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






2. Potential amount that can be lost






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






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






5. Quantile of a statistical distribution






6. Hazard - Financial - Operational - Strategic






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






8. Volatility of unexpected outcomes






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






10. 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






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






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






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






14. Changes in vol - implied or actual






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






16. 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






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

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






19. 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






20. Risks that are assumed willingly - to gain a competitive edge or add shareholder value






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






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






23. 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






24. Country specific - Foreign exchange controls that prohibit counterparty's obligations






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






26. 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






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






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






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






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






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






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






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






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






35. Efficient frontier with inclusion of risk free rate - Straight line with formula Rc = Rf + ((Ra - Rf)/std dev(a))*std dev(c) - c is the total portfolio - a is the risky asset






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






37. 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






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






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






40. Strategic risk - Business risk - Reputational risk






41. 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






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






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






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






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






46. Rp = XaRa + XbRb






47. Quantile of an empirical distribution






48. 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 -






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






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