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






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






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






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






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






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






7. 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






8. Quantile of an empirical distribution






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






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






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






12. 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 -






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






14. 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






15. Strategic risk - Business risk - Reputational risk






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






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






18. 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






19. 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.






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






22. Both probability and cost of tail events are considered






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






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






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






26. 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






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






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






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






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






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






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






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






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






35. 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






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






37. Return is linearly related to growth rate in consumption






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






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






40. Multibeta CAPM Ri - Rf =






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






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






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






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






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






46. The need to hedge against risks - for firms need to speculate.






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






48. Asset-liability/market-liquidity risk






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






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