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






3. Market risk - Liquidity risk - Credit risk - Operational risk






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






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






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






7. Multibeta CAPM Ri - Rf =






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






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






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






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






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






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






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






15. 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 -






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






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






18. Changes in vol - implied or actual






19. Wrong distribution - Historical sample may not apply






20. 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.






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






22. Risk of loses owing to movements in level or volatility of market prices






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






24. Sqrt((Xa^2)(variance of a) + (1- Xa)^2(variance of b) + 2(Xa)(1- Xa)(covariance))






25. 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






26. Interest rate movements - derivatives - defaults






27. Rp = XaRa + XbRb






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






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






30. Both probability and cost of tail events are considered






31. Potential amount that can be lost






32. 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






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






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






35. Capital Asset Pricing Model Ri = Rf + beta*(Rm - Rf)






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






37. Return is linearly related to growth rate in consumption






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






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






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






41. Quantile of a statistical distribution






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






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






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






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






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






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






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






49. Losses due to market activities ex. Interest rate changes or defaults






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