Question 1

Which of the following is not included in the Common Equity Tier I capital under Basel III?

Accepted Answer

A) Retained earnings. 
B) Par value of common shares issued by the bank. 
C) Par value of noncumulative perpetual preferred stock. 
D) Paid-in excess (surplus) of common stock. 
E) Common shares issued by consolidated subsidiaries of the bank. 
A) Retained earnings. 
B) Par value of common shares issued by the bank. 
C) Par value of noncumulative perpetual preferred stock. 
D) Paid-in excess (surplus) of common stock. 
E) Common shares issued by consolidated subsidiaries of the bank.

Question 2

Those regulatory agencies that have adopted some form of book value accounting standard to measure an FI's capital include all of the following except

Accepted Answer

A) The Securities and Exchange Commission (SE
C) . 
B) The Federal Reserve. 
C) The Office of the Comptroller of the Currency (OC
C) . 
D) The FDIC. 
E) State regulatory agencies. 
A) The Securities and Exchange Commission (SE
C) . 
B) The Federal Reserve. 
C) The Office of the Comptroller of the Currency (OC
C) . 
D) The FDIC. 
E) State regulatory agencies.

Question 3

A deficiency of the risk-based capital ratio is that it measures the ability of a bank to meet both the on- and off-balance-sheet credit risk, but not the interest rate or market risks.

Accepted Answer

A) True 
 B)False

Question 4

The book value of bonds and loans reflects the market value of those assets when they were placed on the books of an FI.

Accepted Answer

A) True 
 B)False

Question 5

If an FI were closed by regulators before its economic net worth became zero, neither liability holders nor those regulators guaranteeing the claims of liability holders would stand to lose.

Accepted Answer

A) True 
 B)False

Question 6

The Standardized Approach in calculating capital to cover operational risk requires DIs to separate activities into business units from which a capital charge is determined based on the amount of operational risk in each unit.

Accepted Answer

A) True 
 B)False

Question 7

Under Basel III, Globally Systematically Important Banks (G-SIBs) were identified by the Bank for International Settlements (BIS) by all of the following indicators except:

Accepted Answer

A) Size. 
B) Lack of substitutes for the institution's services. 
C) Cross-jurisdictional activity. 
D) Interconnectedness with other institutions. 
E) Ability to obtain insurance or other guarantees on deposits. 
A) Size. 
B) Lack of substitutes for the institution's services. 
C) Cross-jurisdictional activity. 
D) Interconnectedness with other institutions. 
E) Ability to obtain insurance or other guarantees on deposits.

Question 8

A property-casualty (P-C) insurance firm has estimated the following risk-based capital charge for its individual risk classes: $$\begin{array} { | l | l | c | } 
\hline \text { Risk } & { \text { Description } } & \text { RBC Charge } \
\hline \text { R0 } & \text { Affiliated P-C } & \$ 6.0 \text { million } \
\hline \text { R1 } & \text { Fixed-income assets } & \$ 2.0 \text { million } \
\hline \text { R2 } & \text { Common stock } & \$ 1.0 \text { million } \
\hline \text { R3 } & \text { Reinsurance } & \$ 3.0 \text { million } \
\hline \text { R4 } & \text { Loss adjustment expense } & \$ 1.0 \text { million } \
\hline \text { R5 } & \text { Written premiums } & \$ 2.0 \text { million } \
\hline \text { Total } & & \$ 15.0 \text { million } \
\hline
\end{array}$$
-Is the firm adequately capitalized if it has total capital and surplus of $10 million?

Accepted Answer

A) No, its total risk-based capital charge is higher than $10 million. 
B) No, its total risk-based capital charge is lower than $10 million. 
C) Yes, its total risk-based capital charge is higher than $10 million. 
D) Yes, its total risk-based capital charge is lower than $10 million. 
E) No, its total risk-based capital charge is greater than 0. 
A) No, its total risk-based capital charge is higher than $10 million. 
B) No, its total risk-based capital charge is lower than $10 million. 
C) Yes, its total risk-based capital charge is higher than $10 million. 
D) Yes, its total risk-based capital charge is lower than $10 million. 
E) No, its total risk-based capital charge is greater than 0.

Question 9

Market value of equity is more appropriate than book value of equity at reflecting changes in the credit risk and interest rate risk of an FI.

Accepted Answer

A) True 
 B)False

Question 10

The risk-adjusted asset values of OBS market contracts or derivative instruments are determined in a manner similar to the risk-adjusted asset values of contingent guarantee claims.

Accepted Answer

A) True 
 B)False

Question 11

Fifth Bank has the following balance sheet with values stated in millions of dollars. All assets are associated with corporate customers (not governments or sovereigns). Refer to Table 20-8 for associated risk weights. $$\begin{array} { | l | r | l | r | } 
\hline \text { Cash } & \$ 80 & \text { Deposits } & \$ 550 \
\hline \begin{array} { l } 
\text { Municipal General } \
\text { Obligation Bonds }
\end{array} & \$ 100 & & \
\hline \begin{array} { l } 
\text { Residential Mortgages 1-4 family } \
\text { (LTV 60\% - 80\%) }
\end{array} & \$ 220 & \text { Long-Term Debt } & \$ 290 \
\hline \text { Commercial loans } & \$ 500 & \text { Equity } & \$ 60 \
\hline \text { Total Assets } & \$ 900 & & \$ 900 \
\hline
\end{array}$$ In addition, Fifth Bank has off-balance sheet items as follows: (Refer to Tables 20-10 and 20-11)
$50 million in commercial letters of credit (LCs),
$300 million in 3-year interest rate swaps that are in-the-money by $2 million
$50 million in 4-year forward FX contracts that are out-of-the money by $2 million
-What are, respectively, the credit equivalent value of the letters of credit, interest rate swaps, and FX contracts?

Accepted Answer

A) $10.0 million; $3.5 million; $5.0 million. 
B) $50.0 million; $300 million; $50.0 million. 
C) $5.0 million; $1.5 million; $5.0 million. 
D) $10.0 million; $1.5 million; $5.0 million. 
E) $5.0 million; $3.5 million; $5.0 million. 
A) $10.0 million; $3.5 million; $5.0 million. 
B) $50.0 million; $300 million; $50.0 million. 
C) $5.0 million; $1.5 million; $5.0 million. 
D) $10.0 million; $1.5 million; $5.0 million. 
E) $5.0 million; $3.5 million; $5.0 million.

Question 12

From a regulatory perspective, what is the impact on book value capital of a 25 basis point decrease in interest rates if the FI is holding a 20-year, fixed-rate, 11 percent annual coupon $100,000 par value bond?

Accepted Answer

A) A decrease of $250. 
B) An increase of $250. 
C) An increase of $2,023. 
D) A decrease of $1,959. 
E) No impact on capital since the book value is unchanged. 
A) A decrease of $250. 
B) An increase of $250. 
C) An increase of $2,023. 
D) A decrease of $1,959. 
E) No impact on capital since the book value is unchanged.

Question 13

$$\begin{array} { l l l l } 
\text { Securities (at par) } & \$ 250 & \text { Deposits } & \$ 975 \
\text { Loans (at par) } & \$ 760 & \text { Capital } & \$ 35
\end{array}$$
-Given that 25 percent of the loans have been identified as problem loans, and if historical cost accounting methods allow the bank to write down only 10 percent of the problem loans, what will be the book value of capital?

Accepted Answer

A) $35 million. 
B) -$155 million. 
C) $16 million. 
D) -$7 million. 
E) $0. 
A) $35 million. 
B) -$155 million. 
C) $16 million. 
D) -$7 million. 
E) $0.

Question 14

Which of the following is not a category of capital under Basel III?

Accepted Answer

A) Tier III capital. 
B) Tier II capital. 
C) Common Equity Tier I. 
D) Total risk-based capital. 
E) Tier I capital. 
A) Tier III capital. 
B) Tier II capital. 
C) Common Equity Tier I. 
D) Total risk-based capital. 
E) Tier I capital.

Question 15

$$\begin{array} { l l l l } 
\text { Securities (at par) } & \$ 250 & \text { Deposits } & \$ 975 \
\text { Loans (at par) } & \$ 760 & \text { Capital } & \$ 35
\end{array}$$
-How would regulators characterize this FI based on the Standardized Approach leverage ratio zones of Basel III?

Accepted Answer

A) Well capitalized. 
B) Undercapitalized. 
C) Severely undercapitalized. 
D) Overcapitalized. 
E) Insolvent. 
A) Well capitalized. 
B) Undercapitalized. 
C) Severely undercapitalized. 
D) Overcapitalized. 
E) Insolvent.

Question 16

Regulatory-defined capital and required leverage ratios are based in whole or in part on

Accepted Answer

A) market value accounting concepts. 
B) book value accounting concepts. 
C) the net worth concept. 
D) the economic meaning of capital. 
E) None of the above. 
A) market value accounting concepts. 
B) book value accounting concepts. 
C) the net worth concept. 
D) the economic meaning of capital. 
E) None of the above.

Question 17

The buffer proposed by Basel III that is designed to ensure that DIs build up a capital surplus outside of periods of financial distress is called the

Accepted Answer

A) Capital conservation buffer. 
B) Countercyclical buffer. 
C) Leverage buffer. 
D) Tier II buffer. 
E) CET1 capital buffer. 
A) Capital conservation buffer. 
B) Countercyclical buffer. 
C) Leverage buffer. 
D) Tier II buffer. 
E) CET1 capital buffer.

Question 18

When a substandard loan is identified by a regulator, it is required that the loan immediately be charged off by the bank.

Accepted Answer

A) True 
 B)False

Question 19

Losses in asset values due to adverse changes in interest rates are borne initially by the

Accepted Answer

A) equity holders of an FI. 
B) liability holders of an FI. 
C) regulatory authorities. 
D) taxpayers. 
E) insured depositors. 
A) equity holders of an FI. 
B) liability holders of an FI. 
C) regulatory authorities. 
D) taxpayers. 
E) insured depositors.

Question 20

If the value of equity is less than zero on a mark-to-market accounting basis, liquidation of the FI may result in losses to the depositors or creditors.

Accepted Answer

A) True 
 B)False

Exam 20: Capital Adequacy

Which of the following is not included in the Common Equity Tier I capital under Basel III?

Those regulatory agencies that have adopted some form of book value accounting standard to measure an FI's capital include all of the following except

A deficiency of the risk-based capital ratio is that it measures the ability of a bank to meet both the on- and off-balance-sheet credit risk, but not the interest rate or market risks.

The book value of bonds and loans reflects the market value of those assets when they were placed on the books of an FI.

If an FI were closed by regulators before its economic net worth became zero, neither liability holders nor those regulators guaranteeing the claims of liability holders would stand to lose.

The Standardized Approach in calculating capital to cover operational risk requires DIs to separate activities into business units from which a capital charge is determined based on the amount of operational risk in each unit.

Under Basel III, Globally Systematically Important Banks (G-SIBs) were identified by the Bank for International Settlements (BIS) by all of the following indicators except:

Market value of equity is more appropriate than book value of equity at reflecting changes in the credit risk and interest rate risk of an FI.

The risk-adjusted asset values of OBS market contracts or derivative instruments are determined in a manner similar to the risk-adjusted asset values of contingent guarantee claims.

From a regulatory perspective, what is the impact on book value capital of a 25 basis point decrease in interest rates if the FI is holding a 20-year, fixed-rate, 11 percent annual coupon $100,000 par value bond?

Securities (at par) \ 250 Deposits \ 975 Loans (at par) \ 760 Capital \ 35 -Given that 25 percent of the loans have been identified as problem loans, and if historical cost accounting methods allow the bank to write down only 10 percent of the problem loans, what will be the book value of capital?

Which of the following is not a category of capital under Basel III?

Securities (at par) \ 250 Deposits \ 975 Loans (at par) \ 760 Capital \ 35 -How would regulators characterize this FI based on the Standardized Approach leverage ratio zones of Basel III?

Regulatory-defined capital and required leverage ratios are based in whole or in part on

The buffer proposed by Basel III that is designed to ensure that DIs build up a capital surplus outside of periods of financial distress is called the

When a substandard loan is identified by a regulator, it is required that the loan immediately be charged off by the bank.

Losses in asset values due to adverse changes in interest rates are borne initially by the

If the value of equity is less than zero on a mark-to-market accounting basis, liquidation of the FI may result in losses to the depositors or creditors.

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: Individual Loan Risk

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

Liability and Liquidity Management

Deposit Insurance and Other Liability Guarantees

Product and Geographic Expansion

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Options, Caps, Floors, and Collars

Swaps

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