Question 1

Which of the following observations is true of a spot loan?

Accepted Answer

A) It involves a maximum size and a maximum period of time over which the borrower can withdraw funds. 
B) It involves immediate withdrawal of the entire loan amount by the borrower. 
C) It is an unsecured short-term debt instrument issued by corporations. 
D) It is a nonbank loan substitute. 
E) It is a line of credit. 
A) It involves a maximum size and a maximum period of time over which the borrower can withdraw funds. 
B) It involves immediate withdrawal of the entire loan amount by the borrower. 
C) It is an unsecured short-term debt instrument issued by corporations. 
D) It is a nonbank loan substitute. 
E) It is a line of credit.

Question 2

Which of the following statements does NOT reflect credit decisions at the retail level?

Accepted Answer

A) Loans to retail customers are more likely to be rationed through interest rates than loan quantity restrictions. 
B) Most loan decisions at the retail level tend to be accept or reject decisions. 
C) Mortgage loans often are discriminated based on loan to price ratios rather than interest rates. 
D) Household borrowers require higher costs of information collection for lenders. 
E) Retail loans tend to be smaller than wholesale loans. 
A) Loans to retail customers are more likely to be rationed through interest rates than loan quantity restrictions. 
B) Most loan decisions at the retail level tend to be accept or reject decisions. 
C) Mortgage loans often are discriminated based on loan to price ratios rather than interest rates. 
D) Household borrowers require higher costs of information collection for lenders. 
E) Retail loans tend to be smaller than wholesale loans.

Question 3

The condition of no arbitrage profits implies that profits cannot be made without taking some risk.

Accepted Answer

A) True 
 B)False

Question 4

A major advantage of discriminant models to assess the credit risk of a customer is the stability of the coefficient weights over time.

Accepted Answer

A) True 
 B)False

Question 5

By combining different economic and financial borrower characteristic, an FI manager is able to:

Accepted Answer

A) Numerically establish which factors are important in explaining default risk. 
B) Evaluate the relative degree or importance of these factors. 
C) Improve the pricing of default risk. 
D) Be better able to screen out bad loan applicants. 
E) all are true. 
A) Numerically establish which factors are important in explaining default risk. 
B) Evaluate the relative degree or importance of these factors. 
C) Improve the pricing of default risk. 
D) Be better able to screen out bad loan applicants. 
E) all are true.

Question 6

Credit rationing by an FI

Accepted Answer

A) involves restricting the quantity of loans made available to individual borrowers. 
B) results from a positive linear relationship between interest rates and expected loan returns. 
C) is not used by FIs at the retail level. 
D) involves rationing consumer loans using price or interest rate differences. 
E) is only relevant to banks. 
A) involves restricting the quantity of loans made available to individual borrowers. 
B) results from a positive linear relationship between interest rates and expected loan returns. 
C) is not used by FIs at the retail level. 
D) involves rationing consumer loans using price or interest rate differences. 
E) is only relevant to banks.

Question 7

The following statement is not true of qualitative models.

Accepted Answer

A) In the absence of publicly available information on the quality of borrowers, the FI manager has to assemble information from private sources. 
B) The FI manager has to consider borrower-specific factors such as idiosyncratic to the individual borrower. 
C) Qualitative models use real-time data such as credit scoring models to make decisions. 
D) The FI manager should weigh market-specific factors, which have an impact on all borrowers at the time of the credit decision. 
E) Qualitative models use subjective judgement from the FI manager. 
A) In the absence of publicly available information on the quality of borrowers, the FI manager has to assemble information from private sources. 
B) The FI manager has to consider borrower-specific factors such as idiosyncratic to the individual borrower. 
C) Qualitative models use real-time data such as credit scoring models to make decisions. 
D) The FI manager should weigh market-specific factors, which have an impact on all borrowers at the time of the credit decision. 
E) Qualitative models use subjective judgement from the FI manager.

Question 8

The cumulative default probability of a borrower in a given time period is one minus the product of the marginal default probabilities for all time periods up to that time period.

Accepted Answer

A) True 
 B)False

Question 9

What spread is expected between the one-year maturity B-rated bond and the one-year Treasury bond in one year?

Accepted Answer

A) 3.00 percent. 
B) 5.06 percent. 
C) 4.00 percent. 
D) 5.00 percent. 
E) 7.00 percent. [Refer to: 10-107] 
A) 3.00 percent. 
B) 5.06 percent. 
C) 4.00 percent. 
D) 5.00 percent. 
E) 7.00 percent. [Refer to: 10-107]

Question 10

Risk-adjusted return on capital (RAROC) models serve as both a credit risk measure and a pricing tool for a loan officer.

Accepted Answer

A) True 
 B)False

Question 11

The exact interest rate to be charged on a fixed-rate loan is agreed upon by all parties at the time the commitment is negotiated.

Accepted Answer

A) True 
 B)False

Question 12

The marginal mortality rate is the probability of a bond or loan defaulting in any given year after it is issued.

Accepted Answer

A) True 
 B)False

Question 13

The payoff function of a loan to a debt holder is similar to writing a call option on the value of the borrower's assets with the face value of the debt as the exercise price.

Accepted Answer

A) True 
 B)False

Question 14

Suppose that the financial ratios of a potential borrowing firm took the following values: X1 = 0.30
X2 = 0
X3 = -0.30
X4 = 0.15
X5 = 2.1
Altman's discriminant function takes the form:
Z = 1.2 X1+ 1.4 X2 + 3.3 X3 + 0.6 X4 + 1.0 X5
The Z score for the firm would be

Accepted Answer

A) 1.64. 
B) 1.56. 
C) 2.1. 
D) 3.54. 
E) 2.96. 
A) 1.64. 
B) 1.56. 
C) 2.1. 
D) 3.54. 
E) 2.96.

Question 15

The following statement is not true of qualitative models.

Accepted Answer

A) In the absence of publicly available information on the quality of borrowers, the FI manager has to assemble information from private sources. 
B) The FI manager has to consider borrower-specific factors such as idiosyncratic to the individual borrower. 
C) Qualitative models use real-time data such as credit scoring models to make decisions. 
D) The FI manager should weigh market-specific factors, which have an impact on all borrowers at the time of the credit decision. 
E) Qualitative models use subjective judgement from the FI manager. 
A) In the absence of publicly available information on the quality of borrowers, the FI manager has to assemble information from private sources. 
B) The FI manager has to consider borrower-specific factors such as idiosyncratic to the individual borrower. 
C) Qualitative models use real-time data such as credit scoring models to make decisions. 
D) The FI manager should weigh market-specific factors, which have an impact on all borrowers at the time of the credit decision. 
E) Qualitative models use subjective judgement from the FI manager.

Question 16

Borrower reputation is important in assessing credit quality because

Accepted Answer

A) good past payment performance perfectly predicts future behavior. 
B) preservation of a good customer/FI relationship acts as an additional incentive to encourage loan repayment. 
C) FIs only lend to customers they know. 
D) customers with poor credit histories always default on their loans. 
E) a reputation for honesty is important in credit appraisal. 
A) good past payment performance perfectly predicts future behavior. 
B) preservation of a good customer/FI relationship acts as an additional incentive to encourage loan repayment. 
C) FIs only lend to customers they know. 
D) customers with poor credit histories always default on their loans. 
E) a reputation for honesty is important in credit appraisal.

Question 17

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. If the minimum RAROC acceptable to the bank is 8 percent, what should be its expected percentage fee income in order for it to approve the loan?

Accepted Answer

A) .157 percent. 
B) .331 percent. 
C) .471 percent. 
D) .531 percent. 
E) .571 percent. 
A) .157 percent. 
B) .331 percent. 
C) .471 percent. 
D) .531 percent. 
E) .571 percent.

Question 18

Long-term loans are more likely to be made under a loan commitment agreement than short-term loans.

Accepted Answer

A) True 
 B)False

Question 19

The mortality rate measures the past default experience of all loans, regardless of quality.

Accepted Answer

A) True 
 B)False

Question 20

The primary difficulty in arranging a syndicated loan is having all of the various lending and borrowing parties reach agreement on terms, rates, and collateral.

Accepted Answer

A) True 
 B)False

Exam 10: Credit Risk: Individual Loan Risk

Which of the following observations is true of a spot loan?

Which of the following statements does NOT reflect credit decisions at the retail level?

The condition of no arbitrage profits implies that profits cannot be made without taking some risk.

A major advantage of discriminant models to assess the credit risk of a customer is the stability of the coefficient weights over time.

By combining different economic and financial borrower characteristic, an FI manager is able to:

Credit rationing by an FI

The following statement is not true of qualitative models.

The cumulative default probability of a borrower in a given time period is one minus the product of the marginal default probabilities for all time periods up to that time period.

What spread is expected between the one-year maturity B-rated bond and the one-year Treasury bond in one year?

Risk-adjusted return on capital (RAROC) models serve as both a credit risk measure and a pricing tool for a loan officer.

The exact interest rate to be charged on a fixed-rate loan is agreed upon by all parties at the time the commitment is negotiated.

The marginal mortality rate is the probability of a bond or loan defaulting in any given year after it is issued.

The payoff function of a loan to a debt holder is similar to writing a call option on the value of the borrower's assets with the face value of the debt as the exercise price.

Suppose that the financial ratios of a potential borrowing firm took the following values: X1 = 0.30 X2 = 0 X3 = -0.30 X4 = 0.15 X5 = 2.1 Altman's discriminant function takes the form: Z = 1.2 X1+ 1.4 X2 + 3.3 X3 + 0.6 X4 + 1.0 X5 The Z score for the firm would be

The following statement is not true of qualitative models.

Borrower reputation is important in assessing credit quality because

Long-term loans are more likely to be made under a loan commitment agreement than short-term loans.

The mortality rate measures the past default experience of all loans, regardless of quality.

The primary difficulty in arranging a syndicated loan is having all of the various lending and borrowing parties reach agreement on terms, rates, and collateral.

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

Suppose that the financial ratios of a potential borrowing firm took the following values: X₁ = 0.30 X₂ = 0 X₃ = -0.30 X₄ = 0.15 X₅ = 2.1 Altman's discriminant function takes the form: Z = 1.2 X₁+ 1.4 X₂ + 3.3 X₃ + 0.6 X₄ + 1.0 X₅ The Z score for the firm would be