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FRM: Foundations Of Risk Management

Instructions:
  • Answer 50 questions in 15 minutes.
  • If you are not ready to take this test, you can study here.
  • 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. Focus on adverse tail of distribution - Relevant for determining economic capital (EC) requirements






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






3. Losses due to market activities ex. Interest rate changes or defaults






4. 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






5. Misleading reporting (incorrect market info) - Due to large market moves - Due to conduct of customer business






6. Interest rate movements - derivatives - defaults






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






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






9. Multibeta CAPM Ri - Rf =






10. Hazard - Financial - Operational - Strategic






11. Quantile of an empirical distribution






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






13. People risk = fraud - etc. - Model risk = flawed valuation models - Legal risk = exposure to fines and lawsuits






14. Asses firm risks - Communicate risks - Manage and monitor risks






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






16. Quantile of a statistical distribution






17. Future price is greater than the spot price






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






19. Designate ERM champion - usually CRO - Make ERM part of firm culture - Determining all possible risks - Quantifying operational and strategic risks - Integrating risks (dependencies) - Lack of risk transfer mechanisms - Monitoring






20. 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






21. 1971: Fixed Exchange rate system broke down and was replaced by more volatile floating rate - 1973: Oil price shocks - - >high inflation - - >interest rate swings - 1987: Black Monday - OCt 19 - mkt fell 23% - 1989: Japanese stock price bubble -






22. Liquidity and maturity transformation - Brokers - Reduces transaction and information costs between households and corporations






23. 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






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






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






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






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






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






29. 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






30. Obtained unsecured borrowing of 300 million by exploiting flaw in computing US government bond collateral - Had only 20 million in capital - Chase absorbed losses since they brokered deal - Called for better process control and more precise methods f






31. 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






32. 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






33. Potential amount that can be lost






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






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






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






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






38. 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






39. Cannot exit position in market due to size of the position






40. 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






41. Country specific - Foreign exchange controls that prohibit counterparty's obligations






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






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






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






45. Law of one price - Homogeneous expectations - Security returns process






46. Leeson took large speculative position in Nikkei 225 disguised as safe transactions by fake customers - Earthquake increased volatility and destroyed short put options - Losses of 1.25 billion and forced bankruptcy - Necessity of an independent tradi






47. Volatility of unexpected outcomes






48. Ri = Rz + (Rm - Rz)*beta - Rz = return on zero- beta portfolio






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






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