Question 1

The present value of an off-balance-sheet item is referred to as its notional value.

Accepted Answer

A) True 
 B)False  False

Question 2

Basis risk occurs on a loan commitment because the spread of a pricing index over the cost of funds may vary.

Accepted Answer

A) True 
 B)False  True

Question 3

The delta of an option is

Accepted Answer

A) a measure of the option's price volatility. 
B) calculated by dividing the price of the underlying security by the change in the option's price. 
C) equal to the option premium. 
D) calculated by multiplying the change in the price of the underlying security by the change in the option's price. 
A) a measure of the option's price volatility. 
B) calculated by dividing the price of the underlying security by the change in the option's price. 
C) equal to the option premium. 
D) calculated by multiplying the change in the price of the underlying security by the change in the option's price. A

Question 4

What is a swap?

Accepted Answer

A) An agreement between two parties to exchange assets or a series of cash flows for a specific period of time at a specified interval. 
B) An agreement between a buyer and a seller at time 0 to exchange a nonstandardized asset for cash at some future date. 
C) A contract that gives the holder the right,but not the obligation to buy or sell the underlying asset at a specified price within a specified period of time. 
D) Trading in securities prior to their actual issue. 
A) An agreement between two parties to exchange assets or a series of cash flows for a specific period of time at a specified interval. 
B) An agreement between a buyer and a seller at time 0 to exchange a nonstandardized asset for cash at some future date. 
C) A contract that gives the holder the right,but not the obligation to buy or sell the underlying asset at a specified price within a specified period of time. 
D) Trading in securities prior to their actual issue.

Question 5

Takedown risk in a loan commitment exposes the FI to

Accepted Answer

A) immediate liquidity risk. 
B) basis risk. 
C) spread risk. 
D) externality effects. 
E) future liquidity risk. 
A) immediate liquidity risk. 
B) basis risk. 
C) spread risk. 
D) externality effects. 
E) future liquidity risk.

Question 6

Sun Bank has issued a one-year $5 million loan commitment to a customer for an up-front fee of 15 basis points and at a fixed rate of 12 percent.The back-end fee for the unused portion of the commitment is 5 basis points.The bank requires a 10 percent compensating balance in demand deposits.Reserve requirements on demand deposits are 10 percent.

Assume 50 percent of the loan is drawn and that there are reserve requirements of 10 percent on demand deposits.What should the bank charge as back-end fees if they require an expected return of 13.63 percent? Do not take future values of fees or interest income received.

Accepted Answer

A) 5 basis points. 
B) 10 basis points. 
C) 15 basis points. 
D) 20 basis points. 
A) 5 basis points. 
B) 10 basis points. 
C) 15 basis points. 
D) 20 basis points.

Question 7

Sun Bank has issued a one-year $5 million loan commitment to a customer for an up-front fee of 15 basis points and at a fixed rate of 12 percent.The back-end fee for the unused portion of the commitment is 5 basis points.The bank requires a 10 percent compensating balance in demand deposits.Reserve requirements on demand deposits are 10 percent.

What is the expected return on the loan at the end of the year if 50 percent of the loan is drawn? Estimate using future values of fee and interest income received,that is,return is defined as all fee and interest income earned at year-end as a percentage of funds used.Assume the cost of funds to the bank is 8 percent.

Accepted Answer

A) 13.45 percent. 
B) 13.57 percent. 
C) 13.60 percent. 
D) 13.72 percent. 
A) 13.45 percent. 
B) 13.57 percent. 
C) 13.60 percent. 
D) 13.72 percent.

Question 8

To be an affiliate of a holding company,the parent must own at least 50 percent of the shares of the affiliate company.

Accepted Answer

A) True 
 B)False

Question 9

If a commercial bank engages in OBS activities,there are no additional capital requirements imposed by regulators.

Accepted Answer

A) True 
 B)False

Question 10

Commercial letters of credit are guarantees that are issued to cover contingencies that are potentially more severe and less predictable than those covered by standby letters of credit.

Accepted Answer

A) True 
 B)False

Question 11

When-issued trading involves the commitment to buy and sell securities before they are issued.

Accepted Answer

A) True 
 B)False

Question 12

An FI can protect itself against insolvency resulting from off-balance sheet activities by purchasing insurance.

Accepted Answer

A) True 
 B)False

Question 13

Loan commitment activities increase the insolvency exposure of FIs that engage in such activities.

Accepted Answer

A) True 
 B)False

Question 14

A $200 million loan commitment has an up-front fee of 20 basis points and a back-end fee of 25 basis points on the unused portion.

If 50 percent of the commitment is taken down,the back-end fee is

Accepted Answer

A) $250,000. 
B) $4,000,000. 
C) $400,000. 
D) $775,000. 
A) $250,000. 
B) $4,000,000. 
C) $400,000. 
D) $775,000.

Question 15

Which of the following is the newest addition to the derivative securities markets?

Accepted Answer

A) Options contracts. 
B) Futures contracts. 
C) Swap agreements. 
D) Forward contracts. 
E) Credit derivatives. 
A) Options contracts. 
B) Futures contracts. 
C) Swap agreements. 
D) Forward contracts. 
E) Credit derivatives.

Question 16

A $200 million loan commitment has an up-front fee of 20 basis points and a back-end fee of 25 basis points on the unused portion.

The up-front fee is

Accepted Answer

A) $250,000. 
B) $4,000,000. 
C) $400,000. 
D) $775,000. 
A) $250,000. 
B) $4,000,000. 
C) $400,000. 
D) $775,000.

Question 17

The current market value of an off-balance-sheet item is determined by finding the current market value of the underlying item.

Accepted Answer

A) True 
 B)False

Question 18

Contingent credit risk is more serious for futures contracts than forward contracts because the over-the-counter arrangements necessary to replicate the guarantees at a later date.

Accepted Answer

A) True 
 B)False

Question 19

An exporter demands a letter of credit in order to

Accepted Answer

A) guarantee safe delivery of goods to the importer. 
B) guarantee receipt of payment from the importer upon receipt of the goods. 
C) protect against adverse changes in foreign exchange rates. 
D) protect against adverse changes in international interest rates. 
A) guarantee safe delivery of goods to the importer. 
B) guarantee receipt of payment from the importer upon receipt of the goods. 
C) protect against adverse changes in foreign exchange rates. 
D) protect against adverse changes in international interest rates.

Question 20

The Federal Reserve requires banks to complete schedule L with their quarterly call reports to list the notional size and variety of off-balance-sheet activities.

Accepted Answer

A) True 
 B)False

Exam 16: Off-Balance-Sheet Risk

The present value of an off-balance-sheet item is referred to as its notional value.

Basis risk occurs on a loan commitment because the spread of a pricing index over the cost of funds may vary.

The delta of an option is

What is a swap?

Takedown risk in a loan commitment exposes the FI to

To be an affiliate of a holding company,the parent must own at least 50 percent of the shares of the affiliate company.

If a commercial bank engages in OBS activities,there are no additional capital requirements imposed by regulators.

Commercial letters of credit are guarantees that are issued to cover contingencies that are potentially more severe and less predictable than those covered by standby letters of credit.

When-issued trading involves the commitment to buy and sell securities before they are issued.

An FI can protect itself against insolvency resulting from off-balance sheet activities by purchasing insurance.

Loan commitment activities increase the insolvency exposure of FIs that engage in such activities.

A $200 million loan commitment has an up-front fee of 20 basis points and a back-end fee of 25 basis points on the unused portion. If 50 percent of the commitment is taken down,the back-end fee is

Which of the following is the newest addition to the derivative securities markets?

A $200 million loan commitment has an up-front fee of 20 basis points and a back-end fee of 25 basis points on the unused portion. The up-front fee is

The current market value of an off-balance-sheet item is determined by finding the current market value of the underlying item.

Contingent credit risk is more serious for futures contracts than forward contracts because the over-the-counter arrangements necessary to replicate the guarantees at a later date.

An exporter demands a letter of credit in order to

The Federal Reserve requires banks to complete schedule L with their quarterly call reports to list the notional size and variety of off-balance-sheet activities.

Why Are Financial Institutions Special

Financial Services: Depository Institutions

Financial Services: Finance Companies

Financial Services: Securities Firms and Investment Banks

Financial Services: Mutual Fund and Hedge Fund Companies

Financial Services: Insurance Companies

Risks of Financial Institutions

Interest Rate Risk I

Interest Rate Risk II

Credit Risk: Individual Loan Risk

Credit Risk: Loan Portfolio and Concentration Risk

Liquidity Risk

Foreign Exchange Risk

Sovereign Risk

Market Risk

Technology and Other Operational 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