TBChap 012

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. 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
3. Debt loans include cash loans from banks and funds raised from the sale of corporate bonds to
investors.
True False
4. The cost of capital is the difference between cost of inputs and outputs.
True False
5. By using the global capital market, investors have a much wider range of investment opportunities
than in a purely domestic capital market.
True False
6. Investors can reduce the level of risk by diversifying a portfolio internationally.
True False
12-1
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Education.
7. The relatively low correlation between the movements of stock markets in different countries indicates
that countries face different economic conditions.
True False
8. Using floating exchange rates will help countries reduce the risk of investing in foreign assets.
True False
9. Financial services is an information-intensive industry.
True False
10. Global capital market often lack information about the fundamental quality of foreign investments.
True False
11. Economist Martin Feldstein has coined the term "hot money" to pertain to long-term capital flows.
True False
12. Eurocurrency can be created anywhere in the world.
True False
13. Banks charge borrowers a lower interest rate on Eurocurrency borrowings than for borrowings in the
home currency.
True False
14. 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
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Education.
15. Governments give banks less freedom when they deal in foreign currencies.
True False
16. Depositors are not protected against bank failures in the Eurocurrency market.
True False
17. 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
18. Eurobonds are usually offered to residents of the country in whose currency they are denominated.
True False
19. Government limitations are more severe for securities denominated in foreign currencies than for
domestic securities.
True False
20. Eurobonds fall within the regulatory domain of European Economic Community.
True False
21. Historically, substantial regulatory barriers separated national equity markets from each other.
True False
22. 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
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Education.
23. The forward exchange market does not provide adequate coverage for long-term borrowings.
True False
Multiple Choice Questions
24. Market makers are the financial service companies that connect investors and borrowers. Those who
want to borrow money typically include:
A. governments
B. corporations with surplus cash
C. pension funds
D. insurance companies
25. _____ perform a direct connection function in capital markets.
A. Insurance brokers
B. Investment banks
C. Pension fund managers
D. Commercial banks
26. A(n) _____ requires a corporation to repay a predetermined portion of the loan amount at regular
intervals regardless of how much profit it is making.
A. equity loan
B. stock loan
C. debt loan
D. bonded loan
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Education.
27. The liquidity of the market is _____ in a purely domestic capital market.
A. held in reserves
B. unlimited
C. based upon the stock market
D. limited
28. The cost of capital is:
A. higher in a purely domestic capital market than in a global market.

B. lower in a domestic capital market than in an international market.
C. higher in a global market than in a purely domestic capital market.
D. the same in either a global market or a purely domestic capital market.
29. The risk associated with a portfolio:
A. declines exponentially as the number of stocks purchased increases and continues to decline until a
point of zero risk is reached.
B. decreases as the investor increases the number of stocks in her portfolio.
C. grows exponentially with the number of stocks purchased.
D. increases as the investor increases the number of stocks in her portfolio.
30. _____ refers to the movements in a stock portfolio's value that are attributable to macroeconomic
forces affecting all firms in an economy.
A. Diversification
B. Capital flow
C. Systematic risk
D. Correlation movement
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Education.
31. The systematic risk is the:
A. movement in a stock portfolio's value that is attributable to the individual selections made for that
portfolio.
B. level of diversifiable risk in an economy.
C. movement of the economy of a country.
D. level of non-diversifiable risk in an economy.
32. An integrated international capital market is _____ compared to a nonintegrated market.
A. highly volatile
B. more shock-proof
C. less volatile
D. less resistant to change
33. Hedge funds position themselves to make:
A. "long bets" on assets that they think will weather a volatile market.
B. "long bets" on assets that they think will increase in value.
C. "short bets" on assets that they think will weather a volatile market.
D. "short bets" on assets that they think will increase in value.
34. A Eurocurrency is:
A. the currency used by the countries of the European Union.

B. the currency formerly used in many European countries before the formation of the European Union
and the institution of the euro.
C. any currency banked outside of its country of origin.
D. any currency banked within a European country.
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35. A factor that makes the Eurocurrency market attractive to both depositors and borrowers is:
A. it allows fair trade within the European Union.

B. its strong government regulations and safeguards.
C. its commitment to economic growth in underdeveloped nations.
D. its lack of government regulation.
36. _____ is characterized by lack of government regulation.
A. The Eurocurrency market

B. A money market fund
C. The New Your Stock Exchange
D. A hedge fund
37. _____ deposits are regulated in most industrialized countries.
A. U.S. currency
B. Domestic currency
C. Foreign currency
D. Eurocurrency
38. Companies receive a _____ when using the Eurocurrency market.
A. lower interest rate on deposits and pay more for loans

B. tax incentives
C. higher interest rate on deposits and pay less for loans
D. liquid asset reserve waiver
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39. Investors who purchase a fixed-rate bond receive:
A. incremental payouts until the bonded money runs out.

B. cash payoffs only at maturity.
C. a full cash payoff on demand.
D. a fixed set of cash payoffs.
40. Foreign bonds sold in the United States are called _____.
A. Yankee bonds
B. Uncle Sam's bonds
C. Bulldogs
D. Eagles
41. _____ are normally underwritten by an international syndicate of banks.
A. Samurai bonds
B. Eurobonds
C. Yankee bonds
D. Foreign bonds
42. Borrowers can hedge against foreign exchange risks by entering into a _____ contract.
A. hedge fund insurance

B. prevailing exchange rate
C. forward
D. global capital market
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43. Entering into a forward contract will:
A. increase the risk involved in a transaction.

B. lower the borrower's cost of capital.
C. benefit the borrower because their interest rate will be lower.
D. raise the borrower's cost of capital.
44. 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
45. 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.
46. Which of the following statements is true of market makers?
A. Commercial banks are not allowed to 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.
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47. 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.
48. 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.
49. 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.
50. An important drawback of a purely domestic capital market is that the:
A. investment 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.
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51. A purely domestic capital market faces the problem of _____.
A. foreign exchange risk

B. limited liquidity
C. lack of regulation
D. deregulated markets
52. 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.
53. 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.
D. declines rapidly in the beginning.
54. 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.
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55. 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.
56. The element of risk into investing in foreign assets is more with _____ exchange rates.
A. floating
B. pegged
C. fixed
D. managed
57. 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 are an information-intensive industry.
C. Financial services do not use decisions making systems.
D. It does not require to process large volumes of information.
58. 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.
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59. 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.
60. 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.
61. 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.
62. 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.
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Education.
63. 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.
64. 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.
65. 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.
66. 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.
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Education.
67. 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.
68. 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.
69. 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.
70. 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.
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Education.
71. 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
72. 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.
73. _____ are sold outside of the borrower's country and are denominated in the currency of the country in
which they are issued.
A. Micro bonds
B. Eurobonds
C. Foreign bonds
D. Regulatory bonds
74. 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.
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Education.
75. United States sells bonds that are denominated in dollars in Europe. This is an example of a(n) _____
bond.
A. foreign
B. Euro
C. micro
D. regulatory
76. _____ 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
77. 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. sold outside the borrower's county with reference to the originating currency.
78. 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
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Education.
79. 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
80. _____ 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
81. When the 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.
82. 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 the:
A. Euro appreciates against all currencies.

B. U.S. dollar appreciates against the euro.
C. U.S. dollar depreciates against the euro.
D. fixed exchange rates are used for the transaction.
12-18
Education.
83. _____ 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
84. Investors are able to reduce risks by diversifying an investment portfolio internationally, and the risk
reduction effects would be greater if not for:
A. volatile exchange rates associated with the current floating exchange risk regime.
B. the different kinds of tax regimes in different countries.
C. the inaccessibility of foreign stock exchanges to most investors.
D. the poor quality of many stocks in international start-up firms.
85. A _____ benefits investors by providing a wider range of investment opportunities, thereby allowing
them to build portfolios of international investments that diversify their risks.
A. foreign exchange market

B. global capital market
C. domestic exchange market
D. domestic capital market
86. Systematic risk refers to:
A. movements in a stock portfolio's value that are attributable to macroeconomic forces affecting all
firms in an economy.
B. the level of diversifiable risk in an economy.
C. movements in a stock portfolio's value that are attributable to microeconomic forces affecting the
specific firms invested in.
D. the microeconomic forces that affect rates of return on investments.
12-19
Education.
87. According to some analysts, deregulation and reduced controls on cross-border capital flows are:
A. having a stabilizing effect on national economies.

B. making individual nations more vulnerable to speculative capital flows.
C. making investors nervous and causing them to pull their money out of foreign nations.
D. allowing undeveloped nations to enter the global market.
88. Harvard economist Martin Feldstein argues that the lack of patient money is due to:
A. the flood of information, due to the internet, that investors receive about current events in other
countries.
B. money owners and managers preferring to keep their money "home."
C. the relative paucity of information that investors have about foreign investments.
D. money owners and managers preferring to place their money in foreign investments.
89. _____ account for about two-thirds of all Eurocurrencies.
A. Euro-yen
B. Euro-pound
C. Euro-Euro
D. Euro-dollars
A. Borrowing funds within their home country can expose a company to foreign exchange risk.
B. The probability of a bank failure that would cause depositors to lose their money is greater.
C. The system is over-regulated and, therefore, more costly.
D. The higher interest rate received on home-country deposits reflects the costs of insuring against
bank failure.
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Education.
91. Which of the following is true of the Eurobond market?
A. There is a great deal of regulatory interference.

B. Government limitations are generally more stringent for securities denominated in foreign
currencies.
C. There are less stringent disclosure requirements than in most domestic bond markets.
D. They have an unfavorable tax status.
92. A(n) _____ is made when a corporation sells stock to investors.
A. corporate bond sale

B. debt loan
C. Eurobond investment
D. equity loan
93. In a(n) _____, the limited pool of investors implies that borrowers must pay more to persuade investors
to lend them their money.
A. purely domestic market

B. mixed market
C. international market
D. purely Euro market
Essay Questions
12-21
Education.
94. What is a capital market? Define market makers.
95. Explain how equity loans and debt loans differ in terms of attractiveness to businesses.
96. What are the advantages of global capital market in comparison with a purely domestic capital
market?
12-22
Education.
97. Explain the changes observed in the risk of investments when an investor increases the number of
stocks in her portfolio.
98. Explain the two basic factors reflected by the relatively low correlation between the movements of
stock markets in different countries.
99. Discuss the impact of technology on the growth of the global capital market.
12-23
Education.
100. Briefly describe the trends observed in the global deregulation of financial services.
101. What are the financial advantages that make the Eurocurrency market attractive to both depositors
and borrowers?
102. What are the drawbacks of the Eurocurrency market?
12-24
Education.
103. Describe a fixed-rate bond.
104. What are foreign bonds?
105. Explain Eurobonds with an example.
12-25
Education.
106. Write a brief note on foreign exchange risks and the cost of capital.
107. How can a borrower hedge against unpredictable movements in exchange rates?
108. How does the growth in the global capital markets affect investing firms?
12-26
Education.
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: Knowledge Application

Accessibility: Keyboard Navigation
Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
Learning Objective: 12-01 Describe the benefits of the global capital market.
Topic: Benefits of the Global Capital Market
2. 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.

Blooms: Understand
Difficulty: 2 Medium
Gradable: automatic
12-27
Education.
3. Debt loans include cash loans from banks and funds raised from the sale of corporate bonds to
investors.
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. Debt loans include cash loans from banks and funds raised from the sale of corporate
bonds to investors.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
4. 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.

Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
12-28
Education.
5. By using the global capital market, investors have a much wider range of investment opportunities
TRUE
By using the global capital market, investors have a much wider range of investment opportunities

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
6. 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.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
Topic: Attractions of the Global Capital Market
12-29
Education.
7. 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.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
8. 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.

Blooms: Understand
Gradable: automatic
12-30
Education.
9. 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.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
Learning Objective: 12-02 Identify why the global capital market has grown so rapidly.
Topic: Growth of Global Capital Markets
10. 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.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
Learning Objective: 12-03 Understand the risks associated with the globalization of capital markets.
Topic: Risks Associated with Global Capital Markets
12-31
Education.
11. Economist Martin Feldstein has coined the term "hot money" to pertain to long-term capital flows.
FALSE
Harvard economist Martin Feldstein has argued that most of the capital that moves internationally
is pursuing temporary gains, and it shifts in and out of countries as quickly as conditions change.
He distinguishes between this short-term capital, or "hot money," and "patient money" that would
support long-term cross-border capital flows.

Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
12. 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.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
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
12-32
Education.
13. 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.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
14. 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.

Blooms: Understand
Gradable: automatic
12-33
Education.
15. Governments give banks less freedom when they deal in foreign currencies.
FALSE
Banks are given much more freedom in their dealings in foreign currencies.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
16. 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.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
12-34
Education.
17. Foreign bonds are sold within the borrower's country and are denominated in the currency of the
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.

Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
Topic: The Global Bond Market
18. 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.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
12-35
Education.
19. 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.

Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
20. 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.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
12-36
Education.
21. Historically, substantial regulatory barriers separated national equity markets from each other.
TRUE
Historically, substantial regulatory barriers separated national equity markets from each other.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
Topic: The Global Equity Market
22. 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: Analytical Thinking

Blooms: Analyze
Gradable: automatic
Learning Objective: 12-05 Understand how foreign exchange risks affect the cost of capital.
Topic: Foreign Exchange Risk and the Cost of Capital
12-37
Education.
23. The forward exchange market does not provide adequate coverage for long-term borrowings.
TRUE
Although using forward exchange markets may lower foreign exchange risk with short-term
borrowings, it cannot remove the risk. Most important, the forward exchange market does not
provide adequate coverage for long-term borrowings.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
Multiple Choice Questions
24. Market makers are the financial service companies that connect investors and borrowers. Those
who want to borrow money typically include:
A. governments
B. corporations with surplus cash
C. pension funds
D. insurance companies
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.

Blooms: Remember
12-38
Education.
Difficulty: 1 Easy
Gradable: automatic
25. _____ perform a direct connection function in capital markets.
A. Insurance brokers
B. Investment banks
C. Pension fund managers
D. Commercial banks
Market makers are the financial service companies that connect investors and borrowers. They
include commercial banks and investment banks. Commercial banks perform an indirect
connection function.

Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
26. A(n) _____ requires a corporation to repay a predetermined portion of the loan amount at regular
intervals regardless of how much profit it is making.
A. equity loan
B. stock loan
C. debt loan
D. bonded loan
is making.
12-39
Education.
Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
27. The liquidity of the market is _____ in a purely domestic capital market.
A. held in reserves
B. unlimited
C. based upon the stock market
D. limited
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.

Blooms: Apply
Gradable: automatic
28. The cost of capital is:
A. higher in a purely domestic capital market than in a global market.

B. lower in a domestic capital market than in an international market.
C. higher in a global market than in a purely domestic capital market.
D. the same in either a global market or a purely domestic capital market.
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.
12-40
Education.
Blooms: Apply
Gradable: automatic
29. The risk associated with a portfolio:
A. declines exponentially as the number of stocks purchased increases and continues to decline
until a point of zero risk is reached.
B. decreases as the investor increases the number of stocks in her portfolio.
C. grows exponentially with the number of stocks purchased.
D. increases as the investor increases the number of stocks in her portfolio.
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.

Blooms: Apply
Gradable: automatic
12-41
Education.
30. _____ refers to the movements in a stock portfolio's value that are attributable to macroeconomic
forces affecting all firms in an economy.
A. Diversification
B. Capital flow
C. Systematic risk
D. Correlation movement
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.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
31. The systematic risk is the:
A. movement in a stock portfolio's value that is attributable to the individual selections made for
that portfolio.
B. level of diversifiable risk in an economy.
C. movement of the economy of a country.
D. level of non-diversifiable risk in an economy.
macroeconomic forces affecting all firms in an economy. The systematic risk is the level of non-
diversifiable risk in an economy.

Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
12-42
Education.
32. An integrated international capital market is _____ compared to a nonintegrated market.
A. highly volatile
B. more shock-proof
C. less volatile
D. less resistant to change
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.

Blooms: Apply
Gradable: automatic
33. Hedge funds position themselves to make:
A. "long bets" on assets that they think will weather a volatile market.
B. "long bets" on assets that they think will increase in value.
C. "short bets" on assets that they think will weather a volatile market.
D. "short bets" on assets that they think will increase 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.

Blooms: Apply
Gradable: automatic
12-43
Education.
34. A Eurocurrency is:
A. the currency used by the countries of the European Union.

B. the currency formerly used in many European countries before the formation of the European
Union and the institution of the euro.
C. any currency banked outside of its country of origin.
D. any currency banked within a European country.
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.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
35. A factor that makes the Eurocurrency market attractive to both depositors and borrowers is:
A. it allows fair trade within the European Union.

B. its strong government regulations and safeguards.
C. its commitment to economic growth in underdeveloped nations.
D. its lack of government regulation.
The main factor that makes the Eurocurrency market attractive to both depositors and borrowers is
its lack of government regulation.

Blooms: Understand
Gradable: automatic
12-44
Education.
36. _____ is characterized by lack of government regulation.
A. The Eurocurrency market

B. A money market fund
C. The New Your Stock Exchange
D. A hedge fund
its lack of government regulation.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
37. _____ deposits are regulated in most industrialized countries.
A. U.S. currency
B. Domestic currency
C. Foreign currency
D. Eurocurrency
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.

Blooms: Remember
Difficulty: 1 Easy
12-45
Education.
Gradable: automatic
38. Companies receive a _____ when using the Eurocurrency market.
A. lower interest rate on deposits and pay more for loans

B. tax incentives
C. higher interest rate on deposits and pay less for loans
D. liquid asset reserve waiver
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.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
39. Investors who purchase a fixed-rate bond receive:
A. incremental payouts until the bonded money runs out.

B. cash payoffs only at maturity.
C. a full cash payoff on demand.
D. a fixed set of cash payoffs.
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.

12-46
Education.
Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
40. Foreign bonds sold in the United States are called _____.
A. Yankee bonds
B. Uncle Sam's bonds
C. Bulldogs
D. Eagles
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.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
41. _____ are normally underwritten by an international syndicate of banks.
A. Samurai bonds
B. Eurobonds
C. Yankee bonds
D. Foreign bonds
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.

12-47
Education.
Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
42. Borrowers can hedge against foreign exchange risks by entering into a _____ contract.
A. hedge fund insurance

B. prevailing exchange rate
C. forward
D. global capital market
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.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
43. Entering into a forward contract will:
A. increase the risk involved in a transaction.

B. lower the borrower's cost of capital.
C. benefit the borrower because their interest rate will be lower.
D. raise the borrower's cost of capital.
Although entering a forward contract will raise the borrower's cost of capital, the added insurance
limits the risk involved in such a transaction.
12-48
Education.
Blooms: Apply
Gradable: automatic
44. 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.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
12-49
Education.
45. 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.
Market makers are the financial service companies that connect investors and borrowers, either
directly or indirectly. Market makers act between investors and borrowers.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
46. Which of the following statements is true of market makers?
A. Commercial banks are not allowed to 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.
Market makers are the financial service companies that connect investors and borrowers, either
directly or indirectly. Market makers act between investors and borrowers.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
12-50
Education.
47. 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.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
48. 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.
is making.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
12-51
Education.
49. 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).

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
50. An important drawback of a purely domestic capital market is that the:
A. investment 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.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
12-52
Education.
51. A purely domestic capital market faces the problem of _____.
A. foreign exchange risk

B. limited liquidity
C. lack of regulation
D. deregulated markets
the market is limited.

Blooms: Understand
Gradable: automatic
52. 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.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
12-53
Education.
53. 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.
D. declines rapidly in the beginning.

Blooms: Apply
Gradable: automatic
54. 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.
firm.

Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
12-54
Education.
55. 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.

Blooms: Apply
Gradable: automatic
56. 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.

Blooms: Remember
Difficulty: 1 Easy
12-55
Education.
Gradable: automatic
57. 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 are 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 are an information-intensive industry. It draws on large volumes of information

about markets, risks, exchange rates, interest rates, creditworthiness, and so on.

Blooms: Analyze
Gradable: automatic
58. 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.

Blooms: Apply
Gradable: automatic
12-56
Education.
59. 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.

Blooms: Analyze
Gradable: automatic
60. 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.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
12-57
Education.
61. 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.

Blooms: Apply
Gradable: automatic
62. 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.

Blooms: Apply
12-58
Education.
Gradable: automatic
63. 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.

Blooms: Apply
Gradable: automatic
64. 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.
12-59
Education.
Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
65. 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.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
66. 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.
A Eurocurrency is any currency banked outside of its country of origin. Eurocurrency can be created
anywhere in the world.
12-60
Education.
Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
67. 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.
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.

Blooms: Apply
Gradable: automatic
12-61
Education.
68. 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.

Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
69. 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.

Blooms: Analyze
Gradable: automatic
12-62
Education.
70. 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 market. By doing so,
they receive a higher interest rate on deposits and pay less for loans.

Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
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.

Blooms: Analyze
Gradable: automatic
12-63
Education.
72. 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.

Blooms: Analyze
Gradable: automatic
73. _____ are sold outside of the borrower's country and are denominated in the currency of the
A. Micro bonds
B. Eurobonds
C. Foreign bonds
D. Regulatory bonds

12-64
Education.
Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
74. 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.

Blooms: Analyze
Difficulty: 1 Easy
Gradable: automatic
12-65
Education.
75. United States sells bonds that are denominated in dollars in Europe. This is an example of a(n) _____
bond.
A. foreign
B. Euro
C. micro
D. regulatory

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
76. _____ 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

countries other than the one in whose currency the bond is denominated. Eurobonds are routinely
issued by multinational corporations, large domestic corporations, sovereign governments, and
international institutions.

Blooms: Remember
Difficulty: 1 Easy
12-66
Education.
Gradable: automatic
77. 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. sold outside the borrower's county with reference to the originating currency.

countries other than the one in whose currency the bond is denominated.

Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
78. 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

countries other than the one in whose currency the bond is denominated. Eurobonds are routinely
issued by multinational corporations, large domestic corporations, sovereign governments, and
international institutions.
12-67
Education.
Blooms: Analyze
Gradable: automatic
79. 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.

Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
12-68
Education.
80. _____ 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.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
Topic: The Global Equity Market
81. When the 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.
In this case, the value of the loan goes down and the borrowers have to pay less.

Blooms: Understand
Gradable: automatic
12-69
Education.
82. 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 the:
A. Euro appreciates against all currencies.

B. U.S. dollar appreciates against the euro.
C. U.S. dollar depreciates against the euro.
D. fixed exchange rates are used for the transaction.
In this case, the cost of the loan will go up if the U.S. dollar appreciates against the euro. This will be
disadvantageous to ABB Bank.

Blooms: Analyze
Gradable: automatic
83. _____ 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.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
12-70
Education.
84. Investors are able to reduce risks by diversifying an investment portfolio internationally, and the risk
reduction effects would be greater if not for:
A. volatile exchange rates associated with the current floating exchange risk regime.
B. the different kinds of tax regimes in different countries.
C. the inaccessibility of foreign stock exchanges to most investors.
D. the poor quality of many stocks in international start-up firms.
Investors are able to reduce risks by diversifying an investment portfolio internationally, and the risk
reduction effects would be greater if not for volatile exchange rates associated with the current
floating exchange risk regime.

Blooms: Apply
Gradable: automatic
12-71
Education.
85. A _____ benefits investors by providing a wider range of investment opportunities, thereby allowing
them to build portfolios of international investments that diversify their risks.
A. foreign exchange market

B. global capital market
C. domestic exchange market
D. domestic capital market
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.

Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
86. Systematic risk refers to:
A. movements in a stock portfolio's value that are attributable to macroeconomic forces affecting
all firms in an economy.
B. the level of diversifiable risk in an economy.
C. movements in a stock portfolio's value that are attributable to microeconomic forces affecting
the specific firms invested in.
D. the microeconomic forces that affect rates of return on investments.
firm. The systematic risk is the level of non-diversifiable risk in an economy.

12-72
Education.
Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
87. According to some analysts, deregulation and reduced controls on cross-border capital flows are:
A. having a stabilizing effect on national economies.

B. making individual nations more vulnerable to speculative capital flows.
C. making investors nervous and causing them to pull their money out of foreign nations.
D. allowing undeveloped nations to enter the global market.
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
AACSB: Reflective Thinking

Blooms: Understand
Gradable: automatic
12-73
Education.
88. Harvard economist Martin Feldstein argues that the lack of patient money is due to:
A. the flood of information, due to the internet, that investors receive about current events in other
countries.
B. money owners and managers preferring to keep their money "home."
C. the relative paucity of information that investors have about foreign investments.
D. money owners and managers preferring to place their money in foreign investments.
Harvard economist Martin Feldstein has argued that most of the capital that moves internationally
is pursuing temporary gains, and it shifts in and out of countries as quickly as conditions change.
He distinguishes between this short-term capital, or "hot money," and "patient money" that would
support long-term cross-border capital flows. To Feldstein, patient money is still relatively rare,
primarily because although capital is free to move internationally, its owners and managers still
prefer to keep most of it at home. Feldstein argues that the lack of patient money is due to the
relative paucity of information that investors have about foreign investments.

Blooms: Apply
Gradable: automatic
12-74
Education.
89. _____ account for about two-thirds of all Eurocurrencies.
A. Euro-yen
B. Euro-pound
C. Euro-Euro
D. Euro-dollars
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. 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.

Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
12-75
Education.
A. Borrowing funds within their home country can expose a company to foreign exchange risk.
B. The probability of a bank failure that would cause depositors to lose their money is greater.
C. The system is over-regulated and, therefore, more costly.
D. The higher interest rate received on home-country deposits reflects the costs of insuring against
bank failure.
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.

Blooms: Apply
Gradable: automatic
12-76
Education.
91. Which of the following is true of the Eurobond market?
A. There is a great deal of regulatory interference.

B. Government limitations are generally more stringent for securities denominated in foreign
currencies.
C. There are less stringent disclosure requirements than in most domestic bond markets.
D. They have an unfavorable tax status.
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.

Blooms: Analyze
Gradable: automatic
92. A(n) _____ is made when a corporation sells stock to investors.
A. corporate bond sale

B. debt loan
C. Eurobond investment
D. equity loan
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.
12-77
Education.
Blooms: Remember
Difficulty: 1 Easy
Gradable: automatic
93. In a(n) _____, the limited pool of investors implies that borrowers must pay more to persuade
investors to lend them their money.
A. purely domestic market

B. mixed market
C. international market
D. purely Euro 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.

Blooms: Understand
Difficulty: 1 Easy
Gradable: automatic
Essay Questions
12-78
Education.
94. 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.

Blooms: Understand
Difficulty: 3 Hard
Gradable: manual
95. 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.

Blooms: Apply
Difficulty: 3 Hard
Gradable: manual
12-79
Education.
96. What are the advantages of global capital market in comparison with a purely domestic capital
market?
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.

Blooms: Evaluate
Difficulty: 3 Hard
Gradable: manual
97. Explain the changes observed in the risk of investments when an investor increases the number of
stocks in her portfolio.

Blooms: Apply
Gradable: manual
12-80
Education.
98. 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.

Blooms: Apply
Difficulty: 3 Hard
Gradable: manual
12-81
Education.
99. Discuss the impact of technology on the growth of the global capital market.
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. It uses this
information to make decisions about what to invest where, how much to charge borrowers, how
much interest to pay to depositors, and the value and riskiness of a range of financial assets
including corporate bonds, stocks, government securities, and currencies.
Because of this information intensity, the financial services industry has been revolutionized more
than any other industry by advances in information technology since the 1970s. The growth of
international communications has facilitated instantaneous communication between any two points
on the globe. At the same time, rapid advances in data processing capabilities have allowed market
makers to absorb and process large volumes of information from around the world.

Blooms: Apply
Difficulty: 3 Hard
Gradable: manual
12-82
Education.
100. 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.

Blooms: Apply
Difficulty: 3 Hard
Gradable: manual
12-83
Education.
101. What are the financial advantages that make the Eurocurrency market attractive to both depositors
and borrowers?
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 market. By
doing so, they receive a higher interest rate on deposits and pay less for loans.

Blooms: Apply
Difficulty: 3 Hard
Gradable: manual
102. 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.

Blooms: Analyze
Difficulty: 3 Hard
Gradable: manual
12-84
Education.
103. 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.

Blooms: Apply
Gradable: manual
104. What are foreign bonds?
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.

Blooms: Understand
Gradable: manual
12-85
Education.
105. Explain Eurobonds with an example.

countries other than the one in whose currency the bond is 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.

Blooms: Apply
Gradable: manual
106. 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.

Blooms: Apply
Difficulty: 3 Hard
Gradable: manual
12-86
Education.
107. 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.

Blooms: Understand
Difficulty: 3 Hard
Gradable: manual
108. 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.

Blooms: Apply
Difficulty: 3 Hard
Gradable: manual
12-87
Education.
12-88
Education.

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Chapter 12

The Global Capital Market

True / False Questions

6. Investors can reduce the level of risk by diversifying a portfolio internationally.

9. Financial services is an information-intensive industry.

12. Eurocurrency can be created anywhere in the world.

Multiple Choice Questions

25. _____ perform a direct connection function in capital markets.

28. The cost of capital is:

A. higher in a purely domestic capital market than in a global market.

29. The risk associated with a portfolio:

32. An integrated international capital market is _____ compared to a nonintegrated market.

33. Hedge funds position themselves to make:

34. A Eurocurrency is:

A. the currency used by the countries of the European Union.

A. it allows fair trade within the European Union.

36. _____ is characterized by lack of government regulation.

A. The Eurocurrency market

37. _____ deposits are regulated in most industrialized countries.

38. Companies receive a _____ when using the Eurocurrency market.

A. lower interest rate on deposits and pay more for loans

A. incremental payouts until the bonded money runs out.

41. _____ are normally underwritten by an international syndicate of banks.

A. hedge fund insurance

A. increase the risk involved in a transaction.

45. Market makers are:

A. financial service companies that connect investors and borrowers.

46. Which of the following statements is true of market makers?

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

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

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

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

A. share of the overall revenues that the company generates.

50. An important drawback of a purely domestic capital market is that the:

A. investment does not receive protection from governments.

A. foreign exchange risk

52. The cost of capital is the:

A. interest received on investments made by the company.

A. increases initially and declines later.

A. attributable to macroeconomic forces affecting an economy.

A. diversifying a portfolio will increase the risk of investing.

A. Information technology prevents the spread of financial crises.

58. 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.

60. Hedge funds:

62. Which of the following is a disadvantage of global capital market?

A. Foreign investments may be driven by speculative flows in the market.

64. A Eurocurrency is any currency:

A. banked outside of its country of origin.

A. refer to the exchange value of dollar with Euro.

66. Which of the following statements is true of Eurocurrency?

A. Eurocurrency market is a relatively high-cost source of funds.

A. is separated from the foreign exchange market.

A. are funded by the European union.

70. When using the Euromarkets, companies:

A. have funds that lack liquidity.

A. Increased governmental controls

72. Which of the following is true of fixed-rate bonds?

74. Which of the following statements is true of foreign bonds?

A. Such bonds must be underwritten by an international syndicate of banks.

77. Eurobonds are:

A. denominated in the currency of the country in which they are issued.

A. Presence of a regulatory interference