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FRM: Foundations Of Risk Management

Instructions:
  • Answer 50 questions in 15 minutes.
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  • 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. Interest rate movements - derivatives - defaults






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






3. Quantile of a statistical distribution






4. 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






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






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






7. Multibeta CAPM Ri - Rf =






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






9. 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






10. 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






11. 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 -






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






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






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






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






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






17. Changes in vol - implied or actual






18. Market risk - Liquidity risk - Credit risk - Operational risk






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






20. 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






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






22. 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






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






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






25. Asset-liability/market-liquidity risk






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






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






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






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






30. 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






31. 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






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






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






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






37. Both probability and cost of tail events are considered






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






39. Return is linearly related to growth rate in consumption






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






41. 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






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






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






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






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






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






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






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






49. 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






50. Wrong distribution - Historical sample may not apply