Question 1

Market value accounting often is said to be difficult to implement because of the amount of assets that are not actively traded.

Accepted Answer

A) True 
 B)False  True

Question 2

Under historical accounting methods for the market value of capital, FIs

Accepted Answer

A) must write down the value of their assets to fully reflect market values. 
B) have a great deal of discretion in timing the write downs of problem loans. 
C) must conform to regulatory write-down schedules. 
D) have an incentive to fully reflect problems in the asset portfolio as they become known. 
E) invest in expensive computerized bookkeeping systems. 
A) must write down the value of their assets to fully reflect market values. 
B) have a great deal of discretion in timing the write downs of problem loans. 
C) must conform to regulatory write-down schedules. 
D) have an incentive to fully reflect problems in the asset portfolio as they become known. 
E) invest in expensive computerized bookkeeping systems. B

Question 3

One function of capital is to provide funding for real assets, such as branches and technology that are necessary to provide financial services.

Accepted Answer

A) True 
 B)False  True

Question 4

Under Basel II (2006), regulatory minimum capital requirements for credit, market, and operational risks are covered in the first pillar of the regulation.

Accepted Answer

A) True 
 B)False

Question 5

The leverage ratio specified under FDICIA does not account for the risks of off-balance-sheet activities.

Accepted Answer

A) True 
 B)False

Question 6

Which of the following is NOT a typical argument against market value accounting?

Accepted Answer

A) Market value accounting introduces an unnecessary degree of variability into an FI's earnings. 
B) The use of market value accounting may reduce the willingness of FI's to invest in longer-term assets. 
C) FI's are increasingly trading, selling, and securitizing assets. 
D) Market value accounting is difficult to implement. 
E) Market value accounting may interfere with an FI's special functions as lenders and monitors of credit. 
A) Market value accounting introduces an unnecessary degree of variability into an FI's earnings. 
B) The use of market value accounting may reduce the willingness of FI's to invest in longer-term assets. 
C) FI's are increasingly trading, selling, and securitizing assets. 
D) Market value accounting is difficult to implement. 
E) Market value accounting may interfere with an FI's special functions as lenders and monitors of credit.

Question 7

Counter party credit risk in OBS contracts

Accepted Answer

A) is the risk that the counterparty will likely default when he is in the money on a contract position. 
B) refers to the risk that a counterparty will default when suffering large actual or potential losses on its position. 
C) requires the counterparty to return to the market and replace contracts at less favorable terms. 
D) All of the options. 
E) None of the options. 
A) is the risk that the counterparty will likely default when he is in the money on a contract position. 
B) refers to the risk that a counterparty will default when suffering large actual or potential losses on its position. 
C) requires the counterparty to return to the market and replace contracts at less favorable terms. 
D) All of the options. 
E) None of the options.

Question 8

Those regulatory agencies that have adopted some form of book value accounting standard to measure an FI's capital include all of the following except

Accepted Answer

A) The Securities and Exchange Commission (SE
C) . 
B) The Federal Reserve. 
C) The Office of the Comptroller of the Currency (OC
C) . 
D) The FDIC. 
E) State regulatory agencies. 
A) The Securities and Exchange Commission (SE
C) . 
B) The Federal Reserve. 
C) The Office of the Comptroller of the Currency (OC
C) . 
D) The FDIC. 
E) State regulatory agencies.

Question 9

Basel II attempts to encourage market discipline by having banks disclose capital structure, risk exposures, and capital adequacy in a systematic manner.

Accepted Answer

A) True 
 B)False

Question 10

Calculation of the "add-on" to the risk-based capital ratio to measure market risk

Accepted Answer

A) may be done using the Basic Indicator Approach. 
B) may be done using the standardized model proposed by regulators. 
C) may be done using the DI's own internal market risk model. 
D) may be done using the Basic Indicator Approach and the standardized model proposed by regulators. 
E) may be done using the standardized model proposed by regulators and the DI's own internal market risk model. 
A) may be done using the Basic Indicator Approach. 
B) may be done using the standardized model proposed by regulators. 
C) may be done using the DI's own internal market risk model. 
D) may be done using the Basic Indicator Approach and the standardized model proposed by regulators. 
E) may be done using the standardized model proposed by regulators and the DI's own internal market risk model.

Question 11

The Tier I leverage ratio measures the amount of an FI's total capital relative to total assets.

Accepted Answer

A) True 
 B)False

Question 12

Book value accounting systems recognize the impact of interest rate problems sooner than credit risk problems.

Accepted Answer

A) True 
 B)False

Question 13

The difference between the market value of assets and liabilities is the definition of the

Accepted Answer

A) accounting value of capital. 
B) regulatory value of capital. 
C) economic value of capital. 
D) book value of net worth. 
E) weighted book value of net worth. 
A) accounting value of capital. 
B) regulatory value of capital. 
C) economic value of capital. 
D) book value of net worth. 
E) weighted book value of net worth.

Question 14

The current exposure component of the credit equivalent amount of OBS derivative items reflects

Accepted Answer

A) the probability of an adverse price movement in contracts. 
B) the cost of replacing a contract if a counterparty defaults today. 
C) the probability today of a counterparty contract default in the future. 
D) the maximum price loss for any given position. 
E) future volatility of the underlying. 
A) the probability of an adverse price movement in contracts. 
B) the cost of replacing a contract if a counterparty defaults today. 
C) the probability today of a counterparty contract default in the future. 
D) the maximum price loss for any given position. 
E) future volatility of the underlying.

Question 15

Sigma Bank has the following balance sheet in millions of dollars.Unless mentioned otherwise, all assets are associated with corporate customers (not governments or sovereigns).Values are in millions of dollars.Refer to table 20-8 for appropriate risk weights. $$\begin{array} { | l | r | l | r | } 
\hline \text { Cash } & \$ 40 & \text { Deposits } & \$ 370 \
\hline \begin{array} { l } 
\text { Municipal General } \
\text { Obligation Bonds }
\end{array} & \$ 60 & & \
\hline \begin{array} { l } 
\text { Residential Mortgages } \
\text { 1-4 family } \
\left( 80 \% { - 90\% } \text { LTV } \right)
\end{array} & \$ 100 & \begin{array} { l } 
\text { Perpetual Preferred } \
\text { Stock }
\end{array} & \$ 20 \
\hline \begin{array} { l } 
\text { Commercial loans } \
\text { BB + rated }
\end{array} & \$ 200 & \text { Equity } & \$10\
\hline \text { Total Assets } & \$ 400 & & \$ 400 \
\hline
\end{array}$$ Off balance sheet contingent liabilities (Refer to Table 20-10) $40 million direct-credit substitute standby letters of credit issued to a U.S.corporation.
$40 million commercial letters of credit issued to a corporation
Off-balance sheet derivatives (Refer to Table 20-11)
$200 million 10-year interest rate swaps
$100 million 2-year forward DM contracts
What is the minimum total risk-weighted capital (Tier I + Tier II) required for both of the off-balance-sheet letters of credit under the Basel II standards?

Accepted Answer

A) $3.84 million. 
B) $3.68 million. 
C) $3.20 million. 
D) $4.80 million. 
E) $6.40 million. 
A) $3.84 million. 
B) $3.68 million. 
C) $3.20 million. 
D) $4.80 million. 
E) $6.40 million.

Question 16

Counterparty credit risk is more prevalent for exchange-traded derivatives than over-the-counter (OTC) contracts because the bank has more control of its OTC contracts.

Accepted Answer

A) True 
 B)False

Question 17

From a regulatory perspective, what is the impact on book value capital of a 25 basis point decrease in interest rates if the FI is holding a 20-year, fixed-rate, 11 percent annual coupon $100,000 par value bond?

Accepted Answer

A) A decrease of $250. 
B) An increase of $250. 
C) An increase of $2,023. 
D) A decrease of $1,959. 
E) No impact on capital since the book value is unchanged. 
A) A decrease of $250. 
B) An increase of $250. 
C) An increase of $2,023. 
D) A decrease of $1,959. 
E) No impact on capital since the book value is unchanged.

Question 18

Capital is the primary protection for an FI against the risk of insolvency and failure.

Accepted Answer

A) True 
 B)False

Question 19

An FI may be insolvent in market value terms even if the book value of equity is positive.

Accepted Answer

A) True 
 B)False

Question 20

The Basel II Accord effective at year-end 2007 in the United States

Accepted Answer

A) includes provisions covering minimum capital requirements for credit, market, and interest rate risk. 
B) stresses the regulatory supervisory process by requiring regulators to be more involved in evaluating the bank's specific risk profile and environment. 
C) requires only banks on the regulatory problem bank list to disclose publicly the degree and depth of problem issues as well as their capital adequacy. 
D) All of the options. 
E) stresses the regulatory supervisory process by requiring regulators to be more involved in evaluating the bank's specific risk profile and environment and requires only banks on the regulatory problem bank list to disclose publicly the degree and depth of problem issues as well as their capital adequacy. 
A) includes provisions covering minimum capital requirements for credit, market, and interest rate risk. 
B) stresses the regulatory supervisory process by requiring regulators to be more involved in evaluating the bank's specific risk profile and environment. 
C) requires only banks on the regulatory problem bank list to disclose publicly the degree and depth of problem issues as well as their capital adequacy. 
D) All of the options. 
E) stresses the regulatory supervisory process by requiring regulators to be more involved in evaluating the bank's specific risk profile and environment and requires only banks on the regulatory problem bank list to disclose publicly the degree and depth of problem issues as well as their capital adequacy.

Exam 21: Capital Adequacy

Market value accounting often is said to be difficult to implement because of the amount of assets that are not actively traded.

Under historical accounting methods for the market value of capital, FIs

One function of capital is to provide funding for real assets, such as branches and technology that are necessary to provide financial services.

Under Basel II (2006), regulatory minimum capital requirements for credit, market, and operational risks are covered in the first pillar of the regulation.

The leverage ratio specified under FDICIA does not account for the risks of off-balance-sheet activities.

Which of the following is NOT a typical argument against market value accounting?

Counter party credit risk in OBS contracts

Those regulatory agencies that have adopted some form of book value accounting standard to measure an FI's capital include all of the following except

Basel II attempts to encourage market discipline by having banks disclose capital structure, risk exposures, and capital adequacy in a systematic manner.

Calculation of the "add-on" to the risk-based capital ratio to measure market risk

The Tier I leverage ratio measures the amount of an FI's total capital relative to total assets.

Book value accounting systems recognize the impact of interest rate problems sooner than credit risk problems.

The difference between the market value of assets and liabilities is the definition of the

The current exposure component of the credit equivalent amount of OBS derivative items reflects

Counterparty credit risk is more prevalent for exchange-traded derivatives than over-the-counter (OTC) contracts because the bank has more control of its OTC contracts.

From a regulatory perspective, what is the impact on book value capital of a 25 basis point decrease in interest rates if the FI is holding a 20-year, fixed-rate, 11 percent annual coupon $100,000 par value bond?

Capital is the primary protection for an FI against the risk of insolvency and failure.

An FI may be insolvent in market value terms even if the book value of equity is positive.

The Basel II Accord effective at year-end 2007 in the United States

Why Are Financial Institutions Special

Financial Services: Depository Institutions

Financial Services: Finance Companies

Financial Services: Securities Brokerage and Investment Banking

Financial Services: Mutual Funds and Hedge Funds

Financial Services: Insurance

Risks of Financial Institutions

Interest Rate Risk I

Interest Rate Risk II

Credit Risk: Individual Loan Risk

Credit Risk: Loan Portfolio and Concentration Risk

Liquidity Risk

Foreign Exchange Risk

Sovereign Risk

Market Risk

Off-Balance-Sheet Risk

Technology and Other Operational Risks

Fintech Risks

Liability and Liquidity Management

Deposit Insurance and Other Liability Guarantees

Product and Geographic Expansion

Futures and Forwards

Options, Caps, Floors, and Collars

Swaps

Loan Sales

Securitization

Filters