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






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






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






4. Market risk - Liquidity risk - Credit risk - Operational risk






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






6. Quantile of a statistical distribution






7. 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






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






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






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






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






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






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






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






15. Wrong distribution - Historical sample may not apply






16. Valuation focuses on mean of distribution vs risk mgmt focuses on potential variation in payoffs - needs more precision for pricing - VAR doesn't b/c noise cancels out






17. 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






18. Quantile of an empirical distribution






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






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






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






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






24. Strategic risk - Business risk - Reputational risk






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






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






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






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






29. 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






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






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






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






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






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






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






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






37. Hazard - Financial - Operational - Strategic






38. Asset-liability/market-liquidity risk






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






40. Interest rate movements - derivatives - defaults






41. Volatility of unexpected outcomes






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






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






44. Future price is greater than the spot price






45. 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 -






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






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






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






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






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







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