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






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






3. 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






4. Strategic risk - Business risk - Reputational risk






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






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






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






8. Curve must be concave - Straight line connecting any two points must be under the curve






9. 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






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






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






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






13. Rp = XaRa + XbRb






14. Return is linearly related to growth rate in consumption






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






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






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






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






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






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






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






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






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






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






25. Hazard - Financial - Operational - Strategic






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






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






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






29. 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






30. Asset-liability/market-liquidity risk






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






32. Potential amount that can be lost






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






34. 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






35. Managing risks is a core activity at financial companies - Industrial companies hedge financial risks






36. 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






37. Quantile of a statistical distribution






38. Volatility of unexpected outcomes






39. Changes in vol - implied or actual






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






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






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






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






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






46. 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






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






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






49. 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






50. Wrong distribution - Historical sample may not apply