Intermediaries Midterm 2 RVW

Question 1

In situations where asymmetric information problems are not severe, which market has a distinct cost advantage in providing short-term funds?

Answer 1

The money markets have a distinct cost advantage over banks in providing short-term funds.

Question 2

Why do corporations and the U.S. government sometimes need to get their hands on funds quickly?

Answer 2

Cash inflows and outflows are rarely synchronized.

Question 3

Which of the following are true statements about participants in the money markets? (3 Answers)

Answer 3

All of the above:
- Large banks participate by selling negotiable CDs
- U.S. government and corporations borrow due to cash inflow/outflow mismatches
- The Federal Reserve is the most influential participant.

Question 4

Commercial banks are large holders of what and major issuers of what?

Answer 4

Commercial banks are large holders of U.S. government securities and major issuers of negotiable certificates of deposit.

Question 5

How do finance companies raise funds in the money market?

Answer 5

By selling commercial paper.

Question 6

If your competitive bid for a Treasury bill is successful, then you will?

Answer 6

Probably pay more than if you had submitted a noncompetitive bid.

Question 7

Government securities dealers frequently engage in repos to? (3 Answers)

Answer 7

1.Manage liquidity, 2.take advantage of interest rate changes, and 3. lend/borrow short-term with collateralized loans.

Question 8

Commercial paper securities are issued by? (4 Answers)

Answer 8

1.Only the largest and most creditworthy corporations, 2.are unsecured, 3.have interest rates varying by risk, and 4. never exceed 270 days maturity.

Question 9

Money Markets instruments are? (4)

Answer 9

Short-term, low risk, highly liquid, and large denomination.

Question 10

Money market __________ were invented because market interest rates rose above the statutory deposit rate caps on bank deposits specified by Regulation Q.

Answer 10

Mutual funds.

Question 11

In a Treasury auction, a _________ bid is guaranteed to be filled at the High Rate, while a ___________ bid is only filled if their specified yield is lower than the High Rate.

Answer 11

Noncompetitive; competitive.

Question 12

_________ is an attractive way to borrow for high-quality corporations because the rate is lower than a bank loan, but this market is susceptible to __________ in times of crisis.

Answer 12

Commercial paper; rollover risk.

Question 13

(I) The primary issuers of capital market securities are financial institutions.
(II) The largest purchasers of capital market securities are corporations.

Answer 13

Both are false.

Question 14

Bonds are securities that?

Answer 14

Represent a debt owed by the issuer to the investor and obligate the issuer to pay a specified amount at a given date, generally without periodic interest payments.

Question 15

Treasury bonds are subject to ________ risk but are essentially free of ________ risk.

Answer 15

Interest-rate risk; default risk.

Question 16

(I) In most years, the rate of return on short-term Treasury bills is below that on the 20-year Treasury bond.
(II) Interest rates on Treasury bills are more volatile than rates on long-term Treasury securities.

Answer 16

Both are true.

Question 17

Typically, the interest rate on corporate bonds will be ________ the more restrictions are placed on management through restrictive covenants, because ________.

Answer 17

Lower; the bonds will be considered safer by buyers.

Question 18

Restrictive covenants can? (3)

Answer 18

Limit dividends, the issuance of additional debt, and restrict mergers.

Question 19

The current yield on a $6,000, 10 percent coupon bond selling for $5,000 is?

Answer 19

0.12

Question 20

Capital market instruments last _______________ one year while money market instruments last
________________ one year.

Answer 20

More, Less

Question 21

Of the major categories of fixed-income securities, ____________ have exhibited the largest increase over the past two decades, while _______________ have substantially decreased.

Answer 21

Treasury Bonds, Agency Securities and Money Market Securities (either answer)

Question 22

In STRIPS instruments, each principle and interest payment becomes its own tradable ____________ security.

Answer 22

Zero Coupon

Question 23

The two major types of municipal bonds are _________________________ bonds and
___________________ bonds

Answer 23

general purpose, project or revenue

Question 24

A ___________ bond has collateral. In the event that the borrower can’t pay, the lender takes
control of the collateral assets. Bonds of this type have _____________ yield than otherwise (lower/higher).

Answer 24

Secured, Lower

Question 25

A _____________ provision allows the issuer to repurchase the bond prior to maturity at a predetermined price. Bond of this type have _________________ yield than otherwise (lower/higher).

Answer 25

Call, Higher

Question 26

A ______________ bond can be swapped out for equity in the company. This can be advantageous when lending to startup companies with unestablished cashflows. Bonds of this type have ______________ yield than otherwise (lower/higher)

Answer 26

Convertible, Lower

Question 27

An ___________ covenant tells the borrower that they must do, such as maintaining an interest coverage ratio or providing audited financial statements, while a ___________ covenant tells the borrower that they can’t do, such as paying dividends or issuing new deb

Answer 27

Affirmative, Restrictive

Question 28

Which of the following are true of mortgage interest rates? (3 Answers

Answer 28

All of the above: - determined by current long-term market rates, the term length, and discount points - Mortgage interest rates correlate with Treasury bond rates - The interest rate on 15-year mortgages is lower than the rate on 30-year mortgages

Question 29

Which of the following is true of mortgage interest rates? (Two Answers)

Answer 29

Only A and B: Longer-term mortgages have higher interest rates than shorter-term mortgages; In exchange for points, lenders reduce interest rates on mortgage loans

Question 30

Which of the following is true of mortgage interest rates? (One Answer)

Answer 30

Longer-term mortgages have higher interest rates than shorter-term mortgages

Question 31

Which of the following terms are found in mortgage loan contracts to protect the lender from financial loss? (3)

Answer 31

All of the Above: Collateral, Down payment, Private mortgage insurance

Question 32

A borrower who qualifies for an FHA or VA loan enjoys the advantage that

Answer 32

only a very low or zero down payment is required

Question 33

(I) ARMs offer lower initial rates and the rate may fall during the life of the loan. (II) Conventional mortgages do not allow a borrower to take advantage of falling interest rates

Answer 33

I) is true, (II) is false

Question 34

Which of the following are useful for home buyers who expect their income to rise in the future?

Answer 34

Only A and C are useful: GPMs, GEMs

Question 35

Distinct elements of a mortgage loan include (2)

Answer 35

Only B and C: Investment, Servicing

Question 36

The mortgage market makes up over _________% of the total U.S. debt market, and single-family mortgages make up about _____________% of the mortgage market

Answer 36

20% to 30%, 70%

Question 37

Discount points typically cost the borrower _____________% of the loan amount, and each purchased point lowers the interest rate by _____________%

Answer 37

1%, 0.25

Question 38

True or False: Checkable deposits are the primary source of bank funds.

Answer 38

False

Question 39

Because checking accounts are ________ liquid for the depositor than passbook savings, they earn ________ interest rates.

Answer 39

more; lower

Question 40

Bank loans from the Federal Reserve are called ________ and represent a ________ of funds.

Answer 40

discount loans; source

Question 41

Which of the following are reported as assets on a bank's balance sheet?

Answer 41

Reserves

Question 42

Because of their ________ liquidity, ________ U.S. government securities are called secondary reserves.

Answer 42

high; short-term

Question 43

Which of the following are primary concerns of a bank manager? (3 Answers)

Answer 43

All of the above: - Maintaining sufficient reserves; - Extending loans to borrowers who will pay high interest rates, but who are also good credit risks; - Acquiring funds at a relatively low cost

Question 44

For a given return on assets, the lower the bank capital is,

Answer 44

the higher the return for the owners of the bank will be.

Question 45

In general, banks make profits by selling ________ liabilities and buying ________ assets.

Answer 45

short-term; longer-term

Question 46

The ________ Act of 1933 prohibited commercial banks from engaging in investment banking activities, and vice versa, while the _______ of 1999 repealed these provisions of the former Act

Answer 46

Glass–Steagall; Gramm-Leach-Bliley Act (GLBA)

Question 47

The primary source of funding for banks is ____________, making up ~60% of assets.

Answer 47

nontransaction deposits

Question 48

The primary asset on banks’ balance sheet is ______, making up ~60% of assets, which are quite illiquid.

Answer 48

loans

Question 49

The main ways that a bank can cover a large deposit withdrawal are (i) borrowing from other banks, (ii) ____, (iii) borrowing from the Federal Reserve, and (iv) reducing their loan portfolio

Answer 49

selling securities

Question 50

When choosing how much capital to hold, bankers balance the desire to minimize the probability of ______ with the goal of maximizing returns to owners, subject to meeting regulatory capital requirements

Answer 50

bankruptcy

Question 51

All else equal, higher levels of bank capital causes ROE to ________ (increase/decrease/no change).

Answer 51

decrease

Question 52

When required bank capital increases, loan origination tends to ________ (increase/decrease/no change)

Answer 52

decrease

Question 53

From ____ to 1980 there were virtually zero bank failures in the United States

Answer 53

1940

Question 54

In the______ method, the FDIC allows the bank to fail and pays off deposits up to insurance limit. Other creditors are paid its share from liquidated assets. In the _____ method the FDIC find willing buyer to assume the failed bank’s liabilities

Answer 54

payoff; purchase and assumption (P&A)

Question 55

Two facets of financial/microprudential bank supervision are _______, which addresses the adverse selection problem that risk-takers are more likely to want to own banks, and ___________, which reduces moral hazard by on-site inspection and verification of banking activities.

Answer 55

chartering; examination

Question 56

Two facets of microprudential bank supervision are chartering, which addresses the _____ problem that risk-takers are more likely to want to own banks, and examination, which reduces ________________ by on-site inspection and verification of banking activities.

Answer 56

adverse selection, moral hazard

Question 57

The _________ dimension of financial regulation is why lenders must advertise interest rates in a standardized Annual Percentage Rate (APR) format rather than at other horizons, such as weekly or monthly

Answer 57

consumer protection

Question 58

The _________ prohibits insured banks from engaging in propriety trading, in an attempt to reduce risktaking induced by moral hazard.

Answer 58

Volker Rule

Question 59

The idea of _______ is predicated on the notion that systematically important institutions should be protected to prevent contagious spillover effects in the event of a financial crisis. However, this implicit guarantee exacerbates the moral hazard problem.

Answer 59

Too-big-to-fail

Question 60

The top 10 U.S. banks now account for approximately ____% of all U.S. bank assets.

Answer 60

60

Question 61

The three major drivers of financial innovation are changes in demand-side conditions, changes in supply-side conditions, and ________.

Answer 61

regulatory arbitrage

Question 62

_________ can be described as asset transformation that occurs outside of the traditional banking sector that takes deposits and makes loans.

Answer 62

Shadow banking

Question 63

The _______ allowed banks to branch across state lines, overriding most remaining state-level restrictions. This encouraged bank consolidation and enhanced the efficiency of capital allocation, as banks could now deploy resources more flexibly across regions

Answer 63

Riegle-Neal Act of 1994

Question 64

Which of the following statements is true about a bank's assets?

Answer 64

A bank's assets are its uses of funds.

Question 65

Which of the following are reported as liabilities on a bank's balance sheet?

Answer 65

Checkable deposits

Question 66

Which of the following are reported as assets on a bank's balance sheet?

Answer 66

Loans

Question 67

Loans are the ____ category of a banks assets, they provide most of the bank's ____, and they earn the highest ____ of all bank assets.

Answer 67

largest; revenues; return

Question 68

When a $10 check written on the First National Bank is deposited in an account at the Second National Bank, then

Answer 68

the liabilities of the First National Bank decrease by $10, the liabilities of the Second National Bank increase by $10.

Question 69

The existence of deposit insurance can increase the likelihood that depositors will need deposit protection, as banks with deposit insurance

Answer 69

are likely to take on greater risks than they otherwise would.

Question 70

Regulators attempt to reduce the riskiness of banks' asset portfolios by (2 Answers)

Answer 70

- limiting the amount of loans in particular categories or to individual borrowers - prohibiting banks from holding risky assets such as common stocks.

Question 71

Ways in which bank regulations reduce the adverse selection and moral hazard problems in banking include (3 Answers)

Answer 71

- a chartering process, - preventing banks from acquiring certain risky assets, - high bank capital requirements.

Question 72

The existence of deposit insurance can increase the likelihood that depositors will need deposit protection, as banks with deposit insurance

Answer 72

are likely to take on greater risks than they otherwise would.

Question 73

In an effort to control the use of derivatives by financial institutions, the Dodd-Frank legislation of 2010 requires

Answer 73

standardized derivatives products.

Question 74

The Federal Reserve Act required all ________ banks to become members of the Federal Reserve System, while ________ banks could choose to become members of the system.

Answer 74

national; state

Question 75

Rising interest-rate risk ________ the ________ financial innovation.

Answer 75

increased; demand for

Question 76

High-yield bonds rated below investment grade by the bond-rating agencies are frequently referred to as

Answer 76

Junk Bonds

Question 77

Which of the following is not a reason for the disappointing revenue growth and profits of Internet-only banks?

Answer 77

High cost per transaction

Question 78

The most important developments that have reduced banks' income advantages in the past twenty years include (3 Answers)

Answer 78

1.the growth of the commercial paper market, 2.the junk bond market, and 3.securitization.

Question 79

Money market securities have all the following characteristics except they are not

Answer 79

money

Question 80

Suppose that you purchase a 91-day Treasury bill for $9,850 that is worth $10,000 when it matures. The security's annualized yield if held to maturity is about

Answer 80

0.06

Question 81

Federal funds are (definition, length, 2 facts)

Answer 81

1. short-term funds transferred between financial institutions, 2. usually for a period of one day, 3. have nothing to do with the federal government, 4. provide banks with an immediate infusion of reserves.

Question 82

A negotiable certificate of deposit (3 Answers)

Answer 82

1.is a term security, 2.is a bearer instrument, 3.can be bought and sold until maturity.

Question 83

The usual maturity range for commercial paper is

Answer 83

1 to 270 days.

Question 84

(I) Securities that have an original maturity greater than one year are traded in capital markets. (II) The best known capital market securities are stocks and bonds.

Answer 84

Both are true.

Question 85

(I) The coupon rate is the rate of interest that the issuer of the bond must pay. (II) The coupon rate on old bonds fluctuates with market interest rates so they will remain attractive to investors.

Answer 85

(I) is true, (II) false.

Question 86

(I) Because interest rates on Treasury bills are more volatile than rates on long-term securities, the return on short-term Treasury securities is usually above that on longer-term Treasury securities. (II) A Treasury STRIP separates the periodic interest payments from the final principal repayment.

Answer 86

(I) is false, (II) true.

Question 87

(I) Municipal bonds that are issued to pay for essential public projects are exempt from federal taxation. (II) General obligation bonds do not have specific assets pledged as security or a specific source of revenue allocated for their repayment.

Answer 87

Both are true

Question 88

Corporate bonds are less risky if they are ________ bonds and municipal bonds are less risky if they are ________ bonds.

Answer 88

secured; general obligation

Question 89

Which of the following are important ways in which mortgage markets differ from the stock and bond markets? (3 Answers)

Answer 89

1.Borrowers in the capital markets are government/businesses, borrowers in the mortgage markets are individuals; 2.Most mortgages are secured; 3.developing a secondary mortgage market has been more difficult

Question 90

Which of the following are true of mortgages? (3 Answers)

Answer 90

1.A mortgage is a long-term loan secured by real estate, 2.A borrower pays a combination of principal and interest payments 3.Over 72 percent of mortgage loans finance residential home purchases.

Question 91

During the early years of an amortizing mortgage loan, the lender applies

Answer 91

most of the monthly payment to interest on the loan.

Question 92

Borrowers tend to prefer ________ to ________, whereas lenders prefer ________.

Answer 92

fixed-rate loans; ARMs; ARMs

Question 93

A loan for borrowers who do not qualify for loans at the usual market rate of interest because of a poor credit rating or because the loan is larger than justified by their income is

Answer 93

a subprime mortgage.