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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. Both probability and cost of tail events are considered






2. Expected value of unfavorable deviations of a random variable from a specified target level






3. 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






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






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






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






7. Excess return divided by portfolio beta Tp = (E(Rp) - Rf)/portfolio beta - Better for well diversified portfolios






8. Summarizes the worst loss over a period that will not be exceeded by a given level of confidence - Always one tailed






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






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






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






12. 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.






13. 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






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






15. Interest rate movements - derivatives - defaults






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






17. Wrong distribution - Historical sample may not apply






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






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






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






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






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






23. 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






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






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






26. No transaction costs - assets infinitely divisible - no personal tax - perfect competition - investors only care about mean and variance - short- selling allowed - unlimited lending and borrowing - homogeneity: single period - homogeneity: same mean






27. 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






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






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






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






31. 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






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






33. Future price is greater than the spot price






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






35. Return is linearly related to growth rate in consumption






36. Volatility of unexpected outcomes






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






38. The uses of debt to fall into a lower tax rate






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






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






41. 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






42. 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






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






44. 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






45. Risks that are assumed willingly - to gain a competitive edge or add shareholder value






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






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






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






49. Focus on adverse tail of distribution - Relevant for determining economic capital (EC) requirements






50. Multibeta CAPM Ri - Rf =