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Financial Institutions Instruments And Markets 9th Edition Peter J. Phillips; Christopher Viney - Solutions
Re-pricing gap analysis requires the identification of the interest rate sensitivity of assets and liabilities, within different planning periods, into three specific groupings.(a) Define and discuss the three groupings.(b) Explain why different planning periods are used and the impact of the
One of the interest rate risk measurement techniques used by a financial institution is re-pricing gap analysis. Explain and discuss the concept of re-pricing gap analysis as an interest rate risk measurement technique. (LO 14.5)
Understanding the re-pricing of financial assets and liabilities is essential in interest rate risk measurement and management. Explain and discuss the basic principle of ‘assets re-priced before liabilities’ (ARBL). Use examples to support your answer. (LO 14.3)
The Basel III capital accords introduced specific interest rate risk management requirements that must be met by commercial banks. In particular, banks must maintain a minimum net stable funding ratio (NSFR). To which aspect of a bank’s interest rate exposure management system does the NSFR most
This question requires calculations relating to the yield curve and the expectations theory.(LO 13.5)(a) If an investor possesses the following information, and expectations on Treasury bond yields are:calculate the yield on a two-year bond (0i 2) that would result in the investor being indifferent
The lending manager at a commercial bank is asked to explain to a corporate borrower what the bank’s policy is in relation to risk premiums on corporate loans.(a) Discuss the concept of a risk premium and the effect that a risk premium will have on the yield curve for a corporate borrower.(b) Is
A group of university students are asked to investigate interest rates on debt securities issued in the financial markets. They soon discover that many interest rates exist. The students are then asked to explain:(a) the term ‘risk-free rate of interest’(b) why the existence of the risk-free
The daily financial press regularly report data released on current economic variables and provide expert analysis on the forecast impact of changes in these variables on the future direction of interest rates. Market participants, including policy makers, regulators and corporate managers, also
The liquidity premium theory seeks to extend our understanding of the expectations theory and the determination of interest rates.(a) Outline the principal contention of the liquidity premium theory.(b) How does the historic prevalence of a normal yield curve provide indirect evidence of the
If financial market participants considered that anticipated inflation would rise significantly in the future, what effect would you expect this forecast to have on the slope of a normal yield curve? Why? (LO 13.3)
The segmented markets theory extends our understanding of factors that influence the determination of interest rates.(a) Identify and explain two assumptions of the expectations approach that are challenged by the segmented markets approach to interest rate determination.(b) It may be argued that
Over time, market participants observe that the yield curve has changed from being upward sloping to being downward sloping. Use expectations theory to explain why the yield curve has changed shape. (LO 13.3)
Market participants observe that the yield curve is normal (upward sloping). Use expectations theory to explain this observation. (LO13.3)
Interest rates play an important role in monetary policy determinations, economic performance and the business cycle, and the cost of funds. Financial market participants must therefore understand the term structure of interest rates.(a) Define in detail the term yield and explain how a yield curve
A problem with the loanable funds approach to explaining interest rates is that since the supply and demand curves are interdependent, a unique equilibrium rate of interest cannot be determined. Explain and illustrate this problem by reference to the effects of:(a) an increase in inflationary
At a recent financial markets seminar, a participant asked the guest speaker to explain the loanable funds approach when forecasting interest rates.(a) Describe the basic concept of the loanable funds approach to interest rate determination.(b) Extend your answer in (a) above and draw diagrams
Market participants, including financial institutions, fund managers and corporations, must understand monetary policy setting impacts on economic activity and the business cycle.A central bank will typically implement monetary policy settings in order to achieve certain economic outcomes over a
The macroeconomic context of interest rate determination attempts to explain the interactions of a change in monetary policy settings with changes in interest rates. The macroeconomic context of interest rate determination identifies three distinct effects of a change in monetary policy.(a) List
Compare and contrast the nature and implementation of monetary policy with fiscal policy as the two primary tools of economic management. Outline the recent trends that characterise the implementation of each policy type. (LO 13.1)
A funds manager plans to buy $1 million (face value) of Treasury bonds that mature on 31. December 2021. The bonds pay a fixed half-yearly coupon of 6.50 per cent per annum.Settlement date for the sale is 18. October 2018. Current yields on similar bond issues are 7.25 per cent per annum. Using the
(a) Explain the function and operation of an exchange settlement account. In your answer, include a discussion on the source and nature of same-day funds.(b) The Reserve Bank offers repurchase agreements (repos) to members of the payments system. Discuss the purpose and operation of two repo
Outline the role of AusPayNet in the Australian financial system. (LO 12.5)
(a) The Reserve Bank is responsible for the implementation of monetary policy. Define monetary policy and discuss the current direction of that policy in Australia.(b) The Reserve Bank seeks to implement monetary policy by influencing the level of interest rates through its open market operations.
While the implementation of monetary policy directly targets interest rates, there are four identifiable transmission channels. Identify the four transmission channels and explain, within the context of monetary policy, the impact each channel has on economic activity. (LO 12.4)
State governments in Australia are active participants in the bond market and issue bonds to raise funds to finance their ongoing operations and special projects. In 2017, the ANZ Banking Group drastically reduced its holdings of bonds issued by South Australia. The primary reason given by ANZ was
(a) Calculate the market price as at 30 April 2019 of a T-note with a $1 million face value, yielding 5.50 per cent per annum and maturing on 18 June 2019.(b) Assume that T-note yields remain unchanged between 30 April 2019 and 14 May 2019, but on 15 May 2019 yields fall by 0.50 per cent per annum.
A managed fund is to restructure its balance sheet through the sale of $15 million of Treasury bonds that mature on 30 September 2024. The bonds pay a fixed half-yearly coupon of 5.50 per cent per annum. Settlement date for the sale is 20 July 2019. Current yields on Treasury bond are 5.25 per cent
You are considering the purchase of a Treasury bond in the secondary market. Bonds with exactly 12 years to maturity, paying a half-yearly coupon of 5.00 per cent per annum, are currently yielding 5.50 per cent per annum. The bond has a face value of $1000.(a) What price should you pay for the bond
The Commonwealth Government has announced a $500 million Treasury bond issue by competitive tender. The 10-year bonds have a fixed coupon of 6.50 per cent per annum. The Reserve Bank plans to take $100 million of the allocation and the remaining $400 million will be allocated according to bids
Use a timeline to show the cash flows associated with the primary market purchase of a fiveyear Treasury bond that is held to maturity, with a purchase price of $980, a face value of$1000 and a half-yearly coupon of 6.00 per cent per annum. (LO 12.2)
(a) Within the capital markets, who are the main investors in Commonwealth Government securities?(b) From the perspective of a commercial bank, discuss why a bank holds CGS in its investment portfolio.(c) Outline the advantages of inscribed stock over bearer bonds. (LO 12.2)
(a) As the financial officer of a major bank, you are about to submit a tender for the purchase of Treasury bonds in an issue announced today. Outline the procedures adopted for the primary market issue of Treasury bonds.(b) What are the advantages and disadvantages of this system? (LO 12.2)
For many years, governments in Australia have debated the size of the ‘deficit’ and the need to return to surplus. Outline the main features of the government’s surpluses and deficits since before the global financial crisis (GFC) up until the present day. (LO 12.1)
The government’s budget deficits have tended to be somewhat ‘counter-cyclical’ with deficits increasing during recessions and surpluses eventually accruing during good economic times.List and discuss several reasons for this pattern. (LO 12.1)
Fund managers, such as superannuation funds and insurance offices, often establish a policy requirement that the funds are only permitted to invest in capital-market securities that have at least an investment-grade credit rating. Referring to the issue credit ratings used by Standard &Poor’s,
A medium-term note issued into the US capital markets will often require the execution of a trust indenture. Within this context, what is a trust indenture and what specific information is an indenture likely to contain? (LO 11.9)
Wesfarmers Limited is considering issuing corporate bonds to fund its expansion into the retail hardware market. The chief financial officer is to advise the board of directors on the bond issue; in particular, on matters relating to convertible bonds and attached warrants.(a) Describe the features
The financial markets continue to develop innovative processes and products to meet the changing needs of market participants. Novation, subparticipation and transferable loan certificates are often described as quasi-securitisation financing methods.(a) Briefly explain how each of these methods
Woodside Petroleum Limited proposes to raise additional debt finance to fund its growing gas exploration and production operations. The company requests S&P to provide a credit rating on the issue. Describe the structured credit rating process used by S&P. Include in your answer important issues
Credit rating agencies perform an important role within the international financial markets.(a) Name three global credit rating agencies.(b) Discuss the purpose and importance of a credit rating issued by a credit rating agency on a corporate debt issue from the perspective of both a borrower and
Santos Limited is an Australian corporation listed on the ASX. Santos wishes to raise additional equity in the USA, but is not dual-listed on the NYSE. The company’s financial advisers suggest the company approach the Bank of New York Mellon to arrange an issue of American depositary receipts
One type of bond issued in the US debt markets is a Yankee bond.(a) Define a Yankee bond.(b) Discuss how an issuer might issue these bonds through a shelf registration.(c) Explain what occurs if the issue is being made by ‘book entry’. (LO 11.5)
In the USA, but subject to certain requirements, a foreign borrower is able to place USCP (where there is no public offering) with qualified institutional investors without SEC registration. Discuss the procedures and documentation that would be required in this situation. (LO 11.5)
Rio Tinto Limited has decided to issue debt securities into both the euronote market and the eurobond market. The company makes the following issues:• NIFs maturing in 180 days with a face value of USD150 million and yielding LIBOR plus 123 basis points• Straight bonds with a face value of
What is the relationship between global geopolitical affairs and the popularity of eurocurrency or eurodollar deposits? Is this still an important consideration today? (LO 11.2)
BlackRock’s Euro Bond Fund is a product that allows investors to access the eurobond market.With reference to the characteristics of eurobonds in general, explain why such a fund might prove attractive to Australian investors. (LO 11.4)
According to Reuters, each of the four big banks in Australia (CBA, NAB, ANZ and Westpac)require annual bond financing of between $20 and $30 billion. What options do the banks have in raising these longer-term funds? (LO 11.4)
Corporate borrowers often have different needs in relation to their borrowing requirements.The medium-term note (MTN) is designed to meet these varying needs as the MTN facility is typically not homogeneous.(a) Explain and give examples of the non-homogeneous nature of the MTN.(b) What steps have
The euronote market is a generic term that incorporates both note issuance facilities (NIF) and eurocommercial paper (ECP).(a) Describe the type of securities known as an NIF and an ECP.(b) What features of these facilities are the same and in what ways do they differ from each another?(c) BHP
Banks in the eurocurrency markets provide long-term loans to highly-rated corporations.Describe the typical structure and participants in a large multi-million-dollar eurocurrency loan. (LO 11.2)
(a) Describe the features of a short-term eurocurrency bank advance. Explain why a corporation might seek this form of funding through the eurocurrency markets.(b) Explain the structure and purpose of a stand-by facility. Identify and briefly explain risks that need to be considered by a borrower
The euromarkets have expanded into a significant global market.(a) What is a euromarket transaction?(b) Briefly outline the factors that led to the development of the euromarkets.(c) Explain why the euromarkets continued to expand. (LO 11.1)
Describe the trends in securitisation over the past 15 years. (LO 10.6)
(a) Explain why the process of securitisation has grown into a major financial market.(b) Draw a diagram that shows the basic securitisation structure and its associated cash flows.(c) Using your diagram (above), explain in detail the securitisation process and the different cash flows that will
At GE Finance you are the manager of lease finance. You have begun to talk to local companies to try and sell the concept of lease finance for their businesses.(a) Explain to the companies the nature of lease finance, and distinguish between operating leases, finance leases, sale and lease-back
On 1 January 2019 a company issued five-year fixed-interest bonds with a face value of$2 million to an institutional investor, paying half-yearly coupons at 8.36 per cent per annum.Coupons are payable on 30 June and 31 December each year until maturity. On 15 August 2020 the holder of the bonds
Woodside Petroleum Limited has issued $100 million of debentures, with a fixed-interest coupon equal to current interest rates of 7.70 per cent per annum, coupons paid half-yearly and a maturity of 10 years.(a) What amount will Woodside raise on the initial issue of the debentures?(b) After three
Minnow Limited is a subsidiary of a large multinational organisation that has a BBB credit rating issued by Standard & Poor’s credit rating agency. Minnow Limited plans to issue debentures to raise additional funds to finance further growth within the company. The investment bank advising the
The major global financial markets each have an active corporate bond market. These corporate bond markets are a significant source of funds for corporations raising finance direct from the capital markets.(a) Describe the structure and operation of the corporate bond markets. In your answer
BHP Billiton Limited is listed on the ASX and is expanding its business operations into China. In order to expand, the company will need to raise additional funds through the issue of corporate bonds direct to the capital markets. Two securities that are often issued into the corporate bond market
After three years of excellent business growth, a local mattress manufacturer decides to expand and purchase new business premises costing $1250000. In addition, establishment expenses of 0.50 per cent of the purchase price, plus estimated legal expenses of $15000 are payable.The total cost to
Mr and Mrs Simcox have recently married and are in the process of purchasing their first home.They have lodged an application with the Commonwealth Bank for a housing loan. The bank has offered them a mortgage loan. Outline the main features of a mortgage loan. In particular, define a mortgage,
The architectural firm owner in Question 6 also approaches the National Australia Bank to obtain a quote on the loan facility. The competitor bank (NAB) also offers the company a fully drawn advance of $28500 over a three-year period at a rate of interest of 8.65 per cent per annum, but payable in
As the owner of a small architectural firm, you approach the Commonwealth Bank to obtain a term loan so that the firm can buy a new computer-aided drawing machine. The bank offers your company a loan of $28500 over a three-year period at a rate of interest of 8.65 per cent per annum, payable at the
Westpac Banking Corporation is currently writing a loan contract for a medium-sized pharmaceutical company. Within the loan contract Westpac intends to incorporate a number of positive and negative loan covenants.(a) What are loan covenants?(b) Explain why a financial institution would incorporate
As the finance manager of a small manufacturing business, you are negotiating a fully drawn advance from the local bank, but the board of directors has indicated concern at the fees being charged by the bank. Explain to the directors the range of fees typically charged, and why the bank charges
In a variable-rate loan contract, how does a commercial bank allow for higher or lower credit risk on the part of the prospective borrowers? (LO 10.1)
One of the National Bank’s commercial lending managers has a meeting scheduled with a business client. The purpose of the meeting is to review the structure of the loans provided by the bank. The business client operates in the mining sector and is very concerned at the possibility of a
Reference interest rates apply in variable-rate loan agreements. What is a reference interest rate and what is its role in a variable-rate loan contract? (LO 10.1)
Do you think the development of blockchain technology and the introduction of bond-i could change the bond market for good?
Discuss the opportunities presented by the Kangaroo bond market.
On further reflection, the business manager in Question 14 decides to implement a different strategy and factor the firm’s accounts receivable. The manager approaches a factor company and is advised that the factoring agreement will include with-recourse and notification conditions in the
As the manager of a small business you are pleased that sales have increased, but are concerned that the level of accounts receivable held has also increased significantly. The combination of these two factors is causing a cash-flow problem for the business. Explain how the firm might be able to
The finance division of a leisure boat manufacturer has received a request for the provision of floor plan financing from the manager of a marine dealership.(a) Explain the purpose and operation of floor plan financing.(b) Briefly identify a range of measures that the finance division will enforce
A customer of a bank has $50000 in surplus funds that need to be invested for a short period of time. The bank offers to sell a 180-day negotiable certificate of deposit to the customer at a yield of 5.34 per cent per annum. Calculate the face value of the CD and advise the customer of the dollar
What is a negotiable certificate of deposit? In your answer:(a) identify which type of institution issues CDs(b) explain why this institution might issue CDs. (LO 9.7)
Santos Limited issues 90-day P-notes (commercial paper) as part of a three-year underwritten facility established with an investment bank syndicate. The commercial paper has a face value of $29 million and is discounted at a yield of 9.20 per cent per annum.(a) Discuss the reasons why Santos has
Woodside Petroleum Limited is about to raise additional short-term funding to meet its funding needs over the next three-month planning period. It is considering issuing commercial bills or promissory notes.(a) What is a promissory note? Identify and briefly explain the roles of the parties to a
After 43 days, the bank bill in Question 7 is sold by the original discounter into the secondary market for $1447326.50. The purchaser holds the bill to maturity. What is the yield received by:(a) the original discounter of the bill?(b) the holder of the bill at the date of maturity? (LO 9.5)
A company issues a bank-accepted bill to fund a short-term business project. The bill is issued for 180 days, with a face value of $1500000 and a yield of 9.87 per cent per annum. What amount will the company raise to fund the project? (LO 9.5)
Commonwealth Bank offers a bill facility to business customers. The bank’s website explains the advantages of the product: ‘A bill facility helps you manage cash flow more effectively by making payments only on the maturity of the bill. It also provides interest rate protection and
As a lending manager with Mega Bank, you have been asked by a corporate client to explain commercial bill financing. Describe the structure of a bank-accepted bill facility. Include in your answer definitions and explanations of the roles of the parties associated with the bill issue.(LO 9.4)
The Big Bank has approved an overdraft facility that allows a small business to manage its dayto-day liquidity position. In providing the overdraft to the business, identify and briefly discuss some of the liquidity-related issues that the Big Bank would have analysed before granting an overdraft.
ANZ bank offers business overdraft facilities to approved customers. In advertising this product, ANZ uses the phrase, ‘Helps you keep doing business’. With reference to the nature of overdraft finance facilities and their use by business owners, explain the relevance of ANZ’s statement. (LO
A fencing contractor purchases a range of fencing materials from the local hardware store in order to build a number of paling fences for a housing project. The hardware store provides its standard trade finance facility to the fencing contractor.(a) Explain the operation of trade credit and why
One of the metrics that Basel III sets down as part of its suite of monitoring tools refers to maturity mismatches in a bank’s funding profile. Why does the Bank of International Settlements emphasise maturity mismatches as part of Basel III? (LO 9.1)
You will inherit $200000 in 20 years’ time from a rich aunt. Your brother offers to purchase your right to this inheritance for $75000. If you agree, he will pay you today. The interest rate is 4.00 per cent per annum. Is your brother’s offer fair?
You are saving up for a holiday by putting aside $250 each month in an account that pays 5.00 per cent per annum interest (compounding monthly). If you save for two years, how much money will you have at the end of that time?
Effective rates of interest(a) Explain the difference between nominal interest rates and effective rates of interest.(b) You have $6000 to deposit for one year and you have the choice of three accounts:i. one that pays 5.25 per cent per annum, with interest paid on maturity ii. one that pays 5.18
Accumulated value of an annuity (future value):(a) Explain the concept of the accumulated value of an annuity (future value).(b) You are the winner of a lottery that pays a quarterly cash payment of $3000 to you for the next seven years. You decide that the funds should be paid directly into a
Present value of an annuity:(a) Explain what is meant by an annuity, an ordinary annuity and an annuity due. Draw a timeline of the cash flows associated with an annuity of $5000 per year for four years, with the first payment to be received at the end of the first year. Why is understanding the
Present value with compound interest:(a) What is the present value of $5000 due in five years at an annually compounded rate of 6.33 per cent per annum?(b) Calculate the present value of $7000, due in three years at 5.40 per cent per annum compounded quarterly.(c) Calculate the present value of
Compound interest accumulation:(a) Explain what is meant by the term compounding of interest. In your answer, explain the relationship between present values, future values and compounding.(b) What is the accumulated value of a $3150 deposit made for four years with a yield of 5.25 per cent per
Holding period yield (HPY):(a) What is meant by HPY, and how does it differ from yield to maturity?(b) A 90-day discount security with a face value of $500000 is purchased to yield 8.23 per cent per annum. After 55 days it is sold at a yield of 8.45 per cent per annum.What is the HPY for the
Yields:(a) Explain the meaning of the term yield within the context of (1) a bank term deposit, and(2) the present and future values of discount securities.(b) You are advised by a bank that a deposit of $5000, with a term to maturity of 180 days, will have a maturity value of $5215. What is the
Present value with simple interest:(a) Explain the concept of present value. What is the relationship between the present value and the future value of an amount?(b) What amount did an investor lodge in a term deposit that has a maturity value in 270 days of $27470.34 if the term deposit earns 4.95
June to 31 August at 4.25 per cent per annum simple interest. How much interest will the investor earn?(c) A bank accepts a $5000 term deposit to mature in 547 days and pays 5.75 per cent per annum. How much interest will the bank have to pay?(d) A bank accepts a deposit of $6500 for a term of one
Simple interest accumulation:(a) Define and explain the notion of simple interest.(b) An investor makes a $3500 deposit from
Formulae symbols: (LO 8.1 and LO 8.2)A number of symbols are used to represent inputs to a formula. Briefly describe each of the following symbols.
A key finding in behavioural finance is that investors tend to keep their losing investments too long and sell their winning investments too soon. Use prospect theory (or other elements of behavioural finance) to explain this behaviour. (LO 7.5)
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