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2016-FRR Financial Risk and Regulation (FRR) Series Questions and Answers

Questions 4

The market risk manager of SigmaBank is concerned with the value of the assets in the bank's trading book. Which one of the four following positions would most likely be not included in that book?

Options:

A.

10,000 shares of IBM worth $10,000,000.

B.

$10,000,000 loan to IBM worth $9,800,000.

C.

$10,000,000 bond issued by IBM worth $11,000,000.

D.

300,000 options on IBM shares worth $10,000,000.

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Questions 5

Which one of the four following aspects of legal risk is NOT included in the Basel II Accord?

Options:

A.

Exposure to fines

B.

Private settlements

C.

Punitive damages resulting from supervisory actions

D.

Negative publicity resulting from reputational damages

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Questions 6

Which one of the following four statements presents a challenge of using external loss databases in the operational risk framework?

Options:

A.

Use of benchmarked data reflects similar data collection standards.

B.

External events are usually not of interest to senior management.

C.

If the external data is gathered from news sources, it may only reflect events that are interesting to the press.

D.

They provide a source of data on what operational loss events will occur.

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Questions 7

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

Options:

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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Questions 8

In analyzing the historical performance of a financial product, you are concerned about "fat tails", the probability of extreme returns compared to realized returns. Which of the following measures should you use to determine if the product return distribution of the product has "fat tails"?

Options:

A.

Mean

B.

Standard deviation

C.

Skewness

D.

Kurtosis

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Questions 9

Which one of the following four examples would not be considered a typical source of market risk?

Options:

A.

Unexpected changes in the term structure of interest rates.

B.

The JPY depreciating against the USD.

C.

Increased default rate on commercial mortgages due to higher interest rates.

D.

Changes in the oil price due to the discovery of new oil fields.

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Questions 10

Which of the following factors would typically increase the credit spread?

I. Increase in the probability of default of the issuer.

II. Decrease in risk premium.

III. Decrease in loss given default of the issuer.

IV. Increase in expected loss.

Options:

A.

I

B.

II and III

C.

I and IV

D.

I, II, and IV

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Questions 11

Which one of the four following statements regarding foreign exchange (FX) swap transactions is INCORRECT?

Options:

A.

FX swap is a common short-term transaction.

B.

FX swap is normally used for hedging various currency positions.

C.

FX swap generates more exchange rate risk than simple forward transactions.

D.

FX swap is generally used to for funding foreign currency balances and currency speculation.

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Questions 12

Which one of the following four statements about economic capital of a bank is correct?

Options:

A.

Economic capital measures how the economy is doing compared to the bank.

B.

Economic capital reflects the possible losses that could occur based on the bank's own estimates of the risks it is taking.

C.

Economic capital is determined by rules imposed by an external authority.

D.

Economic capital is the present value of the earnings generated by the bank in the future.

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Questions 13

Which one of the following four statements about hedging is INCORRECT?

Options:

A.

Traders can hedge their risks by taking an appropriate position in the underlying instrument.

B.

Traders can hedge their portfolio risks by taking a position in a different instrument.

C.

For a fully hedged portfolio, any changes in markets prices will typically produce significant changes in the market value of the portfolio.

D.

A large number of hedge positions is generally required to match the underlying transaction completely.

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Questions 14

Gamma Bank provides a $100,000 loan to Big Bath retail stores at 5% interest rate (paid annually). The loan is collateralized with $55,000. The loan also has an annual expected default rate of 2%, and loss given default at 50%. In this case, what will the bank's exposure at default (EAD) be?

Options:

A.

$25,000

B.

$50,000

C.

$75,000

D.

$105,000

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Questions 15

Altman's Z-score incorporates all the following variables that are predictive of bankruptcy EXCEPT:

Options:

A.

Return on total assets

B.

Sales to total assets

C.

Equity to debt

D.

Return on equity

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Questions 16

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 has 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, what would be the probability of a cumulative $40 million loss from these two mortgage borrowers?

Options:

A.

0.01%

B.

0.1%

C.

1%

D.

10%

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Questions 17

To quantify the aggregate average loss for the credi t subportfolios, a credit portfolio manager should use the following metric:

Options:

A.

Credit VaR

B.

Expected loss

C.

Unexpected loss

D.

Factor sensitivity

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Questions 18

A risk manager is analyzing a call option on the GBP with a vega of 0.02. When the perceived future volatility increases by 1%, the call option

Options:

A.

Increases in value by 0.02.

B.

Increases in value by 2.

C.

Decreases in value by 0.02.

D.

Decreases in value by 2.

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Questions 19

Typically, which one of the following four option risk measures will be used to determine the number of options to use to hedge the underlying position?

Options:

A.

Vega

B.

Rho

C.

Delta

D.

Theta

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Questions 20

Which one of the following four features is NOT a typical characteristic of futures contracts?

Options:

A.

Fixed notional amount per contract

B.

Fixed dates for delivery

C.

Traded Over-the-counter only

D.

Daily margin calls

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Questions 21

A large energy company has a recurring foreign currency demands, and seeks to use options with a pay-off based on the average price of the underlying asset on either a few specific chosen dates or all dates within a specific pricing window. Which one of the following four option types would most likely meet these specific foreign currency demands?

Options:

A.

American options

B.

European options

C.

Asian options

D.

Chooser options

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Questions 22

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

Options:

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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Questions 23

A credit rating analyst wants to determine the expected duration of the default time for a new three-year loan, which has a 2% likelihood of defaulting in the first year, a 3% likelihood of defaulting in the second year, and a 5% likelihood of defaulting the third year. What is the expected duration for this three-year loan?

Options:

A.

1.5 years

B.

2.1 years

C.

2.3 years

D.

3.7 years

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Questions 24

Which one of the following four statements correctly defines an option's delta?

Options:

A.

Delta measures the expected decline in option with time and is usually expressed in years.

B.

Delta measures the effect of 1 bp in interest rate change on the option price.

C.

Delta is the multiplier that best approximates the short-term change in the value of an option.

D.

Delta measures the impact of volatility on the price of an option.

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Questions 25

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

I. Bonds

II. Marketable loans

III. Credit card loans

Options:

A.

I

B.

II

C.

I, II

D.

II, III

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Questions 26

When a credit risk manager analyzes default patterns in a specific neighborhood, she finds that defaults are increasing as the stigma of default evaporates, and more borrowers default. This phenomenon constitutes

Options:

A.

Moral hazard

B.

Speculative bias

C.

Herd behavior

D.

Adverse selection

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Questions 27

A credit analyst wants to determine a good pricing strategy to compensate for credit decisions that might have been made incorrectly. When analyzing her credit portfolio, the analyst focuses on the spreads in each loan to determine if they are sufficient to compensate the bank for all of the following costs and risks EXCEPT.

Options:

A.

The marginal cost of funds provided.

B.

The overhead cost of maintaining the loan and the account.

C.

The inherent risk of lending to this borrower while providing a return on the risk capital used to the support the loan.

D.

The opportunity cost of risk-adjusted marginal cost of capital.

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Questions 28

Which one of the following statements correctly identifies risks in foreign exchange forwards?

Options:

A.

Short-term forward price fluctuations are driven by changes in the spot exchange rate, since most inter-country interest rates differentials are significant, and the effect of compounding is large for short periods of time.

B.

Short-term forward price fluctuations are driven by changes in the spot exchange rate, since most inter-country interest rates differentials are small, and the effect of compounding is small for short periods of time.

C.

Long-term forward price fluctuations are driven by changes in the spot exchange rate, since most inter-country interest rates differentials are small, and the effect of compounding is large for short periods of time.

D.

Long-term forward price fluctuations are driven by changes in the spot exchange rate, since most inter-country interest rates differentials are significant, and the effect of compounding is small for short periods of time.

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Questions 29

After entering the securitization business, Delta Bank increases its cash efficiency by selling off the lower risk portions of the portfolio credit risk. This process ___ return on equity for the bank, because the cash generated by the risk-transfer and the overall ___ of the bank's exposure to the risk.

Options:

A.

Increases; increase;

B.

Increases; reduction;

C.

Decreases; increase;

D.

Decreases; reduction;

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Questions 30

Which one of the following four exotic option types has another option as its underlying asset, and as a result of its construction is generally believed to be very difficult to model?

Options:

A.

Spread options

B.

Chooser options

C.

Binary options

D.

Compound options

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Questions 31

A risk manager has a long forward position of USD 1 million but the option portfolio decreases JPY 0.50 for every JPY 1 increase in his forward position. At first approximation, what is the overall result of the options positions?

Options:

A.

The options positions hedge the forward position by 25%.

B.

The option positions hedge the forward position by 50%.

C.

The option positions hedge the forward position by 75%.

D.

The option positions hedge the forward position by 100%.

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Questions 32

When trading exotic options, one needs to consider the following risks:

I. Spot foreign exchange risks

II. Forward foreign exchange risks

III. Plain vanilla options risks

IV. Option-specific risks

Options:

A.

I, III

B.

II, III, IV

C.

I, II, IV

D.

I, II, III, IV

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Questions 33

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

Options:

A.

I, II

B.

I, II, III

C.

II, III

D.

I, II, III, IV

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Questions 34

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

Delta-normal method understates

Options:

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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Questions 35

Which one of the following four statements correctly defines a non-exotic call option?

Options:

A.

A call option gives the call option buyer the obligation, but not the right, to buy the underlying instrument at a known price in the future.

B.

A call option gives the call option buyer the obligation, but not the right, to sell the underlying instrument at a known price in the future

C.

A call option gives the call option buyer the right, but not the obligation, to buy the underlying instrument at a known price in the future

D.

A call option gives the call option buyer the right, but not the obligation, to sell the underlying instrument at a known price in the future

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Questions 36

To hedge a foreign exchange exposure on behalf of a client, a small regional bank seeks to enter into an offsetting foreign exchange transaction. It cannot access the large and liquid interbank market open primarily to larger banks. At which one of the following exchanges can the smaller bank trade the currency futures contracts?

I. The Tokyo Futures Exchange

II. The Euronext-Liffe Exchange

III. The Chicago Mercantile Exchange

Options:

A.

I

B.

III

C.

II, III

D.

I, II, III

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Questions 37

Which of the following attributes are typical for early models of statistical credit analysis?

Options:

A.

These models assumed the default of any obligor was independent of the default of any other.

B.

The underlying default assumptions were analytically inconvenient.

C.

The underlying default assumptions failed to develop relatively simple formulas for the determination of portfolio credit risk.

D.

These models effectively incorporated herd behavior.

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Questions 38

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

Options:

A.

I, III

B.

II, IV

C.

I, II, III

D.

II, III, IV

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Questions 39

Which one of the following four statements on the seniority of corporate bonds is incorrect?

Options:

A.

Senior bonds typically have lower credit spreads than junior bonds with the same maturity and payment characteristics.

B.

Seniority refers to the priority of a bond in bankruptcy.

C.

Junior bonds always pay higher coupons than subordinated bonds.

D.

In bankruptcy, holders of senior bonds are paid in full before any holders of subordinated bonds receive payment.

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Questions 40

Which one of the following four formulas correctly identifies the expected loss for all credit instruments?

Options:

A.

Expected Loss = Probability of Default x Loss Given Default x Exposure at Default

B.

Expected Loss = Probability of Default x Loss Given Default + Exposure at Default

C.

Expected Loss = Probability of Default x Loss Given Default - Exposure at Default

D.

Expected Loss = Probability of Default x Loss Given Default / Exposure at Default

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Questions 41

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

Options:

A.

Credit VaR

B.

Probability of default

C.

Loss given default

D.

Modified duration

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Questions 42

A risk manager is considering how to best quantify option price dynamics using mathematical option pricing models. Which of the following variables would most likely serve as an input in these models?

I. Implicit parameter estimate based on observed market prices

II. Estimates of sensitivity of option prices to parameter changes

III. Theoretical option determination based on assumptions

Options:

A.

I, III

B.

II

C.

II, III

D.

I, II, III

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Questions 43

Which one of the following four option types has two strike prices?

Options:

A.

Asian options

B.

American options

C.

Range options

D.

Shout options

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Questions 44

Alpha Bank determined that Delta Industrial Machinery Corporation has 2% change of default on a one-year no-payment of USD $1 million, including interest and principal repayment. The bank charges 3% interest rate spread to firms in the machinery industry, and the risk-free interest rate is 6%. Alpha Bank receives both interest and principal payments once at the end the year. Delta can only default at the end of the year. If Delta defaults, the bank expects to lose 50% of its promised payment. Hence, the loss rate in this case will be

Options:

A.

1%

B.

3%

C.

5%

D.

10%

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Questions 45

According to a Moody's study, the most important drivers of the loss given default historically have been all of the following EXCEPT:

I. Debt type and seniority

II. Macroeconomic environment

III. Obligor asset type

IV. Recourse

Options:

A.

I

B.

II

C.

I, II

D.

III, IV

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Questions 46

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

Options:

A.

Low unemployment

B.

Low inflation

C.

High degrees of investment

D.

Low degrees of savings

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Questions 47

Of all the risk factors in loan pricing, which one of the following four choices is likely to be the least significant?

Options:

A.

Probability of default

B.

Duration of default

C.

Loss given default

D.

Exposure at default

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Questions 48

For which one of the following four reasons do corporate customers use foreign exchange derivatives?

I. To lock in the current value of foreign-denominated receivables

II. To lock in the current value of foreign-denominated payables

III. To lock in the value of expected future foreign-denominated receivables

IV. To lock in the value of expected future foreign-denominated payables

Options:

A.

II

B.

I and IV

C.

II and III

D.

I, II, III, IV

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Questions 49

A credit risk analyst is evaluating factors that quantify credit risk exposures. The risk that the borrower would fail to make full and timely repayments of its financial obligations over a given time horizon typically refers to:

Options:

A.

Duration of default.

B.

Exposure at default.

C.

Loss given default.

D.

Probability of default.

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Questions 50

As Japan ___ its budget deficits and ___ its dependence on debt, the Japanese currency, JPY, would ___ in value against other currencies.

Options:

A.

Reduces, reduces, appreciate

B.

Reduces, reduces, depreciate

C.

Increases, reduces, appreciate

D.

Reduces, increases, depreciate

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Questions 51

A risk manager analyzes a long position with a USD 10 million value. To hedge the portfolio, it seeks to use options that decrease JPY 0.50 in value for every JPY 1 increase in the long position. At first approximation, what is the overall exposure to USD depreciation?

Options:

A.

His overall portfolio has the same exposure to USD as a portfolio that is long USD 5 million.

B.

His overall portfolio has the same exposure to USD as a portfolio that is long USD 10 million.

C.

His overall portfolio has the same exposure to USD as a portfolio that is short USD 5 million.

D.

His overall portfolio has the same exposure to USD as a portfolio that is short USD 10 million.

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Questions 52

Which one of the following statements about futures contracts is correct?

I. Futures contracts are subject to the same risks as the underlying instruments.

II. Futures contracts have additional interest rate risk die to the future delivery date.

III. Futures contracts traded in a clearinghouse system are exposed to credit risk with numerous counterparties.

Options:

A.

I

B.

I, III

C.

II, III

D.

I, II, III

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Questions 53

An options trader is assessing the aggregate risk of her currency options exposures. As an options buyer, she can potentially ___ lose more than the premium originally paid. As an option seller, however, she has a ___ risk on the contract and always receives a premium.

Options:

A.

Never, unlimited

B.

Sometimes, unlimited

C.

Never, limited

D.

Sometimes, limited

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Questions 54

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

Options:

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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Questions 55

All of the four following exotic options are path-independent options, EXCEPT:

Options:

A.

Chooser options

B.

Power options

C.

Asian options

D.

Basket options

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Questions 56

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

Options:

A.

I

B.

II

C.

I, II

D.

III, IV

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Questions 57

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:

Options:

A.

1%

B.

2%

C.

3%

D.

4%

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Questions 58

According to the largest global poll of foreign exchange market participants, which one of the following four global financial institutions was the most active participant in the global foreign exchange market?

Options:

A.

Citibank

B.

UBS AG

C.

Deutsche Bank

D.

Barclays Capital

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Questions 59

An asset manager for a large mutual fund is considering forward exchange positions traded in a clearinghouse system and needs to mitigate the risks created as a result of this operation. Which of the following risks will be created as a result of the forward exchange transaction?

Options:

A.

Exchange rate risk

B.

Exchange rate and interest rate risk

C.

Credit risk

D.

Exchange rate and credit risk

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Questions 60

A credit analyst wants to determine if her bank is taking too much credit risk. Which one of the following four strategies will typically provide the most convenient approach to quantify the credit risk exposure for the bank?

Options:

A.

Assessing aggregate exposure at default at various time points and at various confidence levels

B.

Simplifying individual credit exposures so that they can be combined into a simplified expression of portfolio risk for the bank

C.

Using stress testing techniques to forecast underlying macroeconomic factors and bank's idiosyncratic risks

D.

Analyzing distribution of bank's credit losses and mapping credit risks at various statistical levels

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Questions 61

Alpha Bank determined that Delta Industrial Machinery Corporation has 2% change of default on a one-year no-payment of USD $1 million, including interest and principal repayment. The bank charges 3% interest rate spread to firms in the machinery industry, and the risk-free interest rate is 6%. Alpha Bank receives both interest and principal payments once at the end the year. Delta can only default at the end of the year. If Delta defaults, the bank expects to lose 50% of its promised payment.

What may happen to the Delta's initial credit parameter and the value of its loan if the machinery industry experiences adverse structural changes?

Options:

A.

Probability of default and loss at default may decrease simultaneously, while duration rises causing the loan value to decrease.

B.

Probability of default and loss at default may decrease simultaneously, while duration falls causing the loan value to decrease.

C.

Probability of default and loss at default may increase simultaneously, while duration rises causing the loan value to decrease.

D.

Probability of default and loss at default may increase simultaneously, while duration falls causing the loan value to decrease.

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Questions 62

Which one of the following four parameters is NOT a required input in the Black-Scholes model to price a foreign exchange option?

Options:

A.

Underlying exchange rates

B.

Underlying interest rates

C.

Discrete future stock prices

D.

Option exercise price

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Questions 63

Which one of the following four statements correctly defines credit risk?

Options:

A.

Credit risk is the risk that complements market and liquidity risks.

B.

Credit risk is a form of performance risk in contractual relationship.

C.

Credit risk is the risk arising from execution of a company's strategy.

D.

Credit risk is the risk that summarizes the exposures a company or firm assumes when it attempts to operate within a given field or industry.

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Questions 64

Which one of the following four statements regarding bank's exposure to credit and default risk is INCORRECT?

Options:

A.

The more the bank diversifies its credit portfolio, the better spread its credit risks become.

B.

In debt management, the value of any loan exposure will change typically in a fashion similar the same way that an equity investment can.

C.

In debt management, the goal is to minimize the effect of any defaults.

D.

Default risk cannot be hedged away fully, and it will always exist for the holder of the credit or for the person insuring against the credit or default event.

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Questions 65

Beta Insurance Company is only allowed to invest in investment grade bonds. To maximize the interest income, Beta Insurance Company should invest in bonds with which of the following ratings?

Options:

A.

AAA

B.

AA

C.

A

D.

B

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Questions 66

Which one of the following four options correctly identifies the core difference between bonds and loans?

Options:

A.

These instruments receive a different legal treatment.

B.

These instruments have different pricing drivers.

C.

These instruments cannot be used to estimate credit capital under provisions of the Basel II Accord.

D.

These instruments are subject to different credit counterparty regulations.

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Questions 67

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

Options:

A.

Causal models

B.

Historical frequency models

C.

Credit scoring models

D.

Credit rating models

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Questions 68

In the United States, Which one of the following four options represents the largest component of securitized debt?

Options:

A.

Education loans

B.

Credit card loans

C.

Real estate loans

D.

Lines of credit

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Questions 69

Foreign exchange rates are determined by various factors. Considering the drivers of exchange rates, which one of the following changes would most likely strengthen the value of the USD against other foreign currencies?

Options:

A.

The expected US inflation rate increases

B.

The global demand for US products decreases

C.

The economic performance in the US weakens

D.

The US current account surplus increases

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Questions 70

Which of the following risk types are historically associated with credit derivatives?

I. Documentation risk

II. Definition of credit events

III. Occurrence of credit events

IV. Enterprise risk

Options:

A.

I, IV

B.

I, II

C.

I, II, III

D.

II, III, IV

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Questions 71

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 ___.

Options:

A.

Credit risk; market risk

B.

Market risk; credit risk

C.

Credit risk; performance risk

D.

Performance risk; credit risk

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Questions 72

Most loans and deposits in the interbank market have a maturity of:

Options:

A.

More than 10 years

B.

More than 5 years but less than 10 years

C.

More than 3 years but less than 5 years

D.

Less than one year

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Questions 73

A credit portfolio manager analyzes a large retail credit portfolio. Which of the following factors will represent typical disadvantages of market-linked credit risk drivers?

I. Need to supply a large number of input parameters to the model

II. Slow computation speed due to higher simulation complexity

III. Non-linear nature of the model applicable to a specific type of credit portfolios

IV. Need to estimate a large number of unknown variable and use approximations

Options:

A.

I

B.

I, II

C.

II, III

D.

III, IV

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Questions 74

In the United States, during the second quarter of 2009, transactions in foreign exchange derivative contracts comprised approximately what proportion of all types of derivative transactions between financial institutions?

Options:

A.

2%

B.

7%

C.

25%

D.

43%

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Questions 75

To estimate a partial change in option price, a risk manager will use the following formula:

Options:

A.

Partial change in option price = Delta x Change in underlying price

B.

Partial change in option price = Delta x (1+ Change in underlying price)

C.

Partial change in option price = Delta x Gamma x Change in underlying price

D.

Partial change in option price = Delta x Gamma x (1+ Change in underlying price)

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Questions 76

To safeguard its capital and obtain insurance if the borrowers cannot repay their loans, Gamma Bank accepts financial collateral to manage its credit risk and mitigate the effect of the borrowers' defaults. Gamma Bank will typically accept all of the following instruments as financial collateral EXCEPT?

Options:

A.

Unrated bonds issued and traded on a recognized exchange

B.

Equities and convertible bonds included in a main market index

C.

Commercial debts owed to a company in a form of receivables

D.

Mutual fund shares and similar unit investment vehicles subject to daily quotes

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Questions 77

A credit associate extending a loan to an obligor suspects that the obligor may change his behavior after the loan has been originated. The obligor in this case may use the loan proceeds for purposes not sanctioned by the lender, thereby increasing the risk of default. Hence, the credit associate must estimate the probability of default based on the assumptions about the applicability of the following tendency to this lending situation:

Options:

A.

Speculation

B.

Short bias

C.

Moral hazard

D.

Adverse selection

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Questions 78

Gamma Bank is active in loan underwriting and securitization business, and given its collective credit exposure, it will be typically most interested in the following types of portfolio credit risk:

I. Expected loss

II. Duration

III. Unexpected loss

IV. Factor sensitivities

Options:

A.

I

B.

II

C.

I, III

D.

I, III, IV

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Questions 79

Which one of the following four statements correctly defines chooser options?

Options:

A.

The owner of these options decides if the option is a call or put option only when a predetermined date is reached.

B.

These options represent a variation of the plain vanilla option where the underlying asset is a basket of currencies.

C.

These options pay an amount equal to the power of the value of the underlying asset above the strike price.

D.

These options give the holder the right to exchange one asset for another.

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Questions 80

A bank customer chooses a mortgage with low initial payments and payments that increase over time because the customer knows that she will have trouble making payments in the early years of the loan. The bank makes this type of mortgage with the same default assumptions uses for ordinary mortgages, thus underestimating the risk of default and becoming exposed to:

Options:

A.

Moral hazard

B.

Adverse selection

C.

Banking speculation

D.

Sampling bias

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Questions 81

Which one of the following four options does NOT represent a benefit of compensating balances to the bank?

Options:

A.

Compensating balances allow the bank to net some of the exposure they may have in case of default, by taking funds from these specific deposit account one the borrower defaults.

B.

Since the compensating balances cannot be withdrawn at short notice, if at all, they are not considered transaction accounts and are able to provide a stable funding to the bank, reducing its reliance on more volatile external inter-bank based funding sources.

C.

Compensation balances influence the expected loss rate of the bank given the default obligor and improve capital structure by controlling obligor type and avoiding payment delays.

D.

Since the compensating balances reduce the next amount lent to the borrower, the earned return on the loan is increased, further widening the bank's interest rate margin and profitability.

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Questions 82

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

Options:

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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Questions 83

Which one of the following four variables of the Black-Scholes model is typically NOT known at a point in time?

Options:

A.

The underlying relevant exchange rates

B.

The underlying interest rates

C.

The future volatility of the exchange rates

D.

The time to maturity

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Questions 84

What is the explanation offered by the liquidity preference theory for the upward sloping yield curve shape?

Options:

A.

The long term rates must rise enough to get some borrowers to borrow short-term and some lenders to lend long-term.

B.

The long term rates must rise enough to get some borrowers to borrow long-term and some lenders to lend short-term.

C.

The short term rates must rise enough to get some borrowers to borrow short-term and some lenders to lend long-term.

D.

The short term rates must fall enough to get some borrowers to borrow long-term and some lenders to lend short-term.

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Questions 85

Which one of the following four model types would assign an obligor to an obligor class based on the risk characteristics of the borrower at the time the loan was originated and estimate the default probability based on the past default rate of the members of that particular class?

Options:

A.

Dynamic models

B.

Causal models

C.

Historical frequency models

D.

Credit rating models

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Questions 86

By foreign exchange market convention, spot foreign exchange transactions are to be exchanged at the spot date based on the following settlement rule:

Options:

A.

One-day rule

B.

Two-day rule

C.

Three-day rule

D.

Four-day rule

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Questions 87

When looking at the distribution of portfolio credit losses, the shape of the loss distribution is ___ , as the likelihood of total losses, the sum of expected and unexpected credit losses, is ___ than the likelihood of no credit losses.

Options:

A.

Symmetric; less

B.

Symmetric; greater

C.

Asymmetric; less

D.

Asymmetric; greater

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Questions 88

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

Options:

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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Questions 89

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

Options:

A.

Probability of default

B.

Duration

C.

Loss given default

D.

Market spreads

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Questions 90

What is generally true of the relationship between a bond's yield and it's time to maturity when the yield curve is upward sloping?

Options:

A.

The longer the time to maturity of the bond, the lower its yield.

B.

The longer the time to maturity of the bond, the higher its yield.

C.

The shorter the time to maturity of the bond, the higher its yield.

D.

There is no relationship between the two

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Questions 91

Except for the credit quality of the Credit Default Swap protection seller, the following relationship correctly approximates the yield on a risk-free instrument:

Options:

A.

Bond + CDS

B.

Bond + CDS + Market Spread

C.

Bond - CDS

D.

Bond - CDS - Market spread

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Questions 92

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

Options:

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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Questions 93

Which of the following statements regarding bonds is correct?

I. Interest rates on bonds are typically stated on an annualized rate.

II. Bonds can pay floating coupons that are directly linked to various interest rate indices.

III. Convertible bonds have an element of prepayment risk.

IV. Callable bonds have an element of equity risk.

Options:

A.

I only

B.

I and II

C.

I, II, and III

D.

II, III, and IV

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Questions 94

Which one of the following four statements does identify correctly the relationship between the value of an option and perceived exchange rate volatility?

Options:

A.

With increases in perceived future foreign exchange volatility, the value of all foreign exchange

B.

As the perceived future foreign exchange volatility decreases, the value of all options increases.

C.

As the perceived future foreign exchange volatility increases, the value of all options increases.

D.

Option values can only change due to the factors related to the demand for specific options

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Questions 95

Which one of the following four global markets for financial assets or instruments is widely believed to be the most liquid?

Options:

A.

Equity market.

B.

Foreign exchange market.

C.

Fixed income market

D.

Commodities market

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Questions 96

Changes to which one of the following four factors would typically not increase the cost of credit?

Options:

A.

Increasing inflation rates in a country.

B.

Increase in consumption of goods and services.

C.

Higher risk premium on a fixed income instrument.

D.

Higher return earned on alternative investments.

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Questions 97

A financial analyst is trying to distinguish credit risk from market risk. A $100 loan collateralized with $200 in stock has limited ___, but an uncollateralized obligation issued by a large bank to pay an amount linked to the long-term performance of the Nikkei 225 Index that measures the performance of the leading Japanese stocks on the Tokyo Stock Exchange likely has more ___ than ___.

Options:

A.

Legal risk; market risk; credit risk

B.

Market risk; market risk; credit risk

C.

Market risk; credit risk; market risk

D.

Credit risk, legal risk; market risk

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Questions 98

Which one of the following four statements correctly describes an American call option?

Options:

A.

An American call option gives the buyer of that call option the right to buy the underlying instrument on any date up to and including the expiry date.

B.

An American call option gives the buyer of that call option the right to sell the underlying instrument on any date up to and including the expiry date.

C.

An American call option gives the buyer of that call option the right to buy the underlying instrument on the expiry date.

D.

An American call option gives the buyer of that call option the right to sell the underlying instrument on the expiry date.

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Questions 99

Which one of the following four alternatives lists the three most widely traded currencies on the global foreign exchange market, as of April 2007, in the decreasing order of market share? EUR is the abbreviation of the European euro, JPY is for the Japanese yen, and USD is for the United States dollar, respectively.

Options:

A.

JPY, EUR, USD

B.

USD, EUR, JPY

C.

USD, JPY, EUR

D.

EUR, USD, JPY

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Questions 100

To estimate the interest charges on the loan, an analyst should use one of the following four formulas:

Options:

A.

Loan interest = Risk-free rate - Probability of default x Loss given default + Spread

B.

Loan interest = Risk-free rate + Probability of default x Loss given default + Spread

C.

Loan interest = Risk-free rate - Probability of default x Loss given default - Spread

D.

Loan interest = Risk-free rate + Probability of default x Loss given default - Spread

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Questions 101

Which one of the following four statements about the relationship between exchange rates and option values is correct?

Options:

A.

As the dollar appreciates relative to the pound, the right to buy dollars at a fixed pound exchange rate decreases.

B.

As the dollar appreciates relative to the pound, the right to buy dollars at a fixed pound exchange rate increases.

C.

As the dollar depreciates relative to the pound, the right to buy dollars at a fixed pound exchange rate increases.

D.

As the dollar appreciates relative to the pound, the right to sell dollars at a fixed pound exchange rate increases.

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Questions 102

After entering the securitization business, Delta Bank increases its cash efficiency by selling off the lower risk portions of the portfolio credit risk. This process ___ risk on the residual pieces of the credit portfolio, and as a result it ___ return on equity for the bank.

Options:

A.

Decreases; increases;

B.

Increases; increases;

C.

Increases; decreases;

D.

Decreases; increases;

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Questions 103

Alpha Bank determined that Delta Industrial Machinery Corporation has 2% change of default on a one-year no-payment of USD $1 million, including interest and principal repayment. The bank charges 3% interest rate spread to firms in the machinery industry, and the risk-free interest rate is 6%. Alpha Bank receives both interest and principal payments once at the end the year. Delta can only default at the end of the year. If Delta defaults, the bank expects to lose 50% of its promised payment. What interest rate should Alpha Bank charge on the no-payment loan to Delta Industrial Machinery Corporation?

Options:

A.

8%

B.

9%

C.

10%

D.

12%

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Questions 104

The value of which one of the following four option types is typically dependent on both the final price of its underlying asset and its own price history?

Options:

A.

Stout options

B.

Power options

C.

Chooser options

D.

Basket options

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Questions 105

Which one of the following four options is NOT a typical component of a currency swap?

Options:

A.

An initial currency exchange of the notional amount

B.

Denomination of the original notional amount into a foreign currency

C.

Periodic exchange of interest payments in different currencies

D.

A final currency exchange

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Questions 106

Which one of the following four mathematical option pricing models is used most widely for pricing European options?

Options:

A.

The Black model

B.

The Black-Scholes model

C.

The Garman-Kohlhagen model

D.

The Heston model

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Questions 107

Which one of the following changes would typically increase the price of a fixed income instrument, such as a bond?

Options:

A.

Decrease in inflation rates in a country.

B.

Increase in time to maturity.

C.

Increase in risk premium.

D.

Increase in demand for goods and services.

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Questions 108

Which of the following factors can cause obligors to default at the same time?

I. Obligors may be harmed by exposures to similar risk factors simultaneously.

II. Obligors may exhibit herd behavior.

III. Obligors may be subject to the sampling bias.

IV. Obligors may exhibit speculative bias.

Options:

A.

I

B.

II, III

C.

I, II

D.

III, IV

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Questions 109

Which one of the following four statements regarding counterparty credit risk is INCORRECT?

Options:

A.

Counterparty credit risk refers to the inability to realize gains in a contract with a counterparty due to its default.

B.

The exposure at default is variable due to fluctuations in swap valuations.

C.

The exposure at default can be negatively correlated to probability of default.

D.

Dynamic collateral provisions often increase counterparty risk considerably.

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Questions 110

To ensure good risk management which of the following should be true about the CRO role and function?

Options:

A.

The CRO should receive compensation that is directly determined by the profit of the trading desk.

B.

The CRO should report to the CEO or the Board of Directors.

C.

The CRO should not be involved with the setting of risk limits.

D.

To ensure efficient flow of information the CRO should not be independent of business units.

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Questions 111

Which one of the four following non-statistical risk measures are typically not used to quantify market risk?

Options:

A.

Option sensitivities

B.

Net closed positions

C.

Convexity

D.

Basis point values

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Questions 112

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

Options:

A.

The delta-hedging strategy.

B.

The gamma-hedging strategy.

C.

The vega-hedging strategy.

D.

The theta-hedging strategy.

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Exam Code: 2016-FRR
Exam Name: Financial Risk and Regulation (FRR) Series
Last Update: Mar 29, 2025
Questions: 387

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