QuiChap012 PDF

Chapter 12
The Global Capital Market
True / False Questions
1. A capital market brings together those who want to invest money and those who
want to borrow money.
True False
2. Market makers are companies that make large investments in governmental
bonds.
True False
3. Commercial banks perform a direct connection function in capital markets.
True False
4. An investor purchases the right to receive a specified fixed stream of income from
the corporation when he purchases a share of stock.
True False
5. A debt loan requires a corporation to repay a predetermined portion of the loan
amount at regular intervals regardless of how much profit it is making.
True False
6. Debt loans include cash loans from banks and funds raised from the sale of
corporate bonds to investors.
True False
7. The liquidity of the market is limited in a purely domestic capital market.
True False
8. The cost of capital is the difference between cost of inputs and outputs.
True False
9. The cost of capital is higher in a global market than in a purely domestic capital
market.
True False
10. By using the global capital market, investors have a much wider range of
investment opportunities than in a purely domestic capital market.
True False
11. The risk associated with a portfolio increases as the investor increases the
number of stocks in her portfolio.
True False
12. Investors can reduce the level of risk by diversifying a portfolio internationally.
True False
13. Systematic risk refers to the movements in a stock portfolio's value that are
attributable to macroeconomic forces affecting all firms in an economy.
True False
14. The systematic risk is the level of diversifiable risk in an economy.
True False
15. The relatively low correlation between the movements of stock markets in
different countries indicates that countries face different economic conditions.
True False
16. Using floating exchange rates will help countries reduce the risk of investing in
foreign assets.
True False
17. Financial services is an information-intensive industry.
True False
18. An integrated international capital market is less volatile compared to a
nonintegrated market.
True False
19. Hedge funds position themselves to make "long bets" on assets that they think
will increase in value.
True False
20. Global capital market often lack information about the fundamental quality of
foreign investments.
True False
21. A Eurocurrency is the currency used by the countries of the European Union.
True False
22. Eurocurrency can be created anywhere in the world.
True False
23. A factor that makes the Eurocurrency market attractive to both depositors and
borrowers is its lack of government regulation.
True False
24. Banks charge borrowers a lower interest rate on Eurocurrency borrowings than
for borrowings in the home currency.
True False
25. The spread between the Eurocurrency deposit rate and the Eurocurrency lending
rate is more than the spread between the domestic deposit and lending rates.
True False
26. Eurocurrency market is characterized by lack of government regulation.
True False
27. Domestic currency deposits are regulated in most industrialized countries.
True False
28. Governments give banks less freedom when they deal in foreign currencies.
True False
29. Companies receive a higher interest rate on deposits and pay less for loans when
using the Eurocurrency market.
True False
30. Depositors are not protected against bank failures in the Eurocurrency market.
True False
31. Investors who purchase a fixed-rate bond receive cash payoffs only at maturity.
True False
32. Foreign bonds are sold within the borrower's country and are denominated in the
currency of the country in which they are issued.
True False
33. Foreign bonds sold in the United States are called bulldogs.
True False
34. Eurobonds are usually offered to residents of the country in whose currency they
are denominated.
True False
35. Eurobonds are normally underwritten by an international syndicate of banks.
True False
36. Government limitations are more severe for securities denominated in foreign
currencies than for domestic securities.
True False
37. Eurobonds fall within the regulatory domain of European Economic Community.
True False
38. Historically substantial regulatory barriers separated national equity markets from
each other.
True False
39. A Chinese firm borrows 1 million U.S. dollars from an American bank. The cost of
this loan will be less if U.S. dollar appreciates against the Chinese currency.
True False
40. Borrowers can hedge against foreign exchange risks by entering into a forward
contract.
True False
Multiple Choice Questions
41. A _____ brings together those who want to invest money and those who want to
borrow money.
A. consumer market
B. value chain
C. supply chain
D. capital market
42. Market makers are _____.
A. financial service companies that connect investors and borrowers
B. nonbank financial institutions who want to invest money
C. high net worth individuals with surplus cash to reinvest
D. those who want to borrow money including individuals, companies, and
governments
43. Which of the following statements is true of market makers?
A. Commercial banks are not allowed function as market makers.
B. Market makers are large investors who drive an economy.
C. Market makers facilitate only equity based loans.
D. Market makers connect investors and borrowers in a capital market.
44. An equity loan is made when _____.
A. a corporation pledge equities or other assets to borrow money
B. corporations avail cash loans from individuals
C. a corporation sells stock to investors
D. corporations issue bonds to individual investors
45. Which of the following statements is true of debt loans?
A. Management has the discretion in paying the amount to investors.
B. Debt loans should be repaid at regular intervals.
C. Returns from debt loans are variable in nature.
D. Corporations need not pay back the debt loans if they incur losses.
46. When an investor purchases a corporate bond, he purchases the right to receive
a _____.
A. share of the overall revenues that the company generates
B. part of the title for the assets that the corporate holds
C. specified fixed stream of income from the corporation
D. share of the profits that the company generates through operations
47. An important drawback of a purely domestic capital market is that the _____.
A. investments does not receive protection from governments
B. investments are riskier than in global capital markets
C. market lacks a strong regulatory mechanism
D. cost of capital tends to be higher than it is in a global market
48. A purely domestic capital market faces the problem of _____.
A. foreign exchange risk
B. limited liquidity
C. lack of regulation
D. deregulated markets
49. The cost of capital is the _____.
A. interest received on investments made by the company
B. price of borrowing money
C. difference between cost of inputs and outputs
D. total value of raw materials that a company uses
50. As investors increase the number of stocks in their portfolio, the portfolio's risk
_____.
A. increases initially and declines later
B. declines slowly and steadily
C. increases exponentially beyond a point
D. declines rapidly in the beginning
51. Systematic risk refers to movements in a stock portfolio's value that are _____.
A. attributable to macroeconomic forces affecting an economy
B. specific to the firm or individuals who invest in a portfolio
C. attributable to factors pertaining to an individual firm
D. specific to the company that facilitates the investment portfolio

52. The relatively low correlation between the movement of stock markets in different
countries indicates that _____.
A. diversifying a portfolio will increase the risk of investing
B. most countries face similar economic conditions
C. countries pursue different macroeconomic policies
D. different stock markets are not segmented from each other
53. The element of risk into investing in foreign assets is more with _____ exchange
rates.
A. floating
B. pegged
C. fixed
D. managed
54. Which of the following statements is true of the use of information technology in
financial services?
A. Information technology prevents the spread of financial crises.
B. Financial services is an information-intensive industry.
C. Financial services do not use decisions making systems.
D. It does not require to process large volumes of information.

55. Which of the following is a disadvantage of the integration facilitated by
technology?
A. Segregated international capital markets will emerge as a result of technology.
B. Complexity in processing large volumes of data will increase.
C. Shocks that occur in one financial center will spread globally.
D. Systems integration hinders real-time data transfer across different countries.
56. Which of the following statements is true of the deregulation of financial industry?
A. Countries can strengthen the global capital market by encouraging strict
regulations.
B. Financial services have historically been the most deregulated of all industries.
C. Deregulation helped the development of an international capital market.
D. Deregulation compels financial services companies to remain as domestic
companies.
57. Hedge funds _____.
A. are public investment funds that invest in corporate bonds and shares
B. make long bets rather than short bets
C. are investment funds managed by the government
D. make short bets on assets that they think will decline in value
58. Analysts who believe globalization of capital has serious risks argue that _____.
A. capital does not shift in and out of countries as quickly as conditions change
B. individual nations are becoming more vulnerable to speculative capital
C. deregulation of trade is helpful for the economic growth in a country
D. most of the capital that moves internationally is pursuing long term gains
59. Which of the following is a disadvantage of global capital market?
A. Foreign investments may be driven by speculative flows in the market.
B. A truly global market reduces the liquidity of investments.
C. The availability of capital is low in a global capital market.
D. The cost of capital is more in a global market than a domestic market.
60. Which of the following is a reason why the global capital market is increasingly
becoming speculative?
A. A global market reduces the liquidity of investments and increases the chances
of incurring losses.
B. Investments in the global capital market are faced with a lack of quality
information.
C. Investments in the global capital market are not conducive to diversification.
D. The cost of capital is more in a global market and this increases the level of
risk associated with it.

61. A Eurocurrency is any currency _____.
A. banked outside of its country of origin
B. that is traded in European countries
C. that originates in European countries
D. used to buy gold and related commodities
62. Eurodollars _____.
A. refer to the exchange value of dollar with Euro
B. are used to pay for imports from Europe
C. are dollars banked outside of the United States
D. refer to the exchange buffer that Euro has against dollar
63. Which of the following statements is true of Eurocurrency?
A. Eurocurrency market is a relatively high-cost source of funds.
B. It is produced and banked within European countries.
C. Eurocurrency can be created anywhere in the world.
D. It is used only for internal transactions within European Union.

64. The main factor that makes the Eurocurrency market attractive to both depositors
and borrowers is that it _____.
A. is separated from the foreign exchange market
B. lacks government regulation
C. is associated with low-risk
D. gives high levels of investor protection
65. Banks offer higher interest rates on Eurocurrency deposits than on deposits made
in the home currency because Eurocurrency deposits _____.
A. are funded by the European union
B. lack government regulations
C. are associated with low risk
D. have minimum foreign exchange risk
66. Which of the following is an advantage that banks have when they deal with
foreign currencies?
A. Interest payments to customers are low when dealing with foreign currencies.
B. Accounts need not be maintained when dealing with foreign currencies.
C. Risks that investors face are low when dealing with foreign currencies.
D. Governments give banks more freedom when dealing with foreign currencies.
67. When using the Euromarkets, companies _____.
A. have funds that lack liquidity
B. pay less for the loans
C. attract low interest rates
D. are secured from foreign exchange risks
68. Which of the following is a drawback of the Eurocurrency market?
A. Increased governmental controls
B. High reserve ratio requirements
C. Low interest rates on deposits
D. Exposure to foreign exchange risk
69. Which of the following is true of fixed-rate bonds?
A. Returns from fixed-rate bonds are dependent on the profitability of the issuing
company.
B. Investors get back the face value of the bond at maturity of fixed-rate bonds.
C. Fixed-rate bonds issue cash payoffs only at maturity of fixed-rate bonds.
D. Investors get a share of the company's profit when using fixed-rate bonds.
70. _____ are sold outside of the borrower's country and are denominated in the
A. Micro bonds
B. Eurobonds
C. Foreign bonds
D. Regulatory bonds
71. Which of the following statements is true of foreign bonds?
A. Such bonds must be underwritten by an international syndicate of banks.
B. Foreign bonds are placed only in the originating country.
C. Foreign bonds are issued by governments rather than corporations.
D. Such bonds are denominated in the issuing country's currency.
72. United States sells bonds that are denominated in dollars in Europe. This is an
example of a _____ bond.
A. foreign
B. Euro
C. micro
D. regulatory
73. _____ are international bonds, normally underwritten by an international syndicate
of banks and placed in countries other than the one in whose currency the bond is
denominated.
A. Micro bonds
B. Foreign bonds
C. Eurobonds
D. Regulatory bonds
74. Eurobonds are _____.
A. denominated in the currency of the country in which they are issued
B. normally underwritten by an international syndicate of banks
C. denominated in a currency that is accepted by the European Union
D. are sold outside the borrower's county with reference to the originating
currency
75. An Italian corporation issues a bond denominated in dollars. This is an example of
a _____.
A. foreign bond
B. Eurobond
C. micro bond
D. regulatory bond
76. Which of the following is a factor that makes Eurobonds more attractive than most
major domestic bonds?
A. Presence of a regulatory interference
B. Strong disclosure requirements
C. Favorable tax status
D. Protection from exchange risks
77. _____ separated national equity markets from each other historically.
A. Substantial regulatory barriers
B. Fixed exchange rates
C. Financial similarities
D. Desire for high levels of profit
78. When value of U.S. dollars goes down, _____.
A. bonds that are denominated in dollar will produce more returns
B. foreign depositors in the U.S will benefit
C. foreign borrowers will garner benefits
D. investors tend to favor bonds that are denominated in dollar

79. ABB Bank is a financial corporation located in England and uses euro as its
official currency. The company borrows 1 million U.S. dollars from a bank based
in United States. ABB will be at a disadvantage if _____.
A. Euro appreciates against all currencies
B. U.S. dollar appreciates against Euro
C. U.S. dollar depreciates against Euro
D. fixed exchange rates are used for the transaction
80. _____ can inject risk into foreign currency borrowing.
A. Movements in exchange rates
B. Use of fixed-exchange rates
C. Issue of domestic bonds
D. Use of pegged exchange rates
Essay Questions
81. What is a capital market? Define market makers.
82. Explain various types of capital market loans.
83. Explain how equity loans and debt loans differ in terms of attractiveness to
businesses.
84. How does a global capital market, as compared to a purely domestic market,
benefit investors?
85. What are the advantages of global capital market in comparison with a purely
domestic capital market?

86. What is systematic risk?
87. Explain the changes observed in the risk of investments when an investor
increases the number of stocks in her portfolio.

88. Explain the two basic factors reflected by the relatively low correlation between
the movements of stock markets in different countries.
89. Briefly describe the trends observed in the global deregulation of financial
services.
90. Identify the risks associated with global capital markets.
91. What is a Eurocurrency?
92. What are the financial advantages that make the Eurocurrency market attractive
to both depositors and borrowers?

93. What are the drawbacks of the Eurocurrency market?
94. Describe a fixed-rate bond.
95. What are foreign bonds?

96. Explain Eurobonds with an example.
97. Describe the factors that make the Eurobond market attractive.
98. Write a brief note on foreign exchange risks and the cost of capital.
99. How can a borrower hedge against unpredictable movements in exchange rates?
100.How does the growth in the global capital markets affect investing firms?
Chapter 12 The Global Capital Market Answer Key
True / False Questions
1. A capital market brings together those who want to invest money and those
who want to borrow money.
TRUE
Capital markets bring together those who want to invest money and those who
want to borrow money.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 12-01 Describe the benefits of the global capital market.
Topic: Benefits of the Global Capital Market
2. Market makers are companies that make large investments in governmental
bonds.
FALSE
Market makers are the financial service companies that connect investors and
borrowers. Those who want to invest money include corporations with surplus
cash, individuals, and non-bank financial institutions. Those who want to
borrow money include individuals, companies, and governments.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
3. Commercial banks perform a direct connection function in capital markets.
FALSE
borrowers. They include commercial banks and investment banks. Commercial
banks perform an indirect connection function.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
4. An investor purchases the right to receive a specified fixed stream of income
from the corporation when he purchases a share of stock.
FALSE
An equity loan is made when a corporation sells stock to investors. The money
the corporation receives in return for its stock can be used to purchase plants
and equipment, fund R&D projects, pay wages, and so on. A share of stock
gives its holder a claim to a firm's profit stream.
AACSB: Analytic
Blooms: Understand
Difficulty: 2 Medium
5. A debt loan requires a corporation to repay a predetermined portion of the loan
amount at regular intervals regardless of how much profit it is making.
TRUE
A debt loan requires the corporation to repay a predetermined portion of the
loan amount (the sum of the principal plus the specified interest) at regular
intervals regardless of how much profit it is making.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
6. Debt loans include cash loans from banks and funds raised from the sale of
TRUE
intervals regardless of how much profit it is making. Debt loans include cash
loans from banks and funds raised from the sale of corporate bonds to
investors.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
7. The liquidity of the market is limited in a purely domestic capital market.
TRUE
In a purely domestic capital market, the pool of investors is limited to residents
of the country. This places an upper limit on the supply of funds available to
borrowers. In other words, the liquidity of the market is limited.
AACSB: Analytic
Blooms: Understand
8. The cost of capital is the difference between cost of inputs and outputs.
FALSE
The cost of capital is the price of borrowing money, which is the rate of return
that borrowers must pay investors. This is the interest rate on debt loans and
the dividend yield and expected capital gains on equity loans.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
9. The cost of capital is higher in a global market than in a purely domestic capital
market.
FALSE
One of the drawbacks of the limited liquidity of a purely domestic capital market
is that the cost of capital tends to be higher than it is in a global market.
AACSB: Analytic
Blooms: Understand
10. By using the global capital market, investors have a much wider range of
TRUE
By using the global capital market, investors have a much wider range of
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
11. The risk associated with a portfolio increases as the investor increases the
number of stocks in her portfolio.
FALSE
As an investor increases the number of stocks in her portfolio, the portfolio's
risk declines. At first this decline is rapid. Soon, however, the rate of decline
falls off and asymptotically approaches the systematic risk of the market.
AACSB: Analytic
Blooms: Understand
12. Investors can reduce the level of risk by diversifying a portfolio internationally.
TRUE
A portfolio's risk declines as the investor increases the number of stocks in the
portfolio. By diversifying a portfolio internationally, an investor can reduce the
level of risk even further because the movements of stock market prices across
countries are not perfectly correlated.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
Topic: Attractions of the Global Capital Market
13. Systematic risk refers to the movements in a stock portfolio's value that are
attributable to macroeconomic forces affecting all firms in an economy.
TRUE
Systematic risk refers to movements in a stock portfolio's value that are
attributable to macroeconomic forces affecting all firms in an economy, rather
than factors specific to an individual firm.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
14. The systematic risk is the level of diversifiable risk in an economy.
FALSE
attributable to macroeconomic forces affecting all firms in an economy. The
systematic risk is the level of non-diversifiable risk in an economy.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
15. The relatively low correlation between the movements of stock markets in
different countries indicates that countries face different economic conditions.
TRUE
The relatively low correlation between the movements of stock markets in
different countries indicates that countries pursue different macroeconomic
policies and face different economic conditions.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
16. Using floating exchange rates will help countries reduce the risk of investing in
foreign assets.
FALSE
The risk-reducing effects of international portfolio diversification would be
greater were it not for the volatile exchange rates associated with the current
floating exchange rate regime. Floating exchange rates introduce an additional
element of risk into investing in foreign assets.
AACSB: Analytic
Blooms: Understand
17. Financial services is an information-intensive industry.
TRUE
Financial services is an information-intensive industry. It draws on large
volumes of information about markets, risks, exchange rates, interest rates,
creditworthiness, and so on.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 12-02 Identify why the global capital market has grown so rapidly.
18. An integrated international capital market is less volatile compared to a
nonintegrated market.
FALSE
The integration facilitated in the global capital markets cause shocks that occur
in one financial center now spread around the globe very quickly. This makes
the global markets highly volatile.
AACSB: Analytic
Blooms: Understand
19. Hedge funds position themselves to make "long bets" on assets that they think
will increase in value.
TRUE
Hedge funds are private investment funds that position themselves to make
"long bets" on assets that they think will increase in value and "short bets" on
assets that they think will decline in value.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
20. Global capital market often lack information about the fundamental quality of
foreign investments.
TRUE
A lack of information about the fundamental quality of foreign investments may
encourage speculative flows in the global capital market. Faced with a lack of
quality information, investors may react to dramatic news events in foreign
nations and pull their money out too quickly.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 12-03 Understand the risks associated with the globalization of capital markets.
21. A Eurocurrency is the currency used by the countries of the European Union.
FALSE
A Eurocurrency is any currency banked outside of its country of origin. The
Eurocurrency market has been an important and relatively low-cost source of
funds for international businesses.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 12-04 Compare and contrast the benefits and risks associated with the Eurocurrency market; the global
bond market; and the global equity market.
Topic: The Eurocurrency Market
22. Eurocurrency can be created anywhere in the world.
TRUE
Eurocurrency can be created anywhere in the world. The persistent Euro-
prefix reflects the European origin of the market.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
23. A factor that makes the Eurocurrency market attractive to both depositors and
borrowers is its lack of government regulation.
TRUE
The main factor that makes the Eurocurrency market attractive to both
depositors and borrowers is its lack of government regulation.
AACSB: Analytic
Blooms: Understand
24. Banks charge borrowers a lower interest rate on Eurocurrency borrowings than
for borrowings in the home currency.
TRUE
The Eurocurrency market lacks government regulation. The lack of regulation
allows banks to charge borrowers a lower interest rate for Eurocurrency
borrowings than for borrowings in the home currency.
AACSB: Analytic
Blooms: Understand
25. The spread between the Eurocurrency deposit rate and the Eurocurrency
lending rate is more than the spread between the domestic deposit and lending
rates.
FALSE
Banks offer higher interest rates on Eurocurrency deposits than on deposits
made in the home currency. The lack of regulation also allows banks to charge
borrowers a lower interest rate for Eurocurrency borrowings than for
borrowings in the home currency. This makes the spread between the
Eurocurrency deposit rate and the Eurocurrency lending rate is less than the
spread between the domestic deposit and lending rates.
AACSB: Analytic
Blooms: Understand
26. Eurocurrency market is characterized by lack of government regulation.
TRUE
depositors and borrowers is its lack of government regulation.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
27. Domestic currency deposits are regulated in most industrialized countries.
TRUE
Domestic currency deposits are regulated in all industrialized countries. Such
regulations ensure that banks have enough liquid funds to satisfy demand if
large numbers of domestic depositors should suddenly decide to withdraw their
money.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
28. Governments give banks less freedom when they deal in foreign currencies.
FALSE
Banks are given much more freedom in their dealings in foreign currencies.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
29. Companies receive a higher interest rate on deposits and pay less for loans
when using the Eurocurrency market.
TRUE
There are strong financial motivations for companies to use the Eurocurrency
market. By doing so, they receive a higher interest rate on deposits and pay
less for loans.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
30. Depositors are not protected against bank failures in the Eurocurrency market.
TRUE
When depositors use a regulated banking system, the probability of a bank
failure that would cause them to lose their deposits is very low. In an
unregulated system such as the Eurocurrency market, the probability of a bank
failure that would cause depositors to lose their money is greater.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
31. Investors who purchase a fixed-rate bond receive cash payoffs only at
maturity.
FALSE
The investor who purchases a fixed-rate bond receives a fixed set of cash
payoffs. Each year until the bond matures, the investor gets an interest
payment and then at maturity he gets back the face value of the bond.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
Topic: The Global Bond Market
32. Foreign bonds are sold within the borrower's country and are denominated in
the currency of the country in which they are issued.
FALSE
Foreign bonds are sold outside of the borrower's country and are denominated
in the currency of the country in which they are issued.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
33. Foreign bonds sold in the United States are called bulldogs.
FALSE
Many foreign bonds have nicknames; foreign bonds sold in the United States
are called Yankee Bonds and foreign bonds sold in Great Britain are called
bulldogs.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
34. Eurobonds are usually offered to residents of the country in whose currency
they are denominated.
FALSE
Eurobonds are usually offered simultaneously in several national capital
markets, but not in the capital market of the country, nor to residents of the
country, in whose currency they are denominated.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
35. Eurobonds are normally underwritten by an international syndicate of banks.
TRUE
Eurobonds are normally underwritten by an international syndicate of banks
and placed in countries other than the one in whose currency the bond is
denominated.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
36. Government limitations are more severe for securities denominated in foreign
currencies than for domestic securities.
FALSE
Government limitations are generally less stringent for securities denominated
in foreign currencies and sold to holders of those foreign currencies.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
37. Eurobonds fall within the regulatory domain of European Economic
Community.
FALSE
Eurobonds fall outside of the regulatory domain of any single nation. As such,
they can often be issued at a lower cost to the issuer.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
38. Historically substantial regulatory barriers separated national equity markets
from each other.
TRUE
Historically substantial regulatory barriers separated national equity markets
from each other.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
Topic: The Global Equity Market
39. A Chinese firm borrows 1 million U.S. dollars from an American bank. The cost
of this loan will be less if U.S. dollar appreciates against the Chinese currency.
FALSE
Movements in foreign exchange rates can substantially increase the cost of
foreign currency loans. In this case, the value of the loan increases as U.S.
dollar appreciates.
AACSB: Analytic
Blooms: Understand
Learning Objective: 12-05 Understand how foreign exchange risks impacts upon the cost of capital.
Topic: Foreign Exchange Risk and the Cost of Capital
40. Borrowers can hedge against foreign exchange risks by entering into a forward
contract.
TRUE
Borrowers can hedge against foreign exchange risks by entering into a forward
contract to purchase the required amount of the currency being borrowed at a
predetermined exchange rate when the loan comes due.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
Multiple Choice Questions
41. A _____ brings together those who want to invest money and those who want
to borrow money.
A. consumer market
B. value chain
C. supply chain
D. capital market
Capital markets bring together those who want to invest money and those who
want to borrow money. Those who want to invest money include corporations
with surplus cash, individuals, and nonbank financial institutions. Those who
want to borrow money include individuals, companies, and governments.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
42. Market makers are _____.
A. financial service companies that connect investors and borrowers
B. nonbank financial institutions who want to invest money
C. high net worth individuals with surplus cash to reinvest
D. those who want to borrow money including individuals, companies, and
governments
borrowers, either directly or indirectly. Market makers act between investors
and borrowers.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
43. Which of the following statements is true of market makers?
A. Commercial banks are not allowed function as market makers.
B. Market makers are large investors who drive an economy.
C. Market makers facilitate only equity based loans.
D. Market makers connect investors and borrowers in a capital market.
borrowers, either directly or indirectly. Market makers act between investors
and borrowers.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
44. An equity loan is made when _____.
A. a corporation pledge equities or other assets to borrow money
B. corporations avail cash loans from individuals
C. a corporation sells stock to investors
D. corporations issue bonds to individual investors
An equity loan is made when a corporation sells stock to investors. The money
the corporation receives in return for its stock can be used to purchase plants
and equipment, fund R&D projects, pay wages, and so on.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
45. Which of the following statements is true of debt loans?
A. Management has the discretion in paying the amount to investors.
B. Debt loans should be repaid at regular intervals.
C. Returns from debt loans are variable in nature.
D. Corporations need not pay back the debt loans if they incur losses.
intervals regardless of how much profit it is making.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
46. When an investor purchases a corporate bond, he purchases the right to
receive a _____.
A. share of the overall revenues that the company generates
B. part of the title for the assets that the corporate holds
C. specified fixed stream of income from the corporation
D. share of the profits that the company generates through operations
When an investor purchases a corporate bond, he purchases the right to
receive a specified fixed stream of income from the corporation for a specified
number of years (i.e., until the bond maturity date).
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
47. An important drawback of a purely domestic capital market is that the _____.
A. investments does not receive protection from governments
B. investments are riskier than in global capital markets
C. market lacks a strong regulatory mechanism
D. cost of capital tends to be higher than it is in a global market
Perhaps the most important drawback of the limited liquidity of a purely
domestic capital market is that the cost of capital tends to be higher than it is in
a global market.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
48. A purely domestic capital market faces the problem of _____.
A. foreign exchange risk
B. limited liquidity
C. lack of regulation
D. deregulated markets
borrowers. In other words, the liquidity of the market is limited.
AACSB: Analytic
Blooms: Understand
49. The cost of capital is the _____.
A. interest received on investments made by the company
B. price of borrowing money
C. difference between cost of inputs and outputs
D. total value of raw materials that a company uses
The cost of capital is the price of borrowing money, which is the rate of return
that borrowers must pay investors. This is the interest rate on debt loans and
the dividend yield and expected capital gains on equity loans.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
50. As investors increase the number of stocks in their portfolio, the portfolio's risk
_____.
A. increases initially and declines later
B. declines slowly and steadily
C. increases exponentially beyond a point
D. declines rapidly in the beginning
AACSB: Analytic
Blooms: Understand
51. Systematic risk refers to movements in a stock portfolio's value that are _____.
A. attributable to macroeconomic forces affecting an economy
B. specific to the firm or individuals who invest in a portfolio
C. attributable to factors pertaining to an individual firm
D. specific to the company that facilitates the investment portfolio
than factors specific to an individual firm.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
52. The relatively low correlation between the movement of stock markets in
different countries indicates that _____.
A. diversifying a portfolio will increase the risk of investing
B. most countries face similar economic conditions
C. countries pursue different macroeconomic policies
D. different stock markets are not segmented from each other
The relatively low correlation between the movement of stock markets in
different countries reflects that countries pursue different macroeconomic
policies and face different economic conditions.
AACSB: Analytic
Blooms: Understand
53. The element of risk into investing in foreign assets is more with _____
exchange rates.
A. floating
B. pegged
C. fixed
D. managed
Floating exchange rates introduce an additional element of risk into investing in
foreign assets. Adverse exchange rate movements that floating rates create
can transform otherwise profitable investments into unprofitable investments.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
54. Which of the following statements is true of the use of information technology in
financial services?
A. Information technology prevents the spread of financial crises.
B. Financial services is an information-intensive industry.
C. Financial services do not use decisions making systems.
D. It does not require to process large volumes of information.
Financial services is an information-intensive industry. It draws on large
volumes of information about markets, risks, exchange rates, interest rates,
creditworthiness, and so on.
AACSB: Analytic
Blooms: Understand
55. Which of the following is a disadvantage of the integration facilitated by
technology?
A. Segregated international capital markets will emerge as a result of
technology.
B. Complexity in processing large volumes of data will increase.
C. Shocks that occur in one financial center will spread globally.
D. Systems integration hinders real-time data transfer across different

countries.
The integration facilitated by technology has a dark side. Shocks that occur in
one financial center now spread around the globe very quickly.
AACSB: Analytic
Blooms: Understand
56. Which of the following statements is true of the deregulation of financial
industry?
A. Countries can strengthen the global capital market by encouraging strict
regulations.
B. Financial services have historically been the most deregulated of all
industries.
C. Deregulation helped the development of an international capital market.
D. Deregulation compels financial services companies to remain as domestic
companies.
Financial services companies across the world have transformed and are
increasingly deregulated. This has enabled financial services companies from
primarily domestic companies into global operations with major offices around
the world. Hence, deregulation helped the development of a truly international
capital market.
AACSB: Analytic
Blooms: Understand
57. Hedge funds _____.
A. are public investment funds that invest in corporate bonds and shares
B. make long bets rather than short bets
C. are investment funds managed by the government
D. make short bets on assets that they think will decline in value
Hedge funds are private investment funds that position themselves to make
"long bets" on assets that they think will increase in value and "short bets" on
assets that they think will decline in value.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
58. Analysts who believe globalization of capital has serious risks argue that
_____.
A. capital does not shift in and out of countries as quickly as conditions change
B. individual nations are becoming more vulnerable to speculative capital
C. deregulation of trade is helpful for the economic growth in a country
D. most of the capital that moves internationally is pursuing long term gains
Some analysts are concerned that due to deregulation and reduced controls on
cross-border capital flows, individual nations are becoming more vulnerable to
speculative capital flows. They view globalization of capital as risky.
AACSB: Analytic
Blooms: Understand
59. Which of the following is a disadvantage of global capital market?
A. Foreign investments may be driven by speculative flows in the market.
B. A truly global market reduces the liquidity of investments.
C. The availability of capital is low in a global capital market.
D. The cost of capital is more in a global market than a domestic market.
AACSB: Analytic
Blooms: Understand
60. Which of the following is a reason why the global capital market is increasingly
becoming speculative?
A. A global market reduces the liquidity of investments and increases the
chances of incurring losses.
B. Investments in the global capital market are faced with a lack of quality
information.
C. Investments in the global capital market are not conducive to diversification.
D. The cost of capital is more in a global market and this increases the level of
risk associated with it.
AACSB: Analytic
Blooms: Understand
61. A Eurocurrency is any currency _____.
A. banked outside of its country of origin
B. that is traded in European countries
C. that originates in European countries
D. used to buy gold and related commodities
A Eurocurrency is any currency banked outside of its country of origin.
Eurodollars, which account for about two-thirds of all Eurocurrencies, are
dollars banked outside of the United States.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
62. Eurodollars _____.
A. refer to the exchange value of dollar with Euro
B. are used to pay for imports from Europe
C. are dollars banked outside of the United States
D. refer to the exchange buffer that Euro has against dollar
Eurodollars are dollars banked outside of the United States. They account for
about two-thirds of all Eurocurrencies.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
63. Which of the following statements is true of Eurocurrency?
A. Eurocurrency market is a relatively high-cost source of funds.
B. It is produced and banked within European countries.
C. Eurocurrency can be created anywhere in the world.
D. It is used only for internal transactions within European Union.
Eurocurrency can be created anywhere in the world.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
64. The main factor that makes the Eurocurrency market attractive to both
depositors and borrowers is that it _____.
A. is separated from the foreign exchange market
B. lacks government regulation
C. is associated with low-risk
D. gives high levels of investor protection
depositors and borrowers is its lack of government regulation. This allows
banks to offer higher interest rates on Eurocurrency deposits than on deposits
made in the home currency. The lack of regulation also allows banks to charge
borrowers a lower interest rate for Eurocurrency borrowings than for
borrowings in the home currency.
AACSB: Analytic
Blooms: Understand
65. Banks offer higher interest rates on Eurocurrency deposits than on deposits
made in the home currency because Eurocurrency deposits _____.
A. are funded by the European union
B. lack government regulations
C. are associated with low risk
D. have minimum foreign exchange risk
The Eurocurrency market lacks government regulation. This allows banks to
offer higher interest rates on Eurocurrency deposits than on deposits made in
the home currency, making Eurocurrency deposits attractive to those who have
cash to deposit.
AACSB: Analytic
Blooms: Understand
66. Which of the following is an advantage that banks have when they deal with
foreign currencies?
A. Interest payments to customers are low when dealing with foreign
currencies.
B. Accounts need not be maintained when dealing with foreign currencies.
C. Risks that investors face are low when dealing with foreign currencies.
D. Governments give banks more freedom when dealing with foreign

currencies.
Banks are given more freedom in their dealings in foreign currencies. For
example, the British government does not impose reserve requirement
restrictions on deposits of foreign currencies within its borders.
AACSB: Analytic
Blooms: Understand
67. When using the Euromarkets, companies _____.
A. have funds that lack liquidity
B. pay less for the loans
C. attract low interest rates
D. are secured from foreign exchange risks
There are strong financial motivations for companies to use the Eurocurrency
less for loans.
AACSB: Analytic
Blooms: Understand
68. Which of the following is a drawback of the Eurocurrency market?
A. Increased governmental controls
B. High reserve ratio requirements
C. Low interest rates on deposits
D. Exposure to foreign exchange risk
Borrowing funds internationally can expose a company to foreign exchange
risk. This is a major drawback of the Eurocurrency market.
AACSB: Analytic
Blooms: Understand
69. Which of the following is true of fixed-rate bonds?
A. Returns from fixed-rate bonds are dependent on the profitability of the
issuing company.
B. Investors get back the face value of the bond at maturity of fixed-rate bonds.
C. Fixed-rate bonds issue cash payoffs only at maturity of fixed-rate bonds.
D. Investors get a share of the company's profit when using fixed-rate bonds.
The most common kind of bond is a fixed-rate bond. The investor who
purchases a fixed-rate bond receives a fixed set of cash payoffs. Each year
until the bond matures, the investor gets an interest payment and then at
maturity he gets back the face value of the bond.
AACSB: Analytic
Blooms: Understand
70. _____ are sold outside of the borrower's country and are denominated in the
A. Micro bonds
B. Eurobonds
C. Foreign bonds
D. Regulatory bonds
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
71. Which of the following statements is true of foreign bonds?
A. Such bonds must be underwritten by an international syndicate of banks.
B. Foreign bonds are placed only in the originating country.
C. Foreign bonds are issued by governments rather than corporations.
D. Such bonds are denominated in the issuing country's currency.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
72. United States sells bonds that are denominated in dollars in Europe. This is an
example of a _____ bond.
A. foreign
B. Euro
C. micro
D. regulatory
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
73. _____ are international bonds, normally underwritten by an international
syndicate of banks and placed in countries other than the one in whose
currency the bond is denominated.
A. Micro bonds
B. Foreign bonds
C. Eurobonds
D. Regulatory bonds
denominated. Eurobonds are routinely issued by multinational corporations,
large domestic corporations, sovereign governments, and international
institutions.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
74. Eurobonds are _____.
A. denominated in the currency of the country in which they are issued
B. normally underwritten by an international syndicate of banks
C. denominated in a currency that is accepted by the European Union
D. are sold outside the borrower's county with reference to the originating
currency
denominated.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
75. An Italian corporation issues a bond denominated in dollars. This is an example
of a _____.
A. foreign bond
B. Eurobond
C. micro bond
D. regulatory bond
denominated. Eurobonds are routinely issued by multinational corporations,
large domestic corporations, sovereign governments, and international
institutions.
AACSB: Analytic
Blooms: Apply
Difficulty: 3 Hard
76. Which of the following is a factor that makes Eurobonds more attractive than
most major domestic bonds?
A. Presence of a regulatory interference
B. Strong disclosure requirements
C. Favorable tax status
D. Protection from exchange risks
A favorable tax status is one of the features of the Eurobond market that make
it an appealing alternative to most major domestic bond markets.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
77. _____ separated national equity markets from each other historically.
A. Substantial regulatory barriers
B. Fixed exchange rates
C. Financial similarities
D. Desire for high levels of profit
Historically substantial regulatory barriers separated national equity markets
from each other. Not only was it often difficult to take capital out of a country
and invest it elsewhere, but corporations also frequently lacked the ability to list
their shares on stock markets outside of their home nations.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
Topic: The Global Equity Market
78. When value of U.S. dollars goes down, _____.
A. bonds that are denominated in dollar will produce more returns
B. foreign depositors in the U.S will benefit
C. foreign borrowers will garner benefits
D. investors tend to favor bonds that are denominated in dollar
foreign currency loans. In this case, the value of the loan goes down and the
borrowers have to pay less.
AACSB: Analytic
Blooms: Understand
79. ABB Bank is a financial corporation located in England and uses euro as its
official currency. The company borrows 1 million U.S. dollars from a bank
based in United States. ABB will be at a disadvantage if _____.
A. Euro appreciates against all currencies
B. U.S. dollar appreciates against Euro
C. U.S. dollar depreciates against Euro
D. fixed exchange rates are used for the transaction
foreign currency loans. In this case, the cost of the loan will go up if U.S. dollar
appreciates against Euro. This will be disadvantageous to ABB Bank.
AACSB: Analytic
Blooms: Apply
Difficulty: 3 Hard
80. _____ can inject risk into foreign currency borrowing.
A. Movements in exchange rates
B. Use of fixed-exchange rates
C. Issue of domestic bonds
D. Use of pegged exchange rates
Unpredictable movements in exchange rates can inject risk into foreign
currency borrowing, making something that initially seems less expensive
ultimately much more expensive.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
Essay Questions
81. What is a capital market? Define market makers.
A capital market brings together those who want to invest money and those
who want to borrow money. Those who want to invest money include
corporations with surplus cash, individuals, and nonbank financial institutions.
Those who want to borrow money include individuals, companies, and
governments. Between these two groups are the market makers. Market
makers are the financial service companies that connect investors and
borrowers, either directly or indirectly. They include commercial banks and
investment banks.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
82. Explain various types of capital market loans.
Capital market loans to corporations are either equity loans or debt loans. An
equity loan is made when a corporation sells stock to investors. The money the
corporation receives in return for its stock can be used to purchase plants and
equipment, fund R&D projects, pay wages, and so on.
loan amount at regular intervals regardless of how much profit it is making.
Management has no discretion as to the amount it will pay investors. Debt
loans include cash loans from banks and funds raised from the sale of
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
83. Explain how equity loans and debt loans differ in terms of attractiveness to
businesses.
Investors purchase stock both for their dividend yield and in anticipation of
gains in the price of the stock, which in theory reflects future dividend yields. An
organization need not pay back this loan if they are at a loss. But the
organization should pay more if the profits are high.
Debt loans require a corporation to repay a predetermined portion of the loan
amount. Here, the risk is more for businesses as payments are to be made
regardless of the profits. Management has no discretion as to the amount it will
pay investors.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
84. How does a global capital market, as compared to a purely domestic market,
benefit investors?
A global capital market benefits investors by providing a wider range of
investment opportunities, thereby allowing them to build portfolios of
international investments that diversify their risks. Investors can diversify their
portfolios internationally, thereby reducing their risk to below what could be
achieved in a purely domestic capital market.
AACSB: Analytic
Blooms: Understand
85. What are the advantages of global capital market in comparison with a purely
domestic capital market?
borrowers. In other words, the liquidity of the market is limited. A global capital
market, with its much larger pool of investors, provides a larger supply of funds
for borrowers to draw on. An important drawback of the limited liquidity of a
purely domestic capital market is that the cost of capital tends to be higher than
it is in an international market.
In a purely domestic market, the limited pool of investors implies that borrowers
must pay more to persuade investors to lend them their money. The larger pool
of investors in an international market implies that borrowers will be able to pay
less.
AACSB: Analytic
Blooms: Understand
86. What is systematic risk?
than factors specific to an individual firm. The systematic risk is the level of
non-diversifiable risk in an economy.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
87. Explain the changes observed in the risk of investments when an investor
increases the number of stocks in her portfolio.
AACSB: Analytic
Blooms: Understand
88. Explain the two basic factors reflected by the relatively low correlation between
the movements of stock markets in different countries.
The relatively low correlation between the movement of stock markets in
different countries reflects two basic factors. First, countries pursue different
macroeconomic policies and face different economic conditions, so their stock
markets respond to different forces and can move in different ways.
Second, different stock markets are still somewhat segmented from each other
by capital controls—that is, by restrictions on cross-border capital flows
(although as noted earlier, such restrictions are declining rapidly). The most
common restrictions include limits on the amount of a firm's stock that a
foreigner can own and limits on the ability of a country's citizens to invest their
money outside that country.
AACSB: Analytic
Blooms: Understand
89. Briefly describe the trends observed in the global deregulation of financial
services.
In country after country, financial services has historically been the most tightly
regulated of all industries. Governments around the world have traditionally
kept other countries' financial service firms from entering their capital markets.
In some cases, they have also restricted the overseas expansion of their
domestic financial services firms. In many countries, the law has also
segmented the domestic financial services industry.
Many of these restrictions have been crumbling since the early 1980s. In part,
this has been a response to the development of the Eurocurrency market,
which from the beginning was outside of national control. It has also been a
response to pressure from financial services companies, which have long
wanted to operate in a less regulated environment.
The trend began in the United States in the late 1970s and early 80s with a
series of changes that allowed foreign banks to enter the U.S. capital market
and domestic banks to expand their operations overseas. In Great Britain, the
so-called Big Bang of October 1986 removed barriers that had existed between
banks and stockbrokers and allowed foreign financial service companies to
enter the British stock market. In addition to the deregulation of the financial
services industry, many countries beginning in the 1970s started to dismantle
capital controls, loosening both restrictions on inward investment by foreigners
and outward investment by their own citizens and corporations.
AACSB: Analytic
Blooms: Understand
90. Identify the risks associated with global capital markets.
According to some analysts, deregulation and reduced controls on cross-
border capital flows are making individual nations more vulnerable to
speculative capital flows. This is seen as having a destabilizing effect on
national economies.
The capital that moves internationally may be pursuing temporary gains, and it
shifts in and out of countries as quickly as conditions change. A lack of
information about the fundamental quality of foreign investments is often seen
as encouraging speculative flows in the global capital market. Faced with a lack
of quality information, investors may react to dramatic news events in foreign
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
91. What is a Eurocurrency?
Eurodollars, which account for about two-thirds of all Eurocurrencies, are
dollars banked outside of the United States. Other important Eurocurrencies
include the Euro-yen, the Euro-pound, and the Euro-Euro. A Eurocurrency can
be created anywhere in the world; the persistent Euro- prefix reflects the
European origin of the market.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
92. What are the financial advantages that make the Eurocurrency market
attractive to both depositors and borrowers?
depositors and borrowers is its lack of government regulation. This means that
the spread between the Eurocurrency deposit rate and the Eurocurrency
lending rate is less than the spread between the domestic deposit and lending
rates. Companies have strong financial motivations to use the Eurocurrency
less for loans.
AACSB: Analytic
Blooms: Understand
93. What are the drawbacks of the Eurocurrency market?
The Eurocurrency market has two drawbacks. In an unregulated system, such
as the Eurocurrency market, the probability of a bank failure that would cause
depositors to lose their money is greater. Thus, the lower interest rate received
on home-country deposits reflects the costs of insuring against bank failure.
Second, borrowing funds internationally can expose a company to foreign
exchange risk. Consequently, many companies borrow funds in their domestic
currency to avoid foreign exchange risk, even though the Eurocurrency
markets may offer more attractive interest rates.
AACSB: Analytic
Blooms: Understand
94. Describe a fixed-rate bond.
The most common kind of bond is a fixed-rate bond. The investor who
purchases a fixed-rate bond receives a fixed set of cash payoffs. Each year
until the bond matures, the investor gets an interest payment and then at
maturity he gets back the face value of the bond.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
95. What are foreign bonds?
in the currency of the country in which they are issued. Many foreign bonds
have nicknames; foreign bonds sold in the United States are called Yankee
bonds, foreign bonds sold in Japan are Samurai bonds, and foreign bonds sold
in Great Britain are bulldogs. Companies will issue international bonds if they
believe that it will lower their cost of capital.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
96. Explain Eurobonds with an example.
denominated. For example, a German corporation may issue a bond,
denominated in U.S. dollars, and an international syndicate of banks may sell it
to investors outside of the United States. Eurobonds are routinely issued by
multinational corporations, large domestic corporations, sovereign
governments, and international institutions. They are usually offered
simultaneously in several national capital markets, but neither in the capital
market of the country, nor to residents of the country, in whose currency they
are denominated.
AACSB: Analytic
Blooms: Understand
97. Describe the factors that make the Eurobond market attractive.
Three features of the Eurobond market make it an appealing alternative to
most major domestic bond markets. First, there is an absence of regulatory
interference. Government limitations are generally less stringent for securities
denominated in foreign currencies and sold to holders of those foreign
currencies. Second, there are less stringent disclosure requirements than in
most domestic bond markets. Eurobond market disclosure requirements tend
to be less stringent than those of several national governments. Third, they
have a favorable tax status.
AACSB: Analytic
Blooms: Understand
98. Write a brief note on foreign exchange risks and the cost of capital.
A firm can borrow funds at a lower cost on the global capital market than on the
domestic capital market. However, under a floating exchange rate regime,
foreign exchange risk can be high. Adverse movements in foreign exchange
rates can substantially increase the cost of foreign currency loans.
Unpredictable movements in exchange rates can inject risk into foreign
currency borrowing, making something that initially seems less expensive
ultimately much more expensive.
When a firm borrows funds from the global capital market, it must weigh the
benefits of a lower interest rate against the risks of an increase in the real cost
of capital due to adverse exchange rate movements.
AACSB: Analytic
Blooms: Understand
99. How can a borrower hedge against unpredictable movements in exchange
rates?
A borrower can hedge against unpredictable movements in exchange rates by
entering into a forward contract to purchase the required amount of the
currency being borrowed at a predetermined exchange rate when the loan
comes due. Although this will raise the borrower's cost of capital, the added
insurance limits the risk involved in such a transaction.
When a firm borrows funds from the global capital market, it must weigh the
benefits of a lower interest rate against the risks of an increase in the real cost
of capital due to adverse exchange rate movements. Although using forward
exchange markets may lower foreign exchange risk with short-term borrowings,
it cannot remove the risk. Most importantly, the forward exchange market does
not provide adequate coverage for long-term borrowings.
AACSB: Analytic
Blooms: Understand
100. How does the growth in the global capital markets affect investing firms?
On the investment side, the growth of the global capital market is providing
opportunities for firms, institutions, and individuals to diversify their investments
to limit risk. By holding a diverse portfolio of stocks and bonds in different
nations, an investor can reduce total risk to a lower level than can be achieved
in a purely domestic setting. Once again, however, foreign exchange risk is a
complicating factor.
AACSB: Analytic
Blooms: Understand

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Chapter 12

The Global Capital Market

True / False Questions

want to borrow money.

2. Market makers are companies that make large investments in governmental

3. Commercial banks perform a direct connection function in capital markets.

the corporation when he purchases a share of stock.

amount at regular intervals regardless of how much profit it is making.

corporate bonds to investors.

7. The liquidity of the market is limited in a purely domestic capital market.

investment opportunities than in a purely domestic capital market.

number of stocks in her portfolio.

attributable to macroeconomic forces affecting all firms in an economy.

14. The systematic risk is the level of diversifiable risk in an economy.

different countries indicates that countries face different economic conditions.

18. An integrated international capital market is less volatile compared to a

will increase in value.

22. Eurocurrency can be created anywhere in the world.

borrowers is its lack of government regulation.

for borrowings in the home currency.

26. Eurocurrency market is characterized by lack of government regulation.

27. Domestic currency deposits are regulated in most industrialized countries.

using the Eurocurrency market.

currency of the country in which they are issued.

currencies than for domestic securities.

42. Market makers are _____.

A. financial service companies that connect investors and borrowers

B. nonbank financial institutions who want to invest money

C. high net worth individuals with surplus cash to reinvest

D. those who want to borrow money including individuals, companies, and

A. Commercial banks are not allowed function as market makers.

B. Market makers are large investors who drive an economy.

C. Market makers facilitate only equity based loans.

D. Market makers connect investors and borrowers in a capital market.

44. An equity loan is made when _____.

A. a corporation pledge equities or other assets to borrow money

B. corporations avail cash loans from individuals

C. a corporation sells stock to investors

D. corporations issue bonds to individual investors

45. Which of the following statements is true of debt loans?

A. Management has the discretion in paying the amount to investors.

B. Debt loans should be repaid at regular intervals.

C. Returns from debt loans are variable in nature.

A. share of the overall revenues that the company generates

C. specified fixed stream of income from the corporation

D. share of the profits that the company generates through operations

A. investments does not receive protection from governments

B. investments are riskier than in global capital markets

C. market lacks a strong regulatory mechanism

D. cost of capital tends to be higher than it is in a global market

48. A purely domestic capital market faces the problem of _____.

A. foreign exchange risk

A. interest received on investments made by the company

B. price of borrowing money

C. difference between cost of inputs and outputs

D. total value of raw materials that a company uses

A. increases initially and declines later

B. declines slowly and steadily

C. increases exponentially beyond a point

D. declines rapidly in the beginning

A. attributable to macroeconomic forces affecting an economy

B. specific to the firm or individuals who invest in a portfolio

C. attributable to factors pertaining to an individual firm