Question 1

Revolving loans are credit lines

Accepted Answer

A) that allow the borrower to borrow the repeat credit only after the first loan is repaid. 
B) that specify a maximum size and a maximum period of time over which the borrower can withdraw funds. 
C) whose interest rate adjusts with movements in an underlying market index interest rate. 
D) on which a borrower can both draw and repay many times over the life of the loan contract. 
E) that include new and used automobile loans, mobile home loans, and fixed-term consumer loans. 
A) that allow the borrower to borrow the repeat credit only after the first loan is repaid. 
B) that specify a maximum size and a maximum period of time over which the borrower can withdraw funds. 
C) whose interest rate adjusts with movements in an underlying market index interest rate. 
D) on which a borrower can both draw and repay many times over the life of the loan contract. 
E) that include new and used automobile loans, mobile home loans, and fixed-term consumer loans.

Question 2

A secured loan has a claim to specific assets of the borrower in the case of default.

Accepted Answer

A) True 
 B)False

Question 3

Using a modified discriminant function similar to Altman's, Burger Bank estimates the following coefficients for its portfolio of loans: Z = 1.4X1 + 1.09X2 + 1.5X3

where X1 = debt to asset ratio; X2 = net income and X3 = dividend payout ratio.
Using Z = 1.682 as the cut-off rate, what should be the debt to asset ratio of the firm in order for the bank to approve the loan?

Accepted Answer

A) 40.0 percent. 
B) 46.5 percent. 
C) 51.5 percent. 
D) 54.0 percent. 
E) 65.0 percent. 
A) 40.0 percent. 
B) 46.5 percent. 
C) 51.5 percent. 
D) 54.0 percent. 
E) 65.0 percent.

Question 4

Unsecured debt is considered to be senior to secured debt.

Accepted Answer

A) True 
 B)False

Question 5

Commercial real estate mortgages have been the fastest growing component of real estate loans.

Accepted Answer

A) True 
 B)False

Question 6

Which of the following is NOT characteristic of the real estate portfolio for most banks?

Accepted Answer

A) Commercial real estate mortgages have been the fastest growing component of real estate loans. 
B) Adjustable rate mortgages have rates that are periodically adjusted to some index. 
C) Borrowers prefer fixed-rate loans to ARMs during periods of high interest rates. 
D) Residential mortgages are the largest component of the real estate loan portfolio. 
E) The proportion of ARMs to fixed-rate mortgages can vary considerably over the rate cycle. 
A) Commercial real estate mortgages have been the fastest growing component of real estate loans. 
B) Adjustable rate mortgages have rates that are periodically adjusted to some index. 
C) Borrowers prefer fixed-rate loans to ARMs during periods of high interest rates. 
D) Residential mortgages are the largest component of the real estate loan portfolio. 
E) The proportion of ARMs to fixed-rate mortgages can vary considerably over the rate cycle.

Question 7

From the perspective of an FI, which of the following is an advantage of a floating-rate loan?

Accepted Answer

A) Stable interest payments will be received throughout the loan period. 
B) The pre-specified interest rate remains in force over the loan contract period no matter what happens to market interest rates. 
C) The bank can request repayment of a loan at any time in the contract period. 
D) The default risk is completely eliminated. 
E) The interest rate risk is transferred to the borrower. 
A) Stable interest payments will be received throughout the loan period. 
B) The pre-specified interest rate remains in force over the loan contract period no matter what happens to market interest rates. 
C) The bank can request repayment of a loan at any time in the contract period. 
D) The default risk is completely eliminated. 
E) The interest rate risk is transferred to the borrower.

Question 8

Which of the following is NOT characteristic of the consumer loans at U.S.banks?

Accepted Answer

A) Non revolving consumer loans is the largest class of loans. 
B) Credit card loans often have default rates between four and eight percent. 
C) Usury ceilings affect the rate structure for consumer loans. 
D) Consumer loans differ widely with respect to collateral, rates, maturity, and noninterest fees. 
E) Revolving consumer loans include new and used automobile loans, mobile home loans, and fixed-term consumer loans. 
A) Non revolving consumer loans is the largest class of loans. 
B) Credit card loans often have default rates between four and eight percent. 
C) Usury ceilings affect the rate structure for consumer loans. 
D) Consumer loans differ widely with respect to collateral, rates, maturity, and noninterest fees. 
E) Revolving consumer loans include new and used automobile loans, mobile home loans, and fixed-term consumer loans.

Question 9

Which of the following is the major weakness of the linear probability model?

Accepted Answer

A) The model is based on past data of the borrower. 
B) Measurement of the loan risk is difficult. 
C) Estimated probabilities of default may lie outside the interval 0 to 1. 
D) Neither the market value of a firm's assets nor the volatility of the firm's assets is directly observed. 
E) None of the options is a weakness of the linear probability model. 
A) The model is based on past data of the borrower. 
B) Measurement of the loan risk is difficult. 
C) Estimated probabilities of default may lie outside the interval 0 to 1. 
D) Neither the market value of a firm's assets nor the volatility of the firm's assets is directly observed. 
E) None of the options is a weakness of the linear probability model.

Question 10

Which of the following loan applicant characteristics is not relevant in the credit approval decision?

Accepted Answer

A) Leverage position of the borrower. 
B) Borrower income. 
C) Value of collateral. 
D) Borrower reputation. 
E) None of the options. 
A) Leverage position of the borrower. 
B) Borrower income. 
C) Value of collateral. 
D) Borrower reputation. 
E) None of the options.

Question 11

Which of the following is not a qualitative factor in credit risk analysis?

Accepted Answer

A) Borrower reputation. 
B) Borrower ethnic origin. 
C) Leverage position of the borrower. 
D) The level of interest rates. 
E) Collateral available. 
A) Borrower reputation. 
B) Borrower ethnic origin. 
C) Leverage position of the borrower. 
D) The level of interest rates. 
E) Collateral available.

Question 12

A loan commitment is an agreement involving the amount of loan available and the amount of time during which the loan can be initiated.

Accepted Answer

A) True 
 B)False

Question 13

Which of the following is a problem in using discriminant analysis to evaluate credit risk?

Accepted Answer

A) It does not consider gradations of default. 
B) The weights in the discriminant function are assumed to be dynamic. 
C) It can include hard-to-quantify factors. 
D) Data on loan specific information of banks are readily available. 
E) It does not assume that variables are independent of one another. 
A) It does not consider gradations of default. 
B) The weights in the discriminant function are assumed to be dynamic. 
C) It can include hard-to-quantify factors. 
D) Data on loan specific information of banks are readily available. 
E) It does not assume that variables are independent of one another.

Question 14

Adjusting interest rates, fees, and other terms upward for increasing amounts of default risk is a way to attempt to realize the expected return on the loan.

Accepted Answer

A) True 
 B)False

Question 15

What interest rate is expected on a one-year B-rated corporate bond in one year? (Hint: Use the implied forward rate.)

Accepted Answer

A) 10.0 percent. 
B) 9.09 percent. 
C) 14.15 percent. 
D) 12.0 percent. 
E) 17.0 percent. [Refer to: 10-107] 
A) 10.0 percent. 
B) 9.09 percent. 
C) 14.15 percent. 
D) 12.0 percent. 
E) 17.0 percent. [Refer to: 10-107]

Question 16

At some point, further increases in interest rates on specific loans may decrease expected loan returns because of increased probability of default by the borrower.

Accepted Answer

A) True 
 B)False

Question 17

Which of the following refers to the term "mortality rate"?

Accepted Answer

A) The success rate of new investments. 
B) A one-period rate of interest expected on a bond issued at some date in the future. 
C) The probability that a borrower will default in any given year. 
D) Historic default rate experience of a bond or loan. 
E) The probability that a borrower will default over a specified multi-year period. 
A) The success rate of new investments. 
B) A one-period rate of interest expected on a bond issued at some date in the future. 
C) The probability that a borrower will default in any given year. 
D) Historic default rate experience of a bond or loan. 
E) The probability that a borrower will default over a specified multi-year period.

Question 18

Using the term structure of default probabilities, the implied default probability for BBB corporate debt during the current year is

Accepted Answer

A) 98.0 percent. 
B) 2.35 percent. 
C) 4.19 percent. 
D) 3.90 percent. 
E) 2.71 percent. [Refer to: 10-114] 
A) 98.0 percent. 
B) 2.35 percent. 
C) 4.19 percent. 
D) 3.90 percent. 
E) 2.71 percent. [Refer to: 10-114]

Question 19

Cumulative default probability refers to

Accepted Answer

A) probability that a borrower will default over a specified multi-year period. 
B) expected maximum change in the loan rate due to a change in the risk factor on the loan. 
C) historic default rate experience of a bond or loan. 
D) expected maximum change in the loan rate due to a change in the credit premium. 
E) probability that a borrower will default in any given year. 
A) probability that a borrower will default over a specified multi-year period. 
B) expected maximum change in the loan rate due to a change in the risk factor on the loan. 
C) historic default rate experience of a bond or loan. 
D) expected maximum change in the loan rate due to a change in the credit premium. 
E) probability that a borrower will default in any given year.

Question 20

The duration of a soon to be approved loan of $10 million is four years.The 99th percentile increase in risk premium for bonds belonging to the same risk category of the loan has been estimated to be 5.5 percent. What is the estimated risk-adjusted return on capital (RAROC) of this loan.

Accepted Answer

A) 6.36 percent. 
B) 7.00 percent. 
C) 7.13 percent. 
D) 10.55 percent. 
E) 25.45 percent. 
A) 6.36 percent. 
B) 7.00 percent. 
C) 7.13 percent. 
D) 10.55 percent. 
E) 25.45 percent.

Exam 10: Credit Risk: Individual Loan Risk

Revolving loans are credit lines

A secured loan has a claim to specific assets of the borrower in the case of default.

Unsecured debt is considered to be senior to secured debt.

Commercial real estate mortgages have been the fastest growing component of real estate loans.

Which of the following is NOT characteristic of the real estate portfolio for most banks?

From the perspective of an FI, which of the following is an advantage of a floating-rate loan?

Which of the following is NOT characteristic of the consumer loans at U.S.banks?

Which of the following is the major weakness of the linear probability model?

Which of the following loan applicant characteristics is not relevant in the credit approval decision?

Which of the following is not a qualitative factor in credit risk analysis?

A loan commitment is an agreement involving the amount of loan available and the amount of time during which the loan can be initiated.

Which of the following is a problem in using discriminant analysis to evaluate credit risk?

Adjusting interest rates, fees, and other terms upward for increasing amounts of default risk is a way to attempt to realize the expected return on the loan.

What interest rate is expected on a one-year B-rated corporate bond in one year? (Hint: Use the implied forward rate.)

At some point, further increases in interest rates on specific loans may decrease expected loan returns because of increased probability of default by the borrower.

Which of the following refers to the term "mortality rate"?

Using the term structure of default probabilities, the implied default probability for BBB corporate debt during the current year is

Cumulative default probability refers to

The duration of a soon to be approved loan of $10 million is four years.The 99th percentile increase in risk premium for bonds belonging to the same risk category of the loan has been estimated to be 5.5 percent. What is the estimated risk-adjusted return on capital (RAROC) of this loan.

Why Are Financial Institutions Special

Financial Services: Depository Institutions

Financial Services: Finance Companies

Financial Services: Securities Brokerage and Investment Banking

Financial Services: Mutual Funds and Hedge Funds

Financial Services: Insurance

Risks of Financial Institutions

Interest Rate Risk I

Interest Rate Risk II

Credit Risk: Loan Portfolio and Concentration Risk

Liquidity Risk

Foreign Exchange Risk

Sovereign Risk

Market Risk

Off-Balance-Sheet Risk

Technology and Other Operational Risks

Fintech Risks

Liability and Liquidity Management

Deposit Insurance and Other Liability Guarantees

Capital Adequacy

Product and Geographic Expansion

Futures and Forwards

Options, Caps, Floors, and Collars

Swaps

Loan Sales

Securitization

Filters

The duration of a soon to be approved loan of $10 million is four years.The 99^th percentile increase in risk premium for bonds belonging to the same risk category of the loan has been estimated to be 5.5 percent. What is the estimated risk-adjusted return on capital (RAROC) of this loan.