Financial Systems and Markets
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Course Introduction
This course provides an in-depth exploration of the structure, functions, and dynamics of financial systems and markets. Students will examine the roles of financial institutions, intermediaries, and instruments within both domestic and global contexts. Emphasis is placed on how financial markets facilitate the allocation of resources, the role of central banks and regulatory bodies, and the impact of economic policies on market stability and efficiency. Through case studies and real-world examples, students will develop an understanding of key market mechanisms including interest rates, exchange rates, bond and equity markets, and derivative products, preparing them for careers in finance and related fields.
Recommended Textbook
Financial Markets and Institutions 12th Edition by Jeff Madura
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Chapter 1: Role of Financial Markets and Institutions
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Sample Questions
Q1) When a depository institution offers a loan, it is acting as a creditor.
A)True
B)False
Answer: True
Q2) Capital market securities are commonly issued in order to finance the purchase of assets such as buildings, equipment, or machinery.
A)True
B)False
Answer: True
Q3) If markets are ____, investors could use available information ignored by the market to earn abnormally high returns.
A) perfect
B) active
C) inefficient
D) in equilibrium
Answer: C
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Page 3
Chapter 2: Determination of Interest Rates
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Sample Questions
Q1) If investors shift funds from stocks into bank deposits, this ____ the supply of loanable funds and places ____ pressure on interest rates.
A) increases; upward
B) increases; downward C) decreases; downward
D) decreases; upward
Answer: B
Q2) A ____ federal government deficit increases the quantity of loanable funds demanded at any prevailing interest rate, causing an ____ shift in the demand schedule.
A) higher; inward
B) higher; outward
C) lower; outward
D) none of the above
Answer: B
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Chapter 3: Structure of Interest Rates
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Sample Questions
Q1) The yield offered on a debt security is related to the prevailing risk-free rate and related to the security's risk premium.
A) negatively; negatively
B) positively; positively
C) negatively; positively
D) positively; negatively
Answer: B
Q2) If research showed that all investors attempt to purchase securities that perfectly match the time for which they will have available funds, this would specifically support the argument madebythe
A) liquidity premium theory.
B) real interest rate theory.
C) expectations theory.
D) segmented markets theory.
Answer: D
Q3) Treasury securities are exempt from federal and state income taxes.
A)True
B)False
Answer: False
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Page 5
Chapter 4: Functions of the Fed
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Sample Questions
Q1) When the Fed buys Treasury bills as a means of increasing the money supply, it places ____ pressure on their prices and ____ pressure on their yields.
A) upward; upward
B) downward; downward
C) upward; downward
D) downward; upward
Q2) Credit may be used for any purpose and is available only to depository institutions that meet specific requirements for financial soundness.
A) Primary
B) Secondary
C) Tertiary
D) None of the above
Q3) To increase the money supply, the Fed may increase the reserve requirement ratio.
A)True
B)False
Q4) Most of the Fed's income is transferred to the U.S. Department of Justice.
A)True
B)False
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Chapter 5: Monetary Policy
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Sample Questions
Q1) Which of the following might be monitored as an indicator of inflation?
A) consumer price index
B) gold prices
C) oil prices
D) All of the above may be indicators of inflation.
Q2) To correct excessive inflation, the Fed could use open market operations by buying Treasury securities in the secondary market.
A)True
B)False
Q3) When the Fed uses open market operations to sell some of its Treasury securities, there will be
A) an outward shift in the supply schedule of loanable funds.
B) an inward shift in the supply schedule of loanable funds.
C) no shift in the supply schedule of loanable funds.
D) an outward shift in the demand schedule for loanable funds.
Q4) According to the theory of rational expectations, higher inflationary expectations encourage businesses and households to reduce their demand for loanable funds.
A)True
B)False
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Chapter 6: Money Markets
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Sample Questions
Q1) At a given point in time, the actual price paid for a three-month Treasury bill is A) usually equal to the par value.
B) more than the price paid for a six-month Treasury bill.
C) equal to the price paid for a six-month Treasury bill.
D) none of the above
Q2) When an investor purchases a six-month (182-day) T-bill with a $10,000 par value for $9,700, the Treasury bill discount is ____ percent.
A) 5.93
B) 6.12
C) 6.2
D) 6.02
E) none of the above
Q3) The yield on commercial paper is ____ the yield of Treasury bills of the same maturity. The difference between their yields would be especially large during a ____ period.
A) higher than; recessionary
B) higher than; boom economy
C) less than; boom economy
D) less than; recessionary
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Page 8
Chapter 7: Bond Markets
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Sample Questions
Q1) Devin, 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 returnof ____ percent.
A) 12
B) 9
C) 10.5
D) more information is needed to answer this question
Q2) 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 accounts, such as pension funds and individual retirement accounts.
E) All of the above are true.
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Chapter 8: Bond Valuation and Risk
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Sample Questions
Q1) 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
Q2) 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
Q3) The appropriate price of a bond is simply the sum of the cash flows to be received.
A)True
B)False
Q4) The value of ____-risk securities will be relatively ____.
A) high; high
B) high; low
C) low; low
D) none of the above
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Chapter 9: Mortgage Markets
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Sample Questions
Q1) The valuation of mortgage-backed securities is difficult because of limited transparency.
A)True
B)False
Q2) Mortgage lenders normally charge a higher initial interest rate on adjustable-rate mortgages than on fixed-rate mortgages.
A)True
B)False
Q3) Mortgage-backed securities are commonly contained within collateralized debt obligations.
A)True
B)False
Q4) Lehman Brothers commonly used _________ as collateral when borrowing short-term funds, but its funding was cut off because prospective creditors questioned the quality of the collateral.
A) commercial paper
B) Treasury securities
C) its stock
D) mortgages
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Chapter 10: Stock Offerings and Investor Monitoring
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Sample Questions
Q1) ____ are employed by brokerage firms and execute orders for clients on the NYSE.
A) Specialists
B) Commission brokers
C) Venture managers
D) Dealers
Q2) When a corporation makes a secondary offering, it may direct sales of the stock to its existing shareholders by giving them:
A) preemptive rights.
B) limit orders.
C) subscription rights.
D) presumptive rights.
Q3) The phrase "leaving money on the table" refers to investors paying more for a stock in the secondary market than was paid by those investors who were able to buy shares at the initial (offer)price on the IPO date.
A)True
B)False
Q4) Index-traded funds are passive funds that track a specific index.
A)True
B)False
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Chapter 11: Stock Valuation and Risk
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Sample Questions
Q1) Holding other factors constant, a stock portfolio has more volatility when its individual stock volatilities are ________ and its individual stock returns have _______ correlations.
A) high; low
B) low; high
C) low; low
D) high; high
Q2) The dividend discount model states that the price of a stock should reflect the present value of the stock's future dividends.
A)True
B)False
Q3) Steam Corp. has a beta of 1.5. The prevailing risk-free rate is 5 percent, and the annual market return in recent years has been 11 percent. Based on this information, the required rate of returnon Steam Corp. stock is ____ percent.
A) 21.5
B) 6.5
C) 16.5
D) 14
E) none of the above
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Page 13
Chapter 12: Market Microstructure and Strategies
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Sample Questions
Q1) Which of the following is incorrect in regard to short selling?
A) Naked short selling involves selling a stock short without first borrowing the stock.
B) During the credit crisis, the SEC temporarily protected more than 800 firms from short selling.
C) The SEC's uptick rule prevents speculators from taking a short position in stocks that have declined at least 15 percent for the day, except when the most trade resulted in an increase in the stock price.
D) During the credit crisis, some short sellers focused particularly on the stocks of financial institutions.
E) none of the above
Q2) The Division of ____ of the SEC assesses possible violations of SEC regulations and can take action against individuals or firms.
A) Corporate Finance
B) Enforcement
C) Administration
D) Market Regulation
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Chapter 13: Financial Futures Markets
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Sample Questions
Q1) Assume that corporate bond portfolio managers are concerned about the possibility of many bond defaults resulting from a future recession. A short position in Treasury bond futures ____ an effective hedge against the credit (default) risk. A short position in Treasury bill futures ____ an effective hedge against the credit (default) risk.
A) would be; would be B) would be; would not be C) would not be; would not be D) would not be; would be
Q2) If a financial institution expects that the market value of its municipal bonds will decline because of economic conditions, it could hedge its position by ____ futures contracts on ____.
A) purchasing; Treasury bonds
B) purchasing; the S&P 500 Index
C) purchasing; the Municipal Bond Index
D) selling; the Municipal Bond Index
Q3) Financial futures contracts on stock indexes are referred to as interest rate futures.
A)True
B)False
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Chapter 14: Options Markets
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Sample Questions
Q1) A call option is said to be at the money when the market price of the underlying security exceeds the exercise price.
A)True
B)False
Q2) Vince, a speculator, expects interest rates to increase and purchases a put option on Treasury bond futures with an exercise price of 95-32. The premium paid for the put option is 2-36. Justprior to the expiration date, the price of the Treasury bond futures contract is valued at 93-22. Vince exercises the option and closes out the position by purchasing an identical futures contract. Vince's net gain from this speculative strategy is $____.
A) -406.25
B) 4,718.75
C) -4,718.75
D) -812.50
E) none of the above
Q3) American-style stock options can be exercised only just before expiration.
A)True
B)False
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16
Chapter 15: Swap Markets
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Sample Questions
Q1) An advantage of a ____ over other interest rate swaps is that the fixed-rate payer has the flexibility to avoid exchanging future interest payments.
A) callable swap
B) putable swap
C) zero-coupon for floating swap
D) forward swap
Q2) Interest rate ____ are interest rate derivative instruments that are normally classified separately from interest rate swaps.
A) caps
B) floors
C) collars
D) all of the above
Q3) A firm is involved in an agreement whereby it receives payments in periods when a market interest rate rises above an interest rate level specified in the agreement. This means that the firmhas
A) purchased an interest rate cap.
B) sold an interest rate cap.
C) purchased an interest rate floor.
D) sold an interest rate floor.
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Page 17
Chapter 16: Foreign Exchange Derivative Markets
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Sample Questions
Q1) 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.
Q2) The indirect exchange rate specifies the value of the currency in U.S. dollars.
A)True
B)False
Q3) 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
Q4) The forward rate is the exchange rate for immediate delivery.
A)True
B)False
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Chapter 17: Commercial Bank Operations
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Sample Questions
Q1) 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.
Q2) 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
Q3) ____ loans are primarily used to finance the purchase of fixed assets.
A) Term
B) Working capital
C) Informal line of credit
D) Revolving credit
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19
Chapter 18: Bank Regulation
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Q1) Banks that are insured by the Federal Deposit Insurance Corporation (FDIC) are also regulated by the FDIC.
A)True
B)False
Q2) All state banks are required to be members of the Federal Reserve System.
A)True
B)False
Q3) 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
Q4) In making loans to a single customer, commercial banks ____ restricted to a maximum percentage of their capital, and they ____ 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
Page 20
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Chapter 19: Bank Management
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Sample Questions
Q1) 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
Q2) If a bank expects 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
Q3) 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
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Chapter 20: Bank Performance
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Sample Questions
Q1) Some banks that are experiencing serious financial problems may prefer to overstate their earnings in order to allow more time to correct their operations before the regulators force them toclose.
A)True
B)False
Q2) A bank with ____ management may account for ____ loan losses, which _____ reported earnings now.
A) conservative; smaller; reduces B) conservative; larger; reduces C) aggressive; larger; increases D) aggressive; smaller; has no effect on
Q3) Gross interest expenses of banks are normally higher in periods when market interest rates are higher
A)True
B)False
Q4) The value of a commercial bank can be modeled as the present value of its future cash flows.
A)True
B)False
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Chapter 21: Thrift Operations
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Sample Questions
Q1) The maximum insurance per depositor provided by the National Credit Union Share Insurance Fund is
A) $250,000.
B) $50,000.
C) $40,000.
D) $25,000.
Q2) An interest rate swap reduces the favorable impact of declining interest rates.
A)True
B)False
Q3) 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.
Q4) ____ risk is probably the least concern for savings institutions.
A) Liquidity
B) Exchange rate
C) Credit
D) Interest rate
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Chapter 22: Finance Company Operations
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Sample Questions
Q1) Finance companies participate in the ____ market to reduce interest rate risk.
A) money
B) bond
C) options
D) swap
Q2) A finance company's cash flows are _____ related to changes in economic growth and may be ____ related to changes in the risk-free rate.
A) positively; inversely B) inversely; positively C) inversely; inversely D) positively; positively
Q3) Unlike loans made by commercial banks, loans made by finance companies cannot be securitized (bundled together and sold as securities to investors).
A)True
B)False
Q4) The value of a finance company can be modeled as the present value of its future cash flows.
A)True
B)False
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Chapter 23: Mutual Fund Operations
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Sample Questions
Q1) 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
Q2) If money market fund managers 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)
Q3) 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
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Page 25
Chapter 24: Securities Operations
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Sample Questions
Q1) The ____ is not involved in the regulation of the securities industry.
A) Deposit Insurance Fund
B) Financial Industry Regulatory Authority
C) Securities and Exchange Commission
D) Federal Reserve Board
E) All of the above are involved in the regulation of the securities industry.
Q2) After a target firm is acquired, the acquirer may sell off divisions of the target that are not compatible with the acquirer's business. This process is known as
A) bridging.
B) asset stripping.
C) greenmail.
D) none of the above.
Q3) The ____ offers insurance on cash and securities deposited at brokerage firms.
A) Federal Reserve
B) New York Stock Exchange
C) Securities Investor Protection Corporation (SIPC)
D) Securities and Exchange Commission (SEC)
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Chapter 25: Insurance Operations
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Sample Questions
Q1) Policyholders who prefer to invest their savings themselves will likely opt for whole life insurance over term insurance.
A)True
B)False
Q2) ____ insurance covers losses due to dishonest employees.
A) Key employee
B) Credit line
C) Malpractice
D) Fidelity bond
Q3) Which type of life insurance policy does not build a cash value for policyholders?
A) whole life
B) term
C) universal life
D) All of the above build a cash value.
Q4) ____ is(are) not a typical source of funds for life insurance companies.
A) Deposit insurance premiums
B) Annuity plans
C) Investment income
D) Life and health insurance premiums
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Chapter 26: Pension Fund Operations
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Q1) Projective funding limits the manager's discretion, allowing only investments that match future payouts.
A)True
B)False
Q2) The government agency that guarantees that participants in defined-benefit plans will receive their benefits upon retirement is the:
A) Federal Pension Insurance Corporation.
B) Pension Benefit Guaranty Corporation.
C) Office of Pension Insurance.
D) Employee Pension Protection Bureau.
Q3) A ____ plan allows a firm to know with certainty the amount of funds to contribute. The ____ plan allows a firm to know with certainty the amount of benefits that must be provided.
A) defined-benefit; defined-benefit
B) defined-contribution; defined-contribution
C) defined-contribution; defined-benefit
D) defined-benefit; defined-contribution
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