Download 607 Midterm Exam Questions and Answers: Financial Markets and Institutions and more Exams Financial Accounting in PDF only on Docsity!
Solutions.
607 Midterm Exam Questions with 258 Complete
Solutions.
3 Parts of Financial System - ANSWER -Financial Markets
-Financial Institutions
-Market Infrastructure
Financial Markets Provide: - ANSWER -Price (determine price or equivalent return of asset)
-Liquidity (investors can buy or sell securities)
-Trading (cost of exchanging assets)
3 Classifications of Global Markets - ANSWER 1. Developed
- Emerging
- Frontier
Developed Markets - ANSWER -higher per capita income but lower growth potential
-N.Am., West Europe, Australia, NZ, Japan
Emerging Markets - ANSWER -Share some but not all characteristics of developed markets
-BRIC + PIIGS
Frontier Markets - ANSWER -small and less developed economies and markets
-Vietnam, East Europe (Albania, Serbia, Croatia, Romania), Sri Lanka, Argentina, Nigeria, Kuwait, Pakistan, Ukraine
2 Financial Assets Grouping: - ANSWER 1. Traditional - stocks, bonds, and money markets/cash
- Nontraditional - RE, comm, PE, HF, VC, Real assets, currencies
Solutions.
Sell Side Types of Institutions - ANSWER B/Ds
IB
CB
B/Ds - ANSWER -Link buyers and sellers
-buy/sell inventory
IB - ANSWER -Advise on MA
-Guidance on new issuance equity and debt
-underwriters
-origination/securitization
Commercial Banking - ANSWER -Corporate banking (cash mgmt, wires)
-FX
-Lending
2 Factors that impact the Market - ANSWER 1. Monetary Policy - FED
- Fiscal Policy - Congress
2 Factors Impact Market: Monetary Policy - FED - ANSWER -Adjusting interest rates (FF) impacts corporate and consumer borrowing/lending
-Controlling supply of money (+/-) as buyers/sellers of bonds or loosening/tightening reserves
2 Factors Impact Market: Fiscal Policy - Congress - ANSWER -Stimulate economy through gov spending (military infra)
-lower taxes stimulates spending while raising taxes pulls money out of economy
-Government deficit and inflation concerns (printing money)
Solutions.
Tax Reform Expected Effects - ANSWER -Reduced Corporate rate from 35% to 21% which drives profit margins and stimulates reinvestment/capex
-Increase GDP by 1.7% and add 340K jobs
-Possible impact of repatriation of offshore earnings
-Lower tax brackets may drive more consumer spending
Actual Tax Cut Effect - ANSWER Tax cuts accelerated stock buy backs not capex
AI and Robo Trading - ANSWER -85% trading done by HFT algos and program models
-triggered automatically based on preset inputs and factors
-less trading by IBs more algo which increases volatility through increased trading volume
-momentum strategies are popular in models
-Reduction in liquidity + increase in trading volumes can influence spikes in price
-Investors looking for safe havens - flight to safety
Other Market Factors - ANSWER -Investor Sentiment
-Company & Sector Outlook
-Forex (weak USD stimulates foreign trade in US goods - China manipulation?)
-Returns
-Liquidity
Company & Sector Outlooks - ANSWER -Earnings!!!
-Changes in financials (CFs, revenue)
-Valuations look at tech
Shrinking Stock Market - ANSWER -Private preference (VC + PE)
-Increased M&A
-IPOs down 20 years
Solutions.
-Old companies remain
-Fewer companies could foster concentration
Market Outlook from Experts - ANSWER -Stocks good, lower yields recession?
-Tariffs drag manufacturing
-Expected Earnings multiples down
-Fed bullets in chamber
-Inverted YC
$ of Negative Yielding Debt - ANSWER > 17T negative yielding
-German sold 10 yr at -0.25%
-Paying gov to hold money
Recession - ANSWER Significant Decline in economic activity that lasts more than few months
-Technical: two consecutive quarters of negative economic growth in US GDP
-Visible in industrial production, employment, Real income, Consumer spending, wholesale retail activity
Consumer Spending & Income - ANSWER -Accounts for 2/3 of US economy
-healthy over last years
-Spending outpaced after tax income - ppl saving less
-Recession comes, may have less cushion
Capital Markets - ANSWER 1. Money Markets
- Bond Markets
- Stock Market
- Derivatives Market
Money Markets:
Solutions.
-Gain = diff btw par and principal
-Retail --> Treasury direct.com
Dutch Auction Treasuries - ANSWER -Through 40 banks/dealers aka gov dealers
Competitive Bid - ANSWER -All successful bidders awarded highest accepted yield
accepts bid w/ highest price in descending order until entire quantity filled
-last fill price determines price that is used for all accepted bids
Non-competitive bids - ANSWER -Accept bills at competitive bid that was determined at auction
Commercial Paper - ANSWER -issued by corporations to raise short term cash for A/P, inventories, S/T liabilities
-Alternative to securing bank financing
-Maturity usually <270days
-Most mature in 90 days
-Unregistered securities
-CP typically unsecured and backed by lines of credit
-Issued on discount basis or interest bearing form
Commercial Paper Issuance - ANSWER -Discount: quoted as yield (10-20 bps over Tbills) and investors receive FV at maturity
-Interest Bearing: issued at FV and pays interest at maturity
CP:
-Placement
-Who issues
Solutions.
-Terms
-Secondary market?
-Buyers - ANSWER -CP can be placed directly w/ investors or thru dealers
-Direct issuers are financial companies
-Terms neg, funds wired same day
-Very small secondary market
-Buyers: MMMFs, banks, insurance, PFs
CP:
-rating
-Seniority
-Pricing - ANSWER - CP rated to assess default risk
-CP can be backed by assets (non top tier companies) where yields are higher than unsecured paper
-CP priced disc to par and yield calc over 360 days
CDs - ANSWER -Issued by banks
-Stated interest rate and maturity date
-Created as way to retain deposits
-Previously couldnt pay int on checking accounts
-Sold in denom of 100K to 10M (most 1M)
-Maturity usually 2 weeks to 6 months up to a year
-Rates neg by bank and investment firm
-Second most popular MM instrument
How CD rates are determined? - ANSWER -Current mkt conditions, rates paid by competing banks, yield on Tbills, credit risk of bank
Solutions.
New regs in effect 10/16:
-Gov MMF always transact at $
-Prime and Muni Funds impose liquidity fees and gates
-Insti funds have floating nav and may impose redemption fee of halt in redemptions
3 Types of MMF - ANSWER 1. Prime: invest in all types of ST securities
-Big - in AUM
- Government: only Tbills and St gov notes bonds
-Big + in AUM
- Municipal: ST state muni notes & bonds
Top 5 US Bond Market by Category - ANSWER 1. Treasury
- MBS
- Corp
- Munis
- AB | Agency
- MMI
Bonds Characteristics - ANSWER -Indenture & covenants
-Interest rate (fixed, floating, ZC)
-PMT typically semi annual
-Priced in relation to state interest rate vs. current market rate and rating
Indenture - ANSWER Contract to protect bondholder
Covenants - ANSWER Maintain certain financial standards, limitations of use of cash, pledging of assets
Convertible Bond - ANSWER -Provide option to convert bond into CS at predetermined price
Solutions.
Yield Curve - ANSWER -2-10 spread
-Good sign: rates on LT bonds higher than ST
What happens as Fed raises ST interest rates? - ANSWER -Expect LT term yields to follow
-current expecting LT shrinking thus flattening
-Every recession over past 60 years preceded by Inversion
-If concerned move $ to LT bonds that may drive up prices and further flatten curve
Bond Trading: Markets - ANSWER -Primary Markets
-Secondary Markets
-Electronic Markets
Bonds: Primary Market - ANSWER Public or private placement offering
Bonds: Secondary Market - ANSWER -trading thru B/D, bank desks, insti investors
-Dealer - trades in/out inventory (Principal), broker (agent)
-Dealers make a market in bond pricing via bid/ask spread
Bonds: Electronic Market - ANSWER -30% of corporate trading
-NYSE, Tradeweb, MarketAxess, TMC Bonds
-Types: cross matching, interdealer, client to dealer systems
-Sell side dealers still major factor
Bond Trading:
-Size quoted
-Price quote
-Proceeds
Solutions.
Bearer Bonds - ANSWER -No longer issued in US
-Certificate issued to bearer who presents it for pmt
-allowed investors to avoid detection from paying taxes
-still issued to foreign investors in form of Eurobonds
Accrued Interest - ANSWER -Accumulated interest on bond since last PMT
-Seller due interest that has accrued from last PMT (aka coupon date) up to settlement date of sale
-Buyer pay for accrued interest in addition to price
Treasury Bonds - ANSWER -full faith and credit of US Gov
-Differ from Tbills bc pay semiannual interest
-Notes: 2,5,7,10 maturities
-Bonds: 10-30 years
How much % of treasuries do foreign investors own? - ANSWER 30% of US national debt
Treasury Bonds: New Issues - ANSWER -Only thru Primary Dealers
-Dutch Auction
-21 Primary dealers - resell to secondary mkts
-Accepts highest bid price until sold out and highest yield goes to everyone
-Trade close to par value
Treasuries: Secondary Market - ANSWER -Primary dealers sell to other broker/dealers or instis
-virtual 24 hour trading thru 3 locations (NY, LDN, TOK)
-10 year US GS is benchmark as compared with 2 year
When do Government Bonds settle? - ANSWER Next day = t+
Solutions.
Agency Bonds - ANSWER -Congress authorized US agencies to issue bonds
-VA FHA, FNMA, Freddie Mac
-Rates higher than treasuries: higher risk and lower liquidity
-Secondary market is thin and not as well developed as treasuries
Corporate Bonds:
Major Issuers?
For what?
Denom, interest?
Features?
Debenture?
Indenture?
Registration? - ANSWER -Utilities, transportation, industrials, bank and finance cos
-Raise $ for capex, WC, new ventures
-issued in $1,000 denominations
-Pay semi annual interest
-Deb and Ind
-Bonds issued in registered form (pmt wired)
Corps: Debenture - ANSWER Unsecured bond issued by large, stable companies
Corps: Indenture - ANSWER -Agreement btw issuer and holder
-explains funding terms, characteristics,
-contains covenants (restricts and binds) the issuer
Corp Bond Market:
Holders?
Solutions.
-became popular in 80s where used to finance takeovers
-Higher int rate (default rate)
-Rated Baa Moody's and BBB (S&P)
-Thinly traded
-Price more influenced by company stock price than change in interest rates
MBS - ANSWER Purpose: Encourage banks to make more mortgages
How MBS Originated - ANSWER -FNMA and FHLMC created by gov to faciliate creation and sale of pools from mortages originated by local banks
-Gov buys mortgages from banks, packages into pools, then sells to investors
-recycling funds back to banks to be used to issue more mortgages
-Generally yield between 2 and 4% more than treasuries (comp maturities)
MBS: Risks - ANSWER 1. Credit Risk: homeowner default due to drop in home values, economy
- Prepayment Risk: interest rates decline, homeowners refinance, accelerates principal repayments
- Extension Risk: interest rates increase, homeowner wont refinance at time when investors want money back
Muni's Purpose and two types - ANSWER Fund operations, build hospitals, universities, schools, prisons, infra, roads, waste treatment
-Often exempt from fed and state taxes on interest (issued at lower rates)
-when low rates, increase in bond issuance
-thinly traded
-Highly correlated with treasuries in terms of yield and maturity
- General Obligation
2 Revenue Bonds
General Obligation - ANSWER Type of Muni
Solutions.
-supported by taxing power of muni (income tax, sales tax, corp tax, property tax)
Revenue Bonds - ANSWER Type of Muni
-Backed by revenue generating projects (tolls, airport fees, college dorm fees, convention centers, sport complexes)
-Greater risk
Munis: Primary Market - ANSWER -Hire underwriter/muni dpt of a bank to sell bonds
-offer price determined by competitive bid (req most states)
-or negotiated price with underwriter
Munis: Secondary Market - ANSWER -Thin and illiquid
-OTC through muni dealers (exclusive group)
-Small issuers - handled thru local banks and brokers
-Large issuers: handled through muni dealers
-Typically quoted in terms of yield vs. % par (gov and corp)
Munis: Investor Risks - ANSWER Interest Rates (market): changes in bond prices due to rate changes
Credit: deterioration of issuer financially
Inflation: makes future dollar worth less
Reinvestment: declining rates, int reinvested at lower rate, affects returns
Selection: bond underperforms broader market
Issuance - ANSWER Common
Preferred
Primary Markets: IPO - ANSWER -Primarily to large insti
-Registered with SEC
Solutions.
-listing exchange publish a reference price based on private transactions
-initial wide spread
ADRs? - ANSWER American Depository Receipts
-foreign companies list shares (certificates) in USD
-Bank purchases bulk of foreign shares, deposits them in local bank and then issues ADR in USD and sells them in market
-no voting rights and pay dividends
-trade closely to domestic share price
-subject to cancellation and delisting from US exchanges
EX: Nokia, Shell, Unilever
Sponsored ADRs - ANSWER Foreign co. enters into agreement with US bank to buy and reissue local shares into ADR's
Non-sponsored ADRs - ANSWER -traded on OTC market without cooperation from underlying company
PEG - ANSWER Price/Earnings/Growth Rate
-PEG <1 = undervalued stock
Buy Backs - ANSWER Repo shares directly or through stock markets to boost stock prices and earnings ratios
-shrink # boost EPS and reduce PE
-Timing crucial- buy when stock at historical lows
-some think buy backs restrain ability to reinvest in (R&D, Equip, Wages)
Current Buybacks - ANSWER -819B in 2018
-[E] 1T in 2019
Solutions.
-57% of 250 co bought back shares trailing market return
-executive comp tied to EPS targets
-comes down to how company wants to deploy capital
How much equity trades annually in US? - ANSWER $80 Trillion in US
-ICE owns NYSE
-NASD
-CBOE
-60% all equity trading
-Movement to launch low cost exchanges to counter high listing fees
-Members exchange or MEMX
MEMX - ANSWER Members Exchange
-backed by Fid, MS, Cit, UBS, Schwab
Trading volume trend since 2008? - ANSWER Downward trend
-peak 2008
-increased from 97 to 2008
NYSE - ANSWER "Big Board"
-both IPO and secondary market
-purchased by ICE on 12/12/
-2900 listed companies
-3 digit tickers
-trade 4B shares/day
NYSE Auction Market - ANSWER -bid/offer among floor brokers
