Question 1

Technological failure, employee fraud and employee errors are all sources of operational risk.

Accepted Answer

A) True 
 B)False  True

Question 2

Credit risk refers to the possibility that promised cash flows on financial claims such as loans and securities are not paid in full.

Accepted Answer

A) True 
 B)False  True

Question 3

When analysing an FI's performance, it is not important to consider its off-balance-sheet activities as they have no current or future impact on the FI's financial standing.

Accepted Answer

A) True 
 B)False  False

Question 4

Which of the following are effective measures for claimholders if a foreign government prohibits repayment of debt obligations to an international lender?

Accepted Answer

A)  The claimholder can recover its outstanding debt through local courts.
B)  The claimholder can recover its outstanding debt through international courts
C)  The claimholder cannot do anything.
D)  The claimholder has limited recourse through normal legal channels but may exert leverage if it has control over future loans or supply of funds.

Question 5

A small local bank failed because of a housing market collapse following the departure of the area's largest employer.What type of risk applies to the failure of the institution?

Accepted Answer

A)  firm-specific risk
B)  technological risk
C)  operational risk
D)  insolvency risk

Question 6

Which of the following is a suitable description of the term 'economies of scope'?

Accepted Answer

A)  The use of several inputs to produce one common output.
B)  The ability to generate cost savings by producing more than one output with the same inputs.
C)  The ability to lower average operating costs by expanding the number of outputs.
D)  The ability to lower average operating costs by lowering the number of outputs.

Question 7

If an FI is long-funded it means that the:

Accepted Answer

A)  maturity of assets equals the maturity of liabilities.
B)  bank holds more long-term assets than short-term assets.
C)  maturity of liabilities is less than the maturity of assets.
D)  maturity of liabilities is longer than the maturity of its assets.

Question 8

An example of a discrete risk is sudden changes in:

Accepted Answer

A)  the interest rate.
B)  banking regulations.
C)  foreign exchange rates.
D)  commodity prices.

Question 9

One of the most striking trends for many modern FIs has been the growth in their off-balance-sheet activities and thus their off-balance-sheet risk.Explain what is meant by off-balance-sheet activities and the risk associated with it using an example.

Accepted Answer

The answer of One of the most striking trends for...

Question 10

The increased opportunity for a bank to securitise loans into liquid and tradable assets is likely to affect which type of risk?

Accepted Answer

A)  sovereign risk
B)  market risk
C)  insolvency risk
D)  technological risk

Question 11

Assume that you are a financial advisor to ABC Bank.The bank wishes to invest $50 million in loans with an average maturity of 3 years.The average interest rate on these loans is 12 per cent p.a.The bank can either grant the loans at a variable rate or at a fixed rate for the time of the investment.ABC Bank has the choice of funding these loans through either at-call deposits or through 5-year maturity term deposits.Explain the different types of risks that ABC Bank faces when funding its loans.

Accepted Answer

The answer of Assume that you are a financial advisor...

Question 12

An FI that matches the maturities of its assets and liabilities is perfectly hedged against interest rate risk.

Accepted Answer

A) True 
 B)False

Question 13

A short-funded FI is exposed to increasing interest rates.

Accepted Answer

A) True 
 B)False

Question 14

Which of the following are typical off-balance-sheet activities?

Accepted Answer

A)  letters of credit
B)  loan commitments
C)  forward contracts, swaps and other derivative securities
D)  All of the listed options are correct.

Question 15

A bank has liabilities of $4 million with an average maturity of two years paying interest rates of 4 per cent annually.It has assets of $5 million with an average maturity of 5 years earning interest rates of 6 per cent annually.To what risk is the bank exposed?

Accepted Answer

A)  reinvestment risk
B)  refinancing risk
C)  interest rate risk
D)  refinancing risk and interest rate risk

Question 16

The major source of risk exposure resulting from issuance of standby letters of credit is:
A)technology risk.
B)interest rate risk.
C)
C)credit risk.
D)off-balance-sheet risk.

Accepted Answer

The answer of The major source of risk exposure resulting...

Question 17

The major difference between firm-specific credit risk and systematic credit risk is that:

Accepted Answer

A)  FIs can diversify systematic credit risk, while firm-specific credit risk cannot be diversified.
B)  FIs can diversify firm-specific credit risk, while systematic credit risk cannot be diversified.
C)  None of the listed options are correct, as FIs can diversify both types of credit risk.
D)  None of the listed options are correct, as FIs cannot diversify either type of credit risk.

Question 18

Non-performing loans are defined as loans that:

Accepted Answer

A)  are either in default or close to being in default and are at least 90 days in arrears.
B)  have been written off and loans that are at least 80 days in arrears.
C)  are either in default or close to being in default and are at least 60 days in arrears.
D)  have been written off and loans that are at least 60 days in arrears.

Question 19

Based on the case of Indymac Bank, explain how liquidity risk and insolvency risk caused a bank failure despite deposit insurance.Outline the chain of events that led to this financial institution's illiquidity and eventual closure.

Accepted Answer

The answer of Based on the case of Indymac Bank,...

Question 20

The risk that an investor will be forced to place earnings from a loan or security into a lower yielding investment is known as:

Accepted Answer

A)  liquidity risk.
B)  reinvestment risk.
C)  credit risk.
D)  foreign exchange risk.

Exam 4: Risk of Financial Institutions