Pass the PRMIA PRM Certification 8010 Questions and answers with ExamsMirror

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.

According to Basel II, in any given year, negative capital charges(resulting from negative gross income) in any business line may offset positive capital charges in other business lines without limit. Therefore Choice 'b' is the correct answer.

The greatest model risk when calculating operational risk capital comes fromincorrect assumptions about correlations between different operational risks for which standalone risk calculations have been made. Generally, the correlation can be expected to be positive, and would therefore vary between 0 and 1. These two values determine the 'bounds' between which the total operational risk capital would lie, and these bounds are generally quite far apart. Therefore the total value of the operational risk capital is very sensitive to the value chosen for the correlation, and this is the source of the biggest model risk under the AMA.

All four data sources are expected to be utilized as inputs as appropriate for operational risk calculations under the advanced measurement approach. Of these, the last one, BEICF, is slightly different from the rest as it does not yield data points that becomethe basis of curve fitting or other statistical computions underlying capital calculations. It includes items such as KRIs, risk assessments etc and allow the risk manager to assess the qualitative aspects of loss data.

Three parameters define economic credit capital: the risk horizon, ie the time horizon over which the risk is being assessed; the confidence level, ie the quintile of the loss distribution; and the definition of credit losses, ie whether mark-to-market losses are considered in addition to default-only losses. The probability of default is not a parameter within the control of the risk manager, but an input into the capital calculation process that he has to estimate. Therefore Choice 'c' is the correct answer.

The first two formulae describe component VaR. The last formula is the formula for Marginal VaR. Therefore I and II is the correct answer.

Component VaR is a VaR decomposition technique that allows the total VaR for a portfolio to be broken down and attributed to the components of a portfolio. The total of the component VaR for each constituent of a portfolio is equal to the VaR for the portfolio. This property is extremely useful as opposed to the standalone VaR for each constituent taken alone as it can be used for allocating trading budgets.

High frequency and low severity risks, for example the risks of fraud losses for a credit card issuer, may have high expected losses, but low unexpected losses. In other words, we can generally expect these losses to stay within a small expected and known range. The capital requirement will be the worst case losses at a given confidence level less expected losses, and in such cases this can be expected to below.

On the other hand, medium severity medium frequency risks, such as the risks of unexpected legal claims, 'fat-finger' trading errors, will have low expected losses but a high level of unexpected losses. Thus the capital requirement for suchrisks will be high.

It is also worthwhile mentioning high severity and low frequency risks - for example a rogue trader circumventing all controls and bringing the bank down, or a terrorist strike or natural disaster creating other losses - will probably have zero expected losses & high unexpected losses but only at very high levels of confidence. In other words, operational risk capital is unlikely to provide for such events and these would lie in the part of the tail that is not covered by most levels ofconfidence when calculating operational risk capital.

Note that risk capital is required for only unexpected losses as expected losses are to be borne by P&L reserves. Therefore the operational risk capital requirements for a low severity high frequency risk is likely to be low when compared to other risks that are lower frequency but higher severity.

Thus Choice 'c' is the correct answer.

Other than Choice 'c', all others represent valid approaches to allocate economic capital to underlying business units. There is no such thing as 'fixed ratioeconomic capital contribution'

The correct answer is choice 'b'

Both statements are accurate. Basel IIrequires pooled probabilities of default to be applied to risk buckets that contain similar exposures. Also, stress testing is mandatory for both market and credit risk.

KMV Moody's uses a proprietary database to convert the distance to default to expected default probabilities.