Deck 5: Current Multinational Financial Challenges: the Credit Crisis of 2007 - 2009

Question 1

In its purest form,________ essentially bypasses the traditional financial intermediaries, typically banks,to go directly to investors in the marketplace in order to raise funds.

A)securitization
B)the IPO
C)liquidation
D)diversification

Answer 1

securitization

Question 2

The ________ eliminated tax deductibility on consumer loans,but allowed tax deductibility on interest charges associated with both a primary residence and a second mortgage loan.

A)Tax Reform Act of 1986
B)Garn-St-Germain Act of 1982
C)The DIDMCA of 1980
D)Gramm-Leach-Bliley Act of 1999

Answer 2

Tax Reform Act of 1986

Question 3

Which of the following would be a good example of a structured investment vehicle (SIV)?

A)issue commercial paper to purchase long-term notes
B)issue long-term notes to purchase commercial paper
C)issue long-term bonds to fund mortgage securities
D)All of the above are good examples of an SIV.

Answer 3

issue commercial paper to purchase long-term notes

Question 4

Securitization

A)provides incentives for rapid and possibly sloppy credit quality assessment.
B)allows loan originators to focus on generating more and more fees through more loans.
C)fragmented traditional banking practices by encouraging the practice of originate-to-distribute.
D)all of the above

Question 5

Securitization tends to strengthen the link between borrower and lender by encouraging continuous monitoring behavior by the lender.

Question 6

Subprime mortgages may have never exceeded 7% to 8% of all outstanding mortgage obligations by 2007,but by the end of 2008,they were the source of more than 65% of bankruptcy filings by homeowners in the United States.

Question 7

In post-2000 U.S.debt markets,securitized assets took two major forms,________.

A)options and futures
B)debt and equity
C)mortgage-backed securities and asset-backed securities
D)debentures and mortgages

Question 8

From 1990 to 2007,securitized loans in the United States grew from ________.

A)$4 trillion to $27 trillion
B)$6 billion to $25 billion
C)$6 million to $160 million
D)This type of information is unavailable.

Question 9

From 1990 to 2007,securitized loans grew from ________ of total U.S.loans outstanding.

A)2% to 4%
B)8% to 14%
C)18% to 39%
D)50% to 75%

Question 10

Following World War II,the United States has been one of the first major industrial countries to use securitization in its savings and loan and commercial banking systems.

Question 11

________ is the process of turning an illiquid asset into a liquid salable asset.

A)Liquidity
B)Securitization
C)Diversification
D)Portfolioization

Question 12

Mortgage loans in the U.S.that meet the guarantee requirements for resale to Government Sponsored Enterprises and are conforming in every way are classified as ________.

A)Alt-A
B)subprime
C)prime
D)Alt-AA

Question 13

Mortgage debt as a percentage of household disposable income continued to climb in the United States rapidly in the post-2000 business environment,and was a uniquely American,not global,issue.

Question 14

From the 1930s to the 1990s,________ banks primarily took deposits and made loans while ________ banks did security underwriting.

A)commercial; investment
B)investment; commercial
C)investment; savings
D)commercial; saving

Question 15

________ mortgage loans are generally considered low-risk but have a non-conforming element that prevents them from having the highest credit rating.

A)Prime
B)Alt-A
C)Subprime
D)Alt-B

Question 16

A (an)________ is a financial intermediation device designed to allow banks to create off-balance sheet investment entities that "borrow short" and "lend long".

A)asset-backed security (ABS)
B)structured investment vehicle (SIV)
C)mortgage-backed security (MBS)
D)plain vanilla swap

Question 17

In general,securitization tends to improve credit quality because loans are moved away from the original lenders.

Question 18

Portfolio Theory has proven to be remarkably accurate in the idea that,whereas a single large subprime
borrower constituted significant risk,a portfolio of subprime borrowers which was securitized did not.

Question 19

A ________ is a derivative instrument created from bank-originated mortgages and loans,combined with similar debt obligations into a portfolio,and then re-sold through investment banking underwriters to a variety of investors.

A)Credit Default Swap (CDS)
B)Special Purpose Vehicle (SPV)
C)Collateralized Debt Obligation (CDO)
D)Arbitrage Pricing Tranch (APT)

Question 20

Which of the following repealed the last vestiges of 1930s financial markets regulations?

A)The Glass-Steagall Act
B)Gramm-Leach-Bliley Financial Services Act
C)The Federal Deposit Insurance Corporation Act
D)The Bank Holding Company Act

Question 21

Most commodity prices rose in the first half of 2008 but then oil prices plummeted while other commodity prices continued to rise.

Question 22

Traditionally Alt-A mortgages have a default rate of less than ________ but those originated in 2006 now have a default rate in excess of ________.

A)1%; 11%
B)4%; 15%
C)8%; 20%
D)10%; 25%

Question 23

Beginning in September 2008 and extending into the spring of 2009,the world's credit markets- lending of all kinds- nearly stopped.The corporate lending markets demonstrated which of the following complex combination of crisis conditions?

A)The risky investment banking activities undertaken post-deregulation, especially in the mortgage market, overwhelmed the banks' commercial banking activities.
B)The indebtedness of the corporate sector was tiered, with the biggest firms actually being extremely well positioned to withstand the crisis. The middle and lower tier companies by size, however, were heavily dependent on debt, particularly short-term debt for working capital financing. Many were now having trouble in both servicing existing debt and gaining access to new debt to stave off declining business conditions.
C)All corporate borrowers were suddenly confronted by banks reducing their access to credit.
D)All of the above are true.

Question 24

Which of the following do the authors suggest will aid in "pulling derivatives back from the brink"?

A)renewed regulatory requirements
B)increased reporting
C)greater transparency in pricing and valuation
D)All of the above are author suggested techniques to aid the derivative market.

Question 25

The interbank market has historically operated ________.

A)without differentiating credit premiums among qualifying participating institutions
B)without discriminating by name for qualified participants.
C)as a "no-name" market
D)with all of the above characteristics

Question 26

The ________ was a contract,a derivative,which derived its value from the credit quality and performance of any specified asset.

A)Collateralized Debt Obligation (CDO)
B)Arbitrage Pricing Tranch (APT)
C)Special Purpose Vehicle (SPV)
D)Credit Default Swap (CDS)

Question 27

Many investing institutions had strict investment policy statements in place which required investment grade status (BBB and above)for purchase.Thus,there was additional pressure on rating agencies to give favorable ratings to CDOs.

Question 28

The TED spread is the difference between

A)T-bill rates and the Federal Funds rate.
B)LIBOR and some measure of risk-less interest.
C)the Federal Funds rate and the Discount rate.
D)LIBOR and NYIBOR.

Question 29

Which of the following large U.S.firms was allowed to fail in 2008 and forced to file for bankruptcy?

A)Fannie Mae
B)Lehman Brothers
C)Freddie Mac
D)AIG

Question 30

Many loan agreements with banks have market disruption clauses that allow banks to actually charge corporate borrowers their "real cost of funds," not just the published LIBOR.

Question 31

CDOs are typically sold to the market in categories representing the credit quality of the borrowers in the mortgages.Generally speaking,the ________ tranches have a credit quality of AAA.________ tranches have a quality ranging from AA to BB,and ________ tranches have ratings below BB.

A)senior, equity; mezzanine
B)senior, mezzanine; equity
C)mezzanine; equity; senior
D)equity; senior; mezzanine

Question 32

The Credit Default Swap

A)was designed to shift the risk of default to a third party.
B)was a way to bet whether a specific mortgage or security would either fail to pay on time or fail to pay at all.
C)could be used as a speculative investment or a hedge against risk.
D)could be all of the above.

Question 33

In the face of a world-wide recession,many currencies fell against the traditional three safe-haven currencies,the dollar,the euro,and the yen,

Question 34

The central bank in most countries sets the rate it lends at,it does not dictate the rate at which banks lend either between themselves or to non-bank borrowers.

Question 35

The recession of 2007 - 2009 moved through three stages in the following order:

A)1. The failure of specific mortgage-backed securities, 2. the crisis spread to the very foundations of the organizations at the core of the global financial system, the commercial and investment banks on all continents and 3. led to a credit-induced global recession of potential depression-like depths.
B)1. The failure of specific mortgage-backed securities, 2 a credit-induced global recession of potential depression-like depths, and 3. the crisis spread to the very foundations of the organizations at the core of the global financial system, the commercial and investment banks on all continents.
C)1. The crisis started with the very foundations of the organizations at the core of the global financial system, the commercial and investment banks on all continents, 2. spread to the failure of specific mortgage-backed securities, and 3. caused a credit-induced global recession of potential depression-like depths.
D)1. A credit-induced global recession of potential depression-like depths caused 2. failure among the very foundations of the organizations at the core of the global financial system, the commercial and investment banks on all continent and finally, 3. the failure of specific mortgage-backed securities.

Question 36

One of the concerns about CDOs from the very beginning was that the CDO originator had no continuing link or responsibility to the mortgage.

Question 37

The CDS was completely outside the regulatory boundaries,having obtained unique protection as a result of the Commodity Futures Modernization Act of 2000.The CDS was in fact a position or play which had been outlawed for more than a century.

Question 38

The term ________ goes far back in financial history,and indicates that if large institutions were allowed to collapse,they would take a multitude of smaller institutions with them,both financial and non-financial.A failure ripple-effect of this magnitude is simply considered unacceptable by most governments.

A)"too big to fail"
B)"caveat emptor"
C)"collapsis disastorous"
D)none of the above

Question 39

LIBOR is an acronym for ________.

A)London International Banks Official Rate
B)Latest International Banking Official Rate
C)London Interbank Offered Rate
D)Latest Interbank Option Rate

Question 40

The passage of the Financial Reform Law of 2010 changed The Federal Deposit Insurance Corporation (FDIC)protection of bank deposit accounts from the previous $250,000 to $100,000 per account.This was seen as an attempt to instill market discipline on depositors.

Question 41

Which of the following is NOT a result of the Financial Reform Law of 2010?

A)An Office of Financial Research was established.
B)The SEC can sue lawyers, accountants, and other professionals, who know about a deceptive act, even if they weren't the wrongdoer.
C)Institutions must disclose the amount of short selling in each stock.
D)All of the above are characteristics of the Financial Reform Law of 2010.

Question 42

To the best of your ability highlight the events from July 2007 through September 30,2008 that culminated with the 777 point fall in the DJIA.

Question 43

Explain BRIEFLY how the repeal of the Glass-Steagall and the Bank Holding Company Acts and the passage of the Gramm-Leach-Bliley Financial Services Modernization Act of 1999 contributed to the financial crisis of 2007-2009.

Question 44

As a result of the 2007 - 2009 financial crisis,Merrill Lynch was merged into ________.

A)Lehman Brothers
B)Bank of America
C)Wells Fargo Bank
D)Wachovia Bank

Question 45

Explain the process of securitization.In doing so be sure to define liquidity and the concept of originate-to-distribute and how the concept differs from traditional commercial bank lending.

Question 46

The authors suggest changes to several financial practices to remedy the global financial crisis.Discuss the authors' comments on the following items with regard to reducing the probability of and the severity of the effects of subsequent financial meltdowns: Debt,Securitization,Derivatives,Deregulation,and Illiquid Markets.