Deck 15: The Management of Capital

Question 1

_________________________ are the net earnings of a bank,which have been kept by the bank rather than being distributed as dividends to stockholders.

Answer 1

Undivided profits (or retained earnings

Question 2

Supplemental capital such as the allowance for loan and lease losses,subordinated debt capital instruments,mandatory convertible debt,intermediate-term preferred stock,cumulative perpetual preferred stock with unpaid dividends,and equity notes and other long-term capital instruments that combine both debt and equity features is more commonly known as ________________________.

Answer 2

Tier 2 capital

Question 3

__________________ is the amount in excess of stock's par value paid by the bank's shareholders.

Answer 3

Surplus

Question 4

The risk that has to do with banks trading in foreign currencies is called ________________________.

Question 5

_________________________ is measured by the par value of the shares of common equity outstanding.

Question 6

The latest revision to the Basel accord is known as __________ and will cover capital,liquidity,and debt positions of individual international banks and also the much broader issues associated with controlling global business cycles and financial system-wide risks.

Question 7

The risk that has to do with fraud,embezzlement and bank robberies is called _________________.

Question 8

At the center of the debate of the Basel Agreement is the ____________,headquartered in Basel,Switzerland,which assists central banks in their transactions with each other and serves as a forum for international financial issues.

Question 9

Core capital such as common stock and surplus,undivided profits,qualifying noncumulative perpetual preferred stock,etc.is referred to as __________________ capital,as defined by the Basel agreement.

Question 10

The largest component of capital among commercial banks is ___________.

Question 11

One defense against risk for a bank is to seek out customers located in different communities or in different countries.This defense is known as ________________________.

Question 12

When all else fails,the ultimate defense against risk in banking is ________________________.

Question 13

_________________ risk measures are being developed to be used when Basel III takes effect.

Question 14

____________ models measure a lender's exposure to defaults or credit downgrades.

Question 15

____________ models attempt to measure price or market risk of a portfolio of assets and attempt to determine the maximum loss they might sustain over a designated period of time.

Question 16

The largest component of capital among thrift institutions is ____________.

Question 17

When the assets items on a bank's balance sheet and each off-balance-sheet commitment it has made are multiplied by the appropriate risk-weighting factor,they are often called ________________________.

Question 18

The international treaty involving representatives from the U.S.and 12 other leading industrialized countries to impose common capital requirements on all banks is known as the ________________________.

Question 19

The fact that a bank may suffer deficiencies in quality control,inefficiencies in producing and delivering of services,natural disasters,terrorist acts,weather damage,aging or faulty computer systems,errors in judgment by management,and fluctuations in economy that could adversely affect the bank's performance,is known as _________________________ risk.

Question 20

One defense against risk for a bank is to spread out its credit accounts and deposits among a wide variety of customers,including large and small business accounts,different industries,etc.This defense is known as ________________________.

Question 21

Portfolio diversification refers to seeking out customers located in different communities or countries,which presumably will experience different economic conditions.

Question 22

_________ for banks include assets like mortgage servicing rights and purchased credit card relationships and such assets can be counted as part of bank capital.

Question 23

Geographic diversification refers to the spreading out credit accounts and deposits among a wide variety of customers within a country,including large and small business accounts,different industries,and households with a variety of sources of income and collateral.

Question 24

Recent research suggests that interest-rate contracts display considerably less risk exposure than do foreign-currency contracts.

Question 25

The last line of defense against bank failure is owner's capital,according to the textbook.

Question 26

According to the textbook,capital and risk are intimately related to each other.

Question 27

_________ are debt securities repayable from the sale of stock.

Question 28

Off-balance-sheet commitments of banks carry capital requirements under the international (Basel)capital standards.

Question 29

In the field of banking,capital refers principally to those funds contributed by a bank's owners.

Question 30

Core capital includes the surplus value of common stock.

Question 31

Under the FDIC Improvement Act of 1991,a U.S.bank possessing a leverage ratio greater than 4 percent would be considered well capitalized.

Question 32

Under the international capital (Basel)agreement,Tier 2 capital must be raised to a minimum of 4 percent of risk-weighted assets.

Question 33

__________ is a hybrid form of debt and equity capital issued to investors.

Question 34

Deposit insurance subsidized by government encourages banks to increase their ratios of capital to deposits.

Question 35

Under the FDIC Improvement Act of 1991,a bank whose leverage ratio drops to 2 percent or less is considered to be critically undercapitalized.

Question 36

_________ are a type of long-term debt capital whose claims legally follow after the claims of depositors.

Question 37

Under the terms of Basel I,Tier 2 capital includes undivided profits.

Question 38

_____________ represents funds set aside for contingencies,such as legal action against the institution,as well as providing a reserve for dividends expected to be paid but not yet declared,and a sinking fund to retire stock or debt in the future.

Question 39

One fundamental purpose for regulating capital is to limit losses to the government and other institutions arising from deposit insurance claims.

Question 40

The Basel Agreement on new capital standards,as drafted in the 1980s,failed to deal with market risk.

Question 41

Equity notes are considered to be part of Tier 1 capital.

Question 42

According to recent research,bank stock prices usually drop within a week after a dividend cut is announced.

Question 43

Recently,the daily rate at which robberies have occurred in the U.S.has continued to climb.

Question 44

The textbook discusses several alternative defenses banks have against risk.These defenses include:

A)quality management.
B)portfolio diversification.
C)geographic diversification.
D)deposit insurance.
E)All of the options are correct.

Question 45

One of the key pillars for capital regulation in Basel II was to require banks to hold capital against its own estimated risk exposure from operational risk.

Question 46

Smaller banks rely more heavily on internally generated capital than larger banks.

Question 47

If the ratio of tangible equity capital to total assets is 2 percent or less,it is subject to being placed in conservatorship or receivership unless the institution's principal regulator and the FDIC determine that it would be in the public interest to allow the institution to continue under present ownership and management.

Question 48

Regulatory capital focuses on the market value of equity.

Question 49

According to the textbook,the role(s)of capital is to:

A)provide a cushion against failure risk.
B)provide funds needed to charter,organize,and operate a bank.
C)promote public confidence.
D)support growth and the development of new services.
E)All of the options are correct.

Question 50

Deposits with the Federal Reserve banks are considered to have moderate credit risk and are therefore placed in the 50 percent risk-weight category.

Question 51

VaR models measure the market risk and indicate the potential for losses on a portfolio of assets.

Question 52

The largest source of thrift capital in terms of dollar volume is common stock (par value).

Question 53

The largest component of capital among banks is retained earnings.

Question 54

It is anticipated that Basel III may increase capital requirements for banks.

Question 55

Credit risk models measure the market risk of a portfolio whose value may decline due to adverse movements in interest rates,stock prices,currency values,or commodity prices.

Question 56

Basel II requires each bank to determine its own capital requirements based on its own calculated risk exposure.

Question 57

A well-capitalized institution has a ratio of capital to risk-weighted assets of at least 10 percent and faces no significant regulatory restrictions on its expansion.

Question 58

One of the reasons to regulate the capital position of banks is to limit the risk of bank failures,especially large bank failures.

Question 59

The global financial crisis of 2007-2009 highlighted the importance of taking into consideration a bank's exposure to market risk that arise from changes in interest rates,security prices,and currency.

Question 60

VaR models are most successful in assessing potential risk when the assets are non-traded.

Question 61

The fundamental purposes of regulating bank capital cited in the textbook include which of the following?

A)To reduce liquid funds held by the banks.
B)To preserve public confidence in banks.
C)To limit losses to the public arising from insurance claims.
D)To increase the risk taking ability of the banks.
E)To reduce liquid funds held by the banks and to increase the risk taking ability of the banks.

Question 62

Measured by dollar volume,the largest category of capital at U.S.banks is:

A)par value of common stock.
B)subordinated notes and debentures.
C)surplus.
D)undivided profits and capital reserves.
E)None of the options is correct.

Question 63

The ratio of core capital to average total assets is called the:

A)supplemental capital ratio.
B)leverage ratio.
C)long-term capital ratio.
D)GAAP capital ratio.
E)None of the options is correct.

Question 64

Which of the following assets fit(s)into the 0 percent risk-weight category?

A)Cash
B)Deposits at the Federal Reserve
C)Treasury Bills
D)GNMA mortgage-backed securities
E)All of the options are assets that fit into the 0 percent risk-weight category.

Question 65

Which of the following would be an example of Tier 2 capital?

A)Subordinated debt capital instruments
B)Undivided profits
C)Minority interest in the equity accounts of consolidated subsidiaries
D)Qualifying noncumulative preferred stock
E)All of the options are correct.

Question 66

A bank has $100 million in assets in the 0 percent risk-weight category,$200 million in assets in the 20 percent risk-weight category,$500 million in assets in the 50 percent risk-weight category,and $750 million in assets in the 100 percent risk-weight category.This bank has $57 million in core (Tier 1)capital.What is this bank's ratio of Tier 1 capital to risk-weighted assets?

A)3.68 percent
B)7.60 percent
C)18.25 percent
D)5.48 percent
E)None of the options is correct.

Question 67

Possible breakdowns in quality control,inefficiencies in producing and delivering financial services,weather damage,aging or faulty computer systems,and errors in judgment by bank management illustrate what form of risk faced by banks?

A)Credit risk
B)Liquidity risk
C)Interest-rate risk
D)Operational risk
E)None of the options is correct.

Question 68

Which of the following would be an example of crime risk?

A)A bank manager embezzles $1,000,000 from the bank.
B)A bank that loses $500,000 from trading in foreign currencies.
C)A $1,000,000 loan given to a business on which no interest and principal has been collected in 2 years.
D)A bank manager predicts that interest rates will rise.However,interest rates fall causing the bank 's net income to fall by $250,000.
E)All of the options are examples of crime risk.

Question 69

A 'well capitalized' bank in the United States must have a leverage ratio of at least:

A)4 percent
B)5 percent
C)6 percent
D)8 percent
E)None of the options is correct.

Question 70

A bank that is 'well-capitalized':

A)faces no significant regulatory restriction on its expansion.
B)cannot accept broker placed deposits without regulatory approval.
C)has limits on dividends and management fees it is allowed to pay and limits on the maximum asset growth rate among other restrictions.
D)will be placed into conservatorship or receivership if its capital level is not increased within a certain time limit.
E)None of the options is correct.

Question 71

A bank that is 'critically undercapitalized':

A)faces no significant regulatory restrictions.
B)can only grant loan to highly leveraged borrowers.
C)cannot avoid seizure in all circumstances.
D)will be placed into conservatorship or receivership if its capital level is not increased within a certain time limit.
E)None of the options is correct.

Question 72

Second National Bank is forecasting a return on equity of 15 percent for this year.The board of directors wants to maintain its current policy of paying the bank's stockholders 40 percent of any net earnings the bank will earn.How fast can the bank's assets grow this year without jeopardizing its ratio of capital to assets?

A)15 percent
B)9 percent
C)8 percent
D)6 percent
E)None of the options is correct.

Question 73

A bank has a profit margin of 5 percent,an asset utilization ratio of 11 percent,an equity multiplier of 12,and a retention ratio of 60 percent.What is this bank's ICGR?

A)6.60 percent
B)3.96 percent
C)7.20 percent
D)0.33 percent
E)None of the options is correct.

Question 74

A bank that is adequately capitalized:

A)faces no significant regulatory restrictions.
B)cannot accept broker-placed deposits without regulatory approval.
C)has limits on dividends and management fees it is allowed to pay and limits on the maximum asset growth rate among other restrictions.
D)will be placed into conservatorship or receivership if its capital level is not increased within a certain time limit.
E)None of the options is correct.

Question 75

Which of the following would be an example of Tier 1 capital?

A)Subordinated debt capital instruments with an original maturity of at least 5 years
B)Allowance for loan and lease losses
C)Minority interest in the equity accounts of consolidated subsidiaries
D)Intermediate-term preferred stock
E)All of the options are correct.

Question 76

In the United States a 'well capitalized' bank must have a ratio of capital to risk-weighted assets of at least:

A)6 percent.
B)8 percent.
C)10 percent.
D)5 percent.
E)None of the options is correct.

Question 77

The internal capital growth rate for a bank is a function of which of the following factors?

A)Profit margin.
B)Asset utilization.
C)Equity multiplier.
D)Earnings retention ratio.
E)All of the options are correct.

Question 78

Which of the following is in the 100 percent risk-weight category?

A)Cash
B)General obligation municipal bonds
C)Residential mortgage loans
D)Credit card loans
E)None of the options is correct.

Question 79

In the United States a bank to be considered 'adequately capitalized' must have a ratio of Tier 1 (or core)capital to risk-weighted assets of at least:

A)8 percent
B)6 percent
C)10 percent
D)4 percent
E)None of the options is correct.

Question 80

The risk that a customer with whom the bank has entered into a contract with,will fail to pay or to perform,forcing the bank to find a replacement contract with another party that may be less satisfactory is what form of risk listed below?

A)Counterparty risk
B)Interest-rate risk
C)Operating risk
D)Credit risk
E)Liquidity risk