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business
financial markets institutions

Questions and Answers of Financial Markets Institutions

2. What is the most recent value of net income for Bank of America? How has this changed since 2010 as reported in Table 12–3 ?Go to the Bank of America’s Web site at www.bankofamerica.com . Find
3. From the most recent balance sheet and income statement, calculate the ROA, ROE, equity multiplier, profit margin, and asset utilization ratios. Which ratio has changed the most since 2010 as
Clarify the extent to which investment funds are exposed to liquidity risk? LO.1
Consider the extent to which insurance companies are exposed to liquidity risk? LO.1
Explain why abnormal deposit drains occur? LO.1
Examine the components of a liquidity plan? LO.1
Describe how depository institutions measure liquidity risk? LO.1
Define the two methods financial institutions use to manage liquidity risk? LO.1
Examine the extent to which finance companies are regulated? LO.1
Identify the major assets and liabilities held by finance companies? LO.1
Define the major types of finance companies? LO.1
Identify the main assets and liabilities held by credit unions? LO.1
Describe how credit unions are different from other depository institutions? LO.1
Discuss how savings institutions performed in the 2000s? LO.1
Know who regulates savings institution? LO.1
Identify the main assets and liabilities held by savings institutions? LO.1
Recognize the main regulators of property–casualty insurance companies? LO.1
Identify the main asset and liability items on property–casualty insurance company balance sheets? LO.1
Analyze the major lines of business performed by property–casualty insurance companies.? LO.1
Classify the major regulations governing life insurance companies? LO.1
Identify the major assets and liabilities of life insurance companies? LO.1
Review the four basic lines of business performed by life insurance companies? LO.1
Describe the two types of insurance companies? LO.1
Understand how the various risks faced by financial institutions are related? LO.1
Recognize that insolvency risk is a consequence of the other types of risk. LO.1
Describe the major risks faced by financial institutions. LO.1
Note that this technique also maximizes CDO arrangers’ profits by getting investors to buy CDO tranches that they would not purchase if they had an accurately measured value. LO.1
These investors ignored the fact that the ratings agencies are paid by the CDO arranger and that they have a bias in favor of a rating that is better than the real risk level. Unless CDO tranches
The FDIC does not make the risk-based deposit insurance premium to banks and thrifts sufficiently large to reflect this risk. LO.1
The PAC band is the range of constant prepayment speeds defined by a minimum and maximum under which the scheduled payments will remain unchanged. The minimum and maximum prepayment speeds are stated
Coupons may be paid monthly, quarterly, or semiannually. LO.1
As of 2016, the deposit insurance premium was 9 basis points for the highest quality banks (see Chapter 13). LO.1
At the end of 2016, outstanding mortgage pools were $7.88 trillion, with GNMA pools amounting to $1,732.0 billion; FNMA, $3,043.7 billion; FHLMC, $1,899.2 billion; and private pools and other,
Under current reserve requirement regulations (Regulation D, amended May 1986), bank loan sales with recourse are regarded as a liability and hence are subject to reserve requirements. The
However, if FIs primarily sell high-quality loans, the average quality of the remaining loans may actually decrease. LO.1
A fourth, but very small, market is that for Brady bonds. Brady bonds reflect programs under which the U.S. and other FIs have exchanged their dollar loans for dollar bonds issued by the relevant
What constitutes an HLT loan has often caused dispute. In October 1989, however, the three U.S. federal bank regulators adopted a definition of an HLT as a loan that (1) involves a buyout,
Who are the lead arrangers of secondary loan market trading and what percentage of the total market does each one possess? LO.1
What is the percentage of distressed versus par secondary loan market volume? LO.1
How has the dollar volume of secondary market loan market trading changed since 2016, as reported in Figure 24–1? LO.1
Calculate the value of (a) the mortgage pool and (b) the GNMA passthrough security in Problem 9 if market interest rates increase 50 basis points. Assume no prepayments. (LG 24-4) LO.1
What is the impact on GNMA pricing if a pass-through is not fully amortized? What is the present value of a $10 million pool of 15-year mortgages with an 8.5 percent per year monthly mortgage coupon
Can all assets and loans be securitized? Explain your answer. (LG 24-5) LO.1
Why do buyers of Class C tranches of collateralized mortgage obligations (CMOs) receive a lower return than purchasers of Class A tranches? (LG 24-4) LO.1
How do FIs use securitization to manage their interest rate, credit, and liquidity risks? (LG 24-4) LO.1
What are the differences between CMOs and MBBs? (LG 24-4) LO.1
What is a collateralized mortgage obligation (CMO)? How is it similar to a pass-through security? How does it differ? In what way does the page 737 creation of a CMO use market segmentation to
What is prepayment risk? How does prepayment risk affect the cash flow stream on a fully amortized mortgage loan? What are the two primary factors that cause early payment? (LG 24-4) LO.1
What specific changes occur on the balance sheet at the completion of the securitization process? What adjustments occur to the risk profile of the FI? (LG 24-4) LO.1
How do loan sales and securitization help an FI manage its interest rate and liquidity risk exposures? (LG 24-4) LO.1
What are the three levels of regulatory taxes faced by FIs when making loans? How does securitization reduce the levels of taxation?(LG 24-3) LO.1
In addition to managing credit risk, what are some other reasons for the sale of loans by FIs? (LG 24-3) LO.1
Who are the buyers and sellers of U.S. loans? Why do they participate in this activity? (LG 24-2) LO.1
What are highly leveraged transactions? What constitutes the federal regulatory definition of an HLT? (LG 24-2) LO.1
What is the difference between loan participations and loan assignments? (LG 24-2) LO.1
Why are yields higher on loan sales than they are for similar maturity and issue size commercial paper issues? (LG 24-2) LO.1
What are some of the key features of short-term loan sales? (LG 24-2) LO.1
What is the difference between loans sold with recourse and without recourse from the perspective of both sellers and buyers? (LG 24-1) LO.1
Why have FIs been very active in loan securitization issuance of passthrough securities while they have reduced their volume of loan sales?Under what circumstances would you expect loan sales to
As with loans, swap participants deal with the credit risk of counterparties by setting bilateral limits on the notional amount of swaps entered into (similar to credit rationing on loans) and
Total return swaps are typically structured so that the capital gain or loss is paid at the end of the swap. However, an alternative structure does exist in which the capital gain or loss is paid at
As with interest rate swaps, this exchange rate reflects the contracting parties’expectations as to future exchange rate movements. LO.1
More specifically, the default risk of a futures contract is less than that of a forward contract for at least four reasons: (1) daily marking to market of futures, (2) margin requirements on futures
This does not necessarily mean that options are less risky than spot or futures positions.Options can, in fact, be riskier than other investments since they exist for only a limited period of time
This might be the case when the FI is financing itself with long-term, fixed-rate certificates of deposit. LO.1
Notice that if rates move in an opposite direction from that expected, losses are incurred on the futures position—that is, if rates rise and futures prices drop, the long hedger loses.Similarly,
We assume that the balance sheet has no liability of equal size and maturity (or duration)as the CD. If the FI has such a liability, any loss in value from the CD could be offset with an equivalent
For simplicity, we ignore issues relating to convexity here (see Chapter 22). LO.1
Throughout the chapter we illustrate how derivative securities can be used to hedge interest rate risk. Derivatives are also used to hedge many other types of risks affecting FIs(e.g., foreign
Another difference between forwards and futures is that forward contracts are bilateral contracts subject to counterparty default risk, but the default risk on futures is significantly reduced by the
Throughout this chapter, as we refer to the prices of various securities, we do not include the transaction fees charged by brokers and dealers for conducting trades for investors and hedgers. LO.1
Corporate Bank has $840 million of assets with a duration of 12 years and liabilities worth $720 million with a duration of seven years.Assets and liabilities are yielding 7.56 percent. The bank is
An FI has a $100 million portfolio of six-year Eurodollar bonds that have an 8 percent coupon. The bonds are trading at par and have a duration of five years. The FI wishes to hedge the portfolio
Refer to Problem 12. How does consideration of basis risk change your answers? (LG 23-2)a. Compute the number of T-bond futures contracts required to construct a macrohedge if T-bond futures are
Consider the following balance sheet (in millions) for an FI: (LG 23-1, LG 23-2)Assets Liabilities Duration = 10 years $950 Duration = 2 years $860 Equity = 90a. What is the FI’s duration gap?b.
How would your answer for part (b) in Problem 9 change if the relationship of the price sensitivity of futures contracts to the price sensitivity of underlying bonds were [Δ Rf/ (1 + Rf)/ΔR/(1 +
Hedge Row Bank has the following balance sheet (in millions):Assets $150 Liabilities $135 Equity 15 Total $150 Total $150 The duration of the assets is six years and the duration of the liabilities
An FI holds a 15-year, $10,000,000 par value bond that is priced at 104 and yields 7 percent. The FI plans to sell the bond but for tax purposes must wait two months. The bond has a duration of 9.4
Answer the following. (LG 23-2, LG 23-3)a. What is the duration of a 20-year 8 percent coupon (paid semiannually) Treasury bond (deliverable against the Treasury bond futures contract) selling at
Bank 1 can issue five-year CDs at an annual rate of 11 percent fixed or at a variable rate of LIBOR + 2 percent. Bank 2 can issue five-year CDs at an annual fixed rate of 13 percent or at a variable
A commercial bank has $200 million of floating-rate loans yielding the T-bill rate plus 2 percent. These loans are financed with $200 million of fixed-rate deposits costing 9 percent. A savings
An insurance company owns $50 million of floating-rate bonds yielding LIBOR plus 1 percent. These loans are financed with $50 million of fixed-rate guaranteed investment contracts (GICs) costing 10
Why is the credit risk on a swap lower than the credit risk on a loan?(LG 23-5) LO.1
How does a pure credit swap differ from a total return swap? (LG 23-5) LO.1
What is a total return swap? (LG 23-5) LO.1
Give two reasons why credit swaps have been the fastest-growing form of swaps in recent years. (LG 23-5) LO.1
Distinguish between a swap seller and a swap buyer. (LG 23-5) LO.1
Explain the similarity between a swap and a forward contract. (LG 23-6) LO.1
How can caps, floors, and collars be used to hedge interest rate risk?(LG 23-4) LO.1
In each of the following cases, identify what risk the manager of an FI faces and whether the risk should be hedged by buying a put or a call option. (LG 23-4)page 708a. A commercial bank plans to
How does hedging with options differ from hedging with forward or futures contracts? (LG 23-6) LO.1
Consider Table 23–3 again. (LG 23-4)a. What happens to the price of a call when:The exercise price increases?The time until expiration increases?b. What happens to the price of the put when these
Consider Table 23–3. What are the prices paid for the following futures options: (LG 23-4)a. December U.S. Treasury-bond calls at 17400.b. December 5-year Treasury puts at 12125.c. December
What is basis risk? What are the sources of basis risk? LG 23-2) LO.1
What are the differences between a microhedge and a macrohedge for an FI? Why is it generally more efficient for FIs to employ a macrohedge than a series of microhedges? (LG 23-3) LO.1
Suppose that you purchase a Treasury bond futures contract at $95 per$100 of face value. (LG 23-2)a. What is your obligation when you purchase this futures contract?b. If an FI purchases this
What is a naive hedge? How does a naive hedge protect an FI from risk? (LG 23-1)(1)(2) LO.1
What are some of the major differences between futures and forward contracts? (LG 23-1, LG 23-2) LO.1
In the presence of deposit insurance, the insurer, such as the FDIC, bears some of the depositors’ losses. For details, see Chapter 13. LO.1
Even allowing for convexity, there still may be a very small difference between the true change in the value of a bond and the value change predicted by the duration model adjusted for convexity.

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