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






2. 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






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






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






5. Interest rate movements - derivatives - defaults






6. 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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7. Changes in vol - implied or actual






8. 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






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






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






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






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






13. Quantile of a statistical distribution






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






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






16. Hazard - Financial - Operational - Strategic






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






18. 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






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






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






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






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






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






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






25. Asset-liability/market-liquidity risk






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






27. 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






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






29. Market risk - Liquidity risk - Credit risk - Operational risk






30. Wrong distribution - Historical sample may not apply






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






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






33. 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






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






35. Return is linearly related to growth rate in consumption






36. 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






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






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






39. 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






40. 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






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






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






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






44. 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






45. 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






46. Volatility of unexpected outcomes






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






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






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






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