Question: A 30-year variable-rate mortgage offers

> If American auto companies make a breakthrough in automobile technology and are able to produce a car that gets 60 miles to the gallon, what will happen to the U.S. exchange rate?

> In the mid- to late 1970s, the yen appreciated relative to the dollar even though Japan’s inflation rate was higher than America’s. How can this be explained by an improvement in the productivity of Japanese industry relative to American industry?

> If the demand for a country’s exports falls at the same time that tariffs on imports are raised, will the country’s currency tend to appreciate or depreciate in the long run?

> Assume you just deposited $1,000 into a bank account. The current real interest rate is 2%, and inflation is expected to be 6% over the next year. What nominal rate would you require from the bank over the next year? How much money will you have at the e

> If the Indian government unexpectedly announces that it will be imposing higher tariffs on foreign goods one year from now, what will happen to the value of the Indian rupee today?

> If the British central bank prints money to reduce unemployment, what will happen to the value of the pound in the short run and the long run?

> The president of the United States announces that he will reduce inflation with a new anti-inflation program. If the public believes him, predict what will happen to the exchange rate for the U.S. dollar.

> “A country is always worse off when its currency is weak (falls in value).” Is this statement true, false, or uncertain? Explain your answer.

> If expected inflation drops in Europe so that interest rates fall there, predict what will happen to the exchange rate for the U.S. dollar.

> If Mexicans go on a spending spree and buy twice as much French perfume, Japanese TVs, English sweaters, Swiss watches, and Italian wine, what will happen to the value of the Mexican peso?

> If nominal interest rates in America rise but real interest rates fall, predict what will happen to the U.S. exchange rate.

> Short-term interest rates are 2% in Japan and 4% in the United States. The current exchange rate is 120 yen per dollar. If you can enter into a forward exchange rate of 115 yen per dollar, how can you arbitrage the situation?

> Consider a bond with a 7% annual coupon and a face value of $1,000. Complete the following table. What relationships do you observe between maturity and discount rate and the current price? Years to Maturity Discount Rate Current Price 3 3 7 6 7 9

> In 1999 the euro was trading at $0.90 per euro. If the euro is now trading at $1.16 per euro, what is the percentage change in the euro’s value? Is this an appreciation or depreciation?

> The New Zealand dollar to U.S. dollar exchange rate is 1.36, and the British pound to U.S. dollar exchange rate is 0.62. If you find that the British pound to New Zealand dollar were trading at 0.49, what would you do to earn a riskless profit?

> If the Canadian dollar to U.S. dollar exchange rate is 1.28 and the British pound to U.S. dollar exchange rate is 0.62, what must the Canadian dollar to British pound exchange rate be?

> The six-month forward rate between the British pound and the U.S. dollar is $1.75 per pound. If six month interest rates are 3% in the United States and 150 basis points higher in England, what is the current exchange rate?

> The current exchange rate is 0.75 euro per dollar, but you believe the dollar will decline to 0.67 euro per dollar. If a euro-denominated bond is yielding 2%, what return do you expect in U.S. dollars?

> An investor in Canada purchased 100 shares of IBM on January 1 at $93.00 per share. IBM paid an annual dividend of $0.72 on December 31. The stock was sold that day as well for $100.25. The exchange rate was $0.68 per Canadian dollar on January 1 and $0.

> An investor in England purchased a 91-day T-bill for $987.65. At that time, the exchange rate was $1.75 per pound. At maturity, the exchange rate was $1.83 per pound. What was the investor’s holding period return in pounds?

> A German sports car is selling for 70,000 euros. What is the dollar price in the United States for the German car if the exchange rate is 0.90 euros per dollar?

> The interest rate in the United States is 4%, and the euro is trading at 1 euro per dollar. The euro is expected to depreciate to 1.1 euros per dollar. Calculate the interest rate in Germany.

> Short-term interest rates are 2% in Japan and 4% in the United States. The current exchange rate is 120 yen per dollar. What is the expected forward exchange rate?

> A one-year CD in Europe is currently paying 5%, and the exchange rate is currently 0.99 euros per dollar. If you believe the exchange rate will be 1.04 euros per dollar one year from now, what is the expected return in terms of dollars?

> If the price level recently increased by 20% in England while falling by 5% in the United States, how much must the exchange rate change if PPP holds? Assume that the current exchange rate is 0.55 pounds per dollar.

> The current exchange rate between the Japanese yen and the U.S. dollar is 120 yen per dollar. If the dollar is expected to depreciate by 10% relative to the yen, what is the new expected exchange rate?

> The current exchange rate between the United States and Britain is $1.825 per pound. The six-month forward rate between the British pound and the U.S. dollar is $1.79 per pound. What is the percentage difference between current six-month U.S. and British

> The Mexican peso is trading at 10 pesos per dollar. If the expected U.S. inflation rate is 2% while the expected Mexican inflation rate is 23% over the next year, what is the expected exchange rate in one year?

> The Brazilian real is trading at 0.375 real per U.S. dollar. What is the U.S. dollar per real exchange rate?

> What are discount points, and why do some mortgage borrowers choose to pay them?

> What features contribute to keeping long-term mortgage interest rates low?

> Most mortgage loans once had balloon payments; now most current mortgage loans fully amortize. What is the difference between a balloon loan and an amortizing loan?

> What distinguishes the mortgage markets from other capital markets?

> A bank has two, 3-year commercial loans with a present value of $70 million. The first is a $30 million loan that requires a single payment of $37.8 million in 3 years, with no other payments until then. The second is for $40 million. It requires an annu

> Describe how a mortgage pass-through works.

> What is a securitized mortgage?

> The reverse annuity mortgage (RAM) allows retired people to live off the equity they have in their homes without having to sell the home. Explain how a RAM works.

> Many banks offer lines of credit that are secured by a second mortgage (or lien) on real property. These loans have been very popular among bank customers. Why are homeowners so willing to pledge their homes as security for these lines of credit?

> The monthly payments on both graduated-payment loans and growing-equity loans increase over time. Despite this similarity, the two types of loans have different purposes. What is the motivation behind each type of loan?

> Interpret what is meant when a lender quotes the terms on a loan as “floating with the T-bill plus 2 with caps of 2 and 6.”

> Distinguish between conventional mortgage loans and insured mortgage loans.

> Lenders tend not to be as flexible about the qualifications required of mortgage customers as they can be for other types of bank loans. Why is this so?

> What kind of insurance do lenders usually require of borrowers who have less than an 80% loan-to-value ratio?

> What is the purpose of requiring that a borrower make a down payment before receiving a loan?

> Consider the bond in the previous question. Calculate the expected price change if interest rates drop to 6.75% using the duration approximation. Calculate the actual price change using discounted cash flow. Data from Question 11: Calculate the duration

> How can a change in interest rates affect the profitability of financial institutions?

> What is a lien, and when is it used in mortgage lending?

> Compute the face value of a 30-year fixed-rate mortgage with a monthly payment of $1,100, assuming a nominal interest rate of 9%. If the mortgage requires 5% down, what is the maximum house price?

> A mortgage on a house worth $350,000 requires what down payment to avoid PMI insurance?

> Consider a 5-year balloon loan for $100,000. The bank requires a monthly payment equal to that of a 30-year fixed-rate loan with a nominal annual rate of 5.5%. How much will the borrower owe when the balloon payment is due?

> Consider a 30-year fixed-rate mortgage of $100,000 at a nominal rate of 9%. What is the duration of the loan? If interest rates increase to 9.5% immediately after the mortgage is made, how much is the loan worth to the lender?

> Consider a 30-year fixed-rate mortgage for $100,000 at a nominal rate of 9%. An S&L issues this mortgage on April 1 and retains the mortgage in its portfolio. However, by April 2 mortgage rates have increased to a 9.5% nominal rate. By how much has the v

> Consider a 30-year fixed-rate mortgage for $100,000 at a nominal rate of 9%. If the borrower pays an additional $100 with each payment, how fast will the mortgage be paid off?

> Consider a 30-year fixed-rate mortgage for $100,000 at a nominal rate of 9%. If the borrower wants to pay off the remaining balance on the mortgage after making the 12th payment, what is the remaining balance on the mortgage?

> Compute the required monthly payment on an $80,000 30-year fixed-rate mortgage with a nominal interest rate of 5.80%. How much of the payment goes toward principal and interest during the first year?

> Calculate the duration of a $1,000, 6% coupon bond with three years to maturity. Assume that all market interest rates are 7%.

> You are working with a pool of 1,000 mortgages. Each mortgage is for $100,000 and has a stated annual interest rate (nominal) of 6.00%. The mortgages are all 30-year fixed rate and fully amortizing. Mortgage servicing fees are currently 0.25% annually. C

> Rusty Nail owns his house free and clear, and it’s worth $400,000. To finance his retirement, he acquires a reverse annuity mortgage (RAM) from his bank. The RAM provides a fixed monthly payment over 15 years on 70% of the value of his home at 5%. The pa

> Consider a growing equity mortgage on a $250,000 mortgage with yearly payments. The stated interest rate on the mortgage is 6%, but this only applies to the first annual payment. Thereafter, the annual payment will grow by 5.5797%. Develop an amortizatio

> Consider a 30-year graduated-payment mortgage on a $250,000 mortgage with yearly payments. The stated interest rate on the mortgage is 6%, but the first annual payment is calculated assuming a 3% rate for the life of the loan. Thereafter, the annual paym

> Consider a shared-appreciation mortgage (SAM) on a $250,000 mortgage with yearly payments. Current market mortgage rates are high, running at 13%, of which 10% is annual inflation. Under the terms of the SAM, a 15-year mortgage is offered at 5%. After 1

> Two mortgage options are available: a 30-year fixedrate loan at 6% with no discount points, and a 30-year fixed-rate loan at 5.75% with points. If you are planning on living in the house for 12 years, what is the most you are willing to pay in points for

> Two mortgage options are available: a 30-year fixed rate loan at 6% with no discount points, and a 30-year fixed-rate loan at 5.75% with 1 discount point. How long do you have to stay in the house for the mortgage with points to be a better option? Assum

> Two mortgage options are available: a 15-year fixed-rate loan at 6% with no discount points, and a 15-year fixed rate loan at 5.75% with 1 discount point. Assuming you will not pay off the loan early, which alternative is best for you? Assume a $100,000

> Consider the following options available to a mortgage borrower: What is the effective annual rate for each option? Loan Type of Discount Rate (%) Mortgage Points Amount Interest ($) 30-year fixed Option 1 100,000 6.75 none 30-year fixed Option 2 1

> Consider a 30-year fixed-rate mortgage for $500,000 at a nominal rate of 6%. What is the difference in required payments between a monthly payment and a bimonthly payment (payments made twice a month)?

> “Because corporations do not actually raise any funds in secondary markets, they are less important to the economy than primary markets.” Comment.

> Identify the cash flows available to an investor in stock. How reliably can these cash flows be estimated? Compare the problem of estimating stock cash flows to estimating bond cash flows. Which security would you predict to be more volatile?

> What basic principle of finance can be applied to the valuation of any investment asset?

> Consider the following security information for four securities making up an index: What is the change in the value of the index from Time 5 0 to Time 5 1 if the index is calculated using a value-weighted arithmetic mean? Shares Outstanding (milli

> Suppose Microsoft, Inc., is trading at $27.29 per share. It pays an annual dividend of $0.32 per share, which is double last year’s dividend of $0.16 per share. If this trend is expected to continue, what is the required return on Microsoft?

> Huskie Motors just paid an annual dividend of $1.00 per share. Management has promised shareholders to increase dividends at a constant rate of 5%. If the required return is 12%, what is the current price per share?

> LaserAce is selling at $22.00 per share. The most recent annual dividend paid was $0.80. Using the Gordon growth model, if the market requires a return of 11%, what is the expected dividend growth rate for LaserAce?

> Suppose Microsoft, Inc., is trading at $27.29 per share. It pays an annual dividend of $0.32 per share, and analysts have set a one-year target price around $33.30 per share. What is the expected return of this stock?

> Suppose SoftPeople, Inc., is selling at $19.00 and currently pays an annual dividend of $0.65 per share. Analysts project that the stock will be priced around $23.00 in one year. What is the expected return?

> The shares of Misheak, Inc., are expected to generate the following possible returns over the next 12 months: Return……………………Probability 5%..........................................0.10 5%.........................................0.25 10%................

> Two common statistics in IPOs are underpricing and money left on the table. Underpricing is defined as percentage change between the offering price and the first day closing price. Money left on the table is the difference between the first day closing p

> Some economists suspect that one of the reasons that economies in developing countries grow so slowly is that they do not have well-developed financial markets. Does this argument make sense?

> If the investment bankers retained $1.26 per share as fees, what were the net proceeds to eBay? What was the market capitalization of the new shares of eBay?

> The projected earnings per share for Risky Ventures, Inc., is $3.50. The average PE ratio for the industry composed of Risky Ventures’ closest competitors is 21. After careful analysis, you decide that Risky Ventures is a little more risky than average,

> Compute the price of a share of stock that pays a $1 per year dividend and that you expect to be able to sell in one year for $20, assuming you require a 15% return.

> An index had an average (geometric) mean return over 20 years of 3.8861%. If the beginning index value was 100, what was the final index value after 20 years?

> Suppose Microsoft, Inc., reports earnings per share of around $0.75. If Microsoft is in an industry with a PE ratio ranging from 30 to 40, what is a reasonable price range for Microsoft?

> Analysts are projecting that CB Railways will have earnings per share of $3.90. If the average industry PE ratio is about 25, what is the current price of CB Railways?

> Nat-T-Cat Industries just went public. As a growing firm, it is not expected to pay a dividend for the first five years. After that, investors expect Nat-T-Cat to pay an annual dividend of $1.00 per share (i.e., D6 5 1.00), with no growth. If the require

> Macro Systems just paid an annual dividend of $0.32 per share. Its dividend is expected to double for the next four years (D1 through D4), after which it will grow at a more modest pace of 1% per year. If the required return is 13%, what is the current p

> Gordon & Co.’s stock has just paid its annual dividend of $1.10 per share. Analysts believe that Gordon will maintain its historic dividend growth rate of 3%. If the required return is 8%, what is the expected price of the stock next year?

> The U.S. Treasury issues bills, notes, and bonds. How do these three securities differ?

> Why is a share of Microsoft common stock an asset for its owner and a liability for Microsoft?

> Distinguish between the primary market and the secondary market for securities.

> What are the primary capital market securities, and who are the primary purchasers of these securities?

> Contrast investors’ use of capital markets with their use of money markets.

> What is the document called that lists the terms of a bond?

> A call provision on a bond allows the issuer to redeem the bond at will. Investors do not like call provisions and so require higher interest on callable bonds. Why do issuers continue to issue callable bonds anyway?

> In addition to Treasury securities, some agencies of the government issue bonds. List three such agencies, and state what the funds raised by the bond issues are used for.

> As interest rates in the market change over time, the market price of bonds rises and falls. The change in the value of bonds due to changes in interest rates is a risk incurred by bond investors. What is this risk called?

> A bond provides information about its par value, coupon interest rate, and maturity date. Define each of these.

> Describe the two ways whereby capital market securities pass from the issuer to the public.

> What is a sinking fund? Do investors like bonds that contain this feature? Why?

> How does risk sharing benefit both financial intermediaries and private investors?