[Jun-2022] 8010 Certification with Actual Questions from ExamBoosts [Q86-Q105]

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[Jun-2022] 8010 Certification with Actual Questions from ExamBoosts

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NOUVELLE QUESTION 86
Which of the following statements is true:
I. Basel II requires banks to conduct stress testing in respect of their credit exposures in addition to stress testing for market risk exposures II. Basel II requires pooled probabilities of default (and not individual PDs for each exposure) to be used for credit risk capital calculations

I & II

Neither statement is true

Explication
The correct answer is choice ‘b’
Both statements are accurate. Basel IIrequires pooled probabilities of default to be applied to risk buckets that contain similar exposures. Also, stress testing is mandatory for both market and credit risk.

NOUVELLE QUESTION 87
Which of the following is not an approach proposed by the Basel II framework to compute operational riskcapital?

Basic indicator approach

Factor based approach

Standardized approach

Advanced measurement approach

Explication
Basel II proposes three approaches to compute operational risk capital – the basic indicator approach(BIA), the standardized approach (SIA) and the advanced measurement approach (AMA). There is no operational risk approach called the factor based approach.

NOUVELLE QUESTION 88
Under the KMV Moody’s approach to calculating expectingdefault frequencies (EDF), firms’ default on obligations is likely when:

expected asset values one year hence are below total liabilities

asset values reach a level below short term debt

asset values reach a level below totalliabilities

asset values reach a level between short term debt and total liabilities

Explication
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.

NOUVELLE QUESTION 89
If P be the transition matrix for 1 year, how can we find the transition matrix for 4 months?

By calculating the cube root of P

By numerically calculating a matrix M such that M x M x M is equal toP

By dividing P by 3

By calculating the matrix P x P x P

Explication
Assuming time invariance and the Markov property, it is easy to calculate the transition matrix for any time period as P^n, where P is the given transition matrix for one period andn the number of time periods that we need to compute the new transition matrix for.
However, when the new time period is less than the time period the matrix is available for, the only way to deriving a transition matrix for a partial period is to numerically calculate a matrix M such that M^n = P.
Therefore Choice ‘b’ is the correct answer. Taking cube roots of a matrix is not a possible operation, dividing by 3 gives a matrix meaningless in this context, and P x P x P will give us the transition matrix for 3 years, not
1/3rd of a year.

NOUVELLE QUESTION 90
The Basel framework does not permit which of the following Units of Measure (UoM) for operational risk modeling:
I. UoM based on legal entity
II. UoM based on event type
III. UoM based on geography
IV. UoM based on line of business

I and IV

III only

II only

Aucune de ces réponses

Explication
Units of Measure for operational risk are homogenous groupings of risks to allow sensible modeling decisions to be made. For example, some risks may be fat-tailed, for example the risk of regulatory fines. Other risks may have finite tails – for example damage to physical assets risk (DPA) may be limited to the value of the asset in the question.
Additionally, risk reporting may need to be done at the line of business, legal entity or regional basis, and in order to be able to do, so the right level of granularity needs to be captured in the risk modeling exercise. The level of granularity applied is called the ‘unit of measurement’ (UoM), and it is okay to adopt all of the choices listed above as the dimensions that describe theunit of measure.
Note that it is entirely possible, even likely, to use legal entity, risk type, region, business and other dimensions simultaneously, though doing so is likely to result in an extremely large number of UoM combinations. That can be addressed by then subsequently grouping the more granular UoMs into larger UoMs, which may ultimately be used for frequency and severity estimation.

NOUVELLE QUESTION 91
What ensures that firms are not able to selectively default on some obligations without being considered in default on the others?

Cross-default clauses in debt covenants

Chapter 11 regulations

Exchange listing requirements

The bankruptcy code

Explication
It is the cross-default clauses in debt agreements that generally provide that a default on one obligation is considered a credit event applying to all debts of theobligor, and therefore we are able to deal with credit risk at the borrower level, and not at the level of the individual security. It also helps avoid situations where borrowers can selectively default on some obligations while continuing to service others. Therefore Choice ‘a’ is the correct answer. The other choices are incorrect.

NOUVELLE QUESTION 92
Which of the following decisions need to be made as part of laying down a system for calculating VaR:
I. How returns are calculated, eg absoluted returns, log returns or relative/percentage returns II. Whether VaR is calculated based on historical simulation, Monte Carlo, or is computed parametrically III. Whether binary/digital options are included in the portfolio positions IV. How volatility is estimated

I, II and IV

II and IV

I and III

Toutes les réponses ci-dessus

Explication
While conceptually VaR is a fairly straightforward concept, a number of decisions need to be made to select between the different choices available for the exact mechanism to be used for the calculations.
There ismore than one way to calculate returns. Absolute returns may be relevant for risk factors where the size of the movement is unrelated to its current value. For other risk factors, the returns might scale with the size of the existing value of the risk factor, eg equity prices. The right return definition needs to be adopted for each risk factor, therefore ‘I’ is a correct choice.
The risk analyst has a Choice ‘b’etween parametric VaR, Monte Carlo, and historical simulation based VaR. ‘II’ therefore is one of the decisions that needs to be made (though historical simulation is the choice most often made).
The decision as to what to include in a portfolio is not a decision that is affected by choices made for VaR calculations. ‘III’ is therefore not a correctanswer.
There are multiple ways to calculate volatility – including decisions on how long back in time to go for the data, and whether volatility clustering needs to be accounted for using EWMA or GARCH. Therefore ‘IV’ is a correct answer.

NOUVELLE QUESTION 93
Which of the following are valid criticisms of value at risk:
I. There are many risks that a VaR framework cannot model
II. VaR does not considerliquidity risk
III. VaR does not account for historical market movements
IV. VaR does not consider the risk of contagion

I, II and IV

I and III

II and IV

Toutes les réponses ci-dessus

Explication
Risks such as abrupt changes to a firm’s businessmodel caused by legislation, or the introduction of capital controls in foreign countries where a firm in invested, geo-political risks etc are not modelable in the traditional sense. These risks cannot be modeled using VaR. Therefore statement I is correct.
VaR indeed does not consider liquidity risk, it is only concerned with the standard deviation of portfolio returns. Statement II is a valid criticism.
Statement III is not correct, as VaR can consider historical price movements.
Statement IV is correct,as VaR does not consider systemic risk or the risk of contagion.

NOUVELLE QUESTION 94
Which of the following belong in a credit risk report?

Exposures by country

Exposures by industry

Largest exposures by counterparty

Toutes les réponses ci-dessus

Explication
All the listed variables are relevant to management monitoring the credit risk profile of an institution, therefore Choice ‘d’ is the correct answer.

NOUVELLE QUESTION 95
There are three bonds in a diversified bond portfolio, whose default probabilities are independent of each other and equal to 1%, 2% and 3% respectively over a 1 year time horizon. Calculate the probability that exactly 1 of the three bonds will default.

.011%

5.8%

Explication
The probability that only one of thethree bonds will default is equal to the sum of the probabilities of the three scenarios where one bond defaults and the other two survive. This probability is given by 1%*(1 – 2%)*(1 –
3%) + (1 – 1%)*2%*(1 – 3%) + (1 – 1%)*(1 – 2%)*3% = 5.7818%. Choice ‘c’ is the correct answer.

NOUVELLE QUESTION 96
Which of the following is the most accurate description of EPE (Expected Positive Exposure):

The maximum average credit exposure over a period of time

The price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date

Weighted average of thefuture positive expected exposure across a time horizon.

The average of the distribution of positive exposures at a specified future date

Explication
When a derivative transaction is entered into, its value generally is close to zero. Over time, as the value of the underlying changes, the transaction acquires a positive or negative value. It is not possible to predict the future value of the transaction in advance, however distributional assumptions can be made and potential exposure can be measured in multiple ways. Of all the possible future exposures, it is generally positive exposures that are relevant to credit risk because that is the only situation where the bank may lose money from a default of the counterparty.
The maximum (generally aquantile eg, the 97.5th quantile) exposure possible over the time of the transaction is the ‘Potential Future Exposure’, or PFE.
The average of the distribution of positive exposures at a specified date before the longest trade in the portfolio is called’Expected Exposure’, or EE.
The expected positive exposure calculated as the weighted average of the future positive Expected Exposure across a time horize is called the EPE, or the ‘Expected Positive Exposure’.
The price that would be received to sell anasset or paid to transfer a liability in an orderly transaction between market participants at the measurement date – is the ‘fair value’, as defined under FAS 157.
Therefore the corect answer is that EPE is the weighted average of the future positive expected exposure across a time horizon.

NOUVELLE QUESTION 97
A bullet bond and an amortizing loan are issued at the same time with the same maturity and with the same principal. Which of these would have a greater credit exposure halfway through their life?

Indeterminate with the given information

They would have identical exposure half way through their lives

The amortizing loan

The bullet bond

Explication
A bullet bond is a bond that pays coupons covering interest during the life of the bond and theprincipal at maturity. An amortizing loan pays the interest as well as a part of the principal with every payment. Therefore, the exposure of the amortizing loan continually reduces, and approaches zero towards the end of its life. The bullet bond will always have a higher exposure at any time during its life when compared to an equivalent amortizing loan. Hence Choice ‘d’ is the correct answer.

NOUVELLE QUESTION 98
Which of the following carry greater counterparty risk: a forward contract on a 10 year note, or a commercial paper carrying a AA credit rating with identicalmaturity and notional?

The forward contract has greater credit risk as its future gains are unknown

Credit risk can not be compared in these terms

They both carry the same credit risk

The commercial paper has greater credit risk as the entire notional is outstanding

Explication
The commercial paper has greater credit risk as the entire notional is outstanding. On the forward contract, only the replacement value of the contract, which normally would be a mere fraction of the notional, would be at risk.
Therefore Choice ‘d’ is the correct answer.

NOUVELLE QUESTION 99
The standalone economic capital estimates for the three business units of a bank are $100, $200 and $150 respectively. What is the combined economic capital for the bank, assuming the risks of the three business units are perfectly correlated?

450

269

72500

Explication
Since the business units are perfectly correlated, we can get the combined EC as equal to the sum of the individual EC estimates.Therefore Choice ‘a’ is the correct answer.

NOUVELLE QUESTION 100
If X represents a matrix with ratings transition probabilities for one year, the transition probabilities for 3 years are given by the matrix:

P ^ (-3)

P x P x P

3 [P ^ (-1)]

3 [P]

NOUVELLE QUESTION 101
Which of the following best describes Altman’s Z-score

A calculation of defaultprobabilities

A regression of probability of survival against a given set of factors

A numerical computation based upon accounting ratios

A standardized z based upon the normal distribution

Explication
Choice ‘c’ correctly describes Altman’s z-score. All other choices are incorrect.

NOUVELLE QUESTION 102
The principle underlying the contingent claims approach to measuring credit risk equates the cost of eliminating credit risk for a firm to be equal to:

the cost of a call on thefirm’s assets with a strike equal to the value of the debt

the value of a put on the firm’s assets with a strike equal to the value of the debt

the probability of the firm’s assets falling below the critical value for default

the market valuationof the firm’s equity less the value of its liabilities

Explication
Under the contingent claims approach, a firm will default on its debt when the value of its assets fall to less than the face value of the debt. Debt holders can protect themselves against such an event by buying a put on the assets of the firm, where the strike price is equal to the value of the debt. In other words, Risky Debt + Put on the firm’s assets = Risk free debt. This is because if the value of the assets is greater thanthe value of the debt, they will be paid in full. If the value of the assets is lower than the value of the debt, they will exercise the put and be paid in full.
Therefore the value of the put on the firm’s assets with a strike equal to the value ofthe debt represents the cost of eliminating credit risk. Choice ‘b’ is the correct answer.
Note that it is improbable that a put on the firm’s assets is available in real life to debt holders. However, the same effect can be synthetically achieved by usingthe shares of the firm as a proxy for its assets, and shorting an appropriate number of shares. Such a synthetic put will require frequent readjustments.

NOUVELLE QUESTION 103
Which of the following statements are true:
I. The sum of unexpected losses for individual loans in a portfolio is equal to the total unexpected loss for the portfolio.
II. The sum of unexpected losses for individual loans in a portfolio is less than the total unexpected loss for the portfolio.
III. The sum of unexpected losses forindividual loans in a portfolio is greater than the total unexpected loss for the portfolio.
IV. The unexpected loss for the portfolio is driven by the unexpected losses of the individual loans in the portfolio and the default correlation between these loans.

I and II

I, II and III

III and IV

II and IV

Explication
Unexpected losses (UEL) for individual loans in a portfolio will always sum to greater than the total unexpected loss for the portfolio (unless all the loans are correlatedin such a way that they default together).
This is akin to the ‘diversification effect’ in market risk, in other words, not all the obligors would default together. So the UEL for the portfolio will always be less than the sum of the UELs for individual loans.
Therefore statement III is true.This ‘diversification effect’ will be affected by the default correlations between the obligors, in cases where the probability of various obligors defaulting together is low, the UEL for the portfolio would bemuch less than the UEL for the individual loans. Hence statement IV is true.I and II are false for the reasons explained above.

NOUVELLE QUESTION 104
Under the CreditPortfolio View approach to credit risk modeling, which of the following best describes the conditional transition matrix:

The conditional transition matrix is the unconditional transition matrix adjusted for the state of the economy and other macro economic factors being modeled

The conditional transition matrix is the transition matrix adjusted for the risk horizon being different from that of the transition matrix

The conditional transition matrix is the unconditional transition matrix adjusted for probabilities of defaults

The conditional transition matrix is the transition matrix adjusted for the distribution of the firms’ asset returns

Explication
Under theCreditPortfolio View approach, the credit rating transition matrix is adjusted for the state of the economy in a way as to increase the probability of defaults when the economy is not doing well, and vice versa. Therefore Choice ‘a’ is the correct answer.The other choices represent nonsensical options.

NOUVELLE QUESTION 105
Which of the following is not a limitation of the univariate Gaussian model to capture the codependence structure between risk factros used for VaR calculations?

The univariate Gaussian model fails to fit to the empirical distributions of risk factors, notably their fat tails and skewness.

Determining the covariance matrix becomes an extremely difficult task as the number of risk factors increases.

It cannot capture linear relationships between risk factors.

A single covariance matrix is insufficient to describe the fine codependence structure among risk factors as non-linear dependencies or tail correlations are not captured.

Explication
In the univariate Gaussian model, each risk factor is modeled separately independent of the others, and the dependence between the risk factors is captured by the covariance matrix (or its equivalent combination of the correlation matrix and the variance matrix). Risk factors could include interest rates of different tenors, different equity market levels etc.
While this is a simple enough model, it has a number of limitations.
First, it fails to fit to the empirical distributions of risk factors, notably their fat tails and skewness. Second, a single covariance matrix is insufficient to describe the fine codependence structure among risk factors as non-linear dependencies or tailcorrelations are not captured. Third, determining the covariance matrix becomes an extremely difficult task as the number of risk factors increases. The number of covariances increases by the square of the number of variables.
But an inability to capture linear relationships between the factors is not one of the limitations of the univariate Gaussian approach – in fact it is able to do that quite nicely with covariances.
A way to address these limitations is to consider joint distributions of the risk factors that capture the dynamic relationships between the risk factors, and that correlation is not a static number across an entire range of outcomes, but the risk factors can behave differently with each other at different intersection points.

Chargement …

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