FOOD PREPARATION TIPS AND USEFUL INFORMATION: FRM Practice Exam

1. Asset Liquidity risk can be minimized by taking the following action A. Limit the trading on an asset B. Use right modeling techniques to manage risk C. Require collateral requirement of counterparties D. All of the above Answer: A 2. Greece is about to default because of failing to meet its debt obligation. This is an example of A. Settlement Risk B. Credit Risk C. Market Risk D. Sovereign Risk Answer: D 3. Result of the portfolio theory of Harry Markowitz is: A. Variance of return of portfolio < Weighed average of individual variances of portfolio securities, correlation between returns of 2 securities is greater than 1 B. Variance of return of portfolio > Weighed average of individual variances of portfolio securities, correlation between returns of 2 securities is greater than 1 C. Variance of return of portfolio < Weighed average of individual variances of portfolio securities, correlation between returns of 2 securities is less than 1 D. Variance of return of portfolio > Weighed average of individual variances of portfolio securities, correlation between returns of 2 securities is less than 1 Answer: C 4. Which of the following strategy a hedger uses to reduce a short exposure to an asset A. Buy Short Futures contract or put option B. Buy Long Futures contract or call option C. Sell Short Futures contract or call option D. Sell Long Futures contract or put option Answer: B 5. Compute the variation margin amount for long position required at the end of second day with the following information; Current price of contract =$985 (per 1 bar of gold) Total purchase = 100 bars of gold Initial margin deposited with the clearinghouse = $2000 Maintenance margin required = $1500 In first day of trading 1 bar of gold drops value from 985 to 980 In second day of trading gold drops value from 980 to 979. A. $100 B. $0 C. $600 D. -$600 Answer: A Explanation: At end of first day buyers(long) margin account balance = (980-985)*100 = -500 Margin at end of first day =2000 -500 = 1500 At end of second day buyers(long) margin account balance = (979-980)*100 = -100 Margin balance at end of second day = 1500 – 100 = 1400 At this time the trader will get a margin call. Variation margin = Maintenance Margin – Margin Balance = 1500 – 1400 = 100 6.Company A defaults its payment obligation to Company B is an example of what risk? A. Market Risk B. Credit Risk C. Operational Risk D. Liquidity Risk Answer: B 7. The risk that arises because of mismatch in the price of the hedging instrument and assent being hedged is: A. Volatility Risk B. Absolute Risk C. Directional Risk D. Basis Risk Answer: D 8. Calculate the payoff for a short position in a forward contract given the delivery price is $30 and the spot price at the end of the contract is $45. A. $15 B. -$15 C. $75 D. -$75 Answer: B Explanation: Payoff to short position = Delivery Price - Spot price = 30 – 45 = -15 9. Compute the variation margin amount for long position required at the end of second day with the following information; Current price of contract =$985 (per 1 bar of gold) Total purchase = 100 bars of gold Initial margin deposited with the clearinghouse = $2000 Maintenance margin required = $1500 In first day of trading 1 bar of gold drops value from 985 to 980 In second day of trading gold drops value from 980 to 979. A. $100 B. $0 C. $600 D. -$600 Answer: A Explanation: At end of first day buyers(long) margin account balance = (980-985)*100 = -500 Margin at end of first day =2000 -500 = 1500 At end of second day buyers(long) margin account balance = (979-980)*100 = -100 Margin balance at end of second day = 1500 – 100 = 1400 At this time the trader will get a margin call. Variation margin = Maintenance Margin – Margin Balance = 1500 – 1400 = 100 10.Company A defaults its payment obligation to Company B is an example of what risk? A. Market Risk B. Credit Risk C. Operational Risk D. Liquidity Risk Answer: B 11. The risk that arises because of mismatch in the price of the hedging instrument and assent being hedged is: A. Volatility Risk B. Absolute Risk C. Directional Risk D. Basis Risk Answer: D 1. A good risk reduction strategy to reduce Diversifiable Risk is to A. Reduce Systematic risk of portfolio of securities B. Increase positive covariance of single security in portfolio with the market return of portfolio C. Decrease positive covariance of single security in portfolio with the market return of portfolio D. Diversification of portfolios E. None of the above Answer: D 2. What is the shape of price/yield of a bond contract A. concave B. Convex C. Linear D. None of Above Answer : B Explanation : Bond yield has a non-linear This is the basic concept of Financial Risk Manager. FRM teaches the nitty gritty details of hedging, the need for it and how to use hedging to offset basis risk. First of all what is Basis Risk? Let us see a simple explanation of this risk 1) We own a pieceof gold 2) After one year price of gold could rise or decrease This change in value of asset over a fixed duration and the risk associated with this price rise is the Basis Risk. So, how does hedging help with Basis Risk? To put it simple hedging could help us offset basis risk. Note that it is not always, but possibly could offset. What financial instrument is used for hedging strategy? A simple instrument is the Futures Contract How do I hedge using futures contract? Contract is an agreement between two parties on the purchase of an asset (say metals like gold, silver, platinum, palladium, copper, zinc, aluminium, steel,iron, commodities like corn, rice, oil, wheat etc) at a future date A person who is selling holds a long position and is said to short hedge A person who buys is holds a short position and is said to long hedge As a financial risk manager it becomes mandatory to have good knowledge of extreme events. So, what is an extreme event? An extreme event is one that happens less frequently but has high severity Why is that it is difficult to predict extreme events? As the frequency of occurence is less it is more subjective and there may not have sufficient proof to prove this subjectivity In general such events involve analysing and locating risks in various aspects of business. As it is more subjective it may not be possible to make people accept that this event is likely to occur 1. Calculate the spot price given the payoff to a short position is $50 and the delivery price is $25 A. $25 B. -$25 C. -$75 D. $75 Answer: B Explanation: Payoff to short position = Delivery Price - Spot price i.e., Spot Price = 25 - 50 = -25 2. Traders that use forward contracts and options to reduce or eliminate financial exposure of the underlying security are called; A. Speculators B. Arbitrageurs C. Hedgers D. All of the above Answer: C 3. Traders that use forward contracts and options to make bets on markets to make big gains are called; A. Speculators B. Arbitrageurs C. Hedgers D. All of the above Answer: A 3. The difference between American and European styled option is: A. European option can be exercised anytime between issue date and maturity whereas American styled option can be exercised only at maturity B. American option can be exercised anytime between issue date and maturity whereas European styled option can be exercised only at maturity C. American and European option can be exercised only at maturity D. American and European option can be exercised anytime between issue date and maturity Answer: B 4. Compute the variation margin amount for short position required at the end of second day with the following information; Current price of contract =$985 (per 1 bar of gold) Total purchase = 100 bars of gold Initial margin deposited with the clearinghouse = $2000 Maintenance margin required = $1500 In first day of trading 1 bar of gold drops value from 985 to 980 In second day of trading gold drops value from 980 to 979. A. $100 B. $0 C. $600 D. -$600 Answer: B Explanation: At end of first day sellers(short) margin account balance = (985-980)*100 = 500 Margin at end of first day =2000 + 500 = 2500 At end of second day sellers(short) margin account balance = (980-979)*100 = 100 Margin balance at end of second day = 2500 + 100 = 2600 Since Variation margin = Maintenance Margin – Margin Balance And margin balance is well over maintenance margin there is no need for margin call and hence variation margin = 0 1. Calculate the delivery price given the payoff to a long position is $50 and the spot price at maturity is $25 A. -$25 B. $25 C. -$75 D. $75 Answer: A Explanation: Payoff to long position = Spot price – Delivery Price i.e., 50 = 25 – Delivery price Delivery Price = -25 2. Calculate the delivery price given the payoff to a short position is $50 and the spot price at maturity is $25 A. -$25 B. $25 C. -$75 D. $75 Answer: D Explanation: Payoff to short position = Delivery Price - Spot price i.e., Delivery Price = 50 + 25 = 75 3. Which of the following is appropriate to derivative contract? A. Derives value from underlying security B. Have predefined, reference rate, predefined life, predefined notional amount C. In Derivative contract losses from one side of transaction will equal other side Gain D. All of the above Answer: D 4. Calculate the expected portfolio return of securities with the following information: Return of Portfolio A = 20% Return of Portfolio B = 50% Weighed Average return of portfolio A = 0.4 A. 32% B. 38% C. 62% D. Cannot be calculated with the information provided Answer: B Explanation: Expected portfolio return of securities = Combined weighed return of portfolio of securities = (20%*0.4) + ((1-0.4)*50%) =0.08+0.3 = 0.38 = 38%","FRM Practice Exam Questions 4",,"publish","open","open",,"frm-practice-exam-questions-4",,,"2012-10-21 04:41:05","2012-10-21 04:41:05",,"0","http://learnersreference.com/?p=190","0","post",,"0" "192","1","2012-10-21 04:41:01","2012-10-21 04:41:01","1. Calculate the delivery price given the payoff to a long position is $50 and the spot price at maturity is $25 A. -$25 B. $25 C. -$75 D. $75 Answer: A Explanation: Payoff to long position = Spot price – Delivery Price i.e., 50 = 25 – Delivery price Delivery Price = -25 5. Calculate the delivery price given the payoff to a short position is $50 and the spot price at maturity is $25 A. -$25 B. $25 C. -$75 D. $75 Answer: D Explanation: Payoff to short position = Delivery Price - Spot price i.e., Delivery Price = 50 + 25 = 75 6. Which of the following is appropriate to derivative contract? A. Derives value from underlying security B. Have predefined, reference rate, predefined life, predefined notional amount C. In Derivative contract losses from one side of transaction will equal other side Gain D. All of the above Answer: D 7. Calculate the expected portfolio return of securities with the following information: Return of Portfolio A = 20% Return of Portfolio B = 50% Weighed Average return of portfolio A = 0.4 A. 32% B. 38% C. 62% D. Cannot be calculated with the information provided Answer: B Explanation: Expected portfolio return of securities = Combined weighed return of portfolio of securities = (20%*0.4) + ((1-0.4)*50%) =0.08+0.3 = 0.38 = 38%","FRM Practice Exam Questions 4",,"inherit","open","open",,"190-revision",,,"2012-10-21 04:41:01","2012-10-21 04:41:01",,"190","http://learnersreference.com/190-revision/","0","revision",,"0" "193","1","2012-10-21 04:42:35","2012-10-21 04:42:35","1. Risk that arises because of positive covariance of security’s returns with market returns is: A. Credit Risk B. Diversifiable Risk C. Model Risk D. Systematic Risk Answer: D 8. Standardized measure of Systematic Risk is: A. Beta B. Gamma C. Theta D. No measurable units Answer: A 9. George working for a leading Financial Institution has manipulated the derivatives and has not disclosed the full information to the customers leading to huge losses for the customers and the financial institutions. This is an example of: A. Model Risk B. People Risk C. Market Risk D. Legal Risk Answer: B 10. Which of the following strategy a hedger uses to reduce a long exposure to an asset A. Buy Short Futures contract or put option B. Buy Long Futures contract or put option C. Sell Short Futures contract or call option D. Sell Long Futures contract or call option Answer: A","FRM Practice Exam Questions 5",,"publish","open","open",,"frm-practice-exam-questions-5",,,"2012-10-21 04:42:35","2012-10-21 04:42:35",,"0","http://learnersreference.com/?p=193","0","post",,"0" "194","1","2012-10-21 04:42:24","2012-10-21 04:42:24","1. Risk that arises because of positive covariance of security’s returns with market returns is: A. Credit Risk B. Diversifiable Risk C. Model Risk D. Systematic Risk Answer: D 11. Standardized measure of Systematic Risk is: A. Beta B. Gamma C. Theta D. No measurable units Answer: A 12. George working for a leading Financial Institution has manipulated the derivatives and has not disclosed the full information to the customers leading to huge losses for the customers and the financial institutions. This is an example of: A. Model Risk B. People Risk C. Market Risk D. Legal Risk Answer: B 13. Which of the following strategy a hedger uses to reduce a long exposure to an asset A. Buy Short Futures contract or put option B. Buy Long Futures contract or put option C. Sell Short Futures contract or call option D. Sell Long Futures contract or call option Answer: A","FRM Practice Exam Questions 5",,"inherit","open","open",,"193-revision",,,"2012-10-21 04:42:24","2012-10-21 04:42:24",,"193","http://learnersreference.com/193-revision/","0","revision",,"0" "195","1","2012-10-21 04:44:13","2012-10-21 04:44:13","1. The contract that come as a insurance policy for hedgers that protects for the downside movement of underlying security whereas at the same time allows hedger to take advantage for positive price fluctuations is: A. Futures Contract B. Forward Contract C. Option Contract D. All of the above Answer: C 14. The difference between option and futures contract is: A. Options have asymmetrical payoffs than futures B. Options have symmetrical payoffs than futures C. There are no gains in option contract than in futures D. There are no losses in option contract than in futures Answer: A 15. Sam leverages derivatives as hedging instrument. He can expect the following if he increases the leverage in these derivatives A. His variability of return will increase B. His variability of return will decrease C. His variability of return will remain constant D. Leveraging is not concerned with variability of return Answer: A 16. Value at Risk (VAR) corresponds to A. Loss in the center of the return distribution B. Loss in the left of the return distribution C. Loss in the right of the return distribution D. Maximum profit that can be achieved over a defined period at stated level of Confidence Answer: B","FRM Practice Exam Questions 6",,"publish","open","open",,"frm-practice-exam-questions-6",,,"2012-10-21 04:44:13","2012-10-21 04:44:13",,"0","http://learnersreference.com/?p=195","0","post",,"0" "196","1","2012-10-21 04:44:11","2012-10-21 04:44:11","1. The contract that come as a insurance policy for hedgers that protects for the downside movement of underlying security whereas at the same time allows hedger to take advantage for positive price fluctuations is: A. Futures Contract B. Forward Contract C. Option Contract D. All of the above Answer: C 17. The difference between option and futures contract is: A. Options have asymmetrical payoffs than futures B. Options have symmetrical payoffs than futures C. There are no gains in option contract than in futures D. There are no losses in option contract than in futures Answer: A 18. Sam leverages derivatives as hedging instrument. He can expect the following if he increases the leverage in these derivatives A. His variability of return will increase B. His variability of return will decrease C. His variability of return will remain constant D. Leveraging is not concerned with variability of return Answer: A 19. Value at Risk (VAR) corresponds to A. Loss in the center of the return distribution B. Loss in the left of the return distribution C. Loss in the right of the return distribution D. Maximum profit that can be achieved over a defined period at stated level of Confidence Answer: B","FRM Practice Exam Questions 6",,"inherit","open","open",,"195-revision",,,"2012-10-21 04:44:11","2012-10-21 04:44:11",,"195","http://learnersreference.com/195-revision/","0","revision",,"0" "197","1","2012-10-21 04:46:01","2012-10-21 04:46:01","1. Which of the following are characteristics of perfect markets A. Trading of securities doesn’t have effect on market price of securities B. No restriction on trading of securities and no taxes are levied C. All investors have the same information D. All of the above Answer: D 20. What is the probability that return will be less than 0% given the mean return of a portfolio of security is 10% and standard deviation of 15% and returns are normally distributed A. 25.46% B. 74.54% C. -74.54% D. -25.46% Answer: 25.46% Explanation: Standardized return = (Mean return – Target Return)/Standard deviation of return = 10-0/15= 0.6667 The value from cumulative probability distribution is 0.7454. Since the value represents the area to the left of 0.6667. Hence the value to the left of 0.6667 = 1 –P(left of 0.6667) = (1-0.7454) * 100 = 254.46% 21. Reducing debt overhang can increase firms value if: A. Hedging costs are greater than increase in value of firm achieved through reducing the probability of debt overhang B. Hedging costs are less than increase in value of firm achieved through reducing the probability of debt overhang C. Hedging costs are greater than increase in value of firm achieved through increase in the probability of debt overhang D. Hedging costs are less than decrease in value of firm achieved through reducing the probability of debt overhang Answer: B 22. The difference between valuation and value at risk(VAR) is: A. Valuation calculates the current price of the asset whereas VAR calculates the future distribution of asset B. Valuation calculates the future distribution of asset whereas VAR calculates the current price of the asset C. Valuation calculates the current and future price of the asset whereas VAR calculates the future distribution of asset D. There is no difference between Valuation and VAR Answer: A 1. Which of the following are characteristics of perfect markets A. Trading of securities doesn’t have effect on market price of securities B. No restriction on trading of securities and no taxes are levied C. All investors have the same information D. All of the above Answer: D 23. What is the probability that return will be less than 0% given the mean return of a portfolio of security is 10% and standard deviation of 15% and returns are normally distributed A. 25.46% B. 74.54% C. -74.54% D. -25.46% Answer: 25.46% Explanation: Standardized return = (Mean return – Target Return)/Standard deviation of return = 10-0/15= 0.6667 The value from cumulative probability distribution is 0.7454. Since the value represents the area to the left of 0.6667. Hence the value to the left of 0.6667 = 1 –P(left of 0.6667) = (1-0.7454) * 100 = 254.46% 24. Reducing debt overhang can increase firms value if: A. Hedging costs are greater than increase in value of firm achieved through reducing the probability of debt overhang B. Hedging costs are less than increase in value of firm achieved through reducing the probability of debt overhang C. Hedging costs are greater than increase in value of firm achieved through increase in the probability of debt overhang D. Hedging costs are less than decrease in value of firm achieved through reducing the probability of debt overhang Answer: B 1. Sam wants to minimize risk in his portfolio of securities. Which of following he needs to do to achieve it? A. Decrease the correlation of returns between securities B. Increase the correlation of returns between securities C. Increase the weighed average return of securities D. Decrease the weighed average return of securities Answer: A 26. The type of risk that arises because of volatility of single security’s return that is uncorrelated with the volatility of market portfolio is: A. Systematic risk B. Market Risk C. Diversifiable Risk D. Credit Risk Answer: C 27. Traders that use forward contracts and options to make bets on markets to make big gains are called A. Speculators B. Arbitrageurs C. Hedgers D. All of the above Answer: A 28. Traders that use forward contracts and options to earn riskless profits are called; A. Speculators B. Arbitrageurs C. Hedgers D. All of the above Answer: B following he needs to do to achieve it? A. Decrease the correlation of returns between securities B. Increase the correlation of returns between securities C. Increase the weighed average return of securities D. Decrease the weighed average return of securities Answer: A 29. The type of risk that arises because of volatility of single security’s return that is uncorrelated with the volatility of market portfolio is: A. Systematic risk B. Market Risk C. Diversifiable Risk D. Credit Risk Answer: C 30. Traders that use forward contracts and options to make bets on markets to make big gains are called A. Speculators B. Arbitrageurs C. Hedgers D. All of the above Answer: A 31. Traders that use forward contracts and options to earn riskless profits are called; A. Speculators B. Arbitrageurs C. Hedgers D. All of the above Answer: B 1. Sam wants to minimize risk in his portfolio of securities. Which of following he needs to do to achieve it? A. Decrease the correlation of returns between securities B. Increase the correlation of returns between securities C. Increase the weighed average return of securities D. Decrease the weighed average return of securities Answer: A 32. The type of risk that arises because of volatility of single security’s return that is uncorrelated with the volatility of market portfolio is: A. Systematic risk B. Market Risk C. Diversifiable Risk D. Credit Risk Answer: C 33. Traders that use forward contracts and options to make bets on markets to make big gains are called A. Speculators B. Arbitrageurs C. Hedgers D. All of the above Answer: A 34. Traders that use forward contracts and options to earn riskless profits are called; A. Speculators B. Arbitrageurs C. Hedgers D. All of the above Answer: B 1. Derivative trading is used by which of the following traders A. Speculators B. Arbitrageurs C. Hedgers D. All of the above Answer: D 35. What are the functions of Financial Institutions related to risk management? A. Create markets and instruments to hedge risks B. Provides risk advisory services C. Acts as counterparty by assuming risk D. All of the above Answer: D 40. Which of the following effects occurred because of globalization? A. Decrease in risk because of less exposure to currency changes B. Decrease in risk because of more exposure to currency changes C. Increase in risk because of more exposure to currency changes D. There is no risk because of globalization Answer: C 41. Compute the payoff and profit to a put option seller if the strike price of option is $50, Stock price at maturity is $60 and put premium is $4.25 A. $10, $5.75 B. -$10, -$14.25 C. $0, -$4.25 D. $0, $4.25 Answer: D Explanation: Payoff of put option seller = -max(0, (Strike Price - Stock price at maturity)) = -max(0, (50 - 60)) = 0 Profit for put option seller = Put premium - Payoff of put seller = 4.25 - 0 = 4.25 1. Derivative trading is used by which of the following traders A. Speculators B. Arbitrageurs C. Hedgers D. All of the above Answer: D 42. What are the functions of Financial Institutions related to risk management? A. Create markets and instruments to hedge risks B. Provides risk advisory services C. Acts as counterparty by assuming risk D. All of the above Answer: D 43. Which of the following effects occurred because of globalization? A. Decrease in risk because of less exposure to currency changes B. Decrease in risk because of more exposure to currency changes C. Increase in risk because of more exposure to currency changes D. There is no risk because of globalization Answer: C 44. Compute the payoff and profit to a put option seller if the strike price of option is $50, Stock price at maturity is $60 and put premium is $4.25 A. $10, $5.75 B. -$10, -$14.25 C. $0, -$4.25 D. $0, $4.25 Answer: D Explanation: Payoff of put option seller = -max(0, (Strike Price - Stock price at maturity)) = -max(0, (50 - 60)) = 0 Profit for put option seller = Put premium - Payoff of put seller = 4.25 - 0 = 4.25 1. Calculate the spot price given the payoff to a long position is $50 and the delivery price is $25 A. -$25 B. $25 C. $75 D. -$75 Answer: C Explanation: Payoff to long position = Spot price – Delivery Price i.e., 50 = Spot Price – 25 Spot Price = 75 45. Clearinghouse A. Acts as a counterparty to every trade B. Is liquid at all times and honors transactions C. Allows traders to reverse the position easily D. All of the above Answer: D 46. Sam is afraid that there may be a dip in value of his stock from $40 and want to limits the loss of his stock if it goes below $35. What type of order that Sam must execute: A. Market Orders B. Good till cancelled orders C. Stop Loss orders D. Limit orders Answer: C 47. Major drawback in using Value at Risk (VAR) risk management tool is: A. Cannot be aggregated across assets B. Does not calculate the exposure to risk factors C. Does not calculate the variance and covariance of risk factor exposures D. VAR requires accurate inputs otherwise the calculation may be flawed Answer: D 1. Calculate the spot price given the payoff to a long position is $50 and the delivery price is $25 A. -$25 B. $25 C. $75 D. -$75 Answer: C Explanation: Payoff to long position = Spot price – Delivery Price i.e., 50 = Spot Price – 25 Spot Price = 75 48. Clearinghouse A. Acts as a counterparty to every trade B. Is liquid at all times and honors transactions C. Allows traders to reverse the position easily D. All of the above Answer: D 49. Sam is afraid that there may be a dip in value of his stock from $40 and want to limits the loss of his stock if it goes below $35. What type of order that Sam must execute: A. Market Orders B. Good till cancelled orders C. Stop Loss orders D. Limit orders Answer: C 50. Major drawback in using Value at Risk (VAR) risk management tool is: A. Cannot be aggregated across assets B. Does not calculate the exposure to risk factors C. Does not calculate the variance and covariance of risk factor exposures D. VAR requires accurate inputs otherwise the calculation may be flawed Answer: D 1. Calculate the payoff for a long position in a forward contract given the delivery price is $30 and the spot price at the end of the contract is $45. A. $15 B. -$15 C. $75 D. -$75 Answer: A Explanation: Payoff to long position = Spot price – Delivery Price = 45 – 30 = 15 51. Which of the following are the properties of futures contract: A. Quality of the underlying asset B. Contract Size, Delivery Location and Delivery Size C. Position Limits D. All of the above Answer: D 1. The primary disadvantage of over the counter market vs traditional exchange is that it is prone to; A. Market Risk B. Operational Risk C. Basis Risk D. Credit Risk Answer: D 2. Choose the following that apply to over the counter Market A. Calls are recorded during transactions B. Possibility of negotiations between counterparties C. There is no terms set by the exchange D. All of the above Answer: D Compute the payoff and profit to a call option seller if the strike price of option is $50, Stock price at maturity is $60 and call premium is $4.25 A. $10, $5.75 B. -$10, -$5.75 C. $0, -$4.25 D. $0, $4.25 Answer: B Explanation: Payoff of call option seller = -max(0, (Stock price at maturity – Strike Price)) = -max(0, (60 – 50)) = -$10 Profit for call option seller = Call premium - Payoff of call buyer = 4.25 – 10 =-5.75 3. Compute the payoff and profit to a put option buyer if the strike price of option is $50, Stock price at maturity is $60 and put premium is $4.25 A. $10, $5.75 B. -$10, -$5.75 C. $0, -$4.25 D. $0, $4.25 Answer: C Explanation: Payoff of put option buyer = max(0, (Strike Price - Stock price at maturity)) = -max(0, (50 - 60)) = 0 Profit for put option buyer = Payoff of put buyer – Put Premium = 0 – 4.25 = -4.25 4. The best risk management tool that can be used to aggregate loss across assets, capture risk factors exposures and calculates the variance and covariance in risk factors is: A. Stop loss Limit B. Exposure Limits C. Value at Risk D. Exposure Limits Answer: C 6. A contract that is a binding agreement to transact a commodity in a pre specified month in the future at agreed upon price is a: A. Option Contract B. Forward Contract C. Futures Contract D. All of the above Answer: C 7. Compute the payoff and profit to a call option buyer if the strike price of option is $50, Stock price at maturity is $60 and call premium is $4.25 A. $10, $5.75 B. -$10, -$14.25 C. $0, -$4.25 D. $0, $4.25 Answer: A Explanation: Payoff of call option buyer = max(0, (Stock price at maturity – Strike Price)) = max(0, (60 – 50)) = $10 Profit for call option buyer = Payoff of call buyer – Call premium = 10 – 4.25 =$5.75 GARP the global association of risk professionals has opened its window for registering for 2013 May FRM, ERP exams in its website. GARP had been pioneer in financial risk management and offers financial risk manager exam in two levels L1 and L2. ERP is teh energy risk professional examination offered by GARP.The next series of FRM exam is to be conducted on May 18 2013 and you can register via GARP site today and start preparing for FRM. Use our website as free preparatory tool to pass FRM exam Vist GARP website regstration page to proceed further. For FRM Exam, https://www.garp.org/frm/register/register.aspx For ERP Exam, https://www.garp.org/erp/register/register.aspx On November 6th,2012 night Mr.Barack Obama has been declared re-elected president of USA. So, has this triggered market risk? Let us look at the sequence of events that have taken place prior to election, on day of election and post-election USA is in $16 trillion debt whose default will shutdown the global economy. Adding to it pressures were uncertain election times. As a cumulative effect stock market hasn't done good over past few months On November 6th, 2012 wall street had partial hopes of Romney getting re-elected and wall street had not been in favour of Obama as always. This hhas lead to mixed reaction and DOW went green On November 7th,2012 once obama has been confirmed next president of USA stocks took a dive and DOW sank nearly 2% losing 300+points. This is a result of multiple factors including markets losing hope in his presidency. Note that stocks that were -30% during 2008 grew as big as +60% in 2009. This is a result of positive outlook as a result of ""Change Promised by Obama"". As things didn't roll out at expected pace during past 4 years and hence this has definitely triggered market risk. Even stable stocks are at 1.0+ beta level. 1) Obama faces debt crisis and this challenge needs to be addressed within next 48 days. This will add pressure in market and stocks are expected to be in red zone 2) By year end/beginning of january markets are expected to start becoming green 3) For next 1.5 years obama is expected to fix fundamental pillars of economy. Obama care has been given importance and this is expected to trigger pharma , health insurance, medical it , healthcare it related stocks 4) Communication is an interesting sector that is in obamas radar and expect good broad band projects to be announced middle of next year As a conclusion by June 2013-2014 expect decent returns. Israel-Iran war is expected to add pressure in coming days and needs to be counted in. As a whole markets will be stable over next 2.5 years and can grow good starting 2015 1. Calculate the risk premium of an asset with the following information: Quantity of Risk = 20 Market Risk Premium = 20% A. 4 B. 0.01 C. 100 D. Cannot be determined with the information given Answer: A Explanation: Risk premium of an asset = Market Risk Premium * Quantity of Risk = 20% * 20 = 4 2. Calculate the market premium of an asset with the following information: Quantity of Risk = 20 Risk Premium = 20% A. 100% B. 1% C. 40% D. Cannot be determined with the information given Answer: B Explanation: Risk premium of an asset = Market Risk Premium * Quantity of Risk Market Risk Premium = 20%/20 = 1% 3. Capital asset pricing model assumes markets are: A. Semistrong efficient B. Strong Efficient C. Weak Efficient D. None of the above Answer: B 4. Which of the following is used for comparing well diversified portfolios A. Sharpe Measure B. Jensen’s Alpha C. Sortino Ratio D. Treynor Measure Answer: D 1. Sam wanted a measure that considers the total risk across the portfolio. Which of the following he needs to get the correct information? A. Sharpe Measure B. Jensen’s Alpha C. Sortino Ratio D. Treynor Measure Answer: A 2. Calculate Sharpe Measure with the following information; Expected return of portfolio of stocks = 14% Risk Free rate = 1.2% Standard deviation of portfolio = 20% A.6.4 B.0.64 C. -0.64 D. Cannot be determined with the given information Answer: B Explanation: Sharpe Measure of a portfolio = (Expected Return of Portfolio – Risk Free rate)/S.D of Portfolio = (14%-1.2%)/20% = 0.64 3. Which of the statistical models is used to describe the Arbitrage Pricing Theory A. Principal Component Analysis B. Maximum Likelihood Factor Analysis C. Asymptotic Principal Component D. All of the above Answer: D 4. The difference between structural and statistical models in describing arbitrage pricing theory is: A. Structural models assume underlying relationship between factor and stock returns whereas statistical models do not rely on those underlying relationship B. Statistical models assume underlying relationship between factor and stock returns whereas structural models do not rely on those underlying relationship C. Statistical models relate to economic returns whereas structural models relate to the standard deviation D. There is no difference between the two models in assuming the underlying economic relationships Answer: A 1. Sam wanted to compare the quantity of risk between two portfolios. Which of the following he needs to get the correct information? A. Sharpe Measure B. Jensen’s Alpha C. Sortino Ratio D. Treynor Measure Answer: B 2. Calculate Sharpe Measure with the following information; Expected return of portfolio of stocks = 14% Risk Free rate = 1.2% Standard deviation of portfolio = 20% A.6.4 B.0.64 C. -0.64 D. Cannot be determined with the given information Answer: B Explanation: Sharpe Measure of a portfolio = (Expected Return of Portfolio – Risk Free rate)/S.D of Portfolio = (14%-1.2%)/20% = 0.64 3. Calculate the Jensen’s measure with the following information: Expected return of portfolio of stocks = 14% Expected return of Market = 20% Risk Free rate = 1.2% Risk of portfolio = 1.5 A. -15.4% B. 15.4% C. -1.54% D. 1.54% Answer: A Explanation: Jensen’s Measure = Expected return of portfolio – [Risk free rate + (Expected return of Market - Risk Free )*Risk of Portfolio] = 14% - (1.2% + (20%-1.2%)*1.5) = -15.4% 4. The standard deviation of the difference between the portfolio return and benchmark return is: A. Sortino Ratio B. Information Ratio C. Sharpe Measure D. Tracking Error Answer: D 1. To compare the manager’s performance over a period of time what type of calculation is needed A. Sortino Ratio B. Information Ratio C. Sharpe Measure D. Treynor Measure Answer: B 2. Calculate the Information ratio with the following information: Expected Return of portfolio = 20% Expected benchmark return = 15% Tracking Error = 3% A. -1.66 B. 15 C. 1.66 D. 1.13 Answer: C Explanation: Information Ratio = (Expect Return of Portfolio – Expected benchmark Return)/Tracking Error = (20% - 15%)/3% = 1.66 3. What are the actions taken if GARP professionals violate the code of conduct A. Temporary suspension from GARP membership B. Permanent Removal from GARP membership C. Revocation of right to use FRM designation D. All the options above are applicable actions of GARP for violating the code of condut Answer: D 4. The role of risk management is; A. Assess risks faced by the firm B. Monitor and Manage Risks C. Communicate risks to the management D. All of the above Answer: D 1. Compute the payoff and profit to a call option seller if the strike price of option is $50, Stock price at maturity is $60 and call premium is $4.25 A. $10, $5.75 B. -$10, -$5.75 C. $0, -$4.25 D. $0, $4.25 Answer: B Explanation: Payoff of call option seller = -max(0, (Stock price at maturity – Strike Price)) = -max(0, (60 – 50)) = -$10 Profit for call option seller = Call premium - Payoff of call buyer = 4.25 – 10 =-5.75 2. Compute the payoff and profit to a put option buyer if the strike price of option is $50, Stock price at maturity is $60 and put premium is $4.25 A. $10, $5.75 B. -$10, -$5.75 C. $0, -$4.25 D. $0, $4.25 Answer: C Explanation: Payoff of put option buyer = max(0, (Strike Price - Stock price at maturity)) = -max(0, (50 - 60)) = 0 Profit for put option buyer = Payoff of put buyer – Put Premium = 0 – 4.25 = -4.25 3. The best risk management tool that can be used to aggregate loss across assets, capture risk factors exposures and calculates the variance and covariance in risk factors is: A. Stop loss Limit B. Exposure Limits C. Value at Risk D. Exposure Limits Answer: C 4. A contract that is a binding agreement to transact a commodity in a pre specified month in the future at agreed upon price is a: A. Option Contract B. Forward Contract C. Futures Contract D. All of the above Answer: C 5. Compute the payoff and profit to a call option buyer if the strike price of option is $50, Stock price at maturity is $60 and call premium is $4.25 A. $10, $5.75 B. -$10, -$14.25 C. $0, -$4.25 D. $0, $4.25 Answer: A Explanation: Payoff of call option buyer = max(0, (Stock price at maturity – Strike Price)) = max(0, (60 – 50)) = $10 Profit for call option buyer = Payoff of call buyer – Call premium = 10 – 4.25 =$5.75 1. Calculate the Quantity of Risk with the following information: Market Risk Premium = 40% Risk Premium = 20% A. 8 B. 2 C. 0.5 D. Cannot be determined with the information given Answer: C Explanation: Risk premium of an asset = Market Risk Premium * Quantity of Risk Therefore Quantity of Risk = 20%/40% = 0.5 2. The assumptions of capital asset pricing model (CAPM) are: A. Investors assume the markets are perfect B. All investors have same expectation concerning returns C. Investors only consider mean and standard deviation of returns D. All of the above Answer: D 3. According to Capital Asset Pricing Model (CAPM) the best performing portfolios consists of: A. Risk-free asset only B. Market portfolio only C. Market portfolio and risk free asset D. None of the above Answer: C 1. Calculate the Quantity of Risk with the following information: Market Risk Premium = 40% Risk Premium = 20% A. 8 B. 2 C. 0.5 D. Cannot be determined with the information given Answer: C Explanation: Risk premium of an asset = Market Risk Premium * Quantity of Risk Therefore Quantity of Risk = 20%/40% = 0.5 2. The assumptions of capital asset pricing model (CAPM) are: A. Investors assume the markets are perfect B. All investors have same expectation concerning returns C. Investors only consider mean and standard deviation of returns D. All of the above Answer: D 3. According to Capital Asset Pricing Model (CAPM) the best performing portfolios consists of: A. Risk-free asset only B. Market portfolio only C. Market portfolio and risk free asset D. None of the above Answer: C 4. Total risk of an asset consists of: A. Market and systematic risk B. Systematic risk and diversifiable risk C. Market Risk only D. Diversifiable risk only Answer: B 1. GARP professional must have the following: A. Maintain Professional Integrity and Ethical Conduct B. Reveal Conflict of Interest C. Maintain Confidentiality D. All of the above Answer: D 2. . Calculate Treynor Measure with the following information; Expected return of portfolio of stocks = 14% Risk Free rate = 1.2% Risk of the portfolio = 1.2 A. 0.1066 B. 1.066% C. 0.1536 D. -0.1066 Answer: A Explanation: Treynor Measure of a portfolio = (Expected Return of Portfolio – Risk Free rate)/Risk of Portfolio = (14%- 1.2%)/1.2 = 0.1066 3. Calculate the Risk free rate with the following information: Quantity of Risk = 0.5 Risk Premium = 20% Expected Market Return = 40% A. 0% B. 3% C.1% D. Cannot be determined with the information given Answer: A Explanation: Risk premium of an asset = Market Risk Premium * Quantity of Risk Market Risk Premium = 20%/0.5 = 40% Market Risk Premium = Expected Return of Market – Risk Free rate Therefore, 40% - Risk Free rate = 40% Risk Free rate = 0% 4. Systematic risk is also known as: A. Diversifiable Risk B. Asset-Specific Risk C. Market Risk D. Basis Risk Answer: C