Chapter 1—Role of Financial Markets and Institutions

1. Financial market participants who provide funds are called

a. deficit units.
b. surplus units.
c. primary units.
d. secondary units.
ANS: B PTS: 1

2. The main provider(s) of funds to the U.S. Treasury is (are)

a. households and businesses.
b. foreign financial institutions.
c. the Federal Reserve System.
d. foreign nonfinancial sectors.
ANS: A PTS: 1

3. The largest deficit unit is (are)

a. households and businesses.
b. foreign financial institutions.
c. the U.S. Treasury.
d. foreign nonfinancial sectors.
ANS: C PTS: 1

4. Those financial markets that facilitate the flow of short-term funds are known as
a. money markets.
b. capital markets.
c. primary markets.
d. secondary markets.
ANS: A PTS: 1

5. Funds are provided to the initial issuer of securities in the

a. secondary market.
b. primary market.
c. deficit market.
d. surplus market.
ANS: B PTS: 1

6. Which of the following is a capital market instrument?

a. a six-month CD
b. a three-month Treasury bill
c. a ten-year bond
d. an agreement for a bank to loan funds directly to a company for nine months
ANS: C PTS: 1

7. Which of the following is a money market security?

a. Treasury note
b. municipal bond
c. mortgage
d. commercial paper

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 ANS: D PTS: 1

8. The most common investors in Federal funds are

a. households.
b. depository institutions.
c. firms.
d. government agencies.
ANS: B PTS: 1

9. Equity securities have a ____ expected return than most long-term debt securities, and they exhibit
a ____ degree of risk.
a. higher; higher
b. lower; lower
c. lower; higher
d. higher; lower
ANS: A PTS: 1

10. Money market securities generally have ____. Capital market securities are typically expected to
have a ____.
a. less liquidity; higher annualized return
b. more liquidity; lower annualized return
c. less liquidity; lower annualized return
d. more liquidity; higher annualized return
ANS: D PTS: 1

11. If security prices fully reflect all available information, the markets for these securities are
a. efficient.
b. primary.
c. overvalued.
d. undervalued.
ANS: A PTS: 1

12. If markets are ____, investors could use available information ignored by the market to earn
abnormally high returns.
a. perfect
b. active
c. inefficient
d. in equilibrium
ANS: C PTS: 1

13. If financial markets are efficient, this implies that investors can ignore the various investment
instruments available.
a. True
b. False

ANS: F PTS: 1

14. The Securities Act of 1933

a. required complete disclosure of relevant financial information for publicly offered
securities in the primary market.

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 b. declared trading strategies to manipulate the prices of public secondary securities illegal.
c. declared misleading financial statements for public primary securities illegal.
d. required complete disclosure of relevant financial information for securities traded in the
secondary market.
e. all of the above
ANS: A PTS: 1

15. The Securities Exchange Commission (SEC) was established by the

a. Federal Reserve Act.
b. McFadden Act.
c. Securities Exchange Act of 1934.
d. Glass-Steagall Act.
e. none of the above
ANS: C PTS: 1

16. Common stock is an example of a(n)

a. debt security.
b. money market security.
c. equity security.
d. A and B
ANS: C PTS: 1

17. If financial markets were ____, all information about any securities for sale in primary and
secondary markets would be continuously and freely available to investors.
a. efficient
b. inefficient
c. perfect
d. imperfect
ANS: C PTS: 1

18. The typical role of a securities firm in a public offering of securities is to

a. purchase the entire issue for its own investment.
b. place the entire issue with a single large investor.
c. spread the issue across several investors until the entire issue is sold.
d. provide all large investors with loans so that they can invest in the offering.
ANS: C PTS: 1

19. Without the participation of financial intermediaries in financial market transactions,

a. information and transaction costs would be lower.
b. transaction costs would be higher but information costs would be unchanged.
c. information costs would be higher but transaction costs would be unchanged.
d. information and transaction costs would be higher.
ANS: D PTS: 1

20. Which of the following is most likely to be described as a depository institution?

a. finance companies
b. securities firms
c. credit unions
d. pension funds
e. insurance companies

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 ANS: C PTS: 1

21. In aggregate, ____ are the most dominant depository institution.

a. commercial banks
b. savings banks
c. credit unions
d. S&Ls
ANS: A PTS: 1

22. Which of the following is a nondepository financial institution?

a. savings banks
b. commercial banks
c. savings and loan associations
d. mutual funds
ANS: D PTS: 1

23. Which of the following distinguishes credit unions from commercial banks and savings
institutions?
a. Credit unions are non-profit
b. Credit unions accept deposits but do not make loans
c. Credit unions make loans but do not accept deposits
d. Savings institutions restrict their business to members who share a common bond
ANS: A PTS: 1

24. When a securities firm acts as a broker, it

a. guarantees the issuer a specific price for newly issued securities.
b. makes a market in specific securities by adjusting its own inventory.
c. executes transactions between two parties.
d. purchases securities for its own account.
ANS: C PTS: 1

25. When a securities firm acts as a(n) ____, it maintains a position in securities.
a. adviser
b. dealer
c. broker
d. none of the above
ANS: B PTS: 1

26. ____ obtain funds by issuing securities, then lend the funds to individuals and small businesses.
a. Finance companies
b. Securities firms
c. Mutual funds
d. Insurance companies
ANS: A PTS: 1

27. Households with ____ are served by ____.

a. deficient funds; depository institutions and finance companies
b. deficient funds; finance companies only
c. savings; finance companies only

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 d. savings; pension funds and finance companies
ANS: A PTS: 1

28. ____ concentrate on mortgage loans.

a. Finance companies
b. Commercial banks
c. Savings institutions
d. Credit unions
ANS: C PTS: 1

29. ____ securities have a maturity of one year or less; ____ securities are generally more liquid.
a. Money market; capital market
b. Money market; money market
c. Capital market; money market
d. Capital market; capital market
ANS: B PTS: 1

30. Which of the following is not a major investor in stocks?

a. commercial banks
b. insurance companies
c. mutual funds
d. pension funds
ANS: A PTS: 1

31. Which of the following financial intermediaries commonly invests in stocks and bonds?
a. pension funds
b. insurance companies
c. mutual funds
d. all of the above
ANS: D PTS: 1

32. Securities are certificates that represent a claim on the issuer.

a. True
b. False

ANS: T PTS: 1

33. Debt securities are certificates that represent debt (borrowed funds) by the issuer.
a. True
b. False

ANS: T PTS: 1

34. A five-year security was purchased two years ago by an investor who plans to resell it. The
security will be sold by the investor in the so-called
a. secondary market.
b. primary market.
c. deficit market.
d. surplus market.
ANS: A PTS: 1

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35. When security prices fully reflect all available information, the markets for these securities are said
to be efficient.
a. True
b. False

ANS: T PTS: 1

36. If markets are perfect, securities buyers and sellers to not have full access to information and
cannot always break down securities to the precise size they desire.
a. True
b. False

ANS: F PTS: 1

37. A broker executes securities transactions between two parties and charges a fee reflected in the
bid-ask spread.
a. True
b. False

ANS: T PTS: 1

38. The euro increased business between European countries and created a more competitive
environment in Europe.
a. True
b. False

ANS: T PTS: 1

39. In recent years, financial institutions have consolidated to capitalize on economies of scale and on
economies of scope.
a. True
b. False

ANS: T PTS: 1

40. Securities are certificates that represent a claim on the provider of funds.
a. True
b. False

ANS: T PTS: 1

41. Debt securities include commercial paper, Treasury bonds, and corporate bonds.
a. True
b. False

ANS: T PTS: 1

42. Common types of capital market securities include Treasury bills and commercial paper.
a. True
b. False

ANS: F PTS: 1

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43. Common types of money market securities include negotiable certificates of deposit and Treasury
bills.
a. True
b. False

ANS: T PTS: 1

44. Money market securities are commonly issued in order to finance the purchase of assets such as
buildings, equipment, or machinery.
a. True
b. False

ANS: F PTS: 1

45. Commercial banks in aggregate have a lower value of assets than savings institutions.
a. True
b. False

ANS: F PTS: 1

46. Financial markets facilitating the flow of short-term funds with maturities of less than one year are
known as
a. secondary markets.
b. capital markets.
c. primary markets.
d. money markets.
e. none of the above
ANS: A PTS: 1

47. Which of the following transactions would not be considered a secondary market transaction?
a. An individual investor purchases some existing shares of stock in IBM through his broker.
b. An institutional investor sells some Disney stock through its broker.
c. A firm that was privately held engages in an offering of stock to the public.
d. All of the above are secondary market transactions.
ANS: C PTS: 1

48. If investors speculate in the underlying asset rather than derivative contracts on the underlying
asset, they will probably achieve ____ returns, and they are exposed to relatively ____ risk.
a. lower; lower
b. lower; higher
c. higher; lower
d. higher; higher
ANS: A PTS: 1

49. ____ maintain a larger amount of assets in aggregate than the other types of depository
institutions.
a. Credit unions
b. Commercial banks
c. Life insurance companies
d. Savings institutions
ANS: B PTS: 1

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50. A common use of funds for ____ is investment in stocks and businesses, while their main use of
funds is providing loans to households and businesses.
a. savings institutions
b. commercial banks
c. mutual funds
d. finance companies
ANS: C PTS: 1

51. Long-term debt securities tend to have a ____ expected return and ____ risk than money market
securities.
a. lower; lower
b. lower; higher
c. higher; lower
d. higher; higher
ANS: D PTS: 1

52. Common types of capital market securities include Treasury bills and commercial paper.
a. True
b. False

ANS: F PTS: 1

53. Common types of money market securities include negotiable certificates of deposit and Treasury
bills.
a. True
b. False

ANS: T PTS: 1

54. Capital market securities are commonly issued in order to finance the purchase of assets such as
buildings, equipment, or machinery.
a. True
b. False

ANS: T PTS: 1

55. Commercial banks in aggregate have more assets than of savings institutions.
a. True
b. False

ANS: T PTS: 1

56. Those participants who receive more money than they spend are referred to as
a. deficit units.
b. surplus units.
c. borrowing units.
d. government units.
ANS: B PTS: 1

57. Equity securities

a. have a maturity.

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 b. pay interest on a periodic basis.
c. represent ownership in the issuer.
d. repay the principal amount at maturity.
ANS: D PTS: 1

58. The term ____ involves decisions such as how much funding to obtain, and how to invest the
proceeds to expand operations.
a. corporate finance
b. investment management
c. financial markets and institutions
d. none of the above
ANS: A PTS: 1

59. There is a ____ relationship between the risk of a security and the expected return from investing
in the security.
a. positive
b. negative
c. indeterminable
d. none of the above
ANS: A PTS: 1

60. If a security is undervalued, some investors would capitalize from this by purchasing that security.
As a result, the security's price will ____, resulting in a ____ return for those investors.
a. rise; lower
b. fall; higher
c. fall; lower
d. rise; higher
ANS: D PTS: 1

61. The credit crisis in the 2008-2009 period was caused by weak economies in Asia.
a. True
b. False

ANS: F PTS: 1

62. Currently, ____ hold the largest amount of assets of all financial institutions.
a. commercial banks
b. credit unions
c. finance companies
d. securities firms
ANS: A PTS: 1

63. The main reason that depository institutions experienced financial problems during the credit crisis
was their investment in:
a. mortgages.
b. money market securities.
c. stock.
d. Treasury bonds.
ANS: A PTS: 1

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64. Those financial markets that facilitate the flow of short-term funds (with maturities of less than
one year) are known as capital markets, while those that facilitate the flow of long-term funds are
known as money markets.
a. True
b. False

ANS: F PTS: 1

65. Treasury bonds have a maturity of one to three years.

a. True
b. False

ANS: F PTS: 1

66. Since markets are efficient, institutional and individual investors should ignore the various
investment instruments available.
a. True
b. False

ANS: F PTS: 1

67. Speculating with derivative contracts on an underlying asset typically results in both higher risk
and higher returns than speculating in the underlying asset itself.
a. True
b. False

ANS: T PTS: 1

68. When security prices fully reflect all available information, the markets for these securities are said
to be perfect.
a. True
b. False

ANS: F PTS: 1

69. Securities that are not as safe and liquid as other securities are never considered for investment by
anyone.
a. True
b. False

ANS: F PTS: 1

70. By requiring full disclosure of information, securities laws prevent investors from making poor
investment decisions.
a. True
b. False

ANS: F PTS: 1

71. When a depository institution offers a loan, it is acting as a creditor.

a. True
b. False

ANS: T PTS: 1

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72. Savings institutions are the most dominant financial institution.
a. True
b. False

ANS: F PTS: 1

73. Most mutual funds obtain funds by issuing securities, then lend the funds to individuals and small
businesses.
a. True
b. False

ANS: F PTS: 1

74. Institutional investors not only provide financial support to companies but exercise some degree of
corporate control over them.
a. True
b. False

ANS: F PTS: 1

75. Which of the following is not a reason why depository financial institutions are popular?
a. They offer deposit accounts that can accommodate the amount and liquidity characteristics
desired by most surplus units.
b. They repackage funds received from deposits to provide loans of the size and maturity
desired by deficit units.
c. They accept the risk on loans provided.
d. They use their information resources to act as a broker, executing securities transactions
between two parties.
e. They have more expertise than individual surplus units in evaluating the creditworthiness
of deficit units.
ANS: D PTS: 1

76. According to your text, which of the following is not considered a money market security?
a. Treasury bills
b. Treasury notes
c. retail CD
d. banker's acceptance
e. commercial paper
ANS: B PTS: 1

77. ____ are not considered capital market securities.

a. Repurchase agreements
b. Municipal bonds
c. Corporate bonds
d. Equity securities
e. Mortgages
ANS: A PTS: 1

78. ____ are long-term debt obligations issued by corporations and government agencies to support
their operations.
a. Common stock

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 b. Derivative securities
c. Bonds
d. None of the above
ANS: C PTS: 1

79. Equity securities should normally have a ____ expected return and ____ risk than money market
securities.
a. lower; lower
b. lower; higher
c. higher; lower
d. higher; higher
ANS: D PTS: 1

80. If investors speculate in derivative contracts rather than the underlying asset, they will probably
achieve ____ returns, and they are exposed to relatively ____ risk.
a. lower; lower
b. lower; higher
c. higher; lower
d. higher; higher
ANS: D PTS: 1

81. When particular securities are perceived to be ____ by the market, their prices decrease when they
are sold by investors.
a. undervalued
b. overvalued
c. fairly priced
d. efficient
e. none of the above
ANS: B PTS: 1

82. Which of the following are not considered depository financial institutions?
a. finance companies
b. commercial banks
c. savings institutions
d. credit unions
e. All of the above are depository financial institutions.
ANS: A PTS: 1

83. The main source of funds for ____ is proceeds from selling securities to households and
businesses, while their main use of funds is providing loans to households and businesses.
a. savings institutions
b. commercial banks
c. mutual funds
d. finance companies
e. pension funds
ANS: D PTS: 1

84. Which of the following statements is incorrect?

a. Financial markets attract funds from investors and channel the funds to corporations.
b. Money markets enable corporations to borrow funds on a short-term basis so that they can

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 support their existing operations.
c. Financial institutions serve solely as intermediaries with the financial markets and never
serve as investors.
d. Investors seek to invest their funds in the stock of firms that are presently undervalued and
have much potential to improve.
ANS: C PTS: 1

85. Which of the following is not a typical money market security?

a. Treasury bills
b. Treasury bonds
c. Commercial paper
d. Negotiable certificates of deposit
ANS: B PTS: 1

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