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






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






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






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






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






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






7. 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






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






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






11. 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






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






13. Law of one price - Homogeneous expectations - Security returns process






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






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






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






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






18. Both probability and cost of tail events are considered






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






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






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






22. 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






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






24. 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






25. 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






26. Quantile of a statistical distribution






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






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






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






30. Hazard - Financial - Operational - Strategic






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






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






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






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






35. Volatility of unexpected outcomes






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






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






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






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






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






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






42. Multibeta CAPM Ri - Rf =






43. 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






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






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






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






47. Joseph Jett exploited an accounting glitch to book 350 million of false profits (government bonds) - Massive misreporting resulted in loss of confidence in management - Failed to take into account the present value of a forward - Learn to investigate






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






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






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