Question 1

In terms of rating agencies such as S&P, investment grade companies are those whose bond ratings are grade B or above.

Accepted Answer

A) True 
 B)False

Question 2

Covenants are restrictions in loan and bond agreements that encourage or forbid certain actions by the borrower.

Accepted Answer

A) True 
 B)False

Question 3

Suppose that debt-equity ratio (D/E) and the sales-asset ratio (S/A) were two factors influencing the past default behavior of borrowers. Based on past default (repayment) experience, the linear probability model is estimated as: PDi = 0.5(D/Ei) + 0.1(S/Ai). If a prospective borrower has a debt-equity ratio of 0.4 and sales-asset ratio of 1.8, the expected probability of default is

Accepted Answer

A) 0.02. 
B) 0.35. 
C) 0.38. 
D) 0.62. 
E) 0.98. 
A) 0.02. 
B) 0.35. 
C) 0.38. 
D) 0.62. 
E) 0.98.

Question 4

Which of the following factors may affect the promised return an FI receives on a loan?

Accepted Answer

A) The collateral backing of the loan. 
B) Fees relating to the loan. 
C) The interest rate on the loan. 
D) The credit risk premium on the loan. 
E) All of the above. 
A) The collateral backing of the loan. 
B) Fees relating to the loan. 
C) The interest rate on the loan. 
D) The credit risk premium on the loan. 
E) All of the above.

Question 5

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 6

Since their introduction, the proportion of ARMs to fixed-rate residential mortgages has remained very stable over interest rate cycles.

Accepted Answer

A) True 
 B)False

Question 7

During the decade of the 1990s the asset quality of U.S. banks continued to improve.

Accepted Answer

A) True 
 B)False

Question 8

The following represents two yield curves. $$\begin{array} { | l | c | c | } 
\hline \text { Maturity } & \begin{array} { c } 
\text { Pure Discount } \
\text { Treasury Yields }
\end{array} & \begin{array} { c } 
\text { B-rated Corporate Bond Yields } \
\text { (Pure Discount Bonds) }
\end{array} \
\hline 1 \text { year } & 3 \text { percent } & 6 \text { percent } \
\hline 2 \text { year } & 6 \text { percent } & 10 \text { percent } \
\hline 20 \text { year } & 12 \text { percent } & 17 \text { percent } \
\hline
\end{array}$$
-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. 
A) 10.0 percent. 
B) 9.09 percent. 
C) 14.15 percent. 
D) 12.0 percent. 
E) 17.0 percent.

Question 9

Default by a large corporation is seldom a problem for FIs since these corporations have many different sources of borrowed funds.

Accepted Answer

A) True 
 B)False

Question 10

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 11

Commercial loans have been decreasing in importance in bank loan portfolios.

Accepted Answer

A) True 
 B)False

Question 12

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 13

Relationship pricing involves pricing for specific services which depend, in part, on the amount or number of services that are used by the customer.

Accepted Answer

A) True 
 B)False

Question 14

In making credit decisions, which of the following items is considered a market-specific factor?

Accepted Answer

A) Whether the reputation of the borrower enhances the credit application. 
B) Whether the current debt-equity ratio is sufficiently low to not impact the probability of repayment. 
C) Whether the debt can be secured by specific property. 
D) Whether the position of the economy in the business cycle phase would affect the probability of borrower default. 
E) Whether the volatility of earnings could present a period where the periodic payment of interest and principal would be at risk. 
A) Whether the reputation of the borrower enhances the credit application. 
B) Whether the current debt-equity ratio is sufficiently low to not impact the probability of repayment. 
C) Whether the debt can be secured by specific property. 
D) Whether the position of the economy in the business cycle phase would affect the probability of borrower default. 
E) Whether the volatility of earnings could present a period where the periodic payment of interest and principal would be at risk.

Question 15

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 16

A major advantage of discriminant models is the stability of the coefficient weights over time.

Accepted Answer

A) True 
 B)False

Question 17

If the spot interest rate on a prime-rated one-month CD is 6 percent today and the market rate on a two-month maturity prime-rated CD is 7 percent today, the implied forward rate on a one-month CD to be delivered one month from today is

Accepted Answer

A) 9 percent. 
B) 11 percent. 
C) 18 percent. 
D) 10 percent. 
E) 8 percent. 
A) 9 percent. 
B) 11 percent. 
C) 18 percent. 
D) 10 percent. 
E) 8 percent.

Question 18

Which of the following is not a characteristic of a loan commitment?

Accepted Answer

A) The maximum amount of the loan is negotiated at the time of the loan agreement. 
B) The interest rate on fixed-rate loans is determined at the time of the loan is actually taken down. 
C) Floating-rate loans transfer the interest rate risk to the borrower. 
D) The time period for which the loan is available is negotiated at the time of the loan agreement. 
E) In a floating-rate loan the borrower pays interest rate in force when the loan is actually taken down. 
A) The maximum amount of the loan is negotiated at the time of the loan agreement. 
B) The interest rate on fixed-rate loans is determined at the time of the loan is actually taken down. 
C) Floating-rate loans transfer the interest rate risk to the borrower. 
D) The time period for which the loan is available is negotiated at the time of the loan agreement. 
E) In a floating-rate loan the borrower pays interest rate in force when the loan is actually taken down.

Question 19

Usury ceilings are maximum rates imposed by federal legislation that FIs can charge on consumer and mortgage debt.

Accepted Answer

A) True 
 B)False

Question 20

Commercial paper typically is secured by specific assets of the borrower.

Accepted Answer

A) True 
 B)False

Exam 10: Credit Risk: Individual Loan Risk

In terms of rating agencies such as S&P, investment grade companies are those whose bond ratings are grade B or above.

Covenants are restrictions in loan and bond agreements that encourage or forbid certain actions by the borrower.

Which of the following factors may affect the promised return an FI receives on a loan?

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.

Since their introduction, the proportion of ARMs to fixed-rate residential mortgages has remained very stable over interest rate cycles.

During the decade of the 1990s the asset quality of U.S. banks continued to improve.

Default by a large corporation is seldom a problem for FIs since these corporations have many different sources of borrowed funds.

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

Commercial loans have been decreasing in importance in bank loan portfolios.

Relationship pricing involves pricing for specific services which depend, in part, on the amount or number of services that are used by the customer.

In making credit decisions, which of the following items is considered a market-specific factor?

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

A major advantage of discriminant models is the stability of the coefficient weights over time.

If the spot interest rate on a prime-rated one-month CD is 6 percent today and the market rate on a two-month maturity prime-rated CD is 7 percent today, the implied forward rate on a one-month CD to be delivered one month from today is

Which of the following is not a characteristic of a loan commitment?

Usury ceilings are maximum rates imposed by federal legislation that FIs can charge on consumer and mortgage debt.

Commercial paper typically is secured by specific assets of the borrower.

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

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