(Test Bank) Multinational Finance

Butler, 3

Business

Test Bank

3rd Edition

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Kirt C. Butler, Multinational Finance, 3rd edition Test Bank True/false questions Multiple choice questions Problems to accompany Multinational Finance by Kirt C. Butler Third Edition lOMoARcPSD|1935369 Kirt C. Butler, Multinational Finance, 3rd edition PART I Overview and Background Chapter 1 An Introduction to Multinational Finance True/False 1. MNCs have investment or financial operations in more than one country. ANS: True. 2. Because of globalization in the world‟s markets, a multinational financial manager is more likely than a domestic financial manager to specialize in finance to the exclusion of other fields of business. ANS: False. The multinational financial manager must be well versed in each of the business disciplines in which the MNC is involved. 3. The domestic financial manager must be knowledgeable in several areas within finance, whereas the multinational financial manager usually specializes in a single area, such as corporate finance, investments, or financial markets. ANS: False. The multinational financial manager is likely to require knowledge of several fields within finance. 4. The investment opportunity set is the set of investments available to the corporation; that is, the set from which the company must select. ANS: True. 5. Types of market efficiency used to describe the performance of financial markets are allocational, operational, and transactional efficiency. ANS: False. Three types of market efficiency are allocational, operational, and informational . 6. An informationally efficient market is one with abundant information. ANS: False. It is a market in which prices fully reflect available information. 7. Allocational efficiency refers to how efficiently a market channels capital toward its most productive uses. ANS: True. 8. Allocational efficiency refers to whether a market allocates capital to those investments deemed most worthy by a host government. ANS: False. Allocational efficiency refers to how efficiently a market channels capital toward its most productive uses in an economic, rather than a political, sense. 9. Operational efficiency refers to how large an influence transactions costs and other market frictions have on the operation of a market. ANS: True. 10. The MNC faces greater constraints than the domestic corporation in the timing of its investments. ANS: False. Multinationals typically have more flexibility in timing, location, and operation. 11. Risk exists whenever actual outcomes can differ from expected outcomes. ANS: True. 2 lOMoARcPSD|1935369 12. Assets and liabilities are exposed to currency risk when their values can change with unexpected changes in currency values. ANS: True. 13. “Currency risk” and “currency risk exposure” refer to the same thing - the possibility that currency values will differ from their expectations. ANS: False. A firm is exposed to currency risk when its assets or liabilities can change in value with unexpected changes in currency values. 14. Political risk is the risk that the business environment in a host country will change unexpectedly due to political events. ANS: True. 15. The terms “stakehol ders” and “shareholders” are synonymous. ANS: False. Stakeholders include all those with a stake in the firm. A broad definition of stakeholders includes the firm‟s creditors, customers, suppliers, and employees. 16. Exporting through a foreign sales agent requires little resource commitment and helps to insulate the exporter from the costs and risks of foreign market entry. ANS: True. 17. Foreign direct investment is when a multinational corporation builds productive capacity in a foreign country. ANS: True. 18. The easiest mode of entry into foreign markets is foreign direct investment. ANS: False. FDI is one of the most difficult entry modes. 19. Contract-based modes of entry into foreign markets include foreign sales agents and foreign sales branches. ANS: False. International licensing and franchising, reciprocal market agreements, and management contracts are contract-based entry modes. 20. Foreign direct investment requires a relatively large resource commitment from the parent firm. ANS: True. 21. The sales and marketing benefits of foreign direct investment are usually less than those of export entry into foreign markets. ANS: False. With established operations in the foreign country, multinational corporations are able to promote their products and services more effectively . 22. Licensing provides quick and relatively low-risk entry into foreign markets as long as the parent can protect its intellectual property rights. ANS: True. 3 lOMoARcPSD|1935369 Kirt C. Butler, Multinational Finance, 3rd edition 23. The main reason for investment -based foreign market entry is to minimize cultural risk. ANS: False. The main reasons are the potential for higher sales and lower costs. 24. According to product cycle theory, new products are typically tested in foreign markets and then are introduced into the home market. ANS: False. New products are usually introduced in the home market. 25. Corporations often try to extend their product life cycles by entering foreign markets. ANS: True. Multiple Choice 1. Entry modes into international markets include each of a) through d) except . a. exporting b. franchising c. investment d. licensing e. each of the above is an entry mode ANS: E 2. For manufacturing firms with patents, the most important difference between the various foreign market entry modes for manufacturing firms is in whether o r not the parent firm maintains control of . a. distribution b. marketing c. packaging d. production e. purchasing ANS: D 3. Resource commitment is highest for which foreign market entry mode? a. exporting through foreign sales agents b. exporting through foreign sales branches c. foreign direct investment d. foreign joint venture e. licensing ANS: C 4. The fastest way to gain access to a foreign market is by . a. exporting through foreign sales agents b. exporting through foreign sales branches c. foreign acquisition d. foreign direct investment e. foreign joint venture ANS: A 5. The foreign market entry mode with the lowest sales potential is . a. exporting through foreign sales agents b. exporting through foreign sales branches c. foreign direct investments 4 lOMoARcPSD|1935369 d. foreign joint ventures e. licensing ANS: A 6. Import barriers on manufactured goods are the biggest obstacle for . a. exporting through domestic sales agents b. licensing c. foreign direct investment d. foreign acquisitions e. foreign joint ventures ANS: A 7. Capital market investment restrictions are the biggest obstacle for . a. exporting through foreign sales agents b. exporting through foreign sales branches c. licensing d. foreign acquisition e. foreign joint venture ANS: D 8. Control over marketing and distribution channels is least with . a. exporting through foreign sales agents b. exporting through foreign sales branches c. licensing d. foreign direct investment e. foreign joint venture ANS: A 9. Corporate control over production is least with . a. exporting through foreign sales agents b. exporting through foreign sales branches c. licensing d. foreign direct investment e. foreign joint venture ANS: C 10. The potential loss of production technology is greatest with . a. exporting through foreign sales agents b. exporting through foreign sales branches c. licensing d. foreign direct investment e. foreign acquisition ANS: C 11. Exposure to political risk is greatest with . a. exporting through foreign sales agents b. exporting through foreign sales branches c. licensing d. foreign joint venture e. foreign acquisition 5 lOMoARcPSD|1935369 Kirt C. Butler, Multinational Finance, 3rd edition ANS: E 12. Problems in overcoming cultural distance are greatest with which of a) through c)? a. exporting through foreign sales agents b. foreign direct investment c. licensing d. problems of cultural distance are approximately the same in each of the above e. problems of cultural distance are generally not a problem for any of the above ANS: B 13. A central point of contention in the relationship between a manufacturer and the manufacturer‟s sales agent is . a. the expected level of sales in the foreign country b. the resource commitment of the manufacturer c. the termination or cancellation clause in the sales contract d. whether the manufacturer maintains control over patents e. whether the manufacturer maintains control over production ANS: C 14. Strategies to preserve revenues include each of the following except . a. follow the leader b. follow the customer c. lead the customer d. preservation of market share e. reduction of operating inefficiencies ANS: E 15. A strategy for reducing operating costs is . a. accessing new capital markets b. developing economies of vertical integration c. follow the customer d. seek indirect diversification benefits e. seek risk reduction through international asset diversification ANS: B 16. The most important element of a successful partnership is in . a. choosing the right partner b. limiting the scope of the technology transfer c. limiting the transferability of the technology by contract d. removing the threat by acquiring the assets of the foreign partner e. using only assets near the end of their product life cycle ANS: A 17. The best way to obtain foreign market entry is through . a. exporting through foreign sales agents or branches b. licensing c. foreign direct investment d. foreign joint venture e. the best entry mode depends on the circumstances 6 lOMoARcPSD|1935369 ANS: E Chapter 2 World Trade and the International Monetary System True/False 1. Markets are integrated when an asset sells for the same price wherever it is traded. ANS: True. 2. The world‟s financial markets are becoming increasingly segmented as large international commercial banks achieve more and more economic power. ANS: False. They are becoming increasingly integrated (that is, less segmented). 3. Prices in the world‟s financial markets are becoming increasingly segmented as local political forces work to dismantle many of the world‟s largest countries, such as Czechoslovakia and Soviet Union (USSR). ANS: False. Markets are becoming more integrated (less segmented). Indeed, the breakup of the Soviet Union hastened the integration of these developing markets. 4. The international monetary system refers to the global network of governmental and commercial institutions within which currency exchange rates are determined. ANS: True. 5. The International Monetary Fund‟s principal mission is to provide funds for economic development in third-world countries. ANS: False. The IMF‟s role is to help countries defend their currencies against temporary balance-of-payments imbalances and to promote cross-border trade. 6. The Basle Accord established the International Monetary Fund and the World Bank. ANS: False. These institutions were established by the Bretton Woods Agreement of 1946. 7. The “financial account” of the IMF‟s Balance-of-Payments Statistics measures the total financial wealth of citizens in each reporting country. ANS: False. The financial account measures cross-border transactions associated with changes in ownership of financial as sets and liabilities. 8. The “trade balance” of the IMF‟s Balance-of-Payments Statistics is the net balance (exports minus imports) on merchandise trade. ANS: True. 9. The “trade balance” of the IMF‟s Balance-of-Payments Statistics measures gross exports of goods and services. ANS: False. The trade balance is the net balance on merchandise trade. 10. In a fixed exchange rate system, governments stand ready to buy and sell currency at official exchange rates. ANS: True. 11. Decreases in currency values within a fixed rate system are called devaluations. ANS: True. 7 lOMoARcPSD|1935369 Kirt C. Butler, Multinational Finance, 3rd edition 12. Decreases in currency values within a floating rate system are called devaluations. ANS: False. A decrease in a currency value in a floating rate system is called a depreciation. 13. Special Drawing Rights (SDRs) are distributed to commercial banks within the European Union (EU) in proportion to that member‟s proportion of EU trade. ANS: False. SDRs are bookkeeping units of account that are traded only between central banks. 14. “The snake” refers to the serpentine path that exchange rates have followed in the era of the floating exchange rate. ANS: False. It referred to the band within which the currencies of the European Monetary System traded. 15. Moral hazard is the risk that the existence of a contract will change the behaviors of parties to the contract. ANS: True. 16. IMF loans to troubled economies are unlikely to change the behaviors of investors, because investors can assess the risks of moral hazard for themselves. ANS: False. The expectation of an IMF bailout creates a moral hazard, in that it changes the expectations and hence the behaviors of lenders, borrowers, and governments. Multiple Choice 1. Factors contributing to market segmentation include each of the following except . a. transactions costs b. regulatory and institutional interference c. informational barriers d. the immobility of human labor e. all of the above contribute to market segmentation ANS: E 2. The of the IMF‟s Balance-of-Payments Statistics measures whether a particular country is a net importer or exporter of manufactured goods. a. current account b. financial account c. overall balance d. trade balance e. none of the above ANS: D 3. The of the IMF‟s Balance-of-Payments Statistics measures whether a particular country is a net importer or exporter of goods and services. a. current account b. financial account c. overall balance d. trade balance e. none of the above ANS: A 8 lOMoARcPSD|1935369 4. The of the IMF‟s Balance-of-Payments Statistics measures cross-border transactions associated with changes in ownership of financial assets and liabilities. a. current account b. financial account c. overall balance d. trade balance e. none of the above ANS: B 5. The of the IMF‟s Balance-of-Payments Statistics measures the sum of all private financial and economic transactions of the reporting economy with the rest of the world. a. current account b. financial account c. overall balance d. trade balance e. none of the above ANS: C 6. Which of the following is not related to changes in currency values under managed exchange rate systems? a. business cycles b. inflation differentials c. politics d. the balance of payments e. each of the above is related ANS: E 7. When fixed exchange rate systems collapse, government officials most frequently blame for precipitating the collapse. a. opposition politicians or their policies b. multinational corporations c. foreign governments d. currency speculators e. themselves ANS: D 8. The problem with a fixed exchange rate system is that . a. domestic inflation is directly linked to inflation in other countries b. fixed exchange rates are hard to maintain when they diverge from market values c. labor conditions are isolated from the rest of the world d. three of the above e. two of the above ANS: E 9. The established the World Bank and the International Monetary Fund in 1946. a. Basle Accord b. Bretton Woods Agreement c. Louvre Accord d. Plaza Accord 9 lOMoARcPSD|1935369 Kirt C. Butler, Multinational Finance, 3rd edition e. Treaty of Maastricht ANS: B 10. Which of the following currencies is currently linked to the price of gold? a. British pound b. Japanese yen c. U.S. dollar d. all of the above e. none of the above ANS: E 11. The value of the euro against the currency values of participating countries is weighted according to each member‟s . a. proportion of intra-European trade and gross national product b. representation on the European Commission c. equity market value d. political power e. none of the above ANS: A 12. Which of the following countries is participating in the single-currency euro? a. Denmark b. Portugal c. Sweden d. Switzerland e. United Kingdom ANS: B 13. Which of the following was least likely to have caused the Mexican peso crisis of 1995? a. a weak economy b. a shortage of foreign currency reserves at the Mexican central bank c. an inflated value of the peso caused by pegged exchange rates d. short-term dollar borrowings by commercial banks and the government in Mexico e. all of the above contributed to the crisis ANS: A 14. Which of the following countries was most affected by the Asian contagion of 1997? a. China (PRC) b. Korea c. Japan d. Singapore e. Taiwan ANS: B 15. Which of the following countries was least affected by the Asian contagion of 1997? a. China (PRC) b. Korea c. Indonesia d. International Monetary Fund 10 lOMoARcPSD|1935369 e. Thailand ANS: A 16. Financial aid packages provided by the IMF to countries in a currency crisis are often tied to reforms that include . a. a coup de etat b. changes in ruling parties c. financial market liberalizations d. imposition of military rule to reestablish stability e. none of the above ANS: C 17. Common elements in many currency crises include each of the following except: a. A fixed exchange rate system that overvalued the local currency b. A large amount of foreign currency debt c. A precipitous drop in the value of the local currency d. IMF intervention to provide short-term assistance e. All of the above are common during currency crises ANS: E 18. Critics of IMF lending policies favor which of the following during a financial crisis? a. capital market liberalizations b. fiscal restraint c. increased lending d. monetary restraint e. Critics are against each of these policies ANS: E PART II The International Financial Environment Chapter 3 International Financial Markets True/False 1. Liquidity refers to the ease with which you can exchange one asset for another of equal value. ANS: True. 2. The primary difference between short- and long-term versions of a particular financial asset is in how easily the asset can be transported to another location. ANS: False. The primary difference is in the liquidity of the market. 3. The two kinds of financial markets are money markets and interest rate markets. ANS: False. The statement mixes two dimensions: maturity (money versus capital markets) and type of instrument (e.g., debt versus equi ty markets). 4. In an intermediated debt market, a financial institution such as a commercial bank channels loanable funds from savers to borrowers. ANS: True. 11 lOMoARcPSD|1935369 Kirt C. Butler, Multinational Finance, 3rd edition 5. In a non-intermediated debt market, a financial institution such as a commercial bank channels loanable funds from savers to borrowers. ANS: False. Borrowers appeal directly to savers without using a financial intermediary. 6. Debt placed in an internal market is denominated in the currency of a host country and placed within that country. ANS: True. 7. Debt placed in an external market is placed outside the banking system. ANS: False. External market debt is placed outside the country issuing a currency. 8. Internal credit markets are markets for deposits and loans by local residents and hence are governed by the rules and institutional conventions of the local government. ANS: True. 9. External credit markets trade interest rate contracts denominated in a currency but traded outside the borders of the country issuing that currency. ANS: True. 10. Money markets are markets for financial assets and liabilities of short maturity, considered to be less than one year. ANS: True. 11. Capital markets are markets for financial assets and liabilities with maturities greater than one year. ANS: True. 12 lOMoARcPSD|1935369 12. International commercial banks are the major market makers in the currency markets. ANS: True. 13. The most active market makers in the market for spot foreign exchange are the major investment banks such as Salomon Smith Barney and Goldman Sachs. ANS: False. The major market makers are the large commercial banks. 14. In the spot market, trades is conducted in a single spot or location. ANS: False. Trade is conducted at commercial banks worldwide. 15. In the forward currency markets, trades are made for future delivery according to an agreed- upon delivery date, exchange rate, and amount. ANS: True. 16. Foreign currency deposits held in the United States are called Eurodollars. ANS: False. Eurodollars are dollar deposits held outside the borders of the United States. 17. Eurodollar deposits typically have fixed rate pricing. ANS: False. Eurodollar deposits have floating rate pricing. 18. Government regulation is nearly absent in the internal markets for long-term debt capital. ANS: False. Internal markets are monitored and regulated by local authorities. 19. Domestic bonds are issued and traded within the internal market of a single country and are denominated in the currency of that country. ANS: True. 20. International bonds are traded in internal markets. ANS: False. International bonds are traded outside the country of the issuer. 21. The two kinds of international bonds are dollar bonds and foreign bonds. ANS: False. The two kinds of international bonds are foreign bonds and Eurobond s. 22. Foreign bonds are issued in a local market by a foreign borrower, denominated in the local currency, and regulated by local authorities. ANS: True. 23. Eurobonds are denominated in one or more currencies but are traded in external markets outside the borders of the countries issuing those currencies. ANS: True. 24. The most prominent bonds selling in national bond markets are foreign bonds. ANS: False. Domestic bonds are usually the most prominent bonds. 25. The General Agreement on Tariffs and Trade (GATT) has standardized bond price and yield quotation conventions and registration and disclosure requirements. ANS: False. These differ by country. 26. Registered bonds retain the anonymity of the owner. ANS: False. Bearer bonds retain the anonymity of the owner. 27. The price-plus-accrued-interest method is the most common quotation system for bonds. 13 lOMoARcPSD|1935369 Kirt C. Butler, Multinational Finance, 3rd edition ANS: True. 28. The World Bank is restricted from issuing Eurobonds. ANS: False. The World Bank has issued Eurobonds in a variety of currencies and maturities. 29. The U.S. Securities and Exchange Commission (SEC) applies the same registration and disclosure requirements to Eurobonds as it does to domestic bonds. ANS: False. The SEC exempts Eurobonds that satisfy its private placement criteria. 30. A global bond is an international bond that trades in both the external Eurobond market as well as in one or more internal bond markets. ANS: True. 31. The value of the U.S. stock market comprises more than half of the Morgan Stanley Capital International (MSCI) world stock market index.. ANS: False. The U.S. equity market comprises less than half of MSCI index. 32. Euronext provides a common European platform for trading stocks, bonds, and derivatives. ANS: True. 33. The Japanese government takes a laissez faire or “hands-off” approach in determining which companies are allowed to issue securities in Japan. ANS: False. The Japanese government takes an active role in securities regulation. 34. An attraction of online trading is an assurance that trades are execut ed at market prices. ANS: False. The benefits of online trading include convenience and low fees. Drawbacks include slow response and low assurance that trades will be executed at market prices. 35. The European Union‟s Capital Adequacy Directive (CAD) specifies minimum standards governing the amount of market risk a bank or securities firm can take in relation to its capital base. ANS: True. 36. Electronic fund transfers between commercial banks are executed through SWIFT. ANS: True. Multiple Choice 1. Which of the following is a categorization of debt markets? a. domestic versus international b. intermediated versus non-intermediated c. internal versus external d. more than one of the above e. none of the above ANS: D 2. A General Motors Acceptance Corporation (GMAC) bond trades on the New York Stock Exchange. In which type of market is it traded? a. a domestic market b. an intermediated market 14 lOMoARcPSD|1935369 c. an internal market d. more than one of the above e. none of the above ANS: D 3. A bond issued by Air Express of the United Kingdom trades over-the-counter in the United States. In which type of market is it traded? a. a domestic market b. an external market c. an intermediated market d. more than one of the above e. none of the above ANS: E 4. From a U.S. perspective, a loan by a French bank to a French affiliate of a U.S.-based corporation is traded in . a. a direct market b. a global market c. an international market d. more than one of the above e. none of the above ANS: C 5. Which of statements a) through d) about foreign bonds is false? a. Foreign bonds are denominated in the currency of the issuing company. b. Foreign bonds are issued in a local market by a foreign borrower. c. Foreign bonds are marketed to local residents. d. Foreign bonds are regulated by local authorities. e. All of the above are ANS: True. ANS: A 6. Loans by domestic banks to affiliates of foreign firms located in the bank‟s local market are traded in . a. a domestic market b. an external market c. an intermediated market d. more than one of the above e. none of the above ANS: C 7. Government bonds are conventionally quoted as an effective annual yield in . a. continental Europe b. Japan c. the United States d. all three of the above are correct e. only two of the above are correct ANS: A 15 lOMoARcPSD|1935369 Kirt C. Butler, Multinational Finance, 3rd edition 8. Outside of the People‟s Republic of China, the largest number of Chinese stocks are traded in . a. Hong Kong b. New York c. Seoul, Korea d Singapore e. Tokyo, Japan ANS: A 9. The largest stock exchange in India is located in . a. Bhopal b. Bombay c. Calcutta d. Karachi e. New Delhi ANS: B 10. The largest stock exchange on the African continent is located in . a. Ankara b. Casablanca c. Johannesburg d. Lagos e. Mexico City ANS: C 11. Which of the following is (are) way(s) in which national stock markets differ? a. continuous quotation or periodic call auction markets b. spot or forward exchange c. LIBOR or Euribor d. three of the above e. two of the above ANS: E 12. In the United States, private placements as defined by the Securities Act of 1933 conform to each of conditions a) through d) except . a. investors are capable of sustaining losses b. investors purchase securities for their own portfolios and not for resale c. sold to large and sophisticated investors d. sold to only a few investors e. each of the above is a necessary condition ANS: E 13. In order to operate in other member states, the EU‟s Investment Securities Directive (ISD) requires that firms satis fy several conditions. Which of a) through d) is not one of those conditions? a. The firm‟s directors must be sufficiently experienced. b. The firm must appropriately safeguard their clients‟ funds. c. The firm must follow International Accounting Standards. d. The firm must meet the provisions of the EU Capital Adequacy Directive. 16 lOMoARcPSD|1935369  e. All of the above are conditions of the ISD. ANS: D Problems 1. In a bond market using a “30/360” price quotation convention, how many days worth of accrued interest would fall on the 18th of August? 2. In a bond market using an “actual/365” price quotation convention, how many days worth of accrued interest would there be on the 18th of August if interest payments fall on June 30 and December 31? 3. It is now December, 2000, and there are three years remaining until maturity on the Japanese government‟s 6.3% coupon bonds that mature on December 31, 2003. The bonds pay a semiannual coupon of (6.3%)/2 = 3.15 percent until maturity, at which time they repay the principal amount. The bonds sell for 105% of par value. a. What is the promised yield to maturity quoted as a U.S. bond equivalent yield? b. What is the promised yield quoted as a German effective annual yield? c. What is the promised yield using the Japanese yield convention? Problem Solutions 1. One day‟s worth of interest would accrue on each of the first 30 days in August. 2. 31 days in July plus 18 days in August total 49 days worth of accrued interest. 3. a. The promised yield on a semiannual basis is the solution to: 102 =[t=1,…,6 (3.15) / (1+i)t] + (100) / (1+i)6, or i = 2.250% per six months. The U.S. bond equivalent yield convention would quote this as 4.500% compounded semiannually. b. According to the effective annual yield quotation commonly used in Europe, the promised yield is (1.02250)2-1 = 0.04551, or 4.551 percent. c. According to the Japanese bond quotation convention, the yield is:  100% - Price  100% yield = Coupon rate +  Years to maturityPrice  = (6.15% + [(100%-105%)/2])(100%/105%) = 3.769%. Chapter 4 Foreign Exchange, Eurocurrencies and Currency Risk Management True/False 1. Eurocurrency markets are highly liquid and relatively unencumbered by government regulation, resulting in borrowing and lending rates that are generally more favorable to customers than domestic rates. ANS: True. 2. A bank that is making a market in lira stands ready to buy lira at its offer price and sell lira at its bid price. ANS: False. The bank will buy at the bid and sell at the offer price. 3. American terms state the dollar value of one unit of foreign currency, such as $0.0085/¥. 17 lOMoARcPSD|1935369 0 1 0 1 Kirt C. Butler, Multinational Finance, 3rd edition ANS: True. 4. European terms state the foreign currency price of one U.S. dollar (for example C$1.726/$). ANS: True. 5. If the current spot rate is S $/C$ = $0.5839/C$ and the one-year forward rate is F $/C$ = $0.5754/C$, then the Canadian dollar is selling at a forward premium. ANS: False. The Canadian dollar (in the denominator of the quote) is selling at a forward discount. 6. If the current spot rate is S $/C$ = $0.5839/C$ and the one-year forward rate is F $/C$ = $0.5754/C$, then the U.S. dollar is selling at a forward premium. ANS: True. The Canadian dollar in the denominator is at a forward discount. 7. A bank offers you the following quote: “$0.5841/C$ BID and $0.5852/C$ ASK.” The bank will buy U.S. dollars at $0.5841/C$ or sell U.S. dollars at $0.5852/C$. ANS: False. Banks quote foreign currency in order to make a profit. The bank will buy C$ (and sell $) at $0.5841/C$ or sell C$ (and buy $) at $0.5852/C$. 8. Currency risk is the risk of unexpected changes in foreign currency values. ANS: True. 9. For the most actively traded currencies, national credit markets are operationally more efficient than the Eurocurrency markets. ANS: False. Eurocurrency markets are generally more operationally efficient. 10. Volume in the foreign exchange markets averages about one billion dollars per day. ANS: False. Interbank trading volume averages over one trillion dollars daily. 11. Eurocurrency transactions in the external credit market fall outside the jurisdiction of any single nation. ANS: True. 18 lOMoARcPSD|1935369 0 1 12. One basis point is equal to one percentage point (e.g., one percent of a dollar). ANS: False. It is equal to one hundredth of a percentage point (e.g. 1/100th of a dollar). 13. The majority of the volume in the forward market for foreign exchange is conducted on the floor of the Chicago Mercantile Exchange‟s International Monetary Market. ANS: False. Forward exchange contracts are primarily traded through commerci al banks. 14. Commercial banks always quote foreign exchange rates with the domestic currency in the denominator of the quote. ANS: False. The domestic currency can be in the numerator or the denominator. 15. A bank‟s bid price for one currency is its offer price for another currency. ANS: True. 16. Suppose S £/$ = £0.6361/$ and F £/$ = £0.6352/$. The dollar is selling at a forward premium of 9 basis points. ANS: False. It is selling at a forward discount of 9 bps. 17. Domestic interest rates typically lie inside the LIBI D/LIBOR rate band. ANS: False. The domestic rates lie outside the LIBID/LIBOR rate band. 18. LIBOR is the rate a Euromarket bank is willing to pay to attract a deposit. ANS: False. It is an average offer rate at which banks are willing to loan funds in the London Eurocurrency market. 19. Eurocurrency markets are regulated by the governments whose currencies are traded. ANS: False. These governments have little or no jurisdiction over external credit markets. 20. MNCs and financial institutions with access to Eurocurren cy markets can obtain lower cost funds and store funds at higher interest rates than in domestic credit markets. ANS: True. 21. Commercial banks‟ lending rates in the Eurocurrency market are usually higher than their prime lending rates in their domestic credit markets. ANS: False. Eurocurrency markets are usually more competitive and lending rates are lower. 22. You have a contractual obligation denominated in a foreign currency and to be paid in six months. You can hedge this exposure by buying the foreign currency in the forward market. ANS: True. 23. You expect to receive a cash flow denominated in a foreign currency in six months. You can hedge this exposure by buying the foreign currency in the forward market. ANS: False. Sell the foreign currency (and buy the domestic currency) at the forward rate. 24. You have a contractual cash inflow denominated in a foreign currency and to be received in six months. You will gain if the foreign currency appreciates in value over the next six months. ANS: True. 25. Risk exists whenever actual outcomes can deviate from expected outcomes. ANS: True. 19 lOMoARcPSD|1935369 Kirt C. Butler, Multinational Finance, 3rd edition 26. The multinational corporation is exposed to currency risk when the value of its assets and liabilities changes with unexpected changes in currency values. ANS: True. 27. Exposure to currency risk depends on exchange rate variability, but not on how much is at risk. ANS: False. Exposure to currency risk depends on how much is at risk. 28. If an investor‟s wealth is dependent on foreign currency movements, then the investor is exposed to foreign currency risk. ANS: True. 29. Monetary contracts can be denominated either in the domestic or in a foreign currency. ANS: True. 30. Monetary assets have contractual payoffs. ANS: True. 31. Real assets are only exposed t o currency risk if they are located in a foreign country. ANS: False. For example, the value of an exporter depends on foreign currency values. 32. Transaction exposure to currency risk refers to changes in the value of monetary assets and liabilities due to unexpected changes in foreign currency exchange rates. ANS: True. 33. Operating exposure to currency risk includes transaction exposure and accounting exposure. ANS: False. Economic exposure includes transaction exposure and operating exposure. Accounting exposure is the exposure of financial statements to currency risk. 34. Economic exposure to currency risk refers to changes in the value of monetary assets and liabilities due to unexpected changes in foreign currency exchange rates. ANS: True. 35. Economic exposure refers to changes in contractual cash flows due to unexpected changes in foreign currency exchange rates. ANS: False. Economic exposure refers to changes in all future cash flows due to unexpected changes in foreign currency exchange rates. Transaction expos ure is the exposure of contractual cash flows. 36. Monetary contracts denominated in a foreign currency are fully exposed to changes in the value of that currency. ANS: True. 37. Monetary assets and liabilities denominated in a domestic currency are not exposed to purchasing power risk. ANS: False. The real value of monetary assets depends on realized inflation. 38. Operating exposure refers to the exposure of the firm‟s real assets to currency risk. ANS: True. 20 lOMoARcPSD|1935369 39. A parent firm has translation exposure to the extent that unexpected changes in foreign currency values change the parent‟s financial accounting statements. ANS: True. 40. Translation exposure to currency risk necessarily reflects changes in the market value of the firm‟s assets and liabilities. ANS: False. Accounting exposure may or may not reflect changes in market values. 41. Translation exposure to currency risk is of direct concern to equity investors in the multinational corporation. ANS: False. Shareholders are concerned with cash flows and values. Translation exposure may or may not be related to value. 42. Surveys reveal that financial managers believe transaction exposure is the most important currency risk exposure. ANS: True. Multiple Choice 1. Which of the following is not a function of the currency and Eurocurrency markets? a. foreign currency speculation b. hedging foreign exchange risk c. provision of credit d. transfer of purchasing power e. each of the above is a function of the foreign exchange market ANS: E 2. When foreigners decide to purchase additional U.S. governmen t bonds, . a. the demand for dollars rises b. the federal government budget deficit declines c. the supply of dollars rises d. the trade deficit declines e. none of the above ANS: A 3. The foreign exchange desks of commercial banks typically make their profits through . a. arbitrage b. government subsidies c. investment banking d. market making e. speculation ANS: D 4. In order to boost the value of the euro relative to the dollar, the U.S. Federal Reserve should . a. sell euros for dollars and buy euros with dollars b. sell euros for dollars and sell dollars for euros c. sell dollars for euros and buy dollars with euros d. sell dollars for euros and buy euros with dollars e. more than one of the above 21 lOMoARcPSD|1935369 Kirt C. Butler, Multinational Finance, 3rd edition ANS: D 5. Electronic fund transfers between international banks are accomplished through the . a. Association of International Fund Transfers b. Clearing House Interbank Payments System c. International Monetary Fund d. Society for Worldwide Interbank Financial Transactions e. World Bank ANS: D 6. The euro depreciates 17% against the dollar. How much has the dollar appreciated against the euro? a. 16.31% b. 17.00% c. 17.54% d. 20.48% e. 34.00% ANS: D 7. A forward foreign exchange contract . a. allows a transfer of purchasing power from one currency to another on a predetermined date and at a predetermined exchange rate b. is a long (or forward) position in a foreign currency c. is a type of option that can be used to hedge against unfavorable changes in foreign currency values at the discretion of the option holder d. is priced to equal the spot exchange rate e. none of the above ANS: A 8. The biggest traders in the foreign exchange markets are . a. commercial banks b. corporations c. government agencies d. governments e. individual investors ANS: A 9. International electronic fund transfers are accomplish ed through the . a. Association of International Fund Transfers b. Clearing House Interbank Payments System c. International Monetary Fund d. Society for Worldwide Interbank Financial Transactions e. World Bank ANS: D 10. Characteristics of the Eurocurrency market include which of the following? a. no interest rate regulations on Euromarket transactions b. no regulations influencing credit allocation decisions c. no reserve requirements on Euromarket transactions d. no withholding taxes on Euromarket transactions 22 lOMoARcPSD|1935369 e. all of the above ANS: E 11. The value of the Hong Kong dollar against the U.S. dollar on December 31, 1978 was $4.80/HK$. By year-end 1998, the exchange rate was $7.75/HK$. What was the average annual change in the value of the Hong Kong dollar over this 20-year period? a. less than or equal to 0% b. more than 0% and less than or equal to 5% c. more than 5% and less than or equal to 10% d. more than 10% and less than or equal to 15% e. more than 15% ANS: B 12. The value of the Hong Kong dollar against the U.S. dollar on December 31, 1978 was $4.80/HK$. By year-end 1998, the exchange rate was $7.75/HK$. What was the average annual change in the value of the U.S. dollar over this 20-year period? a. less than or equal to 0% b. more than 0% and less than or equal to 5% c. more than 5% and less than or equal to 10% d. more than 10% and less than or equal to 15% e. more than 15% ANS: A 13. The spot rate is $1.00/€ and the one-year forward rate is $1.10/€. What is the percentage forward premium (or discount) on the euro? a. less than 0% b. 0% c. 10 percent d. more than 10% e. none of the above ANS: C 14. The spot rate is $1.00/€ and the one-year forward rate is $1.10/€. What is the percentage forward premium (or discount) on the dollar? a. less than 0% b. 0% c. 10 percent d. more than 10% e. none of the above ANS: A 15. The spot rate is $1.00/€ and the one-year forward rate is $1.10/€. What is the forward premium (or discount) on the euro? a. 0.10 basis point b. 1 basis point c. 10 basis points d. 100 basis points e. 1,000 basis points ANS: E 23 lOMoARcPSD|1935369 Kirt C. Butler, Multinational Finance, 3rd edition 16. The firm‟s monetary assets include each of the following except . a. accounts receivable b. cash and money market securities c. domestic bank deposits d. Eurocurrency deposits e. plant and equipment ANS: E 17. Monetary liabilities include each of the following except . a. accounts payable b. common equity c. domestic loans d. Eurocurrency loans e. taxes payable ANS: B 18. Real assets include each of a) through c) except . a. inventory b. the firm‟s employees c. the firm‟s production technologies d. real assets include all of the above e. real assets include none of the above ANS: D 19. A real appreciation of the domestic currency has each of the following effects except . a. It helps hold down domestic inflation. b. It helps domestic importers as imported goods and raw materials cost less. c. It shifts resources within the domestic economy from export-oriented firms toward import-oriented firms. d. More than one of the above e. None of the above ANS: D 20. A real depreciation of the domestic currency has which of the following consequences for the domestic economy? a. a decrease in the cost of living b. higher unemployment c. higher prices for imported goods d. lower inflation e. none of the above ANS: C 21. A random walk has each of the following properties except . a. a constant variance b. a positive mean c. conforms to a normal distribution d. no memory e. all of the above are properties of a random walk ANS: B 24 lOMoARcPSD|1935369 22. Which of the following statements regarding nominal exchange rate forecasts is false? a. Forward exchange rates perform better than spot exchange rates as the forecasting horizon is extended beyond one year. b. The current spot rate is a useful forecast of future exchange rates for horizons of up to one year. c. The variability of nominal exchange rates is large relative to forward premiums and discounts. d. The variability of nominal exchange rates is large relative to inflation differentials. e. The variability of forward premiums/discounts is large relative to interest rate differentials. ANS: E Problems 1. Expected inflation over the next year is E[p] = 10%. What nominal interest rate i should investors charge on the following assets? a. Investors require a real rate of return of ι = 2 percent on a one-year corporate bond. b. Investors require a real return of ι = 6 percent on a portfolio of stocks. c. Investors require a real return of ι = 10 percent on an investment in an oil field. 2. Credit Suisse First Boston (CSFB) quotes the following rates. For each quote, state which currency CSFB is buying and which currency CSFB is selling at the quoted rates. a. €0.8894/$ Bid and €0.8898/$ Ask b. €0.8898/$ Bid and €0.8894/$ Ask 3. Convert to American terms. Keep the currency being bought and sold in the denominator. a. €0.8894/$ Bid and €0.8898/$ Ask b. €0.8898/$ Bid and €0.8894/$ Ask 4. Credit Suisse First Boston (CSFB) quotes the following rates for the U.S. dollar. Spot rate Bid (€/$) 0.8894 Ask (€/$) 0.8898 1-month forward 0.8938 0.8942 3-month forward 0.9028 0.9032 6-month forward 0.9164 0.9168 12-month forward 0.9443 0.9447 a. Is the dollar selling at a forward premium or a forward discount? Calculate percentage premiums or discounts for each forward quote. Also state these percentage premiums or discounts on an annualized basis. b. Convert th ese to $/€ quotes for the euro. Is the euro selling at a forward premium or a forward discount? Calculate percentage premiums or discounts (not annualized) for each forward quote on the euro. Also state these percentage premiums or discounts on an annualized basis. c. Are the percentage forward premiums on the dollar equal in magnitude to the corresponding forward discounts on the euro? Why or why not? d. What would you receive from CSFB if you sold $10 million at the 6-month forward rate? 25