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FRM Part II Updated
What is BA-CVA and when do banks use it?
BA-CVA (Basic Approach CVA) is the simpler regulatory CVA capital method for banks that don't qualify for or elect SA-CVA. Mandatory for small derivatives books. Formula: K_reduced based on EAD, rating-based risk weights, maturity factor, with ρ = 0.5 correlation...
What is the CMBS B-piece and why is it a specialized market?
The B-piece is the first-loss subordinate class in a CMBS, bought by specialized investors who kick out weak loans pre-close and typically name the special servicer.
What is tail correlation and why differ from normal correlation?
Pearson correlation measures linear co-movement averaged across all observations. Tail correlation captures co-movement conditional on extreme returns...
How should models be tiered for validation priority?
Tier classification scales validation effort to model risk. Tier 1 (high) gets annual full revalidation; Tier 2 biennial; Tier 3 triennial light-touch. Scored across impact, reliance, complexity.
How does mortgage prepayment risk affect a bank's ALM?
Prepayment risk is the option mortgage borrowers hold to repay early, typically by refinancing when rates fall.
What is SA-CVA (Standardized Approach CVA) under Basel III?
SA-CVA is the standardized approach for calculating regulatory CVA capital, finalized in the Basel III reform package. Banks must have supervisory approval; otherwise they default to BA-CVA. Six risk buckets: IR, FX, credit spread, equity, commodity, CCR spread...
What is intraday liquidity risk and how do banks monitor it?
Intraday liquidity risk is meeting same-day payments despite end-of-day balances being fine. BCBS 248 defines seven metrics including peak usage, available liquidity, and time-specific obligations.
What is a CMBS IO tranche and why does it trade like a corporate bond?
CMBS Class X IOs receive the excess spread on a reference notional. Prepayment lockouts make them bond-like rather than option-like; credit losses and maturity defaults drive risk.
How do I stress test a correlation matrix?
Correlation stress testing applies shocks to the off-diagonal entries of your correlation matrix and revalues the portfolio under the stressed matrix...
What is process verification in model validation?
Process verification tests implementation correctness, data pipelines, model environment controls, output integrity, and user overrides. Complements conceptual and outcomes review.
How is the Net Stable Funding Ratio computed and why is the horizon one year?
NSFR = ASF / RSF ≥ 100%. ASF weights liabilities by stability, RSF weights assets by required funding. Addresses year-long structural mismatch beyond LCR.
What's the difference between a conduit CMBS and a single-borrower CMBS?
Conduit CMBS are diversified 50-80-loan pools; SASB deals are concentrated on one asset with intense underwriting; CRE CLOs are managed pools of transitional bridge loans.
Why does diversification fail during crisis periods?
Diversification is a feature of normal market regimes. During crises, three mechanisms collapse it - liquidity stress, hidden factor exposure, and funding contagion...
What does a conceptual soundness review actually cover?
Conceptual soundness review evaluates theoretical basis, assumption appropriateness, data quality, feature selection, estimation, limitations, and alignment with use.
How does yield curve risk differ from parallel rate risk in ALM?
Yield curve risk arises from non-parallel shifts: steepener, flattener, short-rate up, short-rate down, and humped changes.
What's an example of right-way risk for a corporate?
Right-way risk (RWR) occurs when exposure to a counterparty is negatively correlated with the counterparty's probability of default. Example: Kettridge Copper Mines sells copper forward to Tanaka Electronics. If copper collapses, Kettridge's MtM rises AND Tanaka benefits from lower input costs...
How do I calculate the Liquidity Coverage Ratio in detail?
LCR = HQLA / 30-day net outflows ≥ 100%. Level 1 no haircut, Level 2A 15%, 2B 25-50%. Outflows use Basel run-off rates; inflows capped at 75% of outflows.
How does a CMBS differ from residential MBS at the structural level?
CMBS pool large balloon CRE loans with prepayment lockouts. The key risks are maturity refinance, tenant credit, and property-level underwriting rather than prepayment.
What is a flight-to-quality correlation regime and how does it affect portfolios?
Flight to quality describes investor behavior in crises: selling risky assets and buying safe-havens simultaneously...
What quantitative techniques are used in model validation?
Five families: replication, sensitivity analysis, stress testing, benchmarking, outcomes analysis. Plus parameter stability, bootstrap, ablation, and adversarial testing.
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