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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. Return is linearly related to growth rate in consumption






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






3. 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 -






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






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






6. Rp = XaRa + XbRb






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






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






9. 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






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






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






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






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






14. Quantile of an empirical distribution






15. Hazard - Financial - Operational - Strategic






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






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






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






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






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






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






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






23. 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






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






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






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






28. Both probability and cost of tail events are considered






29. Wrong distribution - Historical sample may not apply






30. 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






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






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






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






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






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






36. 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






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






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






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






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






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






42. 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






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






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






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






46. Changes in vol - implied or actual






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






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






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






50. 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.