Financial Institution Management Practice Exam
Course Introduction
Financial Institution Management provides an in-depth understanding of the structure, functions, and operations of various financial institutions, including commercial banks, insurance companies, investment firms, and credit unions. The course examines the regulatory environment, risk management strategies, and the impact of global financial markets on these institutions. Key topics include asset-liability management, capital adequacy, liquidity management, and the role of technology and innovation in financial services. Students will develop practical skills for analyzing financial statements, assessing risks, and making informed decisions essential for effective management within the dynamic financial sector.
Recommended Textbook
Financial Institution Management 3rd Edition by Helen Lange
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Page 2
Chapter 1: Why Are Financial Institutions Special
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Q1) Why do households prefer to use FIs as intermediaries to invest their surplus funds?
A) Transaction costs are low to the household since FIs are more efficient in monitoring and gathering investment information.
B) To receive the benefits of diversification that households may not be able to achieve on their own.
C) The FI can benefit from combining funds and negotiating lower asset prices and transaction costs.
D) All of the listed options are correct.
Answer: D
Q2) Which of the following are types of regulation that seek to enhance the net social welfare benefits of financial intermediaries' services?
A) exit regulation
B) issuer protection regulation
C) credit allocation regulation
D) All of the listed options are correct.
Answer: C
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3
Chapter 2: The Financial Services Industry: Depository
Institutions
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Q1) Which of the following statements is true?
A) The majority of players in terms of asset value as a percentage of GDP in the Australian financial system are credit unions.
B) The majority of players in terms of asset value as a percentage of GDP in the Australian financial system are building societies.
C) The majority of players in terms of asset value as a percentage of GDP in the Australian financial system are banks.
D) The majority of players in terms of asset value as a percentage of GDP in the Australian financial system are superannuation funds.
Answer: C
Q2) In which way did building societies respond to the competitive pressures resulting from the deregulation of the banking system in the 1980s?
A) They engaged in mergers for efficiency and scale reasons.
B) They adopted improved technology.
C) They diversified their products and activities.
D) All of the listed options are correct.
Answer: D
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4
Chapter 3: The Financial Services Industry: Other Financial Institutions
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Q1) Which of the following statements is true?
A) Unbundled life insurance is also called investment-free insurance.
B) Bundled life insurance is also called investment-free insurance.
C) Unbundled life insurance is also called investment-linked insurance.
D) Bundled life insurance is also called investment-linked insurance.
Answer: C
Q2) The problem of adverse selection:
A) implies that many people who do not need insurance coverage have it through group plans.
B) means that those people who apply for insurance are the least likely to need insurance coverage.
C) causes insurance underwriters to alter the health statistics of the general population when determining appropriate premiums.
D) creates a savings element along with the insurance component of the premium and policy.
Answer: C
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Chapter 4: Risk of Financial Institutions
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Q1) The Bank for International Settlements:
A) defines operational risk as the risk of direct or indirect loss resulting from inadequate or failed internal processes, people, and systems or from external events.
B) does not include technology risk in its categorisation of operational risk.
C) is the principal organisation of central banks in the minor economies of the world.
D) All of the listed options are correct.
Q2) Technological failure, employee fraud and employee errors are all sources of operational risk.
A)True
B)False
Q3) Politically motivated limitations on payments of foreign currency may expose the FI to:
A) sovereign or country risk.
B) interest rate risk.
C) credit risk.
D) foreign exchange risk.
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6
Chapter 5: Interest Rate Risk Measurement: The Repricing Model
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Q1) The Reserve Bank of Australia's (RBA) monetary policy can reduce an FI's interest rate risk:
A) by smoothing or targeting the level of interest rates it increases unexpected interest rate shocks and interest volatility.
B) by smoothing or targeting the level of interest rates it decreases unexpected interest rate shocks and interest volatility.
C) by letting interest rates find their own level it increases interest volatility.
D) All of the listed options are correct.
Q2) What is meant by the 'run-off' problem and how can bank managers deal with this problem?
Q3) The cumulative repricing gap position of an FI for a given extended time period is the sum of the repricing gap values for the individual time periods that make up the extended time period.
A)True B)False
Q4) An FI with a positive repricing gap expects interest rates to decrease.
A)True
B)False
Page 7
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Chapter 6: Interest Rate Risk Measurement: the Duration
Model
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Q1) The special feature of consol bonds is that:
A) their duration equals their maturity.
B) their maturity is infinite, while their duration is finite.
C) their maturity is finite, while their duration is infinite.
D) both, their maturity and their duration, are infinite.
Q2) Which of the following statements about leverage adjusted duration gap is true?
A) It is equal to the duration of the assets minus the duration of the liabilities.
B) The larger the gap in absolute terms, the more exposed the FI is to interest rate shocks.
C) It reflects the degree of maturity mismatch in an FI's balance sheet.
D) It indicates the dollar size of the potential net worth and its value is equal to duration divided by (1+R).
Q3) Which of the following is indicated by high numerical value of the duration of an asset?
A) Low sensitivity of an asset price to interest rate shocks.
B) High interest inelasticity of a bond.
C) High sensitivity of an asset price to interest rate shocks.
D) Lack of sensitivity of an asset price to interest rate shocks.
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Chapter 7: Managing Interest Rate Risk Using Off Balance
Sheet Instruments
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Q1) An undeliverable futures contract refers to a futures contract in which:
A) there is no physical settlement.
B) there is no mandatory cash settlement.
C) one of the parties is unable to deliver.
D) money has been lost due to a party having chosen an unfavourable hedging strategy.
Q2) Which of the following statements is true?
A) In Australian interest rate futures there is no physical settlement of either 10 year or 3 year bond futures.
B) In Australian interest rate futures there is no physical settlement of either 10 year or 5 year bond futures.
C) In Australian interest rate futures there is no physical settlement of either 5 year or 3 year bond futures.
D) In Australian interest rate futures there is always physical settlement.
Q3) It is possible to create a synthetic fixed-rate position from floating rate instruments using futures contracts. Forward contracts cannot be used.
A)True
B)False
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Chapter 8: Credit Risk I: Individual Loan Risk
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Q1) Collateralised debt obligations:
A) Can be created either by packaging and securitising whole mortgage loans.
B) by placing existing pass-throughs in a trust off the balance sheet.
C) can be created either by packaging and securitising unsecured loans, or by placing existing pass-throughs in a trust on-balance sheet.
D) can be created either by packaging and securitising whole mortgage loans and by placing existing pass-throughs in a trust off the balance sheet.
Q2) The buyer of a loan participation benefits because the only risk exposure is to the borrower.
A)True
B)False
Q3) A loan provided by a group of FIs as opposed to a single lender is called:
A) a joint loan.
B) project finance.
C) a syndicated loan.
D) a multiple loan.
Q4) Credit card facilities is a revolving loan product.
A)True
B)False
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Chapter 9: Market Risk
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Q1) Daily earnings at risk (DEAR) is the market risk exposure over the next 72 hours.
A)True
B)False
Q2) Which of the following statements is true?
A) The All Ordinaries index is Australia's premier market indicator, which represents the 100 largest companies listed on the Australian Stock Exchange.
B) The All Ordinaries index is Australia's premier market indicator, which represents the 300 largest companies listed on the Australian Stock Exchange.
C) The All Ordinaries index is Australia's premier market indicator, which represents the 500 largest companies listed on the Australian Stock Exchange.
D) The All Ordinaries index is Australia's premier market indicator, which represents all companies listed on the Australian Stock Exchange.
Q3) Explain the basic concept of the RiskMetric model. What are the major disadvantages? How can the major disadvantages be addressed?
Q4) Why is market risk measurement important?
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Chapter 10: Credit Risk I: Individual Loan Risk
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Q1) Assume that B = $200 000, r = 1 year, i = 7 per cent, d = 0.9, N(h<sub>1</sub>) = 0.174120 and N(h<sub>2</sub>) = 0.793323. Using Moody's KMV Credit Monitor Model, what is the required risk premium on the loan (round to two decimal places)?
A) 0.13 per cent
B) 0.91 per cent
C) 1.64 per cent
D) 6.30 per cent
Q2) Consider the case of a simple one-period framework. If i = 12.30 per cent and k = 13.87 per cent, what is the risk premium on the corporate loan (round to two decimals)?
A) 13.87% - 12.30% = 1.57%.
B) 13.87% \(\times\) 12.30% = 0.0171 = 1.71%.
C) 13.87% / 12.30% = 1.13%.
D) The risk premium equals k = 13.87 per cent.
Q3) The term 'asset-backed loan' refers to a loan that is backed by a:
A) first claim on certain assets of the borrower if default occurs.
B) second claim on certain assets of the borrower at maturity.
C) first claim on certain assets of the borrower at maturity.
D) None of the listed options are correct.
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Chapter 11: Credit Risk II: Loan Portfolio and Concentration
Risk
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Q1) Which of the following statements is true?
A) The minimum risk portfolio generates the highest returns and is thus likely to be chosen by risk-seeking FI managers.
B) The minimum risk portfolio does not generate the highest returns and is thus likely to be chosen by risk-averse FI managers.
C) The minimum risk portfolio does not generate the highest returns and is thus likely to be chosen by risk-seeking FI managers.
D) The minimum risk portfolio does not generate the highest returns and is thus likely to be chosen by risk-indifferent FI managers.
Q2) A forward contract:
A) has more credit risk than a futures contract.
B) is more standardised than a futures contract.
C) is marked to market more frequently than a futures contract.
D) has a shorter time to delivery than a futures contract.
Q3) Minimum risk portfolios generally generate the highest returns.
A)True
B)False
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Page 13
Chapter 12: Sovereign Risk
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Q1) Which of the following statements is true?
A) There should be a positive relationship between domestic money supply growth and the probability of rescheduling.
B) There should be a negative relationship between domestic money supply growth and the probability of rescheduling.
C) There should be no relationship between domestic money supply growth and the probability of rescheduling.
D) The relationship between domestic money supply growth and the probability of rescheduling depends on a set of variables relating to the borrowing country.
Q2) Debt repudiation is the:
A) outright cancellation of all current debt obligations by a borrower.
B) outright cancellation of all future debt obligations by a borrower.
C) outright cancellation of all current and future debt obligations by a borrower.
D) changing of the contractual terms of all current debt obligations by a borrower.
Q3) What are the major advantages and disadvantages of using scoring models to assess country risk?
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14
Chapter 13: Foreign Exchange Risk
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Q1) Which of the following is not a source of foreign exchange risk?
A) Trading foreign currencies.
B) Making domestic-currency loans to foreign corporations.
C) Buying foreign-issued securities.
D) Issuing foreign currency-denominated debt.
Q2) The interest rate parity theorem implies that while interest rates are hedged, the dollar return on foreign investments can be above or below the return on domestic investments.
A)True
B)False
Q3) Which of the following statements is true for an FI that holds 200 000 in assets and 150 000 in liabilities?
A) The FI is in a net long position.
B) The FI has net foreign assets of 50 000.
C) The FI faces the risk that the euro will fall in value against domestic currency.
D) All of the listed options are correct.
Q4) Explain how forward contracts can be used to hedge an FI's FX exposures.
Q5) Explain the concept of the interest rate parity theorem (IRPT) and its implications for FIs?
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Chapter 14: Liquidity Risk
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Sample Questions
Q1) Australia has recently developed a market for deposit insurance guarantee that protects deposit accounts.
A)True
B)False
Q2) An investment fund that sells a fixed number of shares in the fund to outside investors is called:
A) open-end fund.
B) closed-end fund.
C) fixed fund.
D) fixed number fund.
Q3) Contingent liquidity needs refers to the liquidity needs necessary to:
A) fund contingent assets.
B) fund assets.
C) meet an unforeseen event.
D) meet a foreseen event.
Q4) Net deposit drains refer to the amount by which cash withdrawals:
A) are less than additions-this is a cash outflow.
B) are less than additions-this is a cash inflow.
C) exceed additions-this is a cash outflow.
D) exceed additions-this is a cash inflow.
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Chapter 15: Liability and Liquidity Management
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Q1) NCDs are short-term, fixed-term deposits and are known as wholesale CDs, which have a face value of below $100 000.
A)True
B)False
Q2) Regulators seek to provide depositor protection to depositors than other FI creditors because deposits are:
A) a critical part of the financial system as they facilitate economic transactions.
B) the main source of funding for banks.
C) the primary form of savings for individuals and loss of deposits causes significant hardship for depositors.
D) All of the listed options are correct.
Q3) Funding costs generally are positively related to the period of time the liability remains on the balance sheet.
A)True
B)False
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Chapter 16: Off-Balance-Sheet Activities
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Q1) Which of the following are included in commitments and non-market related items?
A) direct credit substitutes and trade performance related items
B) swaps and options.
C) future contracts.
D) None of the listed options are correct.
Q2) As compared to LCs, SLCs typically are used to cover contingencies that potentially are more severe and which may not be trade related.
A)True
B)False
Q3) The 'face value of an OBS item' is also referred to as the notional value.
A)True
B)False
Q4) An Adverse material changes in conditions clause is included in loan commitments to protect the FI against:
A) funding risk.
B) interest rate risk.
C) takedown risk.
D) credit risk.
Q5) Briefly explain how off-balance-sheet transactions can affect an FI's solvency.
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Chapter 17: Technology and Other Operational Risk
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Q1) How can operating income of an FI be increased by improved technological efficiency?
A) By improving the efficiency of management of information flows.
B) By obtaining access to low cost sources of funds.
C) By linking services to the quality of the FI's technology.
D) By innovating new interest earning products.
Q2) According to KPMG there has been a decline in the number of credit cards on issue, while there was no slow-down in transaction activity.
A)True
B)False
Q3) Distinguish between diseconomies of scale and diseconomies of scope. How could they occur?
Q4) Daylight overdrafts occur when:
A) FIs in different time zones clear transactions.
B) FI debits exceed credits during the day.
C) FI credits exceed debits during the day.
D) the sum of all debits transmitted over the system exceeds the sum of all credits during the day.
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Chapter 18: Capital Management and Adequacy
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Q1) Which of the following statements is true?
A) The Basel Accord imposes minimum earnings ratios on banks in major industrialised countries.
B) The Basel Accord imposes maximum asset values on banks in major industrialised countries.
C) The Basel Accord imposes minimum liability values on banks in major industrialised countries.
D) The Basel Accord imposes risk-based capital ratios on banks in major industrialised countries.
Q2) Consider an FI with the following off-balance-sheet items: A two-year loan commitment with a face value of $120 million, a standby letter of credit with a face value of $20m and trade-related letters of credit with a face value of $70 million. What is the total credit equivalent amount?
A) $63 million
B) $94 million
C) $105 million
D) $310 million
Q3) Identify the main functions of an FI's capital and differentiate between Tier 1 and Tier 2 capital.
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Page 20