Finance and Economics

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ECM 18 BANKING AND FINANCIAL INSTITUTIONS

Summer term - 27 April - 5 June 2020

INDIVIDUAL COURSE WORK

General Instructions:

Your assignment is in two parts. Part 1 consists of three relatively short objective questions

designed around specific learning objectives. The three short questions require analysis and

interpretation of quantitative results. Each Question counts 20% toward the final mark. Part

2 involves two subjective essay questions designed to assess general learning objectives.

Part 2 counts 40% towards your final mark. All Questions are marked on the basis of 100%

PART 1: Short objective questions with explanations

Q1. (20%) As an Analyst for a Mayfair hedge fund trading bonds, you are preparing for the

Monday morning trader’s meeting. Using the following data from Reuters, please answer the

questions below in preparation for the meeting:

a. Using the data supplied, please plot the current yield curve out to fifteen years. (10 marks)

b. Due to economic uncertainty, it is expected that the Bank of England will pursue an

expansionary monetary policy, how might the yield curve shift? Explain why. (20 marks)

c. If the markets became more worried about the future, how would it affect the Maturity

Premium and how would the Yield Curve shift? Explain why. (20 marks)

d. A client of the fund is seeking financial advice. Her firm wishes to borrow funds for five

years. By informing her of what she is likely to pay in the future when re-financing, which of

the following strategies would you recommend and why, assuming all other factors are equal?

For Credit Risk, her firm pays 200 Basis Points above the Bank of England rate. (30 marks)

e. To help the client of the fund, using relevant theories, please explain the factors shaping

the Yield Curve and why a pure Expectations Theory, as you have computed, may not be

accurate. (20 marks)

Q2. (20%) Your Uncle Norman has passed away leaving your Aunt Joan with the following

investment portfolio. By answering the questions below, can you give her advice on which

Bank of England Overnight Rate 2%

Current Forecast of Annual Inflation 3%

Annual Growth Rate in Maturity Premium 10%

ALTERNATIVE STRATEGIES FUNDING STRATEGIES

IMPLIED

FORWARD

RATES

Borrow One Year Fixed and Re-finance for four Years at the end of Year One

Borrow for Two Years Fixed and Re-finance for three years at the end of Year Two

Borrow for Three Years Fixed and Re-finance for two years at the end of Year Three

Borrow for Four Years Fixed and Re-finance for one year at the end of Year Four.

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investments to keep, which she should sell and possibly increase her holding. For your

information, the FTSE 250 Index has return of 15% and Bank of England bonds have a return

of 2%.

Please answer the following questions:

a. Using relevant information and theory, which shares do you think she should sell? (25

marks)

b. Using relevant information and theory, which shares do you think she should keep or even

increase in holding? (25 marks)

c. Your late Uncle held all of these shares in roughly equal amounts. Was this a good idea

and if not, what would you suggest? (25 marks)

d. Given your understanding of relevant theory, what should happen to shares which are

offering rates of return which are different from the market? (25 marks)

Q3. (20%) As a consultant for Deloitte, you have been asked to review the Risk Governance

of Metro Bank Plc which has the following Balance Sheet

a. Inspecting the above Balance Sheet, explain the ways in which risks or exposures

may be created (25 marks)

b. Liquidity Gap compares the tenor of Assets with that of Liabilities. To what extent

has the Allied Bank matched the maturity profile of Assets with those of its Liabilities?

Does Maturity Profile provide a complete picture? (25 marks)

c. As you will notice some assets/liabilities are fixed and others are floating. To what

extent has Allied Bank created exposures or risks in this regard? What would be the

impact upon Net Interest Income under some scenarios? (25 marks)

CODE NAME BETA ROE

P/E

RATIO

UKCM UK COMMERCIAL PROPERTY 0.82 11% 36.12

FOUR 4IMPRINT GRP. 1.43 25% 10.00

888 888 HLDGS 0.95 41.60% 8.41

ASL ABERFTH.SMLL.CO 1.58 -99% -3.12

AGK AGGREKO 0.73 9.25% 15.96

AAF AIRTEL AFRICA 1.33 6.73% 22.70

AJB AJ BELL 0.38 6.58 30.13

CRST Crest Nicholson 0.75 9.52% 15.58

RAT Rathbone 0.59 5.46% 44.00

ASCL ASCENTIAL 0.79 31.15 29.79

PLP Polypipe 0.54 15.22 21.96

Mortgage Loans (Avg Tenor 20 Years, Fixed at 6%) 20.04€ Deposits (2 % Floating Rate) 37.10€

General Lending (Avg Tenor 3 Years, Fixed 5%) 30.07€ Wholesale Debt (Avg Tenor 2 Years at 4%) 19.30€

Investment Portfolio (Bonds and Shares, Avg Yield 9%) 16.79€ Issued Bonds (Avg Tenor 5 Years, Duration of 3, 6% Yield) 5.00€

Money Market Assets -(Floating preently 4%) 1.20€ Other Liabilities (< three months, floating rates) 8.00€

Earning Assets (Yield 12% Fixed 5 Years) 68.10€ Subordinated Debt (5% fixed) 3.35€

Other Assets (Fixed: Bldgs) 8.00€ Equity Shares (Beta = 1.2, Investors Expect 14%) 3.35€

Total Assets 76.10€ Total Liabilities 76.10€

ASSETS (Euro Billions) LIABILITIES (Euros billions)

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d. According to the Treasurer of Allied Bank, risk is under control because floating

assets are funded with floating liabilities. Do agree or disagree? Explain why. (25

marks)

PART II: Essay Questions (Maximum Word Count in total 1,500)

1. (40%) Question in Risk Governance and Management: Selecting two of the following

events below, and in two short essays, explain and discuss what happened and why using

relevant theory. You may use up to 750 words per essay.

I. UBS Derivatives Loss (1997)

II. National Bank of Australia Trading Losses (2004)

III. Allied Irish Banks Plc: In 2002 Trader hid $691 million in currency market losses

IV. Northern Rock Failure (2008)

V. Knight Capital high-frequency trading loss (2012)

In your answer, you may wish to consider the following issues but you are not expected to

address each matter individually. Rather; an integrated, well-argued essay is expected.

a. What role did Adverse Section, Moral Hazard and Principal-Agent have in what

happened?

b. Was Risk Management inadequate?

c. Should regulatory oversight have been stronger?

d. Were market liberalisation and financial innovation factors?

In addition to using relevant concepts and theory from lectures/seminars you are expected to

undertake background reading to support your essays. Your emphasis should be upon

using theory to explain what happened. Merely recounting the chronology of what happened

is not recommended. General marking criteria are shown below:

Marking criteria

In your essays on the two financial failures, analysis, synthesis and mature reflection are

expected. Merely, restating the key facts or the chronology of what happened, will not be

adequate. Your two essays should be well structured, with a clear and well-argued narrative

and be supported by outside reading. The emphasis is upon why these events happened and

not what happened.

❑ Use of literature:

A very good piece of work should show up-to-date, comprehensive and detailed knowledge of the subject area and where appropriate relevant literature that integrates theory with practice.

The extent and quality of your sources will be assessed. You are expected to demonstrate that you have undertaken an independent literature search so your list of references should include more than the sources to which you have been directed by the suggested

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reading. You are also expected to be able to distinguish authoritative sources: these are books and journal articles which have academic authority. You are expected to review journal articles, textbooks, trade journals and newspapers and professional publications and websites if relevant but should not comprise the majority of your references. Only academic sources using English language are to be included. [20 Marks].

❑ Critical approach to sources:

A very good piece of work must show the student can effectively critically review evidence, draw conclusions and suggest ideas to enhance organisational processes and/or theory whilst recognising contextual limitations.

Your ability to reflect on the literature you have read will be assessed. You should be able to identify similarities and differences between authors’ arguments and methods and to use such comparisons to support your arguments. You should be able to demonstrate your own thinking where the questions set require this by presenting an argument and supporting it by reference to evidence that you have collected. You should draw conclusions that are logically connected to your argument. [30 Marks]

❑ Problem solving, application of theory to issues and practice:

A very good piece of work will show the student has developed his/her own ideas based on a good range of evidence that has been thoroughly analysed, applied and discussed. The work should be entirely focused on the assignment question and objectives.

Your ability to demonstrate an understanding of issues raised in the literature, including methodological issues, will be assessed, primarily in your approach to answering the questions set. Your discussion of the issues posed in the question should reflect your understanding: you should be able to present an argument, outlining alternative views (derived from your reading) and presenting evidence that supports these and arriving at a conclusion which you have justified from the literature and from examples. Your answer to the question should be clearly focused: read the question carefully and refer back to it frequently while writing your answer to ensure that you are not wandering off the point and including irrelevant material. [30 marks]

❑ Presentation:

The assignment must be presented professionally, communicate key messages and arguments with convincing substantiation and contain accurate referencing in appropriate format.

This includes consideration of general presentation issues such as the inclusions of a sensible introduction, page layout, use of paragraphs, accurate spelling, fluency of language and compliance with presentation instructions. The presentation of citations in the text and accurate referencing must also be in the correct format. If you cite sources in the text and do not include them in the list of references, the assumption will be made that you have not in fact consulted these sources but have copied material from another text which included them. This is plagiarism and attracts severe penalties. It is therefore essential that you check your text very carefully to ensure that all citations are listed as references. [20 Marks].