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

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






3. Quantile of a statistical distribution






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






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






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






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






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






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






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






11. Market risk - Liquidity risk - Credit risk - Operational risk






12. Concentrate on mid- region of probability distribution - Relevant to owners and proxies






13. 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






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






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






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






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






18. Multibeta CAPM Ri - Rf =






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






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






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






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






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






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






25. 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.






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






27. 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






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






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






30. Strategic risk - Business risk - Reputational risk






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






32. 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






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






34. Both probability and cost of tail events are considered






35. Potential amount that can be lost






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






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






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






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






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






41. 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 -






42. 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






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






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






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






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






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






48. 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






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






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