Financial Risk Management MidTerm

Risks of Investing - answer-Recession, Floating Interest Rate, Inflation/Deflation, Fx exposure (exchange rate), maturity risk, liquidity risk, new product, taxes Money Market vs. Capital Market Securities - answer-Money Market: <1 year, T-bills, currencies, short term bonds Capital Market: >1 year, stocks, 10 year government bonds Primary vs. Secondary Markets - answer-Primary Market: IPO, Investment Bank, Corporate Value, Brand Equity Secondary Market: NYSE, Nasdaq, All investors can buy and sell shares Hedging Tools - answer-Forwards, Futures, Options, Warrants, Swaps Liber - answer-Interest rate reference that the bank uses as a benchmark Beta - answer-A factor to estimate risk belonging to the CAPM model Covarience - answer-is the same as correlation An asset is a possession that has value in an exchange and can be classified as - answer-tangible or intangible The financial asset is referred to as a ________ if the claim is a fixed dollar. - answer-debt instrument. Asset management firms receive their compensation ________ from management fees charged based on the market value of the assets managed for clients. - answer-primarily There are two extreme views of financial innovation. Which of the below is ONE of these? - answer-Some hold that the essence of innovation is the introduction of financial instruments that are more efficient for redistributing risks among market participants. T/F: Financial assets have two principal economic functions. One function is to transfer funds from those who have surplus funds to invest to those who need funds to invest in tangible assets. - answer-TRUE Common stock is considered a short-term security because it has no maturity date and a long-term security is one with a maturity date of more than one year. - answer-FALSE, Common stock is not a short term security Financial markets and institutions - answer-involve the movement of huge quantities of money & affect the profits of businesses & DO NOT affect the types of goods and services produced in an economy. Markets in which funds are transferred from those who have excess funds available to those who have a shortage of available funds are called - answer-Financial Markets The stock market is important because - answer-it is the most widely followed financial market in the United States. The price of one country's currency in terms of another's is called - answer-the foreign exchange rate. A stronger dollar benefits ________ and hurts ________. - answer-American businesses; foreign businesses Money is defined as - answer-anything that is generally accepted in payment for goods and services or in the repayment of debt & bills of exchange & NOT a riskless repository of spending power Monetary policy is chiefly concerned with - answer-the level of interest rates and the nation's money supply. Economists group commercial banks, savings and loan associations, credit unions, mutual funds, mutual savings banks, insurance companies, pension funds, and finance companies together under the heading financial intermediaries. Financial intermediaries - answer-act as middlemen, borrowing funds from those who have saved and lending these funds to others & help promote a more efficient and dynamic economy. A security - answer-is a claim or price of property that is subject to ownership. ________ are an example of a financial institution. - answer-Banks & Insurance companies & Finance companies Banks, savings and loan associations, mutual savings banks, and credit unions - answer-have been adept at innovating in response to changes in the regulatory environment. T/F: (I) Banks are financial intermediaries that accept deposits and make loans. (II) The term "banks" includes firms such as commercial banks, savings and loan associations, mutual savings banks, credit unions, insurance companies, and pension funds. - answer-Both are true T/F: Capital markets are all the financial institutions that help a business raise long-term capital. - answer-TRUE T/F: Three ways that savings can be transferred through the financial markets to those in need of funds include direct transfers, indirect transfers using the investment banker, and indirect transfers using the financial intermediary. - answer-TRUE T/F: For a firm to have its securities listed on an exchange, it must meet certain requirements. These usually include measures of profitability, size, market value, and public ownership. - answer-TRUE T/F: Financial markets exist in order to allocate savings in the economy to the demanders of those savings. - answer-TRUE John calls his stockbroker and instructs him to purchase 100 shares of Microsoft Corporation common stock. This transaction occurs in the - answer-secondary market General Motors raises money by selling a new issue of common stock. This transaction occurs in - answer-the capital market Financial intermediaries - answer-constitute the various secondary markets. Capital market transactions include which of the following? - answer-common stock of a public corporation Financial markets can be categorized as those dealing with newly issued financial claims that are called the ________, and those for exchanging financial claims previously issued that are called the ________. - answer-primary market; secondary market. The return that an investor will realize by holding a financial asset depends on all the ________ that the financial asset will pay its owners; this includes dividends on shares and coupon payments on bonds. - answer-cash distributions T/F:Investors can be confidently predict future returns on an investment by studying its past performance. - answer-False, it will help but you can never be certain T/F: An investment that has earned a high rate of return over the last 5 years will not necessarily continue to perform well in the future. - answer-TRUE Investor's are motivated to purchase an asset because of its - answer-expected returns Kelly bought a stock at a price of $22.50. She received a $1.75 dividend and sold the stock for $24.75. What is Kelly's capital gain on this investment? - answer-$2.25, do not include dividends in the capital gains T/F: The financial concept of time value of money is dependent upon the opportunity to earn interest over time. - answer-TRUE If the discount rate is appropriate for the level of risk, a satisfactory investment will have a present value of benefits equal to or greater than the present value of costs. - answer-TRUE The adage "the sooner one receives a return on a given investment, the better," reflects the financial concept known as the - answer-time value of money The markets in general are paying a 2% real rate of return. Inflation is expected to be 3%. ABC stock commands a 6% risk premium. What is the expected rate of return on ABC stock? - answer-11% (add all the numbers together) Liquidity risk is defined as the risk of - answer-not being able to sell an investment conveniently and at a reasonable price The difficulty many investors experienced in selling mortgage based securities during the financial crisis of 2009 is an example of - answer-credit risk. A petroleum refinery in the Gulf region is forced to shut down for several months because of hurricane damage. This is an example of - answer-event risk. The risk that the rate of return on an investment will be less than expected due to factors that are independent of the investment, such as political, social or economic events, is called - answer-market risk. Congress considers a bill that would eliminate the mortgage interest deduction for individuals. For the housing industry, this is an example of - answer-tax risk. T/F: The greater the dispersion around an asset's expected return, the greater the risk. - answer-TRUE T/F: Investments with lower standard deviations can be expected to produce higher rates of return. - answer-FALSE Most investors are risk averse, meaning they will always be willing to sacrifice - answer-FALSE