Free Practice Questions for PRMIA 8008 Exam

increasing the timing differences between the two legs of the transaction will increase settlement risk and not reduce it. Using escrow arrangements, such as central clearing houses to settle transactions (eg the DTCC in the United States) reduces settlement risk. Cash settlements based on netting arrangements reduce settlement risk, while physical delivery combined with gross cash payments increase it.

Therefore Choice 'a' is the correct answer.

For EVT, we use the block maxima or the peaks-over-threshold methods. These provide us the data points that can be fitted to a GEV distribution.

Least squares and maximum likelihood are methods that are used for curve fitting, and they have a variety of applications across risk management.

Refer to the detailed loss event type classification under Basel II (see Annex 9 of the accord). You should know the exact names of all loss event types, and examples of each.

The actuarial or CreditRisk+ model considers default as an 'end of game' event modeled by a Poisson distribution. The annual number of defaults is a stochastic variable with a mean of μ and standard deviation equal to √μ.

The probability of n defaults is given by (μ^n e^-μ) /n!, and therefore in this case is equal to (=2^4 * exp(-2))/FACT(4)) = 0.0902.

Note that CreditRisk+ is the same methodology as the actuarial approach, and requires using the Poisson distribution.

The number of futures contracts to sell are equal to $10m x 1.1/$50,000 = 220. Liquidating his portfolio would reduce the beta to zero, but would also get rid of the bets he wants to play on. Therefore Choice 'c' is the correct answer.

(Note that futures and spot prices generally move together allowing futures positions to be used for hedging the risk against movement in spot prices. However there is a basis risk between spot and futures, therefore the a perfect hedge is never possible with futures. If interest rates move a great deal, spot and futures prices may diverge. Of course, this risk is generally quite low but may become amplified with large leveraged portfolios. Just something to be aware of.)

If VaR is calculated based upon historical simulations, and these simulations are designed as to include all stress scenarios of interest, then VaR and stress tests can be a part of an integrated risk measurement system. Therefore it is not correct to say that stress tests are always separately modeled from VaR and II is false. I and III are true, and therefore Choice 'd' is the correct answer.

The persistence parameter, β, is the coefficient of the most recent day's returns in GARCH calculations. A higher value of the persistence parameter tends to 'persist' the prior value of variance for longer. Consider an extreme example - if the persistence parameter is equal to 1, the variance under GARCH will never change in response to returns.

The bank paid $7m for the bonds, and expected recovery is $3m (30% x $10m face). Therefore Bank B's loss is $4m ($7m - $3m). Choice 'b' is the correct answer. All other answers are incorrect.

The Basel II framework allows the use of the basic indicator approach, the standardized approach and the advanced measurement approaches for operational risk. There is no approach called the 'internal measurement approach' permitted for operational risk. Choice 'a' is therefore the correct answer.

The total value of the portfolio is $370 (=$100 + $120 + $150). The modified duration of the portfolio is the weighted average of the MDs of the different bonds, ie =(5 * 100/370) + (10 * 120/370) + (12 * 150/370) = 9.46.

This means that for every 1% change in interest rates, the value of the portfolio changes by 9.46%. Since the daily volatility of interest rates is 2%, the 95% confidence level move will be 1.65 * 2% = 3.30%. Thus, the VaR of the portfolio at the 95% confidence level will be 3.3 * 9.46% * $370 = $115.51.

All other answers are incorrect.