Financial Risk Management Flashcards

Translation risk affects a multinational primarily through its:

Answer: Consolidation of foreign subsidiary financial statements

Translation risk arises when foreign subsidiary accounts are converted into the parent's reporting currency for consolidation.

A call option gives the holder the right to:

Answer: Buy an asset at a set strike price

A call option grants the right, but not the obligation, to buy the underlying at the strike price.

Concentration risk in a credit portfolio is reduced by:

Answer: Spreading exposure across many borrowers and sectors

Diversifying across counterparties and industries lowers the impact of any single default or sector downturn.

Settlement (Herstatt) risk arises when:

Answer: One party delivers but the counterparty fails to deliver its side

Settlement risk occurs in transactions where timing differences mean one side pays before receiving the counter-value.

The Sharpe ratio measures:

Answer: Excess return per unit of total risk (volatility)

The Sharpe ratio divides a portfolio's return above the risk-free rate by its standard deviation.

Which Basel framework concept requires banks to hold capital proportional to their risk exposures?

Answer: Risk-weighted assets and minimum capital ratios

Basel rules set minimum capital ratios calculated against risk-weighted assets to absorb potential losses.

Scenario analysis is most useful for assessing:

Answer: How a portfolio behaves under specific combinations of changing variables

Scenario analysis projects outcomes when multiple risk factors move together under defined hypothetical conditions.