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Portfolio Management > LM 6: Introduction to Risk Management > Flashcards

LM 6: Introduction to Risk Management Flashcards

1
Q

What is risk exposure?

A

sensitivity to a certain risk that is quantified

example, banks have assets and liabilities that are sensitive to interest rate risk

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2
Q

What is risk management?

A

process involves
1. setting an optimal level of risk exposure
2. measuring the actual level of risk exposure
3. making any necessary adjustments to reach the target level

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3
Q

What is risk management framework?

A

infrastructure, processes, and analytics to support effective risk management.

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4
Q

What are the 7 keys factors to risk management framework? RRRDRCS

A

-risk governance

-risk identification & measurement

-risk infrastructure

-defined policies & processes

-risk monitoring, mitigation, and management

-communications

-strategic analysis or integration

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5
Q

What is risk governance?

A

top down process that directs risk management activities to support overall enterprise, usually performed at board level.

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6
Q

What is risk identification & measurement?

A

organization’s potential risk exposures should be assessed qualitatively and quantified as accurately as possible.

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7
Q

What is risk infrastructure?

A

people & systems needed to track risk exposures & assess an organizations risk profile

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8
Q

What is defined policies and processes in the risk management framework?

A

risk management committee that focuses on the specific day to day operations and decisions

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9
Q

What is risk monitoring, mitigation, & management?

A

continuous monitoring of the situation is needed to determine if a risk exposure is out of line

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10
Q

What is communication in risk management framework?

A

Relevant information about risk management must be clearly communicated throughout an organization.

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11
Q

What is strategic analysis or integration?

A

Good risk management is key to increasing a company’s value. A well-integrated risk management strategy can help identify activities that add value as well as those that may be destroying value.

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12
Q

What 3 things does the board do in terms of risk governance? SRR

A
  1. set goals
  2. risk tolerance
  3. risk budgeting
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13
Q

What does management do in terms of risk governance from board level ? IARI

A

goals > implement strategies

risk tolerance > allocate to risky activities

risk budgeting > risk exposures

implement policies & procedures

right of arrow is everything management does.

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14
Q

What is the risk management infrastructure 5 specific activities?

A

identify risks > measure risks > monitor risks > reports (communications) > strategic analysis

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15
Q

What are the 3 responsibilities of risk management committee (aka governing body)? PDS

A
  1. providing risk oversight
  2. determining organizational goals & priorities
  3. specifying risk tolerance (which risks and levels of exposure are acceptable)
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16
Q

What is enterprise focused risk management?

A

risk management that takes a holistic (whole) view of the firm

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17
Q

What does the chief risk officer do?

A

responsible for building & implementing the risk management framework

18
Q

What is risk tolerance?

A

identifying how much an organization is willing to lose by accepting exposure to certain costs

19
Q

What is risk budgeting?

A

deciding the amount of risk to take on in a portfolio and subdividing the risk over the return sources

20
Q

Whats the difference between financial risk and non financial risk?

A

financial risk originate from financial markets

non-financial risk are outside of financial market environment and could be of environmental or regulatory changes.

21
Q

What is the correct sequence of events for risk governance and manager that focuses on the entire enterprise?

risk budgeting, risk exposures, risk tolerance

A
  1. risk tolerance
  2. risk budgeting
  3. risk exposures
22
Q

What are the 3 types of financial risk, describe them?

A

-market risk (movements in interest rates, exchange rates ,etc that move the market)

-credit risk (the probability of a financial loss resulting from a borrower’s failure to repay a loan)

-liquidity risk (inability to pay short term obligations)

23
Q

What are 8 non financial risks? SLCMTOSR

A
  1. settlement risk
  2. legal risk
  3. compliance risk
  4. model risk
  5. tail risk
  6. operational risk
  7. solvency risk
  8. risks unique to individuals
24
Q

What is settlement risk, legal risk, and compliance risk?

A

settlement risk: possibility of one or more parties fail to deliver on terms of contract

legal risk: sued for various legal reasons

compliance risk: an organization’s legal, financial and criminal exposure if it does not follow industry laws and regulations.

25
Q

What is model risk, tail risk, and operational risk?

A

model risk: loss resulting from using inaccurate models to make decisions,

tail risk: investment will move more than three standard deviations from the mean is greater than what is shown by a normal distribution.

operational risk: risk from people and processes used by companies to produce the output

26
Q

What is solvency risk and risks unique to individuals?

A

solvency risk: risk the entity does not survive because it lacks the cash needed to fund day-to-day operations.

risks unique to individuals: Individuals face non-financial risks to their property (e.g., theft, damage) and their health.

27
Q

What are the 4 metrics used to measure risk of derivatives, describe them?

A
  1. delta (sensitivity of derivative price to underlying asset)
  2. gamma (sensitivity of delta to underlying asset)
  3. vega (sensitivity of derivative price to volatility of underlying asset)
  4. rho (sensitivity of derivative price change in interest rates)
28
Q

What are 5 other common metrics used to quantify risk exposure, outside of derivative risk metrics? PSBDV

A
  1. probability
  2. standard deviation
  3. beta
  4. duration
  5. value at risk (VAR)
29
Q

What is value at risk or VAR? and what does VaR is £3 million at 5% for one day?

A

specifies minimum loss over a given time period, at a given probability

5% of the time they’ll expect to lose at least 3 million in one day.

30
Q

What is duration?

A

measures the sensitivity of a fixed income instrument to interest rates

31
Q

Whats the difference between scenario analysis and stress testing?

A

scenario analysis models market conditions that put pressure on a portfolio

stress test focuses on the change in just one variable

32
Q

What is risk modification?

A

aligning risk levels with what has been determined to be acceptable.

33
Q

What are the four broad categories of risk modification?

A
  1. risk prevention & avoidance
  2. risk acceptance
  3. risk transfer
  4. risk shifting
34
Q

What are the two ways risk can be mitigated internally in regards to risk acceptance?

A

self-insurance or diversification

35
Q

What is risk avoidance?

A

you avoid the project because of the risk

36
Q

What is risk acceptance?

A

a strategy in which the organization accepts the potential risk and proceed to make investment

37
Q

What is risk transfer?

A

A pure risk is transferred from the insured to the insurer, who typically is in a stronger financial position

38
Q

What is risk shifting and 2 tools used?

A

the firm accepts and attempts to mitigate the risk, usually through derivatives.

tools: forward commitments & contingent claims

39
Q

What is adverse risk interaction?

A

when losses caused by one type of risk exacerbate losses caused by another type of risk.

40
Q

What 2 things should risk tolerance of an organization reflect, describe them?

A

reflect both an an inside and outside view.

  1. The inside view asks what level of loss will leave the organization unable to meet critical objectives.
  2. The outside view asks what sources of uncertainty or risk the organization faces.

Portfolio Management (6 decks)

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