Financial Risk Management Flashcards
7 cards from real Financial Risk Management practice questions. Tap to flip, then mark Knew It or Still Learning — missed cards come back until you master them.
Read the first 7 Financial Risk Management flashcards as text
In stress testing, what is the main advantage of scenario analysis over sensitivity analysis?
Answer: It simultaneously assesses the impact of multiple risk factors changing together
Scenario analysis evaluates the combined effect of multiple correlated risk factors changing at once, reflecting real-world crisis dynamics.
What is the key distinction between 'systematic risk' and 'idiosyncratic risk'?
Answer: Systematic risk is market-wide and non-diversifiable; idiosyncratic risk is company-specific and diversifiable
Systematic risk (market risk) affects all assets and cannot be diversified away, while idiosyncratic risk is specific to individual securities and can be reduced through diversification.
A firm's asset correlation increases during a financial crisis. What is the most significant implication for a diversified portfolio?
Answer: Diversification benefits are reduced precisely when they are most needed
Crisis-driven correlation increases mean assets that normally move independently begin moving together, destroying the diversification benefit when losses are largest.
Which liquidity risk metric measures the time required to liquidate a position without significantly impacting market prices?
Answer: Liquidation horizon
The liquidation horizon is the estimated time needed to unwind a position at fair value without causing material price impact.
Under the CAPM framework, what does beta greater than 1.0 indicate about a stock?
Answer: The stock is more volatile than the market and amplifies market movements
A beta above 1.0 means the stock tends to amplify market moves — if the market falls 10%, a beta-1.5 stock is expected to fall 15%.
What is the primary risk associated with a 'wrong-way risk' in derivatives transactions?
Answer: The counterparty's default risk increases precisely when the exposure on the trade is largest
Wrong-way risk occurs when counterparty credit quality deteriorates at the same time the trade's mark-to-market exposure increases, compounding losses.
What does the 'convexity' of a bond measure?
Answer: The curvature in the price-yield relationship, measuring duration's rate of change
Convexity measures the rate of change of duration as yields change, capturing the non-linear (curved) relationship between bond prices and yields.
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