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  • Exam Name: Financial Risk and Regulation (FRR) Series
  • Last Update: Mar 28, 2024
  • Questions and Answers: 342
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2016-FRR Financial Risk and Regulation (FRR) Series Questions and Answers

Question # 6

Why is economic capital across market, credit and operational risks simply added up to arrive at an estimate of aggregate economic capital in practice?

A.

Market, credit and operational risks are perfectly correlated which justifies adding up their associated economic capital.

B.

In practice, it is very difficult to estimate the correlations between the risk categories and as a result a conservative estimate is obtained by adding up the risks.

C.

Regulators require banks to add up economic capital across market, credit and operational risks.

D.

Since market, credit and operational risks are significantly different measures of risk, there is no diversification benefit to computing economic capital to banks across types of risks.

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Question # 7

The pricing of credit default swaps is a function of all of the following EXCEPT:

A.

Probability of default

B.

Duration

C.

Loss given default

D.

Market spreads

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Question # 8

Which one of the following four statements on factors affecting the value of options is correct?

A.

As volatility rises, options increase in value.

B.

As time passes, options will increase in value.

C.

As interest rates rise and option's rho is positive, option prices will decrease.

D.

As the value of underlying security increases, the value of the put option increases.

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Question # 9

As DeltaBank explores the securitization business, it is most likely to embrace securitization to:

I. Bring transparency to the bank's balance sheet

II. Create a new profit center for the bank

III. Strategically release risk capital and regulatory capital for redeployment

IV. Generate cash for additional debt origination

A.

I, III

B.

II, IV

C.

I, II, III

D.

II, III, IV

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Question # 10

Counterparty credit risk assessment differs from traditional credit risk assessment in all of the following features EXCEPT:

A.

Exposures can often be netted

B.

Exposure at default may be negatively correlated to the probability of default

C.

Counterparty risk creates a two-way credit exposure

D.

Collateral arrangements are typically static in nature

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Question # 11

In analyzing market option pricing dynamics, a risk manager evaluates option value changes throughout the entire trading day. Which of the following factors would most likely affect foreign exchange option values?

I. Change in the value of the underlying

II. Change in the perception of future volatility

III. Change in interest rates

IV. Passage of time

A.

I, II

B.

I, II, III

C.

II, III

D.

I, II, III, IV

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Question # 12

To manage its credit portfolio, Beta Bank can directly sell the following portfolio elements:

I. Bonds

II. Marketable loans

III. Credit card loans

A.

I

B.

II

C.

I, II

D.

II, III

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Question # 13

From the bank's point of view, repricing the retail debt portfolio will introduce risks of fluctuations in:

I. Duration

II. Loss given default

III. Interest rates

IV. Bank spreads

A.

I

B.

II

C.

I, II

D.

III, IV

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Question # 14

All of the following performance statistics typically benefit country's creditworthiness EXCEPT:

A.

Low unemployment

B.

Low inflation

C.

High degrees of investment

D.

Low degrees of savings

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Question # 15

In the United States, foreign exchange derivative transactions typically occur between

A.

A few large internationally active banks, where the risks become concentrated.

B.

All banks with international branches, where the risks become widely distributed based on trading exposures.

C.

Regional banks with international operations, where the risks depend on the specific derivative transactions.

D.

Thrifts and large commercial banks, where the risks become isolated.

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Question # 16

Which of the following statements about the interest rates and option prices is correct?

A.

If rho is positive, rising interest rates increase option prices.

B.

If rho is positive, rising interest rates decrease option prices.

C.

As interest rates rise, all options will rise in value.

D.

As interest rates fall, all options will rise in value.

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Question # 17

ThetaBank has extended substantial financing to two mortgage companies, which these mortgage lenders use to finance their own lending. Individually, each of the mortgage companies have an exposure at default (EAD) of $20 million, with a loss given default (LGD) of 100%, and a probability of default of 10%. ThetaBank's risk department predicts the joint probability of default at 5%. If the default risk of these mortgage companies were modeled as independent risks, the actual probability would be underestimated by:

A.

1%

B.

2%

C.

3%

D.

4%

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Question # 18

The potential failure of a manufacturer to honor a warranty might be called ____, whereas the potential failure of a borrower to fulfill its payment requirements, which include both the repayment of the amount borrowed, the principal and the contractual interest payments, would be called ___.

A.

Credit risk; market risk

B.

Market risk; credit risk

C.

Credit risk; performance risk

D.

Performance risk; credit risk

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Question # 19

Which one of the following four metrics represents the difference between the expected loss and unexpected loss on a credit portfolio?

A.

Credit VaR

B.

Probability of default

C.

Loss given default

D.

Modified duration

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Question # 20

Which one of the following four models is typically used to grade the obligations of small- and medium-size enterprises?

A.

Causal models

B.

Historical frequency models

C.

Credit scoring models

D.

Credit rating models

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Question # 21

By lowering the spread on lower credit quality borrowers, the bank will typically achieve all of the following outcomes EXCEPT:

A.

Aggressively courting of new business

B.

Lower probability of default

C.

Rapid growth

D.

Higher losses in case of default

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Question # 22

From a risk point of view, which of the following factors will generally lead to the fluctuation of equity values with industry P/E levels and a company's individual earnings?

I. Sales

II. Cost management

III. Commercial success of the company

IV. Market sentiment

A.

I, II

B.

II, IV

C.

III, IV

D.

I, II, III

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Question # 23

Banks duration match their assets and liabilities to manage their interest risk in their banking book. Currently, the bank's assets and liabilities both have a duration of 10. To hedge against the risk of decreasing interest rates, the bank should

I. Increase the duration of the liabilities

II. Increase the duration of the assets

III. Decrease the duration of the liabilities

IV. Decrease the duration of the assets

A.

I only.

B.

I and II.

C.

II and III.

D.

I and IV

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Question # 24

Unico Delta stock is trading at $20 per share, its annualized dividend yield is 5% and the 12-month LIBOR is 3%. Given these statistics, the 12-month futures contact will trade at:

A.

$10.08

B.

$20.04

C.

$30.04

D.

$40.08

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Question # 25

Which type of risk does a bank incur on loans that are in the "pipeline", i.e loans that are in the process of origination but not yet originated?

A.

Interest rate risk and credit risk

B.

Interest rate risk only

C.

Credit Risk only

D.

The bank does not incur any risk since the loan is not yet originated

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Question # 26

Present value of a basis point (PVBP) is one of the ways to quantify the risk of a bond, and it measures:

A.

The change in value of a bond when yields increase by 0.01%.

B.

The percentage change in bond price when yields change by 1 basis point.

C.

The present value of the future cash flows of a bond calculated at a yield equal to 1%.

D.

The percentage change in bond price when the yields change by 1%.

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Question # 27

A hedge fund trader buys options to establish an exposure in the currency market, thereby effectively removing the risk of being able to participate in a gapping market. In this case the options premium represents the price paid for eliminating the execution risk of

A.

The delta-hedging strategy.

B.

The gamma-hedging strategy.

C.

The vega-hedging strategy.

D.

The theta-hedging strategy.

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Question # 28

An associate from the finance group has been identified as an operational risk coordinator (ORC) for her department. To fulfill her ORC responsibilities the associate will need to:

I. Provide main communication contact with operational risk department

II. Provide main reporting contact with audit department

III. Coordinate collection of key risk indicators in her area

IV. Coordinate training and awareness activities in her area

A.

I, II

B.

II, III, IV

C.

I, II, III

D.

I, III, IV

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Question # 29

Suppose Delta Bank enters into a number of long-term commercial and retail loans at fixed rate prevailing at the time the loans are originated. If the interest rates rise:

A.

The bank will have to pay higher interest rates to its depositors and would have to pay higher rates on its debt to the extent the debt interest rate was linked to floating indices, or to the extent the debt used to fund the loans was of a shorter maturity than the loans.

B.

The bank will have to pay higher interest rates to its depositors and would have to pay lower rates on its debt to the extent the debt interest rate was linked to floating indices, or to the extent the debt used to fund the loans was of a shorter maturity than the loans.

C.

The bank will have to pay lower interest rates to its depositors and would have to pay higher rates on its debt to the extent the debt interest rate was linked to floating indices, or to the extent the debt used to fund the loans was of a shorter maturity than the loans.

D.

The bank will have to pay lower interest rates to its depositors and would have to pay lower rates on its debt to the extent the debt interest rate was linked to floating indices, or to the extent the debt used to fund the loans was of a shorter maturity than the loans.

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Question # 30

What is the role of market risk management function within a bank?

I. Control and minimize the risks the bank should take.

II. Establish a comprehensive market risk policy framework.

III. Define, approve and monitor risk limits.

IV. Perform stress tests and other qualitative risk assessments.

A.

I and III

B.

II and IV

C.

I, II and III

D.

II, III, and IV

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Question # 31

Which of the following statements about endogenous and exogenous types of liquidity are accurate?

I. Endogenous liquidity is the liquidity inherent in the bank's assets themselves.

II. Exogenous liquidity is the liquidity provided by the bank's liquidity structure to fund its assets and maturing liabilities.

III. Exogenous liquidity is the non-contractual and contingent capital supplied by investors to support the bank in times of liquidity stress.

IV. Endogenous liquidity is the same as funding liquidity.

A.

I, II

B.

I, III

C.

II, III

D.

I, II, IV

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Question # 32

A risk analyst at EtaBank wants to estimate the risk exposure in a leveraged position in Collateralized Debt Obligations. These particular CDOs can be used in a repurchase transaction at a 20% haircut. If the VaR on a $100 unleveraged position is estimated to be $30, what is the VaR for the final, fully leveraged position?

A.

$20

B.

$50

C.

$100

D.

$150

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Question # 33

Which one of the following areas does not typically report into a central operational risk function?

A.

Business continuity planning

B.

Information security

C.

Geopolitical and strategic planning

D.

Embedded operational risk coordinators or specialists or managers

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Question # 34

Which of the following attributes of duration gap model typically cause criticism?

I. Basis risk

II. Errors in the linear model

III. Costs of immunization

IV. Constant nature of calculation

A.

I, II

B.

II, III, IV

C.

I, II, III

D.

I, III, IV

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Question # 35

Why do regulatory standards impose formulaic capital calculations for all of the banks activities?

I. If the banks use different models it is difficult for a regulator to compare results across banks.

II. By imposing standardized calculations regulators can make sure that banks are not missing key risks in their calculations.

III. By imposing standardized calculations regulators can make sure that banks do not use capital calculations to game the banking regulation system.

A.

I

B.

I,II

C.

II, III

D.

I,II, III

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Question # 36

A key function of treasuries in commercial/retail banks is:

I. To manage the interest margin of the banks.

II. To focus on underwriting risk.

III. To ensure strong earnings.

IV. To increase profit margins.

A.

I

B.

II

C.

II, III

D.

III, IV

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Question # 37

A bank customer expecting to pay its Brazilian supplier BRL 100 million asks Alpha Bank to buy Australian dollars and sell Brazilian reals. Alpha bank does not hold reals so it asks for a quote to buy Brazilian reals in the market. The market rate is 100. The bank quotes a selling rate of 101 to its customer and sells the real at this quoted price. Then the bank immediately buys the real at the market rate and completes foreign exchange matched transaction. What is the impact of this transaction on the bank's risk profile?

A.

This transaction eliminates credit risk.

B.

This transaction eliminates counterparty risk.

C.

This transaction eliminates market risk.

D.

This transaction eliminates operational risk.

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Question # 38

The data available to estimate the statistical distribution of bank losses is difficult to assemble for which of the following reasons?

I. The needed data is vast in quantity.

II. The data requires bringing together significantly different measures of risk.

III. Some risks are difficult to quantify and hence the data might involve subjective elements.

A.

I, II

B.

I, III

C.

II, III

D.

I, II, III

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Question # 39

Bank Sigma takes a long position in the oil futures market that requires a 2% margin, i.e., the bank has to deposit 2% of the value of the contract with the broker. The futures contracts were priced at $50 per barrel (bbl) at inception, and rose by $5 to $55. The VaR on the position is estimated to be $10. What is the return on this transaction on a risk adjusted basis?

A.

50%

B.

10%

C.

500%

D.

20%

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Question # 40

To achieve leverage in long positions, a bank can use the following strategy:

I. Securities may be purchased with borrowed funds using a bank loan from the broker.

II. Securities may be borrowed on margin by taking a loan from a broker.

III. Securities may be purchased and used in a repo transaction to generate cash for further security purchases.

IV. The bank may enter into a derivative transaction, such as a total return swap, that requires little to no collateral but mimics the performance of a long or short position in the underlying instrument.

A.

I, II

B.

I, III

C.

II, IV

D.

I, II, III, IV

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Question # 41

James Johnson has a $1 million long position in ThetaGroup with a VaR of 0.3 million, and $1 million long position in VolgaCorp with a VaR of 0.4 million. The returns of the two companies have zero correlation. What is the portfolio VaR?

A.

$1 million

B.

$0.7 million

C.

$0.5 million

D.

$0.4 million

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Question # 42

A portfolio consists of two floating rate bonds and one fixed rate bond.

2016-FRR question answer

Based on the information below, modified duration of this portfolio is

A.

2.64

B.

3.00

C.

4.28

D.

4.44

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Question # 43

Which one of the following four statements best describes challenges of delta-normal method of mapping options positions?

Delta-normal method understates

A.

Risks of long and short positions for both calls and puts.

B.

Risks of long option positions for puts and overstates risks of short option positions for calls.

C.

Risks of long option positions for calls and overstates risks of short option positions for puts.

D.

Risks of short option positions and overstates risks of long option positions for both calls and puts.

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Question # 44

James Johnson bought a coupon bond yielding 4.7% for $1,000. Assuming that the price drops to $976 when yield increases to 4.71%, what is the PVBP of the bond.

A.

$26.

B.

$76.

C.

$870.

D.

$976.

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Question # 45

A multinational bank just bought two bonds each worth $10,000. One of the bonds pays a fixed interest of 5% semi-annually and the other pays LIBOR semi-annually. The six month LIBOR is at 5% currently. The risk manager of the bank is concerned about the sensitivity to interest rates. Which of the following statements are true?

A.

The price of the bond paying floating interest is more sensitive to interest rates than the bond paying fixed interest.

B.

The price of the bond paying fixed interest is more sensitive to interest rates than the bond paying floating interest.

C.

Both bond prices are equally sensitive to interest rates.

D.

The given information is not enough to determine the sensitivity of the bond prices.

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Question # 46

A bank owns a portfolio of bonds whose composition is shown below.

2016-FRR question answer

What is the modified duration of the portfolio?

A.

1.30

B.

8.5

C.

2.30

D.

0.5

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Question # 47

An asset manager just bought a coupon paying bond with principal value $100,000 for $87,000 with a current yield of 4.7%. He assumes that if the yields change to 5.7% the price of the bond would be $84,500. Based on this assumption what is the modified duration of the bond?

A.

2,507.

B.

97.12.

C.

2.97.

D.

2.88.

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Question # 48

What are some of the drawbacks of correlation estimates? Which of the following statements identifies major problems with correlation calculations?

I. Correlation estimates are not able to capture increases in factor co-movements in extreme market scenarios.

II. Correlation estimates tend to be unstable.

III. Historical correlations may not forecast future correlations correctly.

IV. Correlation estimates assume normally distributed returns.

A.

I and II

B.

I and IV

C.

I, II and III

D.

II, III, and IV

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Question # 49

On January 1, 2010 the TED (treasury-euro dollar) spread was 0.4%, and on January 31, 2010 the TED spread is 0.9%. As a risk manager, how would you interpret this change?

A.

The decrease in the TED spread indicates a decrease in credit risk on interbank loans.

B.

The decrease in the TED spread indicates an increase in credit risk on interbank loans.

C.

Increase in interest rates on both interbank loans and T-bills.

D.

Increase in credit risk on T-bills.

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Question # 50

James manages a loans portfolio. He has to evaluate a large number of loans to choose which of them he will keep in the bank's books. Which one of the following four loans would he be most likely to sell to another bank?

A.

Loan to a major customer who is also a director and a large owner.

B.

Loan made to a highly risky borrower that is fully collateralized by the customer's deposits.

C.

Loan to a commercial customer with a good payment history and collateral.

D.

Loan to a borrower who has been delinquent previously, but now is performing as agreed.

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Question # 51

Rising TED spread is typically a sign of increase in what type of risk among large banks?

I. Credit risk

II. Market risk

III. Liquidity risk

IV. Operational risk

A.

I only

B.

II only

C.

I and IV

D.

I, II, and III

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