Final Exam Study GuideChapter 17Demand of positive ___- checking accountwhat makes now checking account and money market checking accounts different from a normal checking account? Some have minimum balances, and you earn interest on them(MMA) Savings vs checking account- you can write checks on checking account and you earn interest on savings accountlargest provider of funds for banks-householdssources of funds and uses of funds in banks working capital loan- business operations term loan- get a loan for anything such as a car or a house for a specified durationballoon notes are term loansballoon loan on real estate- they will refinance after 3,5, or 7 years (at end of term)why do banks make consumer loan and issue credit cards- to make higher returns want to diverse investmentstreasuries-safer and provides liquidityBanks do not invest in stocks! Bonds treasuries mortgage backed securitieswhats been happening to banks over past 15 years- forming financial conglomerates, larger in size smaller in quantity size, they combined services such as buying insurance through them and invest with themChapter 19- bank riskCHART!!liquidity risk- dont have the money or cash to pay their interest they keep this cash in a vault and the federal reserve banks. What causes this risk in banks is people withdrawing money which is called a bank run. If they are making too many loans and they need to get more money. They are most likely going to borrow money from another bank if this happens. Low rate called called federal funds rateSecuritization- selling off of loans specifically mortgages. A mortgage is a loan on real estate. Can buy treasuries to solve this or minimum balance checking accounts. Interest rate risk- risk of fluctuating interest rates. Risk of rising interest rates is worse they may not be able to pay their liabilities. risk of falling rates are pre payment risk, this means the banks make less interest. Loans are very risky for them GAP formulas, net interest margin (big number for bank its their spread, profit margin) know how to do this 3 math problems on test F1 301 1st EditionHedging- hedging with futures, swaps, options, derivatives, bet opposite way of interest rates going to movematurity matching- have similar loans to similar liabilities, 2 year CD would also have 2 year loanCD- certificate of deposit, investment where you give them money and they give it back to you later with interestfloating rate- rates change with the market, banks rather have floating rate loansCredit risk- default risk, risk that people will not pay you back we assess this with FICO prime is 740 or aboveappraisal- How much your collateral is worth make sure you loan lesssolve credit risk- sell mortgages, keep short term loans and also diversify your loansdiversify loans- invest in some high risk and some low risk some long and some short so they all dont go bad at onceMarket risk- Risk that the entire economy will do worse, risk that the market will crash assess this using VALUE AT RISK ex. chance of them loosing 1 million dollars is solve this is quit lending or investing which is not going to happentell you if market is crashing- market crash, stocks crash, commodity prices crash, currencies crash, interest rates will start to crash as well afterwards cause a recession is comingMORTGAGESdifference between fixed rate and adjustable rate mortgage- fixed rate stays the same and and adjustable rate moves with the marketwhich one is lower when you start the loan- adjustable rate is (ceasar rate)whats in adjustable rate – annual cap and lifetime cap balloon noteconventional vs insured mortgages- insured are government backed mortgages which means theyre more expensive cause they charge fees cause of defaults key is government will pay back lender if it goes bad. The 3 organizations that back mortgages- FHA, VA, USDAveterans -VAfirst homeowners association -FHARural areas with low income- USDAtypical terms on mortgages- 15, 20 and 30 yrsstarted in 40s to provide securities- Fannie MaeJenny Mae- make sure fannie mae or freddie mac couldnt pay they wouldFreddie Mac- started to securitize and buy conventional loans3 types of investments- mortgage backed bonds, mortgage pass throughs and CMOs collatorized mortgage obligations sold by freddie mac and fannie mae to investorsshort-selling real estate- when the bank allows you to sell your home for less than it is worth-underwaterINSURANCEinsurance- transferring risk to another company for money which is called a premiumwe do this to litigate big losses (high risk losses)person who prices policies we pay- actuary2 reasons they have trouble pricing policies- adverse selection and moral hazardwhats life insurance- money that is paid to you when you die to pay off debt and give to your relatives funeral expenseswhole life insurance and term life insurance- term is just for a specific period(short period of time) betting that you are going to die. Whole life you pay it throughout your whole life and a set payment. Whole life is more expensive at first. Term is cheap at first then gets highhealth insurance- insurance to cover medical costsdesignations that most people get cause they are cheaper now- HMOs and PPOs pension funds- saving structure for retirementdefined benefit plan- get paid a certain percentage of your salary the rest of your life, know how muchyou are going to getdefined contribution plan-get paid based on your contributions and money made off of that, know how much you have to live on , more common now which is usually called a 401kinsurance companies invest in long term bonds and mortgages because maturity matching. They knowthey are going to be paying out debts over a long period of time so they need the same in investmentslong term investment from insurance companies that we use for retirement- Annuity you get paid each month or year for a certain amount of yearsLoss exposures- 6 slides long study step 1! 4 or 5 slidesbenefits of risk management its on second page slide 8 4 or 5