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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. Quantile of an empirical distribution






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






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






4. 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.






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






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






7. 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






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






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






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






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






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






13. Interest rate movements - derivatives - defaults






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






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






16. Changes in vol - implied or actual






17. Rp = XaRa + XbRb






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






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






20. 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






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






22. 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






23. 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






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






25. 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






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






27. Hazard - Financial - Operational - Strategic






28. Potential amount that can be lost






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






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






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






32. Strategic risk - Business risk - Reputational risk






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






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






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






36. Security is a financial claim issued to raise capital - Primary securities are backed by real assets - Secondary securities are backed by primary securities






37. Wrong distribution - Historical sample may not apply






38. 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






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






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






41. Quantile of a statistical distribution






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






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






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






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






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






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






48. Future price is greater than the spot price






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






50. 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