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Questions and Answers
What is the primary market responsible for?
What is the primary market responsible for?
What does venture capital primarily target?
What does venture capital primarily target?
Which investment strategy focuses on replicating a market index?
Which investment strategy focuses on replicating a market index?
What distinguishes private equity from venture capital?
What distinguishes private equity from venture capital?
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What is the purpose of an initial public offering (IPO)?
What is the purpose of an initial public offering (IPO)?
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What is the Fed Funds Rate primarily used for?
What is the Fed Funds Rate primarily used for?
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Which of the following statements correctly describes LIBOR?
Which of the following statements correctly describes LIBOR?
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What does the term 'basis point' refer to?
What does the term 'basis point' refer to?
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How does securitization benefit lenders?
How does securitization benefit lenders?
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What is a Collateralized Debt Obligation (CDO)?
What is a Collateralized Debt Obligation (CDO)?
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What is the primary asset backing a Mortgage-Backed Security (MBS)?
What is the primary asset backing a Mortgage-Backed Security (MBS)?
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What role does securitization play in financial markets?
What role does securitization play in financial markets?
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What characteristic distinguishes a CDO from other financial securities?
What characteristic distinguishes a CDO from other financial securities?
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What are the different risk classes called that the SPV uses to categorize loans?
What are the different risk classes called that the SPV uses to categorize loans?
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Which tranche typically receives the highest credit rating?
Which tranche typically receives the highest credit rating?
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What role do credit rating agencies play in the securitization process?
What role do credit rating agencies play in the securitization process?
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What is the responsibility of the servicer in the cash flow distribution process?
What is the responsibility of the servicer in the cash flow distribution process?
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Which financial intermediaries facilitate the movement of funds between savers and borrowers?
Which financial intermediaries facilitate the movement of funds between savers and borrowers?
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What is one technique used by SPVs to enhance the attractiveness of securities?
What is one technique used by SPVs to enhance the attractiveness of securities?
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When cash flows are distributed, which tranche receives payment first?
When cash flows are distributed, which tranche receives payment first?
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What is the primary function of investment companies?
What is the primary function of investment companies?
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What is the primary function of a Mortgage-Backed Security (MBS)?
What is the primary function of a Mortgage-Backed Security (MBS)?
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Which of the following best describes a Credit Default Swap (CDS)?
Which of the following best describes a Credit Default Swap (CDS)?
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What is a systemic risk?
What is a systemic risk?
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What is the first step in the securitization process?
What is the first step in the securitization process?
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What role does a Special Purpose Vehicle (SPV) play in securitization?
What role does a Special Purpose Vehicle (SPV) play in securitization?
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Why might lenders create asset pools during securitization?
Why might lenders create asset pools during securitization?
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What happens after the lender transfers assets to the SPV?
What happens after the lender transfers assets to the SPV?
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What is a key benefit of investing in asset-backed securities like MBS?
What is a key benefit of investing in asset-backed securities like MBS?
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Study Notes
Important Interest Rates
- Fed Funds Rate: Overnight lending rate charged by depository institutions in the US for uncollateralized capital loans.
- LIBOR: Lending rate among banks in London, serving as a benchmark for short-term interest rates for securities like swaps or mortgages.
- Basis Point (bp): Measurement unit equal to one-hundredth of a percent; e.g., 10bp equals 0.10%.
Securitization
- Involves pooling various debt instruments into standardized securities to convert future cash flows into immediate cash.
- Facilitates lenders in offloading debt and risk from their balance sheets while generating liquidity.
- Results in creation of tradable securities backed by revenue-generating assets.
CDO and MBS
- Collateralized Debt Obligation (CDO): Investment product representing a bundle of loans, allowing holders to collect amounts from original borrowers.
- Mortgage-Backed Security (MBS): Debt security backed by mortgages, allowing investors to profit from the mortgage sector without direct involvement in home loans.
Credit Default Swap (CDS)
- Type of credit derivative offering protection against default; buyers make periodic payments to sellers.
- Sellers agree to compensate buyers for premiums and interest if the debt issuer defaults.
- Systemic Risk: Risk tied to widespread failures in the financial system, affecting capital providers' trust in institutions.
Securitization Process Steps
- Asset Origination: Lenders issue loans to borrowers.
- Asset Pooling: Lenders create a pool of loans with similar characteristics.
- Special Purpose Vehicle (SPV): Separate legal entity established to isolate loan assets from lender's balance sheet risks.
- Tranching: SPV divides loans into different risk classes, categorized as senior, mezzanine, and junior.
Further Securitization Steps
- Credit Enhancement: Techniques used to improve the attractiveness of securities to investors.
- Rating: Credit agencies assess and rate each tranche based on risk.
- Marketing and Sale: Securities marketed and sold to investors via investment banks.
- Cash Flow Distribution: Payments from borrowers are distributed to investors, prioritizing senior tranches.
- Monitoring: Servicer oversees loan performance, providing regular reports to investors.
Financial Intermediaries
- Institutions bridging the gap between savers and borrowers, including banks, pension funds, and investment banks.
- Investment Companies: Manage funds for investors, e.g., mutual funds and hedge funds.
- Investment Bankers: Specialize in underwriter roles for new securities issuance.
Market Definitions
- Primary Market: Where new securities are initially offered, such as during an IPO.
- Secondary Market: Previously issued securities are traded among investors.
- Initial Public Offering (IPO): First sale of company shares to the public.
Investment Management Strategies
- Passive Management: Strategy focused on replicating market index performance without active trading.
- Active Management: Strategy aimed at outperforming market indices through targeted investment decisions.
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Description
Test your knowledge on crucial interest rates like the Fed Funds Rate and LIBOR. This quiz covers the definition, significance, and impact of these rates on various financial markets. Perfect for finance students or anyone looking to deepen their understanding of interest rates.
