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






2. Quantile of a statistical distribution






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






4. Changes in vol - implied or actual






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






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






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






8. Return is linearly related to growth rate in consumption






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






10. Future price is greater than the spot price






11. 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






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






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






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






15. Market risk - Liquidity risk - Credit risk - Operational risk






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






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






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






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






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






21. 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






22. Quantile of an empirical distribution






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






24. Asset-liability/market-liquidity risk






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






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






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






28. Strategic risk - Business risk - Reputational risk






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






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






32. May not scale over time- Historical data may be meaningless - Not designed to account for catastrophes - VaR says nothing about losses in excess of VaR - May not handle sudden illiquidity






33. Sold complex derivatives to Proctor & Gamble and Gibson - Were sued due to claims that they deceived buyers - Need for better controls for matching complexity of trade with client sophistication - Need for price quotes independent of front office Met

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






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






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






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






38. Efficient frontier with inclusion of risk free rate - Straight line with formula Rc = Rf + ((Ra - Rf)/std dev(a))*std dev(c) - c is the total portfolio - a is the risky asset






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






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






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






42. 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.






43. 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






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






45. 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






46. 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






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






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






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






50. Both probability and cost of tail events are considered