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






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






3. 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






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






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






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






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






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






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






10. 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






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






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






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






14. Rp = XaRa + XbRb






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






16. 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






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






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






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






20. Multibeta CAPM Ri - Rf =






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






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






23. Wrong distribution - Historical sample may not apply






24. Market risk - Liquidity risk - Credit risk - Operational risk






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






26. 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






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






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






29. 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






30. Volatility of expected outcomes - Outcomes are random but distribution is known or approximated






31. Asset-liability/market-liquidity risk






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






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






34. 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






35. Quantile of an empirical distribution






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






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






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






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






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






41. 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






42. Interest rate movements - derivatives - defaults






43. Hazard - Financial - Operational - Strategic






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






45. 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






46. Return is linearly related to growth rate in consumption






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






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






49. 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






50. Strategic risk - Business risk - Reputational risk