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






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






3. 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.






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






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






6. 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






7. 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






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






9. 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






10. Asset-liability/market-liquidity risk






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






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






13. 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






14. E(Ri) = Rf + beta[(E(Rm)- Rf)- (tax factor)(dividend yield for market - Rf)] + (tax factor)(dividend yield for stock - Rf)






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






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






17. Both probability and cost of tail events are considered






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






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






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






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






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






23. Make common factor beta - Build optimal portfolios - Judge valuation of securities - Track an index but enhance with stock selection






24. 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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25. Potential amount that can be lost






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






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






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






29. Volatility of unexpected outcomes






30. John Rusnak - a currency option trader - produced losses of 691 million by using imaginary trades to disguise large naked positions. - Enforced need for back office controls






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






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






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






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






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






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






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






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






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






40. 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






41. Quantile of an empirical distribution






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






43. Future price is greater than the spot price






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






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






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






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






48. Strategic risk - Business risk - Reputational risk






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






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