UNIVERSITI SULTAN ZAINAL ABIDIN FINAL EXAMINATION SEMESTER II SESSION 2013/14 FACULTY OF BUSINESS MANAGEMENT AND ACCOUNTANCY DEGREE PROGRAMME COURSE : CODE : DURATION : FINANCIAL RISK MANAGEMENT MIS 4043 THREE (3) HOURS INSTRUCTIONS TO CANDIDATES 1. This paper consists of TWO (2) Sections; A and B. 2. Answer ALL questions in Section A and Section B. 3. Answer Sections A and B in the answer booklet. Begin each answer on a new page. 4. Candidates are not allowed to bring any material in the examination hall unless permitted to do so by the chief invigilator. This Question Booklet consists of 5 printed pages including the cover page
, MIS`40431FPPP/SEMESTER II SESSION 2013114 SECTION A (40 MARKS) 1. A. Explain the differences between uncertainty and risk. B. Describe the TWO (2) types of risk faced by individuals in any society. 2. A. Differentiate between systematic and non-systematic risk. c. Consider the following two events: (a) a bank losses RM1 billion from an unexpected lawsuit relating to its transactions with counterparty, and (b) an insurance company loses RM1 billion because of an unexpected hurricane in Texas. Suppose that you have the same investments in shares issued by both the bank and the insurance company. Which loss are you more concerned about? Why? 3. A. Compute the arithmetic and geometric mean (average) for the following stock. Year Annual Rate of Return Value of the Stock (RM) 0-25 1 40% 35 2-50% 17.50 B. Briefly explain the following types of financial risk: i. Liquidity risk Operational risk 4. A. Differentiate between moral hazard and adverse selection faced by insurance companies companies. Support your answer with the example(s). (6 Marks) B. A loan for RM10 million that pays 8% interest is classified as non-performing. What is the impact of this on the income statement? (2 Marks) 2/5
MIS'4043/FPPP/SEMESTER II SESSION 2013114 5. A. Differentiate between hedging and speculation. B. An investor enters into a short forward contract to sell 100,000 British Sterling Pounds for US Dollars at an exchange rate of 1.900 US dollars per pound. How much does the investor gain or lose if the exchange rate at the end of the contract is: I. 1.890 1.920 (4 marks) 3/5
, MIS 40431FPPP/SEMESTER II SESSION 2013114 SECTION B (60 MARKS) QUESTION 1 (20 MARKS) A. Suppose that a bank has RM10 billion of one-year loans and RM30 billion of five-year loans. These are financed by RM35 billion of one-year deposits and RM5 billion of five-year deposits. The bank has equity totaling RM2 billion and its return on equity is currently 12%. Calculate the change rate in interest rate for next year, which would lead to the bank's return on equity being reduced to zero. Assume that the bank is subject to a rate of 30%. B. A fund manager announces that the fund's one-month 95% VaR is 6% of the size of the portfolio being managed. You have an investment of RM100, 000 in the fund. How do you interpret the portfolio manager's announcement? (7 marks) C. A Malaysian company expects to have to pay 1 million US Dollar in six month. Discuss how the exchange rate risk can be hedged using: i. A forward contract An option contract (8 marks) QUESTION 2 (20 MARKS) A. i. Explain the key difference(s) between expected shortfall and Value-at-Risk (VaR)? What is the theoretical advantage of expected shortfall over VaR? B. Suppose that each of two investments has a 4% chance of a loss of RM10 million, a 2% chance of a loss of RM1 million, and a 94% chance of a profit of RM1 million. They are independent of each other. i. Calculate the VaR for one of the investments when the confidence level is 95%. Explain your answer. 4/5
MIS'4043/FPPP/SEMESTER II SESSION 2013114 Calculate the expected shortfall when the confidence level is 95%. Explain your answer. i Calculate the VaR for a portfolio consisting of the two investments when the confidence level is 95%. Explain your answer. QUESTION 3 (20 MARKS) A. i. Define what is meant by a "bubble". Discuss why the bursting of housing bubble in the United States led to enormous losses in sub-prime mortgage crisis in 2007-2008. (10 Marks) B. i. A bank is considering expanding its asset management operation. The main risk is operational risk. It estimates the expected operational risk loss from the new venture in one year to be USD2 million and the 99.9% worst-case loss (arising from a large investor law suit) to be USD40 million. The expected fees it will receive from investors for the funds under administration are USD12 million per year and administrative costs are expected to be USD5 million per year. Calculate the before-tax for risk-adjusted performance measurement (RAROC). Describe TWO (2) different ways that RAROC can be used. END OF QUESTION PAPER 5/5