394 Chapter 15 Interest Rate Derivative Markets Chapter 15 Interest Rate Derivative Markets 1 Financial institutions with interest rate sensitive liabilities than assets are affected by rising interest rates A more adversely B fewer adversely C more favorably D none of these ANSWER A 2 Which of the following statements is incorrect A Interest rate swaps are sometimes used by financial institutions and other firms for speculative purposes B A primary reason for the popularity of interest rate swaps is the existence of market imperfections C Swaps are necessary for some financial institutions to obtain the maturities or rate sensitivities on funds that they desire D Most financial institutions that anticipate that interest rates will move in an unfavorable direction to not hedge their positions ANSWER D 3 Savings and loan associations participate in the swap market primarily to A serve as an intermediary by matching up two parties in a swap B serve as a dealer by taking the counterparty position in a swap C reduce interest rate risk D do none of these ANSWER C 4 In a swap arrangement the most common index used for floating rate payments would be the A coupon rate on existing bonds B stock dividend rate based on a U S stock index C London Interbank Offer Rate LIBOR D Treasury bond yield ANSWER C 395 Chapter 15 Interest Rate Derivative Markets 5 The most likely users of plain vanilla swaps would be A commercial banks that focus on short term consumer loans B savings institutions C manufacturing companies D municipal governments ANSWER B 6 A plain vanilla swap is especially beneficial when interest rates are expected to A rise consistently B decline consistently C be stable D rise and then decline ANSWER A 7 Swap transactions are only used to A hedge against upward interest rate movements B hedge against downward interest rate movements C speculate D do none of these ANSWER D 8 If a firm negotiates a plain vanilla swap it will provide payments in exchange for payments A fixed rate floating rate B floating rate fixed rate C stock dividend fixed rate D stock dividend floating rate ANSWER A 9 A swap allows the party making floating rate payments to terminate the swap prior to maturity A zero coupon for floating B forward C callable D putable ANSWER D 10 A n swap allows the party making fixed payments to extend the swap period A forward B extendable C callable D putable ANSWER B Chapter 15 Interest Rate Derivative Markets 396 11 A n swap allows the party making fixed rate payments to terminate the swap prior to maturity A forward B extendable C callable D putable ANSWER C 12 A swap involves the exchange of fixed rate payments for floating rate payments that are capped A rate capped B zero coupon for floating C callable D putable ANSWER A 13 In a n swap the fixed rate payer makes a single payment at the maturity date of the swap agreement while the floating rate payer makes periodic payments throughout the swap period A rate capped B zero coupon for floating C extendable D callable ANSWER B 14 The option on a callable swap would most likely be exercised if interest rates A rise B fall C remain constant D remain somewhat stable ANSWER B 15 The option on a putable swap would most likely be exercised if interest rates A rise B fall C remain constant D remain somewhat stable ANSWER A 397 Chapter 15 Interest Rate Derivative Markets 16 A n swap involves an exchange of interest payments over a swap period that does not begin until a specified future point in time A forward B extendable C callable D putable ANSWER A 17 Assume a financial institution has rate sensitive liabilities and rate insensitive assets If interest rates are expected to decline consistently this institution would benefit by negotiating a n swap A forward B callable C extendable D none of these ANSWER D 18 Assume a financial institution has rate sensitive liabilities and rate sensitive assets If this institution negotiates a rate capped swap its payments will be capped and it will an up front premium in exchange for the cap A outflow receive B outflow pay C inflow pay D inflow receive ANSWER D 19 Assume a U S savings institution funds its fixed rate mortgages by attracting short term deposits If it engages in an interest rate swap but the index on the swap does not move in perfect tandem with its cost of deposits this reflects risk A sovereign B basis C credit D none of these ANSWER B 20 According to the text any political aspects that prevent a counterparty on a swap from meeting its payment obligations represent risk A sovereign B basis C credit D none of these ANSWER A Chapter 15 Interest Rate Derivative Markets 398 21 risk prevents the interest rate swap from completely eliminating a financial institution s exposure to interest rate risk A Credit B Basis C Sovereign D None of these ANSWER B 22 risk in a swap is typically not overwhelming because the affected party can simply discontinue its payments to the other party A Basis B Credit C Sovereign D None of these ANSWER B 23 In a period when interest rates are expected to rise institutions will want a fixed for floating swap and the fixed rate specified on interest rate swaps will be under these conditions A many lower B many higher C few lower D few higher ANSWER B 24 An interest rate swap agreement indicates the value which represents the principal amount to which interest rates are applied to determine the interest payments involved A vanilla B LIBOR C programmed D notional ANSWER D 25 Financial institutions primarily use interest rate swaps in a way that will exposure to interest rate risk and potential returns A increase increase B increase reduce C reduce increase D reduce reduce ANSWER D 399 Chapter 15 Interest Rate Derivative Markets 26 An advantage of a swap over other interest rate swaps is that the fixed rate payer has the flexibility to avoid exchanging future interest payments A callable B putable C zero coupon for floating D forward ANSWER A 27 The advantage of a rate capped interest rate swap to a party exchanging fixed payments for floating payments relative to a plain vanilla swap is that A there is a minimum limit set on interest rate payments received B there is a maximum limit set on the interest payments it will provide C it receives an up front fee D none of these ANSWER C 28 The advantage of a rate capped interest rate swap relative to a plain vanilla swap to a party exchanging floating payments for fixed payments is that A there is a minimum limit