Final Exam :Financial Markets (Financial Markets) answer 2025

Question 1

(Why Yale adopted its investment approach)

✅ Yale was following the best practice advice of Joe McNay
❌ Yale did not want the strong variation common in investment
❌ Yale had too much money for other investments
❌ Yale did not have a portfolio manager

Explanation:
Yale followed Joe McNay’s endowment model, focusing on diversification into alternative assets.

Question 2

Which is NOT an example of moral hazard?

❌ Lying about farming yields to collect insurance money
❌ Neglecting to replace smoke detector batteries when insured
✅ Knowingly building a house in an area susceptible to floods
❌ Not farming efficiently because insurance covers losses

Explanation:
Moral hazard occurs after insurance is in place. Building in a flood-prone area is a risk choice, not moral hazard.

Question 3

All rational investors who optimally diversify:

❌ Only focus on the mean of the portfolio
❌ Can hold different fully diversified portfolios
❌ Are concerned about risky assets individually
✅ Ultimately earn the same return if they share the same risk aversion

Explanation:
With optimal diversification and same risk preference, investors lie on the same efficient frontier.

Question 4

To hedge risk of your home’s value, you should:

❌ Be long in your city’s housing market
❌ Stay market-neutral
❌ Avoid investing in housing
✅ Short the market for homes in your city

Explanation:
Shorting offsets losses if home prices fall, acting as a hedge.

Question 5

Efficient Market Hypothesis:

❌ Strong form = trading floor info only
❌ Weak form = all relevant info
✅ Semi-strong form = all publicly available information is reflected
❌ Hypothesis fails if prices reflect inside info

Explanation:
Semi-strong EMH states prices reflect all public information.

Question 6

Nastya separating risky and safe investments is an example of:

❌ Attention anomalies
❌ Disjunction effect
❌ Representativeness heuristic
✅ Mental compartmentalization

Explanation:
She mentally separates parts of her portfolio instead of viewing it as a whole.

Question 7

Nominal rate = 6%, Inflation = 2%, Real rate =

❌ 1%
❌ 2%
❌ 3%
✅ 4%

Explanation:
Real rate ≈ Nominal − Inflation = 6 − 2 = 4%

Question 8

Potential upside of share dilution:

✅ New capital can improve profitability and stock price
❌ Ownership becomes more concentrated
❌ Dividends increase immediately
❌ No upside exists

Explanation:
If invested well, dilution can increase firm value.

Question 9

Tax difference between dividends and capital gains exists because:

✅ Dividends are taxed immediately, capital gains are deferred
❌ Capital gains taxed immediately
❌ Capital gains rarely taxed
❌ No difference exists

Explanation:
Deferral gives capital gains a tax advantage.

Question 10

Key sign behind Shiller’s housing crash prediction:

❌ Prices rose then fell
❌ Prices rose steadily then accelerated sharply
❌ Prices fell then rose
✅ Prices were flat for 100 years, then suddenly surged

Explanation:
Sudden deviation from historical stability signaled a bubble.

Question 11

How Dodd-Frank discourages risky mortgages:

❌ 5% must be QRMs
❌ Must sell 5% QRMs
❌ Must hold 5% QRMs
✅ Banks must hold 5% of non-QRM mortgages

Explanation:
This forces banks to retain risk, discouraging bad loans.

Question 12

Example of tunneling:

❌ Selling assets far from value
❌ Insider trading
❌ Sharing insider info
✅ All of the above

Explanation:
All transfer value unfairly from a firm to insiders.

Question 13

Front running is:

✅ Broker trades first knowing client’s large order will move price
❌ Buying all shares at once
❌ Using decimalization
❌ Temporarily investing full client portfolio

Explanation:
Front running exploits advance knowledge of client trades.

Question 14

True about futures trading:

❌ Must negotiate personally
✅ Margin account is adjusted daily (mark-to-market)
❌ Must work at a warehouse
❌ Maria makes margin calls

Explanation:
Futures are standardized, and margins are settled daily.

Question 15

Backwardation vs Contango:

❌ Backwardation = above expected price
❌ Storage cost definitions
✅ Backwardation = futures below expected spot; Contango = above
❌ Incorrect storage definition

Explanation:
Backwardation < expected future price; Contango > expected future price.

Question 16

Theoretical reason options exist:

❌ Companies want puts
✅ Stock prices represent many risks valued differently by people
❌ Companies want calls
❌ Options are long-term insurance only

Explanation:
Options allow risk sharing and customization.

Question 17

Why put-call parity is approximate in practice:

❌ Too much arbitrage
❌ European option complexity
✅ Transaction costs create small deviations
❌ Pure theory only

Explanation:
Costs and frictions prevent perfect parity.

Question 18

Most remembered feature of Glass-Steagall Act (1933):

❌ Legalized insider trading
❌ Inspired Europe
✅ Separated commercial and investment banking
❌ Forced banks to offer investment banking

Explanation:
It enforced banking separation.

Question 19

A limit buy order executes:

✅ At or below a specified price
❌ Immediately at best price
❌ At last traded price
❌ At lowest available price

Explanation:
Limit orders control price, not execution speed.

Question 20

Chapter 7 bankruptcy involves:

❌ Paying off and renegotiating debt
✅ Liquidating the firm and selling assets
❌ Restructuring debt and equity
❌ Restructuring only debt

Explanation:
Chapter 7 = liquidation, not reorganization.

Question 21

First U.S. benefit corporation created in:

❌ New York (2005)
❌ Illinois (2005)
❌ Pennsylvania (2010)
✅ Maryland (2010)

Explanation:
Maryland was the first state to legally recognize benefit corporations.

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