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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. Multibeta CAPM Ri - Rf =






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






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






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






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






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






7. Changes in vol - implied or actual






8. 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.






9. 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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10. 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






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






12. Return is linearly related to growth rate in consumption






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






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






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






16. 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






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






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






19. 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






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






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






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






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






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






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






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






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






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






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






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






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






32. Volatility of unexpected outcomes






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






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






35. 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






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






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






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






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






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






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






42. Both probability and cost of tail events are considered






43. 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






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






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






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






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






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






49. Strategic risk - Business risk - Reputational risk






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