Topic 63: VaR and Risk Budgeting in Investment Management

Test ID: 9501056

Question #1 of 16 Question ID: 440504

A manager has a portfolio with only one position: a $600m investment in X. The manager is considering adding a $600m position
in Y or Z to the existing portfolio. The current volatility of X is 8%. The manager wants to limit portfolio VAR to $234 million at the
99% confidence level. Position Y has a return volatility of 10% and a correlation with X equal to 0.7. Position Z has a return
volatility of 13% and a correlation with X equal to zero. Which of the two proposed additions (Y or Z) will keep the manager within
his risk budget?

A) Adding Z only.
B) Adding Y only.
C) Adding both.
D) Adding neither.

Question #2 of 16 Question ID: 440499

The ABC Retirement Fund has $300m in assets and $290m in liabilities. Assume that the expected return on the surplus scaled
by assets is 6%. This means that the surplus is expected to grow by $18m over the first year. The volatility of the surplus is 10%.
Using a Z-Score of 1.65, compute VAR and the associated deficit that would occur with the loss associated with the VAR.

Associated
VAR
Deficit

A) $49.5m $21.5m

B) $40.5m $12.5m

C) $40.5m $30.5m

D) $49.5m $39.5m

Question #3 of 16 Question ID: 440496

VAR can apply to funding risk:

A) by showing how to construct the surplus so that it goes up when the VAR loss occurs.
B) by calculating the level of VAR associated with a zero surplus.
C) in no way, funding risk is not a type of risk to which VAR can apply.
D) by calculating the fall in surplus when the portfolio's VAR loss occurs.

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Question #4 of 16 Question ID: 440495

Which of the following are properties that hedge funds generally share with "sell-side" institutions in the investment industry?

A) Hedge funds have a long horizon and low leverage.

B) Hedge funds use high leverage and have a high turnover.
C) Hedge funds use low leverage and have a low turnover.
D) There are no properties that hedge funds share with sell-side institutions.

Question #5 of 16 Question ID: 440501

Which of the following statements regarding risk budgeting NOT correct?

A) Absolute or asset risk refers to the total possible losses over a horizon.
B) There is a trend toward using a global custodian in the risk management of investment firms.
C) Funding risk is the risk that the values of assets will not be sufficient to cover the liabilities of the
fund.

D) Two components of sponsor risk are cash-flow risk, which is the variation of earnings, and economic
risk, which addresses variations of contributions to the pension fund.

Question #6 of 16 Question ID: 444863

In which of the following areas of the investment process can VaR techniques be used?

A) During the strategic asset-allocation decision, only.

B) When forming investment guidelines, only.
C) When forming investment guidelines, during the strategic asset-allocation decision, and during the
trading decision, only.
D) When forming investment guidelines, during the strategic asset-allocation decision, during the trading
decision and during the performance evaluation period.

Question #7 of 16 Question ID: 440493

Compared to banks, the "sell side", investors on the "buy side" have:

A) a shorter horizon and slower turnover.

B) a shorter horizon and faster turnover.
C) a longer horizon and faster turnover.
D) a longer horizon and slower turnover.

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Question #8 of 16 Question ID: 440498

Which of the following types of risk is best defined as the total possible losses over a horizon?

A) Active management risk.

B) Funding risk.
C) Asset risk.
D) Sponsor risk.

Question #9 of 16 Question ID: 440497

In contrast to absolute risk, relative risk is measured by:

A) total variance, and VAR techniques can apply to tracking error if it is normally distributed.
B) tracking error, and VAR techniques cannot apply under any circumstances.
C) tracking error, and VAR techniques can apply to tracking error if it is normally distributed.
D) total variance, and VAR techniques cannot apply under any circumstances.

Question #10 of 16 Question ID: 440503

Trends in risk management systems by money managers include(s):

A) an increased use of such systems in a fairly homogenous fashion.

B) an increased use of such systems and efforts to differentiate themselves by the type of management
used.
C) a decreased use of such systems and efforts to differentiate themselves by the type of management
used.
D) a decreased use of such systems in a fairly homogenous fashion.

Question #11 of 16 Question ID: 440502

If the top management of a large firm finds that the overall risk of the firm's portfolios has changed, which of the following would
NOT be a likely reason?

A) Rogue traders have made unauthorized trades.

B) The overall markets have become more volatile.
C) Many of the managers have unknowingly made very different style bets.
D) Individual managers have exceeded their risk budget.

Question #12 of 16 Question ID: 440491

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Risk budgeting is a:

A) bottom-up process and is forward looking.

B) bottom-up process and is backward looking.
C) top-down process and is forward looking.
D) top-down process and is backward looking.

Question #13 of 16 Question ID: 440500

The XYZ Retirement Fund has $400m in assets and $370m in liabilities. Assume that the expected return on the surplus scaled
by assets is 6% and the expected growth in liabilities is 5%. The volatility of the asset growth is 10% and the volatility of the
liability growth is 7%. Compute the volatility of the surplus growth assuming the correlation between assets and liabilities is 0.4.

A) $35.45.
B) $37.97.
C) $31.19.
D) $33.26.

Question #14 of 16 Question ID: 440492

There are different approaches to the management of operational risk across the financial services sector. Which of the following
approaches has a critical feature that is often set up at a central point within the firm so that the risks can be easily combined
and aggregated?

A) Risk mitigation.
B) Hybrid.
C) Top-down.
D) Bottom-up.

Question #15 of 16 Question ID: 384359

The process of defining risk and allocating that risk across a portfolio is known as:

A) tactical allocation.
B) asset allocation.

C) market timing.
D) risk budgeting.

Question #16 of 16 Question ID: 440494

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Which of the following statements regarding the "sell side" (i.e., banks) and the "buy side" (i.e., investors) of the investment
management industry is least accurate?

A) Turnover is slow on the buy side.

B) Investment horizon is long-term on the sell side.
C) Tracking error is a risk measure used on the buy side.
D) Use of leverage is high on the sell side.

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