[Feb-2022] 8008 Exam Dumps Pass with Updated 2022 PRM Certification - Exam III: Risk Management Frameworks, Operational Risk, Credit Risk, Counterparty Risk, Market Risk, ALM, FTP - 2015 Edition

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NEW QUESTION 53
Which of the following is not a tool available to financial institutions for managing credit risk:

• A. Third party guarantees
• B. Collateral
• C. Credit derivatives
• D. Cumulative accuracy plot

Answer: D

Explanation:
Explanation
Collateral, limits to avoid credit exposure concentrations, termination rights based upon credit ratings, third party guarantees and credit derivatives are all tools or instruments that financial institutions use to manage their credit risk. A cumulative accuracy plot measures the accuracy of ratings, and is not a tool for managing credit risk. Therefore Choice 'b' represents the correct answer.

 

NEW QUESTION 54
Which of the following statements are true?
I. Retail Risk Based Pricing involves using borrower specific data to arrive at both credit adjudication and pricing decisions II. An integrated 'Risk Information Management Environment' includes two elements - people and processes III. A Logical Data Model (LDM) lays down the relationships between data elements that an organization stores IV. Reference Data and Metadata refer to the same thing

• A. I and III
• B. All of the above
• C. II and IV
• D. I, II and III

Answer: A

Explanation:
Explanation
Statement I is correct. Retail Risk Based Pricing (RRBP) involves the use of borrower specific data (such as FICO scores, average balances etc) to arrive at credit decisions. These 'retail' credit decisions may include decisions on whether to grant a line of credit, a mortgage, issue a credit card, or any of the various other retail activities a bank may be dealing with. At the same time, this data can also be used to price the product, in addition to providing a yes or no credit decision so that risky borrowers are charged more than less risky borrowers.
Statement II is not correct, because an integrated Risk Information Management Environment includes three elements - people, processes and technology (and not just people and processes).
Statement III is correct. An LDM is a blue print of an organization's data, and describes the relationships between the various data elements.
Statement IV is not correct because reference data and metadata are not the same thing. Reference data refers to relatively static data, such as customer name (while actual transactions may not be so static). Metadata refers to data about data, and is stored in a data dictionary.
Therefore Choice 'b' is the correct answer and the rest are incorrect.

 

NEW QUESTION 55
All else remaining the same, an increase in the joint probability of default between two obligors causes the default correlation between the two to:

• A. Increase
• B. Decrease
• C. Cannot be determined from the given information
• D. Stay the same

Answer: A

Explanation:
Explanation
The default correlation between two obligors goes up if the joint probability of default between them increases. This is intuitive. Also consider the formula for the default correlation between two obligors Default correlation = [P(1,2) - P1 * P2] / P1*(1-P1)*P2*(1-P2); where P(1,2) is the joint probability of default between the two and P1 and P2 are their individual probabilities of default. Obviously, an increase in P(1,2) will cause the default correlation to increase.

 

NEW QUESTION 56
Under the KMV Moody's approach to calculating expecting default frequencies (EDF), firms' default on obligations is likely when:

• A. asset values reach a level below short term debt
• B. expected asset values one year hence are below total liabilities
• C. asset values reach a level between short term debt and total liabilities
• D. asset values reach a level below total liabilities

Answer: C

Explanation:
Explanation
An observed fact that the KMV approach relies upon is that firms do not default when their liabilities exceed assets, but when asset values are somewhere between short term liabilities and the total liabilities. In fact, the
'default point' in the KMV methodology is defined as the short term debt plus half of the long term debt. The difference between expected value of the assets in one year and this 'default point', when expressed in terms of standard deviation of the asset values, is called the 'distance-to-default'.
Therefore Choice 'd' is the correct answer. The other choices are incorrect.

 

NEW QUESTION 57
The minimum 'multiplication factor' to be applied to VaR calculations for calculating the capital requirements for the trading book per Basel II is equal to:

• A. 0
• B. 1
• C. 2
• D. 3

Answer: C

Explanation:
Explanation
The minimum multiplication factor specified under Basel II is 3. Therefore the correct answer is Choice 'a'.
The exact requirements are laid down below.
Each bank must meet, on a daily basis, a capital requirement expressed as the higher of (i) its previous day's value-at-risk number measured according to the parameters specified in this section and (ii) an average of the daily value-at-risk measures on each of the preceding sixty business days, multiplied by a multiplication factor.
The multiplication factor will be set by individual supervisory authorities on the basis of their assessment of the quality of the bank's risk management system, subject to an absolute minimum of 3. Banks will be required to add to this factor a "plus" directly related to the ex-post performance of the model, thereby introducing a built in positive incentive to maintain the predictive quality of the model. The plus will range from 0 to 1 based on the outcome of so-called "backtesting."

 

NEW QUESTION 58
For a given notional amount, which of the following carries the greatest counterparty exposure (assuming the same counterparty credit rating for each):

• A. A one year forward foreign exchange contract
• B. A one year interest rate swap
• C. A futures contract on an equity index
• D. A one year certificate of deposit

Answer: D

Explanation:
Explanation
The exposure at default is the greatest for the certificate of deposit as the entire notional amount is exposed to the risk of default. The other choices represent derivatives for which the current replacement value, which would be far less than notional, would be the credit exposure.
Said another way - if the counterparty were to default, the entire money in the CD would be at risk, whereas for the derivative contracts it would only be the replacement value that would be at risk.

 

NEW QUESTION 59
If the 99% VaR of a portfolio is $82,000, what is the value of a single standard deviation move in the portfolio?

• A. 0
• B. 1
• C. 2
• D. 3

Answer: B

Explanation:
Explanation
Remember that VaR is merely a multiple of the portfolio's standard deviation. The multiple is determined by the confidence level, and for a 99% confidence level this multiple is 2.3264 (=-NORMSINV(1%) in Excel).
Therefore one standard deviation at this level of confidence would be equal to VaR/2.3264.
In addition to the Z-value at 99% confidence, you should also remember what the Z value is for a 95% level of confidence, as PRM questions may expect you to know these. The standard Windows calculator allowed in the exam does not allow you to calculate these, so it is safer to just remember these values.

 

NEW QUESTION 60
Who has the ultimate responsibility for the overall stress testing programme of an institution?

• A. The Board
• B. Business Unit leaders
• C. The Risk Committee
• D. Senior Management

Answer: A

Explanation:
Explanation
According to the first principle set out by the BCBS paper on stress testing, the Board has ultimate responsibility for the overall stress testing programme. Senior management is accountable for the implementation, management and oversight of the programme, but the overall responsibility stays with the Board of Directors of the institution. Therefore Choice 'c' is the correct answer.
Additionally, this principle lays down that stress testing should be a part of the overall governance, ie support the strategic choices made as part of business planning; and be integrated with the risk management culture of the bank, ie stress tests should be used as an input for setting the risk appetite, exposure limits, and the capital and liquidity planning processes of the bank.

 

NEW QUESTION 61
Which of the following statements is the most appropriate description of feedback effects:

• A. The revision of stress testing scenarios based upon management, business unit and regulatory feedback on the plausibility or otherwise of stress scenarios.
• B. The amplification of smaller initial shocks to one risk factor creating larger subsequent shocks through system-wide interactions between other risks, creating self-perpetuating downward stresses in the markets
• C. The spread of contagion from the bankruptcy of one participant leading to a similar outcome for other market participants
• D. The lack of a comprehensive view of risk across credit, market and liquidity risks leading to an underestimation of correlations that tend to spike up in the event of a crisis

Answer: B

Explanation:
Explanation
Choice 'a' (The amplification of smaller initial shocks to one risk factor creating larger subsequent shocks through system-wide interactions between other risks, creating self-perpetuating downward stresses in the markets) is the most comprehensive description of 'feedback effects', as described in the BCBS document on stress testing. Choice 'c' is one manifestation of feedback effects, but does not describe the entire effect.
Choice 'b' is not a description of 'feedback effects', but one of the various weaknesses in stress testing that was seen during the crisis. Choice 'd' is plain nonsensical.
The BCBS paper provides a good and succinct description of feedback effect: how mortgage default shocks led to a deterioration of market prices of CDOs, followed by a drying up of the liquidity in these markets. This led to banks having to hold on to assets they intended to securitize (securitization and warehousing risk), and given the absence of transparency on who was exposed to what, banks refusing to lend to each other and a drying up of the wholesale funding market as well. All of this was additionally accompanied by a general flight to quality, households withdrawing money from money market funds creating a crisis in that market as well. At each stage, the initial shock was amplified and fed back into the system through interactions that had not been imagined by any market participant or regulator, leave alone risk managers.

 

NEW QUESTION 62
If the annual variance for a portfolio is 0.0256, what is the daily volatility assuming there are 250 days in a year.

• A. 0.0101
• B. 0.4048
• C. 0.0006
• D. 0.0016

Answer: A

Explanation:
Explanation
If annual variance is 0.0256, then annual volatility (ie standard deviation) is 0.0256. Therefore the daily volatility will be 0.0256/250 = 1.01%. The other choices are not correct.

 

NEW QUESTION 63
For a FX forward contract, what would be the worst time for a counterparty to default (in terms of the maximum likely credit exposure)

• A. Right after inception
• B. Indeterminate from the given information
• C. At maturity
• D. Roughly three-quarters of the way towards maturity

Answer: C

Explanation:
Explanation
With the passage of time, the range of possible values the FX contract can take increases. Therefore the maximum value of the contract, which is when the credit risk would be maximum, would be at maturity. (Note that this is different than an interest rate swap whose value at maturity approaches zero.) Therefore Choice 'a' is the correct answer and the others are incorrect.

 

NEW QUESTION 64
A bank holds a portfolio of corporate bonds. Corporate bond spreads widen, resulting in a loss of value for the portfolio. This loss arises due to:

• A. Liquidity risk
• B. Credit risk
• C. Market risk
• D. Counterparty risk

Answer: C

Explanation:
Explanation
The difference between the yields on corporate bonds and the risk free rate is called the corporate bond spread.
Widening of the spread means that corporate bonds yield more, and their yield curve shifts upwards, driving down bond prices. The increase in the spread is a consequence of the market risk from holding these interest rate instruments, which is a part of market risk. If the reduction in the value of the portfolio were to be caused by a change in the credit rating of the bonds held, it would have been a loss arising due to credit risk.
Counterparty risk and liquidity risk are not relevant for this question. Therefore Choice 'c' is the correct answer.

 

NEW QUESTION 65
Which of the following represent the parameters that define a VaR estimate?

• A. confidence level and the holding period
• B. trading position and distribution assumption
• C. confidence level and the underlying stochastic process
• D. confidence level, the holding period and expected volatility

Answer: A

Explanation:
Explanation
VaR is specified by just two parameters - the holding period, and the confidence level. We speak of, for example, a 10-day VaR at the 95% confidence level. No other parameters are required. Therefore Choice 'd' is the correct answer and the others are incorrect.

 

NEW QUESTION 66
Which of the following is not an event of default covered in the ISDA Master Agreement?
I. failure to pay or deliver
II. credit support default
III. merger without assumption
IV. Bankruptcy

• A. IV
• B. I
• C. All are considered events of default
• D. II and III

Answer: B

Explanation:
Explanation
Note that events of default under the ISDA MA are caused by one of the parties that is considered 'at fault'. In contrast, "termination events" are events for which no one is at fault, for example changes in legislation, illegality etc that still justify termination of the transactions under the contract.
The ISDA MA describes the following 8 types of events of default:
1. failure of pay or deliver
2. breach of agreement
credit support default
4. misrepresentation
5. default under specified transaction
6. cross default
7. bankruptcy
8. merger without assumption
All of the options presented in the question are events of default.

 

NEW QUESTION 67
As part of designing a reverse stress test, at what point should a bank's business plan be considered unviable (ie the point where it can be considered to have failed)?

• A. When the regulatory capital of the bank has been exhausted
• B. Where EBITDA for the year is forecast to be negative
• C. When the realization of risks leads market participants to lose confidence in the bank as a counterparty or a business worthy of funding
• D. Where large known losses have been incurred on the bank's positions

Answer: C

Explanation:
Explanation
As part of a reverse stress test, a firm has to identify and assess the scenarios most likely to cause it to fail, or in other words using the language used by the FSA in the UK, for its current business plan to become unviable. A firm's business plan should be considered to become unviable at the point that crystallizing risks cause the market to lose confidence it it, with the consequence that counterparties and other stakeholders are unwilling to transact with it or provide capital to the firm and, where releant, that existing counterparties may seek to terminate their contracts. Recent experience suggests that this point is reached well before a firm's regulatory capital is exhausted.
Large known losses, or negative EBITDA (earnings before interest , tax, depreciation and amortization) may be indicators or contribute to the loss of confidence, but do not of themselves make the current business plan unviable. Therefore Choice 'd' is the correct answer.

 

NEW QUESTION 68
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