Deck 8: Subprime Lending Fiasco Ethics Issues

Question 1

In simple terms, a mortgage-backed security is:

A)A portfolio of mortgages sold to investors through publicly issued bonds
B)A contract that transfers ownership of a lender's mortgages receivable
C)A contract that transfers the risk of non-collection from mortgage originators to other investors
D)All of the above
E)aand conly

Answer 1

D

Question 2

A fundamental problem with Goldman Sachs' GSAMP Trust, impeding Goldman's ability to foreclose on defaulted mortgages was that:

A)Homeowners' equity in the securitized mortgages was less than 1 percent
B)40 percent of the securitized loans had little or no documentation
C)Investors relied on Goldman Sachs
D)The underlying assets were second mortgages
E)The mortgages were allocated into thirteen tranches with different risk characteristics

Answer 2

D

Question 3

These entities worked as second party consolidators, purchasing loans and reselling them to investors:

A)Federal National Mortgage Association (Fannie Mae)and Federal Home Loan Mortgage Corporation (Freddie Mac)
B)Structured Investment Vehicles (SIVs)
C)Credit rating agencies
D)Investment banks
E)All of the above

Answer 3

A

Question 4

Early in 2008, mark-to-market accounting provisions caused the banks to:

A)Revalue their portfolio downwards
B)Be in jeopardy of falling below the regulatory capital requirements
C)Restrict new loans
D)All of the above
E)aand conly

Question 5

The 1999 Gramm-Leach-Billey Act allowed banks to:

A)Engage in subprime lending
B)Sell insurance
C)Become more involved in investment bank activities
D)Underwrite government bonds
E)Choose between commercial and investment bank activities

Question 6

According to former Federal Reserve Chairman Alan Greenspan, the Fed became concerned about subprime lending in 2000, however:

A)the global demand for mortgage-backed security ended in 2005
B)the quality of mortgage products began to deteriorate in 2005
C)the global demand for mortgage-backed security started in 2003
D)the quality of mortgage products began to deteriorate in 2003
E)the global demand for mortgage-backed security ended in 2008

Question 7

These regulators were aware of the problem and tried to blow the whistle in 2003:

A)Security and Exchange Commission and Federal Reserve Board
B)Iowa and North Carolina State Attorneys
C)Office of the Comptroller of the currency and Office of Thrift Supervision
D)Federal banking regulators
E)None of the above

Question 8

Investors relied on the judgment of credit rating agencies because:

A)Credit rating agencies are supposed to be the experts in evaluating credit risk
B)Information directly available to investors on mortgage pools was insufficient
C)Credit rating agencies are supposed to perform a thorough due diligence before rating a given security
D)All of the above
E)aand c

Question 9

Which of the following is not an example of aggressive lending practices contributing to the subprime crisis?

A)Mortgagors were not required to make any down-payment at the inception of the loan
B)Loans were given to people with poor credit histories
C)Loans were given to people with no income
D)A borrower could get a second mortgage and use it as down-payment
E)None of the above

Question 10

The 1933 Glass-Steagall Act precluded banks from:

A)Subprime lending
B)Selling insurance
C)Underwriting insurance generating more than 10% of total banking income
D)Underwriting securities generating more than 10% of total banking income
E)Underwriting any securities

Question 11

In simple terms, the securitization process is:

A)A way to sell Structured Investment Vehicles (SIVs)
B)A way to sell accounts receivable by mortgage lenders to public investors
C)A way to create high-yield investments with little risk
D)All of the above
E)aand conly

Question 12

Mark-to-market accounting is incorrectly characterized as:

A)Relevant for management compensation purposes
B)Relevant for valuation purposes
C)Relevant to investors
D)Sometimes misleading
E)Responsible for the subprime lending fiasco

Question 13

Goldman Sachs' GSAMP Trust was able to create AAA rated securities by:

A)Separating the mortgage portfolio into tranches and assigning the tranches to share risks of default equally.
B)Not disclosing the risks clearly
C)Guaranteeing or protecting some tranches
D)Separating the mortgage portfolio into tranches and designating the A-1, A-2, and A-3 tranches last in order, after the M-1 to M-7 and B-1 to B-3 tranches, to suffer losses if a default occurred
E)All of the above

Question 14

Late in 2008, the International Accounting Standards Board allowed firms to:

A)Reclassify devaluated financial assets delaying recognition of losses
B)Estimate the value of the portfolio if there is no ready market for a derivative portfolio
C)Reduce their capital requirements
D)Accelerate the recognition of losses through mark-to-market accounting
E)None of the above

Question 15

Mark-to-market accounting is usually related to all of the following items, except:

A)Derivatives and financial instruments
B)Firm's long term cash flows
C)Firm's short term taxes payable
D)Firm's short term cash flows
E)Immediate recognition of unrealized gains and losses

Question 16

Some observers claim that the U.S.Federal Reserve Board encouraged the housing and credit bubbles by:

A)Not regulating subprime mortgages
B)Cutting interest rates
C)Enforcing mark to market accounting
D)aand b
E)aand c

Question 17

Mortgage-backed securities lost their value when:

A)The underlying assets lost their value
B)Borrowers (the mortgagees)walked away without real obligation to repay
C)Mortgage originators went bankrupt
D)aand b
E)band c

Question 18

A fundamental problem with Goldman Sachs' GSAMP Trust was that:

A)Loans were given to people with poor credit histories
B)Homeowners' equity in the securitized mortgages was less than 1 percent on average
C)Loans were given to people with no income
D)58 percent of the securitized loans had little or no documentation
E)All of the above

Question 19

An issue with mark-to-market accounting when there is a highly depressed market is that:

A)Depressed values could be only temporary, portfolios are likely to re-gain value, and thus current unrealized losses are overstated
B)Depressed values could be not only temporary, portfolios are likely to re-gain value, and thus current losses are overstated
C)Depressed values could be only temporary, portfolios are not likely to re-gain value, and thus current losses are understated
D)Depressed values could be only temporary, portfolios are not likely to re-gain value, and thus current non-realized gains are overstated
E)Depressed values could be only temporary, portfolios are likely to re-gain value, and thus current non-realized losses are understated

Question 20

Rating agencies were exposed to a conflict of interest because:

A)Credit rating agencies were rating securities and investing in those securities
B)Credit rating agencies used ratings to sell securities
C)Clients of the credit rating agencies used ratings to sell securities
D)Investors do not want rating downgrades
E)Credit rating agencies were paid by the firms who created the securities being rated