Question: a. Determine the forward rate for various

> The Fed focuses its control on the federal funds rate, yet indirectly influences many other types of interest rates. Explain.

> Why do the Fed’s open market operations have a different effect on money supply than do transactions between two depository institutions?

> Briefly describe the origin of the Federal Reserve System. Describe the functions of the Fed district banks.

> Explain how the Fed’s “quantitative easing” strategies differed from the traditional strategy of buying short-term Treasury securities.

> What was TALF, and why did the Fed create it?

> Why did the Fed purchase long-term Treasury securities in 2010, and how did this strategy differ from the Fed’s usual operations?

> Why and how did the Fed intervene in the commercial paper market during the credit crisis?

> Explain the motivation behind the Fed’s policy of purchasing massive amounts of mortgage-backed securities during the 2008 credit crisis. What could this policy accomplish that its traditional monetary policy might not accomplish?

> Assume that your publicly traded company attempts to be completely transparent about its financial condition, and provides thorough information about its debt, sales, and earnings every quarter. Explain why there still may be much uncertainty surrounding

> What should be the Fed’s role? Should it focus only on monetary policy? Or should it engage in the trading of various types of securities in an attempt to stabilize the financial system when securities markets are suffering from investor fears and the po

> Explain why participating in the eurozone causes a country to give up its independent monetary policy and control over its domestic interest rates.

> Assume an expectation of lower interest rates in the future arises quite suddenly. What would be the effect on the shape of the yield curve? Explain.

> Explain how a yield curve would shift in response to a sudden expectation of rising interest rates, according to the pure expectations theory.

> Do investors in high tax brackets or those in low tax brackets benefit more from tax-exempt securities? Why? Do municipal bonds or corporate bonds offer a higher before-tax yield at a given point in time? Why? Which has the higher after-tax yield? If tax

> If the segmented markets theory causes an upward-sloping yield curve, what does this imply? If markets are not completely segmented, should we dismiss the segmented markets theory as even a partial explanation for the term structure of interest rates? Ex

> Why is it important for long-term debt securities to have an active secondary market?

> What is the function of a mutual fund? Why are mutual funds popular among investors? How does a money market mutual fund differ from a stock or bond mutual fund?

> What factors influence the shape of the yield curve? Describe how financial market participants use the yield curve.

> What is the difference between the nominal interest rate and real interest rate? What is the logic behind the implied positive relationship between expected inflation and nominal interest rates?

> Different types of financial institutions commonly interact. Specifically, they may provide loans to each other, and take opposite positions on many different types of financial agreements, whereby one will owe the other based on a specific financial out

> Assume that if the U.S. dollar strengthens, it can place downward pressure on U.S. inflation. Based on this information, how might expectations of a strong dollar affect the demand for loanable funds in the United States and U.S. interest rates? Is there

> If the federal government planned to expand the space program, how might this change affect interest rates?

> Explain why some stocks in the marijuana industry were mis-valued when several states legalized the recreational use of marijuana.

> What are the functions of securities firms? Many securities firms employ brokers and dealers. Distinguish between the functions of a broker and those of a dealer and explain how each type of professional is compensated.

> What type of information do investors rely on in order to determine the proper value of stocks?

> Assume the following information for an existing bond that provides annual coupon payments: Par value = $1,000 Coupon rate = 11% Maturity = 4 years Required rate of return by investors = 11% a. What is the present value of the bond? b. If the required

> Assume that the U.S. economy experienced deflation during the year, and that the consumer price index decreased by 1 percent in the first six months of the year, and by 2 percent during the second six months of the year. If an investor had purchased infl

> An inflation-indexed Treasury bond has a par value of $1,000 and a coupon rate of 6 percent. An investor purchases this bond and holds it for one year. During the year, the consumer price index increases by 1 percent every six months. What are the total

> Montana Bank wants to determine the sensitivity of its stock returns to interest rate movements, based on the following information: Use a regression model in which Montana’s stock return is a function of the stock market return and th

> Use the balance sheet for San Diego Bank in Exhibit A (below and next page) and the industry norms in Exhibit B (page following Exhibit A) to answer the following questions: a. Estimate the gap and determine how San Diego Bank would be affected by an inc

> Some countries do not have well established markets for debt securities or equity securities. Why do you think this can limit the development of the country, business expansion, and growth in national income in these countries?

> Assume the following information: Mexican one-year interest rate = 15% U.S. one-year interest rate = 11% If interest rate parity exists, what would be the forward premium or discount on the Mexican peso’s forward rate? Would covered interest arbitrage be

> Wisconsin Inc. purchased a call option on Treasury bond futures at a premium of 2-00. The exercise price is 92-08. If the price of the Treasury bond futures rises to 93-08, should Wisconsin Inc. exercise the call option or should it let the option expire

> Purdue Savings and Loan Association purchased a put option on Treasury bond futures with a September delivery date and an exercise price of 91-16. Assume the put option has a premium of 1-32. Assume that the price of the Treasury bond futures decreases t

> a. Evanston Insurance Inc. has purchased shares of Stock E at $50 per share. It will sell the stock in six months. It considers using a strategy of covered call writing to partially hedge its position in this stock. The exercise price is $53, the expirat

> Smart Savings Bank desired to hedge its interest rate risk. It was considering two possibilities: (1) sell Treasury bond futures at a price of 94-00, or (2) purchase a put option on Treasury bond futures. At the time, the price of Treasury bond futures w

> a. How is the maximum expected loss on a stock affected by an increase in the volatility (standard deviation), based on a 95 percent confidence interval? b. Determine how the maximum expected loss on a stock would be affected by an increase in the expect

> Describe how bond convexity affects the theoretical linear price-yield relationship of bonds. What are the implications of bond convexity for estimating changes in bond prices?

> a. When using the CAPM, how would the required rate of return on a stock be affected if the risk-free rate were lower. b. When using the CAPM, how would the required rate of return on a stock be affected if the market return were lower. c. When using the

> How would the return on a stock be affected by a lower initial investment (and higher loan amount)? Explain the relationship between the proportion of funds borrowed and the return.

> Assume that in the previous problem, an investor has invested $10 million in the stock of concern. Estimate the maximum dollar one-day loss based on a 95 percent confidence level.

> Assume that countries A and B are of similar size, that they have similar economies, and that the government debt levels of both countries are within reasonable limits. Assume that the regulations in country A require complete disclosure of financial rep

> The portfolio manager of Ludwig Company has excess cash that is to be invested for four years. He can purchase either (1) four-year Treasury notes that offer a 9 percent yield, or (2) new 20-year Treasury bonds for $2.9 million that offer a par value of

> Sun Devil Savings has just purchased bonds for $38 million that have a par value of $40 million, five years remaining to maturity, and a coupon rate of 12 percent. It expects the required rate of return on these bonds to be 10 percent two years from now.

> Bulldog Bank has just purchased bonds for $106 million that have a par value of $100 million, three years remaining to maturity, and an annual coupon rate of 14 percent. It expects the required rate of return on these bonds to be 12 percent one year from

> Ash Investment Company manages a broad portfolio with this composition: Ash expects that in four years, investors in the market will require an 8 percent return on the zero-coupon bonds, a 7 percent return on the Treasury bonds, and a 9 percent return on

> a. Determine how the annualized yield of a T-bill would be affected if the purchase price were lower. Explain the logic of this relationship. b. Determine how the annualized yield of a T-bill would be affected if the selling price were lower. Explain the

> a. Determine how the appropriate yield to be offered on a security is affected by a higher risk-free rate. Explain the logic of this relationship. b. Determine how the appropriate yield to be offered on a security is affected by a higher default risk pre

> Hankla Company plans to purchase either (1) zero-coupon bonds that have ten years to maturity, a par value of $100 million, and a purchase price of $40 million, or (2) bonds with similar default risk that have five years to maturity, a 9 percent coupon r

> a. A corporation is planning to sell its 90-day commercial paper to investors offering an 8.4 percent yield. If the three-month Treasury bill’s annualized rate is 7 percent, the credit risk premium is estimated to be 0.6 percent and there is a 0.4 percen

> Assume that interest rates for one-year securities are expected to be 2 percent today, 4 percent one year from now and 6 percent two years from now. Using only the pure expectations theory, what are the current interest rates on two-year and three-year s

> Describe how a country’s laws can influence the degree of its financial market liquidity.

> Cardinal Company, a U.S.-based insurance company, considers purchasing bonds denominated in Canadian dollars, with a maturity of six years, a par value of C$50 million, and a coupon rate of 12 percent. The bonds can be purchased at par by Cardinal and wo

> As an analyst at a bond rating agency, you have been asked to interpret the implications of the recent shift in the yield curve. Six months ago, the yield curve exhibited a slight downward slope. Over the last six months, the long-term yields declined, w

> As an analyst at a bond rating agency, you have been asked to interpret the implications of the recent shift in the yield curve. Six months ago, the yield curve exhibited a slight downward slope. Over the last six months, the long-term yields declined, w

> As the treasurer of a manufacturing company, your task is to forecast the direction of interest rates. Your company plans to borrow funds and it may use the forecast of interest rates to determine whether it should obtain a loan with a fixed interest rat

> As a manager of a firm, you are concerned about a potential increase in interest rates, which would reduce the demand for your firm’s products. The Fed is scheduled to meet in one week to assess the economic conditions and set monetary policy. Economic g

> As a manager of a large U.S. firm, one of your assignments is to monitor U.S. economic conditions so that you can forecast the demand for products sold by your firm. You realize that the Federal Reserve implements monetary policy, whereas the federal go

> As a financial manager of a large firm, you plan to borrow $70 million over the next year. a. What are the more likely alternatives for you to borrow $70 million? b. Assuming that you decide to issue debt securities, describe the types of financial inst

> As a consultant to a state’s underfunded pension fund, you have been asked to search for solutions to prevent underfunding in the future. a. One explanation for the underfunding of the defined-benefit plan is that the economy was weak recently, and fin

> As a consultant to an insurance company, you have been asked to assess the asset composition of the company. a. The insurance company has recently sold a large amount of bonds and invested the proceeds in real estate. Its logic was that these actions wo

> As a consultant for a securities firm, you are assessing the operations of a securities firm. a. This securities firm relies heavily on full-service brokerage commissions. Do you think that heavy reliance on these brokerage commissions is risky? Explain

> Explain why financial markets may be less liquid if companies are not forced to provide accurate financial reports.

> As an individual investor, you are attempting to invest in a well-diversified portfolio of mutual funds, so that you will be somewhat insulated from any type of economic shock that may occur. a. An investment adviser recommends that you buy four differe

> As a manager of a finance company, you are attempting to increase the spread between the rate earned on your assets and the rate paid on your liabilities. a. Assume that you expect interest rates decline over time. Should you issue bonds or commercial p

> As a consultant to Boca Savings & Loan Association, you notice that a large portion of 15-year, fixed-rate mortgages are financed with funds from short-term deposits. You believe the yield curve is useful in indicating the market’s anticipation of future

> As a manager of Hawaii Bank, you anticipate the following information provided to you: Loan loss provision at end of year = 1 percent of assets Gross interest income over the next year = 9 percent of assets Noninterest expenses over the next year = 3 per

> As a manager of Stetson Bank, you are responsible for hedging Stetson’s interest rate risk. Stetson has forecasted its cost of funds as follows: The bank expects to earn an average rate of 11 percent on some assets that charge a fixed i

> A bank has asked you to assess various strategies it is considering and explain how they could affect its regulatory review. Regulatory reviews include an assessment of capital, asset quality, management, earnings, liquidity, and sensitivity to financial

> As a consultant, you have been asked to assess a bank’s sources and uses of funds, and to offer recommendations on how it can restructure its sources and uses of funds to improve its performance. This bank has traditionally focused on attracting funds by

> You are the manager of a stock portfolio for a financial institution, and approximately 20 percent of your stock portfolio is in British stocks. You expect the British stock market to perform well over the next year, and you plan to sell the stocks one y

> As a manager of a commercial bank, you have just purchased a three-year interest rate collar, with LIBOR as the interest rate index. The interest rate cap specifies a fee of 2 percent of notional principal valued at $100 million and an interest rate ceil

> As a stock portfolio manager, you have investments in many U.S. stocks and plan to hold these stocks over a long-term period. However, you are concerned that the stock market may experience a temporary decline over the next three months, and that your st

> Explain why mortgage defaults during the credit crisis in 2008 and 2009adversely affected financial institutions that did not originate the mortgages. What role did these institutions play in financing the mortgages?

> The Fed attempts to use monetary policy to control the level of inflation and economic growth in the United States. Write a short essay on how the government’s fiscal policy can make the Fed’s role more difficult. Specifically, assume that the administra

> As a portfolio manager, you are monitoring previous investments that you made in stocks and bonds of U.S. firms, and in stocks and bonds of Japanese firms. Although you plan to keep all of these investments over the long run, you are willing to hedge aga

> As an investment manager, you frequently make decisions about investing in stocks versus other types of investments, and about types of stocks to purchase. a. You have noticed that investors tend to invest more heavily in stocks after interest rates hav

> As a manager of a savings institution, you must decide whether to invest in collateralized mortgage obligations (CMOs). You can purchase interest-only (IO) or principal-only (PO) classes. You anticipate that economic conditions will weaken in the future

> As an investor, you plan to invest your funds in long-term bonds. You have $100,000 to invest. You may purchase highly rated municipal bonds at par with a coupon rate of 6 percent; you have a choice of a maturity of 10 years or 20 years. Alternatively, y

> As a portfolio manager for an insurance company, you are about to invest funds in one of three possible investments: (1) 10-year coupon bonds issued by the U.S. Treasury, (2) 20-year zero-coupon bonds issued by the Treasury, or (3) one-year Treasury secu

> As a treasurer of a corporation, one of your jobs is to maintain investment in liquid securities such as Treasury securities and commercial paper. Your goal is to earn as high a return as possible, but without taking much of a risk. a. The yield curve

> You maintain a large portfolio of U.S. bonds. You believe that if the Fed does not revise its monetary policy, the U.S. economy will continue to decline. If the Fed stimulates the economy at this point, you believe that you would be better off with stock

> Do you think that the Fed will use a stimulative monetary policy at this point? Explain.

> Should you still consider purchasing Kenner stock in light of the analysts’ arguments about why it may be undervalued?

> Should you still consider purchasing Olympic stock in light of the analysts’ arguments about why it may be undervalued?

> When economic crises in countries are due to a weak economy, local interest rates tend to be very low. However, if the crisis is caused by an unusually high rate of inflation, the interest rate tends to be very high. Explain why.

> Other than possible changes in the economy that may affect credit risk, what key factor will determine whether this strategy is beneficial beyond one year?

> Will the bank’s ROA next year be higher or lower if market interest rates are higher? (Use the T-bill rate as a proxy for market interest rates.) Why?

> Using the information provided, determine the probability distribution of ROA for next year by completing the following table: IN T E R E S T R AT E S C E N A R IO (P O S SIBL E T- BIL L R AT E ) F O R E C A S T E D R O A P R OB A BIL I T Y 8% 9 10

> Some stock analysts have just predicted that the prices of most stocks will fall because interest rates are expected to increase, which would cause investors to use higher required rates of return when valuing stocks. Based on this logic, the analysts su

> Using your answer to question 1 only, explain how prices of U.S. money market securities, bonds, and mortgages will be affected.

> Assume that day-to-day exchange rate movements are dictated primarily by the flow of funds between countries, especially international bond and money market transactions. How will exchange rates be affected by possible changes in the international flow o

> Using the information available to you, forecast the direction of Canadian interest rates.

> Using the information available to you, forecast the direction of U.S. interest rates.

> Currently, each unit employs economists who develop forecasts for interest rates and other economic conditions. When assessing potential economic effects on each unit, what are the disadvantages of this approach versus having just one economist at the ho

> Your assignment is to identify the units that will be less adversely affected by the recession. You believe that the units’ different characteristics will cause some of them to be affected to a more significant extent than others are.

> Integrate the roles of accounting, regulations, and financial market participation. That is, explain how financial market participants rely on accounting, and why regulatory oversight of the accounting process is necessary.

> An international mutual fund sponsored by a U.S. securities firm consists of bonds evenly allocated across the United States and the United Kingdom. One of the portfolio managers has decided to hedge all the assets by selling futures on a popular U.S. bo

> A pension fund maintains a large bond portfolio of U.S. bonds. Which of the following would be most appropriate? Sell bond index futures. Buy bond index futures. Remain unhedged. Defend your recommendation.

> Suppose that, instead of reducing the supply of loanable funds in the United States, the event in Singapore increased demand for them. Would your assessment of future interest rates be different? What about your general assessment of economic conditions?