Risk Management in Portfolios Flashcards

What is 'scenario analysis' in risk management?

Answer: Evaluating portfolio performance under different hypothetical market conditions

Scenario analysis evaluates how a portfolio would perform under various hypothetical market conditions such as a recession or rate spike.

What does 'stress testing' a portfolio involve?

Answer: Simulating extreme adverse market conditions to assess potential losses

Stress testing simulates extreme market scenarios (like a 2008-style crash) to understand potential worst-case portfolio losses.

What is 'counterparty risk' in portfolio management?

Answer: Risk that the other party to a transaction will default on its obligations

Counterparty risk is the chance that the other party in a financial transaction will fail to fulfill their contractual obligations.

Which of the following is a 'risk-adjusted return' metric?

Answer: Treynor Ratio

The Treynor Ratio measures return per unit of systematic risk (beta), making it a risk-adjusted performance metric.

What is 'reinvestment risk' in bond portfolio management?

Answer: The risk that coupon payments must be reinvested at lower rates

Reinvestment risk is the possibility that bond coupon payments will have to be reinvested at lower interest rates, reducing overall yield.

What is the primary purpose of a 'risk budget' in portfolio management?

Answer: To allocate acceptable levels of risk across different portfolio components

A risk budget allocates specific amounts of acceptable risk to different portfolio components, ensuring the overall risk target is not exceeded.