4 Suppose two banks XYZ and ABC are equallyrated (as re- gards risk). Suppose that XYZoffers and charges customers 4% interest ondeposits or loans, while ABC offers andcharges 6% interest. Seeing this sit- uation,how could you make a riskless profit withoutusing any of your own money? You shouldprovide an explicit strategy for achieving this,and explain any problems you might havecarrying it out in practice. If the two bankswere not equally rated, what possible reasoncould you give for the difference in interestrates?

There are two banks XYZ and ABC are equally rated banks. Where XYZ is offering a 4% interest rate…

Answered: charges 6% interest. Seeing this sit-…

Essentials Of Investments

11th Edition

ISBN:9781260013924

Author:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.

Publisher:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.

Chapter1: Investments: Background And Issues

Section: Chapter Questions

Problem 1PS

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We think of banks as being interest rate intermediaries. That is, the borrow cheaply, and then lend at higher rates, and the spread between those is their profit. But, besides interest rates, what other sorts of risks do banks face?
3. Consider the model of Credit Risk and Dilution Costs in Freixas and Rochet 2.5.5 based on Bolton and Freixas (2000) where firms have to choose between Bond financing, Equity Issue and Bank debt. Firms live for two periods and in each period will obtain, y, if suc- cessful and zero if unsuccessful. The probability of success in period 2 is 1 for good firms and O for bad firms, where each firms knows its own type but lenders cannnot see this type, where the proportion of good firms in period 2 is v. The probability of success in period 1 is uniformly distributed independently of type over the interval [plow, 1]. This probability is observable and represents a frim's credit rating. Under bond financing,the firm is liquidated for value A if unsuccessful in period 1. Under equity issue a share ac 0, 1] of any cash flow is given to the investors and under bank debt, if the firms defaults in period 1 then bank will claim all revenues in period 2 at a cost of C for monitoring and…
Suppose the management of a firm is trying to allocate liquid assets to two accounts, one of which is riskless but pays no interest, while the other offers a risky return. Assume the rate of return r on the second account is uniformly distributed over the range [-0.5, 0.5]. Let R denote the amount currently available for allocation to the two accounts, and S denote the amount invested in the risky asset. Suppose management would like to make the next period investment value as large as possible but subject to the condition that R + Sr not fall below 95% of the original value of R too often so that if the investment falls below 95% of its original value, it should not do so more than 25% of the time. Calculate the ratio of investment and the amount available, that is, a = R
Kindly answer this question as soon as possible!
A)What is the amount of RSA, RSL and the income gap amount? B) Calculate the duration gap. C)What is the change in this bank’s net income if the interest rises by 1%, does it go up or does it go down? Show work D) What happens when the interest rises by 1% to this bank’s asset value, liability value and the net worth in dollar amounts? Show work.
Complete the following table : Aggressive IS Gap ManagementDefensive IS Gap Management Rising Market Interest Rates What steps will a bank take to put in place an aggressive /defensive strategy in the face of rising interest rates. Paragraph BIEE
(1) Why is the risk-free return independent of the state of the economy? Do T-bills promise a completely risk-free return? (2) Why are High Tech’s returns expected to move with the economy whereas Collections’ are expected to move counter to the economy? Calculate the expected rate of return on each alternative and fill in the row for in the table. You should recognize that basing a decision solely on expected returns is appropriate only for risk-neutral individuals. Because the beneficiaries of the trust, like virtually everyone, are risk averse, the riskiness of each alternative is an important aspect of the decision. One possible measure of risk is the standard deviation of returns. (1) Calculate this value for each alternative, and fill in the row for σ in the table. (2) What type of risk does the standard deviation measure? (3) Draw a graph that shows roughly the shape of the probability distributions for High Tech, U.S. Rubber, and T-bills. Suppose you suddenly remembered that…
Banks use gap analysis to measure interest rate risk in their balance sheets. If firm XYZ is said to have a positive gap, this means: Group of answer choices C. Rate-sensitive assets exceed rate-sensitive liabilities B. Long-term assets are funded with short-term liabilities D. Rate-sensitive assets equal rate-sensitive liabilities A. Liabilities reprice before assets
An employee at Azai Bank seeks to evaluate a transaction using the risk-adjusted return on capital (RAROC) model. The transaction entails extending a loan to an agro-based entity with the following details:- The risk-free rate of return is 7%- Loss given default (LGD) = 51%- Exposure at default (EAD) = ZMW 2.5 million- Probability of default (PD) = 40 basis points The bank's economic capital (EC) model assesses an EC charge for the firm, equivalent to 5% of EAD, amounting to ZMW 100,000. Assuming a RAROC hurdle rate of 15%, the transaction yields a net profit of ZMW 14,000 before other adjustments. Tasks:A. Calculate the bank’s risk-adjusted rate of return on the loan to the agricultural company. B. Additionally, consider the scenario where the bank could have extended a loan of the same amount, generating an identical net profit of ZMW 14,000 before adjustments to a pharmaceutical products manufacturing firm, with an EC of 2.5%. C. Determine which loan the bank should prioritize…
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charges 6% interest. Seeing this sit- uation, how could you make a riskless profit witho using any of your own money? You should provide an explicit strategy for achieving th and explain any problems you might have carrying it out in practice. If the two banks