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






3. 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






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






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






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






7. 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






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






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






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






11. Interest rate movements - derivatives - defaults






12. Both probability and cost of tail events are considered






13. Market risk - Liquidity risk - Credit risk - Operational risk






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






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






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






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

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






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






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






21. Human - created: business cycles - inflation - govt policy changes - wars - Natural: weather - quakes






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






23. Changes in vol - implied or actual






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






25. Future price is greater than the spot price






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






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






28. Quantile of an empirical distribution






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






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






31. 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






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






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






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






36. 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






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






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






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






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






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






42. 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






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






44. Asset-liability/market-liquidity risk






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






46. 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






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






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






49. Rp = XaRa + XbRb






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