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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. Asset-liability/market-liquidity risk






2. 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






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






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






5. Quantile of an empirical distribution






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






7. Hazard - Financial - Operational - Strategic






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






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






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






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






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






13. 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 -






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






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






17. 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






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






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






20. 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






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






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






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






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






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






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






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






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

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






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






31. Future price is greater than the spot price






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






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






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






35. 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






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






37. 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






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






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






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






41. 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






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






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






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






45. Volatility of unexpected outcomes






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






47. Multibeta CAPM Ri - Rf =






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






49. 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






50. Both probability and cost of tail events are considered