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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. Volatility of unexpected outcomes






2. Xmvp = ((variance of b) - covariance)/((variance of a) + (variance of b) - 2 * covariance)






3. CAPM requires the strong form of the Efficient Market Hypothesis = private information






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






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






6. Concave function that extends from minimum variance portfolio to maximum return portfolio






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






8. Market risk - Liquidity risk - Credit risk - Operational risk






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






10. Firms became multinational - - >watched xchange rates more - deregulation and globalization






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






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






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






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






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






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






17. Multibeta CAPM Ri - Rf =






18. Both probability and cost of tail events are considered






19. Simple form of CAPM - but market price of risk is lower than if all investors were price takers






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






21. Gamma = market price of the consumption beta - Beta = E(r) of zero consumption beta






22. Std dev between portfolio return and benchmark return TE = std dev * (Rp- Rb) - Benchmark funds






23. Percentile of the distribution corresponding to the point which capital is exhausted - Typically - a minimum acceptable probability of ruin is specified - and economic capital is derived from it






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






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






26. Quantile of a statistical distribution






27. Relationship drawn from CML - RAP = [(market std dev)/(portfolio std dev)]*(Portfolio return - risk free rate) + risk free rate - annualized






28. Interest rate movements - derivatives - defaults






29. RM cannot increase firm value when it costs the same to bear a risk w/in the firm or outside the firm - For RM to increase firm value it must be more expensive to bear risks internally than to pay capital markets to bear them.






30. Relative portfolio risk (RRiskp) - Based on a one- month investment period






31. When negative taxable income is moved to a different year to offset future or past taxable income






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






33. 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






34. Absolute and relative risk - direction and non-directional






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






36. Long Term Capital Management - Renowned quants produced great returns with arbitrage- type trades - Unexpected and extreme events resulted in devaluation of Russian Rouble - resulting in a 3.65 billion dollar bailout - Failure to account for illiquid






37. 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






38. Too much debt - Causes shareholders to seek projects that create short term capital but long term losses






39. Rp = XaRa + XbRb






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






41. Probability that a random variable falls below a specified threshold level






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

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






44. Credit risk that occurs when there is a change in the counterparty's ability to perform its obligations






45. Changes in vol - implied or actual






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






47. The need to hedge against risks - for firms need to speculate.






48. IR = (E(Rp) - E(Rb))/(std dev(Rp- Rb)) - Evaluate manager of a benchmark fund






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






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