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FRM Part II Updated
How does counterparty credit risk specifically differ from issuer default risk?
Consider two exposures to hypothetical Briardale Holdings: Bond vs Swap. Five key differences: exposure magnitude (face value vs MtM), direction uncertainty (always asset vs flip direction), time variation (declining vs tent-shaped)...
What is a liquidity horizon and how does FRTB assign them?
Liquidity horizons are FRTB's regulatory days-to-exit (10/20/40/60/120) applied to risk factors. Illiquid factors get longer horizons, scaling ES and capital.
How do auto loan ABS work and what credit enhancement is typical?
Auto loan ABS pool retail loans into senior/subordinate notes supported by subordination, overcollateralization, reserves, and excess spread. Short loss curves and essential-asset collateral make them resilient.
How should a model inventory be structured under SR 11-7?
A compliant model inventory captures ID, classification, tier, ownership, technical metadata, validation status, and performance. It drives validation planning and findings tracking.
What's the Monte Carlo workflow for simulating credit portfolio losses?
Factor-based Monte Carlo simulates systematic and idiosyncratic returns, marks defaults against thresholds, aggregates losses...
How does Perold's implementation shortfall framework measure execution cost?
Implementation shortfall measures total cost from investment decision to close. Its four components — delay, impact, opportunity, explicit — capture what VWAP misses.
When is TWAP a better benchmark than VWAP?
TWAP weights prices equally over time. It beats VWAP for thin stocks, evenly split orders, and when volume is unstable. VWAP fits liquid stocks with stable volume profiles.
What is counterparty credit risk (CCR) and why is it different from regular credit risk?
Counterparty credit risk (CCR) is the risk that the counterparty to a bilateral derivative or securities financing transaction will default before settling the transaction's final cash flows, causing an economic loss. It differs from issuer credit risk in four fundamental ways...
How does the bid-ask spread approach to liquidity-adjusted VaR work?
LVaR = VaR + 0.5·P·(μ_s + k·σ_s). Adds bid-ask liquidity cost using spread mean and stdev at the VaR confidence level. Known as BDSS.
What are the main ABS types outside of mortgages and how do they differ structurally?
Non-mortgage ABS securitize auto, card, student, equipment, and esoteric receivables in bankruptcy-remote SPVs. Weak prepay options shift the analytical focus to credit loss curves.
What does SR 11-7 require for model validation governance?
SR 11-7 establishes three pillars: development/implementation/use, independent validation, and governance. Effective challenge requires authority, stature, and independence.
How is the Stress Capital Buffer (SCB) calculated and what are its implications?
SCB = max(starting CET1 - trough CET1, 2.5%) + 4 quarters of dividends. Sets firm-specific buffer above 4.5% minimum plus G-SIB surcharge.
What is DFAST and how does it differ from CCAR?
DFAST is statutory with standardized capital actions; CCAR is supervisory with planned capital actions and drives the SCB. DFAST applies to Cat I-IV, CCAR historically to largest.
How do you run operational risk scenario analysis workshops that produce credible loss estimates?
Use structured elicitation with independent estimation, anonymous dispersion display, and bias awareness to produce defensible operational risk scenario estimates.
What is the effective spread and how is it different from the quoted spread?
Quoted = ask-bid; Effective = 2|P-mid| (actual cost); Realized = 2|P-mid_t+5| (MM revenue after impact)...
What is the order processing cost component of the spread?
Processing cost covers fixed costs of maintaining markets: tech, fees, capital, personnel — relatively stable component...
What is repricing gap analysis and what are its limitations?
Repricing gap analysis groups assets and liabilities into time buckets based on when they next reprice, then computes the gap in each bucket.
What is VWAP and why is it used as an execution benchmark?
VWAP is price weighted by volume across a period. It's a popular execution benchmark because it's passive-friendly, observable, and fair, though it doesn't capture impact from the trade itself.
What's the difference between implicit and explicit transaction costs?
Explicit costs are invoiced (commissions, fees, taxes). Implicit costs are embedded in execution prices (spread, impact, opportunity), typically dwarfing explicit for institutional size.
How is concentration risk measured with the Herfindahl index?
HHI = sum of weighted exposures squared, flags concentration; Basel uses granularity adjustments when HHI exceeds thresholds...
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