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PRMIA Credit and Counterparty Manager (CCRM) Certificate Exam Sample Questions (Q76-Q81):

NEW QUESTION # 76
Which of the following statements are true:
I. Stress tests should consider simultaneous pressures in funding and asset markets, and the impact of a reduction in liquidity II. Judging the effectiveness of risk mitigation techniques is not a part of stress testing III. A reverse stress test is useful for discovering hidden vulnerabilities and inconsistencies in hedging strategies IV. Reputational risk, which is explicitly excluded from the definition of operational risk under Basel II, should still be considered as part of stress tests.

A. I and III
B. II and IV
C. I, III and IV
D. All of the above

Answer: C

Explanation:
All the statements in this question are directly based on the principles for effective stress testing as laid down in the BCBS document on stress testing issued in May 2009. Statement 1 is correct and is an almost verbatim reproduction of principle 10 as laid down in that document. Statement II is incorrect as it is contrary to principle 11 laid down in the same document. Statement III is correct as discovering hidden vulnerabilities and inconsistencies in hedging strategies is one of the objectives of reverse stress tests. Similarly, even though reputational risk is not really covered under any risk category under Basel II (as it is not a part of either market, credit or operational risk), principle 14of this paper requires the mitigation of spill-over effects on market confidence of reputational risk when thinking about stress tests.
Thus statements I, III and IV are correct and statement II is incorrect.

NEW QUESTION # 77
An investor enters into a 5-year total return swap with Bank A, with the investor paying a fixed rate of 6% annually on a notional value of $100m to the bank and receiving the returns of the S&P500 index with an identical notional value. The swap is reset monthly, ie the payments are exchanged monthly. On Jan 1 of the fourth year, after settling the last month's payments, the bank enters bankruptcy. What is the legal claim that the hedge fund has against the bank in the bankruptcy court?

A. $6m
B. $0, as all payments on the swap are current
C. $100m
D. The replacement value of the swap

Answer: D

Explanation:
According to ISDA standard definitions, the legal claim for OTC derivatives is the current replacement value of the contract. Therefore Choice 'c' is the correct answer. None of the other choices are correct.

NEW QUESTION # 78
Which of the following statements is true in respect of different approaches to calculating VaR?
I. Linear or parametric VaR does not take correlations into account
II. For large portfolios with little or no optionality or other non-linear attributes, parametric VaR is an efficient approach to calculating VaR III. For large portfolios with complex sources of risk and embedded optionalities, the full revaluation method of calculating VaR should be preferred IV. Delta normal local revaluation based VaR is suitable for fixed income and option portfolios only

A. I, II, III and IV
B. III only
C. II and III
D. I and IV

Answer: C

Explanation:
This question is different in that it uses terminology you will not find in the PRMIA handbook. Yet it is important to understand these as there may be a question based on this slightly different terminology. (It is only the terminology that is different, the concepts are the same.) If you read the PRMIA handbook, there are three methods of calculating VaR: Analytical or parametric, historical simulation and Monte Carlo simulations. There is one more way of categorizing the methods of calculating VaR, and these are as follows:
1. Local valuation: This refers to analytical or parametric VaR. This relies upon a neat statistical formula to calculate VaR and assumes a normal distribution. It also relies upon a known covariance matrix between the different components of VaR. Local valuation based VaR is further subdivided into two types:
a. Linear VaR: Linear VaR is calculated assuming the portfolio is linear, and its value changes just based upon the delta of the portfolio. In such cases, once a change (eg, in stock values) is known, that change is multiplied by the delta alone to get the VaR. Second order effects, such as gamma or convexity are ignored.
b. Non-linear VaR: Non linear analytical VaR is calculated using both delta and the second derivative, ie gamma or the convexity. This is more accurate if the portfolio is non-linear.
The key thing about 'local revaluation' VaR is that it does not require us to reprice or completely value all instruments in the portfolio. All we have to know is the delta (or the gamma and convexity as well) and multiply that with the number of standard deviations of change in the risk factor that we are interested in. So if we are considering a bond, we don't have to recalculate the new value of the bond as we can just use the delta. This can be a significant computational advantage for a large financial institution where there may be a large number of positions.
2. Full revaluation: This refers to a VaR method where the asset in question is fully repriced based on the new value of the risk factor - and this includes both historical and Monte Carlo based VaR methods.
Local revaluation, or analytical method based VaR is computationally easier to calculate, specially if based on just the delta-normal method (ie ignoring second order effects from convexity or gamma). But it will give incorrect results if the portfolio includes substantial non-linearity or other complexities. The full revaluation methods will always give the correct results, but they can be computationally difficult to arrive at.
Statement I is completely inaccurate - local revaluation methods do take correlations into account through the correlation or covariance matrices. Statement IV is false too - the 'delta normal' VaR refers to Var calculations based upon just the delta and do not account for the convexity or optionality. Statements II and III are correct.
Therefore Choice 'c' is the correct answer.

NEW QUESTION # 79
In estimating credit exposure for a line of credit, it is usual to consider:

A. the present value of the line of credit at the agreed rate of lending.
B. the full value of the credit line to be the exposure at default as the borrower has an informational advantage that will lead them to borrow fully against the credit line at the time of default.
C. a fixed fraction of the line of credit to be the exposure at default even though the currently drawn amount is quite different from such a fraction.
D. only the value of credit exposure currently existing against the credit line as the exposure at default.

Answer: C

Explanation:
Choice 'a' is the correct answer. Exposures such as those to a line of credit of which only a part (or none) may be drawn at the time of assessment present a difficulty when attempting to quantify credit risk. It is not correct to take the entire amount of the line as the exposure at default, and likewise the current exposure is likely to be too aggressively low a number to consider.
While the borrower has an information advantage in that he would be aware of the deterioration in credit standing before the bank and would probably draw cash prior to default, it is unlikely that the entire amount of the line of credit would be drawn in all cases. In some cases, none may be drawn. In other cases, the bank would become aware of the situation and curtail or cancel access to the credit line in a timely fashion.
Therefore a fixed proportion of existing credit lines is considered a reasonable approximation of the exposure at default against credit lines.

NEW QUESTION # 80
Which of the following describes rating transition matrices published by credit rating firms:

A. Probabilities of default for each credit rating class
B. Probabilities of ratings transition from one rating to another for a given set of issuers
C. Realized frequencies of migration from one credit rating to another over a one year period
D. Expected ex-ante frequencies of migration from one credit rating to another over a one year period

Answer: C

Explanation:
Transition matrices are used for building distributions of the value of credit portfolios, and are the realized frequencies of migration from one credit rating to another over a period, generally one year. Therefore Choice
'd' is the correct answer.
Since they represent an actually observed set of values, they are not probabilities nor are they forward looking ex-ante estimates, though they are often used as proxies for probabilities. Choice 'a' and Choice 'c' are not correct. They include more than information on just defaults, therefore Choice 'b' is not correct.

NEW QUESTION # 81
......

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