Question 1

Who are the common buyers of credit forwards?

Accepted Answer

A) Insurance companies. 
B) Banks. 
C) Federal Reserve. 
D) Stock brokers. 
E) Credit unions. 
A) Insurance companies. 
B) Banks. 
C) Federal Reserve. 
D) Stock brokers. 
E) Credit unions.

Question 2

A forward contract specifies immediate delivery for immediate payment.

Accepted Answer

A) True 
 B)False

Question 3

What does R2 = 0 indicate?

Accepted Answer

A) Changes in the spot rate and changes in the futures price are perfectly correlated. 
B) All observations between changes in spot rate and changes in futures price lie on a straight line. 
C) The spot and future exchange rates are expected to move imperfectly together. 
D) The FI must sell a greater number of futures to hedge the cash position. 
E) There is no statistical association between changes in spot rates and changes in futures price. 
A) Changes in the spot rate and changes in the futures price are perfectly correlated. 
B) All observations between changes in spot rate and changes in futures price lie on a straight line. 
C) The spot and future exchange rates are expected to move imperfectly together. 
D) The FI must sell a greater number of futures to hedge the cash position. 
E) There is no statistical association between changes in spot rates and changes in futures price.

Question 4

A U.S. bank issues a 1-year, $1 million U.S. CD at 5 percent annual interest to finance a C$1.274 million investment in 2-year fixed-rate Canadian bonds selling at par and paying 7 percent annually. The U.S. bank expects to liquidate its position in 1 year upon maturity of the CD. Spot exchange rates are US$0.78493 per Canadian dollar. If the U.S. bank wanted to hedge its bank's risk exposure, what hedge position would it take?

Accepted Answer

A) A short interest rate hedge to protect against interest rate declines and a short currency hedge to protect against increases in the value of the Canadian dollar with respect to the U.S. dollar. 
B) A short interest rate hedge to protect against interest rate increases and a short currency hedge to protect against declines in the value of the Canadian dollar with respect to the U.S. dollar. 
C) A long interest rate hedge to protect against interest rate increases and a long currency hedge to protect against declines in the value of the Canadian dollar with respect to the U.S. dollar. 
D) A long interest rate hedge to protect against interest rate declines and a long currency hedge to protect against increases in the value of the Canadian dollar with respect to the U.S. dollar. 
E) A long interest rate hedge to protect against interest rate declines and a short currency hedge to protect against increases in the value of the Canadian dollar with respect to the U.S. dollar. 
A) A short interest rate hedge to protect against interest rate declines and a short currency hedge to protect against increases in the value of the Canadian dollar with respect to the U.S. dollar. 
B) A short interest rate hedge to protect against interest rate increases and a short currency hedge to protect against declines in the value of the Canadian dollar with respect to the U.S. dollar. 
C) A long interest rate hedge to protect against interest rate increases and a long currency hedge to protect against declines in the value of the Canadian dollar with respect to the U.S. dollar. 
D) A long interest rate hedge to protect against interest rate declines and a long currency hedge to protect against increases in the value of the Canadian dollar with respect to the U.S. dollar. 
E) A long interest rate hedge to protect against interest rate declines and a short currency hedge to protect against increases in the value of the Canadian dollar with respect to the U.S. dollar.

Question 5

Use the following two choices to identify whether each intermediary or entity is a net buyer or net seller of credit derivative securities.
-Pension funds

Accepted Answer

A) Net buyer (typically) 
B) Net seller (typically) 
A) Net buyer (typically) 
B) Net seller (typically)

Question 6

In a credit forward agreement hedge, the loss on the balance sheet cash position is offset completely by the gain on the off-balance-sheet credit forward agreement if the characteristics of the benchmark bond and the bank's loan to the borrower are the same.

Accepted Answer

A) True 
 B)False

Question 7

The average duration of the loans is 10 years. The average duration of the deposits is 3 years.   What is the change in the value of the FI's equity for a 1 percent increase in interest rates from the current rates of 10 percent ?

Accepted Answer

A) -$,979,091. 
B) -$16,318,182. 
C) -$15,979,091. 
D) +$16,318,182. 
E) +$979,091. 
A) -$,979,091. 
B) -$16,318,182. 
C) -$15,979,091. 
D) +$16,318,182. 
E) +$979,091.

Question 8

An FI issued $1 million of 1-year maturity floating rate commercial paper. The commercial paper is repriced every three months at the 91-day Treasury bill rate plus 2 percent. What is the FI's interest rate risk exposure and how can it use financial futures and options to hedge that risk exposure?

Accepted Answer

A) The FI can hedge its exposure to interest rate increases by selling financial futures. 
B) The FI can hedge its exposure to interest rate decreases by selling financial futures. 
C) The FI can hedge its exposure to interest rate increases by buying financial futures. 
D) The FI can hedge its exposure to interest rate increases by buying call options. 
E) The FI cannot hedge its exposure to interest rate increases or decreases using financial futures 
A) The FI can hedge its exposure to interest rate increases by selling financial futures. 
B) The FI can hedge its exposure to interest rate decreases by selling financial futures. 
C) The FI can hedge its exposure to interest rate increases by buying financial futures. 
D) The FI can hedge its exposure to interest rate increases by buying call options. 
E) The FI cannot hedge its exposure to interest rate increases or decreases using financial futures

Question 9

Forward contracts are marked-to-market on a daily basis.

Accepted Answer

A) True 
 B)False

Question 10

Hedging foreign exchange risk in the futures market may involve uncertainty about all of the transactions necessary to achieve the hedge to fulfillment.

Accepted Answer

A) True 
 B)False

Question 11

Delivery of the underlying asset almost always occurs in the futures market.

Accepted Answer

A) True 
 B)False

Question 12

Use the following two choices to identify whether each intermediary or entity is a net buyer or net seller of credit derivative securities.
-Banks

Accepted Answer

A) Net buyer (typically) 
B) Net seller (typically) 
A) Net buyer (typically) 
B) Net seller (typically)

Question 13

Why does basis risk occur?

Accepted Answer

A) Changes in the spot asset's price are not perfectly correlated with changes in the price of the asset delivered under a forward or futures contract. 
B) The daily marking-to-market process enables an FI manager to close out a futures position by taking an exactly offsetting position. 
C) Spot and futures contracts are traded in different markets with different demand and supply functions. 
D) None of these. 
E) Changes in the spot asset's price are not perfectly correlated with changes in the price of the asset delivered under a forward or futures contract, and spot and futures contracts are traded in different markets with different demand and supply functions. 
A) Changes in the spot asset's price are not perfectly correlated with changes in the price of the asset delivered under a forward or futures contract. 
B) The daily marking-to-market process enables an FI manager to close out a futures position by taking an exactly offsetting position. 
C) Spot and futures contracts are traded in different markets with different demand and supply functions. 
D) None of these. 
E) Changes in the spot asset's price are not perfectly correlated with changes in the price of the asset delivered under a forward or futures contract, and spot and futures contracts are traded in different markets with different demand and supply functions.

Question 14

The number of futures contracts that an FI should buy or sell in a macrohedge depends on the

Accepted Answer

A) size of its interest rate risk exposure. 
B) direction of its interest rate risk exposure. 
C) return risk trade-off from fully hedging that risk. 
D) return risk trade-off from selectively hedging that risk. 
E) All of these. 
A) size of its interest rate risk exposure. 
B) direction of its interest rate risk exposure. 
C) return risk trade-off from fully hedging that risk. 
D) return risk trade-off from selectively hedging that risk. 
E) All of these.

Question 15

An FI has a 1-year 8-percent US$160 million loan financed with a 1-year 7-percent UK£100 million CD. The current exchange rate is $1.60/£. Assume that the hedge was placed as indicated in a prior question, and that the BP futures contract is trading at $1.62/£. Assume the futures contract has some days remaining to maturity. What will be the gain or loss on the hedge if it is unwound at this price?

Accepted Answer

A) $4,280,000 loss. 
B) $4,000,000 loss. 
C) $4,280,000 gain. 
D) $4,000,000 gain. 
E) $6,400,000 gain. 
A) $4,280,000 loss. 
B) $4,000,000 loss. 
C) $4,280,000 gain. 
D) $4,000,000 gain. 
E) $6,400,000 gain.

Question 16

Conyers Bank holds Treasury bonds with a book value of $30 million. However, the Treasury bonds currently are worth $28,387,500. The portfolio manager for Conyers Bank wishes to sell the entire issue of Treasury bonds at a current price of 87-05/32nds. What will be the gain or loss on the cash position since the futures contract was placed? (That is, since the bonds were valued at $28,387,500.)

Accepted Answer

A) Loss of $3,834,375. 
B) Loss of $3,853,125. 
C) Gain of $2,240,625. 
D) Gain of $3,853,125. 
E) Loss of $2,240,625. 
A) Loss of $3,834,375. 
B) Loss of $3,853,125. 
C) Gain of $2,240,625. 
D) Gain of $3,853,125. 
E) Loss of $2,240,625.

Question 17

Use the following two choices to identify whether each intermediary or entity is a net buyer or net seller of credit derivative securities.
-Securities firms

Accepted Answer

A) Net buyer (typically) 
B) Net seller (typically) 
A) Net buyer (typically) 
B) Net seller (typically)

Question 18

Routine hedging

Accepted Answer

A) is a hedging strategy that occurs on a set, predetermined basis by the FI. 
B) always results in excess returns. 
C) is a strategy to follow when interest rates are abnormally low. 
D) is a strategy used when interest rates are extremely unpredictable. 
E) is a strategy to follow when interest rates are abnormally high. 
A) is a hedging strategy that occurs on a set, predetermined basis by the FI. 
B) always results in excess returns. 
C) is a strategy to follow when interest rates are abnormally low. 
D) is a strategy used when interest rates are extremely unpredictable. 
E) is a strategy to follow when interest rates are abnormally high.

Question 19

Conyers Bank holds Treasury bonds with a book value of $30 million. However, the Treasury bonds currently are worth $28,387,500. If the portfolio manager put on the hedge when T-bond futures were quoted at 89-00/32nds, what is the profit/loss on the futures position if the settlement price is 81-27/32nds?

Accepted Answer

A) Profit of $2,146,875. 
B) Loss of $2,146,875. 
C) Profit of $1,270,000. 
D) Loss of $1,270,000. 
E) Loss of $812,700. 
A) Profit of $2,146,875. 
B) Loss of $2,146,875. 
C) Profit of $1,270,000. 
D) Loss of $1,270,000. 
E) Loss of $812,700.

Question 20

Conyers Bank holds Treasury bonds with a book value of $30 million. However, the Treasury bonds currently are worth $28,387,500. The bank's portfolio manager wants to shorten asset maturities. Which of the following statements is true?

Accepted Answer

A) The portfolio manager is reluctant to sell the bonds outright since the bank will have to take a loss. 
B) The portfolio manager is willing to sell the bonds outright since they are not as valuable as their book value. 
C) The portfolio manager is willing to sell the bonds outright since they are more valuable than their book value. 
D) The portfolio manager is reluctant to sell the bonds outright since the bank will have to pay taxes on the gain. 
E) None of these. 
A) The portfolio manager is reluctant to sell the bonds outright since the bank will have to take a loss. 
B) The portfolio manager is willing to sell the bonds outright since they are not as valuable as their book value. 
C) The portfolio manager is willing to sell the bonds outright since they are more valuable than their book value. 
D) The portfolio manager is reluctant to sell the bonds outright since the bank will have to pay taxes on the gain. 
E) None of these.

Exam 22: Futures and Forwards

Who are the common buyers of credit forwards?

A forward contract specifies immediate delivery for immediate payment.

What does R2 = 0 indicate?

Use the following two choices to identify whether each intermediary or entity is a net buyer or net seller of credit derivative securities. -Pension funds

In a credit forward agreement hedge, the loss on the balance sheet cash position is offset completely by the gain on the off-balance-sheet credit forward agreement if the characteristics of the benchmark bond and the bank's loan to the borrower are the same.

The average duration of the loans is 10 years. The average duration of the deposits is 3 years. What is the change in the value of the FI's equity for a 1 percent increase in interest rates from the current rates of 10 percent ?

An FI issued $1 million of 1-year maturity floating rate commercial paper. The commercial paper is repriced every three months at the 91-day Treasury bill rate plus 2 percent. What is the FI's interest rate risk exposure and how can it use financial futures and options to hedge that risk exposure?

Forward contracts are marked-to-market on a daily basis.

Hedging foreign exchange risk in the futures market may involve uncertainty about all of the transactions necessary to achieve the hedge to fulfillment.

Delivery of the underlying asset almost always occurs in the futures market.

Use the following two choices to identify whether each intermediary or entity is a net buyer or net seller of credit derivative securities. -Banks

Why does basis risk occur?

The number of futures contracts that an FI should buy or sell in a macrohedge depends on the

Use the following two choices to identify whether each intermediary or entity is a net buyer or net seller of credit derivative securities. -Securities firms

Routine hedging

Conyers Bank holds Treasury bonds with a book value of $30 million. However, the Treasury bonds currently are worth $28,387,500. The bank's portfolio manager wants to shorten asset maturities. Which of the following statements is true?

Why Are Financial Institutions Special

Deposit-Taking Institutions

Finance Companies

Securities, Brokerage, and Investment Banking

Mutual Funds, Hedge Funds, and Pension Funds

Insurance Companies

Risks of Financial Institutions

Interest Rate Risk I

Interest Rate Risk II

Credit Risk: Individual Loans

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

Liability and Liquidity Management

Deposit Insurance and Other Liability Guarantees

Capital Adequacy

Product and Geographic Expansion

Options, Caps, Floors, and Collars

Swaps

Loan Sales

Securitization Index

Filters

What does R² = 0 indicate?