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






2. 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






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






4. 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






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






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






7. Asses firm risks - Communicate risks - Manage and monitor risks






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






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






10. Return is linearly related to growth rate in consumption






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






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






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






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






16. Misleading reporting (incorrect market info) - Due to large market moves - Due to conduct of customer business






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






18. 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






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






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






21. 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






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






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






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






25. 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 -






26. Quantile of a statistical distribution






27. Summarizes the worst loss over a period that will not be exceeded by a given level of confidence - Always one tailed






28. Hazard - Financial - Operational - Strategic






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






30. 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






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






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

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






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






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






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






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






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






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






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






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






43. 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






44. Volatility of unexpected outcomes






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






46. Inability to make payment obligations (ex. Margin calls)






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






48. Both probability and cost of tail events are considered






49. Multibeta CAPM Ri - Rf =






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