Question 1

The investment policy of the bank should be to maximize rates of return.

Accepted Answer

The investment policy of a bank should aim to balance rates of return with risk management, liquidity needs, and regulatory compliance, rather than solely maximizing rates of return.

Question 2

The investment policy should be written out as a guide to managers in allocating responsibilities, setting investment goals, and evaluating portfolio performance.

Accepted Answer

An investment policy serves as a comprehensive guide for managers, outlining how to allocate responsibilities, set investment goals, and evaluate the performance of investment portfolios, ensuring alignment with the overall strategic objectives of the organization.

Question 3

When interest rates are low, differences in deposit and loan demands tend to cause a positive duration gap.

Accepted Answer

When interest rates are low, borrowers are more likely to take out loans, while depositors are less likely to save money. This difference in demand can cause a positive duration gap, which means that the average maturity of loans is longer than the average maturity of deposits.

Question 4

If a bank has a positive duration gap, an increase in interest rates will tend to cause the equity value of the bank to increase.

Accepted Answer

A positive duration gap means that the duration of assets is greater than the duration of liabilities. If interest rates increase, the value of assets (which are more sensitive to interest rate changes due to their longer duration) will decrease more than the value of liabilities, leading to a decrease in the bank's equity value.

Question 5

Pledging requirements are related to capital management rather than investment management.

Accepted Answer

The answer of Pledging requirements are related to capital management...

Question 6

Both Treasury notes and bonds are coupon-bearing instruments.

Accepted Answer

Both Treasury notes and bonds pay interest semi-annually, which means they are coupon-bearing instruments, providing periodic interest payments to the holder until maturity.

Question 7

Ginnie Mae securities are a type of Treasury security.

Accepted Answer

Ginnie Mae securities are backed by the full faith and credit of the U.S. government, but they are not Treasury securities. They are issued by the Government National Mortgage Association (Ginnie Mae), a government corporation within the Department of Housing and Urban Development (HUD), and are backed by pools of federally insured or guaranteed mortgages, not by the Treasury.

Question 8

CMOs are ownership claims on conventional mortgages held by Freddie Mac and are issued as twenty-year securities.

Accepted Answer

CMOs (Collateralized Mortgage Obligations) are not specifically ownership claims on conventional mortgages held by Freddie Mac. They are complex financial products that are secured by a pool of mortgage-backed securities, including those issued by agencies like Freddie Mac, but they can also include other types of mortgages. Additionally, CMOs can have varying maturities, not limited to twenty years.

Question 9

Revenue bonds are backed by the "full faith and credit" of the taxing government unit.

Accepted Answer

Revenue bonds are backed by the revenue generated from the specific project they are issued to finance, not by the "full faith and credit" of the taxing government unit.

Question 10

GOs pay no federal income taxes on interest income.

Accepted Answer

General Obligation bonds (GOs) are municipal bonds that are exempt from federal income taxes on the interest income they generate.

Question 11

Banks and individuals are exposed to the same tax treatment for municipal securities holdings under the Tax Reform Act of 1986.

Accepted Answer

The Tax Reform Act of 1986 introduced different tax treatments for banks and individual investors regarding the interest income from municipal securities. Individuals generally receive tax-exempt interest income from these securities, while banks may have limitations on their ability to exclude this interest from taxable income, depending on certain investment thresholds and their reserve requirements.

Question 12

Moody's/S&P's top five bond rating categories are considered to be investment grade, as opposed to junk bonds.

Accepted Answer

The answer of Moody's/S&P's top five bond rating categories are...

Question 13

Higher activity ratios reflect stronger short-term solvency.

Accepted Answer

Higher activity ratios indicate that a company can quickly convert its assets into cash to meet its short-term obligations, indicating stronger short-term solvency.

Question 14

Moody's/S&P's regularly reports information on distressed sale values of assets of firms in the event those firms' debt issues go into default.

Accepted Answer

Moody's and S&P's primarily rate the creditworthiness of borrowers and their debt issues, not report on distressed sale values of assets in the event of default.

Question 15

During recessionary periods, the yield spread between low and high quality bonds tends to increase.

Accepted Answer

During recessionary periods, investors demand higher yields for riskier (low quality) bonds due to increased default risk, widening the yield spread between low and high quality bonds.

Question 16

When interest rates are high, and the expansionary phase of the economy is peaking out, this is an ideal time to purchase short-term securities, as opposed to long-term securities.

Accepted Answer

The answer of When interest rates are high, and the...

Question 17

The normal shape of the yield curve is upward sloping.

Accepted Answer

An upward sloping yield curve indicates that longer-term interest rates are generally higher than short-term rates, which is the normal market condition reflecting expectations for economic growth and inflation over time.

Question 18

The expectations theory of the yield curve says that the rate of return that investors earn can differ depending on the maturities of securities that investors hold.

Accepted Answer

The expectations theory of the yield curve posits that long-term interest rates are a predictor of future short-term interest rates, implying that the yield curve reflects market expectations for future interest rates, rather than differing rates of return based on security maturities.

Question 19

Empirical evidence has repeatedly shown that future implicit interest rates calculated from the equation representing the expectations theory of the yield curve tend to be upwardly biased estimates of actual future rates of interest.

Accepted Answer

Empirical evidence has indeed shown that the expectations theory, which suggests that the future interest rates can be predicted by the current yield curve, often results in upwardly biased estimates of actual future interest rates. This is because the theory does not account for various risk premiums that investors demand for holding longer-term bonds.

Question 20

Bonds issued when interest rates are low tend to have higher levels of call risk than those issued when interest rates are high.

Accepted Answer

The answer of Bonds issued when interest rates are low...

Quiz 7: Investment Management