1.What is the difference between firm-specific credit risk and systematic credit risk? How can an FI alleviate firm-specific credit risk?
2.What is foreign exchange risk? What does it mean for an FI to be net long in foreign assets? What does it mean for an FI to be net short in foreign assets? In each case, what must happen to the foreign exchange rate to cause the FI to suffer losses?
3.Suppose you purchase a 10-year, AAA-rated Swiss bond for par that is paying an annual coupon of 6 percent. The bond has a face value of 1,000 Swiss francs (SF). The spot rate at the time of purchase is SF1.50/$. At the end of the year, the bond is downgraded to AA and the yield increases to 8 percent. In addition, the SF appreciates to SF1.35/$.
a. What is the loss or gain to a Swiss investor who holds this bond for a year? What portion of this loss or gain is due to foreign exchange risk? What portion is due to interest rate risk?
b. What is the loss or gain to a U.S. investor who holds this bond for a year? What portion of this loss or gain is due to foreign exchange risk? What portion is due to interest rate risk?
4.What is country or sovereign risk? What remedy does an FI realistically have in the event of a collapsing country or currency?
5.What is technology risk? What is the difference between economies of scale and economies of scope? How can these economies create benefits for an FI? How can these economies prove harmful to an FI?
6.What is the difference between technology risk and operational risk? How does internationalizing the payments system among banks increase operational risk?
7. Characterize the risk exposure(s) of the following FI transactions by choosing one or more of the risk types listed below:
a. Interest rate risk d. Technology risk
b. Credit risk e. Foreign exchange rate risk
c. Off-balance-sheet risk f. Country or sovereign risk
8.What is liquidity risk? What routine operating factors allow FIs to deal with this risk in times of normal economic activity? What market reality can create severe financial difficulty for an FI in times of extreme liquidity crises?
9. Why can insolvency risk be classified as a consequence or outcome of any or all of the other types of risks?
10.How do monetary policy actions made by the Federal Reserve impact interest rates?