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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. 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






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






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






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






5. 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






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






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






8. 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 -






9. 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.






10. Rp = XaRa + XbRb






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






12. Hazard - Financial - Operational - Strategic






13. 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






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






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






16. 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






17. Both probability and cost of tail events are considered






18. Modeling approach is typically between statistical analytic models and structural simulation models






19. 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






20. Wrong distribution - Historical sample may not apply






21. Changes in vol - implied or actual






22. Strategic risk - Business risk - Reputational risk






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






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






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






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






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






28. Std dev between portfolio return and benchmark return TE = std dev * (Rp- Rb) - Benchmark funds






29. 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






30. Potential amount that can be lost






31. Multibeta CAPM Ri - Rf =






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






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






34. Quantile of an empirical distribution






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






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






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






38. Equilibrium can still be expressed in returns - covariance - and variance - but they become complex weighted averages






39. 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






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






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






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






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






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






45. 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






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






47. 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






48. 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






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






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