, and are of little value to foreign firms.

14.4 Depositary Receipts

Multiple Choice

1) ________ are negotiable certificates issued by a bank to represent the underlying shares of stock, which are held in trust at a foreign custodian bank.
A) Negotiable CDs
B) International mutual funds
C) Depositary receipts
D) Eurodeposits

2) Depositary receipts traded outside the United States are called ________ depositary receipts.
A) Euro
B) Global
C) American
D) none of the above

3) Each ADR represents ________ of the shares of the underlying foreign stock.
A) a multiple
B) 100
C) 1
D) ADRs have nothing to do with foreign stocks.

4) Which of the following is NOT an advantage of ADRs to U.S. shareholders?
A) Transfer of ownership is done in the U.S. in accordance with U.S. laws.
B) In the event of the death of the shareholder, the estate does not go through a foreign court.
C) Settlement for trading is generally faster in the United States.
D) All of the above are advantages of ADRs.

5) ADRs that are created at the request of a foreign firm wanting its shares traded in the United States are:
A) facilitated.
B) unfacilitated.
C) sponsored.
D) unsponsored.

6) Who pays the costs of creating a sponsored ADR?
A) the foreign firm whose stocks underlie the ADR
B) the U.S. bank creating the ADR
C) both the U.S. bank and the foreign firm
D) the SEC since they require the regulation

7) Level I ADRs trade primarily:
A) on the New York Stock Exchange.
B) on the American Stock Exchange.
C) over the counter or pink sheets.
D) Level I ADRs typically do not trade at all, but instead are privately issued and held until maturity.

8) Level II ADRs must meet:
A) U.S. GAAP standards.
B) home country accounting standards.
C) both U.S. GAAP and home country standards.
D) none of the above

9) Level ________ is the easiest standard to satisfy for issuing ADRs.
A) 144a
B) III
C) II
D) I

10) Level III ADR commitment applies to:
A) firms that want to list existing shares on the NYSE.
B) banks issuing foreign mutual funds.
C) ADR issues of under $25,000.
D) the sale of a new equity issued in the United States.

True/False

1) ADRs cannot be exchanged for the underlying shares of the foreign stock, therefore, arbitrage cannot keep the prices in line with the foreign price of the stock.

2) An unsponsored ADR may be initiated without the approval of the foreign firm with the underlying stock.

3) ADRs are considered an effective way for firms to improve the liquidity of their stock, especially if the home market is small and illiquid.

Essay

1) ADRs are a popular investment tool for many U.S. investors. In recent years several alternatives for investing in foreign equity securities have become available for U.S. investors, yet ADRs remain popular. Define what an ADR is and provide at least three examples of the advantages they may hold over alternative foreign investment vehicles for U.S. investors.

14.5 Private Placement

Multiple Choice

1) Which of the following were NOT identified by the authors as an alternative instrument to source equity in global markets?
A) sale of a directed public share issue to investors in a target market
B) private placements under SEC rule 144a
C) sale of shares to private equity funds
D) All of the above are alternatives to source equity instruments.

2) A/An ________ is defined as one that is targeted at investors in a single country and underwritten in whole or part by investment institutions from that country.
A) SEC rule 144a placement
B) directed public share issue
C) Euroequity public issue
D) strategic alliance

3) The term “euro” as used in the euro equity market implies:
A) the issuers are located in Europe.
B) the investors are located in Europe.
C) both A and B
D) none of the above

4) Private equity funds (PEF) differ from traditional venture capital (VC) funds in that:
A) VC operates mainly in lesser-developed countries while PEF do not.
B) VC typically invests in family business whereas PEF do not.
C) VC is almost unavailable to emerging markets while PEF capital is available.
D) All of the above are true.

5) Strategic alliances are normally formed by firms that expect to gain synergies from which of the following?
A) economies of scale
B) economies of scope
C) complementary marketing
D) all of the above

True/False

1) SEC rule 144A permits institutional buyers to trade privately placed securities without the previous holding periods restrictions and without requiring SEC registration.

14.6 Foreign Equity Listing and Issuance

Multiple Choice

1) Your authors note several empirical studies that have found:
A) no share price effect for foreign firms that cross-list on major U.S. exchanges.
B) a positive share price effect for foreign firms that cross-list on major U.S. exchanges.
C) a negative share price effect for foreign firms that cross-list on major U.S. exchanges.
D) none of the above

2) Empirical evidence shows that new issues of equity by domestic firms in the U.S. market typically has a ________ stock price reaction and new equity issues in the U.S. markets by foreign firms with segmented domestic markets have a ________ stock price reaction.
A) negative; negative
B) positive; negative
C) negative; positive
D) positive; positive

3) In addition to gaining liquidity, which of the following could also be considered a legitimate reason for cross-listing equity?
A) enhance a firm’s local image
B) become more familiar with the local financial community
C) get better local press coverage
D) all of the above

4) Another school of thought about the worldwide trend toward fuller and more standardized disclosure rules is that the cost of U.S. level equity capital disclosure:
A) chases away potential listers of equity.
B) is an onerous costly burden.
C) leads to fewer foreign firms cross listing in U.S. equity markets.
D) all of the above

5) According to the U.S. school of thought, the worldwide trend toward fuller and more standardized disclosure rules should ________ the cost of equity capital.
A) increase
B) decrease
C) have no impact on
D) none of the above

6) For the most part, U.S. SEC disclosure requirements are ________ other, non-U.S. equity market rules.
A) more stringent than
B) less stringent than
C) equally stringent to
D) none of the above

True/False

1) The combined impact of a new equity issue undertaken simultaneously with a cross-listing has a more favorable impact on stock price than cross-listing alone.

2) Because of stringent SEC rules, American companies typically do not find foreign disclosure rules to be overly onerous.

Essay

1) What are the two schools of thought regarding the worldwide trend toward increased financial disclosure by publicly traded firms. Explain which school of thought you hold to and why.

14.7 Raising Debt Globally

Multiple Choice

1) ________ are domestic currencies of one country on deposit in a second country.
A) LIBORs
B) Eurocurrencies
C) Federal funds
D) Discount window deposits

2) Of the following, which was NOT cited by the authors as a valuable function provided by the Eurocurrency market?
A) Eurocurrency deposits are an efficient and convenient money market device for holding excess corporate liquidity.
B) Eurocurrency deposits are a tool used by the Federal Reserve to regulate the money supply of countries that peg their currency against the U.S. dollar.
C) The Eurocurrency market is a major source of short-term bank loans to finance corporate working capital needs.
D) All of the above were cited by the authors.

3) Eurobanks are:
A) banks where Eurocurrencies are deposited.
B) major world banks that conduct a Eurocurrency business in addition to normal banking activities.
C) financial intermediaries that simultaneously bid for time deposits in and make loans in a currency other than that of the currency of where it is located.
D) All of the above are descriptions of a Eurobank.

4) Eurocredits are:
A) bank loans to MNEs and others denominated in a currency other than that of the country where the bank is located.
B) typically variable rate and tied to the LIBOR.
C) usually for maturities of six months or less.
D) All of the above are true.

5) In general, which has the shorter maturity and is more appropriate for funding short-term inventory needs?
A) commercial paper
B) Euro-Medium-Term notes (EMTNs)
C) the international bond market
D) all of the above

6) Foreign bonds sold in the United States are nicknamed “Yankee bonds,” foreign bonds sold in Japan are called “Samurai bonds.” What are foreign bonds sold in the United Kingdom nicknamed?
A) “Union Jacks”
B) “Royalty”
C) “Bulldogs”
D) “Churchill’s”

7) A ________ is a bond underwritten by a syndicate from a single country, sold within in that country, denominated in that country’s currency, but the issuer is from outside that country.
A) foreign bond
B) Eurobond
C) domestic bond
D) none of the above

True/False

1) Eurocurrencies are NOT the same as the euro developed for the common European currency.

2) The Eurocurrency market continues to thrive because it is a large international money market relatively free of governmental regulation and interference.

3) Moody’s rates international bonds at the request of the issuer with the stipulation that Moody’s will publish the ratings even if the ratings are unfavorable.

Essay

1) The Euro-medium-term-note (EMTN) has filled a substantial niche market in global financing. What are the distinguishing characteristics of the EMTN and why is it such a popular form of financing for MNEs?

FIN 350 Week 5 Quiz – Strayer University New

FIN/350 Week 5 Quiz – Strayer

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Chapter 7—Bond Markets

1. ____ require the owner to clip coupons attached to the bonds and send them to the issuer to receive coupon payments.
a. Bearer
b. Registered
c. Treasury
d. Corporate

2. The yield to maturity is the annualized discount rate that equates the future coupon and principal payments to the initial proceeds received from the bond offering.
a. True
b. False

3. Note maturities are usually ____, while bond maturities are ____.
a. less than 10 years; 10 years or more
b. 10 years or more; less than 10 years
c. less than 5 years; 5 years or more
d. 5 years or more; less than 5 years

4. Investors in Treasury notes and bonds receive ____ interest payments from the Treasury.
a. annual
b. semiannual
c. quarterly
d. monthly

5. The Treasury has relied heavily on ____-year bonds to finance the U.S. budget deficit.
a. 50
b. 70
c. 10
d. 5

6. Interest earned from Treasury bonds is
a. exempt from all income tax.
b. exempt from federal income tax.
c. exempt from state and local taxes.
d. subject to all income taxes.

7. Treasury bond auctions are normally conducted only at the beginning of each year.
a. True
b. False

8. ____ bids for Treasury bonds specify a price that the bidder is willing to pay and a dollar amount of securities to be purchased.
a. Competitive
b. Noncompetitive
c. Negotiable
d. Non-negotiable

9. Treasury bond dealers
a. quote an ask price for customers who want to sell existing Treasury bonds to the dealers.
b. profit from a very wide spread between bid and ask prices in the Treasury securities market.
c. may trade Treasury bonds among themselves.
d. make a primary market for Treasury bonds.

10. Under the STRIP program created by the Treasury, stripped securities are created and sold by the Treasury.
a. True
b. False

11. A ten-year, inflation-indexed bond has a par value of $10,000 and a coupon rate of 5 percent. During the first six months since the bond was issued, the inflation rate was 2 percent. Based on this information, the coupon payment after six months will be $____.
a. 250
b. 255
c. 500
d. 510

12. Bonds issued by ____ are backed by the federal government.
a. the Treasury
b. AAA-rated corporations
c. state governments
d. city governments

13. Municipal general obligation bonds are ____. Municipal revenue bonds are ____.
a. supported by the municipal government’s ability to tax; supported by the municipal government’s ability to tax
b. supported by the municipal government’s ability to tax; supported by revenue generated from the project
c. always subject to federal taxes; always exempt from state and local taxes
d. typically zero-coupon bonds; typically zero-coupon bonds

14. In general, variable-rate municipal bonds are desirable to investors who expect that interest rates will ____.
a. remain unchanged
b. fall
c. rise
d. none of the above

15. Which of the following statements is not true regarding zero-coupon bonds?
a. They are issued at a deep discount from par value.
b. Investors are taxed on the total amount of interest earned at maturity.
c. The issuing firm is permitted to deduct the amortized discount as interest expense for federal income tax purposes, even though it does not pay interest until maturity.
d. Zero-coupon bonds are purchased mainly for tax-exempt investment accounts, such as pension funds and individual retirement accounts.
e. All of the above are true.

16. A variable rate bond allows
a. investors to benefit from declining rates over time.
b. issuers to benefit from rising market interest rates over time.
c. investors to benefit from rising market interest rates over time.
d. none of the above.

17. Corporate bonds that receive a ____ rating from credit rating agencies are normally placed at ____ yields.
a. higher; lower
b. lower; lower
c. higher; higher
d. none of the above

18. A private bond placement has to be registered with the SEC.
a. True
b. False

19. Which of the following institutions is most likely to purchase a private bond placement?
a. commercial bank
b. mutual fund
c. insurance company
d. savings institution

20. A protective covenant may
a. specify all the rights and obligations of the issuing firm and the bondholders.
b. require the firm to retire a certain amount of the bond issue each year.
c. restrict the amount of additional debt the firm can issue.
d. none of the above

21. A call provision on bonds normally
a. allows the firm to sell new bonds at par value.
b. gives the firm to sell new bonds above market value.
c. allows the firm to sell bonds to the Treasury.
d. allows the firm to buy back bonds that it previously issued.

22. When would a firm most likely call bonds?
a. after interest rates have declined
b. if interest rates do not change
c. after interest rates increase
d. just before the time at which interest rates are expected to decline

23. Assume U.S. interest rates are significantly higher than German rates. A U.S. firm with a German subsidiary could achieve a lower financing rate, without exchange rate risk by denominating the bonds in
a. dollars.
b. euros and making payments from U.S. headquarters.
c. euros and making payments from its German subsidiary.
d. dollars and making payments from its German subsidiary.

24. Many bonds have different call prices: a higher price for calling the bonds to meet sinking-fund requirements and a lower price if the bonds are called for any other reason.
a. True
b. False

25. Bonds that are not secured by specific property are called
a. a chattel mortgage.
b. open-end mortgage bonds.
c. debentures.
d. blanket mortgage bonds.

26. Bonds that are secured by personal property are called
a. chattel mortgage bonds.
b. first mortgage bonds.
c. second mortgage bonds.
d. debentures.

27. The coupon rate of most variable-rate bonds is tied to
a. the prime rate.
b. the discount rate.
c. LIBOR.
d. the federal funds rate.

28. Assume that you purchased corporate bonds one year ago that have no protective covenants. Today, it is announced that the firm that issued the bonds plans a leveraged buyout. The market value of your bonds will likely ____ as a result.
a. rise
b. decline
c. be zero
d. be unaffected

29. During weak economic periods, newly issued junk bonds require lower risk premiums than in strong economic periods.
a. True
b. False

30. ____ bonds have the most active secondary market.
a. Treasury
b. Zero-coupon corporate
c. Junk
d. Municipal

31. Some bonds are “stripped,” which means that
a. they have defaulted.
b. the call provision has been eliminated.
c. they are transferred into principal-only and interest-only securities.
d. their maturities have been reduced.

32. ____ are not primary purchasers of bonds.
a. Insurance companies
b. Finance companies
c. Mutual funds
d. Pension funds

33. Leveraged buyouts are commonly financed by the issuance of:
a. money market securities.
b. Treasury bonds.
c. corporate bonds.
d. municipal bonds.

34. When firms issue ____, the amount of interest and principal to be paid is based on specified market conditions. The amount of the repayment may be tied to a Treasury bond price index or even to a stock index.
a. auction-rate securities
b. structured notes
c. leveraged notes
d. stripped securities

35. Which of the following statements is true regarding STRIPS?
a. they are issued by the Treasury
b. they are created and sold by various financial institutions
c. they are not backed by the U.S. government
d. they have to be held until maturity
e. all of the above are true regarding STRIPS

36. (Financial calculator required.) Lisa can purchase bonds with 15 years until maturity, a par value of $1,000, and a 9 percent annualized coupon rate for $1,100. Lisa’s yield to maturity is ____ percent.
a. 9.33
b. 7.84
c. 9.00
d. none of the above

37. (Financial calculator required.) Erin is, a private investor, who can purchase $1,000 par value bonds for $980. The bonds have a 10 percent coupon rate, pay interest annually, and have 20 years remaining until maturity. Erin’s yield to maturity is ____ percent.
a. 9.96
b. 10.00
c. 10.33
d. 10.24
e. none of the above

38. Devin is, a private investor, purchases $1,000 par value bonds with a 12 percent coupon rate and a 9 percent yield to maturity. Devin will hold the bonds until maturity. Thus, he will earn a return of ____ percent.
a. 12
b. 9
c. 10.5
d. more information is needed to answer this question

39. Which of the following is not true regarding zero-coupon bonds?
a. They are issued at a deep discount from par value.
b. Investors are taxed annually on the amount of interest earned, even though the interest will not be received until maturity.
c. The issuing firm is permitted to deduct the amortized discount as interest expense for federal income tax purposes, even though it does not pay interest.
d. Zero-coupon bonds are purchased mainly for tax-exempt investment account, such as pension funds and individual retirement accounts.
e. all of the above are true

40. Which of the following is not true regarding the call provision?
a. It typically requires a firm to pay a price above par value when it calls its bonds.
b. The difference between the market value of the bond and the par value is called the call premium.
c. A principal use of the call provision is to lower future interest payments.
d. A principal use of the call provision is to retire bonds as required by a sinking-fund provision.
e. A call provision is normally viewed as a disadvantage to bondholders.

41. If interest rates suddenly ____, those existing bonds that have a call feature are ____ likely to be called.
a. decline; more
b. decline; less
c. increase; more
d. none of the above

42. Which of the following would not be a likely example of a protective covenant provision?
a. a limit on the amount of dividends a firm can pay
b. a limit on the corporate officers’ salaries a firm can pay
c. the amount of additional debt a firm can issue
d. a call feature

43. Bonds are issued in the primary market through a telecommunications network.
a. True
b. False

44. Corporate bonds can be placed with investors through a public offering or a private placement.
a. True
b. False

45. When a corporation issues bonds, it normally hires a securities firm that targets large institutional investors such as pension funds, bond mutual funds, and insurance companies.
a. True
b. False

46. Rule 144A, which allows small individual investors to trade privately-placed bonds (and some other securities) with each other without requiring that the firms that issued the securities to register them with the SEC.
a. True
b. False

47. Rule 144A creates liquidity for securities that are privately placed.
a. True
b. False

48. Corporate bonds are more standardized than stocks.
a. True
b. False

49. Structured notes are issued by firms to borrow funds, and the repayment of interest and principal is based on specified market conditions.
a. True
b. False

50. Bonds issued by large well-known corporations in large volume are illiquid because most buyers hold these bonds until maturity.
a. True
b. False

51. The bond market is served by bond dealers, who can play a broker role by matching up buyers and sellers.
a. True
b. False

52. Bond dealers do not have an inventory of bonds.
a. True
b. False

53. Bond dealers specialize in small transactions (less than $100,000) in order to enable small investors to trade bonds.
a. True
b. False

54. Many bonds are listed on the New York Stock Exchange (NYSE).
a. True
b. False

55. The primary investors in bond markets are institutional investors such as commercial banks, bond mutual funds, pension funds, and insurance companies.
a. True
b. False

56. The key difference between a note and a bond is that note maturities are usually less than one year, while bond maturities are one year or more.
a. True
b. False

57. Treasury bonds are issued by state and local governments.
a. True
b. False

58. Stripped bonds are bonds whose cash flows have been transformed into a security representing the principal payment only and a security representing interest payments only.
a. True
b. False

59. Inflation-indexed Treasury bonds are intended for investors who wish to ensure that the returns on their investments keep up with the increase in prices over time.
a. True
b. False

60. Savings bonds are bonds issued by the Federal Reserve.
a. True
b. False

61. Corporate bonds usually pay interest on an annual basis.
a. True
b. False

62. The bond debenture is a legal document specifying the rights and obligations of both the issuing firm and the bondholders.
a. True
b. False

63. A sinking-fund provision is a requirement that the issuing firm retire a certain amount of the bond issue each year.
a. True
b. False

64. Subordinated indentures are debentures that have claims against the firm’s assets that are junior to the claims of both mortgage bonds and regular debentures.
a. True
b. False

65. High-risk bonds are called trash bonds.
a. True
b. False

66. Zero-coupon bonds do not pay interest. Instead, they are issued at a discount from par value.
a. True
b. False

67. If interest rates suddenly decline, those existing bonds that have a call feature are less likely to be called.
a. True
b. False

68. Which of the following statements is not true regarding STRIPS?
a. They are not issued by the Treasury.
b. They are created and sold by various financial institutions.
c. They are backed by the U.S. government.
d. They have to be held until maturity.
e. All of the above are true regarding STRIPS.

69. (Financial calculator required.) Paul can purchase bonds with 15 years remaining until maturity, a par value of $1,000, and a 9 percent annual coupon rate for $1,100. Paul’s yield to maturity is ____ percent.
a. 9.33
b. 7.84
c. 9.00
d. none of the above

70. (Financial calculator required.) Steven, a private investor, can purchase $1,000 par value bonds for $980. The bonds have a 10 percent coupon rate, pay interest annually, and have 20 years remaining until maturity. Steven’s yield to maturity is ____ percent.
a. 9.96
b. 10.00
c. 10.33
d. 10.24
e. none of the above

71. Jim purchases $1,000 par value bonds with a 12 percent coupon rate and a 9 percent yield to maturity. Jim will hold the bonds until maturity. Thus, he will earn a return of ____ percent.
a. 12.00
b. 9.00
c. 10.50
d. More information is needed to answer this question.

72. Which of the following is not an example of a municipal bond?
a. general obligation bond
b. revenue bond
c. Treasury bond
d. All of the above are examples of municipal bonds.

73. Which of the following statements is incorrect?
a. The municipal bond must pay a risk premium to compensate for the possibility of default risk.
b. The Treasury bond must pay a slight premium to compensate for being less liquid than municipal bonds.
c. The income earned from municipal bonds is exempt from federal taxes.
d. All of the above are true.

74. Which of the following is not mentioned in your text as a protective covenant?
a. a limit on the amount of dividends a firm can pay
b. a limit on the corporate officers’ salaries a firm can pay
c. the amount of additional debt a firm can issue
d. the appointment of a trustee in all bond indentures
e. All of the above are mentioned in the text as protective covenants.

75. Everything else being equal, which of the following bond ratings is associated with the highest yield?
a. Baa
b. A
c. Aa
d. Aaa

76. A ____ has first claim on specified assets, while a ____ is a debenture that has claims against a firm’s assets that are junior to the claims of mortgage bonds and regular debentures.
a. first mortgage bond; second mortgage bond
b. first mortgage bond; debenture
c. first mortgage bond; subordinated debenture
d. chattel mortgage bond; subordinated debenture
e. none of the above

77. If a firm believes that it will have sufficient cash flows to cover interest payments, it may consider using ____ debt and ____ equity, which implies a ____ degree of financial leverage.
a. more; less; lower
b. more; less; higher
c. less; more; higher
d. none of the above

78. The yield to investors on Treasury bonds reflects the risk-free rate because these bonds are virtually free from credit (default) risk.
a. True
b. False

79. The issuance of municipal securities is regulated by:
a. the Securities and Exchange Commission.
b. the Consumer Financial Protection Bureau.
c. their respective state governments.
d. the Federal Reserve.

80. For bonds issued under a _______ arrangement, the underwriter guarantees the issuer that the bonds will be sold at a specified price.
a. specific value
b. fixed proceeds
c. best efforts
d. firm commitment

81. For bonds issued under a _______ arrangement, the underwriter attempts to sell the bonds at a specified price but makes no guarantee to the issuer.
a. floating value
b. variable proceeds
c. best efforts
d. firm commitment

82. Which of the following eurozone countries has not recently experienced debt repayment problems?
a. Finland
b. Greece
c. Portugal
d. Spain

83. The Financial Reform Act of 2010 established the __________ to provide oversight for credit rating agencies.
a. Federal Ratings Bureau
b. Office of Credit Ratings
c. Office of Agency Supervision
d. Ratings Oversight Commission

84. A credit rating agency is paid by:
a. the purchasers of the bonds that the agency rates.
b. the issuers of the bonds that the agency rates.
c. the taxpayers, because the rating agencies are government agencies.
d. the New York Stock Exchange or the over-the-counter market where the bonds are listed.

85. All of the bonds issued by a particular company will have the same maturity, price, and credit rating.
a. True
b. False

86. When purchasing bonds, individual investors can use a ________ to specify the maximum price they are willing to pay for a bond.
a. limit order
b. market order
c. stop order
d. price order

87. Online bond brokerage services offer several advantages including:
a. pricing is more transparent because investors can easily compare bid and ask spreads.
b. some services charge commissions, which may be more easily understood than bid and ask spreads.
c. some brokers have narrowed their spreads so that they do not lose business to competitors.
d. all of the above

Chapter 8—Bond Valuation and Risk

1. The appropriate discount rate for valuing any bond is the
a. bond’s coupon rate.
b. bond’s coupon rate adjusted for the expected inflation rate over the life of the bond.
c. Treasury bill rate with an adjustment to include a risk premium if one exists.
d. yield that could be earned on alternative investments with similar risk and maturity.

2. The valuation of bonds is generally perceived to be ____ the valuation of equity securities.
a. more difficult than
b. easier than
c. just as difficult as
d. none of the above

3. A bond with a $1,000 par value has an 8 percent annual coupon rate. It will mature in 4 years, and annual coupon payments are made at the end of each year. Present annual yields on similar bonds are 6 percent. What should be the current price?
a. $1,069.31
b. $1,000.00
c. $9712
d. $927.66
e. none of the above

4. A bond with a ten percent coupon rate bond pays interest semi-annually. Par value is $1,000. The bond has three years to maturity. The investors’ required rate of return is 12 percent. What is the present value of the bond?
a. $1,021
b. $1,000
c. $981
d. $951
e. none of the above

5. A bond with a 12 percent quarterly coupon rate has a yield to maturity of 16 percent. The bond has a par value of $1,000 and matures in 20 years. Based on this information, a fair price of this bond is $____.
a. 1,302
b. 763
c. 761
d. 1,299

6. From the perspective of investing institutions, the most attractive foreign bonds offer a ____ and are denominated in a currency that ____ over the investment horizon.
a. high yield; appreciates
b. high yield; remains stable
c. low yield; appreciates
d. low yield; depreciates

7. The value of ____-risk securities will be relatively ____.
a. high; high
b. high; low
c. low; low
d. none of the above

8. The larger the investor’s ____ relative to the ____, the larger the ____ of a bond with a particular par value.
a. discount rate; required rate of return; discount
b. required rate of return; discount rate; discount
c. required rate of return; discount rate; premium
d. none of the above

9. If the coupon rate equals the required rate of return, the price of the bond
a. should be above its par value.
b. should be below its par value.
c. should be equal to its par value.
d. is negligible.

10. When financial institutions expect interest rates to ____, they may ____.
a. increase; sell bonds and buy short-term securities
b. increase; sell short-term securities and buy bonds
c. decrease; sell bonds and buy short-term securities
d. B and C

11. For a given par value of a bond, the higher the investor’s required rate of return is above the coupon rate, the
a. greater is the premium on the price.
b. greater is the discount on the price.
c. smaller is the premium on the price.
d. smaller is the discount on the price.

12. Zero coupon bonds with a par value of $1,000,000 have a maturity of 10 years, and a required rate of return of 9 percent. What is the current price?
a. $363,212
b. $385,500
c. $422,400
d. $424,100
e. none of the above

13. If the coupon rate ____ the required rate of return, the price of a bond ____ par value.
a. equals; equals
b. exceeds; is less than
c. is less than; is greater than
d. B and C
e. none of the above

14. As interest rates increase, long-term bond prices
a. increase by a greater degree than short-term bond prices.
b. increase by an equal degree as short-term bond prices.
c. decrease by a greater degree than short-term bond prices.
d. decrease by an equal degree as short-term bond prices.
e. decrease by a smaller degree than short-term bond prices.

15. The prices of bonds with ____ are most sensitive to interest rate movements.
a. high coupon payments
b. zero coupon payments
c. small coupon payments
d. none of the above (The size of the coupon payment does not affect sensitivity of bond prices to interest rate movements.)

16. A(n) ____ in the expected level of inflation results in ____ pressure on bond prices.
a. increase; upward
b. increase; downward
c. decrease; downward
d. none of the above

17. Other things held constant, bond prices should increase when inflationary expectations rise.
a. True
b. False

18. An expected ____ in economic growth places ____ pressure on bond prices.
a. increase; downward
b. increase; upward
c. decrease; downward
d. none of the above

19. Assume that the price of a $1,000 zero coupon bond with five years to maturity is $567 when the required rate of return is 12 percent. If the required rate of return suddenly changes to 15 percent, what is the price elasticity of the bond?
a. −.980
b. +.980
c. −.494
d. +.494
e. none of the above

20. If a financial institution’s bond portfolio contains a relatively large portion of ____, it will be ____.
a. high coupon bonds; more favorably affected by declining interest rates
b. zero or low coupon bonds; more favorably affected by declining interest rates
c. zero or low coupon bonds; more favorably affected by rising interest rates
d. high coupon bonds; completely insulated from rising interest rates

21. The prices of ____-coupon and ____ maturities are most sensitive to changes in the required rate of return.
a. low; short
b. low; long
c. high; short
d. high; long

22. An insurance company purchases corporate bonds in the secondary market with six years to maturity. Total par value is $55 million. The coupon rate is 11 percent, with annual interest payments. If the expected required rate of return in 4 years is 9 percent, what will the market value of the bonds be then?
a. $52,115,093
b. $55,341,216
c. $55,000,000
d. $56,935,022

23. A $1,000 par bond with five years to maturity is currently priced at $892. Annual interest payments are $90. What is the yield to maturity?
a. 13 percent
b. 12 percent
c. 11 percent
d. 10 percent

24. A bank buys bonds with a par value of $25 million for $24,040,000. The coupon rate is 10 percent, and the bonds pay annual payments. The bonds mature in four years. The bank wants to sell them in two years, and estimates the required rate of return in two years will be 8 percent. What will the market value of the bonds be in two years?
a. $24,113,418
b. $24,667,230
c. $25,000,000
d. $25,891,632

25. The price of short-term bonds are commonly ____ those of long-term bonds.
a. more volatile than
b. equally volatile as
c. less volatile than
d. A and C occur with about equal frequency

26. Assume that the value of liabilities equals that of earning assets. If asset portfolio durations are ____ than liability portfolio durations, then the market value of assets are ____ interest-rate sensitive than the market value of liabilities.
a. greater; more
b. greater; equally
c. greater; less
d. less; equally
e. B and D

27. As interest rates consistently rise over a specific period, the market price of a bond you own would likely ____ over this period. (Assume no major change in the bond’s default risk.)
a. consistently increase
b. consistently decrease
c. remain unchanged
d. change in a direction that cannot be determined with the above information

28. As interest rates consistently decline over a specific period, the market price of a bond you own would likely ____ over this period. (Assume no major change in the bond’s default risk.)
a. consistently increase
b. consistently decrease
c. remain unchanged
d. change in a direction that cannot be determined with the above information

29. If analysts expect that the demand for loanable funds will increase, and the supply of loanable funds will decrease, they would most likely expect interest rates to ____ and prices of existing bonds to ____.
a. increase; increase
b. increase; decrease
c. decrease; decrease
d. decrease; increase

30. If analysts expect that the demand for loanable funds will decrease, and the supply of loanable funds will increase, they would most likely expect interest rates to ____ and prices of existing bonds to ____.
a. increase; increase
b. increase; decrease
c. decrease; decrease
d. decrease; increase

31. Consider a coupon bond that sold at par value two years ago. If interest rates are much lower now than when this bond was issued, the coupon rate of that bond will likely be ____ the prevailing interest rates, and the present value of the bonds will be ____ its par value.
a. above; above
b. above; below
c. below; below
d. below; above

32. Consider a coupon bond that sold at par value two years ago. If interest rates are much higher now than when this bond was issued, the coupon rate of that bond will likely be ____ the prevailing interest rates, and the present value of the bonds will be ____ its par value.
a. above; above
b. above; below
c. below; below
d. below; above

33. If bond portfolio managers expect interest rates to increase in the future, they would likely ____ their holdings of bonds now, which could cause the prices of bonds to ____ as a result of their actions.
a. increase; increase
b. increase; decrease
c. decrease; decrease
d. decrease; increase

34. If bond portfolio managers expect interest rates to decrease in the future, they would likely ____ their holdings of bonds now, which could cause the prices of bonds to ____ as a result of their actions.
a. increase; increase
b. increase; decrease
c. decrease; decrease
d. decrease; increase

35. Which of the following will most likely cause bond prices to increase? (Assume no possibility of higher inflation in the future.)
a. reduced Treasury borrowing along with anticipation that money supply growth will decrease
b. reduced Treasury borrowing along with anticipation that money supply growth will increase
c. an anticipated drop in money supply growth along with increasing Treasury borrowing
d. higher levels of Treasury borrowing and corporate borrowing

36. If the United States announces that it will borrow an additional $10 billion, this announcement will normally cause the bond traders to expect
a. higher interest rates in the future, and will buy bonds now.
b. higher interest rates in the future, and will sell bonds now.
c. stable interest rates in the future, and will buy bonds now.
d. lower interest rates in the future, and will buy bonds now.
e. lower interest rates in the future, and will sell bonds now.

37. The market value of long-term bonds is ____ sensitive to interest rate movements; as interest rates fall, the market value of long-term bonds ____.
a. slightly; rises
b. very; rises
c. very; declines
d. slightly; declines

38. The bonds that are most sensitive to interest rate movements have
a. no coupon and a short-term maturity.
b. high coupons and a short-term maturity.
c. high coupons and a long-term maturity.
d. no coupon and a long-term maturity.

39. When two securities have the same expected cash flows, the value of the ____ security will be higher than the value of the ____ security.
a. high-risk; low-risk
b. low-risk; high-risk
c. high-risk; high-risk
d. low-risk; low-risk
e. none of the above

40. Morgan would like to purchase a bond that has a par value of $1,000, pays $80 at the end of each year in coupon payments, and has 10 years remaining until maturity. If the prevailing annualized yield on other bonds with similar characteristics is 6 percent, how much will Morgan pay for the bond?
a. $1,000.00
b. $1,147.20
c. $856.80
d. none of the above

41. Sioux Financial Corp. has forecasted its bond portfolio value for one year ahead to be $105 million. In one year, it expects to receive $10,000,000 in coupon payments. The bond portfolio today is worth $101 million. What is the forecasted return of this bond portfolio?
a. 10 percent
b. 8.82 percent
c. 4.32 percent
d. 13.86 percent
e. none of the above

42. Hurricane Corp. recently purchased corporate bonds in the secondary market with a par value of $11 million, a coupon rate of 12 percent (with annual coupon payments), and four years until maturity. If Bullock intends to sell the bonds in two years and expects investors’ required rate of return at that time on similar investments to be 14 percent at that time, what is the expected market value of the bonds in two years?
a. $9.33 million
b. $11.00 million
c. $10.64 million
d. $9.82 million
e. none of the above

43. Assume a bond with a $1,000 par value and an 11 percent coupon rate, two years remaining to maturity, and a 10 percent yield to maturity. The duration of this bond is
a. 1.90 years.
b. 1.50 years.
c. 1.92 years.
d. none of the above

44. Assume a bond with a $1,000 par value and an 11 percent coupon rate, two years remaining to maturity, and a 10 percent yield to maturity. The modified duration of this bond is
a. 1.73 years.
b. 1.71 years.
c. 1.90 years.
d. none of the above

45. The relationship reflecting the actual response of a bond’s price to a change in bond yields is
a. concave.
b. convex.
c. linear.
d. quadratic.

46. If the level of inflation is expected to ____, there will be ____ pressure on interest rates and ____ pressure on the required rate of return on bonds.
a. increase; upward; downward
b. decrease; upward; downward
c. decrease; upward; upward
d. increase; downward; upward
e. increase; upward; upward

47. Using a(n) ____ strategy, investors allocate funds evenly to bonds in each of several different maturity classes.
a. matching
b. laddered
c. barbell
d. interest rate
e. none of the above

48. With a(n) ____ strategy, funds are allocated to bonds with a short term to maturity and bonds with a long term to maturity. Thus, this strategy allocates some funds to achieving a relatively high return and other funds to covering liquidity needs.
a. matching
b. laddered
c. barbell
d. interest rate
e. none of the above

49. Which of the following bonds is most susceptible to interest rate risk from an investor’s perspective?
a. short-term, high-coupon
b. short-term, low-coupon
c. long-term, high-coupon
d. long-term, zero-coupon

50. Which of the following is most likely to cause a decrease in bond prices?
a. a decrease in money supply growth and an increase in the demand for loanable funds
b. a forecast of decreasing oil prices
c. a forecast of a stronger dollar
d. an increase in money supply growth and no change in the demand for loanable funds

51. If the Treasury issues an unusually large amount of bonds in the primary market, it places ____ on bond prices, and ____ on yields to be earned by investors that purchase bonds and plan to hold them to maturity.
a. downward pressure; downward pressure
b. downward pressure; upward pressure
c. upward pressure; upward pressure
d. upward pressure; downward pressure

52. Assume bond portfolio managers actively manage their portfolios. If they expect interest rates to ____, they would shift toward ____.
a. increase; long-maturity bonds with zero-coupon rates
b. decrease; short-maturity bonds with high-coupon rates
c. increase; high-coupon bonds with long maturities
d. decrease; long-maturity bonds with zero-coupon rates

53. The market price of a bond is partly determined by the timing of the payments made to bondholders.
a. True
b. False

54. The appropriate price of a bond is simply the sum of the cash flows to be received.
a. True
b. False

55. The valuation of bonds is generally perceived to be more difficult than the valuation of equity securities.
a. True
b. False

56. Bonds that sell below their par value are called premium bonds.
a. True
b. False

57. A zero-coupon bond makes no coupon payments.
a. True
b. False

58. If the coupon rate of a bond is above the investor’s required rate of return, the price of the bond should be below its par value.
a. True
b. False

59. An increase in either the risk-free rate or the general level of the risk premium on bonds results in a higher required rate of return and therefore causes bond prices to increase.
a. True
b. False

60. The long-term, risk-free interest rate is driven by inflationary expectations, economic growth, the money supply, and the budget deficit.
a. True
b. False

61. If the level of inflation is expected to decrease, there will be upward pressure on interest rates and on the required rate of return on bonds.
a. True
b. False

62. Foreign investors anticipating dollar depreciation are less willing to hold U.S. bonds because the coupon payments will convert to less of their home currency.
a. True
b. False

63. Any announcement that signals stronger than expected economic growth tends to increase bond prices.
a. True
b. False

64. Bond price elasticity is the percentage change in bond prices divided by the percentage change in the required rate of return.
a. True
b. False

65. As interest rates increase, prices of short-term bonds will decline by a greater degree than prices on long-term bonds.
a. True
b. False

66. Duration is a measure of bond price sensitivity.
a. True
b. False

67. A bond portfolio containing a large portion of zero-coupon bonds will be more favorably affected by declining interest rates than a bond portfolio containing no zero-coupon bonds.
a. True
b. False

68. International diversification of bonds reduces the sensitivity of a bond portfolio to any single country’s interest rate movements.
a. True
b. False

69. In a laddered strategy, investors create a bond portfolio that will generate periodic income that can match their expected periodic expenses.
a. True
b. False

70. Which of the following formulas best describes the value of a bond?
a.
b.
c.
d.
e. none of the above

71. Stephanie would like to purchase a bond that has a par value of $1,000, pays $80 at the end of each year in coupon payments, and has ten years remaining until maturity. If the prevailing annualized yield on other bonds with similar characteristics is 6 percent, how much will Stephanie pay for the bond?
a. $1,000.00
b. $1,147.20
c. $856.80
d. none of the above

72. Julia just purchased a $1,000 par value bond with a 10 percent annual coupon rate and a life of twenty years. The bond has four years remaining until maturity, and the yield to maturity is 12 percent. How much did Julia pay for the bond?
a. $1,063.40
b. $1,000
c. $939.25
d. none of the above

73. To determine the present value of a bond that pays semiannual interest, which of the following adjustments should not be made to compute the price of the bond?
a. The annualized coupon should be split in half.
b. The annual discount rate should be divided by 2.
c. The number of annual periods should be doubled.
d. The par value should be split in half.
e. All of the above adjustments have to be made.

74. A $1,000 par value bond, paying $50 semiannually, with an 8 percent yield to maturity and five years remaining to maturity should sell for
a. $1,000.00.
b. $1,081.11.
c. $798.70.
d. $880.22.
e. none of the above.

75. If the level of inflation is expected to ____, there will be ____ pressure on interest rates and ____ pressure on the required rate of return on bonds.
a. increase; upward; downward
b. decrease; upward; downward
c. decrease; upward; upward
d. increase; upward; upward
e. increase; downward; upward

76. An economic announcement signaling ____ economic growth in the future will probably cause bond prices to ____.
a. weak; decrease
b. strong; increase
c. weak; increase
d. strong; decrease
e. Answers C and D are correct.

77. Because of a change in the required rate of return from 11 percent to 13 percent, the bond price of a zero-coupon bond will fall from $1,000 to $860. Thus, the bond price elasticity for this bond is
a. 0.77.
b. −0.77.
c. −0.90.
d. −1.06.
e. none of the above.

78. The required rate of return on a certain bond changes from 12 percent to 8 percent, causing the price of the bond to change from $900 to $1,100. The bond price elasticity of this bond is
a. −0.36.
b. −0.44.
c. −0.55.
d. −0.67.
e. 0.67.

79. Assume a bond with a $1,000 par value and an 11 percent coupon rate, two years remaining to maturity, and a 10 percent yield to maturity. The duration of this bond is ____ years.
a. 1.92
b. 1.50
c. 1.90
d. none of the above

80. A bond has a $1,000 par value and an 8 percent coupon rate. The bond has four years remaining to maturity and a 10 percent yield to maturity. This bond’s modified duration is ____ years.
a. 1.33
b. 1.27
c. 3.24
d. 1.31
e. none of the above

81. If investors rely strictly on modified duration to estimate the percentage change in the price of a bond, they will tend to ____ the price decline associated with an increase in rates and ____ the price increase associated with a decrease in rates.
a. underestimate; underestimate
b. overestimate; overestimate
c. underestimate; overestimate
d. overestimate; underestimate

82. In the ____ strategy, funds are allocated to bonds with a short term to maturity and bonds with a long term to maturity.
a. matching
b. laddered
c. barbell
d. interest rate
e. none of the above

83. Using a(n) ____ strategy, investors allocate funds evenly to bonds in each of several different maturity classes.
a. matching
b. laddered
c. barbell
d. interest rate
e. none of the above

84. Which of the following is not a factor affecting the market price of a foreign bond held by a U.S. investor?
a. foreign interest rate movements
b. credit risk
c. exchange rate fluctuations
d. All of the above are factors affecting the market price of a foreign bond.

85. When holding other factors constant, increased borrowing by the Treasury can result in a _______ required return and therefore _______ prices on existing bonds.
a. higher; lower
b. higher; higher
c. lower; higher
d. lower; lower

86. Holding other factors constant, a higher budget deficit leads to ______ interest rates, and higher inflationary expectations lead to _______ interest rates.
a. higher; lower
b. higher; higher
c. lower; higher
d. lower; lower

87. The credit risk premium tends to be larger for bonds that have longer terms to maturity.
a. True
b. False

88. The ____________ was recently established to identify risks in the U.S. financial system and make regulatory recommendations that could reduce such risks.
a. Financial Risk Assessment Commission
b. Financial Markets Protection Agency
c. Financial Stability Oversight Council
d. Federal Bureau of Financial Markets

89. When the European Central Bank provides credit to a country that is experiencing debt repayment problems, the ECB commonly:
a. allows the country’s government to conduct its own monetary policy.
b. recommends that the country withdraw from the eurozone.
c. urges the country’s government to increase spending and lower taxes to stimulate the economy.
d. imposes austerity conditions to enable the government to reduce its budget deficit.

90. Although the European debt crisis has had substantial effects on European financial markets, the crisis has been contained and has not affected markets and financial institutions outside Europe.
a. True
b. False

ECO 410 Week 5 Quiz – Strayer University New

ECO/410 Week 5 Quiz – Strayer

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Chapter 7

International Parity Conditions

7.1 Prices and Exchange Rates

Multiple Choice

1) If an identical product can be sold in two different markets, and no restrictions exist on the sale or transportation costs, the product’s price should be the same in both markets. This is known as:
A) relative purchasing power parity.
B) interest rate parity.
C) the law of one price.
D) equilibrium.

2) The Economist publishes annually the “Big Mac Index” by which they compare the prices of the McDonald’s Corporation’s Big Mac hamburger around the world. The index estimates the exchange rates for currencies based on the assumption that the burgers in question are the same across the world and therefore, the price should be the same. If a Big Mac costs $2.54 in the United States and 294 yen in Japan, what is the estimated exchange rate of yen per dollar as hypothesized by the Hamburger index?
A) $0.0086/¥
B) ¥124/$
C) $0.0081/¥
D) ¥115.75/$

3) If the current exchange rate is 113 Japanese yen per U.S. dollar, the price of a Big Mac hamburger in the United States is $3.41, and the price of a Big Mac hamburger in Japan is 280 yen, then other things equal, the Big Mac hamburger in Japan is:
A) correctly priced.
B) under priced.
C) over priced.
D) There is not enough information to determine if the price is appropriate or not.

4) The price of a Big Mac in the U.S. is $3.41 and the price in Mexico is Peso 29.0. What is the implied PPP of the Peso per dollar?
A) Peso 8.50/$1
B) Peso 10.8/$1
C) Peso 11.76/$1
D) None of the above

5) Assume the implied PPP rate of exchange of Mexican Pesos per U.S. dollar is 8.50 according to the Big Mac Index. Further, assume the current exchange rate is Peso 10.80/$1. Thus, according to PPP and the Law of One Price, at the current exchange rate the peso is:
A) overvalued.
B) undervalued.
C) correctly valued.
D) There is not enough information to answer this question.

6) According to the Big Mac Index, the implied PPP exchange rate is Mexican peso 8.50/$1 but the actual exchange rate is peso10.80/$1. Thus, at current exchange rates the peso appears to be ________ by ________.
A) overvalued; approximately 21%
B) overvalued; approximately 27%
C) undervalued; approximately 21%
D) undervalued; approximately 27%

7) Other things equal, and assuming efficient markets, if a Honda Accord costs $24,682 in the U.S., then at an exchange rate of $1.57/£, the Honda Accord should cost ________ in Great Britain.
A) £24,682
B) £38,751
C) £10,795
D) £15,721

8) One year ago the spot rate of U.S. dollars for Canadian dollars was $1/C$1. Since that time the rate of inflation in the U.S. has been 4% greater than that in Canada. Based on the theory of Relative PPP, the current spot exchange rate of U.S. dollars for Canadian dollars should be approximately:
A) $0.96/C$
B) $1/C$
C) $1.04/C$
D) Relative PPP provides no guide for this type of question.

9) ________ states that differential rates of inflation between two countries tend to be offset over time by an equal but opposite change in the spot exchange rate.
A) The Fisher Effect
B) The International Fisher Effect
C) Absolute Purchasing Power Parity
D) Relative Purchasing Power Parity

10) Two general conclusions can be made from the empirical tests of purchasing power parity (PPP):
A) PPP holds up well over the short run but poorly for the long run, and the theory holds better for countries with relatively low rates of inflation.
B) PPP holds up well over the short run but poorly for the long run, and the theory holds better for countries with relatively high rates of inflation.
C) PPP holds up well over the long run but poorly for the short run, and the theory holds better for countries with relatively low rates of inflation.
D) PPP holds up well over the long run but poorly for the short run, and the theory holds better for countries with relatively high rates of inflation.

11) A country’s currency that strengthened relative to another country’s currency by more than that justified by the differential in inflation is said to be ________ in terms of PPP.
A) overvalued
B) over compensating
C) undervalued
D) under compensating

12) If we set the real effective exchange rate index between Canada and the United States equal to 100 in 1998, and find that the U.S. dollar has risen to a value of 112.6, then from a competitive perspective the U.S. dollar is:
A) overvalued.
B) undervalued.
C) very competitive.
D) There is not enough information to answer this question.

13) If we set the real effective exchange rate index between the United Kingdom and the United States equal to 100 in 2005, and find that the U.S. dollar has changed to a value of 91.4, then from a competitive perspective the U.S. dollar is:
A) overvalued.
B) undervalued.
C) equally valued.
D) There is not enough information to answer this question.

14) The government just released international exchange rate statistics and reported that the real effective exchange rate index for the U.S. dollar vs the Japanese yen decreased from 105 last year to 95 currently and is expected to fall still further in the coming year. Other things equal U.S. ________ to/from Japan think this is good news and U.S. ________ to/from Japan think this is bad news.
A) importers; exporters
B) importers; importers
C) exporters; exporters
D) exporters; importers

True/False

1) If a market basket of goods cost $100 is the US and €70 in France, then the PPP exchange rate would be $.70/€.

2) The assumptions for relative PPP are more rigid than the assumptions for absolute PPP.

3) Empirical tests prove that PPP is an accurate predictor of future exchange rates.

4) Consider the price elasticity of demand. If a product has price elasticity less than one it is considered to have relatively elastic demand.

Essay

1) The authors state that empirical tests of purchasing power parity “have, for the most part, not proved PPP to be accurate in predicting future exchange rates.” The authors then state that PPP does hold up reasonably well in two situations. What are some reasons why PPP does not accurately predict future exchange rates, and under what conditions might we reasonably expect PPP to hold?

7.2 Exchange Rate Pass-Through

Multiple Choice

1) ________ states that nominal interest rates in each country are equal to the required real rate of return plus compensation for expected inflation.
A) Absolute PPP
B) Relative PPP
C) The Law of One Price
D) The Fisher Effect

2) In its approximate form the Fisher effect may be written as ________. Where: i = the nominal rate of interest, r = the real rate of return and π = the expected rate of inflation.
A) i = (r)(π)
B) i = r + π + (r)(π)
C) i = r + π
D) i = r + 2π

3) Assume a nominal interest rate on one-year U.S. Treasury Bills of 2.60% and a real rate of interest of 1.00%. Using the Fisher Effect Equation, what is the approximate expected rate of inflation in the U.S. over the next year?
A) 2.10%
B) 2.05%
C) 1.60%
D) 1.00%

4) Assume a nominal interest rate on one-year U.S. Treasury Bills of 3.80% and a real rate of interest of 2.00%. Using the Fisher Effect Equation, what is the exact expected rate of inflation in the U.S. over the next year?
A) 1.84%
B) 1.80%
C) 1.76%
D) 1.72%

5) The relationship between the percentage change in the spot exchange rate over time and the differential between comparable interest rates in different national capital markets is known as:
A) absolute PPP.
B) the law of one price.
C) relative PPP.
D) the international Fisher Effect.

6) According to the international Fisher Effect, if an investor purchases a five-year U.S. bond that has an annual interest rate of 5% rather than a comparable British bond that has an annual interest rate of 6%, then the investor must be expecting the ________ to ________ at a rate of at least 1% per year over the next 5 years.
A) British pound; appreciate
B) British pound; revalue
C) U.S. dollar; appreciate
D) U.S. dollar; depreciate

7) ________ states that the spot exchange rate should change in an equal amount but in the opposite direction to the difference in interest rates between two countries.
A) Fisher-open
B) Fisher-closed
C) The Fisher Effect
D) none of the above

8) Exchange rate pass-through may be defined as:
A) the bid/ask spread on currency exchange rate transactions.
B) the degree to which the prices of imported and exported goods change as a result of exchange rate changes.
C) the PPP of lesser-developed countries.
D) the practice by Great Britain of maintaining the relative strength of the currencies of the Commonwealth countries under the current floating exchange rate regime.

9) Phillips NV produces DVD players and exports them to the United States. Last year the exchange rate was $1.25/euro and Plillips charged 120 euro per player in Euroland and $150 per DVD player in the United States. Currently the spot exchange rate is $1.45/euro and Phillips is charging $160 per DVD player. What is the degree of pass through by Phillips NV on their DVD players?
A) 92%
B) 33.3%
C) 41.7%
D) 4.1%

10) Jaguar has full manufacturing costs of their S-type sedan of £22,803. They sell the S-type in the UK with a 20% margin for a price of £27,363. Today these cars are available in the US for $55,000 which is the UK price multiplied by the current exchange rate of $2.01/£. Jaguar has committed to keeping the US price at $55,000 for the next six months. If the UK pound appreciates against the USD to an exchange rate of $2.15/£, and Jaguar has not hedged against currency changes, what is the amount the company will receive in pounds at the new exchange rate?
A) £22,803
B) £25,581
C) £27,363
D) £55,000

11) Jaguar has full manufacturing costs of their S-type sedan of £22,803. They sell the S-type in the UK with a 20% margin for a price of £27,363. Today these cars are available in the US for $55,000 which is the UK price multiplied by the current exchange rate of $2.01/£. Jaguar has committed to keeping the US price at $55,000 for the next six months. If the UK pound appreciates against the USD to an exchange rate of $2.15/£, and Jaguar has not hedged against currency changes, what is the percentage margin the company will realize given the new exchange rate?
A) 20.0%
B) 15.3%
C) 12.4%
D) 7.2%

12) The price elasticity of demand for DVD players manufactured by Sony of Japan is greater than one. If the Japanese yen appreciates against the U.S. dollar by 10% and the price of the Sony DVD players in the U.S also rises by 10%, then other things equal, the total dollar sales revenues of Sony DVDs would:
A) decline.
B) increase.
C) stay the same.
D) insufficient information

True/False

1) The final component of the equation for the Fisher Effect, (r)(π), where r = the real rate of return and π = the expected rate of inflation, is often dropped from the equation because the number is simply too large for most Western economies.

2) Empirical studies show that the Fisher Effect works best for short-term securities.

3) The current U.S. dollar-yen spot rate is ¥125/$. If the 90-day forward exchange rate is ¥127/$ then the yen is at a forward premium.

4) The premium or discount on forward currency exchange rates between any two countries is visually obvious when you plot the interest rates of each country on the same yield curve. The currency of the country with the higher yield curve should be selling at a forward discount.

5) Use interest rate parity to answer this question. A U.S. investor has a choice between a risk-free one-year U.S. security with an annual return of 4%, and a comparable British security with a return of 5%. If the spot rate is $1.43/£, the forward rate is $1.44/£, and there are no transaction costs, the investor should invest in the U.S. security.

6) Both covered and uncovered interest arbitrage are risky operations in the sense that even without default in the securities, the returns are unknown until all transactions are complete.

7) All that is required for a covered interest arbitrage profit is for interest rate parity to not hold.

Essay/Short Answer

1) The authors describe an application of uncovered interest arbitrage (UIA) known as “yen carry trade.” Define UIA and describe the example of yen carry trade. Why would an investor engage in the practice of yen carry trade and is there any risk of loss or lesser profit from this investment strategy?

2) The Fisher Effect is a familiar economic theory in the domestic market. In words, define the Fisher Effect and explain why you think it is also appropriately applied to international markets.

7.3 The Forward Rate

Multiple Choice

1) If the forward rate is an unbiased predictor of the expected spot rate, which of the following is NOT true?
A) The expected value of the future spot rate at time 2 equals the present forward rate for time 2 delivery, available now.
B) The distribution of possible actual spot rates in the future is centered on the forward rate.
C) The future spot rate will actually be equal to what the forward rate predicts.
D) All of the above are true.

2) Which of the following is NOT an assumption of market efficiency?
A) Instruments denominated in other currencies are perfect substitutes for one another.
B) Transaction costs are low or nonexistent.
C) All relevant information is quickly reflected in both spot and forward exchange markets.
D) All of the above are true.

3) Empirical tests have yielded ________ evidence about market efficiency with a general consensus that developing foreign markets are ________.
A) conflicting; not efficient
B) conflicting; efficient
C) consistent; inefficient
D) none of the above

4) A ________ is an exchange rate quoted today for settlement at some time in the future.
A) spot rate
B) forward rate
C) currency rate
D) yield curve

5) Assume the current U.S. dollar-British spot rate is 0.6993£/$. If the current nominal one-year interest rate in the U.S. is 5% and the comparable rate in Britain is 6%, what is the approximate forward exchange rate for 360 days?
A) £1.42/$
B) £1.43/$
C) £0.6993/$
D) £0.7060/$

6) Assume the current U.S. dollar-yen spot rate is 90 ¥/$. Further, the current nominal 180-day rate of return in Japan is 1% and 2% in the United States. What is the approximate forward exchange rate for 180 days?
A) ¥89.12/$
B) ¥89.55/$
C) ¥90.89/$
D) ¥90.45/$

7) The current U.S. dollar-yen spot rate is 125¥/$. If the 90-day forward exchange rate is 127 ¥/$ then the yen is selling at a per annum ________ of ________.
A) premium; 1.57%
B) premium; 6.30%
C) discount; 1.57%
D) discount; 6.30%

8) The theory of ________ states that the difference in the national interest rates for securities of similar risk and maturity should be equal to but opposite in sign to the forward rate discount or premium for the foreign currency, except for transaction costs.
A) international Fisher Effect
B) absolute PPP
C) interest rate parity
D) the law of one price

9) With covered interest arbitrage:
A) the market must be out of equilibrium.
B) a “riskless” arbitrage opportunity exists.
C) the arbitrageur trades in both the spot and future currency exchange markets.
D) all of the above

10) Covered interest arbitrage moves the market ________ equilibrium because ________.
A) toward; purchasing a currency on the spot market and selling in the forward market narrows the differential between the two
B) toward; investors are now more willing to invest in risky securities
C) away from; purchasing a currency on the spot market and selling in the forward market increases the differential between the two
D) away from; demand for the stronger currency forces up interest rates on the weaker security

True/False

1) If exchange markets were not efficient, it would pay for a firm to spend resources on forecasting exchange rates.

2) If the forward exchange rate is an unbiased predictor of future spot rates, then future spot rates will always be equal to current forward rates.

3) COVERED interest arbitrage (CIA), is where investors borrow in countries and currencies exhibiting relatively low interest rates and convert the proceeds into currencies that offer much higher interest rates. The transaction is “covered,” because the investor does not sell the higher yielding currency proceeds forward.

7.4 Prices, Interest Rates, and Exchange Rates in Equilibrium

Multiple Choice

1) According to the International Fisher Effect, the forecast change in the spot rate between two countries is equal to:
A) the current spot rate multiplied by the ratio of the inflation rates in the respective countries.
B) but the opposite sign to the difference between nominal interest rates.
C) but the opposite sign to the difference between inflation rates.
D) but the opposite sign to the difference between real interest rates.

True/False

1) In their approximate form, PPP, IRP, and forward rates as an unbiased predictor of the future spot rate lead to similar forecasts of the future spot rate.

Multinational Business Finance, 13e (Eiteman/Stonehill/Moffett)
Chapter 8 Foreign Currency Derivatives and Swaps

8.1 Foreign Currency Futures

Multiple Choice

1) Financial derivatives are powerful tools that can be used by management for purposes of:
A) speculation.
B) hedging.
C) human resource management.
D) A and B above

2) A foreign currency ________ contract calls for the future delivery of a standard amount of foreign exchange at a fixed time, place, and price.
A) futures
B) forward
C) option
D) swap

3) Which of the following is NOT a contract specification for currency futures trading on an organized exchange?
A) size of the contract
B) maturity date
C) last trading day
D) All of the above are specified.

4) About ________ of all futures contracts are settled by physical delivery of foreign exchange between buyer and seller.
A) 0%
B) 5%
C) 50%
D) 95%

5) Futures contracts require that the purchaser deposit an initial sum as collateral. This deposit is called a:
A) collateralized deposit.
B) marked market sum.
C) margin.
D) settlement.

6) A speculator in the futures market wishing to lock in a price at which they could ________ a foreign currency will ________ a futures contract.
A) buy; sell
B) sell; buy
C) buy; buy
D) none of the above

7) A speculator that has ________ a futures contract has taken a ________ position.
A) sold; long
B) purchased; short
C) sold; short
D) purchased; sold

8) Peter Simpson thinks that the U.K. pound will cost $1.43/£ in six months. A 6-month currency futures contract is available today at a rate of $1.44/£. If Peter was to speculate in the currency futures market, and his expectations are correct, which of the following strategies would earn him a profit?
A) Sell a pound currency futures contract.
B) Buy a pound currency futures contract.
C) Sell pounds today.
D) Sell pounds in six months.

9) Jack Hemmings bought a 3-month British pound futures contract for $1.4400/£ only to see the dollar appreciate to a value of $1.4250 at which time he sold the pound futures. If each pound futures contract is for an amount of £62,500, how much money did Jack gain or lose from his speculation with pound futures?
A) $937.50 loss
B) $937.50 gain
C) £937.50 loss
D) £937.50 gain

10) Which of the following statements regarding currency futures contracts and forward contracts is NOT true?
A) A futures contract is a standardized amount per currency whereas the forward contact is for any size desired.
B) A futures contract is for a fixed maturity whereas the forward contract is for any maturity you like up to one year.
C) Futures contracts trade on organized exchanges whereas forwards take place between individuals and banks with other banks via telecom linkages.
D) All of the above are true.

11) Which of the following is NOT a difference between a currency futures contract and a forward contract?
A) The futures contract is marked to market daily, whereas the forward contract is only due to be settled at maturity.
B) The counterparty to the futures participant is unknown with the clearinghouse stepping into each transaction, whereas the forward contract participants are in direct contact setting the forward specifications.
C) A single sales commission covers both the purchase and sale of a futures contract, whereas there is no specific sales commission with a forward contract because banks earn a profit through the bid-ask spread.
D) All of the above are true.

12) A foreign currency ________ gives the purchaser the right, not the obligation, to buy a given amount of foreign exchange at a fixed price per unit for a specified period.
A) future
B) forward
C) option
D) swap

13) A foreign currency ________ option gives the holder the right to ________ a foreign currency, whereas a foreign currency ________ option gives the holder the right to ________ an option.
A) call, buy, put, sell
B) call, sell, put, buy
C) put, hold, call, release
D) none of the above

14) The price at which an option can be exercised is called the:
A) premium.
B) spot rate.
C) strike price.
D) commission.

15) An ________ option can be exercised only on its expiration date, whereas a/an ________ option can be exercised anytime between the date of writing up to and including the exercise date.
A) American; European
B) American; British
C) Asian; American
D) European; American

16) An ________ option can be exercised only on its expiration date, whereas a/an ________ option can be exercised anytime between the date of writing up to and including the exercise date.
A) American; European
B) American; British
C) Asian; American
D) European; American

17) A call option whose exercise price exceeds the spot price is said to be:
A) in-the-money.
B) at-the-money.
C) out-of-the-money.
D) over-the-spot.

18) A call option whose exercise price is less than the spot price is said to be:
A) in-the-money.
B) at-the-money.
C) out-of-the-money.
D) under-the-spot.

19) An option whose exercise price is equal to the spot rate is said to be:
A) in-the-money.
B) at-the-money.
C) out-of-the-money.
D) on-the-spot.

20) The main advantage(s) of over-the-counter foreign currency options over exchange traded options is (are):
A) expiration dates tailored to the needs of the client.
B) amounts that are tailor made.
C) client desired expiration dates.
D) all of the above

21) As a general statement, it is safe to say that businesses generally use the ________ for foreign currency option contracts, and individuals and financial institutions typically use the ________.
A) exchange markets; over-the-counter
B) over-the-counter; exchange markets
C) private; government sponsored
D) government sponsored; private

TABLE 8.1
Use the table to answer following question(s).

April 19, 2009, British Pound Option Prices (cents per pound, 62,500 pound contracts).

22) Refer to Table 8.1. What was the closing price of the British pound on April 18, 2009?
A) $1.448/£
B) £1.448/$
C) $14.48/£
D) none of the above

23) Refer to Table 8.1. The exercise price of ________ giving the purchaser the right to sell pounds in June has a cost per pound of ________ for a total price of ________.
A) 1460; 0.68 cents; $425.00
B) 1440; 1.06 cents; $662.50
C) 1450; 1.02 cents; $637.50
D) 1440; 1.42 cents; $887.50

24) Refer to Table 8.1. The May call option on pounds with a strike price of 1440 mean:
A) $88/£ per contract.
B) $0.88/£.
C) $0.0088/£.
D) none of the above

25) Dash Brevenshure works for the currency trading unit of ING Bank in London. He speculates that in the coming months the dollar will rise sharply vs. the pound. What should Dash do to act on his speculation?
A) Buy a call on the pound.
B) Sell a call on the pound.
C) Buy a put on the pound.
D) Sell a put on the pound.

26) A put option on yen is written with a strike price of ¥105.00/$. Which spot price maximizes your profit if you choose to exercise the option before maturity?
A) ¥100/$
B) ¥105/$
C) ¥110/$
D) ¥115/$

27) A call option on euros is written with a strike price of $1.30/euro. Which spot price maximizes your profit if you choose to exercise the option before maturity?
A) $1.20/euro
B) $1.25/euro
C) $1.30/euro
D) $1.35/euro

28) A call option on UK pounds has a strike price of $2.05/£ and a cost of $0.02. What is the break-even price for the option?
A) $2.03/£
B) $2.07/£
C) $2.05/£
D) The answer depends upon if this is a long or a short call option.

29) Your U.S firm has an accounts payable denominated in UK pounds due in 6 months. To protect yourself against unexpected changes in the dollar/pound exchange rate you should:
A) buy a pound put option.
B) sell a pound put option.
C) buy a pound call option.
D) sell a pound call option.

30) Jasper Pernik is a currency speculator who enjoys “betting” on changes in the foreign currency exchange market. Currently the spot price for the Japanese yen is ¥129.87/$ and the 6-month forward rate is ¥128.53/$. Jasper thinks the yen will move to ¥128.00/$ in the next six months. Jasper should ________ at ________ to profit from changing currency values.
A) buy yen; the forward rate
B) buy dollars; the forward rate
C) sell yen; the forward rate
D) There is not enough information to answer this question.

31) Jasper Pernik is a currency speculator who enjoys “betting” on changes in the foreign currency exchange market. Currently the spot price for the Japanese yen is ¥129.87/$ and the 6-month forward rate is ¥128.53/$. Jasper thinks the yen will move to ¥128.00/$ in the next six months. If Jasper buys $100,000 worth of yen at today’s spot price and sells within the next six months at ¥128/$, he will earn a profit of:
A) $146.09
B) $101,460.94
C) $1460.94
D) nothing; he will lose money

32) Jasper Pernik is a currency speculator who enjoys “betting” on changes in the foreign currency exchange market. Currently the spot price for the Japanese yen is ¥129.87/$ and the 6-month forward rate is ¥128.53/$. Jasper thinks the yen will move to ¥128.00/$ in the next six months. If Jasper buys $100,000 worth of yen at today’s spot price her potential gain is ________ and her potential loss is ________.
A) $100,000; unlimited
B) unlimited; unlimited
C) $100,000; $100,000
D) unlimited; $100,000

33) Jasper Pernik is a currency speculator who enjoys “betting” on changes in the foreign currency exchange market. Currently the spot price for the Japanese yen is ¥129.87/$ and the 6-month forward rate is ¥128.53/$. Jasper thinks the yen will move to ¥128.00/$ in the next six months. If Jasper’s expectations are correct, then he could profit in the forward market by ________ and then ________.
A) buying yen for ¥128.00/$; selling yen at ¥128.53/$
B) buying yen for ¥128.53/$; selling yen at ¥128.00/$
C) There is not enough information to answer this question
D) He could not profit in the forward market.

34) The maximum gain for the purchaser of a call option contract is ________ while the maximum loss is ________.
A) unlimited; the premium paid.
B) the premium paid; unlimited.
C) unlimited; unlimited.
D) unlimited; the value of the underlying asset.

35) The buyer of a long call option:
A) has a maximum loss equal to the premium paid.
B) has a gain equal to but opposite in sign to the writer of the option.
C) has an unlimited maximum gain potential.
D) all of the above

36) Which of the following is NOT true for the writer of a call option?
A) The maximum loss is unlimited.
B) The maximum gain is unlimited.
C) The gain or loss is equal to but of the opposite sign of the buyer of a call option.
D) All of the above are true.

37) Which of the following is NOT true for the writer of a put option?
A) The maximum loss is limited to the strike price of the underlying asset less the premium.
B) The gain or loss is equal to but of the opposite sign of the buyer of a put option.
C) The maximum gain is the amount of the premium.
D) All of the above are true.

38) The buyer of a long put option:
A) has a maximum loss equal to the premium paid.
B) has a gain equal to but opposite in sign to the writer of the option.
C) has maximum gain potential limited to the difference between the strike price and the premium paid.
D) all of the above

39) The value of a European style call option is the sum of two components:
A) the present value plus the intrinsic value.
B) the time value plus the present value.
C) the intrinsic value plus the time value.
D) the intrinsic value plus the standard deviation.

True/False

1) Currency futures contracts have become standard fare and trade readily in the world money centers.

2) The major difference between currency futures and forward contracts is that futures contracts are standardized for ease of trading on an exchange market whereas forward contracts are specialized and tailored to meet the needs of clients.

3) The writer of the option is referred to as the seller, and the buyer of the option is referred to as the holder.

4) Foreign currency options are available both over-the-counter and on organized exchanges.

5) Jasper Pernik is a currency speculator who enjoys “betting” on changes in the foreign currency exchange market. Currently the spot price for the Japanese yen is ¥129.87/$ and the 6-month forward rate is ¥128.53/$. Jasper would earn a higher rate of return by buying yen and a forward contract than if he had invested her money in 6-month US Treasury securities at an annual rate of 2.50%.

6) Most option profits and losses are realized through taking actual delivery of the currency rather than offsetting contracts.

Essay

1) Why are foreign currency futures contracts more popular with individuals and banks while foreign currency forwards are more popular with businesses?

2) Compare and contrast foreign currency options and futures. Identify situations when you may prefer one vs. the other when speculating on foreign exchange.

8.2 Option Pricing and Valuation

Multiple Choice

1) Which of the following is NOT a factor in determining the premium price of a currency option?
A) the present spot rate
B) the time to maturity
C) the standard deviation of the daily spot price movement
D) All of the above are factors in determining the premium price.

2) The ________ of an option is the value if the option were to be exercised immediately. It is the option’s ________ value.
A) intrinsic value; maximum
B) intrinsic value; minimum
C) time value; maximum
D) time value; minimum

3) Assume that a call option has an exercise price of $1.50/£. At a spot price of $1.45/£, the call option has:
A) a time value of $0.04.
B) a time value of $0.00.
C) an intrinsic value of $0.00.
D) an intrinsic value of -$0.04.

4) The single largest interest rate risk of a firm is:
A) interest sensitive securities.
B) debt service.
C) dividend payments.
D) accounts payable.

5) ________ is the possibility that the borrower’s creditworthiness is reclassified by the lender at the time of renewing credit. ________ is the risk of changes in interest rates charged at the time a financial contract rate is set.
A) Credit risk; Interest rate risk
B) Repricing risk; Credit risk
C) Interest rate risk; Credit risk
D) Credit risk; Repricing risk

Instruction 8.1:
For the following problem(s), consider these debt strategies being considered by a corporate borrower. Each is intended to provide $1,000,000 in financing for a three-year period.

• Strategy #1: Borrow $1,000,000 for three years at a fixed rate of interest of 7%.
• Strategy #2: Borrow $1,000,000 for three years at a floating rate of LIBOR + 2%, to be reset annually. The current LIBOR rate is 3.50%
• Strategy #3: Borrow $1,000,000 for one year at a fixed rate, and then renew the credit annually. The current one-year rate is 5%.

6) Refer to Instruction 8.1. Choosing strategy #1 will:
A) guarantee the lowest average annual rate over the next three years.
B) eliminate credit risk but retain repricing risk.
C) maintain the possibility of lower interest costs, but maximizes the combined credit and repricing risks.
D) preclude the possibility of sharing in lower interest rates over the three-year period.

7) Refer to Instruction 8.1. Choosing strategy #2 will:
A) guarantee the lowest average annual rate over the next three years.
B) eliminate credit risk but retain repricing risk.
C) maintain the possibility of lower interest costs, but maximizes the combined credit and repricing risks.
D) preclude the possibility of sharing in lower interest rates over the three-year period.

8) Refer to Instruction 8.1. Choosing strategy #3 will:
A) guarantee the lowest average annual rate over the next three years.
B) eliminate credit risk but retain repricing risk.
C) maintain the possibility of lower interest costs, but maximizes the combined credit and repricing risks.
D) preclude the possibility of sharing in lower interest rates over the three-year period.

9) Refer to Instruction 8.1. Which strategy (strategies) will eliminate credit risk?
A) Strategy #1
B) Strategy #2
C) Strategy #3
D) Strategies #1 and #2

10) Refer to Instruction 8.1. If your firm felt very confident that interest rates would fall or, at worst, remain at current levels, and were very confident about the firm’s credit rating for the next 10 years, which strategy would you likely choose? (Assume your firm is borrowing money.)
A) Strategy #3
B) Strategy #2
C) Strategy #1
D) Strategy #1, #2, or #3; you are indifferent among the choices.

11) Refer to Instruction 8.1. The risk of strategy #1 is that interest rates might go down or that your credit rating might improve. The risk of strategy #2 is: (Assume your firm is borrowing money.)
A) that interest rates might go down or that your credit rating might improve.
B) that interest rates might go up or that your credit rating might improve.
C) that interest rates might go up or that your credit rating might get worse.
D) none of the above

12) Refer to Instruction 8.1. The risk of strategy #1 is that interest rates might go down or that your credit rating might improve. The risk of strategy #3 is: (Assume your firm is borrowing money.)
A) that interest rates might go down or that your credit rating might improve.
B) that interest rates might go up or that your credit rating might improve.
C) that interest rates might go up or that your credit rating might get worse.
D) none of the above

13) Refer to Instruction 8.1. After the fact, under which set of circumstances would you prefer strategy #1? (Assume your firm is borrowing money.)
A) Your credit rating stayed the same and interest rates went up.
B) Your credit rating stayed the same and interest rates went down.
C) Your credit rating improved and interest rates went down.
D) Not enough information to make a judgment.

14) Refer to Instruction 8.1. After the fact, under which set of circumstances would you prefer strategy #2? (Assume your firm is borrowing money.)
A) Your credit rating stayed the same and interest rates went up.
B) Your credit rating stayed the same and interest rates went down.
C) Your credit rating improved and interest rates went down.
D) Not enough information to make a judgment.

15) Refer to Instruction 8.1. After the fact, under which set of circumstances would you prefer strategy #3? (Assume your firm is borrowing money.)
A) Your credit rating stayed the same and interest rates went up.
B) Your credit rating stayed the same and interest rates went down.
C) Your credit rating improved and interest rates went down.
D) Not enough information to make a judgment.

True/False

1) The time value is asymmetric in value as you move away from the strike price (i.e., the time value at two cents above the strike price is not necessarily the same as the time value two cents below the strike price).

8.3 Interest Rate Derivatives

Multiple Choice

1) An interbank-traded contract to buy or sell interest rate payments on a notional principal is called a/an:
A) forward rate agreement.
B) interest rate future.
C) interest rate swap.
D) none of the above

2) A/an ________ is a contract to lock in today interest rates over a given period of time.
A) forward rate agreement
B) interest rate future
C) interest rate swap
D) none of the above

3) An agreement to exchange interest payments based on a fixed payment for those based on a variable rate (or vice versa) is known as a/an:
A) forward rate agreement.
B) interest rate future.
C) interest rate swap.
D) none of the above

4) The financial manager of a firm has a variable rate loan outstanding. If she wishes to protect the firm against an unfavorable increase in interest rates she could:
A) sell an interest rate futures contract of a similar maturity to the loan.
B) buy an interest rate futures contract of a similar maturity to the loan.
C) swap the adjustable rate loan for another of a different maturity.
D) none of the above

5) An agreement to swap a fixed interest payment for a floating interest payment would be considered a/an:
A) currency swap.
B) forward swap.
C) interest rate swap.
D) none of the above

6) An agreement to swap the currencies of a debt service obligation would be termed a/an:
A) currency swap.
B) forward swap.
C) interest rate swap.
D) none of the above

7) Which of the following would be considered an example of a currency swap?
A) exchanging a dollar interest obligation for a British pound obligation
B) exchanging a eurodollar interest obligation for a dollar obligation
C) exchanging a eurodollar interest obligation for a British pound obligation
D) All of the above are examples of a currency swap.

8) A firm with fixed-rate debt that expects interest rates to fall may engage in a swap agreement to:
A) pay fixed-rate interest and receive floating rate interest.
B) pay floating rate and receive fixed rate.
C) pay fixed rate and receive fixed rate.
D) pay floating rate and receive floating rate.

9) A firm with variable-rate debt that expects interest rates to rise may engage in a swap agreement to:
A) pay fixed-rate interest and receive floating rate interest.
B) pay floating rate and receive fixed rate.
C) pay fixed rate and receive fixed rate.
D) pay floating rate and receive floating rate.

10) The interest rate swap strategy of a firm with fixed rate debt and that expects rates to go up is to:
A) do nothing.
B) pay floating and receive fixed.
C) receive floating and pay fixed.
D) none of the above

11) The potential exposure that any individual firm bears that the second party to any financial contract will be unable to fulfill its obligations under the contract is called:
A) interest rate risk.
B) credit risk.
C) counterparty risk.
D) clearinghouse risk.

12) Which of the following is an unlikely reason for firms to participate in the swap market?
A) To replace cash flows scheduled in an undesired currency with cash flows in a desired currency.
B) Firms may raise capital in one currency but desire to repay it in another currency.
C) Firms desire to swap fixed and variable payment or receipt of funds.
D) All of the above are likely reasons for a firm to enter the swap market.

True/False

1) Historically, interest rate movements have shown less variability and greater stability than exchange rate movements.

2) Unlike the situation with exchange rate risk, there is no uncertainty on the part of management for shareholder preferences regarding interest rate risk. Shareholders prefer that managers hedge interest rate risk rather than having shareholders diversify away such risk through portfolio diversification.

3) Interest rate futures are relatively unpopular among financial managers because of their relative illiquidity and their difficulty of use.

4) A basis point is one-tenth of one percent.

5) A swap agreement may involve currencies or interest rates, but never both.

6) Some of the world’s largest and most financially sound firms may borrow at variable rates less than LIBOR.

7) Counterparty risk is greater for exchange-traded derivatives than for over-the-counter derivatives.

8) Swap rates are derived from the yield curves in each major currency.

Essay

1) Your firm is faced with paying a variable rate debt obligation with the expectation that interest rates are likely to go up. Identify two strategies using interest rate futures and interest rate swaps that could reduce the risk to the firm.

2) How does counterparty risk influence a firm’s decision to trade exchange-traded derivatives rather than over-the-counter derivatives?
Answer: With exchange-traded derivatives, the exchange is the clearinghouse. Thus, firms do not need to worry about the other party making good on its obligations and it is easier to trade the derivative products.

FIN 350 Week 11 Quiz 10 Chapter 22 and 23 – Strayer University NEW

FIN 350 Week 11 Quiz – Strayer

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Chapter 22—Finance Company Operations

1. ____ finance companies concentrate on purchasing credit contracts from retailers and dealers.
a. Consumer
b. Sales
c. Commercial
d. None of the above

2. Which of the following is not a source of finance company funds to support operations?
a. loans from banks
b. commercial paper
c. federal funds
d. bonds

3. When a finance company’s assets are ____ interest rate sensitive than its liabilities and when interest rates are expected to ____, bonds can provide long-term financing at a rate that is completely insulated from rising market rates.
a. less; increase
b. less; decrease
c. more; increase
d. more; decrease

4. Finance companies differ from commercial banks, savings institutions, and credit unions in that they
a. normally do not obtain funds from deposits.
b. focus on financing acquisitions by companies.
c. focus on providing residential mortgages.
d. use most of their funds to purchase stocks.

5. Which of the following is not a main source of funds for finance companies?
a. bank loans
b. commercial paper issues
c. bonds
d. capital

6. Finance companies are more likely to issue bonds when their assets are presently ____ interest-rate sensitive than their liabilities, and when interest rates are expected to ____.
a. more; decrease
b. less; increase
c. more; increase
d. less; decrease

7. If finance companies were confident about projections of ____ interest rates, they may consider using the funds obtained from issuing bonds to offer loans with ____ rates.
a. declining; variable
b. rising; fixed
c. rising; variable
d. A and B

8. Finance companies would prefer to increase their long-term debt most once interest rates
a. have declined.
b. have increased.
c. were stable for several years.
d. were projected to decline.

9. The main competition for finance companies in the consumer loan market comes from
a. pension funds.
b. life insurance companies and property and casualty insurance companies.
c. commercial banks and savings and institutions.
d. mutual funds.

10. When finance companies purchase a firm’s receivables at a discount, and are responsible for processing and collecting the balances of these accounts, they act as a
a. leasing agent.
b. lessor.
c. lessee.
d. factor.

11. When a finance company purchases equipment for use by another business, the finance company provides financing in the form of
a. factoring.
b. leasing.
c. a banker’s acceptance.
d. a letter of credit.

12. Finance companies are exempt from state regulations.
a. True
b. False

13. Finance companies are not subject to state regulations on intrastate business.
a. True
b. False

14. Finance companies are subject to
a. a maximum limit on loan size.
b. ceiling interest rates on loans provided.
c. a maximum length on loan maturity.
d. regulations on intra-state banking.
e. all of the above

15. If finance companies with a greater rate-sensitivity of liabilities than assets wanted to reduce interest-rate risk, they could
a. shorten their average asset life.
b. lengthen their average asset life.
c. shorten the maturity of debt that they issue.
d. make greater use of fixed-rate loans.

16. Overall, the liquidity risk of finance companies is higher than that of other financial institutions.
a. True
b. False

17. Compared to other lending financial institutions, finance companies have a ____ loan delinquency rate, and the average rate charged on loans is ____ on average.
a. lower; lower
b. lower; higher
c. higher; higher
d. higher; lower

18. A wholly owned subsidiary whose primary purpose is to finance sales of the parent company’s products and services, provide wholesale financing to distributors of the parent company’s products, and purchase receivables of the parent company is a
a. captive finance subsidiary.
b. factor.
c. leasing agent.
d. captive factoring agent.

19. Which of the following statements is incorrect?
a. A captive finance subsidiary’s purpose is to finance sales of the parent company’s products and services.
b. An operating agreement between the parent and the captive specifies the type of receivables that qualify for same and specific services provided by the parent.
c. A captive can be used to finance distributor or dealer inventories until a sale occurs.
d. A captive is rarely used to finance products leased to others.

20. ____ provide loans to firms that cannot obtain financing from commercial banks.
a. Consumer finance companies
b. Sales finance companies
c. Commercial finance companies
d. None of the above

21. Which of the following is not a use of finance company funds?
a. consumer loans
b. business loans
c. commercial paper
d. real estate loans
e. All of the above are uses of finance company funds.

22. Finance companies commonly act as ____ for accounts receivable; that is, they purchase a firm’s receivables at a discount and are responsible for processing and collecting the balances of these accounts.
a. brokers
b. dealers
c. market makers
d. factors
e. none of the above

23. Most finance companies are commonly exposed to all forms of risk below except ____ risk.
a. exchange rate
b. interest rate
c. liquidity
d. credit

24. Changes in economic growth are ____ related to a finance company’s cash flows, and changes in the risk-free rate are ____ related to a finance company’s cash flows.
a. positively; negatively
b. negatively; positively
c. negatively; negatively
d. positively; positively

25. Finance companies participate in the ____ market to reduce interest rate risk.
a. money
b. bond
c. options
d. swap

26. Many consumer finance companies also provide personal loans, directly to individuals to finance purchases of large household items.
a. True
b. False

27. Business finance companies focus on loans to very large businesses.
a. True
b. False

28. Consumer finance companies sometimes provide Business finance companies to individuals.
a. True
b. False

29. Although commercial paper is available only for short-term financing, finance companies can continually roll over their issues to create a permanent source of funds.
a. True
b. False

30. After interest rates increase, finance companies tend to use more long-term debt to lock in the cost of funds over an extended period of time.
a. True
b. False

31. Some finance companies offer credit card loans through a particular retailer.
a. True
b. False

32. The main competition for finance companies in the consumer loan market comes from pension funds and insurance companies.
a. True
b. False

33. The value of a finance company can be modeled as the present value of its future cash flows.
a. True
b. False

34. The most important risk for finance companies is ____ risk.
a. settlement
b. accounting
c. credit
d. exchange rate

35. Finance companies can accumulate capital by doing all of the following except
a. retaining earnings.
b. issuing stock.
c. issuing commercial paper.
d. Finance companies can build their capital base by doing all of the above.

36. Consumer finance companies primarily focus on for
a. consumer loans.
b. consumer advising.
c. consumer regulation.
d. none of the above

37. Finance companies are regulated by the states but are not subject to regulation by an agency of the federal government.
a. True
b. False

38. Historically, captive finance subsidiaries were associated with:
a. the automobile industry.
b. the oil and gas industry.
c. the textile industry.
d. department stores.

Chapter 23—Mutual Fund Operations

1. Which of the following statements is incorrect?
a. Mutual funds serve as a key financial intermediary.
b. Managers of mutual funds do not analyze economic and industry trends.
c. Because of their diversification, management expertise, and liquidity, mutual funds have grown at a rapid pace.
d. Some mutual funds offer check-writing privileges.

2. No-load mutual funds are normally promoted by ____. Load funds are promoted by ____.
a. registered representatives of a brokerage firm; registered representatives of a brokerage firm
b. registered representatives of a brokerage firm; the mutual fund of concern
c. the mutual fund of concern; registered representatives of a brokerage firm
d. the mutual fund of concern; the mutual fund of concern

3. To cover managerial expenses, mutual funds typically charge
a. management fees of less than 2 percent of total assets per year.
b. commissions of typically 8 to 10 percent of transaction market value per year.
c. management fees of typically more than 10 percent of total assets per year.
d. commissions of typically 3 to 5 percent of the transaction market value per year.

4. Mutual funds that are willing to repurchase their shares from investors at any time are referred to as
a. closed-end funds.
b. load mutual funds.
c. no-load mutual funds.
d. open-end mutual funds.

5. ____ funds do not normally repurchase their shares from investors.
a. Closed-end
b. Load mutual
c. No-load mutual
d. Open-end mutual

6. Most closed-end funds invest in
a. stock and bonds.
b. money market securities.
c. gold.
d. derivatives.

7. Exchange-traded funds are like open-end funds in the sense that
a. their shares are traded on an exchange, and their share price changes throughout the day.
b. they have a fixed number of shares.
c. they are not actively managed.
d. none of the above

8. Hedge funds differ from open-end mutual funds in the sense that
a. they require a much smaller initial investment.
b. they are open to additional investments at any time.
c. their investors cannot sell shares back to the fund at any time they desire.
d. they invest in very limited set of securities.

9. Shares of open-end mutual funds are purchased and sold on exchanges.
a. True
b. False

10. Mutual funds
a. are unregulated.
b. are required to disclose the names of their portfolio managers in the prospectus.
c. are not required to disclose any information about their past performance.
d. are exempt from all taxes.

11. Which of the following is not disclosed in the prospectus?
a. the minimum amount of investment required
b. the investment objective of the funds
c. the fees incurred by the mutual fund
d. all of the above are disclosed

12. The net asset value of a mutual fund is estimated once every week.
a. True
b. False

13. Mutual funds with ____ expense ratios tend to ____ others that have a similar investment objective.
a. lower; underperform
b. higher; outperform
c. lower; outperform
d. A and B

14. A front-end load is a withdrawal fee assessed when you withdraw money from the mutual fund.
a. True
b. False

15. Money market funds invest mostly in
a. stocks.
b. long-term bonds.
c. real estate.
d. short-term securities.

16. If investors sell their mutual fund shares after the net asset value of the fund increases, the return is called
a. share price appreciation.
b. capital gains distribution.
c. dividends.
d. split net asset value.

17. Mutual funds composed of stocks that have potential for very high growth, but may also be unproven, are called
a. income funds.
b. capital appreciation funds.
c. specialty funds.
d. dividend funds.

18. Mutual funds composed of bonds that offer periodic coupon payments are
a. income funds.
b. specialty funds.
c. dividend funds.
d. growth funds.

19. Mutual funds whose bonds have a ____ average time to maturity are ____ sensitive to interest rate fluctuations.
a. longer; less
b. shorter; less
c. shorter; more
d. A and C

20. The net asset value of international stock mutual funds ____ as the dollar strengthens against foreign currencies. (Assume no change in the prices of foreign stocks.)
a. increases
b. decreases
c. is unaffected
d. can increase or decrease depending on the dollar’s degree of strength

21. Mutual funds that include some non-U.S. stocks and U.S. stocks are called ____ funds.
a. global
b. foreign
c. combined
d. mixed

22. A mutual fund consisting only of stocks of firms that are in a specific industry is an example of a ____ fund.
a. specialty
b. growth
c. capital appreciation
d. growth and income

23. The majority of mutual fund assets are in the form of
a. common stocks.
b. preferred stocks.
c. U.S. government bonds.
d. municipal bonds.

24. If a mutual fund distributes at least ____ percent of its taxable income to shareholders, the fund is exempt from taxes on dividends, interest, and capital gains distributed to shareholders.
a. 25
b. 50
c. 75
d. 90

25. When the redemptions of money market mutual fund shares exceeds sales of shares, the fund accommodates the amount of excessive redemptions by
a. selling some of the assets contained in the portfolio.
b. issuing stock.
c. issuing bonds.
d. borrowing from banks.

26. Money market fund assets include all of the following, except
a. stocks.
b. repurchase agreements.
c. Treasury bills.
d. CDs.

27. If money market funds definitely expect interest rates to increase, they will ____ their average asset maturity.
a. not adjust
b. shorten
c. lengthen
d. shorten (if the expected change is small) or lengthen (if the expected change is large)

28. Money market funds are normally perceived to have ____ interest rate risk, and ____ default risk.
a. low; high
b. high; high
c. high; low
d. low; low

29. Equity real estate investment trusts invest
a. in mortgage and construction loans.
b. directly in properties.
c. in common stocks issued by construction companies.
d. in common stocks issued by real estate brokerage firms.

30. Because ____ real estate investment trusts essentially represent a fixed income portfolio, their market value will ____ as interest rates increase.
a. equity; increase
b. equity; decrease
c. mortgage; increase
d. mortgage; decrease

31. When interest rates decline, investors who want to earn a high return may tend to ____ in stock mutual funds, and ____ deposits in depository institutions.
a. reduce; reduce
b. reduce; increase
c. increase; reduce
d. increase; increase

32. The composition of asset allocation funds
a. is focused completely on one type of security as specified by the particular mutual fund.
b. is fixed and not altered by the mutual fund managers.
c. A and B
d. none of the above

33. A mutual fund prospectus does not contain
a. minimum amount of investment required.
b. return on the fund since its inception.
c. investment objective of the mutual fund.
d. exposure of the mutual fund to various types of risk.
e. fees incurred by the mutual fund.

34. The ____ of a mutual fund indicates the value per share.
a. net asset value
b. gross asset value
c. net stock value
d. net bond value
e. none of the above

35. Mutual funds whose funds are promoted strictly by the mutual fund of concern are called
a. closed-end funds.
b. load mutual funds.
c. no-load mutual funds.
d. open-end mutual funds.

36. Mutual funds that are composed of bonds that offer periodic coupon payments are called ____ mutual funds.
a. tax-free
b. income
c. high-yield
d. growth
e. none of the above

37. ____ are most likely to invest in mortgages.
a. Stock mutual funds
b. Bond mutual funds
c. Load funds
d. Closed-end funds

38. Hedge funds that exceed a specified size must register with the
a. Securities and Exchange Commission (SEC).
b. Federal Reserve.
c. Office of Thrift Supervision.
d. Federal Mutual Fund Board.

39. According to SEC regulations, the majority of the members on a mutual fund’s board of directors must be
a. employed by the fund.
b. outsiders (not employed by the fund).
c. certified public accountants.
d. certified financial analysts.

40. An expense ratio represents ____ divided by the fund’s ____.
a. annual fees charged to investors; 12b-1 fees
b. annual fees charged to investors; net asset value
c. initial sales charge (load); 12b-1 fees
d. initial sales charge (load); net asset value

41. The most common investment by closed-end funds is in
a. derivatives.
b. bonds.
c. money market securities.
d. international equity securities.

42. ____ are beneficial for investors who want to invest in tax-exempt securities.
a. Municipal bond funds
b. Growth and income funds
c. International and global funds
d. Money market funds

43. When the demand for a particular closed-end fund is ____, the fund is likely priced at a ____.
a. high; discount
b. low; discount
c. high; premium
d. B and C are correct

44. Which of the following statements is incorrect?
a. Commercial paper is commonly purchased by money market funds.
b. From an investor’s perspective, money market funds usually have a low level of credit risk.
c. Money market funds tend to have low interest rate risk compared to bond funds.
d. If mutual fund managers expect interest rates to decrease in the future, they should use funds generated from maturing securities today to purchase new securities with shorter maturities.

45. The number of exchange-traded funds has declined over the last several years because the cost of managing them was excessive.
a. True
b. False

46. Exchange-traded funds can be purchased on margin.
a. True
b. False

47. Investors can sell exchange-traded funds short.
a. True
b. False

48. Mutual fund managers seek securities that have much liquidity so that they could easily sell them in the secondary market at any time.
a. True
b. False

49. Closed-end funds are closed to new investment but allow redemptions by shareholders.
a. True
b. False

50. Closed-end fund managers must hold more cash than mutual fund managers.
a. True
b. False

51. Index mutual funds are not traded throughout the day, while exchange-traded funds are.
a. True
b. False

52. Venture capital funds typically invest in stocks of publicly-traded companies.
a. True
b. False

53. Many businesses that go public are partially backed by venture capital before the IPO.
a. True
b. False

54. Private equity funds use most of their money to invest in stocks of publicly-traded companies.
a. True
b. False

55. Vulture funds are a type of private equity fund that purchase distressed assets of a firm that is in or near bankruptcy.
a. True
b. False

56. Hedge funds commonly engage in short selling.
a. True
b. False

57. ____ are not exchange-traded funds.
a. Spiders
b. Growth mutual funds
c. Diamonds
d. Sector Spiders

58. Which of the following statements is incorrect?
a. ETFs are like index mutual funds because the share price adjusts over time in response to the change in the index level.
b. Both ETFs and index mutual funds pay dividends in the form of additional shares to investors.
c. The portfolio management of both ETFs and index mutual funds is very complex.
d. ETFs can be traded throughout the day.

59. Funds that are designed to mimic particular stock indexes and are traded on a stock exchange are known as
a. index mutual funds.
b. exchange-traded funds.
c. money market funds.
d. none of the above

60. Exchange traded funds can be
a. traded throughout the day.
b. purchased on margin.
c. sold short.
d. all of the above

61. ____ trade at one-tenth of the S&P 500 value.
a. Spiders
b. Cubes
c. Diamonds
d. World Equity Benchmark Shares

62. Mutual funds must register with the U.S. Treasury and provide to interested investors a prospectus that discloses details about the components of the funds and risks involved.
a. True
b. False

63. The net asset value (NAV) is estimated each day by first determining the market value of all securities comprising the mutual fund.
a. True
b. False

64. Portfolio managers are hired by the mutual fund to invest in a portfolio of securities that satisfies the desires of investors.
a. True
b. False

65. The expenses incurred by a mutual fund are billed separately to investors, and are not included in the fund’s net asset value (NAV).
a. True
b. False

66. A front-end load is a withdrawal fee assessed when you withdraw money from the mutual fund.
a. True
b. False

67. Large mutual funds can exert some control over the management of firms because they commonly represent the largest shareholders.
a. True
b. False

68. Investors who feel capable of making their own investment decisions often prefer to invest in load funds.
a. True
b. False

69. The term “mutual funds” is normally used to represent closed-end funds, and does not include open-end funds.
a. True
b. False

70. Exchange-traded funds differ from open-end funds in that their share price is adjusted only at the end of every day.
a. True
b. False

71. Capital appreciation funds are suited for investors who are more willing to risk a possible loss in value.
a. True
b. False

72. The returns on international stock mutual funds are affected only by foreign companies’ stock prices, and are independent of currency movements.
a. True
b. False

73. Index funds are becoming increasingly unpopular because most mutual fund managers consistently outperform indexes.
a. True
b. False

74. A mutual fund’s performance is usually unrelated to market conditions.
a. True
b. False

75. The SEC requires that a majority of the directors of a mutual fund board be independent (not employed by the fund).
a. True
b. False

76. Diversification among types of mutual funds usually does little to reduce the volatility of returns on the overall investment.
a. True
b. False

77. Closed-end funds may sometimes engage in a stock repurchase, in which they purchase shares on the exchange where the shares are listed.
a. True
b. False

78. Because money market funds contain instruments with short-term maturities, their market values are not very sensitive to movements in market interest rates.
a. True
b. False

79. Equity REITs are sometimes purchased to hedge against inflation, as rents and property values tend to rise with inflation.
a. True
b. False

80. Equity REITs essentially represent fixed-income portfolios. Thus, their market values will be influenced by interest rate movements.
a. True
b. False

81. Hedge funds are more heavily regulated than mutual funds.
a. True
b. False

82. Which of the following is not true regarding mutual funds?
a. They are a key financial intermediary.
b. They provide an important service to individual investors seeking to invest funds.
c. Most mutual funds use experienced portfolio managers, so investors do not have to manage the portfolio themselves.
d. They provide a way for individual investors to diversify, but most individual investors are unable to afford the purchase of mutual fund shares.

83. Which of the following statements is incorrect?
a. Exchange-traded funds (ETFs) are designed to mimic particular stock indexes and are traded on a stock exchange.
b. Unlike a closed-end fund, an ETF has a fixed number of shares.
c. ETFs differ from most open-end and closed-end funds in that they are not actively managed.
d. One disadvantage of ETFs is that each purchase of additional shares must be done through the exchange where they are traded.

84. A mutual fund prospectus does not contain the
a. minimum amount of investment required.
b. investment objective of the mutual fund.
c. exposure of the mutual fund to various types of risk.
d. return on the fund since its inception.
e. fees incurred by the mutual fund.

85. The ____ of a mutual fund represents the price at which shares can be purchased from a mutual fund.
a. gross asset value
b. net asset value
c. net stock value
d. net bond value

86. Which of the following is incorrect about money market funds (MMFs)?
a. The credit risk of MMFs is normally perceived to be lower than that of corporate bonds.
b. MMFs have higher interest rate risk than bond funds.
c. MMFs normally generate positive returns over time
d. All of the above are correct.

87. ____ are most likely to invest in mortgages.
a. Stock mutual funds
b. Real estate investment trusts (REITs)
c. Load funds
d. Closed-end funds
e. None of the above

88. Mutual funds are not required to disclose which of the following in the prospectus?
a. the names of the portfolio managers
b. the length of time that the portfolio managers have been employed by the fund in that position
c. the performance record in recent years
d. the number of investors currently investing in the mutual fund
e. Mutual funds are required to disclose all of the above in a prospectus

89. Which of the following is not a way in which mutual funds generate returns for their shareholders?
a. They can pass on any earned income as dividend payments to shareholders.
b. They distribute the capital gains resulting from the sale of securities within the fund.
c. The mutual fund price appreciates.
d. All of the above are ways in which a mutual fund generates returns to its shareholders.

90. A(n) ____ fund contains a sales charge.
a. load
b. no-load
c. closed-end
d. open-end
e. none of the above

91. ____ funds are open to investment from investors at any time.
a. Load
b. No-load
c. Open-end
d. Closed-end
e. None of the above

92. Which of the following statements is incorrect?
a. Investors can purchase shares directly from an open-end fund at any time.
b. The number of shares of an open-end fund is always changing.
c. Open-end funds typically maintain some cash on hand in case investments exceed redemptions.
d. There are many different categories of open-end mutual funds.

93. ____ funds focus on a group of companies sharing a particular characteristic.
a. Specialty
b. Growth and income
c. Closed-end
d. Capital appreciation
e. None of the above

94. Bond portfolios with some bonds rated below Baa by Moody’s or BBB by Standard and Poor’s, available for investors desiring high return and willing to incur high risk, are called ____ funds.
a. growth
b. capital appreciation
c. junk bond
d. bond
e. none of the above

95. Which of the following statements is incorrect?
a. A mutual fund is usually run by an investment company.
b. Although many mutual funds have grown substantially over time, their expense ratios have generally increased over time.
c. For each mutual fund, all expenses charged and reflected in the expense ratio are always valid.
d. The SEC requires that a majority of the directors of a mutual fund board be independent.

96. Money market funds commonly invest in
a. stocks.
b. real estate.
c. commercial paper.
d. U.S. Treasury bonds.
e. none of the above

97. Which of the following is not true with respect to venture capital funds?
a. They typically invest in young, growing firms that need equity funding but are not ready or willing to go public.
b. More than half of all VC investing is in businesses that are being created.
c. Venture capital funds tend to focus on technology firms, which have the potential for high returns but also exhibit a high level of risk.
d. Because VC funds invest in fairly safe ventures, a low percentage of their ventures fail.
e. All of the above are correct with respect to venture capital funds.

98. ____ funds sell shares to wealthy individuals and financial institutions and use the proceeds to invest in securities.
a. Growth
b. Open-end
c. Capital appreciation
d. Hedge
e. Specialty

99. Exchange-traded funds distribute their capital gains to their shareholders, who must pay tax on the gains.
a. True
b. False

100. Shares of exchange-traded funds can be sold _________, and shares of open-end mutual funds can be sold _________.
a. at any time during trading hours; at any time via private trading networks
b. only at the end of the day; at any time during trading hours
c. at any time via private trading networks; at any time during trading hours
d. at any time during trading hours; only at the end of the day

101. The average annual fee on actively managed exchange-traded funds is ________, which is _________.
a. zero.
b. lower than the typical annual fee on open-end mutual funds.
c. higher than the typical annual fee on open-end mutual funds.
d. the same as the typical annual fee on open-end mutual funds.

102. An investor who believes that technology stocks will perform well but does not want to select individual technology stocks might invest in:
a. Spiders.
b. WEBs.
c. Cubes.
d. Diamonds.

103. If interest rates are expected to ________, mortgage real investment trusts (REITs) ___________.
a. decline; become less attractive
b. rise; become less attractive
c. rise; are not affected
d. decline; are not affected

104. Investors who invest in a hedge fund of funds essentially pay two layers of management fees.
a. True
b. False

105. Hedge funds commonly use financial leverage, which can:
a. magnify their returns and magnify their losses.
b. magnify their returns and limit their losses.
c. reduce their risk and limit their losses.
d. magnify their returns and not affect their risk.

FIN 350 Week 10 Quiz 9 Chapter 20 and 21 – Strayer University NEW

FIN 350 Week 10 Quiz – Strayer

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Chapter 20—Bank Performance

1. A(n) ____ in interest rates could reduce a commercial bank’s expected cash flows because the interest paid on deposits may ____ than the interest earned on loans and investments.
a. increase; increase to a greater degree
b. increase; increase to a lesser degree
c. decrease; increase to a greater degree
d. decrease; increase to a lesser degree

2. Even if other external forces (such as interest rates) are unchanged, a commercial bank’s expected cash flows can change in response to a change in its management skills.
a. True
b. False

3. The risk premium on a commercial bank is ____ related to economic growth and ____ related to management skills.
a. positively; negatively
b. positively; positively
c. negatively; negatively
d. negatively; positively

4. Interest income generated from all assets is called
a. net interest margin.
b. the spread.
c. gross interest income.
d. net interest income.

5. Interest paid on deposits and borrowed funds is called
a. net interest expense.
b. net interest margin.
c. gross interest expense.
d. net spread expense.

6. Net interest income is the difference between gross interest income and interest expenses and is measured as a percentage of
a. liabilities.
b. shareholder’s equity.
c. assets.
d. revenues.

7. Fees charged by a bank on various services allow the bank to generate:
a. noninterest income
b. components of net interest margin
c. components of net interest income
d. components of gross interest income

8. The loan loss provision as a percentage of assets should increase during periods of high economic growth.
a. True
b. False

9. A bank’s net interest margin represents the proportion of its investments that are financed with borrowed funds.
a. True
b. False

10. If a bank has short-term deposits and provides long-term fixed rate loans, and interest rates decline over time, its net interest margin should be:
a. declining over time.
b. rising over time.
c. constant over time.
d. consistently negative.

11. For a given level of return on assets, a bank with a higher level of capital will have a lower
a. return on equity.
b. leverage measure.
c. noninterest income.
d. liquidity.

12. Net income measured as a percentage of assets is
a. return on equity (ROE).
b. return on liabilities (ROL).
c. return on investment (ROI).
d. return on assets (ROA).

13. When only equity counts as capital, the leverage measure is
a. equal to the capital ratio.
b. equal to return on assets.
c. the inverse of return on assets.
d. assets divided by equity.

14. When only equity counts as capital, the higher the capital ratio, the
a. lower the leverage measure.
b. lower the degree of financial leverage.
c. higher the leverage measure.
d. A and B
e. B and C

15. Gross interest income is affected by
a. market interest rates.
b. the composition of assets held by banks.
c. interest expenses.
d. non-interest expenses.
e. A and B

16. If a bank increases its provisions for loan losses, its interest income is ____, and its noninterest income is ____.
a. reduced; not affected
b. reduced; reduced
c. not affected; reduced
d. not affected; not affected

17. Return on assets (ROA) will usually reveal when a bank’s performance is not up to par, but it does not indicate the reason for poor performance.
a. True
b. False

18. Gross interest expense is affected by
a. market interest rates.
b. the composition of assets held by the bank.
c. fee services provided by the bank.
d. A and B

19. If a bank had long-term fixed-rate assets and short-term liabilities, and interest rates increased over time, its net interest margin should
a. decrease.
b. increase.
c. stay the same.
d. either A or B, depending on whether the asset maturities exceed 10 years

20. The sum of net interest income, non-interest income, and securities gains, minus provision for loan losses and non-interest expenses equals
a. net interest margin.
b. gross interest margin.
c. net income.
d. income before taxes.

21. Which of the following banks would likely have the highest return on equity?
a. high return on assets, high capital ratio
b. high return on assets, low capital ratio
c. low return on assets, low capital ratio
d. low return on assets, high capital ratio

22. Banks A and B have the same net income. Bank A has a higher capital ratio and more assets than B. Bank A’s return on assets is ____ than Bank B’s. Bank A’s return on equity is ____ than Bank B’s.
a. higher; higher
b. higher; lower
c. lower; higher
d. lower; lower

23. Banks G and H are the same size and have similar operations. Bank G holds the minimum level of capital and Bank H holds a higher level of capital. Bank G’s return on equity is probably ____ volatile than that of Bank H. Bank G’s beta is probably ____ than that of Bank H.
a. less; lower
b. less; higher
c. more; higher
d. more; lower

24. Bank K is conservatively managed. It benefits slightly when general economic conditions are very favorable and is hurt slightly when general economic conditions are very unfavorable. Its beta would likely be
a. less than zero.
b. zero.
c. between zero and 1.00.
d. greater than 1.00.

25. ____ results from a bank’s sale of securities.
a. Noninterest income
b. Loan loss provision
c. Securities gains and losses
d. Noninterest expenses
e. none of the above

26. Bank X obtains most of its funds from NCDs, while Bank Y obtains much of its funds from passbook savings and from demand deposit accounts. Given this information, the net interest margin of Bank X would likely be ____ than that of Bank Y, and noninterest expenses would likely be ____ than that of Bank Y.
a. greater; greater
b. greater; less
c. less; less
d. less; greater

27. A bank’s ROE ____ account for its financial leverage. A bank’s ROA ____ account for its financial leverage.
a. does; does
b. does; does not
c. does not; does not
d. does not; does

28. A bank’s ROA ____ account for taxes on earnings. A bank’s ROE ____ account for taxes on earnings.
a. does; does
b. does; does not
c. does not; does not
d. does not; does

29. A bank’s ROA ____ account for loan losses. A bank’s ROE ____ account for loan losses.
a. does; does
b. does; does not
c. does not; does not
d. does not; does

30. A bank’s net interest margin includes
a. noninterest expenses.
b. noninterest income.
c. loan losses.
d. none of the above

31. Banks with relatively ____ ROAs often incur ____ noninterest expenses.
a. low; very low
b. low; very high
c. high; very high
d. none of the above

32. Bank T generally obtains a high percentage of its funds from wholesale CDs. Bank V which obtains most of its funds from retail CDs. Bank Z obtains its funds from checking accounts. The bank that will incur the highest interest expenses is ____.
a. Bank T
b. Bank V
c. Bank Z
d. all banks are the same

33. Which of the following is not a factor that affects cash flows of a commercial bank?
a. changes in economic growth
b. changes in the risk-free interest rate
c. changes in industry conditions
d. changes in management abilities
e. all of the above are factors that affect cash flows of a commercial bank

34. The value of a commercial bank can be modeled as the present value of its future cash flows.
a. True
b. False

35. The level of competition is an industry characteristic that will favorably affect cash flows, because a high level of competition may increase a bank’s volume of business or increase the prices it can charge for its services.
a. True
b. False

36. If the risk premium on a commercial bank rises, so will the required rate of return by investors who invest in the bank.
a. True
b. False

37. Gross interest expenses of banks are normally higher in periods when market interest rates are higher
a. True
b. False

38. If banks continue to offer new services (such as insurance or securities services), their noninterest income will decrease over time.
a. True
b. False

39. The loan loss provision should increase during periods when loan losses are more likely, such as during a recessionary period.
a. True
b. False

40. Any individual bank’s ROA depends on the bank’s policy decisions, but not on uncontrollable factors relating to the economy and government regulations.
a. True
b. False

41. Access to a bank’s ROA without any other information reveals when its performance is not up to par and the reasons for its poor performance.
a. True
b. False

42. During the credit crisis, the level of ____ was much higher than in other periods.
a. interest income
b. income expenses
c. noninterest expenses
d. loan loss provision

43. During periods of ____ economic growth, loan demand tends to be ____, allowing banks to provide ____ loans.
a. strong; higher; more
b. weak; higher; more
c. weak; lower; more
d. strong; lower; fewer
e. none of the above

44. Changes in ____ are a factor affecting the value of a commercial bank over which the bank has some control.
a. economic growth
b. the risk-free interest rate
c. industry conditions
d. management abilities
e. none of the above

45. If a bank is too ____ in attempting to avoid loan losses, its net interest margin will be ____.
a. conservative; high
b. conservative; low
c. aggressive; high
d. aggressive; low
e. none of the above

46. Banks offering ____ nontraditional services will incur ____ noninterest expenses and ____ noninterest income.
a. fewer; higher; higher
b. more; lower; higher
c. more; higher; higher
d. fewer; lower; higher
e. none of the above

47. When interest rates fall, the rates that a bank pays on deposits typically decline less than the interest rates that the bank earns on its loans and investments.
a. True
b. False

48. Small banks tend to make more loans to small local businesses, and the rates on these loans are typically lower than the rates that larger banks charge on the loans they provide to large businesses.
a. True
b. False

49. Which of the following factors affecting a bank’s gross interest income is not influenced by the bank’s policy decisions?
a. maturity and rate sensitivity of the bank’s assets
b. market interest rate movements
c. the bank’s loan rate
d. composition of the bank’s assets

50. A bank’s return on assets (ROA) could be lower than desired because of all of the following except:
a. the bank has experienced heavy loan losses.
b. the bank was locked into fixed-rate loans prior to a rise in market interest rates.
c. the bank is receiving a relatively small amount of noninterest income.
d. the bank has reduced its noninterest expenses.

Chapter 21—Thrift Operations

1. The insuring agency for savings institutions is the
a. Securities and Exchange Commission (SEC).
b. Federal Deposit Insurance Corporation (FDIC).
c. U.S. Treasury.
d. Federal Reserve

2. The ____ savings institutions hold the most assets in aggregate.
a. stock owned
b. mutual
c. closely-held
d. privatized

3. Which of the following statements is incorrect?
a. A mutual-to-stock conversion allows savings institutions to obtain additional capital by issuing stock.
b. Because of the difference in owner control, mutual savings institutions are more susceptible to unfriendly takeovers.
c. When a mutual savings institution is involved in an acquisition, it first converts to a stock-owned savings institution.
d. Consolidation and acquisitions have caused the number of mutual and stock savings institutions to decline consistently over the years.

4. Savings institutions use most of their funds for ____. Commercial banks use most of their funds for ____.
a. mortgages; mortgages
b. mortgages; business loans and commercial real estate loans
c. business loans; commercial real estate loans and mortgages
d. commercial real estate loans and mortgages; business loans

5. Federally-chartered savings institutions are regulated by the
a. Securities and Exchange Commission (SEC).
b. National Credit Union Administration.
c. Federal Reserve.
d. U.S. Treasury.

6. Savings institutions obtain most of their funds from
a. savings and time deposits.
b. loans.
c. mortgages.
d. repurchase agreements.

7. When savings institutions are unable to attract sufficient deposits, they can
a. borrow in the federal funds market.
b. borrow from the Federal Reserve.
c. borrow through a repurchase agreement.
d. all of the above

8. The capital of savings institutions is primarily composed of retained earnings and funds obtained from issuing stock.
a. True
b. False

9. If depositors move money from their checking account to short-term CDs, this would ____ the rate-sensitivity of the savings institution’s liabilities to interest rate movements.
a. increase
b. have no effect on
c. decrease
d. A or C, depending on the size of the savings institution

10. ____ are the primary asset of savings institutions.
a. Mortgages
b. Cash balances
c. Investment securities
d. Business loans

11. Savings institutions that reduce their amount of ____ will best reduce their exposure to interest rate risk.
a. fixed-rate mortgages
b. consumer loans
c. commercial loans
d. short-term securities

12. ____ do not represent an asset of credit unions.
a. Mortgage-backed securities
b. Home equity loans
c. Automobile loans
d. Stocks

13. Which of the following is not an asset of savings institutions?
a. loans
b. mortgages
c. NOW accounts
d. mortgage-backed securities

14. Most mortgages originated by savings institutions are for
a. commercial buildings.
b. land for commercial purposes.
c. single-family homes or multifamily dwellings.
d. none of the above.

15. If a savings institutions’ assets have considerably longer duration than its liabilities, it can reduce its exposure to interest rate risk by
a. reducing its proportion of assets in the short duration categories.
b. increasing its proportion of liabilities in the short duration categories.
c. increasing its proportion of liabilities in the long duration category.
d. A and B

16. Adjustable-rate mortgages ____ of rising interest rates on a typical savings institution’s spread. They ____ of declining interest rates on the spread.
a. reduce the adverse impact; reduce the favorable impact
b. reduce the adverse impact; increase the favorable impact
c. increase the adverse impact; increase the favorable impact
d. increase the adverse impact; reduce the favorable impact

17. To measure ____ risk, some savings institutions measure the duration of their respective assets and liabilities.
a. credit
b. interest rate
c. liquidity
d. none of the above

18. A contract that allows for the purchase of a specified debt security for a specified price at a future point in time is known as a(n)
a. interest rate futures contract.
b. interest rate swap contract.
c. interest cap contract.
d. security swap contract.

19. When a savings institution uses interest rate swaps to hedge interest rate risk, it would likely exchange ____ outflows for ____ inflows.
a. variable-rate; fixed-rate
b. variable-rate; variable-rate
c. fixed-rate; variable-rate
d. fixed-rate; fixed-rate

20. An interest rate swap reduces the favorable impact of declining interest rates.
a. True
b. False

21. A savings institution owned by its depositors is a ____ savings institution.
a. mutual
b. stock
c. credit
d. closed-end

22. Which of the following was not a major reason for the savings institution crisis in the late 1980s?
a. a large proportion of loan losses on real estate loans
b. a large proportion of loan losses on loans by savings institutions to less-developed countries
c. fraud
d. illiquidity
e. increased interest expenses

23. The Financial Institutions Reform, Recovery, and Enforcement Act (FIRREA) prohibited
a. savings institutions from merging.
b. commercial banks from acquiring savings institutions.
c. savings institutions.
d. savings institutions from making loans to foreign governments.

24. The risk that a credit union will experience an unanticipated wave of withdrawals without an offsetting amount of new deposits is ____ risk.
a. credit (default)
b. interest rate
c. liquidity
d. exchange rate
e. none of the above

25. Money market deposit accounts (MMDAs) represent
a. trust accounts managed by savings institutions.
b. checking accounts that do not pay interest.
c. accounts offered primarily by money market funds.
d. deposit accounts offering limited checking and close-to-market interest rates.

26. Savings institutions ____ allowed to borrow funds in the federal funds market; savings institutions ____ allowed to borrow funds from the Federal Reserve.
a. are; are
b. are; are not
c. are not; are not
d. are not; are

27. Savings institutions commonly ____ to reduce their risk.
a. purchase futures contracts on stock indexes
b. purchase futures contracts on treasury bonds
c. sell futures contracts on stock indexes
d. sell futures contracts on treasury bonds

28. Stock-owned savings institutions ____ susceptible to unfriendly takeovers. Mutual savings institutions ____ susceptible to unfriendly takeovers.
a. are; are not
b. are; are
c. are not; are
d. are not; are not

29. Savings institutions can obtain capital by:
a. issuing stock.
b. repurchasing stock.
c. borrowing from the Federal Reserve.
d. borrowing in the federal funds market.

30. To obtain short-term funds, savings institutions commonly borrow funds in the ____ market.
a. stock
b. bond
c. mortgage
d. federal funds
e. futures

31. ____ risk is probably the least concern for savings institutions.
a. Liquidity
b. Exchange rate
c. Credit
d. Interest rate

32. Which of the following is not an advantage of credit unions?
a. They can offer attractive rates to their member savers and borrowers because they are nonprofit and therefore are not taxed.
b. Their noninterest expenses are relatively low, because their labor, office, and furniture are often donated or provided at a very low cost through the affiliation of their members.
c. Their large membership allows them to effectively diversify geographically.
d. All of the above are advantages of credit unions.

33. A savings institution’s cash flows are ____ related to interest rate movements.
a. positively related to
b. negatively related to
c. unrelated to
d. none of the above

34. The primary use of credit union funds is
a. loans to credit union members.
b. the purchase of government securities.
c. the purchase of agency securities.
d. the purchase of corporate bonds.
e. none of the above

35. ____ are non-profit organizations composed of members with a common bond.
a. Credit unions
b. Savings banks
c. Savings and loan associations
d. Commercial banks

36. Because credit unions ____ stock, they are technically owned by the ____.
a. issue; depositors
b. do not issue; depositors
c. issue; stockholders
d. do not issue; management

37. Credit unions obtain most of their funds from
a. issuing common stock.
b. retained earnings.
c. share deposits by members.
d. issuing long-term bonds.

38. Checkable accounts offered by credit unions are called
a. NOW accounts.
b. money market deposit accounts.
c. share certificates.
d. share drafts.

39. The ____ acts as a temporary lender to credit unions.
a. World Bank
b. Central Liquidity Facility
c. Federal Home Loan Bank
d. National Credit Union Administration

40. The sensitivity of cost of funds to interest rate movements has been
a. greater for credit unions than savings institutions.
b. greater for credit unions than commercial banks.
c. lower for credit unions than for savings institutions or commercial banks.
d. similar for credit unions as savings institutions and commercial banks.

41. Credit unions use the majority of their funds to
a. purchase investment securities.
b. provide commercial real estate loans.
c. provide small business loans to members.
d. provide consumer loans to members.

42. If credit union members have a particular affiliation with their employers and large layoffs occur, the credit union’s exposure to ____ risk may increase.
a. settlement
b. interest rate
c. credit
d. none of the above

43. The maximum insurance per depositor by the National Credit Union Insurance Fund is
a. $250,000.
b. $50,000.
c. $40,000.
d. $25,000.

44. Comparing credit unions with commercial banks and savings institutions
a. credit unions are less able to quickly generate additional deposits.
b. savings institutions and commercial banks can borrow from the Central Liquidity Facility, but credit unions cannot.
c. savings institutions and commercial banks are less able to quickly generate additional deposits.
d. credit unions have less exposure to liquidity risk.

45. The majority of maturities on consumer loans offered by credit unions are ____ term, causing income generated on their asset portfolio to be ____ to interest rate movements.
a. long; insensitive
b. short or medium; sensitive
c. long; sensitive
d. short or medium; insensitive

46. Because credit unions’ sources and uses of funds are generally interest rate ____, movements in interest revenues and interest expenses of credit unions are ____.
a. sensitive; negatively correlated
b. insensitive; highly correlated
c. sensitive; uncorrelated
d. sensitive; highly correlated
e. insensitive; uncorrelated

47. Deposits at credit unions are called
a. NOW accounts.
b. money market deposit accounts.
c. shares.
d. credit union deposit accounts.

48. Credit unions differ from savings institutions in that they use a ____ proportion of their funds for mortgages and are ____ institutions.
a. smaller; non-profit
b. larger; non-profit
c. smaller; for-profit
d. larger; for-profit

49. Today, credit unions are regulated as to the
a. types of services they can offer.
b. rates they offer on deposits.
c. maturity of residential loans they make.
d. size of residential mortgage loans.

50. The National Credit Union Share Insurance Fund (NCUSIF) requires all
a. federal-chartered credit unions to obtain insurance from the NCUSIF.
b. state-chartered credit unions to obtain insurance from the NCUSIF.
c. credit unions to pay an annual supplemental insurance premium each year.
d. depository institutions to pay a supplemental insurance premium each year.

51. Federal credit unions are regulated and supervised by the
a. Central Liquidity Facility.
b. National Credit Union Administration.
c. Securities and Exchange Commission.
d. Corporate Credit Union Network.
e. none of the above

52. According to your text, about ____ percent of credit unions are insured by the National Credit Union Share Insurance Fund.
a. 20
b. 40
c. 60
d. 90

53. In general, savings institutions are larger than commercial banks.
a. True
b. False

54. Today, savings institutions are not permitted to invest in junk bonds.
a. True
b. False

55. Because savings institutions commonly use long-term liabilities to finance short-term assets, they depend on additional deposits to accommodate withdrawal requests.
a. True
b. False

56. Savings institutions commonly measure the gap between their rate-sensitive assets and rate-sensitive liabilities in order to determine their exposure to credit risk.
a. True
b. False

57. Savings institutions do not really know the actual maturity of the mortgages they hold and cannot perfectly match the interest rate sensitivity of their assets and liabilities.
a. True
b. False

58. In general, when interest rates fall, a savings institution’s cost of obtaining funds declines more than the decline in the interest earned on its loans and investments.
a. True
b. False

59. High economic growth results in more risk for a savings institution, since its consumer loans, mortgage loans, and investments in debt securities are more likely to default.
a. True
b. False

60. Because credit unions do not issue stock, they are technically sole proprietorships.
a. True
b. False

61. Because credit unions are for-profit organizations, their income is taxable.
a. True
b. False

62. Credit unions obtain most of their funds by borrowing from the U.S. government.
a. True
b. False

63. Credit unions use the majority of their funds to invest in the stock market.
a. True
b. False

64. The National Credit Union Administration (NCUA) is responsible for regulating savings institutions.
a. True
b. False

65. Credit unions are unregulated as to the types of services they offer.
a. True
b. False

66. All federally chartered credit unions are required to obtain insurance from the National Credit Union Share Insurance Fund (NCUSIF).
a. True
b. False

67. The primary source of funds for credit unions is
a. share certificates.
b. share deposits.
c. share drafts.
d. borrowed funds from the Central Liquidity Facility (CLF).
e. none of the above

68. Which of the following is not an objective of a credit union?
a. to satisfy credit union members
b. to act as an intermediary for members by repackaging deposits
c. to provide loans to members who are in need of funds
d. all of the above are objectives of credit unions.

69. ____ are not a main source of funds for savings institutions.
a. Deposits
b. Borrowed funds
c. Capital
d. Mortgages

70. Which of the following is not a deposit source of funds for savings institutions?
a. passbook savings
b. retail CDs
c. money market deposit accounts
d. negotiable order of withdrawal (NOW) accounts
e. All of the above are deposit sources of funds for savings institutions.

71. ____ is not a main use of funds for savings institutions.
a. Capital
b. Mortgages
c. Consumer and commercial loans
d. Mortgage-backed securities

72. Savings institutions were adversely affected by the credit crisis because of their exposure to ____.
a. deposits
b. mortgages
c. commercial loans
d. loans from the Federal Reserve

73. To manage interest rate risk, a savings institution could use
a. fixed-rate mortgages.
b. currency options.
c. interest rate futures contracts.
d. letters of credit.

74. Under the Wall Street Reform and Consumer Protection Act (Dodd-Frank Act), all federally chartered savings institutions are to be regulated by the Federal Reserve, so these savings institutions no longer have an incentive to go regulator shopping.
a. True
b. False

75. During the credit crisis of 2008–2009, some credit unions suffered losses on second mortgages and home-equity loans that they had provided, and some credit unions experienced losses on mortgage-backed securities in which they had invested.
a. True
b. False

76. During the credit crisis of 2008–2009:
a. the Resolution Trust Corporation was formed to deal with insolvent savings institutions.
b. several large savings institutions failed, including Countrywide Financial and Washington Mutual.
c. savings institutions were insulated because their regulator subsidized any of them that experienced large loan defaults.
d. the main problem for savings institutions was exposure to interest rate risk.

77. During the credit crisis of 2008–2009, savings institutions experienced all of the following except:
a. high default rates on loans to finance leveraged buyouts.
b. a decline in the level of mortgage originations.
c. high default rates on subprime mortgages.
d. losses on investments in mortgage-backed securities.

78. The Financial Reform Act of 2010 did all of the following except:
a. strengthened the standards required to obtain a mortgage.
b. required more disclosures by financial institutions regarding the quality of the underlying assets when they sell mortgage-backed securities.
c. required savings institutions to sell off any holdings of junk bonds and prohibited them from investing in junk bonds in the future.
d. established the Consumer Financial Protection Bureau.