Test your basic knowledge |

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. 1971: Fixed Exchange rate system broke down and was replaced by more volatile floating rate - 1973: Oil price shocks - - >high inflation - - >interest rate swings - 1987: Black Monday - OCt 19 - mkt fell 23% - 1989: Japanese stock price bubble -






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






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






4. 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






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






6. 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.






7. Quantile of an empirical distribution






8. Rp = XaRa + XbRb






9. 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






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






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






12. 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






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






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






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






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






17. 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


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






19. Strategic risk - Business risk - Reputational risk






20. Multibeta CAPM Ri - Rf =






21. Asset-liability/market-liquidity risk






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






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






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






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






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






27. 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






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






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






30. Excess return equated to alpha plus expected systematic return E(Rp) - Rf = alpha + beta(E(Rm) - Rf)


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






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






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






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






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






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






37. 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






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






39. Volatility of unexpected outcomes






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






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






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






43. Focus on adverse tail of distribution - Relevant for determining economic capital (EC) requirements






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






45. Wrong distribution - Historical sample may not apply






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






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






48. 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






49. Both probability and cost of tail events are considered






50. 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