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






2. Market risk - Liquidity risk - Credit risk - Operational risk






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






4. Too much debt - Causes shareholders to seek projects that create short term capital but long term losses






5. 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






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






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






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. 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






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






11. 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






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






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






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






15. Volatility of unexpected outcomes






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






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






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






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






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






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






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






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






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






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






26. 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






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






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






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






30. 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






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






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






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






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






35. Probability distribution is unknown (ex. A terrorist attack)






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






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






38. Multibeta CAPM Ri - Rf =






39. Rp = XaRa + XbRb






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






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






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






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






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






45. Return is linearly related to growth rate in consumption






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






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






48. Strategic risk - Business risk - Reputational risk






49. 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.






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