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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.
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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. Multibeta CAPM Ri - Rf =






2. Risks that are assumed willingly - to gain a competitive edge or add shareholder value






3. Gamma = market price of the consumption beta - Beta = E(r) of zero consumption beta






4. 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






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






6. 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






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






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






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






10. Future price is greater than the spot price






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






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






13. Asset-liability/market-liquidity risk






14. Volatility of unexpected outcomes






15. 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






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






17. Country specific - Foreign exchange controls that prohibit counterparty's obligations






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






20. Rp = XaRa + XbRb






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






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






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






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






25. Return is linearly related to growth rate in consumption






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






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






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






29. Changes in vol - implied or actual






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






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






32. 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






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






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






35. Hazard - Financial - Operational - Strategic






36. 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






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






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






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






40. Quantile of a statistical distribution






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






42. Market risk - Liquidity risk - Credit risk - Operational risk






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






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






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






46. Interest rate movements - derivatives - defaults






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






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






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