Advanced Financial Management MCQ || Advanced Financial Management Questions and Answers

Answer.3. Money Market Hedge Theory

Explanation:

In international exchange, parity refers to the exchange rate between the currencies of two countries making the purchasing power of both currencies substantially equal. International Parity Relationship theory includes

1. Purchasing Power Parity
2. Covered Interest Arbitrage and Interest Rate Parity
3. Expectations Theory

A money market hedge is a technique used to lock in the value of a foreign currency transaction in a company’s domestic currency. Therefore, a money market hedge can help a domestic company reduce its exchange rate or currency risk when conducting business transactions with a foreign company.

Answer.3. American Quotation

Explanation:

Indirect Quotation is also known as American Quotation. An indirect quote is also known as a “quantity quotation or Americal quotation” since it expresses the quantity of foreign currency required to buy units of the domestic currency.

Answer.4. All of the above

Explanation:

The depth of the “bids” and the “asks” can have a significant impact on a two-way quote. The spread may widen significantly if fewer participants place limit orders to buy a security (thus generating fewer bid prices) or if fewer sellers place limit orders to sell.

The spread in a two-way quotation is affected by

1. Currency involved
2. The volume of business
3. Market sentiments/rumors about the currency

Answer.3. Forward Rate

Explanation:

The Rate of Exchange applicable for delivery of Foreign Exchange at a future date is called Forward Rate.

A forward rate is a contracted price for a transaction that will be completed at an agreed-upon date in the future. Buyers and sellers use forward rates to hedge risk or explore potential price fluctuations of goods in the future.

Answer.2. Triangular Arbitrage

Explanation:

The act of arbitrage that involves three foreign currencies involving three different foreign exchange markets is called Triangular Arbitrage.

Triangular arbitrage is the result of a discrepancy between three foreign currencies that occurs when the currency’s exchange rates do not exactly match up. These opportunities are rare and traders who take advantage of them usually have advanced computer equipment and/or programs to automate the process.

Answer.3. Call Option

Explanation:

An option to buy is called a Call Option. Call options are financial contracts that give the option buyer the right but not the obligation to buy a stock, bond, commodity, or other asset or instrument at a specified price within a specific time period. The stock, bond, or commodity is called the underlying asset.

Answer.3. Try to profit from exchange rate movements

Explanation:

‘Speculators’ in the market try to profit from exchange rate movements. Speculators attempt to predict price changes and extract profit from the price moves in an asset.

Speculators earn a profit when they offset futures contracts to their benefit. To do this, a speculator buys contracts and then sells them back at a higher (contract) price than that at which they purchased them. Conversely, they sell contracts and buy them back at a lower (contract) price than they sold them.

Answer.3. External Commercial Borrowing

Explanation:

Foreign Exchange Risk Management Technique Include

1. Forward Contract
2. Futures Contract
3. Currency Options
4. Swap

Note:-  ECB, or External Commercial Borrowing as it is known in its extended form, is an instrument that helps Indian firms and organizations raise funds from outside India in foreign currencies. It is NOT a Foreign Exchange Risk Management Technique.

Answer.2. Futures Contracts

Explanation:

Default risk is higher in Futures Contracts. Futures contracts also face counterparty risk, though at a much-reduced level because of the central counterparty clearing house (CCP). For example, if the market moves very far in one direction, a lot of parties could default on their obligation, and the exchange would have to bear the risk.

Answer.2. An Option

Explanation:

A financial instrument that provides its holder a right but no obligation to buy or sell a pre-specified amount of a foreign currency at a pre-determined rate is referred to as an Currency Option.

A currency option (also known as a forex option) is a contract that gives the buyer the right, but not the obligation, to buy or sell a certain currency at a specified exchange rate on or before a specified date.

Answer.1. A Greenfield Investment

Explanation:

The establishment of new plants and offices overseas by MNC as a means of FDI is a Greenfield Investment.

Greenfield investment is an alternative to foreign portfolio investment, where an individual or company merely buys the stocks or bonds of an existing company. It is also an alternative to brownfield investing, in which an investor buys an existing business or production facility.

Answer.1. A Horizontal FDI

Explanation:

Hilton Hotels of United States opening a hotel in Mumbai, India is a Horizontal FDI. Horizontal FDI is where funds are invested abroad in the same industry. In other words, a business invests in a foreign firm that produces similar goods. For instance, Nike, a US-based firm, may purchase Puma, a India-based firm.

Answer.1. Home Currency and foreign currency approaches

Explanation:

The two approaches to finding out the NPV of a foreign-based project’s capital budgeting exercise is

1. Home Currency approaches
2. Foreign currency approaches

In the foreign-currency approach, the foreign-currency cash flows are discounted based on the implied cost of capital that would apply to the foreign currency to arrive at the foreign-currency NPV. The NPV denominated in foreign currency (PKR) is then converted to domestic currency (USD) using the spot exchange rate.

Answer.3. Expectations Theory

Explanation:

F1 = 𝑆1 𝑒 denotes expectations Theory.

Expectations theory attempts to predict what short-term interest rates will be in the future based on current long-term interest rates. The theory suggests that an investor earns the same interest by investing in two consecutive one-year bond investments versus investing in one two-year bond today.

Answer.3. Law of One Price

Explanation:

If there are no costs or other barriers associated with the movement of goods or services across countries, the price of each product should be the same in each country, after making appropriate currency conversions. It is called the Law of One Price in Economics.

Answer.1. Rs. 87.67/Euro

Explanation:

(Expected spot rate a year from now)/ Current spot rate= (1+ Expected inflation on home country)/ (1+ Expected Inflation in foreign country or Expected spot rate of Euro a year hence

= (₹86 × 1.05)/1.03 = Rs. 87.67/Euro

Answer.1. An American Option

Explanation:

When an Option can be exercised on any date up to maturity, it is called an American Option.

There are two types of options: American and European options contracts. American options can be exercised any time up to and including the expiration date of the option. However, European options can only be exercised on the date of expiration.

Answer.2. No

Explanation:

An investment into a foreign firm is considered an FDI if it establishes a lasting interest. A lasting interest is established when an investor obtains at least 10% of the voting power in a firm.

Answer.1. Foreign Direct Investment

Explanation:

Capital investment made by firms in another county is called Foreign Direct Investment.

Foreign direct investment (FDI) is when a company takes controlling ownership in a business entity in another country. With FDI, foreign companies are directly involved with day-to-day operations in the other country. This means they aren’t just bringing money with them, but also knowledge, skills and technology.