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money banking financial markets

Questions and Answers of Money Banking Financial Markets

In a collateralized debt obligation (CDO) such as a collateralized mortgage obligation (CMO), the senior tranche:a. Comprises the oldest mortgages.b. Has the lowest risk of all the tranches.c. Pays
Explain what a CMO is. How do tranches work?
What is Fannie Mae? What was it originally established to do?
A home mortgage where the monthly payment is not enough to pay the monthly principal payment is calleda. Teaser mortgage.b. NegAm mortgage.c. Upside-down mortgage.d. Default mortgage
Explain why adjustable-rate mortgages, while beneficial for some, often turned out to be very harmful to others, especially the teaser-rate variation of the ARM.
Why might zero-down home mortgages have a higher default rate than traditional home mortgages?
If a homeowner decides to save money each month to pay property taxes and insurance on their home, this is referred to as:a. Escrow.b. Amortization.c. Discretionary savings.d. Forward savings.
Other than getting an adjustable-rate mortgage, what can a home purchaser do to get a mortgage with a lower monthly payment?
Adjustable-rate mortgages offer lower interest rates than fixed-rate mortgages, yet ARMs are often viewed as “more risky” than fixed-rate mortgages. Why is this the case?
Which of the following is not a federal government agency designed to assist families getting a home mortgage?a. Federal Housing Administration (FHA)b. Federal National Mortgage Association (FNMA, or
Home ownership rates in the United States started to increase after World War II. Why did this occur?
Kevin thinks home ownership is part of “the American dream” and has been achieved by most Americans. Why is Kevin incorrect?
The assumption that the stock market reflects all information, both public and private, is referred to as:a. Strong form of efficiencyb. Mildly strong form of efficiencyc. Semi-strong form of
Some people argue that the rise of behavioral finance raises questions about the level of efficiency in the stock market. Explain this argument.
The S&P 500 Index is different from the Dow Jones Industrial Average in that:a. The S&P 500 is a market value–weighted index, whereas the DJIA is a price-weighted index.b. The S&P 500
Joel is confused about what “efficient stock market” means. How would you explain this concept to Joel?
Why do stock market analysts need to be able to “predict” macroeconomic changes?
Harry is an old-time investor. He tells you, “When I was young I was told the Dow Jones Industrial Average tells you everything you need to know about how the stock market is doing. Is that still
According to the Gordon growth model, a stock with an expected dividend payment of $10 next year and an expected growth rate of dividends of 4% should sell at what price if the investor’s discount
Steven is very excited. He just found out that the stock he is about to buy has the lowest PE ratio of the stocks of similar firms. Why is he happy? How would you explain to him why he might not want
Explain in words how the time value of money is related to the price of stocks.
IPOs take place in which of the following equity markets?a. Buybacksb. Secondaryc. Primaryd. Proxy
Crusty is an old-time investor who has not kept up with the changing structure of financial markets. How would you explain to Crusty how the differences between over the counter and stock exchanges
Austin has some money saved and is thinking about buying some corporate stock. He can’t decide whether he should buy common stock or preferred stock. What things should affect his decision?
During times of crises, funds can flow from long-term debt markets to shorter term debt markets. This is often referred to as a:a. Flight to yield.b. Flight to liquidity.c. Flight to shortness.d.
Explain, in words and graphically, how the financial crisis that started in the United States led to a worldwide flight to quality.
Explain, in words and graphically, how private borrowers such as Harley-Davidson are negatively affected by a flight to quality.
Which of the following correctly describes the role of the bond-rating agencies in the subprime mortgage asset bubble?a. The bond-rating agencies warned early on that subprime mortgages were going to
Explain why some argue the “issuer pays” model creates a conflict of interest.
Initially, bond ratings were paid for by the bond purchaser. Today bonding ratings are under an “issuer pays” model. Explain how the two forms are different.
A convertible bond allows for a bond to be converted into what at a future date?a. Cashb. Stockc. Dividendd. Interest payment
Why do bonds have sinking funds? How are they different from a call provision?
Jenny is considering purchasing a bond, but she notices that the bond has many covenants. She is unsure what they mean. How would you explain these covenants to Jenny?
Sunita wants to earn the highest possible after-tax return on her savings. She has two options:a corporate bond and a tax-free government bond. The corporate bond yields 5%, and Sunita is in the 25%
Shoma is thinking about buying a municipal bond. She notices some are revenue bonds, whereas others are general obligation bonds, but she does not understand what these are. How would you explain
Explain how TIPS, or Treasury inflation-protected securities, actually protect investors from inflation.
A money market transaction in which one party sells a financial asset with the agreement to buy it back in the future is called:a. A commercial paper transaction.b. A standby letter of agreement.c. A
How might a firm use the issuance of commercial paper as a way to deal with its seasonal fluctuations in sales?
Explain how the Federal Reserve paying interest on deposits created a floor in the federal funds market.
Which of the following is not a characteristic of a Treasury Bill auction?a. It takes place every business day at noon.b. It is a single-price auction.c. Buyers can enter competitive bids.d. Buyers
Why do the DRY and the IRY result in different values? Explain why this difference, even though seemingly small, can be very important.
Assume you are going to buy a 90-day Treasury bill with a face value of $1,000 for a price of $944. Calculate the DRY, or discount rate yield. Also calculate the IRY, or investment return yield.
Which of the following is not a characteristic of money market instruments?a. They pay a relatively high rate of return.b. They have a low level of default risk.c. They have a high level of
Johanna is an institutional investor who is looking to “park” some of her investment funds for a short time. How would you explain to Johanna why money market instruments might be useful for her?
Explain why the money market is really not “a market for money.”
Scott suffers from what Simon Johnson calls “intellectual capture.” What does that mean?a. Scott believes that only highly educated people should manage financial institutions.b. Anything that is
Explain the controversies that exist over the Bureau of Consumer Financial Protection. How can some critics claim it has too much power, whereas other claim it has no meaningful use at all?
The Community Reinvestment Act was created in response to the issue of redlining. What is/was redlining and how did the act attempt to address it?
In a “pay off and liquidate” approach, what is being liquidated?a. The cash a bank holdsb. The insolvent institution that is being closedc. All of the depositors’ accounts at the institution in
Explain how regulators use the CAMEL rating in the regulation process.
Robert is confused about why regulators created the too big to fail policies. What would you tell Robert?
The Basel Accords attempted to address which of the following issues?a. Sufficient levels of bank capitalb. Different levels of deposit insurance in different countriesc. The lack of an international
Explain how depository institutions successfully “got around” Regulation Q without actually breaking the law.
Why is it that bank executives today may not want their banks to hold sufficient levels of bank capital, even if doing so would make their banks more stable?
What did the Riegle-Neil Act of 1994 allow US banks to do?a. For the first time offer deposits with FDIC insuranceb. Offer checking accounts that paid interestc. Have branches in many different
Ted argues that we should return to the “old days” when banks were forbidden from branching across state lines. Ted believes this will make banks safer because they will concentrate on one,
The Glass-Steagall Act of 1933 separated commercial banks, investment banks, and insurance companies. Explain how the act was slowly chipped away at before it was finally phased out in 1999.
You read that a bank’s net interest income has decreased. Why might this have occurred?a. Gross interest income increased more than gross interest expense decreased.b. Both gross interest income
Why is it that an increase in a bank’s ROE might be a sign that the bank is taking on more risk?
Explain why an increase in a bank’s ROA may or may not be a reason to purchase the bank’s stock.
Which of the following is a type of operational risk banks face?a. A borrower does not repay as promised.b. The bank’s computer system crashes.c. Interest rates increase, requiring the bank to pay
Explain how the Volcker Rule was designated to limit market risk banks face.
Explain how a bank that makes only loans in the domestic market can still face exchange rate risk.
Which of the following is not a source of liquidity for banks?a. Commercial paperb. Real estate holdings, such as a bank buildingc. Securitizing loansd. Deposits at the Federal Reserve
The Federal Reserve was established, in part, to be the “lender of last resort” to the banking system. Why can’t we rely on the Federal Reserve to ensure there is enough liquidity in the
Bill is confused about why liquidity risk management is such a problem for banks. He says, “It’s simple. If banks are worried about liquidity risk, why don’t they just hold a lot of liquid
You hold a portfolio of bonds. You read in the financial press that market interest rates have increased. Holding everything else constant, what has just happened to the duration of your bond
Explain the concept of duration to someone who has no training in economics.
Judy runs a bank and believes interest rates will increase in the future. Explain what size interest rate gap the bank should have and why.
Sunita is a loan officer at a bank. She is considering making a loan to a local business, but she is worried about the “conditions” variable of the five Cs of credit risk. What is Sunita
Explain why not every asset can be used as collateral on a loan.
Bob and Karen are both applying for a consumer loan. They both have the same current level of income and the same current level of debt. Why might Karen be more likely to get the loan if Karen is
Lisa runs a commercial bank and wants to hedge her interest rate risk. Which off balance sheet transaction is Lisa going to engage in on behalf of the bank?a. Standby letter of creditb. Credit
Many argue that when banks started to issue credit default swaps, they started to become insurance companies. Explain this argument.
Commercial letters of credit and standby letters of credit tend to be very profitable for banks, yet they seldom require banks to lend money. Explain why.
Debbie has owned her home for several years and has been paying her mortgage on time every month. She is building equity in her home, which can then be used for what type of personal loan?a. A first
Banks offer a wide variety of business loans. Explain why banks try to seek a balance between short-term and long-term loans in their loan portfolio. What are the advantages and disadvantages of
Explain the trade-offs banks face when they consider holding high-yield securities.
Demand deposit and NOW accounts are commonly referred to as:a. Savings accounts.b. Passbook accounts.c. Checking accounts.d. Non transaction accounts.
Not all financial assets are the right vehicle for everyone. Give an example of someone for whom a certificate of deposit would be useful. Also give an example of someone for whom a certificate of
Financial innovations can have dramatic effects. Explain how and why NOW accounts came about and the impact they have had on financial markets.
Which is currently the largest liability of banks?a. Cashb. Loansc. Depositsd. Bank capital
Banks usually hold a very small percentage of their assets in the form of cash. Recently, however, banks have been holding on to larger amounts of cash. What impact does this have on the other
Hank is confused as to what banks do. He reads that banks “transform assets,” but he has no idea what that means. How would you explain asset transformation to Hank?
Some believe identifying an asset bubble until it breaks is impossible, and thus monetary policy should not be used to deflate asset bubbles. Stiglitz argues this argument is false because it ignores
Stiglitz argues that the Fed’s focus on price stability actually contributed to the Great Recession. Explain Stiglitz’s argument. that if one wants economic stability, one must have price level
Tommy believes that markets are rational. Explain why Tommy thus would argue that asset bubbles don’t exist. How would economists such as Joseph Stiglitz counter Tommy’s argument?
According to the Taylor Rule, if the real federal funds rate equals 2%, the inflation target rate is 2%, the actual inflation rate is 4%, and the economy is at the full employment level of output,
What problems with the Taylor Rule does the Mankiw Rule attempt to address?
Which of the following are lags in monetary policy?a. Information lag and impact or effectiveness lagb. Velocity lag and turnover lagc. Interest rate lag and unemployment lagd. Output lag and
Explain why many economists argue the explicit inflation target for monetary policy is far too rigid to be effective.
Explain how the time inconsistency problem in monetary policy is used by many to argue in favor of central bank independence.
The “dual goals” of current monetary policy in the United States are:a. Long-run economic growth and balanced international trade.b. High employment and price level stability.c. Low interest
Opponents of the “financial market stability goal” of monetary policy believe it may be difficult for the Federal Reserve, or any central bank, to achieve this goal. Explain their argument.
Some argue the Federal Reserve should not have “high employment” as one of the goals of monetary policy because there are so many causes of unemployment that are beyond the Fed’s control. What
Under price level-targeting monetary policy, a sharp drop in the inflation rate today means what for the future?a. A return to the previous rate of inflation.b. An increase in the inflation rate to
Explain why some argue that a central bank’s goal of price level stability can hurt the middle class and working people while benefiting more wealthy individuals.
Explain why deflation leads to an increase in the real burden of debt.
If a central bank wants to pursue an expansionary monetary policy, it should change policies to ensure what happens to the required reserves ratio?a. The required reserves ratio should be set equal
You read in the press that a credit crunch is occurring. How will that affect the money supply multiplier and why?

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