Chapter 2 - Asset Classes and Financial Instruments

Question 1

What is the bank-discount method for valuing T bills?

Answer 1

The bills discount from maturity is annualised based on a 360 day year then reported as a percentage of face value.

Question 2

Why is the bank-discount method flawed?

Answer 2

It assumes that the year has only 360 days.

It computes the yield as a fraction of par value rather than of the price the investor paid to acquire the bill

Question 3

What is a certificate of deposit? (CD)

Answer 3

A CD is a time deposit with a bank. May not be withdrawn on demand. The bank pays interest and principal to the deposited only at the end of the fixed term of the CD.

Question 4

What is commercial paper?

Answer 4

Short-term unsecured debt issued by large companies. Alternative to borrowing from banks.

Question 5

What are Banker’ Acceptances

Answer 5

Starts as an order to a bank by a banks customer to pay a sum of money at a future date, typically within 6 months. Once endorsed, the bank assumes responsibility for the payment.

Question 6

What are Repos and Reserves

Answer 6

Dealer in gov securities use repos as a form of short term, usually overnight borrowing. Dealer sales gov securities to an investor on overnight basis with the agreement to buy back next day at higher price

Question 7

What are Federal Funds?

Answer 7

Where banks maintain minimum deposits based on total deposits of bank customers

Question 8

Brokers’ Calls

Answer 8

Individuals who buy stocks on margin borrow part of the funds to pay for the stocks from their broker. The broker in turn may borrow the funds from the bank, agreeing to repay immediately on call.

Question 9

What is LIBOR?

Answer 9

The London Interbank Offered Rate is the rate at which banks in London are willing to lend money among themselves. This is the premier short-term interest rate quoted on the European money market.

Key reference rate in the money market, and trillions of dollars of loans and derivatives are tied to it.

Question 10

What is the TED spread?

Answer 10

The difference between LIBOR rate and Treasury bills.

Question 11

What are the most common bonds?

Answer 11

• Treasury notes
• Bonds
• Corporate bonds
• Municipal bonds
• Mortgage securities
• Federal agency debt

Question 12

Maturities of treasury notes?

Maturities of treasury bonds?

Answer 12

up to 10 years

10 - 30 years