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zFundamentals of Corporate Finance > Chapter 21 > Flashcards

Chapter 21 Flashcards

1
Q

Assume that $1 is equal to Y98 and also equal to C$1.21. Based on this, you could say that C$1 is equal to: C$1(Y98/C$1.21) = Y80.99 is referred to as the:

A. open exchange rate
B. cross-rate
C. backward rate
D. forward rate
E. interest rate
A

B. cross rate

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2
Q

International bonds issued in multiple countries but denominated solely in the issuer’s currency are called:

A. Treasury bonds
B. Bulldog bonds
C. Eurobonds
D. Yankee bonds
E. Samurai bonds
A

C. Eurobonds

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3
Q

U.S. dollars deposited in a bank in Switzerland are called:

A. foreign depository receipts
B. international exchange certificates
C. francs
D. Eurocurrency
E. Eurodollars
A

D. Eurocurrency

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4
Q

International bonds issued in a single country and denominated in that country’s currency are called:

A. Treasury bonds
B. Eurobonds
C. gilts
D. Brady bonds
E. foreign bonds
A

E. foreign bonds

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5
Q

You would like to purchase a security that is issued by the British government. Which one of the following should you purchase?

A. Samurai bond
B. kronor
C. Euro
D. LIBOR
E. gilt
A

E. gilt

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6
Q

On Friday evening, Bank A loans Bank B Eurodollars that must be repaid the following Monday morning. Which one of the following is most likely the interest rate that will be charged on this loan?

A. Eurodollar yield to maturity
B. London Interbank Offer Rate
C. Paris Opening Interest Rate
D. United States Treasury bill rate
E. international prime rate
A

B. London Interbank Offer Rate

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7
Q

Party A has agreed to exchange $1 million U.S. dollars for $1.21 million Canadian dollars. What is this agreement called?

A. gilt
B. LIBOR
C. SWIFT
D. Yankee agreements
E. swap
A

E. swap

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8
Q

A large U.S. company has f500,000 in excess cash from its foreign operations. The company would like to exchange these funds for U.S. dollars. In one of the following markets can this exchange be arranged?

A. ADR
B. national registry
C. National Discount Window
D. Foreign Exchange Market
E. Eurobond market
A

D. foreign exchange market

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9
Q

The price of one Euro is expressed in U.S. dollars is referred to as a(n):

A. ADR rate
B. cross inflation rate
C. depository rate
D. exchange rate
E. foreign interest rate
A

D. exchange rate

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10
Q

Trader A has agreed to give 100,000 U.S. dollars to Trader B in exchange for British pounds based on today exchange rate of $1 = f0.62. The traders agree to settle this trade within two business day. What is this exchange called?

A. swap
B. option trade
C. futures trade
D. forward trade
E. spot trade
A

E. spot trade

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11
Q

George and Pat just made an agreement to exchange currencies based on today’s exchange rate. Settlement will occur tomorrow. Which one of the following is the exchange rate that applies to this agreement?

A. spot exchange rate
B. forward exchange rate
C. triangle rate
D. cross rate
E. current rate
A

A. spot exchange rate

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12
Q

A trader has just agreed to exchange $2 million U.S. dollars for $1.55 million Euros six months from today. This exchange is an example of a:

A. spot trade
B. forward trade
C. currency swap
D. floating swap
E. triangle arbitrage
A

B. forward trade

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13
Q

Mr. Black has agreed to a currency exchange with Mr. White. The parties have agreed to exchange C$12,500 for $10,000 with the exchange occurring 4 months from now. This agreed-upon exchange rate is called the:

A. spot rate
B. swap rate
C. forward rate
D. parity rate
E. triangle rate
A

C. forward rate

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14
Q

Assume that an item costs $100 in the U.S. and the exchange rate between the U.S. and Canada is: $1 = C$1.27. Which one of the following concepts supports the idea that the item that sells for $100 in the U.S. is currently selling in Canada for $127?

A. unbiased forward rates condition
B. uncovered interest rate parity
C. international Fisher effect
D. purchasing power parity
E. interest rate parity
A

D. purchasing power parity

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15
Q

The condition stating that the interest rate differential between two countries is equal to the percentage difference between the forward exchange rate and the spot exchange rate is called:

A. the unbiased forward rates condition
B. uncovered interest rate parity
C. the international Fisher effect
D. purchasing power parity
E. interest rate parity
A

E. interest rate parity

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16
Q

Which one of the following states that the current forward rate is an unbiased predictor of the future spot exchange rate?

A. unbiased forward rates
B. uncovered interest rate parity
C. international Fisher effect
D. purchasing power parity
E. interest rate parity
A

A. unbiased forward rates

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17
Q

Which one of the following states that the expected percentage change in the exchange rate between two countries is equal to the difference in the countries’ interest rates?

A. unbiased forward rates condition
B. uncovered interest parity
C. international Fisher effect
D. purchasing power parity
E. interest rate parity
A

B. uncovered interest parity

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18
Q

Which of the following supports the idea that real interest rates are equal across countries?

A. unbiased forward rates condition
B. uncovered interest rate parity
C. international Fisher effect
D. purchasing power parity
E. interest rate parity
A

C. international Fisher effect

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19
Q

Which one of the following is the risk that a firm faces when it opens a facility in a foreign country, given that the exchange rate between the firm’s home country and this foreign country fluctuates over time?

A. international risk
B. diversifiable risk
C. purchasing power risk
D. exchange rate risk
E. political risk
A

D. exchange rate risk

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20
Q

The market value of the Blackwell Corporation just declined by 5 percent. Analysts believe this decrease in value was caused by recent legislation passed by Congress. Which type of risk does this illustrate?

A. international risk
B. diversifiable risk
C. purchasing power risk
D. exchange rate risk
E. political risk
A

E. political risk

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21
Q

Where does most of the trading in Eurobonds occur?

A. Munich
B. Frankfurt
C. London
D. New York
E. Paris
A

C. London

22
Q

Which one of the following names matches the country where the bond is issued?

A. Empire: United Kingdom
B. Western: United States
C. Samurai: China
D. Bulldog: France
E. Rembrandt: Netherlands
A

E. Rembrandt: Netherlands

23
Q

The LIBOR is primarily used as the basis for the rate charged on:

A. short-term debt in the Lisbon market
B. mortgage loans in the Lisbon market
C. Eurodollar loans in the London market
D. U.S. federal funds
E. interbank loans in the U.S.
A

C. Eurodollar loans in the London market

24
Q

A basic interest rate swap generally involves trading a:

A. short-term rate for a long-term rate
B. foreign rate for a domestic rate
C. government rate for a corporate rate
D. fixed rate for a variable rate
E. taxable rate for a tax-exempt rate
A

D. fixed rate for a variable rate

25
Q

Which one of the following statements is correct concerning the foreign exchange market?

A. The trading floor of the foreign exchange market is located in London, England
B. The foreign exchange market is the world’s second largest financial market
C. The four primary currencies that are traded in foreign exchange market are U.S. dollar, the British pound, the French franc, and the Euro.
D. Importers, exporters, and speculators are key players in the foreign exchange market
E. The U.S. created a communications network called SWIFT to facilitate currency trading

A

D. Importers, exporters, and speculators are key players in the foreign exchange market.

26
Q

Triangle arbitrage:
I. is a profitable situation involving three separate currency exchange transactions
II. helps keep the currency market in equilibrium
III. opportunities can exist in either the spot or the forward market
IV. is based solely on differences in exchange ratios between spot and futures markets

A. I and IV only
B. II and III only
C. I, II, and III only
D. II, III, and IV only
E. I, II, III, and IV
A

C. I, II, and III only

27
Q

Spot trades must be settled:

A. at the time of the trade
B. on the day following the trade date
C. within two business days
D. within three business days
E. within one week of the trade date
A

C. within two business days

28
Q

Assume the euro is selling in the spot market for $1.33. Simultaneously, in the 3-month forward market the euro is selling for $1.35. Which one of the following statements correctly describes this situation?

A. The spot market is out of equilibrium
B. The forward market is out of equilibrium
C. The dollar is selling at a premium relative to the euro
D. The euro is selling at a premium relative to the dollar
E. The euro is expected to depreciate in value

A

D. The euro is selling at a premium relative to the dollar

29
Q

Which one of the following formulas expresses the absolute purchasing power parity relationship between the U.S. dollar and the British pound?

A. S0 = Puk x Pus
B. Pus = F1 x Puk
C. Puk = S0 x Pus
D. Ft = Pus x Puk
E. S0 x Ft = Puk x Pus
A

C. Puk = S0 x Pus

30
Q 
Which one of the following conditions are required for absolute purchasing power parity to exist?
I. goods must be identical
II. goods must have equal economic value
III. transaction costs must be zero
IV. there can be no barriers to trade
A. I and III only
B. II and IV only
C. I, III, and IV only
D. I, II, and III only
E. I, II, III, and IV
A

E. I, II, III, and IV

31
Q

Absolute purchasing power parity is most apt to exist for which of the following items?

A. lumber
B. computer
C. silver
D. automobile
E. cell phone
A

C. silver

32
Q

Relative purchasing power parity:

A. states that identical items should cost the same regardless of the currency used to make the purchase
B. relates differences in inflation rates to differences in exchange rates
C. compares the real rate of return to the nominal rate of return
D. explains the differences in real rates across national boundaries
E. relates future exchange rates to current spot rates

A

B. relates differences in inflation rates to differences in exchange rates

33
Q

Which one of the following formulas correctly describes the relative purchasing power parity relationship?

A. E(St) = S0 x [1 + (hFC - hUS)]^t
B. E(St) = S0 x [1 - (hFC - hUS)]^t
C. E(St) = S0 x [1 + (hUS + hFC)]^t
D. E(St) = S0 x [1 - (hUS - hFC)]^t
E. E(St) = S0 x [1 + (hUS - hFC)]^t
A

A. E(St) = S0 x [1 + (hFC - hUS)]^t

34
Q

Which one of the following statements is correct given the following exchange rates?

                          (U.S. $ per 1 foreign unit) Country:                Fri:                    Thu: South Africa          0.1028              0.1023 Thailand                0.0294              0.0286

A. On Thursday, one U.S. dollar was equal to 0.1023 South African rand
B. On Friday, one Thai baht was equal to $35.21
C. Both the South African rand and the Thai baht appreciated against the U.S. dollar from Thursday to Friday
D. The South African rand appreciated from Thursday to Friday against the U.S. dollar
E. The U.S. dollar depreciated from Thursday to Friday against the Thai baht

A

D. the South African rand appreciated from Thursday to Friday against the U.S. dollar

35
Q

Which one of the following variables used in the covered interest arbitrage formula are correctly defined?
I. RFC: Foreign country nominal risk-free interest rate
II. Rus: U.S. real risk-free interest rate
III. F1: 360-forward rate
IV. S0: Current spot rate expressed in units of foreign currency per one U.S. dollar

A. I and II only
B. III and IV only
C. I, III, and IV only
D. II, III, and IV only
E. I, II, III, and IV
A

C. I, III, and IV only

36
Q

Interest rate parity:

A. eliminates covered interest arbitrage opportunities
B. exists when spot rates are equal for multiple countries
C. means the nominal risk-free rate of return must be the same across countries
D. exists when the spot rate is equal to the futures rate
E. eliminates exchange rate fluctuations

A

A. eliminates covered interest arbitrage opportunities

37
Q

The interest rate parity association approximation formula is:

A. F1 = S0 x [1 + (RFC + Rus)]^t
B. F1 = S0 x [1 - (RFC - Rus)]^t
C. F1 = S0 x [1 + (RFC - Rus)]^t
D. F1 = S0 x [1 + (RFC x Rus)]^t
E. F1 = S0 x [1 - (RFC + Rus)]^t
A

C. F1 = S0 x [1 + (RFC - Rus)]^t

38
Q

The unbiased forward rate is:

A. condition where a future spot rate is equal to the current spot rate
B. guarantee of a future spot rate at one point in time
C. condition where the spot rate is expected to remain constant over a period of time
D. relationship between the future spot rate of two currencies at an equivalent point in time
E. predictor of the future spot rate at the equivalent point in time

A

E. predictor of the future spot rate at the equivalent point in time

39
Q

The forward rate market is dependent upon:

A. current forward rates exceeding current spot rates
B. current spot rates exceeding current forward rates over time
C. current spot rates equaling current forward rates, on average, over time
D. forward rates equaling the actual future spot rates on average over time
E. current spot rates equaling the actual future spot rates on average over time

A

D. forward rates equaling the actual future spot rates on average over time

40
Q

Uncovered interest parity is defined as:

A. E(St) = S0 x [1 + (hFC - hUS)]^t
B. E(St) = S0 x [1 + (RFC - Rus)]^t
C. E(St) = S0 x [1 - (RFC - Rus)]^t
D. E(St) = S0 x [1 + (Rus - RFC)]^t
E. E(St) = S0 x [1 + (RFC + Rus)]^t
A

B. E(St) = S0 x [1 + (RFC - Rus)]^t

41
Q

The international Fisher effect states that __________ rates are equal across countries.

A. spot
B. one-year future
C. nominal
D. inflation
E. real
A

E. real

42
Q

The home currency approach:

A. discounts all of a project’s foreign cash flows using the current spot rate
B. employs uncovered interest parity to project future exchange rates
C. computes the net present value (NPV) of a project in the foreign currency and then converts that NPV into U.S. dollars
D. utilizes the international Fisher effect to compute the NPV of foreign cash flows in the foreign currency
E. utilizes the international Fisher effect to compute the relevant exchange rates needed to compute the NPV of foreign cash flows in U.S. dollars

A

B. employs uncovered interest parity to project future exchange rates

43
Q

The home currency approach:

A. generally produces more reliable results than those found using the foreign currency approach
B. requires an applicable exchange rate for every time period for which there is a cash flow
C. uses the current risk-free nominal rate to discount all cash flows related to a project
D. stresses the use of the real estate of return to compute the net present value (NPV) of a project
E. converts a foreign denominated NPV into a dollar denominated NPV

A

B. requires an applicable exchange rate for every time period for which there is a cash flow

44
Q

The foreign currency approach to capital budgeting analysis:
I. is computationally easier to use than the home currency approach
II. produces the same results as the home currency approach
III. requires an exchange rate for each time period for which there is a cash flow
IV. computes the NPV of a project in both the foreign and the domestic currency

A. I and III only
B. II and IV only
C. I, II, and IV only
D. II, III, and IV only
E. I, II, III, and IV
A

C. I, II, and IV only

45
Q

Which one of the following is a suggested method of reducing a U.S. importer’s short-run exposure to exchange rate risk?

A. entering a forward exchange rate agreement timed to match the invoice date
B. investing U.S. dollars when an order is placed and using the investment proceeds to pay the invoice
C. exchanging funds on the spot market at the time an order is placed with a foreign supplier
D. exchanging funds on the spot market at the time an order is received
E. exchanging funds on the spot market at the time and invoice is payable

A

A. entering a forward exchange rate agreement timed to match the invoice date

46
Q

Long-run exposure to exchange rate risk relates to:

A. daily variations in exchange rates
B. variances between spot and future rates
C. unexpected changes in relative economic conditions
D. differences between future spot rates and related forward rates
E. accounting gains and losses created by fluctuating exchange rates

A

C. unexpected changes in relative economic conditions

47
Q

The type of exchange rate risk know as translation exposure is best described as:

A. the risk that a positive net present value (NPV) project could turn into a negative NPV project because of changes in the exchange rate between two countries
B. the problem encountered by an accountant of an international firm who is trying to record balance sheet account values
C. the fluctuation in prices faced by importers of foreign goods
D. the variance in relative pay rates based on the currency used to pay an employee
E. the variance between the revenue of an exporter who uses forward rates and an equivalent exporter who does not use forward rates

A

B. the problem encountered by an accountant of an international firm who is trying to record balance sheet account values

48
Q

Which of the following statements are correct?
I. The usage of forward rates increases the short-run exposure to exchange rate risk
II. Accounting translation gains and losses are recorded in the equity section of the balance sheet
III. The long-run exchange rate risk faced by an international firm can be reduced if a firm borrows money in the foreign country where the firm has operations
IV. Unexpected changes in economic conditions are classified as short-run exposure to exchange rate risk

A. I and III only
B. II and III only
C. I, II, and III only
D. II, III, and IV only
E. I, III, and IV only
A

B. II and III only

49
Q

Which one of the following types of operations would be subject to the most political risk?

A. accounting and payroll functions
B. partial assembly of components manufactured in the firm’s home country
C. military weapons manufacturing
D. packing materials manufacturing for use by the home country firm
E. production of minor parts, such as nuts and bolts, for use by the home country firm

A

C. military weapons manufacturing

50
Q

Which one of the following securities is used as a means of investing in a foreign stock that otherwise could not be traded in the United States?

A. American Depository Receipt
B. Yankee Bond
C. Yankee Stock
D. LIBOR
E. gilt
A

A. American Depository Receipt

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