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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. Concave function that extends from minimum variance portfolio to maximum return portfolio






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






3. 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






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






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






6. Quantile of an empirical distribution






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






8. 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






9. Volatility of unexpected outcomes






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






11. Leeson took large speculative position in Nikkei 225 disguised as safe transactions by fake customers - Earthquake increased volatility and destroyed short put options - Losses of 1.25 billion and forced bankruptcy - Necessity of an independent tradi






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






13. 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






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






15. 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






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






17. 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






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






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






20. Return is linearly related to growth rate in consumption






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






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






23. 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






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






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






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






27. Multibeta CAPM Ri - Rf =






28. Market risk - Liquidity risk - Credit risk - Operational risk






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






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






31. Interest rate movements - derivatives - defaults






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






33. 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






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






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. Strategic risk - Business risk - Reputational risk






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






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






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






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






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






42. Quantile of a statistical distribution






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






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






45. Rp = XaRa + XbRb






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






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






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






49. Potential amount that can be lost






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