How could a bank's hedging activities with futures contracts expose it to liquidity risk?

• A.The bank could get exposed to liquidity risk since futures trade on an exchange.
• B.The futures hedge may not work due to the widening of basis which could result in a loss for the bank.
• C.Since futures require margins which are settled every day, the bank could find itself scrambling for
  funds.
• D.Prices may move such that a loss results on the hedge.

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Which of the following statements represents a methodological difference between variance-covariance and
full revaluation methods?

• A.Variance-covariance approach provides computational advantages over the full revaluation approach.
• B.Variance-covariance approach uses only historic data to compute the covariance matrix.
• C.Variance-covariance approach prices positions more accurately than the full revaluation approach.
• D.Variance-covariance approach computes the VAR for each position separately, while the full revaluation
  method computes the VAR on a portfolio basis.

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Alpha Bank determined that Delta Industrial Machinery Corporation has 2% change of default on a one-year
no-payment of USD $1 million, including interest and principal repayment. The bank charges 3% interest rate
spread to firms in the machinery industry, and the risk-free interest rate is 6%. Alpha Bank receives both
interest and principal payments once at the end the year. Delta can only default at the end of the year. If Delta
defaults, the bank expects to lose 50% of its promised payment. Hence, the loss rate in this case will be

• A.10%
• B.3%
• C.5%
• D.1%

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Bank Muri has $4 million in cash and $5 million in loans coming due tomorrow with an expected default rate
of 1%. The proceeds will be deposited overnight. The bank owes $ 9 million on a securities purchase that
settles in two days and pays off $8 million in commercial paper in three days that is not expected to renew. On
day 2, $1 million in loans is coming in with an expected default rate of 1% and on day 3, $2 million in loans is
coming in with expected default rate of 2%. How much should the bank plan to raise in order to avoid liquidity
problems?

• A.$500 million
• B.$510 million
• C.$550 million
• D.$508 million

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Gamma Bank provides a $100,000 loan to Big Bath retail stores at 5% interest rate (paid annually). The loan
also has an annual expected default rate of 2%, and loss given default at 50%. In this case, what will the bank's
expected loss be? What is the expected loss of this loan?

• A.$750
• B.$1,050
• C.$300
• D.$550

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