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2 OVERLL STTS Group Name University of Financial Success Report ate 22-ec-15 Number of Takers 33 Group verage 75% Group Median 78% Highest Score 95% Lowest Score 35% est Performing Question Equities 24 Worst Performing Question urrencies 27 STTS Y MOULE Group Name Group verage Group Median est Performing Question Worst Performing Question Economic Indicators urrencies Fixed Income Equities 72% 75% 73% 76% 68% 78% 76% 81%

3 SORES Y STUENT Name Score Score in Economic Indicators Score in urrencies Score in Fixed Income Score in Equities ourse ompletion ate Student Oct-15 Student Oct-15 Student Oct-15 Student Oct-15 Student Oct-15 Student Oct-15 Student Oct-15 Student Oct-15 Student Oct-15 Student Oct-15 Student Oct-15 Student Oct-15 Student Oct-15 Student Oct-15 Student Oct-15 Student Oct-15 Student Oct-15 Student Oct-15 Student Oct-15 Student Oct-15 Student Oct-15 Student Oct-15 Student Oct-15 Student Oct-15 Student Oct-15 Student Oct-15 Student Oct-15 Student Oct-15 Student Oct-15 Student Oct-15 Student Oct-15 Student Oct-15 Student Oct-15 2

4 Economic Indicators THE PRIMY OF GP 1. How accurately do GP statistics portray the economy and why?. ccurately because they are official numbers reported by the government. Inaccurately because the scope of GP measurements can change [correct]. ccurately because they are quantitative not qualitative. Inaccurately because it is too complex to estimate Explanation: Governments from time to time change the scope of GP measurement, as we saw with Nigeria and Italy. Just because they are official and numerical does not mean that they are accurate! While undoubtedly complex, GP is estimatable. 3

5 Economic Indicators THE PRIMY OF GP 2. onsider the formula GP = + I + G + (X M). country is undergoing a boom in consumption of domestic and foreign luxury goods. In one year, the dollar growth in imports is greater than the dollar growth in domestic consumption. ssuming nothing else has changed, what happened to GP?. It went up.. It went down. [correct]. It stayed the same.. There is not enough information to tell. Explanation: s imports act as a drag on GP, the larger growth in imports offsets the growth in consumption, thereby causing GP to decline. 4

6 Economic Indicators THE PRIMY OF GP 3. Here is the most important economic data for ustralia and Sweden. Which economy did better year-over-year (YOY) in the fourth quarter of 2013 compared to the fourth quarter of 2012? Use the two charts to investigate. (Students can scroll through both charts.) 5

7 . ustralia. Sweden [correct]. They performed identically.. There is not enough information to tell. Explanation: While ustralia had higher nominal GP growth, investors like to strip out the effects of inflation when gauging economic health. They do this by looking at real GP growth. In this case, Sweden had higher real GP growth than ustralia. 6

8 Economic Indicators THE PRIMY OF GP 6% 15% 3% 76% 4. In the United States, why is there a strong correlation between unemployment and GP?. s the U.S. is a net exporter, exports go down when workers are unemployed. This is because there are fewer workers manufacturing products for the global markets.. s housing accounts for 40% of GP and as unemployed people tend to lose their homes, GP is depressed when unemployment rises.. In the U.S., government spending accounts for 18% of GP. When unemployment rises, governments spend more on unemployment benefits. Therefore, GP rises.. onsumer spending accounts for two-thirds of the U.S. economy. When the number of unemployed consumers rises, there is less consumer spending. [correct] Explanation: The fact that the United States is largely a consumer economy leads to the tight connection between U.S. unemployment and U.S. GP. The U.S. is a net importer, not a net exporter. Housing accounts for 40% of the inflation basket, not GP. Government benefit payments rise when unemployment rises. From an overall GP perspective, however, this is more than offset by declines in consumer spending. 7

9 Economic Indicators THE PRIMY OF GP 5. Here is a chart showing both nominal and real GP growth for a country. Which of the following can be a true statement?. The country has inflation. The bottom line is nominal growth and the top line is real growth.. The country has inflation. The top line is nominal growth and the bottom line is real growth.. The country has deflation. The top line is nominal growth and the bottom line is real growth.. The country has deflation. The bottom line is nominal growth and the top line is real growth. [correct] Explanation: In this chart for Switzerland, the yellow line is real GP growth. The white line is nominal GP growth. s nominal GP growth is below real GP growth at the far right-hand end of the chart, this denotes negative inflation, i.e. deflation. 8

10 Economic Indicators THE PRIMY OF GP 58% 12% 30% 0% 6. The white line denotes GP growth. Which of the following lines is the best leading economic indicator?. Green line [correct]. Yellow line. White line. Pink line Explanation: The green line denotes the PMI Index. In the great recession starting in late 2008, PMI fell to its low point and started to recover well in advance of GP falling to its low point. 9

11 Economic Indicators THE PRIMY OF GP 9% 3% 3% 85% 7. The misery index is often cited in the media as a way to measure consumer pain. It is defined as the inflation rate plus the unemployment rate. Review the chart and identify the country with the highest misery index.. Italy [correct]. United States. Sweden. Singapore Explanation: The misery index numbers are, in descending order, Italy 13.3%, Sweden 8.6%, United States 8.3%, Singapore 3.3%. 10

12 Economic Indicators THE PRIMY OF GP 15% 64% 18% 3% 8. What type of indicators are unemployment and business confidence?. Unemployment is leading and business confidence is coincident.. Unemployment is coincident and business confidence is leading. [correct]. Unemployment is lagging and business confidence is coincident.. Unemployment is coincident and business confidence is lagging. Explanation: s we saw, unemployment changes in line with GP because consumer spending accounts for the bulk of GP. usiness confidence is a leading indicator of GP because when businesses are confident, they invest more in the economy. 11

13 Economic Indicators MONITORING GP 15% 6% 3% 76% 9. Which of the following qualities of economic indicators do investors prize most?. Rigor. Sample size. Timeliness of release [correct]. Government sponsorship Explanation: "New news" makes markets move. ccordingly, the economic indicators that most quickly herald "new news" are of the most value to traders and investors. 12

14 Economic Indicators MONITORING GP 6% 15% 30% 48% 10. Why is the release of GP statistics less interesting to investors than other indicators?. ecause governments consistently alter their GP measurement methods. ecause the formula for GP includes not only private investment but also other irrelevant factors. ecause GP is not official government data. ecause GP statistics are released well after other economic indicators [correct] Explanation: GP statistics are typically released by the government a month or more after the period in question, by which time dozens of other indicators have been released. 13

15 Economic Indicators MONITORING GP 9% 9% 6% 76% 11. Which of the following important U.S. economic indicators is only available on a quarterly basis?. Nonfarm payrolls. PI. GP [correct]. PMI Explanation: PMI, PI, and nonfarm payrolls are published monthly. GP is only published on a quarterly basis. 14

16 Economic Indicators MONITORING GP 12% 12% 21% 55% 12. Which economic indicator is most directly linked to unemployment?. Nonfarm payrolls [correct]. PI. PMI. GP Explanation: Nonfarm payrolls is the unemployment report. PI is inflation, PMI is business confidence, and GP is growth. 15

17 Economic Indicators FORESTING GP 3% 9% 0% 88% 13. Here is the economic calendar for the United Kingdom for ugust Explore indicators like PMI, house prices, industrial production, employment, retail sales, and GP. How was performance overall? (Students can scroll through this calendar.) 16

18 . elow expectations. In line with expectations. bove expectations [correct]. There is not enough information to tell. Explanation: The United Kingdom surprised the world in the second half of 2013 with the robustness of its recovery. The PMI index (Markit UK PMI Manufacturing, row 21) for July registered 54.6 versus an estimate of House prices (Nationwide House Px NS YoY, row 25) rose 3.9% YoY versus an estimate of 3.1%. Industrial production (Industrial Production YoY, row 34) grew 1.2% YoY versus an estimate of 0.8%. Jobless claims (Jobless laims hange, row 63) declined by 29,000 versus an estimated decline of only 15,000. Retail sales (Retail Sales Ex uto YoY, row 69) grew 3.1% versus an estimate of 2.7%. GP (GP YoY, row 82) for the second quarter grew 1.5% YoY versus an estimate of 1.4%. 17

19 Economic Indicators FORESTING GP 6% 9% 3% 82% 14. This chart was captured in mid t that point in time, which of the following terms would have described the growth predicted in this pop-out table?. cceleration. eceleration [correct]. Stagnation. Expansion Explanation: hina grew by 7.7% in t the time this screen was captured, it was expected to grow by only 7.25% in 2016, meaning that analysts expected hina to decelerate. 18

20 Economic Indicators FORESTING GP 9% 6% 12% 73% 15. How have economic forecasts for this country evolved?. Material improvement. Material deterioration. Minimal change [correct]. There is not enough information to tell. Explanation: The white line represents 2014 real GP growth forecasts. s the line is essentially horizontal, it means that the forecasts are mostly unchanged. 19

21 Economic Indicators FORESTING GP 9% 9% 12% 70% 16. These charts show data for four countries as of early For each country, the purple line denotes historic real GP growth. The white line denotes the consensus estimated real GP growth. The red line denotes the most pessimistic analyst forecast. The green line denotes the most optimistic analyst forecast. For which country is there the most controversy among the analyst community about 2016 growth? 20

22 . lbania. ominican Republic. Russia [correct]. Germany Explanation: The chart for Russia displays the widest spread between the analyst estimates. The difference between the lowest (red) and the highest (green) estimates is over 3 percentage points. Moreover, analysts predict a continuation of current trends for the other three countries. Meanwhile, analysts expect a reversal of recent growth trends for Russia. 21

23 Economic Indicators FORESTING GP 0% 15% 21% 64% 17. What is the main reason that investment banks create estimates of economic indicators?. To determine in which countries the banks should operate. To increase real GP growth by exporting their intellectual property to foreign investors. To hold governments accountable for management of their economies. To know when specific economic data points are a positive or negative surprise [correct] Explanation: Surprises move markets, and market movements are the lifeblood of investment banks. While a successful financial institution will benefit the GP of its host nation, and while the creation of economic estimates does help keep governments accountable, banks primarily exist to make money. 22

24 Economic Indicators FORESTING GP 15% 12% 12% 61% 18. Which of the following is the biggest pitfall of economic indicators?. They do not take into account seasonality.. They are not sufficiently timely to make investment decisions.. They only serve as proxies for economic activity.. They do not consistently presage turning points. [correct] Explanation: Investors analyze the economy through the lens of economic indicators primarily to make money and avoid losses. When economic indicators fail to predict a turning point, which they frequently do, investors can miss out on opportunities and/or lose money. Some economic indicators are very timely, such as PMI. ll economic indicators are proxies. 23

25 Economic Indicators FORESTING GP 6% 18% 12% 64% 19. Here is a chart displaying economic estimates of the initial jobless claims economic indicator, one of the main unemployment statistics in the U.S. It measures the number of new applicants for unemployment benefits. What was the level of the analyst with the most optimistic outlook?. 260 [correct] Explanation: The most optimistic analyst is the analyst expecting the lowest increase in initial jobless claims. In this case, the lowest estimate is

26 urrencies URRENY MRKET MEHNIS 94% 6% 1. Of the visible countries, which is the fourth biggest exporter and fourth biggest importer?. Japan [correct]. Germany. United States. hina Explanation: Looking at the bar charts around the ring, the country with the fourth highest imports (the outwards facing bar) is Japan. nd the country with the fourth highest exports (the inwards facing bar) is also Japan. 25

27 urrencies URRENY MRKET MEHNIS 6% 18% 6% 70% 2. In 1994, the Mexican peso declined against the U.S. dollar by 37% during the so-called Tequila risis. Use the article to answer this question: What exacerbating factor did Mexico's Tequila risis have in common with the rgentine crisis of 2002? 26

28 . oth countries use the same currency: the peso.. oth countries had large dollar-denominated debts. [correct]. oth crises occurred in ecember, a holiday month.. oth crises happened in Latin merica. Explanation: The fourth paragraph of the article cites $5.2 billion of Mexican government debt coming due in the next five weeks. In 2002, rgentina had a total of $100 billion of debt. s we mentioned earlier, a decline in a currency's value versus the U.S. dollar will make U.S. dollar-denominated debt owed harder to repay. 27

29 urrencies URRENY MRKET MEHNIS 15% 9% 15% 61% 3. How many New Zealand dollars (NZ) can you buy with 100 ustralian dollars (U)? [correct] Explanation: It takes ustralian dollars, or U, to buy you 1 New Zealand dollar, or NZ. If you were therefore to convert 1 U to NZ, you would get slightly more than 1 NZ. To calculate how many NZ you would get for 100 U, take 100 and divide it by U would therefore buy you NZ. 28

30 urrencies URRENY MRKET MEHNIS 9% 12% 0% 79% 4. llison lives in merica and has just retired. It is early She has long had dreams of going to the top of the Eiffel Tower in France, visiting uckingham Palace in the United Kingdom, seeing the cherry blossoms in Japan, and cruising the fjords on the west coast of Norway. She last considered all four options on New Year's ay She would like to select the trip to go on based on which country's currency has subsequently weakened the most against the U.S. dollar. Where will she go on vacation? 29

31 . Norway [correct]. United Kingdom. Japan. France Explanation: The Norwegian krone chart is expressed in terms of the number of Norwegian krone per one U.S. dollar. The chart rises from approximately 5.5 to 8.4, representing a 50% strengthening of the U.S. dollar. The U.S. dollar strengthened less against the euro and sterling. The U.S. dollar was roughly unchanged against the Japanese yen. 30

32 urrencies URRENY MRKET MEHNIS 0% 6% 3% 91% 5. Review the four currency pair charts for the arbadian dollar against the Jamaican dollar, the zech koruna against the Polish zloty, the Nigerian naira against the Ghanaian cedi, and the Hong Kong dollar against the Macanese pataca. Which pair is pegged? 31

33 . The arbadian dollar against the Jamaican dollar. The zech koruna against the Polish zloty. The Nigerian naira against the Ghanaian cedi. The Hong Kong dollar against the Macanese pataca [correct] Explanation: The hallmark of a pegged currency pair is the absence of change in the currency pair value. The y-axis shows that the Hong Kong dollar barely moved against the pataca. Over the period, the naira had repeated pronounced spells of strengthening and weakening against the cedi. The same is true of the koruna and zloty. While the arbadian dollar and Jamaican dollar currency pair was relatively stable, the Jamaican dollar weakened by 5% over the period. 32

34 urrencies URRENY MRKET MEHNIS 12% 9% 9% 70% 6. Which of the following is NOT an example of a failed peg?. ritish sterling in Mexican peso in Hong Kong dollar in 1997 [correct]. rgentine peso in 2002 Explanation: We reviewed all four currency crises in this module. The ritish, Mexican, and rgentine crises all resulted in devaluations. Recall that onald Tsang successfully defended the Hong Kong dollar peg. 33

35 urrencies URRENY MRKET MEHNIS 6% 6% 18% 70% 7. Use the chart below to answer the question. How many anish crowns (KK) will buy 100 Japanese yen (JPY)? [correct]

36 Explanation: If we look at the JPY row, we see that it takes Japanese yen to buy 1 anish crown. Therefore, 100 Japanese yen will buy (100 / ), or anish crowns. We could also have arrived at the same answer by seeing that it takes anish crowns to buy 1 Japanese yen. Hence, (100 * ) anish crowns would buy 100 Japanese yen. 35

37 urrencies URRENY VLUTION 6% 6% 18% 70% 8. ccording to this ig Mac index screen, which of the following countries' currency is the most undervalued?. United States. hina [correct]. razil. Thailand Explanation: n undervaluation is listed as a negative percent in the far right column. Of the four options, hina has the largest negative number. 36

38 urrencies URRENY VLUTION 9. What generally happens when a central bank unexpectedly increases interest rates?. The currency strengthens. [correct]. The currency weakens.. The currency strengthens, then weakens.. The currency weakens, then strengthens. Explanation: When a central bank increases interest rates, the government bond yields rise. This attracts investment from around the world, spurring demand for that country s currency. The currency, therefore, typically strengthens. 37

39 urrencies URRENY VLUTION 10. Which driver weakened the Swiss franc from one euro per Swiss franc to 0.83 euro per Swiss franc?. surprise change in inflation expectations [correct]. surprise change in valuation expectations. surprise change in interest rates expectations. surprise change in trade deficit expectations Explanation: When a central bank threatens to print a lot of money, the exchange rate will tend to depreciate. This is due to a surprise change in inflation expectations as printing money is inherently inflationary. 38

40 urrencies URRENY VLUTION 6% 0% 15% 79% 11. What does the ig Mac index show?. How the law of one price is true of consumer products. How currencies may be overvalued or undervalued [correct]. How interest rates and inflation affect trade. How The Economist magazine estimates inflation Explanation: The ig Mac index uses the prices of ig Macs around the world compared to the price of a ig Mac in the U.S. as a proxy for currency valuation. 39

41 urrencies URRENY VLUTION 12. What are the three main short-term drivers of currency valuation?. Surprise changes in interest rates, inflation, and gold. Surprise changes in interest rates, inflation, and trade [correct]. Surprise changes in unemployment, inflation, and trade. Surprise changes in unemployment, trade, and gold Explanation: When the government changes interest rates, this action changes the attractiveness of the bonds of that government. This typically leads to cross-border money flows either into or out of that country. Inflation erodes the purchasing power of a currency; therefore, it can have a powerful effect on currency valuation. ross-border trade directly influences currency transactions; therefore, changes in trade will alter the demand for a currency. Surprise changes in unemployment may lead to a shift in monetary policy. Unemployment is therefore important to currency valuation only insofar as it leads to surprise changes in interest rates. The gold standard no longer exists, meaning currencies are no longer pegged to gold. 40

42 urrencies URRENY VLUTION 18% 6% 6% 70% 13. y what mechanism do interest rates affect currency values?. Global investors are attracted by higher bond yields in high interest rate countries. [correct]. hanges in interest rates directly influence the value at which a currency is pegged.. High interest rates increase the value of house prices which make the currency safer.. Low interest rates always make a market more attractive for investors, which lifts the currency. Explanation: International investors frequently seek the countries with elevated government bond yields. When they buy these bonds, they must buy the domestic currency, which lifts the value of that currency. 41

43 urrencies URRENY VLUTION 9% 12% 9% 70% 14. Which of these headlines could move a currency pair?. U.S. Stocks Rally on Fed's Surprise Reduction of iscount Rate [correct]. Railroad Rate Hikes rive ichotomy of Necessary vs. Excessive. Hong Kong Firmly ommitted to ollar Peg, John Tsang Says. Grade Inflation: evaluing -Schools' urrency Explanation: Surprise changes in interest rates, inflation, and trade tend to move currency pairs. The only article on one of these topics concerns a surprise Fed change in the interest rate. 42

44 urrencies ENTRL NKS N URRENIES 9% 15% 3% 73% 15. What is the most common target inflation rate for an advanced economy?. 1%. 2% [correct]. 3%. 0% Explanation: The typical target inflation rate for a developed economy is about 2%. For example, the U.S., Japan, the U.K., and anada all target 2% inflation. 43

45 urrencies ENTRL NKS N URRENIES 9% 6% 9% 76% 16. What was the primary goal of benomics?. To reduce inflation by increasing unemployment. To help Shinzo be win the election of To halt the vicious cycle of deflation [correct]. To strengthen the yen to foster consumption of luxury goods Explanation: fter the Japanese stock market peaked in 1990, Japan entered a vicious deflationary cycle over the subsequent two decades. benomics was an attempt to break that cycle by weakening the yen to spur inflation and boost exports. 44

46 urrencies ENTRL NKS N URRENIES 3% 12% 9% 76% 17. Here is the vicious deflationary cycle. What step connects the lower left gray arrow to the upper right blue arrow?. Workers expect prices to increase. Workers demand pay increases. Employment declines. Prices decline [correct] Explanation: When fewer people work, consumer spending declines. This prompts companies to drop prices in order to stimulate demand. 45

47 urrencies ENTRL NKS N URRENIES 9% 0% 18% 73% 18. Was the Great epression in the U.S. linked to inflation or deflation?. Inflation. eflation [correct]. oth inflation and deflation. Neither inflation nor deflation Explanation: The Great epression of the 1930s followed the rampant consumption and speculation of the 1920s. usinesses and consumers were forced to pay off debt, which eroded spending in the economy. This led to price declines. 46

48 urrencies URRENY RISK 3% 6% 0% 91% 19. Why is there a mirror image between the yen weakness and stock market strength on the chart shown?. Rising Japanese interest rates both weaken the yen and lift the stock market.. declining yen will lift inflation, which is good for Japanese corporations.. Yen weakness favors the many exporting corporations within the index. [correct]. Stock market strength pushes Japanese investors to buy safe haven currencies. Explanation: weaker yen enables Japanese manufacturers to sell more units of their products to foreigners, driving the manufacturers' earnings. Rising Japanese interest rates would tend to strengthen the yen. orporations tend to dislike inflation. 47

49 urrencies URRENY RISK 9% 12% 9% 70% 20. In early 2016, the same Germany machinery company has interest from four prospective clients from emerging markets razil, Indonesia, Russia, and South frica. They all want to buy ten machines. The company will bill them in euros but the FO is worried that the client may cancel the order if his currency declines when the invoice comes due on June 30, ccording to historical currency volatility alone, the client from which country would be most likely to pay his invoice? 48

50 . Indonesia [correct]. razil. Russia. South frica Explanation: 15, Indonesian Rupiah buys 1 euro (middle of the range). The blue line on the right-hand side is at 16, If the currency moves one standard deviation, the shift would be as follows: (16, ,212.11) / 15, = 8.5%. This means that there is a reasonable chance that the Indonesia Rupiah may weaken by 8.5% over the coming months. similar analysis on the other three currency pairs shows that South frica, razil and Russia have 13%, 14% and 16% changes, respectively. The Indonesian Rupiah is therefore the least volatile against the euro. 49

51 urrencies URRENY RISK 15% 3% 0% 82% 21. What is the median estimate for the number of U.S. dollars per ritish sterling for calendar year 2015? [correct] Explanation: What is the median estimate for the number of U.S. dollars per ritish sterling for calendar year 2015? 50

52 urrencies URRENY RISK 6% 3% 3% 88% 22. What is the difference between itigroup and JPMorgan hase s estimate for the U.S. dollar/ritish sterling currency pair for the end of Q1 2015? pounds euros percent dollars [correct] Explanation: The difference between the two numbers ( ) is The question asks for the denomination. s it takes more than 1 dollar to buy 1 pound, we can deduce that the currency pair is being expressed in dollars per sterling. Therefore, the units are expressed in dollars. 51

53 urrencies URRENY RISK 23. You are a utch diamond dealer who sources diamonds from South frica. You believe that the frican continent is set to boom, and so you believe that the South frican rand will strengthen against the world s major currencies. Therefore, you are worried about your ability to afford South frican diamonds in the future. new mine is being dug in South frica and you have agreed with the miner to buy 1 million South frican rands' worth of diamonds a year from today. Therefore, you will need 1 million rands in cash in one year s time. urrently, the exchange rate is rands to the euro. You believe that the rand will strengthen to 16 rand to the euro in one year s time. You speak to some currency dealers and they let you know that they would agree today to convert your euros into rands in one year s time at the rate of ssume that you converted some of your euros into 1 million rands at today s prevailing rate and stored the rands in a safe. How many more or fewer euros would you have in one year s time if you were to agree today to the forward agreement instead of simply purchasing the million rands today? 52

54 . EUR 4,783 more [correct]. EUR 4,783 less. EUR 4,110 more. EUR 4,110 less Explanation: Today, 1,000,000 rands will cost you (1,000,000 / ) = EUR 58,390. If you take the forward agreement, 1,000,000 rands would cost you (1,000,000 / ) = EUR 53,607. Therefore, if you took the forward agreement instead of changing the money today, you would have (EUR 58,390 EUR 53,607) = EUR 4,783 more. 53

55 urrencies URRENY RISK 15% 9% 0% 76% 24. Why would Jack Welch suggest putting all company plants on barges?. To respond to the changes in the currency market quickly [correct]. To avoid using any domestic currencies. To locate the cost base in the most favorable tax regimes. To purchase materials for the plant more quickly Explanation: Jack Welch was referring to the problems that currency fluctuations inflict on global manufacturing corporations. Were all his plants to be on barges, he could move his manufacturing facilities away from countries with strong currencies to countries with weak currencies, thereby making the goods cheaper to buyers and so maximizing his profit. 54

56 urrencies URRENY RISK 6% 15% 15% 64% 25. Samsung is based in South Korea and reports in South Korean won. Samsung sells its products around the world and the geographic breakdown of its 2015 revenues are in the first chart. The second chart shows how some major world currencies moved against the South Korean won through the course of Of the currencies shown, which currency movement held back Samsung's revenue growth the most? 55

57 . Yuan. ollar. Real. Euro [correct] Explanation: Latin merica is not included in the revenue breakdown table therefore we can assume that the razilian real/south Korean won currency pair is irrelevant. Of the remaining three currency pairs, only the euro weakened against the South Korean won during This is apparent because the number of won to buy one euro went down. This movement would have partially held back Samsung's reported European revenue growth in terms of South Korean won. 56

58 urrencies URRENY RISK 3% 18% 3% 76% 26. Legendary investor Warren uffett said, Gold gets dug out of the ground... Then we melt it down, dig another hole, bury it again and pay people to stand around guarding it. It has no utility. nyone watching from Mars would be scratching their head. ased on this quotation, what quality of gold is he referring to?. Its durability. Its scarcity. Its physical attractiveness. Its storage costs [correct] Explanation: So-called gold bugs adore the durability, scarcity, and physical attractiveness of gold along with many other qualities of the metal. Warren uffet tends to invest in equities, especially into those paying a healthy dividend. Gold effectively pays a negative dividend as one has to pay people to guard it. uffett is here highlighting one of the least attractive features of gold as an investment. 57

59 urrencies URRENY RISK 27. Of the following options, what is the best way for investors to manage currency risk?. y locking in forward rates for known foreign payments [correct]. y investing in pegged currencies. y investing purely in very large stocks in their home market. y vacationing each year in a country with a weak currency Explanation: We reviewed how investors can lock future currency transactions. Pegged currencies have a dangerous habit of crashing. ig companies can operate in multiple countries. 58

60 Fixed Income THE ROOTS OF THE ON MRKET 9% 6% 6% 79% 1. What does it signify when the bars are green at the bottom?. eficit. High revenue. Growth. Surplus [correct] Explanation: When tax revenue (the white line) exceeds budgetary outlay (the orange line), the government is taking in more tax than it is spending, causing a budget surplus. The bottom chart shows the budget surplus (green) or deficit (red). 59

61 Fixed Income THE ROOTS OF THE ON MRKET 3% 3% 24% 67% 2. ccording to the table on the right, which country owns 2.9% of U.S. debt?. elgium [correct]. Taiwan. United Kingdom. Switzerland Explanation: This pie chart breaks down the $6T of U.S. debt held by foreign owners. Total U.S. debt is $12.5T, as we just learned. 2.9% of $12.5T is $362.The only country on the table with $362 of debt is elgium. 60

62 Fixed Income THE ROOTS OF THE ON MRKET 3% 3% 6% 85% 3. What quality of U.S. government bonds causes investors to buy them when market volatility rises?. U.S. government bonds are denominated in dollars.. U.S. government bonds are stored in bank vaults.. U.S. government bonds are unwritten by global taxpayers.. U.S. government bonds are considered low risk. [correct] 61

63 Explanation: U.S. government bonds are considered one of the world's main safe havens for investors because they are backed by U.S. taxpayers and the U.S. government ultimately could print money to repay them. The mere fact that an investment is denominated in dollars does not make it safe. 62

64 Fixed Income THE ROOTS OF THE ON MRKET 4. Why is fixed income called fixed income?. ecause bonds cannot rise in price over the life of a bond. ecause the repayment amounts and timings are fixed for ordinary bonds [correct]. ecause current and future owners of a bond get the same effective annual interest rate. ecause the price of the bond is fixed, given the safe haven nature of bonds Explanation: n ordinary bond has a rigid schedule of the repayment amounts and timings of those repayments. The price of the bond, however, is determined in the marketplace and can go both up and down. When a bond is bought at a new price, it leads the new owner to receive a different annual effective interest rate. 63

65 Fixed Income THE ROOTS OF THE ON MRKET 12% 24% 12% 52% 5. Which is the biggest??. World GP. World total stock market value. World total bond market value [correct]. World total currency reserves 64

66 Explanation: We saw earlier that world GP is $72T and that world currency reserves are $12T. We also saw that the bond market at $100T dwarfs the equities market which is a $64T market. Therefore, the bond market is the biggest of the four. 65

67 Fixed Income THE ROOTS OF THE ON MRKET 15% 67% 18% 0% 6. What is one reason why foreign governments lend to the U.S. government?. To enhance diplomatic relations. To build liquid FX reserves [correct]. To benefit from the price and yield going up. To pay for the U.S. budget deficit Explanation: Many countries feel the need to have large FX reserves and U.S. government bonds are suitably liquid for this purpose. Governments do not buy U.S. government bonds to enhance diplomatic relations. While foreign governments do, in effect, cover the U.S. budget deficit, they expect to get paid back with interest. ond prices move inversely to bond yields. 66

68 Fixed Income THE ROOTS OF THE ON MRKET 9% 18% 0% 73% 7. What does one yellow bar depict in this debt distribution diagram?. oupon repayment [correct]. Principal repayment. Yield repayment. istribution repayment Explanation: The yellow bars represent coupon repayments and the blue bar represents the single principal repayment at the end of the life of the bond. 67

69 Fixed Income THE ROOTS OF THE ON MRKET 15% 6% 9% 70% 8. Which one of the following actors benefits when interest rates go up?. company with a fixed-rate loan. company about to secure a fixed-rate loan. n investor who already owns bonds. n investor who is about to buy bonds [correct] 68

70 Explanation: When interest rates go up, bond yields go up, meaning bond prices go down. n investor who now buys bonds will benefit from lower-priced, higher-yielding bonds. borrower with a fixed-rate loan will be unaffected by interest rate movements as the interest rate is locked. company about to secure a loan will suffer from a higher interest rate on that loan. 69

71 Fixed Income ON VLUTION 9. When investors doubt the creditworthiness of a borrower, how do they alter their calculation of the bond yield to take into account these doubts?. Investors do not alter the calculation. [correct]. Investors exclude future repayments they think will not occur.. Investors add the percent likelihood of bankruptcy to the yield.. Investors decrease the price by the percent likelihood of bankruptcy. Explanation: They do not alter their calculation. s yield compares repayments to the price of a bond, and as the price will probably be very low, the yield will probably be very high. When calculating yield, investors never exclude future promised payments, no matter how unlikely they are to materialize. 70

72 Fixed Income ON VLUTION 10. s a general rule, what percentage of debt to GP will make a government s bond yields spike?. 50%. 90%. 150%. There is no general rule. [correct] Explanation: s a general rule, a higher debt burden will increase the risk of bonds. For higher risk, investors will demand a higher return in the form of an elevated yield. There is, however, no rule of thumb on when bond yields will spike. Japan is one of the most heavily indebted nations in the world, yet it has one of the lowest government bond yields. 71

73 Fixed Income ON VLUTION 0% 3% 12% 82% 11. What is true of both the U.K. and the U.S.?. oth countries print world reserve currencies.. oth countries are highly creditworthy. [correct]. oth currencies are used equally in the world FX markets.. oth are heavily reliant on long-term borrowing. 72

74 Explanation: The U.S. dollar is the world s reserve currency, which is involved in 85% of all currency trading. The bulk of U.K. government borrowing is long-term while the bulk of U.S. government borrowing is short-term. oth the U.S. and the U.K., however, have strong reputations for creditworthiness. 73

75 Fixed Income ON VLUTION 12. Which would you prefer?. 3% annual yield on an investment in 10-year U.S. government bonds. 4% annual yield on a risk-free 10-year government bond from the mythical country of Utopia [correct]. 2% annual yield on an investment in 10-year U.S. government bonds. 3% annual yield on a risk-free 10-year government bond from the mythical country of Utopia Explanation: oth U.S. government bonds and Utopian government bonds are risk-free. ll four should in theory offer the same reward: yield. If they do not, then the one offering the highest yield is in effect a free lunch. Opt for the bond with the highest yield. 74

76 Fixed Income ON VLUTION 13. Which would you prefer?. 5% annual yield on an investment in 10-year U.S. government bonds [correct]. 3% annual yield on a risk-free 10-year government bond from the mythical country of Utopia. 4% annual yield on an investment in 10-year U.S. government bonds. 2% annual yield on a risk-free 10-year government bond from the mythical country of Utopia Explanation: When the risk is the same, investors should prefer the bond with the higher yield. 75

77 Fixed Income ON VLUTION 3% 15% 9% 73% 14. What is the primary reason for U.S. government bond yields to ripple through the bond market?. ond prices move in lockstep in order for the yields to match government bond yields.. The large government bond market competes for investors attention via yields. [correct]. ll governments mandate interest rates as part of their economic policy.. Non-government borrowers are slightly less safe and therefore must offer slightly lower yields. 76

78 Explanation: ond yields move when bond prices move. s bond investors compare bonds based on their yields, and as government bonds are the largest part of the bond market, the yields on government bonds will compete for investors attention against the yields on all other bonds. 77

79 Fixed Income ON VLUTION 15% 9% 6% 70% 15. rise in which of the following measures would typically send a government bond price up?. reditworthiness [correct]. Inflation. Interest rates. Government borrowing Explanation: When investors become more comfortable that a borrower can repay, the risk and therefore the yield on the bond tend to go down, meaning that the price tends to go up. rise in inflation and interest rates typically sends yields up and prices down, as we saw. There is less of a connection between the level of government borrowing and the yield on a government bond. 78

80 Fixed Income ON VLUTION 9% 6% 21% 64% 16. Which of the countries shown makes the greatest relative use of short-term government financing? 79

81 . ustralia. Switzerland. Norway [correct]. Germany Explanation: Norwegian government debt will be completely paid off by ustralian government debt will be fully paid off by 2040, while both German and Swiss government debt will be fully paid off beyond

82 Fixed Income ON VLUTION 9% 9% 6% 76% 17. How do investors compare bonds?. y comparing the total amounts of principal and interest outstanding. y comparing the prices of single bonds. y comparing the total amounts borrowed to the repayment amounts. y comparing the yields [correct] Explanation: onds come in all shapes and sizes. The annual yield is derived from the amount still repayable and the bond price. oth are themselves inputs to the yield number. The resulting yield is the only number that facilitates apples-to-apples comparison. 81

83 Fixed Income ENTRL NKERS N INTEREST RTES 18. Which of the following is the strongest driver of inflation?. onsumers deferring purchases in hopes of a better deal. Wartime activities [correct]. rise in the price of gold. High interest rates Explanation: War fosters scarcity, which is inherently inflationary. onsumers deferring purchases is deflationary. Gold sometimes rises in response to inflation, but this rise in gold does not cause inflation. High interest rates are commonly used to combat high inflation. 82

84 Fixed Income ENTRL NKERS N INTEREST RTES 18% 3% 9% 70% 19. This chart shows the output gap in the U.S. as of the end of What was likely the Fed interest rate policy at the end of 1973?. To maintain high interest rates and be vigilant about inflation [correct]. To maintain low interest rates and be vigilant about inflation. To maintain high interest rates and be vigilant about deflation. To maintain low interest rates and be vigilant about deflation 83

85 Explanation: In 1973, as the U.S. actual GP (yellow line) was above potential GP (white line), there was a positive output gap and "the porridge was hot." Inflation had risen to over 8% and the Federal Reserve had hiked rates to 9%. The Fed was maintaining high interest rates and was fixated on inflation. 84

86 Fixed Income ENTRL NKERS N INTEREST RTES 6% 15% 15% 64% 20. Here is a chart from the ILE function displaying U.S. 10-year inflation expectations as of early t the point in time shown, where is the country's 10-year inflation expectation in relation to the entral ank's inflation target? % above % above % below [correct] % below Explanation: s we saw earlier, the inflation target for the U.S. is 2%. Therefore, the current inflation expectation of % is % below the target. 85

87 Fixed Income ENTRL NKERS N INTEREST RTES 15% 12% 9% 64% 21. Investors who fear rising inflation may buy Treasury Inflation Protected Securities (TIPS). How do TIPS shield lenders from inflation?. y disbursing gold bullion. y offsetting the inflation with deflation. y triggering an insurance payout. y compensating investors for inflation [correct] Explanation: TIPS compensate the lender in the event of inflation, using PI as a guide. 86

88 Fixed Income ENTRL NKERS N INTEREST RTES 12% 6% 18% 64% 22. What is the Federal Reserve's favorite inflation gauge?. ore PE [correct]. GP deflator. PI. Household income Explanation: ore personal consumption expenditure is the favorite inflation gauge of the Federal Reserve. The onsumer Price Index and the GP deflator are both affected by volatile food and energy prices and are therefore deemphasized. Household income is not in itself an inflation gauge. 87

89 Fixed Income ENTRL NKERS N INTEREST RTES 3% 3% 15% 79% 23. Here is the output gap in the U.S. in early What was likely the Fed interest rate policy?. To maintain high interest rates. To maintain low interest rates. To hike interest rates. To cut interest rates [correct] 88

90 Explanation: In 1975, U.S. actual GP (yellow line) was declining well below potential GP (white line), meaning there was a growing negative output gap. t the onset of this recession, the Federal Reserve was aggressively cutting interest rates, which had reduced from 9% in late 1974 to 5.5% at the time the chart shows. 89

91 Fixed Income THE YIEL URVE N WHY IT MTTERS 3% 0% 0% 97% 24. Why does the yield curve naturally slope upwards?. To offer investors increased bond prices over time as represented by the rising line. To compensate lenders for the greater risk of long-term loans compared to short-term loans [correct]. To pay investors for the risk of deflation. To attract bond traders who typically prefer long-term bonds Explanation: When you lend somebody money for a long period of time, there is a greater chance that the borrower will go bust or that inflation will rise as compared to lending money for a short period. Lenders therefore demand a greater return (that is, a higher bond yield) as compensation for the greater risk. This is why yields at the far right of the yield curve tend to be higher than yields at the far left to compensate for credit risk and inflation risk. 90

92 Fixed Income THE YIEL URVE N WHY IT MTTERS 0% 15% 9% 76% 25. Why did the corporate spread significantly widen during the 2008 market crash?. orporate bond issuers go bankrupt more frequently than governments, as they do not have a tax base to fall back on in hard times. [correct]. orporate bonds went up as investors rotated out of equities into all forms of safer bonds.. orporations were viewed as safer than governments; therefore, the corporate bonds went up and the government bonds went down.. slowdown in economic activity led to fears of rising inflation. 91

93 Explanation: In 2008, investors were worried about the recession sending companies into bankruptcy and the threat of deflation. This sent corporate bond prices down and so yields up. The same worries spurred investors to seek out investments with no credit risk, such as U.S. government bonds. This sent the price of such bonds up and so yields down. These two effects drove a sharp divergence between corporate and government bond yields. 92

94 Fixed Income THE YIEL URVE N WHY IT MTTERS 13% 0% 13% 75% 26. What impact will a tightening of the corporate spread most likely have on a company?. tendency to restrict the borrowing capacity of the company. tendency to expand the borrowing capacity of the company [correct]. tendency to make borrowing more expensive. tendency to make the company more prone to bankruptcy Explanation: tightening corporate spread is a vote of confidence in the company. It will make the cost of borrowing come closer to that of the risk-free borrowing of the government. This enhances the company s ability to borrow. 93

95 Fixed Income THE YIEL URVE N WHY IT MTTERS 6% 13% 16% 65% 27. The U.S. yield curve affects which of the following entities?. ll large companies worldwide and the U.S. government. ll large U.S. companies and all governments worldwide. ll large companies and all governments worldwide [correct]. ll large U.S. companies and the U.S. government Explanation: The U.S. yield curve represents the largest single part of the world bond market. It is priced in U.S. dollars, the main currency in the world, and is one of the most liquid parts of the world's financial markets. ccordingly, all other government bond markets around the world are viewed 94

96 relative to the U.S. government bond market. s interest rates affect economies, borrowing conditions, and company valuations, all companies and all governments worldwide are affected in some way by the U.S. yield curve. 95

97 Fixed Income THE YIEL URVE N WHY IT MTTERS 16% 13% 6% 65% 28. What is the 10-year to 3-month term premium of the following yield curve? % % % [correct] % Explanation: The table at the bottom of the chart provides the yield at various points in time along the yield curve. If we take the difference (the spread) between the 10Y yield of 2.421% and the 3Y yield of 0.023%, we get the 10Y-3Y term premium. 10Y yield 3M yield = 2.421% 0.023% = 2.398% 96

98 Fixed Income THE YIEL URVE N WHY IT MTTERS 10% 13% 16% 61% 29. Which of these purchases is most likely to be affected by interest rates?. safari. yacht. n automobile [correct]. n undergraduate university degree 97

99 Explanation: onsumers often borrow money to pay for a new car. The interest rate on the loan will be affected by prevailing interest rates. safari costs the least of the four items and is therefore more likely to be paid for out of savings. dditionally, banks are less willing to loan money for vacations as there is nothing to sell should the borrower go bankrupt. Yachts are typically purchased by the rich and super rich, who have less need to borrow money to make big purchases. Given that students tend to start undergraduate degrees at a certain stage of life, elevated interest rates will typically not deter students from attending a university at that time, although they may lead to greater interest in cheaper programs. 98

100 Fixed Income MOVEMENTS IN THE YIEL URVE 10% 13% 3% 74% 30. What is the primary driver of the left-hand end of the yield curve?. Inflation. entral bank interest rates [correct]. GP growth estimates. ond trading Explanation: The far left of the yield curve is linked to the overnight interest rate of the central bank. This means that it is closely linked to the central bank s base interest rate. 99

101 Fixed Income MOVEMENTS IN THE YIEL URVE 6% 10% 19% 65% 31. Which yield curve is most likely linked to a booming economy?.. [correct].. 100

102 Explanation: When the economy is booming, investors expect rates to go up in order to rein in inflation. The right-hand end of the yield curve will immediately reflect this with higher yields while the left-hand end will remain trapped in the present with the current lower level of rates. Therefore the yield curve will be steep. Looking at the y-axes of each chart reveals the yield curve with the highest 10-year to 2-year term premium. 101

103 Fixed Income MOVEMENTS IN THE YIEL URVE 13% 13% 10% 65% 32. The two yield curves in the chart are from September 10, 2001 (yellow line) and from October 10, 2001 (green line). What do you think the Federal Reserve did with interest rates in the month following the terrorist attacks of September 11, 2001?. Steepened the interest rates. Kept interest rates the same. Increased interest rates. ut interest rates [correct] 102

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