16 Questions
What is financial risk?
The possibility of losing money on an investment or business venture.
Name three factors that contribute to financial risk in financial markets.
Various macroeconomic forces, changes to the market interest rate, and possibility of default by sectors of large corporations.
What are two types of risk faced by corporations mentioned in the text?
Bad publicity and the possibility of default on debt or failure in an undertaking.
Explain the difference between external and internal risks in the banking business.
External risks are those not in direct control of the management, such as political issues and exchange rates, while internal risks include non-compliance or information breaches.
What is the first C in the five Cs of credit system and what does it specifically refer to?
Character; Credit history, borrower's reputation or track for repaying debts appearing on credit reports
How can yield spreads be used in an efficient market to infer credit risk levels?
Higher borrowing costs are associated with higher credit risk levels, so yield spreads can be used to infer credit risk based on market participants' assessments.
What is the purpose of the five Cs of credit system used by lenders?
To gauge the creditworthiness of potential borrowers by estimating the chance of default and the risk of financial loss for the lender.
Give an example of a situation that reflects a failure in the capacity aspect of the five Cs of credit system.
A borrower's inability to repay a loan due to high recurring debts and a high debt-to-income (DTI) ratio.
What is the practice called when lenders charge a higher interest rate to borrowers who are more likely to default?
Risk-based pricing
What are some stipulations that lenders may write into loan agreements as covenants?
Periodically report its financial condition, Refrain from paying dividends, repurchasing shares, borrowing further, Repay the loan in full in certain events
How do lenders and bond holders hedge their credit risk?
By purchasing credit insurance or credit derivatives
What is the risk associated with a sovereign state freezing foreign currency payments or defaulting on its obligations?
Sovereign risk
How is DTI calculated by lenders?
By adding together a borrower’s total monthly debt payments and dividing that by the borrower’s gross monthly income.
What impact does a lower DTI have on a borrower's chance of qualifying for a new loan?
The lower the DTI, the better the chance of qualifying for a new loan.
How does a large contribution by the borrower affect the chance of default?
A large contribution decreases the chance of default.
How does collateral help a borrower secure loans?
Collateral gives the lender assurance that if the borrower defaults, the lender can repossess the collateral.
This quiz tests your knowledge of how lenders calculate a borrower's Debt-to-Income (DTI) ratio, its impact on loan qualification, and the factors that lenders consider in addition to DTI when approving a new loan.
Make Your Own Quizzes and Flashcards
Convert your notes into interactive study material.
Get started for free
