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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. 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






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






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






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






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






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






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






8. Wrong distribution - Historical sample may not apply






9. Those which corporations assume whillingly to create competitive advantage/add shareholder value - Business Decisions: investment decisions - prod - dev choices - marketing strategies - organizational struct. - Business Environment: competitive and






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






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






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






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






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






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






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






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






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






19. Firm may ignore known risk - Somebody in firm may know about risk - but it's not captured by models - Realization of a truly unknown risk






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






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






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






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






24. 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






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






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






27. Quantile of an empirical distribution






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






29. 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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30. Hazard - Financial - Operational - Strategic






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






32. Strategic risk - Business risk - Reputational risk






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






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






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






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






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






38. 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






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






40. 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






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






42. Potential amount that can be lost






43. Interest rate movements - derivatives - defaults






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






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






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






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






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






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






50. 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