Global Banking Activities - Commercial Banking and Lending - Solved Quiz, Exercises of Banking and Finance

Download Global Banking Activities - Commercial Banking and Lending - Solved Quiz and more Exercises Banking and Finance in PDF only on Docsity! Bank Management: A few practice problems and some selected answers to assigned questions 1. Eurocurrency refers to any deposit liability denominated in a currency other than that of the country in which the issuing bank is located. Eurodollars are one type of Eurocurrency. Eurobonds are similar conceptually in that they are bonds denominated in a currency other than that of the country in which the issuing firm is located. Eurocredits are variable rate term loans denominated in currencies other than that of the lending institution's home currency. 2. International banking facilities (IBFs) exist only as book entries. Organizational units, such as banks and subsidiary Edge Corporations, establish and operate IBFs. The main purpose of IBFs is to serve as a conduit for Eurodollar transactions, yet avoid the cost of setting up separate branches. 3. Country risk refers to economic and political risks associated with loans to foreign entities. While economic risk can be quantified, political risk is highly subjective and volatile. Foreign exchange risk refers to the loss of value or the uncertainty in international business that arises from changing foreign exchange rates, and while related to “country risk,” it lends itself to much clearer hedging activities (futures, options, and forward contracts). 4. Federal and state banking regulation in the U.S. historically limited the geographic scope and product mix of U.S. banking organizations. Thus, there are many more of them and they are generally smaller in size with more limited powers. The passage of the Financial Services Modernization Act in 1999 now allows U.S. banks to better compete globally. 5. Deutsche Bank (Germany) and Credit Suisse (Switzerland) are large foreign banks with substantial operations in the US. HSBC (Hong Kong and Shanghai Banking Corporation) and the Royal Bank of Scotland are two others. Foreign lenders may have a competitive advantage with large amounts of capital to acquire other firms and have the resources to enter new lines of business and price loans and other services aggressively relative to competitors. Many foreign-based banks have had success following their domestic customers to the U.S. and offering banking services both in and out of the U.S. 6. a. Establish an export trading company b. Establish a head office division of a domestic bank c. Open a loan production office in Moscow. d. Create a foreign subsidiary of a domestic bank 7. A bankers acceptance is a time draft in which a bank guarantees that payment will be made under the specified terms. Exhibit 14.7 documents the process of creating and using bankers acceptances. 8. The forward market is just that, a market for future currency transactions. Forwards are custom contracts exercised through an intermediary for precise amounts of foreign Docsity.com currency. For example, a NYC Rolls Royce dealer might buy 10 million pounds 180 days forward (for the purchase of 20 cars in six months) though HSBC, with the counterparty being a grain buyer in the UK, who buys 15.56488 million dollars 180 days forward for a corn purchase in six months. Each party to the forward hedges his foreign exchange exposure with the contract. With the spot market, each side of the contract could have just bought, today, the foreign currency needed in six months and held onto it until it is needed. A forward rate will be at a premium to the current spot if the foreign economy is stronger than the base economy or if higher inflation is expected in the base economy. Or if other risks in the domestic economy (as with an irresponsible government) exist. The spot market is the cash market where currencies are immediately exchanged. The forward exchange market represents contracts to exchange currencies at a fixed point in time in the future at terms (prices) negotiated today. Forward exchange rates will be at a premium to spot exchange rates when the forward market values a currency higher than it is valued in the spot market. This differential reflects information about relative interest rates, expected inflation rates, and other factors. 9. The “story” of covered interest arbitrage is an invaluable background. The basic idea is that if I can “buy” a foreign currency today, invest it at a purportedly higher “risk-free” rate abroad than is available domestically, keep the higher foreign interest, reconvert the foreign currency to dollars at the end of the interest-earning period, and return to the dollar with more dollars than I would have had had I stayed in dollars all along, then WOW, I should do that. The “gain” when this effort is covered with the sale of the yet-to-be-earned foreign currency interest (along with the original foreign currency purchased) is called covered interest arbitrage (CIA). If interest rate parity exists, CIA is not possible. With parity, a foreign currency may earn a higher rate of interest in the foreign currency, but when reconverting to the domestic currency, the higher interest rate gain is lost with a lower exchange rate when returning to the dollar. This example illustrates CIA. Looking at the currencies of the US and Japan. Given the numbers in the text, interest rate parity implies an equality for the following relationship: (1.0698) (121) = 0.9435 < 1 (1.0554) (130) But such parity does not exist. So arbitrage is possible. A trader would borrow yen, convert yen to dollars in the spot market, invest the dollars in U.S. securities, and sell the dollars for yen in the forward market. In this example, for each 100 yen borrowed, the trader could make 5.992 yen forward. [1.0554/1.0698][130/121] = 1.05992. 10. [1+ 0.0554(90/365)] [130/121] = 1.07063 [1+0.0698(90/365)] So a trader can earn an even greater arbitrage profit. 11. Commerce Bank , Poland a. Net exposure in dollars: nexp(d) = $400 - $1,000 = -$600 Initial exchange rate is $1 = 145 zlotys; If the dollar appreciates to $1 = 152 zlotys, b. The loss = (-$600) x (152 - 145) = -4,200 zlotys. c. If the dollar depreciates to $1 = 141 zlotys, The gain = (-$600) x (141 - 145) = 2,400 zlotys. Docsity.com a. are very different from domestic CDs from the depositor’s perspective. b. have no maturity. c. pay interest rates slightly above CDs issued by U.S. banks. d. are subject to reserve requirements established by the Fed. e. are generally small in nature, with a maximum denomination of $10,000. 14. The default risk associated with loans made to borrowers outside a bank’s home country is called: a. foreign exchange risk. b. sovereign risk. c. euro risk. d. country risk. e. LC risk. 15. A time draft for payment at a future date, often used in international trade is known as: a. a reverse repurchase agreement. b. a repurchase agreement. c. a line of credit. d. a letter of credit. e. a bankers acceptance. 16. International loans originate from: a. offices of foreign subsidiaries. b. Edge Act corporations. c. international departments of domestic banks. d. all of the above e. a. and c. only 17. Put the following steps of the creation of a banker’s acceptance in order. I. Shipping documents delivered II. Letter of credit is issued III. Bankers’ acceptance presented at maturity IV. Goods are shipped a. I, IV, II, III b. II, IV, III, I c. II, IV, I, III d. I, IV, III, II e. I, II, III, IV 18. The risk that a foreign government will suspend debt service payments is known as: a. LC risk. b. foreign exchange risk. c. euro risk. d. sovereign risk. e. country risk. Docsity.com 19. Non-performing international loans do not completely reflect potential losses because: a. foreign governments have never defaulted on their debts. b. banks often loan borrowers funds to make payments on existing loans. c. U.S. banks can easily recover the funds in foreign courts. d. the U.S. government has strongly discouraged U.S. banks from making international loans. e. all of the above 20. A bank’s net balance sheet exposure to changes in the value of Euros is measured as: a. the amount of assets denominated in U.S. dollars minus the amount of liabilities denominated in Euros. b. the amount of assets denominated in Euros minus the amount of liabilities denominated in U.S. dollars. c. the amount of liabilities denominated in Euros minus the amount of liabilities denominated in U.S. dollars. d. the amount of assets denominated in Euros minus the amount of assets denominated in U.S. dollars. e. the amount of assets denominated in Euros minus the amount of liabilities denominated in Euros. Use the following information for questions 21 and 22. A London based firm has a subsidiary located in New York. The subsidiary has $1,000 in assets, $750 in liabilities and $250 in equity. The current spot rate is $1.60/£. 21. What is the U.S. firm’s net exposure? a. $250 b. £250 c. £1,000 d. $1,200 e. $1,600 $1,000 - $750 = $250 22. If the spot rate changes to $1.50/£, what will be the firm’s gain or loss? a. $10.42 gain b. £10.42 gain c. $10.42 loss d. £10.42 loss e. cannot be determined $250/*($1.50/£) - $250/($1.60/£) = 10.42£ 23. If the spot rate is 1.67CAN$/US$ and the 1-month forward rate is 1.70CAN$/US$: Docsity.com a. the Canadian dollar is selling at a premium. b. the Canadian dollar is selling at a discount. c. the U.S. dollar is selling at a discount. d. the U.S. dollar is selling at par. e. none of the above 24. Covered interest rate arbitrage is possible when: a. both currencies are appreciating. b. the actual inflation rates are identical in both countries. c. the difference in the interest rates in two countries exactly equals the spot-to-forward exchange rate differential. d. the difference in interest rates in two countries is out of line with the spot-to-forward exchange rate differential. e. none of the above 25. A forward market exchange in foreign currencies is an agreement to exchange: a. currencies in the future at an unspecified time at an exchange rate determined at the time the contract is agreed to. b. currencies in the future at a specified time at an unknown exchange rate. c. currencies in the future at an unspecified time at an unknown exchange rate. d. a product for a foreign currency in the future at a specified time. e. currencies in the future at a specified time at an exchange rate determined at the time the contract is signed. 26. The second largest financial company in the United States is: a. J.P. Morgan Chase & Co. b. Citigroup Inc. c. Bank of America Corp. d. Wells Fargo & Co. e. Wachovia Corp. Docsity.com