CHAPTER 1

Instruction: Write T if the answer is True and F if the answer is False in the space provided
for each number.

1. Financial markets help the users of funds to create products or services and provide a return
for those who have excess funds. TRUE

2. A financial system is a group of financial institutions and financial markets that creates
financial instruments and financial services. TRUE

3. Investing in the financial market is considered to be high risk and yet it provides a low return.
FALSE

4. Economists view that the highly developed and dynamic economic system would be possible
without an equally sophisticated financial system. FALSE

5. Commercial banks have the highest capitalization and have the powers of an investment house
and the power to invest in non-allied enterprises. FALSE

6. Cooperative banking, just like a thrift bank, accepts deposits and provides loans to individuals
to undertake ventures in any principles of the cooperative. TRUE

7. Investment banks provide planning, consultancy, fund management, and raising funds through
equity financing and borrowings. TRUE

8. Securities brokers are individuals or firms engaged in the buying and selling of stocks for
commission. TRUE

9. Financial markets are generally characterized by having formal. regulations, transparent

pricing, basic regulations on trading, costs, and fees, and market forces determining the prices of
the securities that are being traded. TRUE

10. Commercial paper is a money-market security issued by high-credit rating companies to raise
money to meet short-term obligations. They are normally secured by sinking funds. FALSE

11. A repurchase agreement (Repo) is a financial instrument in which one party sells a financial
instrument to another party at a specified price with a commitment to repurchase the financial
instrument at a fixed amount agreed upon at a specific date. TRUE
12. Bankers' acceptances are less risky compared to other instruments because the payment of
which is guaranteed by the exporter's bank. FALSE

13. The money market is for short-term financial instruments while the capital market is more for
long-term financial instruments. TRUE

14. The Philippine Stock Exchange, Inc. ("PSEi" or the "Exchange") is a government
organization that provides and ensures a fair, efficient, transparent, and orderly market for the
buying and the selling of securities. TRUE

15. The over-the-counter market is the result of an intangible relationship between the sellers and
the purchasers of securities, who are linked by a telecommunications network. TRUE

16. Many companies prefer to have an initial public offering in the form of stocks rather than
bonds due to lower risk. FALSE

17. If the company that would like to raise money in the financial market is more certain to
succeed in its projects, this would rather issue bonds than stocks. TRUE

18. The issuer of the initial public offering also benefits from the secondary market by getting
commissions from the sale of stocks. FALSE

19. Like stocks, bonds also have a secondary market. TRUE

20. To avoid any risk in investing or issuance of financial securities, firms normally do hedging.
TRUE

Instruction: Write T if the answer is True and F if the answer is False in the space provided
for each number.

1. An Investment bank accepts deposits, makes loans, issues checking accounts, and trades in the
stock market. FALSE

2. All deposits such as savings accounts, current accounts, and time deposits are assets of the
accepting banks. FALSE
3. Brokerage firms sell shares in their firms to individuals and invest the pooled proceeds in
corporate and government securities. FALSE

NOTE: Brokerage firms typically do not sell shares in their firms to individuals for the purpose
of pooling proceeds to invest in corporate and government securities. Instead, brokerage firms
primarily facilitate the buying and selling of securities on behalf of clients. They earn
commissions and fees for these services.

4. Firms that would like to issue stocks or bonds in the capital market may approach any banks in
their localities. FALSE

5. Valuing debt securities is easier than valuing stocks because stocks promise to provide
investors with specific payments at regular intervals. FALSE

6. Unlike physical location exchanges, dealer-based markets or over-the- counter markets include
infrequently traded stocks that are not listed in the organized exchanges and involve few dealers
who maintain inventory, make a market, and earn profit known as the bid-ask spread. TRUE

7. Individuals are often savers because they wish to save for things such as a down payment on a
home or graduate school. TRUE

8. Capital markets are markets for short-term debt instruments maturing in less than one year,
and money markets are markets for long-term debt instruments maturing in more than one year.
FALSE

9. Hedge funds are somewhat similar to mutual funds. The primary differences are that hedge
funds are less highly regulated, have more flexibility regarding what they can buy, and restrict
their investors to wealthy, sophisticated individuals, and institutions. TRUE

10. Most businesses are considered to be savers. FALSE

11. Organized security exchanges do not physically occupy space. FALSE

12. Financial institutions are more diversified today than they were in the past when federal laws
kept investment banks, commercial banks, insurance companies, and similar organizations quite
separate. Today the larger financial services corporations offer a variety of services, ranging from
checking accounts to insurance to underwriting securities, and stock brokerage. TRUE
13. If you decide to buy 100 shares of TEL, you would probably do so by calling your broker
and asking him or her to execute the trade for you. This would be defined as a secondary market
transaction, not a primary market transaction. TRUE

14. XYZ Corporation issued and sold 100 shares of stock to an investor, a private individual.
This represents a secondary market transaction. FALSE

15. Under the weak form of the EMH, technical analysis that relies on the history of price
information is of little or no value. TRUE

16. The secondary markets provide pricing information and liquidity to investors. TRUE

17. Existing securities are traded in the primary market. FALSE

18. Primary markets are markets in which users of funds raise cash by selling financial securities
to providers of funds. FALSE/TRUE

19. The Philippine Stock Exchange, Inc. (PSEI) is an example of a primary market. FALSE

20. Derivatives market provides instruments to manage financial risk. TRUE

Instruction: Encircle the letter that corresponds to the correct answer.

1. A universal bank is an example of a/an

a. Commercial bank

c. Cooperative bank

h. Thrift bank

d. Islamic bank

2. Which of the following financial institutions is a government non-bank financial institution?

a. Investment bank

b. Credit union
 c. Pawnshops

d. Social Security System

3. All of the following are thrift banks, except

a. Savings and mortgage bank

b. Cooperative bank

c. Stocks Savings and loan association

d. Private Development Bank

4. Philippine National Bank is an example of.

a. Government bank

b. Private-owned bank

c. Non-bank financial institution

d. Non-profit organization

5. Allied Savings Bank is an example of.

a. Government bank

b. Private-owned bank

c. Thrift bank

d. Non-bank financial institution

6. This company is engaged in the buying and selling of securities. Most often, the trust is
engaged in the business of investing the pooled capital of investors in financial securities.

a. Investment bank
 b. Investment companies

c. Securities dealers

d. Securities brokers

7. It is a financial institution that caters to financing relatively low-income individuals and uses
rings, necklaces, earrings, gadgets, and any small valuable items as collateral.

a. Thrift banks

b. Credit unions

c. Pawnshops

d. Stock savings and loan association

8. ABC Corporation is about to finance a project that will help them to improve profitability in
the coming years. They think of issuing stocks or corporate bonds amounting to Pi billion.
Which of the following can they seek assistance?

a. Investment companies

b. Commercial bank

c. Securities dealers

d. Investment house

9. Which of the following statement/s is/are true about financial intermediaries?

1. Financial intermediaries hire people who are highly qualified to assess risky investments.

11. It has a cost advantage or economies of scale.

III. It is difficult to reconcile the conflicting interests of the users and the lenders of funds.

a. I and II are True

 c. I and III are True

b. II and III are True

d. All are True

10. It is an obligation by the national government that matures in 91, 181, or 360 days. The
interest is normally higher than the savings and time deposit.

a. Treasury bonds

c. Treasury bills

b. Treasury notes

d. Treasury gold

11. It is a financial instrument that transpires from export and import transactions. It is less risky
compared to other instruments because the payment is guaranteed by the importer's bank.

a. Stocks

b. Repurchase agreement

c. Commercial papers

d. Banker's acceptance

12. Which of the following markets can an investor buy an initial public offering of stocks that
can be sold later?

a. Primary market

c. Over-the-counter market

b. Secondary market

d. Derivatives market
Instruction: Encircle the letter that corresponds to the correct answer.

1. When capital flows thru financial intermediaries,

a. a new capital is formed.

b. facilitation of the issuance of securities occurs.

c. passing through securities happens.

d. risk is shouldered by the investment banker.

2. Financial institutions and markets

a. are the organized financial intermediaries and forums that promote the cycle of money.

b. compose the set of financial activities that support the operations of a business.

c. are the activities centered on the purchase and sale of financial assets.

d. are concerned only with the addition of a multinational element to all finance activities.

3. According to the Efficient Market Hypothesis (EMH), the weak form of the market can be
beaten by

a. past information.

b. publicly available information

c. both a and b.

d. none of the above.

4. You recently sold 100 shares of Microsoft stock to your brother in a family reunion. At the
reunion, your brother gave you a check for the stock and you gave your brother the stock
certificates. Which of the following best describes this transaction?

a. This is an example of a direct transfer of capital.

 b. This is an example of a primary market transaction.

c. This is an example of an exchange of physical assets.

d. This is an example of a money market transaction.

5. Which of the following statements is NOT CORRECT?

a. When a corporation's shares are owned by a few individuals, we say that the firm is
"closely, or privately, held."

b. "Going public" establishes a firm's true intrinsic value and ensures that a liquid market
will always exist for the firm's shares.

c. The stock of publicly owned companies must generally be registered with and reported
to a regulatory agency such as the SEC.

d. A firm can go public and yet it does not raise any additional new capital for the firm
itself.

6. All of the following are true about insurance companies EXCEPT:

a. They invest their reserves.

b. They may guarantee to reimburse lenders should lenders' loans go into default.

c. They participate in equipment leasing.

d. They may only invest their reserves in interest-paying bank accounts under
government law.

7. If a market is inefficient and as new information is received about security,

a. nothing will happen.

b. the stock price will fall at first and then later rise.

c. there will be a lag in the adjustment of the stock price

 d. there will be negative demand for the stock.

8. All of the following conditions must occur for a market to be considered efficient except

a. Information is costless and widely available to market participants and approximately

at the same time.

b. Information is generated in a specific fashion such that announcements are dependent

on each other.

c. There are a large number of rational, and profit-maximizing investors who actively
participate in the market.

d. Investors react quickly and fully to the new information, causing stock prices to adjust
accordingly.

9. Which of the following is a primary market transaction?

a. You sell 200 shares of SCC stock on the PSEi through your broker.

b. You buy 200 shares of SCC stock from your brother. The trade is not made through a
broker, you just give him cash and he gives you the stock.

c. SCC issues 2,000,000 shares of new stock and sells them to the public through an
investment banker.

d. One financial institution buys 200,000 shares of SCC stock from another institution.
An investment banker arranges the transaction.

10. Which of the following is an example of a capital market instrument?

a. Commercial paper

b. Preferred stock

c. Banker's acceptances

d. Money market mutual funds

11. Money markets are markets for.

 a. foreign currencies.

b. common stocks.

c. long-term bonds.

d. short-term debt securities such as Treasury bills and commercial paper.

12. You recently sold 200 shares of LTG stock and the transfer was made through a broker. This
is an example of.

a. a money market transaction

b. a primary market transaction

c. a secondary market transaction

d. an over-the-counter market transaction

Instruction: Encircle the letter that corresponds to the correct answer.

1. A syndicate is a.

a. firm that assists in specialist transactions

b. an organization of market makers

c. the largest group of members of the PSE

d. None of the above

NOTE: A syndicate is typically a group of investment banks or financial institutions that come
together to underwrite and distribute a new issue of securities. None of the provided options
accurately define a syndicate in this context.

2. The lead investment banker.

a. is elected by members of the syndicate

 b. is appointed by the SEC

c. originates and handles a flotation

d. None of the above

3. Commission brokers.

a. act as agents to execute customers' orders for securities purchases and sales

b. assist specialists in executing orders

c. trade for their accounts

d. All the above

4. Which of the following underwrites securities of another person or enterprise, including

securities of government and private companies?

a. Investment companies

c. Commercial bank

b. Investment bank

d. Rural bank

5. Financial institutions include.

a. banks

c. insurance companies

b. pension funds

d. All of the above

6. It is an unsecured promissory note with a fixed maturity of 1 to 270 days.

 a. Treasury bill

c. Commercial paper

b. Repurchase agreement

d. Certificate of deposit

7. The placement made by Petra amounts to P50,000. It was placed for 30 days earning a fixed
rate of 2% per annum. The money was placed in which of the following securities

a. Treasury bill

c. Commercial paper

b. Repurchase agreement

d. Certificate of deposit

8. It is a place where long-term debt instruments are issued by government agencies and private
firms to raise money.

a. Commodity market

c. Bond market

b. Stock market

d. Derivatives market

9. Aklan Corporation is a publicly listed corporation. If Jose wants to invest in Akla Corporation,
he can buy this in.

a. Commodity market

c. Bond market

b. Stock market

d. Derivatives market
10. The money market as compared to the capital market is more on investing in

a. foreign exchange market.

c. bond market.

b. stock market.

d. initial public offering.

11. Maria bought an IPO (Initial Public Offering) stock. If she wants to sell the stock, s will go to
the

a. account officer of the bank.

c. foreign exchange dealer.

b. stockbroker.

d. mutual fund agent.

12. Which of the following investment securities does not have a maturity?

a. Corporate bonds

c. Common stock

b. Time deposit

d. Commercial paper
CHAPTER 2

Instruction: Write T if the answer is True and F if the answer is False in the space provided
for each number.

1. The default risk premium, as a component of the interest rate, is additional compensation for
the risk that the issuer will not be able to pay on scheduled interest payments. TRUE

2. The market risk premium is a component of interest rate that is present in long-term
corporate-issued debt security but not in long- term government-issued debt security. FALSE

3. The default risk premium is present in treasury securities than in corporate-issued debt
securities because multinational companies can meet their short-term as well as long-term
obligations. FALSE

4. The real risk-free rate as a component of interest rate is present in all kinds of debt security
whether corporate-issued or government- issued, while inflation premium is only present in
government-issued security such as the Treasury bill yield. FALSE

5. The Treasury bill (T-bill) yield or rate is the nominal risk-free rate which is composed of the
real risk-free rate plus the expected inflation rate for the year. TRUE

6. The interest rate components of an 8-year corporate-issued bond are nominal risk-free rate,
plus average inflation for 8 years, a maturity risk premium, a default risk premium, and liquidity
premium. TRUE

7. Everything held constant, a 10-year treasury bond has a higher nominal interest rate than a
10-year corporate bond due to the effect of default and liquidity. FALSE

8. If the inflation rate is highly significant, the nominal risk-free rate computation uses the
cross-term format of [(1+r*) x (1+IP)] -1]. TRUE

9. The four most fundamental factors that affect the cost of money are (1) production
opportunities, (2) economic and political conditions, (3) risk, and (4) inflation. FALSE

10. Inflation premium is present in all types of debt securities, short-term or long-term, treasury
or corporate. TRUE

11. The difference between long-term government-issued debt security and long-term
corporate-issued security is the corporate bond yield spread. TRUE
12. The real risk-free rate is the increment of purchasing power that the lender earns to induce
him or her to forego current consumption. FALSE

13. If you earn 0.6 percent a month in your bank account, this would be the same as earning a 7.2
percent annual interest rate with annual compounding. TRUE

14. An investor earned a 5 percent nominal risk-free rate over the year However, over the year,
prices increased by 2 percent. The investor's real risk-free rate was greater than his nominal rate
of return. FALSE

15. Households generally supply fewer funds to the markets as thet income and wealth increase,
other things are equal. FALSE

16. An increase in the perceived riskiness of investments can cause a movement down along the
supply curve. FALSE

17. When the economic conditions of one country improve, the demand it funds will increase
causing the equilibrium of the interest rate to increase. TRUE

18. When the near-term spending needs decrease, the supply of funds increases causing the
equilibrium of interest rate to decrease. TRUE

19. The lack of restrictiveness of non-price conditions such as fees, and collateral on borrowed
funds will cause the demand for funds to decrease causing the equilibrium of interest rate to
increase. FALSE

20. When the flow of foreign funds improves, the supply of funds will increase causing the
equilibrium of interest rate to increase. FALSE

Instruction: Encircle the letter that corresponds to the correct answer.

1. Which of the following statements would likely affect an increase in income tax rates?

Statement I Decrease the savings rate.

Statement II Decreases the supply of loanable funds.

Statement III Increase interest rates.

a. Statements I and II are true.

c. Statements I and III are true.

b. Statements II and III are true.

d. All statements are true.

2. According to the liquidity premium theory of interest rates,

a. the term structure must always be downward sloping.

b. long-term security will always have a higher interest rate than the short-term security

c. investors prefer certain maturities and will not normally switch out of those maturities.

d. investors are indifferent between different maturities if the long-term spot rates are
equal to the average of current and expected future short-term rates.

3. Miss Malto wants to buy 6 percent more goods and services in the future to induce her to
invest today. During the investment period prices are expected to rise by 2 percent. Which
statement(s) below is/are true?

1. 6 percent is the desired real risk-free interest rate.

II. 8 percent is the approximate nominal rate of interest required.

III. 2 percent is the expected inflation rate over the period.

a. I and II are true

c. I and III are true

b. II and III are true

d. All are true

4. Inflation causes the supply curve to shift to the , demand curve for loanable funds to shift to
the and causes the,

a. right; right

c. left; left

b. right; left

d. left; right

5. Which of the following statements would increase the supply of funds, all else being equal?

Statement I The perceived riskiness of all investments decreases.

Statement II Current Income and wealth levels increase.

a. Statement I only

c. Statements I and II

b. Statement II only

d. None of the above

6. It refers to the relationship between maturity and yield to maturity.

a. term structure

c. bond indenture

b. correlational structure

d. Fisher effect

7. Which of the following pertains to the unbiased expectations theory?

a. Liquidity premiums are negative and time-varying.

 b. Markets are segmented and buyers stay in their segment.

c. The long-term spot rate is an average of the current and expected future short- term
interest rates.

d. The term structure will most often be upward sloping.

8. According to the theory, interest rates are determined by the interaction between the aggregate
demand and supply of loanable funds for each segment.

a. Liquidity premium

c. Unbiased expectations

b. Market segmentation

d. Fisher effect

9. You go to the Bangko Sentral ng Pilipinas and notice that yields on almost all corporation and
Treasury bonds have decreased. The yield decreases may be explained by which one of the
following?

a. Increases in the Philippine government budget deficit

b. The newly expected decline in the value of the peso

c. A decrease in Philippine inflationary expectations

d. An increase in current and expected future returns of real corporate investments

10. The difference between long-term corporate bonds and long-term government banks:

a. inflation premium and default risk premium.

b. special provision and maturity risk premium.

c. default risk premium and liquidity premium.

d. default risk premium and maturity risk premium.

Instruction: Encircle the letter that corresponds to the correct answer.

1. In general, financial security with good credit standing will offer.

a. higher yield

b. lower yield

c. the same yield

d. yields depending on the move of the lender.

2. Credit (default) risk is likely to be lowest for.

a. AAA corporate securities

c. BBB corporate securities

b. Treasury bonds

d. AA corporate securities

3. According to the market segmentation theory, if most investors suddenly preferred to invest in
long-term securities and most borrowers suddenly preferred to issue short- term securities, there
would be

a. Upward pressure on the price of long-term securities and upward pressure on the yield
of long-term securities

b. downward pressure on the price of long-term securities

c. downward pressure on the short-term yields

d. downward pressure on the yield of long-term securities

4. Holding other factors such as risk constant, the relationship between the maturity and the yield
of debt securities is called the as the

a. default structure of interest rates

 b. market segmentation theory

c. liquidity structure of interest rates

d. Answer is not given

5. If shorter-term securities have lower annualized yields than longer-term securities, the yield
curve

a. is horizontal.

b. is upward sloping.

c. is downward sloping.

d. Answer is not given

6. Assume that annualized yields of treasury bills and treasury bonds are equal. If Investors
suddenly believe that interest rates will increase, their actions may cause the yield curve to

a. become inverted.

b. become flat.

c. become upward sloping.

d. be unaffected.

7. The yield offered on a corporate bond is - related to the prevailing risk-free rate and. - related
to the security's (DEFAULT) risk premium.
a. negatively; negatively

c. positively; negatively

b. negatively; positively

d. positively; positively

8. According to the liquidity premium theory, an investor who earns a 6.0% yield on two- year
security will invest in one year securities. the expected yield from the consecutive
 a. equal

c. be greater than

b. be less than

d. cannot be determined

9. The theory of the term structure of interest rates, which states that investors and borrowers
choose securities with maturities that satisfy their forecasted cash needs, is the

a. Fischer effect theory.

c. liquidity premium theory.

b. pure expectations theory.

d. segmented markets theory.

10. Other things being equal, the yield required on AA-rated bonds must be – the yield required
on AAA-rated bonds in which other characteristics are the same.

a. greater than

b. equal to

c. less than

d. All of these are possible, depending on the size of the bond offering.

11. An upward-sloping yield curve indicates that Treasury securities with - maturities offer -
annualized yields.

a. shorter, lowest

c. longer, lower

b. shorter, higher
 d. longer, higher

12. The yield curve for corporate bonds

a. is irrelevant to the investors

b. would typically lie below the Treasury yield curve.

c. identical to the Treasury yield curve.

d. typically has the same slope as the Treasury yield curve.

Instruction: Encircle the letter that corresponds to the correct answer.

1. Miss Alto invested in the current one-year Treasury bill with a rate of 3.15 percent. The
expected one-year rate 12 months from now is 5.15 percent. According to the unbiased
expectations theory, what should be the current rate for a two-year Treasury security?

a. 3.70 percent

b. 4.15 percent

c. 2.36 percent

d. 4.74 percent

2. What is the real risk-free rate of return (r*) if a 1-year T-bills currently yield 7.00% and the
future inflation rate is expected to be constant at 2.60% per year?

a. 3.80%

b. 3.99%

с. 4.19%

d. 4.40%
3. Currently, 10-year T-bonds have a yield of 5.00% and 10-year corporate bonds yield 6.75%.
Also, corporate bonds and T-bonds have a liquidity premium of 0.30% and zero, consecutively.
The maturity risk premium on both Treasury and corporate 10-year bonds is 1.15%. What is the
default risk premium on corporate bonds?

a. 1.08%

b. 1.20%

C. 1.32%

d. 1.45%

4. ABC Corporation's 5-year bonds yield 6.50% and 5-year T-bonds yield 4.70%. The real
risk-free rate is r* = 2.5%, the inflation premium for 5-year bonds is IP = 1.50%, the default risk
premium for ABC's bonds is DRP = 1.35% versus zero for T-bonds, and the maturity risk
premium for all bonds is found with the formula MRP (t-1) x 0.1%, where t number of years to
maturity. What is the liquidity premium (LP) on ABC's bonds?

a. 0.36%

b. 0.41%

c. 0.45%

d. 0.50%

5. Currently, the interest rate on a 1-year T-bond is 5.0% and that on a 2-year T-bond is 6.37%.
Assuming the pure expectations theory is correct, what is the market's forecast for 1-year rates 1
year from now?

a. 7.36%

b. 7.76%

с. 8.16%

d. 9.04%
6. Utangan Corporation requires a 4 percent increase in purchasing power to induce lending.
Utangan expects inflation to be 3 percent next year. The nominal rate the firm must charge is
about.

a. 4 percent

b. 3 percent

c. 1 percent

d. 7 percent

7. This year, 2021, the real risk-free rate of interest is 7 percent. Inflation is expected to be 4
percent this coming 2022, will increase to 5 percent in 2023, and increase to 6 percent in 2024.
According to the expectations theory, what should be the interest rate on 3-year, risk-free
securities today?

a. 6%

b. 8%

c. 12%

d. 18%

8. The following information was provided by APM.

r* real risk-free rate = 3%

The maturity risk premium on 10-year T-bonds = 2%.

The maturity risk premium on an on 1-year bond = 0%

Default risk premium on 10-year, A-rated bonds = 1.5%.

Liquidity premium = 0%.

Going interest rate on 1-year T-bonds = 9.5%.

What is the expected rate of inflation during the next year?

a. 3.5%

c. 5.5%

b. 4.5%

d. 6.5%

9. The following information was provided to you for analysis.

Real risk-free rate is r* = 3%

Inflation premium for 5-year bonds is IP = 1.75%

Liquidity premium for Huang's bonds = 0.09%

Liquidity premium for T-bonds = 0.00%

The maturity risk premium for all bonds is found with the formula MRP (t-1) x 0.1% where t =
the number of years to maturity.

If Huang Corporation's 5-year bonds yield is 12.50% and the 5-year T-bonds yield 5.15% what is
the default risk premium (DRP) on Huang's bonds?

a. 5.94%

b. 6.60%

c. 7.26%

d. 7.99%

10. Currently, the real risk-free rate is r* = 2.75%, the inflation premium for 5-year bonds IP =
1.65%, the liquidity premium is 2%, the default risk premium for Sarah bonds is DRP = 1.20%
versus zero for T-bonds, and the maturity risk premium for all bonds is found with the formula
MRP = (t-1)x0.1%, where t = number of years to maturity. If the 5-year T-bonds yield 4.80%,
what is the yield of the corporate bond?
 a. 4.8%

b. 6.0%

с. 6.8%

d. 8.0%

Instruction: Encircle the letter that corresponds to the correct answer.

1. Kimi wants to invest in government security. In this connection, she conducted research and
found out that the real risk-free rate is 3.00%, the average expected future inflation rate is 2.25%,
and a maturity risk premium of 0.10% per year to maturity applies, i.e., MRP = 0.10%(t), where
t is the years to maturity. What rate of return would Kimi expect on a 2-year Treasury security,
assuming the pure expectations theory is NOT valid?

a. 5.25%

c. 6.75%

b. 5.45%

d. 6.95%

2. Let us assume that the real risk-free rate is r* = 3.5%, the default risk premium for ADT's
bonds is DRP = 1.90% versus zero for T-bonds, the liquidity premium on ADT's bonds is LP =
1.3%, and the maturity risk premium for all bonds is found with the formula MRP= (t-1)x0.1%,
where t = number of years to maturity. If ADT Corporation's 5-year bonds yield 8.5% and 5-year
T-bonds yield 5.3%, what is the inflation premium (IP) on all 5-year bonds?

a. 1.02%

C. 1.32%

b. 1.20%
 d. 1.40%

3. Let us assume that the real risk-free rate is r* = 2.5%, the default risk premium for SGC's
bonds is DRP = 0.50%, the liquidity premium on SGC's bonds is LP = 2.0% versus zero on
T-bonds, and the inflation premium (IP) is 1.5%. If SGC Inc's 5-year bonds yield 7.5% and
5-year T-bonds yield 4.80%, what is the maturity risk premium (MRP) on all 5-year bonds?

a. 0.70%

c. 0.90%

b. 0.80%

d. 1.00%

4. ABC Corporation invested in 1-year T-bills that currently yield 7.00%. It is expected that the
future inflation rate will be constant at 2.60% per year. What is the real risk-free rate of return,
r*? The cross-product term must be considered, i.e., if averaging is required, use the geometric
average.

a. 3.68%

c. 4.29%

b. 4.06%

d. 4.48%

5. ABC Corporation is planning to invest in a 1-year T-bond that yields 5.0% or in a 2-year
T-bond that yields 7.0%. Assuming that the pure expectations theory is correct, what is the
market's forecast for 1-year rates 1 year from now to make an investment indifferent for both
options?

a. 7.75%

c. 8.59%

b. 8.16%

d. 9.04%
6. Assume MNO Corporations are indifferent to security maturities. Today, the annualized 2-year
interest rate is 12 percent, and the 1-year interest rate is 8 percent. What is the forward rate
according to the pure expectations theory?

a. 3.70%

c. 16.15%

b. 4.14%

d. 25.44%

7. ABC Corporation is planning to invest in the 2nd period with a one-year maturity. Assume
that the current yield on one-year securities is 6 percent and that the yield on two-year security is
7 percent. If the liquidity premium on two-year security is 0.4 percent, what is the expected
one-year forward rate?

a. 6.42 percent

c. 8.07 percent

b. 7.58 percent

d. 14.49 percent

8. The annualized interest rate on three-year security is 10 percent, while the 10/19 interest rate
on two-year security is 7 percent. Use this information to estimate the one-year forward rate two
years from now.

a. 2.80%

c. 16.25%

b. 3.00%

d. 18.61%
9. Assume that interest rates for one-year securities are expected to be 2 percent today, 4 percent
one year from now, and 6 percent two years from now. Using only the pure expectations theory,
what are the three-year securities?

a. 3.98%

с. 6.00%

b. 4.50%

d. 8.28%

10. Bangko Sentral ng Pilipinas reported the following interest rates of 2.25 percent, 2.60
percent, 2.30 percent, and 3.20 percent for three-year, four-year, five-year, and six-year Treasury
note yields, respectively. According to the unbiased expectations theory of the term structure of
interest rates, what is the expected one-year rate for year 6?

a. 3.66%

с. 4.61%

b. 4.51%

d. 7.82%
CHAPTER 3
Instruction: Write T if the answer is True and F if the answer is False in the space provided
for each number.

1. Money consists of bills and coins that are generally accepted as payment for goods and
services. TRUE

2. The barter system is the simplest form of exchanging goods and services. FALSE

3. Through the use of commodities, money trading became simpler and the existence of a unit of
measure became feasible. TRUE

4. No other asset is as liquid as money, because money is itself, a medium of exchange. TRUE

5. A store of purchasing power is the most important function of money. FALSE

6. Full-bodied money is a monetary standard based on two metals, usually silver and gold.
FALSE

7. Money is anything generally accepted as a means of paying for goods and services and for
paying off debts. TRUE

8. Most of the financial assets added to the M2 definition of money supply provide their owners
with a higher rate of return than M1 financial assets. TRUE

9. A part of the Jamaica Accord of 1976 was to downgrade the role of gold in the international
monetary system. TRUE

10. For countries to participate in the exchange of goods, services, and assets, a domestic
monetary system is needed to facilitate economic transactions. FALSE

11. Economists view that the highly developed and dynamic economic system would be possible
even without an equally sophisticated financial system. FALSE

12. The commodity used as money should last for a long period. It should be able to withstand
normal wear and tear. TRUE

13. The Central Bank of the Philippines, the country's central monetary authority, is an
independent corporate entity and serves as the guardian of price and banking stability and plays
an important role in the lives of all Filipinos and the economy. FALSE
14. All notes and coins issued by the BSP are fully guaranteed by the Government and are
considered legal tender for all private and public debts. TRUE

15. The powers and functions of BSP are exercised by its Monetary Board, which has nine
members appointed by the President of the Philippines. FALSE

16. Monetary policy is the management of the expansion and construction of the volume of
money in circulation for the explicit purpose of attaining a specific objective, such as full
employment. TRUE

17. Inflation targeting focuses mainly on achieving price stability as the ultimate objective of
monetary policy. TRUE

18. Reserve requirements are a percentage of commercial banks, and other depository institutions
and demand deposit liabilities that must be kept on deposit at the BSP as a requirement of
Banking Regulations. TRUE

19. Monetary policy can be used to overcome recession and control inflation. It may be defined
as a deliberate change in government revenue and expenditure to influence the level of national
output and prices. FALSE

20. The anti-inflation effect of a budget surplus depends on what the government does with the
surplus. TRUE

21. The spending-taxation decisions of the government are made in a political environment in
which the majority must be satisfied, or satisfied enough to continue to vote for its elected
representatives. TRUE

22. The non-discretionary fiscal policy does offer government policymakers potential tools to use
for stimulating the economy during a recession or for contracting the economy during a period of
high inflation. FALSE

23. The full-employment budget refers to the budget deficit or surplus that would result from
existing tax and spending programs if the economy were operating at full employment. TRUE

24. The taxing and spending decisions of state and local governments may counteract or reduce
the effectiveness of fiscal policy decisions at the federal level. TRUE
25. The crowding-out effect is the notion that government borrowing to finance a deficit may
crowd out or reduce private borrowing. TRUE

Instruction: Encircle the letter that corresponds to the correct answer.

1. Money is most correctly defined as anything that:

a. is generally accepted as payment of goods and services and for discharging debts

b. has general value in exchange

c. is designed by the government as a means of discharging obligations

d. is accepted by the government as a means of paying taxes

2. Which of the following financial functions is a basic requirement for an effective financial
system for the monetary system?

a. formation and transferring of money

b. storing gold and silver to back up money

c. creating jobs

d. transferring real assets

3. An economy's _____ is the interaction of policymakers, a monetary system, financial

institutions, and financial markets to expedite the flow of financial capital from savings into
investment.

a. banking system

b. stock market

c. capital market

d. financial system
4. When it is a means of paying for goods and services and discharging debts, money is referred
to as a

a. store of purchasing power

b. medium of exchange

c. standard of value

d. liquid asset

5. Which of the following describes the basic function of money?

a. store of purchasing power

b. standard of value

c. medium of exchange

d. Liquidity

6. It is the function of money that expresses prices and contracts for deferred payments terms of
the monetary unit is referred to as:

a. store of purchasing power

c. medium of exchange

b. standard of value

d. credit money

7. Which of the following would not be considered liquid?

a. Money in savings accounts

d. All the above are liquid

b. Coins
 e. None of the above is liquid

c. Currency

8. M1 is also known as

c. Liquidity

a. Real money

d. Answer is not given

b. Broad money

9. Currency in circulation is

a. M1

c. M3

b. M2

d. Cannot be determined

10. A savings deposit is an example of.

a. M1

c. M3

b. M2

d. Cannot be determined

11. A deposit substitute is.

a. M1

c. M3
 b. M2

d. Cannot be determined

12. A time deposit is an example of

a. M1

c. M3

b. M2

d. Cannot be determined

Instruction: Encircle the letter that corresponds to the correct answer.

1. Barter involves the exchange of.

a. goods for gold

c. gold for silver

b. goods for silver

d. goods and services

2. The three functions of money are.

a. medium of exchange, store of value, and measure of liquidity

b. conduit for international trade, store of value, and standard of value

c. medium of exchange, store of value, and unit of account

d. inflation hedge, a measure of liquidity, and medium of exchange

3. Functions of money include all of the following EXCEPT.

a. Money serves as a medium of exchange.

b. Money may be held as a store of value.

c. Money serves as a unit of account.

d. All of the above are functions of money.

4. Money decreed to be "legal tender" for the payment of debts is money backed by

a. precious metals

c. government creditworthiness

b. commodities

d. gold or silver

5. An effective financial system must have.

a. several sets of policymakers who pass laws and make decisions relating to fiscal and
monetary policies

b. an efficient monetary system for creating and transferring money

c. financial markets that facilitate the transfer of financial assets amongst individuals,
institutions, and businesses

d. All of the above

6. It came in bullion form, or just simple pieces of metal, and not as coins.

a. barter

c. metallic money

b. commodity currency
 d. standardized coinage

7. Goods like leather, cattle, salt, tobacco, and wool are used as a medium of exchange.

a. barter

c. metallic money

b. commodity currency

d. standardized coinage

8. It was born due to an increasing volume of economic activity. The merchants, nobles rich and
monarchs are eager to borrow and willing to pay high-interest rates.

a. barter

c. metallic money

b. paper currency

d. standardized coinage

9. Which among the following is not a criterion for a commodity to function as money?

a. It must be easily standardized

c. It must be indivisible

b. It must be easily accepted

d. It must be easy to carry

10. Which of the following factors does not affect the fiscal policy?

a. Economic recession

c. Progressive tax

b. Budget surplus
 d. Interest rate

11. All of the following are used by BSP to implement monetary policy, except

a. open market operations

c. discount rate policy

b. reserve requirements

d. answer not given

12. This policy refers to increases in government spending or decreases in taxes or both so that
the net effect on aggregate demand is an increase in net government spending.

a. Expansionary fiscal policy

c. Discretionary fiscal policy

b. Contractionary fiscal policy

d. Nondiscretionary fiscal policy

CHAPTER 4

Instruction: Write T if the answer is True and F if the answer is False in the space provided
for each number.

1. A money market is a place where short-term debt securities like commercial paper, banker's
acceptances, and repurchase agreements are issued. TRUE

2. Like the capital market, the money market is traded in a formal exchange. FALSE

3. The parties in the money market include corporations, financial institutions, and the
government. TRUE

4. Money market securities are issued by entities that are highly liquid and need money in a
short period. TRUE

5. Discounting is the process of knowing the present value of any amount in the future. TRUE

6. A bond equivalent yield is a useful tool used by investors to determine the annual yield on the
security offered at the add-on. FALSE

7. To make a comparison of financial instruments with different compounding periods, the

effective annual rate (EAR) is used. TRUE

8. Treasury bills and negotiable certificates of deposits are bought and sold on a discount basis.
FALSE

9. Commercial paper is an example of money paper that pays interest at the maturity date.
FALSE

10. The single payment yield is intended for securities where the interest payment together with
the principal is made at the maturity period. TRUE

11. The maturity value less the discounted value is the profit earned in investing in a repurchase
agreement. TRUE

12. The BSP designates secondary government securities dealers who will purchase the majority
of the T-bills sold competitively in the auction. TRUE
13. A certificate of time deposit is issued by the Bangko Sentral ng Pilipinas to their depositors
who would like to invest their excess money for less than a year. FALSE

14. One advantage of a money market fund is that it allows small investors to have access to
professionally managed and diversified portfolios. TRUE

15. The open-end investment companies operate within a fixed number of units or shares and do
not issue new shares of stock regularly. TRUE

16. Term money is part of the money market that is loaned or deposited for a fixed period.
TRUE

17. The Euro currency is when a multinational corporation where the home office is located in
the US puts up a regional office in London. FALSE

18. LIBOR is the rate offered to Eurodollar funds offered in the international money market.
TRUE

19. Bankers' acceptances are mainly used for transactions to finance the shipment and handling
of merchandise by the exporter (AND IMPORTER). TRUE

20. Issuance of commercial papers needs the approval of the BSP before it is issued or sold.
FALSE

21. The prime rate is the rate offered to valued clients. TRUE

22. The investment in money market funds is composed of the pool of funds coming from
investors to invest them in securities. TRUE

23. The Negotiable Certificate of Deposit has a secondary market where the investor can sell it at
realizable value before its maturity. TRUE

24. Commercial paper and T-bills can be traded in the secondary market. TRUE

25. T-bills are bought and sold by the government as a tool to implement monetary policy.
TRUE

Instruction: Encircle the letter that corresponds to the correct answer.

1. It is a money market security sold at an auction at a discount from par value.

a. Commercial paper

c. Negotiable certificate of deposit

b. Treasury bills

d. Banker's acceptances

2. These are securities with maturities of one year or less.

a. capital market instruments

c. preferred stock

b. money market instruments

d. mortgage securities

3. A negotiable certificate of deposit and repurchase agreement is sold.

a. at the future value

c. at a premium above par value

b. at a discount from the par value

d. at present value

4. All are money market security, except

a. commercial paper

c. negotiable certificate of deposit

b. Treasury bill

d. preferred stock
5. T-bills and commercial paper are sold.

a. with a stated coupon rate

c. at a premium above par value

b. at a discount from par value

d. at par value

6. Which of the following is/are a money market instrument?

I. banker's acceptance

II. commercial paper

III. repurchase agreements

a. I and II

c. I and III

b. II and III

d. All of them

7. It is a financial instrument used by exporters and importers where the bank guarantees
a future payment to a firm.

a. a repurchase agreement.

c. a banker's acceptance.

b. a negotiable certificate of deposit.

d. commercial paper.

8. It is a money market transaction that is most likely to represent a loan from one commercial
bank to another.
 a. Banker's acceptance

c. Overnight borrowing

b. Negotiable certificate of deposit

d. Commercial paper

9. Which of the following financial securities does not have a secondary market?

a. Commercial paper

c. Negotiable certificate of deposit

b. Treasury bill

d. Banker's acceptance

10. One of the following securities is used by financial institutions in a repo transaction.

a. commercial paper

c. Treasury bill

b. certificate of deposit

d. common stock

Instruction: Encircle the letter that corresponds to the correct answer.

1. The commercial paper is issued at.

a. single payment yield

c. yield to call

b. discounted yield
 d. future value

2. LIBOR is

a. the interest rate charged on international interbank loans.

b. the average rate charged on commercial loans in Asia

c. the rate charged by the BSP for loans to banks.

d. Answer not given

3. Which of the following are the characterized money market securities?

I. Minimal trading costs

II. Minimal price volatility

III. Life greater than one year

a. I and II

c. I and III

b. II and III

d. I, II, and III

4. A repurchase agreement in essence uses financial institutions as collateral for another

a. commercial paper loan.

c. certificate of deposit.

b. banker's acceptance.

d. treasury bill
5. It is a short-term unsecured promissory note issued by a company.

a. Commercial paper.

c. Certificate of deposit.

b. Banker's acceptance.

d. Treasury bill

6. A time draft payable to a seller of goods with payment guaranteed by a bank is a

a. commercial paper

c. repurchase agreement

b. treasury bill.

d. banker's acceptance

7. Which of the following money market securities can be sold in the secondary market?

I. Treasury bill

II. Commercial paper

III. Negotiable certificate of deposit

a. I and II

c. II and III

b. I and III

d I, II, and III

8. Which of the following statements shows the difference between the discount yield on a T-bill
and the T-bill's bond equivalent yield (BEY)?
I. The discount yield is the return per peso of face value and the BEY is a return per peso
originally invested.

II. A 360-day year is used on the discount yield and the BEY uses 365 days.

III. The discount yield is calculated without compounding, and the BEY is calculated with
compounding.

a I and II only

c. I and III only

b. I and III only

d. I, II, and III

9. The following formula is used to calculate the investment. of a money market

Pf -Po x 365
Po n

a. discount yield

c. effective annual return

b. bond equivalent yield

d. single-payment yield

10. Which one of the following statement/s is/are true about the commercial paper?

I. It is an unsecured short-term promissory note.

II. The company allowed to issue is highly liquid

III. It has no secondary market.

a. I and II

c. II and III
 b. I and III

d. I, II, and III

Instruction: Encircle the letter that corresponds to the correct answer.

1. Rottie bought a P10 million face value commercial paper with a 270-day maturity and is
selling it for P9.55 million. What is the bond equivalent yield on the commercial paper?

a. 4.71 percent

c. 6.37 percent

b. 6.42 percent

d. 6.28 percent

2. Richard bought a P10,000 par Treasury bill at P9,575 and sold it 60 days later for P9,675.
What was Richard's effective annual rate?

a. 6.29 percent

c. 6.52 percent

b. 6.35 percent

d. 6.67 percent

3. A 180-day. P3 million negotiable certificate of deposit had a 4.25 percent annual rate quote. If
ABC Corporation bought the CD, how much would ABC Corporation collect in 180 days?

a. P3,047,439

c. P3,062,877
 b. P3,045,678

d. P3,063,750

4. Ms. Grande, a Philippine exporter, sells P150,000 of furniture to a London importer. The
exporter requires the importer to obtain a letter of credit. When the bank accepts the draft, the
exporter discounts the 120-day note at a 5.25 percent discount. What is Ms. Grande's effective
annual rate?

a. 5.52%

c. 5.32%

b. 5.42%

d. 5.29%

5. A firm plans to issue a 30-day commercial paper for P9,900,000. The par value is
P10,000,000. What is the firm's discount yield?

a. 12.00%

c. 12.17%

b. 12.12%

d. 12.28%

6. ABX is a T-bill dealer authorized by BSP. ABX quoted a P10,000 face 180-day T-bill quoted
at 2.75 bid, 2.65 ask. You could buy this bill at, or sell it at

a. P9,869.23; P9,864.36.

c. P9,867.50; P9,862.50.

b. P9,864.36; P9,869.23.

d. P9,862.50; P9,867.50.
7. Mariel Transport purchases a Treasury bill with a P10,000 par value for P9,645. One hundred
days later, Mariel sells the T-bill for P9,719. What is Mariel's expected annualized yield from this
transaction?

a. 2.74%

с. 2.78% (2.83%)

b. 2.76%

d. 3.38%

8. FLT invested in a T-bill. If he requires a 5 percent annualized return on a six-month T-bill with
a par value of P10,000, how much is he willing to pay?

a. 10,000

c. 9,759

b. 9,524

d. None of these are correct. (9,750)

9. APM buys commercial paper with a 60-day maturity for P985,000. The Par value is
P1,000,000, and the investor holds it to maturity. What is its discount yield?

a. 9.00%

c. 9.14%

b. 9.13%

d. 9.26%

10. Joyce Malto purchased an NCD a year ago in the secondary market for P980,000. She
redeems it today and receives P1,000,000. She also receives an interest of P30,000. Ms. Malto's
annualized yield on this investment is.

a. 2.0 percent
 c. 5.00 percent

b. 5.10 percent

d. 2.04 percent

Instruction: Encircle the letter that corresponds to the correct answer.

1. A repurchase agreement calls for an investor to buy securities for P4,925,000 and sells them
back in 60 days for P5,000,000. What is the yield?

a. 9.43 percent

c. 9.14 percent

b. 9.28 percent

d. 9.00 percent

2. An investor initially purchased securities at a price of P9,923,418, with an agreement to sell

them back at a price of P10,000,000 at the end of 90 days. What is the bond equivalent yield of
the repo?

a. 3.06%

c. 3.11%

b. 3.09%

d. 3.13%

3. An investor initially purchased securities at a price of P9,923,418, with an agreement to sell

them back at a price of P10,000,000 at the end of 90 days. What is the effective annual rate of the
repo?

a. 3.06%
 c. 3.11%

b. 3.09%

d. 3.17%

4. May purchased a six-month (182-day) T-bill with a P100,000 par value for P97,000. What is
the T-bills discount yield?

a. 3.09%

с. 6.02%

b. 5.93%

d. 6.20%

5. May purchased a six-month (182-day) T-bill with a P100,000 par value for P97,000. What is
the T-bills bond-equivalent yield?

a. 3.09%

c. 6.02% Answer: 6.20%

b. 5.93%

d. 6.11%

6. What is the effective annual return on a P5 million commercial paper that currently sells at
98.50 percent of its face value and is 120 days from maturity?

a. 4.50%

c. 4.63%

b. 4.56%

d. 4.70%
7. What is the effective annual rate on fed funds that are 3 days from maturity and have a quoted
nominal yield of 0.25 percent?

a. 0.2468%

c. 0.2535%

b. 0.2530%

d. 0.2538%

8. Suppose a bank enters a repurchase agreement in which it agrees to buy Treasury securities
from a correspondent bank at a price of P24,990,000, with the promise to buy them back at a
price of P25,000,000. What is the yield on the repo if it has a 7-day maturity?

a. 2.0571%

c. 2.0857% Answer: 2.0580%

b. 2.0865%

d. 2.1072%

9. ABC bought commercial paper from a major Philippine corporation for P498,000. The paper
has a face value of P500,000 and is 45 days from maturity. What is the discount yield in buying
the commercial paper?

a. 3.20%

c. 3.24%

b. 3.22%

d. 3.26%

10. Kathleen purchased a three-month, P500,000 negotiable CD, with a quoted nominal yield of
0.50% percent. What is its bond equivalent yield?

a. 0.4931%
c. 1.9724%

b. 0.5069%

d. 2.0276%