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Financial Markets And Institutions 7th Edition Frederic S. Mishkin, Stanley G. Eakins - Solutions
Consider a bank with the following balance sheet:Calculate the bank€™s risk-weightedassets.
Consider a bank with the following balance sheet:The bank commits to a loan agreement for $10 million to a commercial customer. Calculate the bank€™s capital ratio before and after the agreement. Calculate the bank€™s risk-weighted assets before and after the agreement. Problems
Oldhat Financial started its first day of operations with $9 million in capital. $130 million in checkable deposits are received. The bank issues a $25 million commercial loan and another $50 million in mortgages, with the following terms:● Mortgages: 200 standard 30-year, fixed-rate with a
Calculate the risk-weighted assets and risk-weighted capital ratio after Oldhat’s first day.
The next day, terrible news hits the mortgage markets, and mortgage rates jump to 13%. What is the market value of Oldhat’s mortgages? What is Oldhat’s “market value” capital ratio?
Bank regulators force Oldhat to sell its mortgages to recognize the fair market value. What is the accounting transaction? How does this affect its capital position?
Congress allowed Oldhat to amortize the loss over the remaining life of the mortgage. If this technique was used in the sale, how would the transaction have been recorded? What would be the annual adjustment? What does Oldhat’s balance sheet look like? What is the capital ratio?
Oldhat decides to invest the $77 million in excess reserves in commercial loans. What will be the impact on its capital ratio? Its risk-weighted capital ratio?
The bad news about the mortgages is featured in the local newspaper, causing a minor bank run. $6 million in deposits is withdrawn. Examine the bank’s condition after this occurs.
Oldhat borrows $5.5 million in the overnight federal funds market to meet its resources requirement. What is the new balance sheet for Oldhat? How well-capitalized is the bank?
Why did new technology made it harder to enforce limitations on bank branching?
What will be the likely effect of the Gramm-Leach- Bliley Act on financial consolidation?
Considering the discussion of market efficiency from Chapter 6, discuss whether you should be willing to pay high fees to mutual fund investment managers.
Distinguish between an open- and closed-end mutual fund.
Discuss why a mutual fund family may find it beneficial to offer 50 or 60 different stock mutual funds.
How does an index fund differ from an actively managed fund?
What is a load fund?
How are deferred loads usually structured?
What prompted the growth of money market mutual funds?
What is the primary source of the conflict of interest between shareholders and investment managers?
What is late trading when referred to by mutual funds?
What is market timing when referred to by mutual funds?
On January 1, the shares and prices for a mutual fund at 4:00 PM are as follows:Stock 3 announces record earnings, and the price of stock 3 jumps to $32.44 in after-market trading. If the fund (illegally) allows investors to buy at the current NAV, how many shares will $25,000 buy? If the fund
A mutual fund charges a 5% upfront load plus reports an expense ratio of 1.34%. If an investor plans on holding a fund for 30 years, what is the average annual fee, as a percent, paid by the investors?
A mutual fund offers “A” shares, which have a 5% upfront load and an expense ratio of 0.76%. The fund also offers “B” shares, which have a 3% back-end load and an expense ratio of 0.87%. Which shares make more sense for an investor looking over an 18-year horizon?
A $1 million fund is charging a back-end load of 1%, 12b-1 fees of 1%, and an expense ratio of 1.9%. Prior to deducting expenses, what must the fund value be at the end of the year for investors to break even? Questions 6–12 trace a sequence of transactions involving a single mutual fund.
An investor sends the fund a check for $50,000. If there is no front-end load, calculate the new number of shares and price per share. Assume the manager purchases 1,800 shares of stock 3, and the rest is held as cash.
Assume the new investor then sells the 420 shares. What is his profit? What is the annualized return? The fund sells 800 shares of stock 4 to raise the needed funds. Assume 250 trading days per year.
To discourage short-term investing in its fund, the fund now charges a 5% upfront load and a 2% back-end load. The same investor decides to put $50,000 back into the fund. Calculate the new number of shares outstanding. Assume the fund manager buys back as many round-lot shares of stock 4 with the
Unhappy with the results, the new investor then sells the 389.09 shares. What is his profit? What is the new fund value?
What is information asymmetry, and how does it affect insurance companies?
Distinguish between adverse selection and moral hazard as they relate to the insurance industry.
Distinguish between independent agents and exclusive agents.
What is the difference between term life insurance and whole life insurance?
What risks do property and casualty insurance policies protect against?
Distinguish between defined-benefit and defined contribution pension plans.
Why have private pension plans grown rapidly in recent years?
Research indicates that the 1,000,000 cars in your city experience unrecoverable losses of $250,000,000 per year from theft, collisions, and so on. If 30% of premiums are used to cover expenses, what premium must be charged to car owners?
Assume that life expectancy in the United States is normally distributed with a mean of 73 years and a standard deviation of 9 years. What is the probability that you will live to be over 100 years old?
Your rich uncle dies, leaving you a life insurance policy worth $100,000. The insurance company also offers you an option to receive $8,225 per year for 20 years, with the first payment due today. Which option should you use?
A home products manufacturer estimates that the probability of being sued for product defects is 1% per year per product manufactured. If the firm currently manufactures 20 products, what is the probability that the firm will experience no lawsuits in a given year?
Kio Outfitters estimated the following losses and probabilities from past experience:Loss Probability (%)$30,000 ......... 0.25$15,000 ......... 0.75$10,000 ........ 1.50 $5,000 ........ 2.50 $1,000 ......... 5.00 $250 ......... 15.00 $0 ......... 75.00What is the
A client needs assistance with retirement planning.Here are the facts:• The client, Dave, is 21 years old. He wants to retire at 65.• Dave has disposable income of $2,000 per month.• The IRA Dave has chosen has an average annual return of 8%.If Dave contributes half of his disposable income
When opening an IRA account, investors have two options. With a regular IRA account, funds added are not taxed initially, but are taxed when withdrawn. With a Roth IRA, the funds are taxed initially, but not when withdrawn. If an investor wants to contribute $15,000 before taxes to an IRA, what
An employee contributes $200 a year (at the end of the year) to her pension plan. What would be the total contributions and value of the account after five years? Assume that the plan earns 15% per year over the period.
Paul’s car slid off the icy road, causing $2,500 in damage to his car. He was also treated for minor injuries, costing $1,300. His car insurance has a $500 deductible, after which the full loss is paid. His health insurance has a $100 deductible and covers 75% of medical cost (total). What were
Why would an investment banker advise a firm to issue a security using best efforts rather than underwriting?
What is the difference between a hostile takeover and a merger?
What is the difference between a market order and a limit order?
What are the principal advantages often cited as motivation for a private equity buyout?
What were the total proceeds from this offering? What part was retained by Amazon? What part by the investment bankers? What percent of the offering is this?Amazon.com issued an initial public offering in May 1997.Prior to its IPO, the following information on shares outstanding was listed in the
Mr. Doerr of Kleiner Perkins Caufield & Byers owned a significant number of shares. What was the market value of these shares at the end of the first day of trading?Amazon.com issued an initial public offering in May 1997.Prior to its IPO, the following information on shares outstanding was listed
What was the market value of Amazon.com following its first day as a publicly held company?Amazon.com issued an initial public offering in May 1997.Prior to its IPO, the following information on shares outstanding was listed in the final prospectus:In the IPO, the firm issued 3,000,000 new shares.
For Blue Nile, Inc., what are the expected proceeds to the company? Is this certain? What assumptions are you making? How would you verify this?Amazon.com issued an initial public offering in May 1997.Prior to its IPO, the following information on shares outstanding was listed in the final
You want to buy 100 shares of a stock currently trading at $50 per share. Your brokerage firm allows margin sales with a 50% opening margin and a maintenance margin of 25%. What does this mean? If you close your position with the shares at $53.50, what is your return?Amazon.com issued an initial
The limit order book for a security is as follows: The specialist receives the following, in order:â— Market order to sell 300 sharesâ— Limit order to buy 100 shares at 25.38â— Limit order to buy 500 shares at 25.30How, if at all, are these orders filled? What does the limit order
Can a financial institution keep borrowers from engaging in risky activities if there are no restrictive covenants written into the loan agreement?
Why are secured loans an important method of lending for financial institutions?
“If more customers want to borrow funds at the prevailing interest rate, a financial institution can increase its profits by raising interest rates on its loans.” Is this statement true, false, or uncertain? Explain your answer.
A bank issues a $100,000 variable-rate 30-year mortgage with a nominal annual rate of 4.5%. If the required rate drops to 4.0% after the first six months, what is the impact on the interest income for the first 12 months?
A bank issues a $100,000 fixed-rate 30-year mortgage with a nominal annual rate of 4.5%. If the required rate drops to 4.0% immediately after the mortgage is issued, what is the impact on the value of the mortgage?
Calculate the duration of a $100,000 fixed-rate 30-year mortgage with a nominal annual rate of 7.0%. What is the expected percentage change in value if the required rate drops to 6.5% immediately after the mortgage is issued?
The value of a $100,000 fixed-rate 30-year mortgage falls to $89,537 when interest rates move from 5% to 6%. What is the approximate duration of the mortgage?
Calculate the duration of a commercial loan. The face value of the loan is $2,000,000. It requires simple interest yearly, with an APR of 8%. The loan is due in four years. The current market rate for such loans is 8%.
A bank’s balance sheet contains interest-sensitive assets of $280 million and interest-sensitive liabilities of $465 million. Calculate the income gap.
Calculate the income gap for a financial institution with rate-sensitive assets of $20 million and rate-sensitive liabilities of $48 million. If interest rates rise from 4% to 4.8%, what is the expected change in income?
Calculate the income gap given the following items:● $8 million in reserves● $25 million in variable-rate mortgages● $4 million in checkable deposits● $2 million in savings deposits● $6 million of two-year CDs
The following financial statement is for the current year. From the past, you know that 10% of fixed-rate mortgages prepay each year. You also estimate that 10% of checkable deposits and 20% of savings accounts are rate-sensitive. What is the current income gap for Second National Bank? What will
Chicago Avenue Bank has the following assets:What is Chicago Avenue Bank’s asset portfolioduration?
A bank added a bond to its portfolio. The bond has a duration of 12.3 years and cost $1,109. Just after buying the bond, the bank discovered that market interest rates are expected to rise from 8% to 8.75%. What is the expected change in the bond’s value?
Calculate the change in the market value of assets and liabilities when the average duration of assets is 3.60, the average duration of liabilities 0.88, and interest rates increase from 5% to 5.5%.
Springer County Bank has assets totaling $180 million with a duration of five years, and liabilities totaling $160 million with a duration of two years. If interest rates drop from 9% by 75 basis points, what is the change in the bank’s capitalization ratio?
The manager for Tyler Bank and Trust has the following assets and liabilities to manage:If the manager wants a duration gap of 3.00, what level of saving accounts should the bank raise? Assume that any difference between assets and liabilities is held as cash (duration =0).
The financial statement below is for the current year. After you review the data, calculate the duration gap for the bank.The First National Bank initially has the balance sheet and that interest rates are initially at10%.
If the First National Bank sells $10 million of its securities with maturities greater than two years and replaces them with securities maturing in less than one year, what is the income gap for the bank? What will happen to profits next year if interest rates fall by 3 percentage points?
If the First National Bank decides to convert $5 million of its fixed-rate mortgages into variable-rate mortgages, what happens to its interest-rate risk? Explain with income gap and duration gap analyses.
If the manager of the First National Bank revises the estimate of the percentage of fixed-rate mortgages that are repaid within a year from 20% to 10%, what will be the revised estimate of the interest-rate risk the bank faces? What will happen to profits next year if interest rates fall by 2
If the manager of the First National Bank revises the estimate of the percentage of checkable deposits that are rate-sensitive from 10% to 25%, what will be the revised estimate of the interest-rate risk the bank faces? What will happen to profits next year if interest rates rise by 5 percentage
Given the estimates of duration in Table, what will happen to the bank€™s net worth if interest rates rise by 10 percentage points? Will the bank stay in business? Why or whynot?
If the manager of the First National Bank revises the estimates of the duration of the bank’s assets to four years and liabilities to two years, what is the effect on net worth if interest rates rise by 2 percentage points?
Given the estimates of duration in Problem 21, how should the bank alter the duration of its assets to immunize its net worth from interest-rate risk?
If the manager of the Friendly Finance Company decides to sell off $10 million of the company’s consumer loans, half maturing within one year and half maturing in greater than two years, and uses the resulting funds to buy $10 million of Treasury bills, what is the income gap for the company?
If the Friendly Finance Company raises an additional $20 million with commercial paper and uses the funds to make $20 million of consumer loans that mature in less than one year, what happens to its interest-rate risk? In this situation, what additional changes could it make in its balance sheet
Given the estimates of duration in Table, what will happen to the Friendly Finance Company€™s net worth if interest rates rise by 3 percentage points? Will the company stay in business? Why or whynot?
If the manager of the Friendly Finance Company revises the estimates of the duration of the company’s assets to two years and liabilities to four years, what is the effect on net worth if interest rates rise by 3 percentage points?
Why does a lower strike price imply that a call option will have a higher premium and a put option a lower premium?
If at the expiration date, the deliverable Treasury bond is selling for 101 but the Treasury bond futures contract is selling for 102, what will happen to the futures price? Explain your answer.
Suppose that the pension you are managing is expecting an inflow of funds of $100 million next year and you want to make sure that you will earn the current interest rate of 8% when you invest the incoming funds in long-term bonds. How would you use the futures market to do this?
How would you use the options market to accomplish the same thing as in Problem 5? What are the advantages and disadvantages of using an options contract rather than a futures contract?
If you buy a put option on a $100,000 Treasury bond futures contract with an exercise price of 95 and the price of the Treasury bond is 120 at expiration, is the contract in the money, out of the money, or at the money? What is your profit or loss on the contract if the premium was $4,000?
Explain why greater volatility or a longer term to maturity leads to a higher premium on both call and put options.
A hedger takes a short position in five T-bill futures contracts at the price of 98 5/32. Each contract is for $100,000 principal. When the position is closed, the price is 95 12/32. What is the gain or loss on this transaction?
A bank issues a $100,000 variable-rate 30-year mortgage with a nominal annual rate of 4.5%. If the required rate drops to 4.0% after the first six months, what is the impact on the interest income for the first 12 months? Assume the bank hedged this risk with a short position in a 181-day T-bill
Laura, a bond portfolio manager, administers a $10 million portfolio. The portfolio currently has a duration of 8.5 years. Laura wants to shorten the duration to 6 years using T-bill futures. T-bill futures have a duration of 0.25 years and are trading at $975 (face value = $1,000). How is this
Chicago Bank and Trust has $100 million in assets and $83 million in liabilities. The duration of the assets is 5.9 years, and the duration of the liabilities is 1.8 years. How many futures contracts does this bank need to fully hedge itself against interest-rate risk? The available Treasury bond
A bank issues a $3 million commercial mortgage with a nominal APR of 8%. The loan is fully amortized over 10 years, requiring monthly payments. The bank plans on selling the loan after two months. If the required nominal APR increases by 45 basis points when the loan is sold, what loss does the
Assume the bank in the previous question partially hedges the mortgage by selling three 10-year T-note futures contracts at a price of 100 20/32. Each contract is for $1,000,000. After two months, the futures contract has fallen in price to 98 24/32. What was the gain or loss on the futures
Springer County Bank has assets totaling $180 million with a duration of five years, and liabilities totaling $160 million with a duration of two years. Bank management expects interest rates to fall from 9% to 8.25% shortly. A T-bond futures contract is available for hedging. Its duration is 6.5
From the previous question, rates do indeed fall as expected, and the T-bond contract is priced at 103 5/32. If Springer closes its futures position, what is the gain or loss? How well does this offset the approximate change in equity value?
A bank issues a $100,000 fixed-rate 30-year mortgage with a nominal annual rate of 4.5%. If the required rate drops to 4.0% immediately after the mortgage is issued, what is the impact on the value of the mortgage? Assume the bank hedged the position with a short position in two 10-year T-bond
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