FRM FRM Market Risk 1 — Questions and Answers
Question 1: What does Value at Risk (VaR) measure at a 95% confidence level over a 1-day horizon?
- The maximum loss not exceeded with 95% probability over one day (Correct answer)
- The expected loss averaged over 95 trading days
- The minimum gain expected with 95% probability
- The average loss over the worst 5% of trading days
Correct answer: The maximum loss not exceeded with 95% probability over one day
VaR at 95% confidence measures the maximum loss that will not be exceeded on 95% of days, meaning losses exceed this level only 5% of the time.
Question 2: Which of the following best describes Expected Shortfall (ES)?
- The average of all losses beyond the VaR threshold (Correct answer)
- The maximum possible loss in any scenario
- The median loss in the worst quartile
- The VaR scaled by a confidence multiplier
Correct answer: The average of all losses beyond the VaR threshold
Expected Shortfall, also called Conditional VaR (CVaR), is the average loss conditional on the loss exceeding the VaR threshold.
Question 3: Under Basel III, what is the standard multiplier applied to the 10-day 99% VaR for market risk capital requirements?
- 3 (Correct answer)
- 1.5
- 2
- 4
Correct answer: 3
Basel III requires banks to hold capital equal to at least 3 times the 10-day 99% VaR, subject to supervisory add-ons for backtesting exceptions.
Question 4: What is the primary limitation of historical simulation as a VaR method?
- It assumes future market conditions mirror the historical window used (Correct answer)
- It requires normally distributed returns
- It cannot account for non-linear instruments
- It overstates losses in calm market periods
Correct answer: It assumes future market conditions mirror the historical window used
Historical simulation relies entirely on a historical data window, so it cannot capture risk scenarios outside that period.
Question 5: A bond portfolio has a DV01 of $5,000. If interest rates rise by 10 basis points, what is the approximate dollar loss?
- $50,000 (Correct answer)
- $5,000
- $500
- $500,000
Correct answer: $50,000
DV01 measures dollar value change per 1 basis point, so a 10 bp move results in 10 × $5,000 = $50,000 loss.
Question 6: Which Greek measures the rate of change of an option's delta with respect to the underlying asset price?
- Gamma (Correct answer)
- Vega
- Theta
- Rho
Correct answer: Gamma
Gamma is the second derivative of option price with respect to the underlying price, representing how quickly delta changes.
FRM FRM Market Risk 1
What does Value at Risk (VaR) measure at a 95% confidence level over a 1-day horizon?