CCM Investment and Short-Term Financing 3 — Questions and Answers
Question 1: A company's investment policy statement should primarily address which of the following?
- Maximizing portfolio return above all other objectives
- Permitted instruments, maturity limits, and credit quality thresholds (Correct answer)
- Strategies for speculating on interest rate movements
- Guidelines for equity portfolio management
Correct answer: Permitted instruments, maturity limits, and credit quality thresholds
An IPS establishes safety, liquidity, and yield objectives along with permitted investment types, credit ratings, and maturity constraints.
Question 2: Banker's acceptances are most commonly used to finance which type of transaction?
- Domestic payroll funding
- International trade transactions (Correct answer)
- Long-term capital projects
- Equity buyback programs
Correct answer: International trade transactions
Banker's acceptances originated as time drafts used in international trade, with the accepting bank guaranteeing payment.
Question 3: Which measure best captures the total return on a money market instrument, accounting for compounding when reinvested?
- Bank discount yield
- Bond equivalent yield
- Effective annual yield (Correct answer)
- Coupon rate
Correct answer: Effective annual yield
The effective annual yield (EAY) compounds the periodic return to reflect true annualized earnings including reinvestment.
Question 4: When a company draws on a line of credit that requires a compensating balance, the effective borrowing cost:
- Is lower than the stated interest rate
- Equals exactly the prime rate
- Is higher than the stated interest rate (Correct answer)
- Is unaffected by the compensating balance requirement
Correct answer: Is higher than the stated interest rate
Because a portion of the borrowing must remain on deposit and earns little or no interest, the effective rate exceeds the stated rate.
Question 5: An asset-backed commercial paper (ABCP) conduit differs from traditional commercial paper primarily because:
- It matures in more than 270 days
- Its repayment is supported by a pool of underlying financial assets (Correct answer)
- It is always guaranteed by the U.S. Treasury
- It cannot be sold in the secondary market
Correct answer: Its repayment is supported by a pool of underlying financial assets
ABCP is issued by a special-purpose vehicle backed by receivables or other financial assets rather than the issuer's general credit.
Question 6: Which short-term financing strategy uses the company's own accounts receivable as collateral?
- Revolving credit facility
- Accounts receivable pledging (Correct answer)
- Trade acceptance financing
- Bankers' acceptance discounting
Correct answer: Accounts receivable pledging
Accounts receivable pledging assigns receivables as collateral for a loan, while the company retains collection responsibility.
Question 7: The primary advantage of issuing commercial paper over drawing on a bank line of credit is typically:
- Commercial paper carries no credit risk
- Commercial paper usually has lower borrowing costs for highly rated issuers (Correct answer)
- Commercial paper is available to all companies regardless of credit rating
- Commercial paper has no maturity limit
Correct answer: Commercial paper usually has lower borrowing costs for highly rated issuers
High-grade issuers can access commercial paper markets at rates below bank prime, reducing borrowing costs.
CCM Investment and Short-Term Financing 3
A company's investment policy statement should primarily address which of the following?