Deck 13: Foreign Exchange Risk

Question 1

The exposure to foreign exchange risk by U.S.FIs has decreased with the growth of the various derivative markets.

Answer 1

False

Question 2

To a U.S.trader of foreign currencies, a direct quote indicates U.S.dollars received for each one unit of the foreign currency.

Answer 2

True

Question 3

The underlying cause of foreign exchange volatility reflects fluctuations in the demand and supply of a country's currency.

Answer 3

True

Question 4

As the U.S.dollar appreciates against the Japanese yen, Japanese goods sold in the U.S.become less expensive to the U.S.consumer.

Question 5

The greater the volatility of foreign exchange rates given any net exposure position, the greater the fluctuations in value of the foreign exchange portfolio.

Question 6

An FI can eliminate its currency risk exposure by matching its foreign currency assets to its foreign currency liabilities.

Question 7

Most nonbank FIs have foreign exchange risk exposure that is smaller than the exposure of the large U.S.money-center banks.

Question 8

Historically, to exchange Swiss francs into Chinese yuan, a trader had to first exchange the francs into U.S.dollars.

Question 9

As of June 2015, U.S.banks were net short British pounds.

Question 10

U.S.pension funds invest approximately one percent (1%) of their portfolios in foreign securities.

Question 11

U.S.life insurance companies generally hold less than ten percent (10%) of their portfolios in foreign securities.

Question 12

The spot foreign exchange market is where forward and futures contracts and swap agreements are transacted.

Question 13

An immediate exchange of currencies occurs in the spot foreign exchange market.

Question 14

As the U.S.dollar appreciates against the Japanese yen, U.S.goods become less expensive to Japanese consumers.

Question 15

A positive net exposure position in FX implies the FI is net short in a currency.

Question 16

The market in which foreign currency is traded for future delivery is the forward foreign exchange market.

Question 17

Forward contracts in FX are typically written for a period of one-, three-, or six-months.

Question 18

An indirect quote of a foreign currency indicates the amount of foreign currency received for one unit of the domestic currency.

Question 19

A positive net exposure position in FX implies an FI has more foreign currency assets than foreign currency liabilities.

Question 20

To transact all cross-currency trades, one must first convert both currencies into U.S.dollars.

Question 21

The FX markets of the world have become one of the largest of all financial markets.

Question 22

FX trading risk exposure continues into the night until all FI operations are closed.

Question 23

The real interest rate reflects the underlying real sector demand and supply for funds denominated in the domestic currency.

Question 24

Most profits or losses on foreign trading come from taking an open position in currencies.

Question 25

During 2012, the top four banks that operate in foreign currency trading comprised almost half of the market.

Question 26

Directly matching foreign asset and liability books in the same FX currency will allow an FI to hedge or lock in a profit spread regardless of future changes in exchange rates.

Question 27

An FI can control its FX risk exposure by on-balance-sheet and off-balance-sheet hedging.

Question 28

Purchasing power parity is based on the difference in productive output (GDP) that exists between two countries.

Question 29

FX trading income is derived only from profit (or loss) on the FI's speculative currency positions.

Question 30

On-balance-sheet hedging involves making changes in the on-balance-sheet assets and liabilities to protect FI profits from FX risk without the use of derivative securities.

Question 31

The foreign exchange market in Tokyo is the largest FX trading market.

Question 32

Most profits and losses in foreign currency markets come from taking an open position or speculating in currencies.

Question 33

Average daily turnover in the FX market has recently been over $5 trillion.

Question 34

The use of an exchange rate forward contract assures the FI of the opportunity to buy (or sell) the foreign currency at a future time at a known price.

Question 35

Interest rate parity implies that the discounted spread between interest rates in two currencies should equal the percentage spread between forward and spot exchange rates.

Question 36

Violation of the interest rate parity theorem would allow arbitrage profits.

Question 37

Off-balance-sheet hedging involves taking a position in FX forward or other derivative securities even though no FX assets or liabilities are on the balance sheet.

Question 38

The total FX risk for a domestic bank that is making a one-year loan in a foreign currency is that the interest income expected on the loan is exposed to a depreciation of the foreign currency.

Question 39

Since forward contracts are negotiated over-the-counter and the parties have maximum flexibility when setting the terms and conditions, credit and counterparty risk does not exist.

Question 40

The reason an FI receives a fee when purchasing foreign currencies that allow customers to complete international transactions is because the FI assumes some FX risk.

Question 41

A forward exchange transaction is the exchange of currencies at a specified exchange rate which is settled at some specified date in the future.

Question 42

When the FI has sold more foreign currency than it has purchased, a positive net exposure position has transpired, also known as a net long in currency.

Question 43

Foreign exchange trading has been called the fairest market in the world because

A)no single institution can control the direction of the market.
B)trading may take place at any time during a 24-hour period.
C)the volume of trading is very large and liquid.
D)trading may take place anywhere as there is no central location for foreign exchange trading.
E)all of the options are correct.

Question 44

The FI is acting as a hedger when it

A)buys or sells currency to balance the FI's net exposure.
B)takes a nonzero net position in a particular currency.
C)processes an exporter's transaction in a foreign currency.
D)makes a market in a currency.
E)advises customers on their international business.

Question 45

FX risk exposure of an FI essentially relates to which of the following activities?

A)Purchase and sale of foreign currencies to allow customers to participate in and complete international commercial trade transactions.
B)Purchase and sale of foreign currencies to allow customers to take positions in foreign real and financial investments.
C)Purchase and sale of foreign currencies for hedging purposes to offset customer exposure in any given currency.
D)Purchase and sale of foreign currencies for speculative purposes through forecasting or anticipating future movements in FX rates.
E)None of the options.

Question 46

A positive net exposure position in FX implies that the FI is

A)net long in a currency and exposed to depreciation of the foreign currency.
B)net short in a currency and exposed to depreciation of the foreign currency.
C)net long in a currency and exposed to appreciation of the foreign currency.
D)net short in a currency and exposed to appreciation of the foreign currency.
E)neither long nor short in a currency.

Question 47

A negative net exposure position in FX implies that the FI is

A)net long in a currency and exposed to depreciation of the foreign currency.
B)net short in a currency and exposed to depreciation of the foreign currency.
C)net long in a currency and exposed to appreciation of the foreign currency.
D)net short in a currency and exposed to appreciation of the foreign currency.
E)neither long nor short in a currency.

Question 48

The FI is acting as a speculator when it

A)buys or sells currency to balance the FI's net exposure.
B)takes a nonzero net position in a particular currency.
C)processes an exporter's transaction in a foreign currency.
D)makes a market in a currency.
E)advises customers on their international business.

Question 49

Long-term violations of the interest rate parity relationship may occur if imperfections in the international financial markets are allowed to exist.

Question 50

The law of one price is based on the theory behind purchasing power parity, in that in the long run exchange rates move toward rate that equalize the prices of identical basket of goods and services in any two countries.

Question 51

The reasons nondepository FIs have less FX risk than major money center banks include

A)Smaller asset sizes.
B)Prudent person concerns.
C)Regulations.
D)All of the options.
E)Smaller asset sizes and regulations.

Question 52

A forward market for FX is the market in which foreign currency is traded for immediate delivery.

Question 53

Cross-currency exchange rates for all countries are listed at Bloomberg's website: www.bloomberg.com/markets/currencies/fxc.html.

Question 54

The market in which foreign currency is traded for immediate delivery is the

A)spot market.
B)forward market.
C)futures market.
D)currency swap market.
E)London capital market.

Question 55

The law of one price is an economic rule which states that in an efficient market, identical goods and services produced in different countries should have a single price.

Question 56

The decrease in European FX volatility during the last decade has occurred because of

A)the stabilizing force of the euro.
B)reduction in inflation rates in European countries.
C)the reduced volatility in many emerging-market countries.
D)the greater volatilities of Asian currencies.
E)the stabilizing force of the euro and reduction in inflation rates in European countries.

Question 57

When purchasing and selling foreign currencies to allow customers to take positions in foreign real and financial investments, the FI

A)acts defensively as a hedger.
B)acts aggressively as a speculator.
C)assumes the FX risk itself.
D)acts as an agent.
E)acts as a market maker.

Question 58

A forward exchange rate is the exchange rate agreed to today for future (forward) deliver of a currency.

Question 59

Which of the following is NOT a source of foreign exchange risk?

A)Trading foreign currencies.
B)Making domestic-currency loans to foreign corporations.
C)Buying foreign-issued securities.
D)Issuing foreign currency-denominated debt.
E)Making foreign currency loans.

Question 60

The FI is acting as a FX market agent for its customers when it

A)buys or sells currency to balance the FI's net exposure.
B)takes a nonzero net position in a particular currency.
C)processes an exporter's transaction in a foreign currency.
D)makes a market in its domestic currency.
E)advises customers on their international business.

Question 61

In recent years, average daily trading volume at foreign exchange markets has been ______ the average daily trading volume of the NYSE?

A)one-half
B)20 times
C)40 times
D)70 times
E)85 times

Question 62

On May 31, 2016, the exchange rate of U.S.dollars for Bitcoins was Ƀ535.592.Three months later on August 31, 2016, the exchange rate was Ƀ572.187.If a Learjet 85 carries a price of $21 million, what is the difference in price a purchaser would pay in Bitcoins if the jet were purchased on August 31 rather than May 31, 2016?

A)$2,508,000
B)(Ƀ2,508)
C)($2,508,000)
D)(Ƀ36.6)
E)Ƀ19,581

Question 63

The following are the net currency positions of a U.S.FI (stated in U.S.dollars). $$\begin{array} { | l | l | r | r | r | } \hline \text { Currency } & \text { Assets } & \text { Liabilities } & \text { FX Bought } & \text { FX Sold } \\\hline \text { British pound } & 24,600 & 70,000 & 170,400 & 321,000 \\\hline \text { Yen } & 31,000 & 20,400 & 250,000 & 220,000 \\\hline \text { Swiss franc } & 10,200 & 9,800 & 8,000 & 10,800 \\\hline\end{array}$$ What is the FI's net exposure in British pounds?

A)-45,400.
B)-150,600.
C)-196,000.
D)+105,200.
E)+196,000.

Question 64

If foreign currency exchange rates are highly positively correlated, how can a FI reduce its exchange rate risk exposure?

A)By taking net long positions in all currencies.
B)By taking net short positions in all currencies.
C)By taking opposing net short and net long positions in different currencies.
D)By maximizing net FX exposure in each currency, independently.
E)By minimizing net FX exposure in each currency, independently.

Question 65

The following are the net currency positions of a U.S.FI (stated in U.S.dollars). $$\begin{array} { | l | l | r | r | r | } \hline \text { Currency } & \text { Assets } & \text { Liabilities } & \text { FX Bought } & \text { FX Sold } \\\hline \text { British pound } & 24,600 & 70,000 & 170,400 & 321,000 \\\hline \text { Yen } & 31,000 & 20,400 & 250,000 & 220,000 \\\hline \text { Swiss franc } & 10,200 & 9,800 & 8,000 & 10,800 \\\hline\end{array}$$ What is the FI's net exposure in the Japanese yen?

A)+30,000.
B)+40,600.
C)-19,400.
D)-40,600.
E)+20,600.

Question 66

In 2015, approximately _______ of the daily foreign exchange transactions occurred outside of the spot market?

A)35 percent
B)60 percent
C)15 percent
D)75 percent
E)90 percent

Question 67

Which of the following FX trading activities is used for purposes of speculation?

A)The purchase and sale of foreign currencies for the purpose of profiting from forecasting or anticipating future movements in FX rates.
B)The purchase and sale of foreign currencies to allow customers to partake in and complete international commercial trade transactions.
C)The purchase and sale of foreign currencies for the purpose of offsetting customer exposure in any given currency.
D)The purchase and sale of foreign currencies to allow customers to take positions in foreign real and financial investments.
E)None of the options.

Question 68

As of 2015, which of the following FX "markets" is the largest?

A)London.
B)New York.
C)Tokyo.
D)Hong Kong.
E)Zurich.

Question 69

According to purchasing power parity (PPP), foreign currency exchange rates between two countries adjust to reflect changes in each country's

A)unemployment rates.
B)export competitiveness.
C)inflation rates.
D)foreign exchange reserves.
E)reserve requirements.

Question 70

The Federal Reserve estimates that _______ financial institutions are active market makers in foreign currencies in the U.S., of which _______ are commercial and investment banks.

A)200; 50
B)60; 15
C)100; 10
D)200; 25
E)300; 20

Question 71

The nominal interest rate is equal to the

A)real interest rate minus the inflation premium.
B)real interest rate minus the trailing inflation rate.
C)real interest rate plus the expected interest rate increase.
D)real interest rate plus the expected inflation rate.
E)real interest rate plus the interest rate volatility.

Question 72

In 2011, during the financial crisis, which country was viewed as a safe haven and saw its currency appreciate in value relative to other currencies because of the demand for the currency?

A)Australia.
B)Dubai.
C)Canada.
D)Argentina.
E)Switzerland.

Question 73

Most profits or losses on foreign trading for FIs come from

A)open positions or speculation.
B)market making.
C)acting as agents for retail customers.
D)acting as agents for wholesale customers.
E)hedging activities.

Question 74

Which of the following is an example of interest rate parity?

A)The Japanese yen trades at the same exchange rate as the Swiss franc.
B)U.S.dollar rates on one year U.S.Treasury securities equal 1 year Japanese government bond rates.
C)U.S.dollar rates on one year U.S.Treasury securities equal 1 year Japanese government bond rates, restated in dollars.
D)British pound 2 year forward rates equal 2 year Swiss franc forward rates.
E)All currency exchange rates and interest rates move in unison.

Question 75

The following are the net currency positions of a U.S.FI (stated in U.S.dollars). $$\begin{array} { | l | l | r | r | r | } \hline \text { Currency } & \text { Assets } & \text { Liabilities } & \text { FX Bought } & \text { FX Sold } \\\hline \text { British pound } & 24,600 & 70,000 & 170,400 & 321,000 \\\hline \text { Yen } & 31,000 & 20,400 & 250,000 & 220,000 \\\hline \text { Swiss franc } & 10,200 & 9,800 & 8,000 & 10,800 \\\hline\end{array}$$ What is the FI's net exposure in the Swiss franc?

A)+2,400.
B)+400.
C)-2,800.
D)-2,400.
E)+3,200.

Question 76

Deviations from the international currency parity relationships may occur because of

A)free capital movements across national boundaries.
B)barriers to cross-border financial flows.
C)perfect rationality of market participants.
D)differences in each country's productive capacity.
E)Basel capital regulations.

Question 77

The decline in European FX volatility during the last decade has been offset in part by

A)the greater volatilities of Asian currencies.
B)a reduction in inflation rates in European countries.
C)the fixing of exchange rates among European countries.
D)the replacement of domestic currencies with the euro.
E)None of the options.

Question 78

On January 1, 2016, the exchange rate of U.S.dollars for Australian dollars was 0.730 USD/AUD.On January 15, 2016, the exchange rate was 0.6863 USD/AUD.If a mining company had a net exposure to Australian dollars of 9,750,000 AUD, what is the company's U.S.dollar gain or loss during this two week period?

A)Gain of 620,829 USD
B)Loss of 620,829 USD
C)Loss of 426,075 AUD
D)Gain of 426,075 AUD
E)Loss of 426,075 USD

Question 79

Which of the following FX trading activities is used to hedge FX risk?

A)The purchase and sale of foreign currencies for the purpose of profiting from forecasting or anticipating future movements in FX rates.
B)The purchase and sale of foreign currencies to allow customers to partake in and complete international commercial trade transactions.
C)The purchase and sale of foreign currencies for the purpose of offsetting customer exposure in any given currency.
D)The purchase and sale of foreign currencies to allow customers to take positions in foreign real and financial investments.
E)None of the options.

Question 80

In which of the following FX trading activities does the FI not assume FX risk?

A)The purchase and sale of foreign currencies for the purpose of profiting from forecasting or anticipating future movements in FX rates.
B)The purchase and sale of foreign currencies to allow customers to partake in and complete international commercial trade transactions.
C)The purchase and sale of foreign currencies for the purpose of offsetting customer exposure in any given currency.
D)The purchase and sale of foreign currencies to allow customers to take positions in foreign real and financial investments.
E)The purchase and sale of foreign currencies to allow customers to partake in and complete international commercial trade transactions and to take positions in foreign real and financial investments.