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FRM: Foundations Of Risk Management

Instructions:
  • Answer 50 questions in 15 minutes.
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  • Match each statement with the correct term.
  • Don't refresh. All questions and answers are randomly picked and ordered every time you load a test.

This is a study tool. The 3 wrong answers for each question are randomly chosen from answers to other questions. So, you might find at times the answers obvious, but you will see it re-enforces your understanding as you take the test each time.
1. Changes in vol - implied or actual






2. Economic Cost of Ruin(ECOR) - Enhancement to probability of ruin where severity of ruin is reflected






3. Those which corporations assume whillingly to create competitive advantage/add shareholder value - Business Decisions: investment decisions - prod - dev choices - marketing strategies - organizational struct. - Business Environment: competitive and






4. Sqrt((Xa^2)(variance of a) + (1- Xa)^2(variance of b) + 2(Xa)(1- Xa)(covariance))






5. Make common factor beta - Build optimal portfolios - Judge valuation of securities - Track an index but enhance with stock selection






6. Enterprise Risk Management - ERM is a discipline - culture of enterprise - ERM applies to all industries - ERM is not just defensive - adds value - ERM encompasses all risks - ERM addresses all stakeholders






7. Risk- adjusted rating (RAR) - Difference between relative returns and relative risk






8. Loss resulting from inadequate/failed internal processes - people or systems - back-office problems - settlement - etc - reconciliation






9. When firm has so much debt that it leads to making investment decisions that benefit shareholdser but affect total firm value adversely






10. ex. Human capital - Equilibrium return can be higher or lower than it is under standard CAPM






11. Human - created: business cycles - inflation - govt policy changes - wars - Natural: weather - quakes






12. Volatility of expected outcomes - Outcomes are random but distribution is known or approximated






13. When two payments are exchanged the same day and one party may default after payment is made






14. (E(Rp) - MAR)/(sqrt((1/T)summation(Rpt- MAR)^2) - MAR - minimum acceptable return






15. Prices of risk are common factors and do not change - Sensitivities can change






16. Volatility of unexpected outcomes






17. Curve must be concave - Straight line connecting any two points must be under the curve






18. Track an index with a portfolio that excludes certain stocks - Track an index that must include certain stocks - To closely track an index while tailoring the risk exposure






19. Risk replaced with VaR (Portfolio return - risk free rate)/(portfolio VaR/initial value of portfolio)






20. Risk of loses owing to movements in level or volatility of market prices






21. Derives value from an underlying asset - rate - or index - Derives value from a security






22. Excess return divided by portfolio volatility (std dev) Sp = (E(Rp) - Rf)/(std dev of Rp) - Better for non- diversified portfolios






23. Occurs the day when two parties exchange payments same day






24. Inability to make payment obligations (ex. Margin calls)






25. Modeling approach is typically between statistical analytic models and structural simulation models






26. Difference between forward price and spot price - Should approach zero as the contract approaches maturity






27. Returns on any stock are linearly related to a set of indexes






28. Concentrate on mid- region of probability distribution - Relevant to owners and proxies






29. E(Ri) = Rf + beta[(E(Rm)- Rf)- (tax factor)(dividend yield for market - Rf)] + (tax factor)(dividend yield for stock - Rf)






30. Capital structure (financial distress) - Taxes - Agency and information asymmetries






31. Excess return equated to alpha plus expected systematic return E(Rp) - Rf = alpha + beta(E(Rm) - Rf)

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32. Future price is greater than the spot price






33. Need to assess risk and tell management so they can determine which risks to take on






34. Unanticipated movements in relative prices of assets in a hedged position - All hedges imply some basis risk






35. Unanticipated movements in relative prices of assets in hedged position






36. Potential amount that can be lost






37. The lower (closer to - 1) - the higher the payoff from diversification






38. Proportion of loss that is recovered - Also referred to as "cents on the dollar"






39. Wrong distribution - Historical sample may not apply






40. Strategic risk - Business risk - Reputational risk






41. Covariance = correlation coefficient std dev(a) std dev(b)






42. Equilibrium can still be expressed in returns - covariance - and variance - but they become complex weighted averages






43. Long in options = expecting volatility increase - Short in options = expecting volatility decrease






44. John Rusnak - a currency option trader - produced losses of 691 million by using imaginary trades to disguise large naked positions. - Enforced need for back office controls






45. Quantile of a statistical distribution






46. Capital Asset Pricing Model Ri = Rf + beta*(Rm - Rf)






47. Joseph Jett exploited an accounting glitch to book 350 million of false profits (government bonds) - Massive misreporting resulted in loss of confidence in management - Failed to take into account the present value of a forward - Learn to investigate






48. Firm may ignore known risk - Somebody in firm may know about risk - but it's not captured by models - Realization of a truly unknown risk






49. Valuation focuses on mean of distribution vs risk mgmt focuses on potential variation in payoffs - needs more precision for pricing - VAR doesn't b/c noise cancels out






50. Probability distribution is unknown (ex. A terrorist attack)







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