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FRM Part II · FRM Exam Part II · The Investment Function in Financial Services Management

A bank has loan demand that is weak and deposit inflows that are strong. The CFO asks how the investment portfolio should be used. Which approach best reflects the investment function's role as a residual use of funds?

The bank should invest excess funds in securities after meeting loan demand, choosing maturities and credit quality that fit its liquidity needs and risk appetite. This earns income without reaching for yield, unlike holding idle cash or buying the longest, lowest-rated bonds.

  1. AInvest excess funds in securities after loan demand is met, selecting maturities and credit quality consistent with liquidity needs and risk appetiteCorrect
  2. BRefuse any securities purchases and hold all excess funds in non-interest-bearing cash
  3. CInvest all excess funds in the longest-maturity, lowest-rated securities to maximize yield
  4. DUse the excess funds to repay all deposits immediately

Explanation

Securities act as a residual outlet for funds not deployed in loans, but purchases must respect liquidity, credit and interest rate risk limits. Holding only cash sacrifices income; reaching for long, low-rated bonds breaches risk appetite; repaying deposits is impractical.

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