Deck 14: Investment Banking,Insurance,and Other Sources of Fee Income

Question 1

A financial institution goes _________________________ in the futures market by selling a futures contract.

Answer 1

short

Question 2

In an interest rate swap,the ________________________ or principal amount is not exchanged.

Answer 2

ional

Question 3

A(n)_________________________ is a contract where two parties exchange interest payments in order to save money and hedge against interest rate risks.

Answer 3

interest rate swap

Question 4

A financial institution goes _________________________ in the futures market by buying a futures contract.

Question 5

A(n)_________________________ is a contract where a borrower with a lower credit rating enters into an agreement with a borrower with a higher credit rating to exchange interest payments.

Question 6

A(n)_________________________ protects the lender from falling interest rates.It is the minimum rate that the borrower must pay on a floating-rate loan.

Question 7

A(n)_________________________ is the fee a buyer must pay to be able to put securities to,or to call securities away from the option writer.

Question 8

A(n)_________________________ is a new swap agreement which offsets the original interest rate swap contract.

Question 9

In an interest-rate swap,the principal amount of the loan,usually called the ________________________,is not exchanged.

Question 10

A(n)_________________________ is an agreement between two parties where they agree to exchange,based on a predetermined agreement,amounts in different currencies.It is designed to reduce exchange rate risks.

Question 11

The buyer of a(n)_________________________ option contract believes that the market price of the underlying security will decline in the future.

Question 12

Most options today are traded on a(n)________________________.These options are standardized to make offsetting an existing position easier.

Question 13

The buyer of a(n)_________________________ option contract believes that the market price of the underlying security will increase in the future.

Question 14

A(n)_________________________ is where there is both a minimum and a maximum interest rate set on a loan.

Question 15

A(n)_________________________ protects the holder from rising market interest rates.It sets the maximum interest rate that a lender can charge on a floating-rate loan.

Question 16

In an interest rate swap agreement,__________________ reduces the default risk.This is where the swap parties exchange only the net difference between the interest payments owed.

Question 17

A(n)_________________________ is an agreement between a buyer and a seller today which calls for the delivery of a particular security in exchange for cash at some future date for a set price.

Question 18

Futures contracts are _________________________ daily,which means that futures contracts are settled each day as their market value changes.

Question 19

A(n)_________________________ allows the holder the right to either sell securities to another investor (put)or buy securities from another investor (call)at a set price before the expiration date.

Question 20

_________________________ is the difference in interest rates (or prices)between the cash market and the futures market on an underlying security.

Question 21

An effective hedge is one where the positive or negative returns earned in the cash market are approximately offset by the profit or loss from futures trading.

Question 22

On the exchange floor,_________ execute orders received from the public to buy and sell the futures contract at the best possible price.

Question 23

Futures contracts can be traded ________,without the help of an organized exchange.

Question 24

The category of derivative contracts with the largest use by banks is _________.

Question 25

There are some significant limitations to financial futures as interest-rate hedging devices;among them is a special form of risk known as credit risk.

Question 26

When a financial institution offers to sell financial futures contract,it is agreeing to take delivery of certain kinds of securities on a stipulated date at a predetermined price.

Question 27

One of the most popular methods of neutralizing duration gap risks is to buy and sell financial futures contracts.

Question 28

The financial futures markets are designed to shift the risk of interest rate fluctuations from risk-averse investors to ________.

Question 29

When investors buy or sell a futures contract,they must deposit a(n)_________ when they first enter into the contract.

Question 30

_________ are financial instruments that derive their value from some underlying asset.

Question 31

The financial futures markets are designed to shift the risk of interest rate fluctuations from risk-averse investors to speculators who are willing to accept and possibly profit from such risks.

Question 32

The most actively traded futures contract in the world is the ________.It is traded on exchanges in Chicago,London,Tokyo,Singapore and elsewhere and allows investors the opportunity to hedge against market interest rate changes.

Question 33

An interest-rate ________ would protect the swap party receiving a floating-rate payment in a swap.

Question 34

One reason that banks use derivatives is to generate ________,the money that does not come from interest earned on loans and securities.

Question 35

The buyer of a call option has the right to buy from the writer of the option contract,securities at the ________.

Question 36

_______ is the spread between the cash price and futures price of an underlying asset.

Question 37

The combination of both a cap and floor is known as an interest-rate ________.

Question 38

The _________ largest U.S.FDIC-insured banking companies account for more than 90 percent of bank derivatives activity in the U.S.

Question 39

An interest-rate _______ would protect the swap party receiving a fixed-rate payment and making a floating-rate payment in a swap.

Question 40

The _________ is determined by the clearing house and is used to calculate the mark-to-market amounts.

Question 41

A currency swap is where two parties agree to exchange interest payments in order to hedge against interest rate risk.

Question 42

If a financial institution makes an offsetting sale and purchase of the same futures contract,it has no obligation either to deliver or take delivery of the contract.

Question 43

A hedging tool that provides "one-sided" insurance against interest rate risk is the interest rate option,which,like financial futures contracts,obligates the parties to the contract to either deliver or take delivery of securities.

Question 44

A futures hedge against interest-rate changes generally requires a bank to take an opposite position in the futures market from its current position in the cash market.

Question 45

A bank will use a short hedge in the futures market to avoid higher borrowing costs or to protect against declining asset values.

Question 46

The short hedge in financial futures contracts is most likely to be used in situations where a bank would suffer losses due to falling interest rates.

Question 47

The long hedge in financial futures contracts is most likely to be used in situations where a bank would suffer losses due to rising interest rates.

Question 48

Basis risk is the difference in the interest rates (or prices)of the same security between the cash market and the futures market.

Question 49

U.S.Treasury bond futures contracts call for the future delivery of U.S.T-bonds with minimum denominations of $100,000 and minimum maturities of 15 years.

Question 50

A futures contract is "marked-to-market" weekly to reflect the current market price of the contract.This means that one or the other party has to make a cash payment to the exchange at the end of each week.

Question 51

The sensitivity of the market price of a financial futures contract depends partly upon the duration of the security to be delivered under the futures contract.

Question 52

A financial institution confronted with a negative interest-sensitive gap could avoid unacceptable losses from rising interest rates by covering the gap with a short hedge.

Question 53

The market value of a futures contract changes daily as the market price of the underlying security price changes.

Question 54

The short hedge would usually be the correct choice if a bank is concerned about avoiding lower than expected yields from loans and security investments.

Question 55

Money center banks appear to use option contracts to protect the value of a bond portfolio or to hedge against interest-sensitive or duration gaps.

Question 56

Banks are generally writers (sellers)of put and call option contracts.

Question 57

A financial institution with a positive interest-sensitive gap and anticipating falling interest rates could protect against loss by covering the gap with a long hedge.

Question 58

One of the significant disadvantages of using futures contracts to hedge against interest rate risk is the high commissions that must be paid to brokers.

Question 59

In a typical quality swap,a borrower with a positive duration gap is more likely to pay all or part of the other swap party's long-term interest rate.

Question 60

In most interest rate swaps,netting reduces the default risk because the parties actually exchange only the difference in the interest payments.

Question 61

An interest rate collar sets both,a minimum and a maximum interest rate on a variable rate loan agreement.

Question 62

Many banks are not only users of derivative products but also dealers.

Question 63

A financial institution with a negative gap can reduce the risk of loss due to changing interest rates by:

A)extending asset maturities.
B)increasing short-term interest-sensitive liabilities.
C)using financial futures or options contracts.
D)All of the options are correct
E)None of the options are correct

Question 64

An interest-rate cap on a loan would protect the lender.

Question 65

If a bank has a positive gap,that is,if it is asset sensitive,the bank can hedge its interest-rate risk by which of the following activities?

A)Reducing maturities of its assets
B)Reducing maturities of its liabilities
C)Using a long hedge
D)All of the options are correct
E)Reducing maturities of its assets and liabilities

Question 66

Basis risk exists on interest rate swaps because the interest rate on the swap agreement may differ from the interest rate on assets and liabilities that the parties hold.

Question 67

Interest rate caps protect the lender from falling interest rates.

Question 68

Most derivatives (measured by notional value)are traded on organized exchanges.

Question 69

One advantage of an interest rate swap agreement is that the brokerage fees are very low.

Question 70

A reverse swap is where the parties exchange the principal payments instead of the interest payments on loans.

Question 71

The number of futures contracts needed to hedge a position increases as the bank's duration gap increases.

Question 72

The realized return to a bank from a combined cash and futures market trading operation is composed of which of the following elements?

A)Returns earned in the cash market
B)Profit or loss from futures trading
C)Difference between the opening and closing basis between cash and futures markets
D)All of the options are correct
E)Profit or loss from futures trading and the difference between the opening and closing basis between cash and futures markets

Question 73

A significant limitation to financial futures as an interest-rate hedging device is a special form of risk known as ___________ risk.Which of the following terms correctly completes the statement?

A)default
B)basis
C)credit
D)market
E)None of the options are correct

Question 74

Which of the following is an advantage of trading financial futures to hedge interest-rate risk?

A)Only a fraction of the value of the contract must be pledged as collateral
B)Brokers' commissions are relatively low
C)There is no market risk in trading futures contracts
D)All of the options are correct
E)Only a fraction of the value of the contract must be pledged as collateral and brokers' commissions are relatively low

Question 75

An option buyer can:

A)exercise the option.
B)sell the option to another buyer.
C)allow the option to expire.
D)All of the options are correct.
E)exercise the option or must sell it to another buyer.

Question 76

Virtually all banks in the U.S.use derivative contracts to hedge their risks.

Question 77

Unlike futures contracts,interest rate swap agreements have no basis risk.

Question 78

A financial institution with a negative gap would like to receive the floating rate in an interest-rate swap.

Question 79

An interest-rate cap will become more valuable as interest rates rise.

Question 80

Interest rate floors protect the lender from falling interest rates.