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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. Asset-liability/market-liquidity risk






2. Future price is greater than the spot price






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






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






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






6. Quantile of an empirical distribution






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






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






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






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






12. 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.






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






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






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






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






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






18. 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






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






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






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






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






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






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






25. Both probability and cost of tail events are considered






26. 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






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






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






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






30. Strategic risk - Business risk - Reputational risk






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






32. Quantile of a statistical distribution






33. 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






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






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






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






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






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






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






40. Wrong distribution - Historical sample may not apply






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






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






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






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






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






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






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






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






49. Excess return equated to alpha plus expected systematic return E(Rp) - Rf = alpha + beta(E(Rm) - Rf)

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