Chapter 1 - Loan Assets Flashcards
Why does longer term lending attract higher interest rates
Due to maturity a transformation.
Because the bank has the following 3 types of risk
Liquidity risk: may have to repay short term funds before receiving money back from borrowers
Market risk: If interest rates rise leads to bank paying more to depositors but unable to charge more to borrowers until loan reaches repricing date
Credit risk: borrowers may default on the loan
What is the Bank of England base rate
5.25%
What conditions would create a term loan that is classified at ‘amortized cost’
How do you recognize this initially
How do you recognize this subsequently
If banks business model is to collect the contractual cash flows, namely principal and interest
Initial recognition: at fair value including transaction costs
Subsequent recognition: will be at amortized cost
What conditions would create a term loan that is classified at ‘FVTOCI’
How do you recognize this initially
How do you recognize this subsequently
Business model to collect the contractual cash flows comprising principal and interest on outstanding principal and SELL THE LOAN.
Initial recognition: at fair value including transaction costs
Subsequent measurement: at FV with gains and losses recognized in OCI.
Interest revenue and FX gains/losses recognized in P/L.
Gains/ losses in OCI are reclassified to P/L on recognition of the loan
What is the formula for working out subsequent measurement of loan asset
Brought forward
PLUS interest income @ effective interest rate
LESS cash paid to bank
What is the difference between a finance lease and an operating lease
A finance lease is where the lease transfers substantially all the risks and rewards incidental to ownership of an asset. So asset must be derecognised in the lessors books
Otherwise it is classified as operating lease and still technically an asset in the lessors books
What happens if the sale of receivables to a bank happens ‘without recourse’
What is the name of this
If the customers debtors don’t pay, then the bank may not seek the funds from the customer.
This means the bank effectively has the risks of holding the receivable and shows it as an asset
Called factoring
What happens if the sale of receivables to the bank happens ‘with recourse
How is this shown in the banks books’
What is this called
The bank may ask for the customer to pay them for any debtors who turn bad. In this case the customer retains the risk of default and has not ‘sold’ the receivable
Dr Loan asset
Cr Cash
This is called invoice financing
