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






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






3. Quantile of an empirical distribution






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






5. Both probability and cost of tail events are considered






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






7. Strategic risk - Business risk - Reputational risk






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






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






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






11. Long Term Capital Management - Renowned quants produced great returns with arbitrage- type trades - Unexpected and extreme events resulted in devaluation of Russian Rouble - resulting in a 3.65 billion dollar bailout - Failure to account for illiquid






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






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






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






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






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






17. Quantile of a statistical distribution






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






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






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






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






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






24. 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






25. Multibeta CAPM Ri - Rf =






26. 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






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






28. 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






29. Changes in vol - implied or actual






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






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






32. Rp = XaRa + XbRb






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






34. Future price is greater than the spot price






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






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






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






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






40. 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






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






42. Potential amount that can be lost






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






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






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






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






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






48. Asset-liability/market-liquidity risk






49. Return is linearly related to growth rate in consumption






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