THE UNIVERSITY OF MELBOURNE

DEPARTMENT OF FINANCE

FINAL EXAMINATION – SEMESTER 1, 2022

FRIDAY, 17TH JUNE, 2022

SUBJECT NUMBER: FNCE 90047

SUBJECT NAME: Financial Markets & Instruments
READING TIME: 15 minutes
EXAMINATION DURATION: 180 minutes
TOTAL DURATION: 195 minutes
START TIME: 10:00am
END TIME: 1:15pm
TOTAL QUESTIONS: 37
TOTAL MARKS: 70
NUMBER OF PAGES (including this page): 10

INSTRUCTIONS TO STUDENTS
1. This exam contains 28 multiple-choice questions, and 9 other questions. Marks for the
multiple-choice questions are only given for final answers, not for method. For the
other questions, there are marks for both your final answer and your method.
2. Please submit your answers as a single Word (.docx) document by editing this
document: on page 2 type your full name as it appears on Canvas, your SIS ID, and
your answers to the multiple-choice questions in the table provided. For the other
questions, please enter your method and answers below each question.
3. This is an online exam. You are permitted to consult any material posted on the
Canvas site for this course, the textbook, and any notes you have made prior to this
exam, but may not consult any other material during the exam.
4. You may use any calculator, Excel / Google Sheets, or similar software.
5. Communication with anyone other than Dr Randall about the exam questions, or
subject material, is strictly prohibited during exam time. You should use Canvas’s
Exam Support chat tool to communicate with Dr Randall.
6. You may however reach out to the appropriate university contact in the event of a
technical issue accessing or submitting the exam:
https://students.unimelb.edu.au/your-course/manage-your-course/exams-assessments-
and-results/exams/technical-support
7. This exam requires a file upload. This file may take some time to complete its upload
in peak exam times. You may only submit once. Students are permitted up to 30
minutes after the scheduled end time to upload and check files. File uploads must be
fully completed by this time. Students will not be able to make a submission after this
time. Students who were prevented from submitting on time or at all due to technical
difficulties will need to apply for technical/special consideration with supporting
documentation.

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 Multiple Choice Answers

Full name (exactly as in Canvas): Junwen Lu

SIS ID: 996067

Question Marks Answer (A, B, C, D, or E)

1 1
2 1
3 1
4 1
5 1
6 1
7 1
8 1
9 1
10 1
11 1
12 1
13 1
14 1
15 1
16 1
17 1
18 1
19 1
20 1
21 1
22 1
23 1
24 1
25 1
26 1
27 1
28 1
Total: 28

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Please select the best answer to each of the following questions.

1. [1 mark] Good banking regulation benefits:

A. banks
B. bank customers
C. society
D. taxpayers
E. the government

2. [1 mark] The gross return of a fund is 5% every year before expenses. The fund has different share
classes. Class A is no-load with a 1% annual expense ratio. Class B has a 3% load on purchases and a
0% annual expense ratio. Class C has a 1% load on purchases and a 0.5% annual expense ratio. After
3 years, which has the highest return, net of fees?
A. Class A
B. Class B
C. Class C
D. One or more share classes both have the highest net return
E. Need more information

3. [1 mark] In Australia, who is responsible for enforcing derivative transaction rules?

A. APRA
B. ASIC
C. RBA
D. Treasury
E. State governments

4. [1 mark] Which of the following statements is true?

A. Insurance firms’ revenue comes only from insurance premia
B. Insurance premia are set so that only customers who are low-risk can afford them
C. Insurance firms’ assets have a longer duration than their liabilities
D. Insurance firms specialising in whole life insurance can ignore the liquidity of their assets
E. General insurers typically invest in more marketable investments

5. [1 mark] An exporter who will receive Japanese Yen in 30 days should hedge the FX risk:
A. in the forward market today
B. in the spot market today
C. in the spot market 30 days from now
D. all of the above
E. none of the above

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6. [1 mark] Agency problems occur in a financial firm when:
A. some employees have better knowledge than other employees
B. there is separation between ownership and control
C. financial intermediation fees are too high
D. there aren’t enough employees
E. none of the above

7. [1 mark] To mitigate investor dilution best, companies should avoid:

A. private placements
B. dividend reinvestment plans
C. share purchase plans
D. rights issues
E. seasoned equity offerings

8. [1 mark] In which of these scenarios can total surplus always be increased by regulation of the
mortgage market?
A. If mortgage providers have a monopoly
B. If taxes are levied on mortgage customers, but not providers
C. If mortgage providers aren’t taking enough risk
D. If mortgage providers operate in a perfectly competitive market
E. If there are many large banks

9. [1 mark] Suppose inflation is 1% per annum higher in Australia than the US. Could the Fed be
below its inflation target, and the RBA above theirs?
A. Only if US inflation is below 0.5% per annum
B. Only if US inflation is 0.5 to 1.5% per annum
C. Only if US inflation is above 1.5% per annum
D. No
E. Need more information.

10. [1 mark] A more liquid secondary market for corporate bonds is good for society because:
A. there is a transfer of wealth from brokers/dealers to investors
B. it increases access to small investors
C. it reduces the cost of capital for firms
D. it makes corporate bonds relatively more attractive than equities
E. it makes corporate bonds relatively more attractive than government bonds

11. [1 mark] Compared to pass-throughs, CMOs are:

A. more risky
B. less risky
C. the same level of risk
D. more risky or less risky
E. more risky, less risky, or the same level of risk

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12. [1 mark] Which of the following does not explain why IPOs are often under-priced?
A. Litigation risk
B. Information asymmetry
C. Investment banking conflicts
D. Moral hazard
E. None of the above

13. [1 mark] Trading on dark venues:

A. provides better liquidity for small trades
B. concentrates trading in one venue
C. makes trading fairer for all participants
D. reduces the informational cost of trading
E. is more expensive than on exchanges

14. [1 mark] The BIS is important because:

A. a monetary authority in Switzerland can be politically neutral
B. it encourages global unification of regulations
C. it is more powerful than every central bank
D. it can change banking policy very rapidly
E. all trades are settled through it

15. [1 mark] In Australia, who supervises superannuation funds?

A. APRA
B. ASIC
C. RBA
D. Treasury
E. State governments

16. [1 mark] The more negative a fund’s beta:

A. the higher its return
B. the lower its return
C. the higher its expected return
D. the lower its expected return
E. All other answers are incorrect

17. [1 mark] Which of these cannot explain why the term structure of interest rates can be hump-
shaped?
A. Expectations Theory
B. Liquidity Premium Theory
C. Market Segmentation Theory
D. Preferred Habitat Theory
E. They can all explain it

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18. [1 mark] The longer a bond’s maturity:
A. the higher its price
B. the lower its price
C. its price is unchanged
D. its price is higher or lower
E. its price is higher, lower, or unchanged

19. [1 mark] Compared to the representation of high-frequency trading in the media, the academic
literature on it is:
A. more positive
B. more negative
C. similar
D. inconclusive
E. unreliable

20. [1 mark] In a well-functioning stock market:

A. a smaller tick size is better than a larger one
B. a larger tick size is better than a smaller one
C. cheaper stocks should have smaller tick sizes
D. tick sizes should be smaller for smaller traders
E. tick sizes should be the same for every stock

21. [1 mark] All else equal, a longer-maturity loan to someone on higher income will have an interest
rate that is:
A. higher
B. lower
C. the same
D. higher or lower
E. higher, lower, or the same

22. [1 mark] Compared to selling a call option, entering into a futures contract to sell has a cashflow
today which is:
A. higher
B. lower
C. the same
D. higher or lower
E. higher, lower, or the same

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23. [1 mark] Which of the following statements is true?
A. Banks always prefer borrowers to pay off their loans early
B. In Australia, mortgage loans can only be made by banks
C. Property is a highly liquid asset class
D. Modern mortgages are typically amortised
E. In Australia, banks can only sell a maximum of 50% of the loans they originate

24. [1 mark] Compared to a putable bond with an American style option, a putable bond with a
European style option is worth:
A. more
B. less
C. the same
D. more or less
E. more, less, or the same

25. [1 mark] If the 1-year interest rates in the US and Australia are 0.6% and 0.35%, respectively, the
current exchange rate is USD 1 = AUD 1.39, then the UIP-expected exchange rate for USD 1 in AUD
in a year’s time is, to 2 decimal places:
A. 1.37
B. 1.38
C. 1.39
D. 1.40
E. Something else

26. [1 mark] Obamacare reduced which problem, by not allowing health insurers to screen on pre-
existing conditions?
A. Adverse selection
B. Moral hazard
C. Redlining
D. Caps on insurance premia
E. None of these

27. [1 mark] Runs on banks’ deposits are more likely if:

A. banks have deposit insurance
B. the central bank is available as a lender of last resort
C. banks refuse to honour withdrawals
D. banks’ balance sheets are less regulated
E. interest rates are higher

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28. [1 mark] If you have a short position in corporate bonds, and then sell CDS on the bond issuer,
you reduce:
A. credit risk
B. interest rate risk
C. liquidity risk
D. basis risk
E. None of these

*** END OF MULTIPLE-CHOICE QUESTIONS ***

29. [4 marks] A 5-year, $100-par, 4%-annual-coupon bond is trading at $103.13. Interest rates are 2%
at every horizon, compounded annually. To 2 decimal places, what is the bond’s yield?

30. [4 marks] What is one cost and one benefit of separating the retail and investment banking arms of
a banking group? (Maximum 40 words)

31. [4 marks] Looking at the limit order book below, by what percentage is the cost higher to buy 400
shares using a market order, rather than a limit order with limit price of $88.45, assuming the limit
order executes in full eventually? Round your percentage to 2 decimal places. If there isn’t one
specific answer, give a range.

Bid price ($) Bid quantity (shares) Ask price ($) Ask quantity (shares)
88.40 100 88.42 100
88.38 100 88.45 200
88.34 200 88.60 300

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32. [4 marks] Fund A has a mean return of 10%, return volatility of 20%, and beta of 1.2. Fund B has
a mean return of 8%, return volatility of 16%, and beta of 0.8. The market returns 9%. The risk-free
rate is 0.25%. Thinking about the Sharpe ratio and Jensen’s alpha, which fund is the better performer?

33. [4 marks] Why might you trade a total market ETF instead of open-end funds for each industry
sector in the market? (Maximum 40 words)

34. [4 marks] Company A can borrow at a fixed rate of 5%, or a floating rate of LIBOR + 0.5%.
Company B can borrow at a fixed rate of 4%, or a floating rate of LIBOR + 0.4%. If company A
wants to borrow at a fixed rate and company B wants to borrow at a floating rate, into what swap
agreement(s) could they enter, so that they both benefit? Be as specific as possible.

35. [4 marks] Thinking about relative prices, barriers to trade, resource endowments, and tastes, state
in which direction each of them would change demand for exports (maximum 40 words total).

36. [4 marks] There are 2 bonds (a zero-coupon bond and a coupon bond paying annual coupons),
both with a maturity of 10 years. The zero-coupon bond is valued at half that of the coupon bond.
Interest rates are 3% p.a. at all horizons, compounded annually. There is no default risk on either
bond. What is the coupon rate of the coupon bond, to 2 decimal places? If you need more information,
state what you would need.

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37. [10 marks] Is financial innovation good? Explain your answer. (Maximum 100 words)

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