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Chapter 08 - Testbank
Student: ___________________________________________________________________________
4. Besides reducing credit risks, an FI has an incentive to sell loans it originates for all of the following reasons except to:
A. geographically diversify.
B. decrease core deposits.
C. lower reserve requirements.
D. lower capital requirements.
5. Which of the following is not true of a loan that is sold without recourse?
A. The loan is removed from the FI's balance sheet.
B. The FI has no explicit liability if the loan eventually goes bad.
C. The FI that originated the loan bears all the credit risk.
D. The buyer can put the loan back to the selling FI.
8. What are the two basic types of loan sale contracts or mechanisms by which loans can be transferred between seller
and buyer?
A. participations and assignments
B. participations and originations
C. syndications and originations
D. transfers and assignments.
9. Currently, this basic type of loan sale contracts comprises the bulk of loan sales trading.
A. participations
B. originations
C. syndications
D. assignments
15. Assignments:
A. are common in loan syndications.
B. do not have buyer restrictions.
C. comprise less than 30 per cent of the US loan sales market.
D. involve extremely high monitoring costs.
28. The profitability of securitised assets is largely determined by the special purpose vehicle's:
A. debt to equity ratio.
B. credit rating.
C. ownership.
D. timing insurance.
31. The key feature of a loan assignment is that all rights are:
A. negotiated at the time of sale, meaning the loan buyer can opt to hold a direct claim on the borrower.
B. are transferred on sale, meaning the loan buyer now holds a direct claim on the borrower.
C. are not transferred on sale and can be sold later.
D. None of the listed options are correct.
32. With over $1200 billion in doubtful and troubled loans on their books in the early 2000s, _________ banks presented a
huge potential market for the sale of distressed loans.
A. Australian
B. US
C. UK
D. Japanese
33. Choose the correct answer:
A. Regulatory taxes such as reserve requirements create an incentive for banks to remove loans from the balance sheet
by selling them without recourse to outside parties.
B. Regulatory taxes such as reserve requirements create an incentive for banks to offer low rate mortgages.
C. Regulatory taxes such as reserve requirements create an incentive for banks limit their lending to large corporates
only.
D. None of the listed options are correct.
35. Burn-out factor is the aggregate percentage of the mortgage pool that:
A. has been prepaid prior to the sale of the loan.
B. will be paid after the month under consideration.
C. has been prepaid prior to the month under consideration.
D. has defaulted.
36. The ___________ is an accrual class of a CMO that makes a payment to bondholders only when preceding CMO
classes have been retired:
A. A Class
B. B Class
C. Z Class
D. R Class
38. Pass-throughs, CMOs and mortgage-backed bonds have been used for:
A. car loans.
B. credit card receivables.
C. commercial and industrial loans.
D. All of the listed options are correct.
43. Timing insurance is a liquidity support provided to the special purpose vehicle to cover mismatches of cash flows:
A. from its accounts receivable and accounts payable to all stake holders.
B. from its investment income and current liabilities.
C. between the underlying mortgage pool and those required to be paid on the securitised assets.
D. None of the listed options are correct.
44. A normal bond values fall with interest rate increases but the following bond often has a negative duration and
therefore it is potentially attractive to banks and non-bank FIs seeking to hedge their regular bond and fixed-income
portfolios.
A. A Class
B. B Class
C. Z Class
D. R Class
46. When current mortgage rates fall sufficiently low that the present value savings of refinancing outweigh the cost of
prepayment penalties(and other fees and costs), the mortgage holders are said to have a valuable:
A. put option.
B. call option.
C. forward agreement.
D. futures contract.
47. Which of the following is not a factor that may tend to increase loan sales in the future?
A. There is an increased trend to apply credit ratings to loans offered for sale, increasing the attractiveness to secondary
market purchasers.
B. Because of their special credit monitoring skills, FIs have a comparative advantage in making loans to
below-investment grade companies and then selling the loan.
C. The trend toward marked-to-market accounting for assets makes bank loans more like securities so they may be easier
to sell.
D. The risk-based capital requirements of the Bank for International Settlements give banks a strong incentive to sell
housing loans to decrease their amount of risky assets.
49. Which of the following is true concerning loans sold without recourse?
A. The loan sale is technically removed from the balance sheet ..
B. The buyer cannot put the loan back to the selling FI.
C. The FI has no explicit liability if the loan eventually goes bad.
50. Mortgage-backed bonds (MBB) differ from pass-throughs and collateralised mortgage obligations (CMOs) in which of
the following ways?
A. The MBB bondholders have a junior claim to assets of the FI.
B. There is no direct link between the cash flow on the mortgages backing the bond and the interest and principal
payments on the MBB.
C. The assets backing a MBB issue are normally removed from the balance sheet of the FI.
D. Tranches of a MBB are treated equally with respect to prepayments on mortgages backing the bond issue.
51. Collateralised Debt Obligations (CDOs) were responsible for significant damage and disruption to global financial
markets as:
A. investors accepted the recommendations of CDO arrangers and rating agencies.
B. many investors were unable to assess the fairness of prices.
C. the securities' cash flow was based on cash flows from other financial securities and not the cash flows from real
assets.
D. the CDOs' cash flows were based on cash flows from real assets and not from other financial securities.
52. Banks have been partially responsible for big corporate collapses such as Enron.
True False
55. A bank loan sale occurs when an FI originates a loan and sells the loan with or without recourse to an outside buyer.
True False
56. The buyer of a loan participation benefits because the only risk exposure is to the borrower.
True False
57. One way to boost the capital to assets ratio of an FI is through loan sales.
True False
58. Securitisation removes assets (such as loans) from the balance sheets of FIs, similar to loan sales.
True False
59. Interest rate swaps are used to assist in interest rate risk management of the securitised assets.
True False
60. While collateralised mortgage obligation (CMO) is still the primary mechanism for securitisation, the pass-throughs are
second and growing vehicle for securitising bank assets.
True False
61. Collateralised mortgage obligation (CMO) is a mortgage-backed bond issued in multiple classes or tranches.
True False
62. When an FI sells a loan without recourse, the credit risk of the loan is completely eliminated.
True False
63. When a Special Purpose Vehicle (SPV) creates asset-backed securities, the SPV retains ownership of the original
assets.
True False
64. Graphically show the basic structure and the movement of cash flows in a simple securitisation program.
65. What are four reasons why an FI may prefer the use of either pass-through securities or CMOs to the use of MBBs?
66. What is prepayment risk? How does prepayment risk affect the cash flow stream on a fully amortised mortgage loan?
What are the two primary factors that cause early payment?
Chapter 08 - Testbank Key
Difficulty: Easy
Learning Objective: 08-01 Discover why FIs sell loans.
Difficulty: Medium
Learning Objective: 08-03 Understand how FIs use loan sales and securitisation to manage interest rate risk.
Difficulty: Medium
Learning Objective: 08-06 Be able to identify the different forms of securitisation available to FIs.
4. Besides reducing credit risks, an FI has an incentive to sell loans it originates for all of the following reasons except to:
A. geographically diversify.
B. decrease core deposits.
C. lower reserve requirements.
D. lower capital requirements.
Difficulty: Medium
Learning Objective: 08-03 Understand how FIs use loan sales and securitisation to manage interest rate risk.
5. Which of the following is not true of a loan that is sold without recourse?
A. The loan is removed from the FI's balance sheet.
B. The FI has no explicit liability if the loan eventually goes bad.
C. The FI that originated the loan bears all the credit risk.
D. The buyer can put the loan back to the selling FI.
Difficulty: Medium
Learning Objective: 08-03 Understand how FIs use loan sales and securitisation to manage interest rate risk.
Difficulty: Medium
Learning Objective: 08-03 Understand how FIs use loan sales and securitisation to manage interest rate risk.
Difficulty: Medium
Learning Objective: 08-03 Understand how FIs use loan sales and securitisation to manage interest rate risk.
8. What are the two basic types of loan sale contracts or mechanisms by which loans can be transferred between seller
and buyer?
A. participations and assignments
B. participations and originations
C. syndications and originations
D. transfers and assignments.
Difficulty: Medium
Learning Objective: 08-02 Learn about the types of loan sales contracts.
9. Currently, this basic type of loan sale contracts comprises the bulk of loan sales trading.
A. participations
B. originations
C. syndications
D. assignments
Difficulty: Medium
Learning Objective: 08-02 Learn about the types of loan sales contracts.
10. Loan participations are:
A. riskier than loan assignments.
B. less risky than loan assignments.
C. always sold without recourse.
D. always sold with partial recourse.
Difficulty: Medium
Learning Objective: 08-02 Learn about the types of loan sales contracts.
Difficulty: Medium
Learning Objective: 08-02 Learn about the types of loan sales contracts.
Difficulty: Medium
Learning Objective: 08-02 Learn about the types of loan sales contracts.
Difficulty: Medium
Learning Objective: 08-02 Learn about the types of loan sales contracts.
Difficulty: Medium
Learning Objective: 08-02 Learn about the types of loan sales contracts.
15. Assignments:
A. are common in loan syndications.
B. do not have buyer restrictions.
C. comprise less than 30 per cent of the US loan sales market.
D. involve extremely high monitoring costs.
Difficulty: Medium
Learning Objective: 08-02 Learn about the types of loan sales contracts.
Difficulty: Medium
Learning Objective: 08-03 Understand how FIs use loan sales and securitisation to manage interest rate risk.
Difficulty: Medium
Learning Objective: 08-05 Discover how an FI can change the risk characteristics of their balance sheets using securitisation.
Difficulty: Medium
Learning Objective: 08-05 Discover how an FI can change the risk characteristics of their balance sheets using securitisation.
19. As coupon rates on new mortgages fall:
A. individuals are inclined to sell off their mortgages.
B. there is a decreased incentive for individuals in the pool to pay off old, high-cost mortgages and refinance at lower
rates.
C. there is an increased incentive for individuals in the pool to pay off old, high-cost mortgages and refinance at lower
rates.
D. there is no effect on mortgage payments.
Difficulty: Medium
Learning Objective: 08-07 Understand prepayment risk and how this can be modelled.
Difficulty: Medium
Learning Objective: 08-07 Understand prepayment risk and how this can be modelled.
Difficulty: Medium
Learning Objective: 08-07 Understand prepayment risk and how this can be modelled.
Difficulty: Medium
Learning Objective: 08-06 Be able to identify the different forms of securitisation available to FIs.
23. Z class is:
A. an accrual class of a CMO that makes a payment to bondholders only when preceding CMO classes have been
retired.
B. the residual class of a CMO, giving the owner the right to any remaining collateral in the trust after all other bond
classes have been retired plus any reinvestment income earned by the trust.
C. a bond that has some prepayment protection and expected durations of five to seven years depending on the level of
interest rates.
D. a bond that has the shortest average life with a minimum of prepayment protection. They are, therefore, of no interest
to investors seeking short-duration mortgage-backed assets.
Difficulty: Hard
Learning Objective: 08-06 Be able to identify the different forms of securitisation available to FIs.
Difficulty: Medium
Learning Objective: 08-06 Be able to identify the different forms of securitisation available to FIs.
Difficulty: Medium
Learning Objective: 08-04 Learn which assets can be securitised and the types of assets most securitised by Australian FIs.
Difficulty: Medium
Learning Objective: 08-03 Understand how FIs use loan sales and securitisation to manage interest rate risk.
27. Which is of the statements below is true?
A. An FI will earn fees when arranging a large loan, even if it sells part or all of the loan later.
B. Like reserve requirements, the capital adequacy requirements imposed on FIs are a burden as long as required capital
exceeds the amount the FI believes to be privately beneficial.
C. In addition to credit risk and interest rate risk, holding loans on the balance sheet can increase the overall illiquidity of
an FI's assets.
D. All of the listed options are correct.
Difficulty: Medium
Learning Objective: 08-03 Understand how FIs use loan sales and securitisation to manage interest rate risk.
28. The profitability of securitised assets is largely determined by the special purpose vehicle's:
A. debt to equity ratio.
B. credit rating.
C. ownership.
D. timing insurance.
Difficulty: Medium
Learning Objective: 08-05 Discover how an FI can change the risk characteristics of their balance sheets using securitisation.
Difficulty: Medium
Learning Objective: 08-05 Discover how an FI can change the risk characteristics of their balance sheets using securitisation.
Difficulty: Medium
Learning Objective: 08-05 Discover how an FI can change the risk characteristics of their balance sheets using securitisation.
31. The key feature of a loan assignment is that all rights are:
A. negotiated at the time of sale, meaning the loan buyer can opt to hold a direct claim on the borrower.
B. are transferred on sale, meaning the loan buyer now holds a direct claim on the borrower.
C. are not transferred on sale and can be sold later.
D. None of the listed options are correct.
Difficulty: Medium
Learning Objective: 08-02 Learn about the types of loan sales contracts.
32. With over $1200 billion in doubtful and troubled loans on their books in the early 2000s, _________ banks presented a
huge potential market for the sale of distressed loans.
A. Australian
B. US
C. UK
D. Japanese
Difficulty: Medium
Learning Objective: 08-03 Understand how FIs use loan sales and securitisation to manage interest rate risk.
Difficulty: Medium
Learning Objective: 08-03 Understand how FIs use loan sales and securitisation to manage interest rate risk.
Difficulty: Medium
Learning Objective: 08-05 Discover how an FI can change the risk characteristics of their balance sheets using securitisation.
35. Burn-out factor is the aggregate percentage of the mortgage pool that:
A. has been prepaid prior to the sale of the loan.
B. will be paid after the month under consideration.
C. has been prepaid prior to the month under consideration.
D. has defaulted.
Difficulty: Medium
Learning Objective: 08-05 Discover how an FI can change the risk characteristics of their balance sheets using securitisation.
36. The ___________ is an accrual class of a CMO that makes a payment to bondholders only when preceding CMO
classes have been retired:
A. A Class
B. B Class
C. Z Class
D. R Class
Difficulty: Medium
Learning Objective: 08-06 Be able to identify the different forms of securitisation available to FIs.
37. Choose the correct answer:
A. While pass-throughs and CMOs remain on banks and building societies balance sheets, mortgage-backed bonds
(MBBs) remove mortgages from balance sheets as forms of off-balance-sheet securitisation.
B. While pass-throughs and CMOs help banks and building societies remove mortgages from their balance sheets as
forms of off-balance-sheet securitisation, mortgage-backed bonds (MBBs) normally remain on the balance sheet.
C. Pass-throughs and CMOs are the same as mortgage-backed bonds (MBBs).
D. None of the listed options are correct.
Difficulty: Medium
Learning Objective: 08-06 Be able to identify the different forms of securitisation available to FIs.
38. Pass-throughs, CMOs and mortgage-backed bonds have been used for:
A. car loans.
B. credit card receivables.
C. commercial and industrial loans.
D. All of the listed options are correct.
Difficulty: Medium
Learning Objective: 08-04 Learn which assets can be securitised and the types of assets most securitised by Australian FIs.
Difficulty: Medium
Learning Objective: 08-06 Be able to identify the different forms of securitisation available to FIs.
Difficulty: Medium
Learning Objective: 08-01 Discover why FIs sell loans.
Difficulty: Medium
Learning Objective: 08-04 Learn which assets can be securitised and the types of assets most securitised by Australian FIs.
42. Asset securitisation is where:
A. existing securities are sold to create a pool of funds for investment in income assets.
B. securities are created based on house loans and income payments from the house owners are then paid to the
investors.
C. securities are created based on a pool of underlying assets and the value and income payments of the securities are
derived from the underlying assets.
D. All of the listed options are correct.
Difficulty: Medium
Learning Objective: 08-04 Learn which assets can be securitised and the types of assets most securitised by Australian FIs.
43. Timing insurance is a liquidity support provided to the special purpose vehicle to cover mismatches of cash flows:
A. from its accounts receivable and accounts payable to all stake holders.
B. from its investment income and current liabilities.
C. between the underlying mortgage pool and those required to be paid on the securitised assets.
D. None of the listed options are correct.
Difficulty: Medium
Learning Objective: 08-05 Discover how an FI can change the risk characteristics of their balance sheets using securitisation.
44. A normal bond values fall with interest rate increases but the following bond often has a negative duration and
therefore it is potentially attractive to banks and non-bank FIs seeking to hedge their regular bond and fixed-income
portfolios.
A. A Class
B. B Class
C. Z Class
D. R Class
Difficulty: Medium
Learning Objective: 08-05 Discover how an FI can change the risk characteristics of their balance sheets using securitisation.
Difficulty: Easy
Learning Objective: 08-03 Understand how FIs use loan sales and securitisation to manage interest rate risk.
46. When current mortgage rates fall sufficiently low that the present value savings of refinancing outweigh the cost of
prepayment penalties(and other fees and costs), the mortgage holders are said to have a valuable:
A. put option.
B. call option.
C. forward agreement.
D. futures contract.
Difficulty: Hard
Learning Objective: 08-07 Understand prepayment risk and how this can be modelled.
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