Financial Markets and Institutions
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Course Introduction
This course explores the structure, function, and operation of financial markets and institutions, emphasizing their roles in the global economy. Topics include the organization and regulation of financial markets, the characteristics of primary and secondary markets, the functions of banks and non-bank financial institutions, interest rate determination, risk management, and the impact of monetary policy. The course also examines recent trends, innovations, and challenges in the financial sector, equipping students with a comprehensive understanding of how financial markets and institutions facilitate investment, liquidity, and economic growth.
Recommended Textbook Financial Institutions Management A Risk Management Approach 8th Edition by Saunders
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Page 2
Chapter 1: Why Are Financial Institutions Special
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Sample Questions
Q1) Of the ten largest banks in the world at the beginning of 2012, how many were U.S. banks?
A)0.
B)1.
C)2.
D)4.
E)8.
Answer: B
Q2) In what year did housing prices begin to deteriorate leading to a jump in defaults in the subprime mortgage markets and the onset of the recent financial crisis?
A)2001.
B)2003.
C)2006.
D)2008.
E)2010.
Answer: C
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Page 3
Chapter 2: Financial Services: Depository Institutions
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Sample Questions
Q1) According to the American Bankers Association, the tax-exempt status of credit unions is the equivalent of a $1 billion per-year subsidy to the industry.
A)True
B)False
Answer: True
Q2) Prior to the financial crisis of 2008, the return on equity for small community banks had been larger than for large money center banks.
A)True
B)False
Answer: False
Q3) Large banks tend to make business decisions based on personal knowledge of customers creditworthiness and business conditions in the local communities.
A)True
B)False
Answer: False
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Chapter 3: Financial Services: Finance Companies
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Sample Questions
Q1) Which of the following is NOT a type of finance company?
A)Sales finance institutions.
B)Personal credit institutions.
C)Business credit institutions.
D)Captive finance company.
E)All of the above are types of finance companies.
Answer: E
Q2) Finance companies that prey on desperate higher-risk customers charging unfairly exorbitant interest rates are referred to as
A)refinancing companies.
B)captive companies.
C)business credit companies.
D)loan shark companies.
E)personal credit companies.
Answer: D
Q3) A finance company that lends money to high risk customers is known as a subprime lender.
A)True
B)False Answer: True
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Chapter 4: Financial Services: Securities Brokerage and Investment Banking
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Sample Questions
Q1) Which of the following is NOT a back-office service function in the securities industry?
A)Correspondent banking services.
B)Escrow services.
C)Clearance of securities transactions.
D)Research services.
E)Services related to settlement of securities transactions.
Q2) Investment banks engage in activities such as advising on mergers, acquisitions, and corporate restructuring.
A)True
B)False
Q3) Which of the following is most typical of broker-dealers?
A)They assist in underwriting of new securities.
B)They assist in trading of existing securities.
C)They assist in issuing new securities.
D)They assist in underwriting and distribution of new securities.
E)All of the above.
Q4) As of 2012, there were over 4,900 securities firms in operation.
A)True
B)False
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Chapter 5: Financial Services: Mutual Funds and Hedge Funds
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Sample Questions
Q1) Requires a mutual fund to set rules and procedures regarding the fund's prospectus sent to investors.
A)Securities Act of 1933
B)Securities Exchange Act of 1934
C)Investment Advisers Act
D)Investment Company Act
E)Insider Trading and Securities Fraud Enforcement Act of 1988
F)Market Reform Act of 1990
G)National Securities Markets Improvement Act of 1996
Q2) One of the goals of mutual funds is to achieve superior diversification through fund and risk pooling compared to what individual investors can achieve.
A)True
B)False
Q3) Mutual funds achieve economies of scale for individual investors by realizing the benefits of lower transaction costs and commissions as compared to those incurred by individual investors.
A)True
B)False
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Chapter 6: Financial Services: Insurance
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Sample Questions
Q1) In general, maximum levels of losses in the property-casualty industry are more predictable for liability lines than for property lines.
A)True
B)False
Q2) Life insurance companies also manage private pension plans that may include guaranteed investment contracts (GICs).
A)True
B)False
Q3) An insurance policy in which fixed premium payments are invested in mutual funds of stocks, bonds, and money market instruments is called A)term life.
B)universal life.
C)whole life.
D)endowment life.
E)variable life.
Q4) As of 2011, ordinary life accounted for approximately 80% of policies in force. A)True
B)False
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Page 8
Chapter 7: Risks of Financial Institutions
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Sample Questions
Q1) What is the net interest income in dollars if the spot prices at the end of the year are
$1.50/£ and 1.65/$?
A)$46,060.61.
B)$320,000.
C)$1,200,000.
D)$266,666.67.
E)$720,000.
Q2) With regard to market value risk, rising interest rates
A)increase the value of fixed rate liabilities.
B)increase the value of fixed rate assets.
C)increase the value of variable-rate assets.
D)decrease the value of fixed rate liabilities.
E)decrease the value of variable-rate assets.
Q3) The risk that many depositors withdraw their funds from an FI at once is
A)credit risk.
B)sovereign risk.
C)currency risk.
D)liquidity risk.
E)interest rate risk.
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Page 9
Chapter 8: Interest Rate Risk I
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Sample Questions
Q1) Which of the following describes the condition known as runoff in the repricing model approach to measuring interest rate risk of an FI?
A)Periodic cash flow of interest and principal amortization payments on long-term assets that can be reinvested at market rates.
B)The effect that a change in the spread between rates on RSAs and RSLs has on net interest income as interest rates change.
C)Mismatch of asset and liabilities within a maturity bucket.
D)The relations between changes in interest rates and changes in net interest income. E)Those deposits that act as an FI's long-term sources of funds.
Q2) What is the weighted average maturity of the assets of the FI?
A)2.0 years.
B)2.3 years.
C)2.5 years.
D)2.6 years.
E)3.0 years.
Q3) A bank with a negative repricing (or funding) gap faces refinancing risk.
A)True
B)False
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Chapter 9: Interest Rate Risk II
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Sample Questions
Q1) Convexity is a desirable effect to a portfolio manager because it is easy to measure and price.
A)True
B)False
Q2) What is the duration of the commercial loans?
A)1.00 years.
B)2.00 years.
C)1.73 years.
D)1.91 years.
E)1.50 years.
Q3) All fixed-income assets exhibit convexity in their price-yield relationships.
A)True
B)False
Q4) The duration of a portfolio of assets can be found by calculating the book value weighted average of the durations of the individual assets.
A)True
B)False
Q5) Duration normally is less than the maturity for a fixed income asset.
A)True
B)False
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Chapter 10: Credit Risk: Individual Loan Risk
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Sample Questions
Q1) Adjustable rate mortgages have interest rates that adjust periodically according to the movement in some index.
A)True
B)False
Q2) If the fee income on this loan is 0.4 percent and the spread over the cost of funds to the bank is 1 percent, what is the expected income on this loan for the current year?
A)$40,000.
B)$100,000.
C)$140,000.
D)$180,000.
E)$280,000.
Q3) Unsecured debt is considered to be senior to secured debt.
A)True B)False
Q4) The traditional duration equation can be used to measure the capital at risk on the loan.
A)True
B)False
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Chapter 11: Credit Risk: Loan Portfolio and Concentration
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Sample Questions
Q1) Any model that seeks to estimate an efficient frontier for loans, and thus the optimal proportions in which to hold loans made to different borrowers, needs to determine and measure the
A)expected return on each loan to a borrower.
B)risk of each loan made to a borrower.
C)correlation of default risks between loans made to borrowers.
D)expected return of the entire loan portfolio
E)All of the above.
Q2) In the Moody's Analytics portfolio model, the risk of a loan measures
A)the product of the estimated loss given default and risk-free rate on a security of equivalent maturity.
B)annual all-in-spread minus the loss given default.
C)annual all-in-spread minus the expected default frequency.
D)the product of the expected default frequency and the estimated loss given default.
E)the volatility of the loan's default rate around its expected value times the amount lost given default.
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13
Chapter 12: Liquidity Risk
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Sample Questions
Q1) Insurance companies have had to deal with liability runs by policyholders.
A)True
B)False
Q2) In general, money center banks are exposed to less liquidity risk than smaller, regional banks.
A)True
B)False
Q3) An FI's most liquid asset is cash.
A)True
B)False
Q4) Which of the following is NOT used as a method of measuring liquidity risk?
A)Liquidity coverage ratio.
B)Liquidity index.
C)Financing gap and financing requirement.
D)Peer group ratio comparison.
E)Current ratio.
Q5) Liquid funds can be obtained by a DI through unlimited borrowing in the money or purchased funds markets.
A)True
B)False
Page 14
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Chapter 13: Foreign Exchange Risk
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Sample Questions
Q1) Directly matching foreign asset and liability books in the same FX currency will allow an FI to hedge or lock in a profit spread regardless of future changes in exchange rates.
A)True
B)False
Q2) At what one-year forward rate will the bank earn a 1 percent spread?
A) 1.7344/$.
B) 1.7418/$.
C) 1.7478/$.
D) 1.7750/$.
E) 1.7842/$.
Q3) What is the FI's net exposure in the Swiss franc?
A)+2,400.
B)+400.
C)-2,800.
D)-2,400.
E)+3,200.
Q4) Average daily turnover in the FX market has recently been over $4 trillion.
A)True B)False
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Chapter 14: Sovereign Risk
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Sample
Questions
Q1) Which of the following is NOT a reason why international loans are more likely to be rescheduled than international bonds?
A)Governments appear to view the social costs of default on bonds as less critical than on loans.
B)Many international loan contracts contain cross-default provisions that automatically put into default all loans by that country in the case of one default.
C)Banks receive no subsidization from major governments to make international loans.
D)Many international loan syndicates contain the same group of banks which increases the cohesiveness of loan renegotiations.
E)Renegotiation of loans is easier because there are fewer banks in loan syndication than there are bondholders in a debt offering.
Q2) In international finance, the variance of export revenue is based solely on the quantity of product available for export.
A)True
B)False
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Chapter 15: Market Risk
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Sample Questions
Q1) What is the 10-day VAR of Sumitomo's trading portfolio if the correlation among assets is assumed to be -1.0?
A)-$100,000.
B)-$316,228.
C)-$1,106,797.
D)-$1,204,161.
E)-$1,264,911.
Q2) What are the expected returns for securities Alpha and Beta, respectively (in millions)?
A)-$248 and +$248
B)+$248 and +$248
C)-$300 and +$400
D)+$300 and -$3,300
E)none of the above
Q3) As securitization of assets continues to expand, the management of market risk will become more important to FIs.
A)True
B)False
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17
Chapter 16: Off-Balance-Sheet Risk
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Sample Questions
Q1) The current market value or contingent claim value of OBS items overestimates their notional value.
A)True B)False
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) If the FI had contingent assets of $40 million and contingent liabilities of $160 million, calculate the stockholder's true net worth (ignore the option mentioned in previous question).
A)-$60 million.
B)$60 million.
C)$70 million.
D)-$160 million.
E)$190 million.
Q4) In the U.S., commercial banks are the only issuers of standby letters of credit.
A)True B)False
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Chapter 17: Technology and Other Operational Risks
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Sample Questions
Q1) Cross-market selling of financial products requires production of the products within the same branch or bank office.
A)True
B)False
Q2) Which of the following are the two basic approaches to analyzing the cost functions of FIs?
A)Basic indicator approach and standardized approach.
B)Standardized approach and advanced measurement approach.
C)Production approach and intermediation approach.
D)Basic indicator approach and advanced measurement approach.
E)Intermediation approach and advanced measurement approach.
Q3) Funds transferred on the Fedwire are settled immediately.
A)True
B)False
Q4) Which of the following is NOT a source of operational risk for an FI?
A)Capital assets.
B)Customer relationships.
C)Technology.
D)Employees.
E)Positive duration gap.
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Chapter 18: Liability and Liquidity Management
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Sample Questions
Q1) Suppose the minimum balance to earn interest was lowered from $500 to $300 and she now pays a service charge of 5 cents per check. Note that it costs the bank 10 cents to process each check. What is her annual gross interest return?
A)$53.75.
B)$54.63.
C)$52.06.
D)$51.54.
E)$55.37.
Q2) Holding small amounts of liquid assets could cause an FI to be unable to meet the claims of liability holders.
A)True
B)False
Q3) What is the average return earned (both explicit and implicit) by the account holder over the full year?
A)2.98 percent.
B)3.48 percent.
C)4.28 percent.
D)4.79 percent.
E)5.35 percent.
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Page 20
Chapter 19: Deposit Insurance and Other Liability
Guarantees
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Sample Questions
Q1) Which of the following is NOT a social welfare effect of bank runs?
A)Discipline of incompetent managers.
B)Negatively affecting the payments function of DIs.
C)Reduced availability of credit.
D)Potential decrease in the money supply.
E)Inability to perform intergenerational wealth transfers.
Q2) Moral hazard at FIs may
A)result when actions and consequences are separated.
B)occur when interest rates are very high and volatile.
C)occur when commodity prices are very high and volatile.
D)be a consequence of strict regulatory supervision.
E)be a consequence of an erosion of family values.
Q3) Moral hazard encourages the FI to take on more, rather than less, risk.
A)True
B)False
Q4) The initial risk-based deposit insurance program implemented on January 1, 1993 was based on capital adequacy and supervisory judgments involving asset quality, loan underwriting standards and other operating risks.
A)True
B)False
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Chapter 20: Capital Adequacy
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Sample Questions
Q1) What are, respectively, the credit equivalent value of the letters of credit, interest rate swaps, and FX contracts?
A)$10.0 million; $3.5 million; $5.0 million.
B)$50.0 million; $300 million; $50.0 million.
C)$5.0 million; $1.5 million; $5.0 million.
D)$10.0 million; $1.5 million; $5.0 million.
E)$5.0 million; $3.5 million; $5.0 million.
Q2) Under Basel II (2006), operational risk can be measured by four different approaches.
A)True B)False
Q3) One function of bank capital is to protect uninsured depositors, bondholders, and creditors in the event of insolvency and liquidation. A)True B)False
Q4) Under Basel III a depository institution's capital is divided into five categories. A)True B)False
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Page 22
Chapter 21: Product and Geographic Expansion
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Sample Questions
Q1) International expansion often produces revenue-risk diversification benefits for U.S. banks.
A)True
B)False
Q2) The safety and soundness of a holding company that has both a bank subsidiary and a securities affiliate can be enhanced over time by the product diversification benefits of a more stable earnings stream caused by having well-diversified financial services.
A)True
B)False
Q3) What is the market share of Bank 2?
A)12.5 percent.
B)37.5 percent.
C)25.0 percent.
D)62.5 percent.
E)50.0 percent.
Q4) The Glass-Steagall Act allowed commercial banks to underwrite new issues of Treasury securities.
A)True
B)False
Page 23
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Chapter 22: Futures and Forwards
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Sample Questions
Q1) A forward contract has only one payment cash flow that occurs at the time of delivery.
A)True
B)False
Q2) Which of the following is NOT true regarding hedge ratio?
A)When there is no basis risk hedge ratio is equal to one.
B)When h = 1, both spot and futures are expected to change together by the same absolute amount.
C)When h = 1, FX risk of the cash position should be hedged dollar for dollar by buying FX futures.
D)When basis risk is present, the spot and future exchange rates are expected to move imperfectly together.
E)The FI must sell a greater number of futures when there is basis risk than it has to when basis risk is absent.
Q3) A spot contract specifies deferred delivery and payment.
A)True
B)False
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Chapter 23: Options, Caps, Floors, and Collars
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Sample Questions
Q1) What should be the price of a three-year 5 percent floor if the current (spot) rates are also 6 percent? The face value is $5,000,000, and time periods are zero, one, and two.
A)$8,250.
B)$10,799.
C)$12,550.
D)$15,875.
E)$17,455.
Q2) If the manager buys a one-year option with an exercise price equal to the expected price of the bond in one year, what will be the exercise price of the option?
A)$84.00.
B)$85.99.
C)$86.21.
D)$85.74.
E)$85.96.
Q3) Futures options on bonds have interest rate futures contracts as the underlying asset.
A)True
B)False
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Chapter 24: Swaps
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Sample Questions
Q1) The notational value of swaps that are held by commercial banks as of 2012 was over $130 trillion.
A)True
B)False
Q2) If a US bank has variable-rate assets in US dollars and fixed-rate liabilities in Euros, the bank is exposed to
A)interest rate increases and an appreciation of the dollar.
B)interest rate declines and an appreciation of the dollar.
C)interest rate increases and a depreciation of the dollar.
D)interest rate declines and a depreciation of the dollar.
E)zero exposure to interest rate and exchange rate exposures.
Q3) Currency swaps can be designed to reduce foreign exchange risk.
A)True B)False
Q4) When compared to swap and option contracts, credit risk exposure is greatest with a futures contract.
A)True
B)False
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Chapter 25: Loan Sales
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Sample Questions
Q1) An originate-to-sell model when dealing with below investment grade companies is considered an attractive alternative for FIs, which have specialized credit monitoring skills, as compared with keeping the loans in their portfolio.
A)True
B)False
Q2) The traditional interbank loan sale market has been shrinking for which of the following reasons?
A)The barriers to nationwide banking have been largely removed through legislation.
B)Concerns about counterparty risk and moral hazard have increased.
C)The traditional correspondent banking relationships are slowly breaking down.
D)All of the above.
E)Only two of the above.
Q3) Highly leveraged transaction (HLT) loans typically are used to finance new fixed assets of an ongoing firm.
A)True
B)False
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Chapter 26: Securitization
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Sample Questions
Q1) Despite the complexity of measuring the risk of asset-backed securities, credit rating agencies continued to use their own measures to quantify risks involved.
A)True
B)False
Q2) Investors in a Structured Investment Vehicle (SIV) have no direct right to the cash flows on the underlying portfolio of the SIV.
A)True B)False
Q3) One cause of residential mortgage prepayment risk is the sale of the mortgaged property.
A)True
B)False
Q4) What is the first monthly payment on the Principal Only (PO) strip?
A)$3 million.
B)$421,928.
C)$250,000.
D)$299,775.
E)$171,928.
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