1.8 Enterprise RM

Question 1

What is scenario analysis used for in risk management?

Answer 1

Evaluating how different future conditions might impact financial performance.

Question 2

What are the three macroeconomic scenarios used by the US Federal Reserve for stress testing?

Answer 2

Baseline, Adverse, and Severely Adverse.

Question 3

What does CCAR stand for?

Answer 3

Comprehensive Capital Analysis and Review.

Question 4

What are Contingent Convertible Bonds (CoCos)?

Answer 4

Hybrid financial instruments that convert into equity or are written down when a bank reaches a distress threshold.

Question 5

What is risk culture?

Answer 5

The shared values, norms, and behaviors within an organization regarding risk-taking and management.

Question 6

What is a key disadvantage of scenario analysis?

Answer 6

It requires extensive data and expertise to create realistic scenarios.

Question 7

How does CCAR improve traditional stress testing?

Answer 7

It simulates multi-quarter macroeconomic scenarios and integrates credit, market, and operational risks.

Question 8

What are the key indicators of a strong risk culture?

Answer 8

Governance structures, risk appetite policies, employee engagement, and risk awareness training.

Question 9

What are two types of concentration risk enterprises face?

Answer 9

Geographical concentration and industry concentration.

Question 10

How does ERM differ from traditional risk management?

Answer 10

ERM integrates all risk types enterprise-wide, while traditional risk management operates in silos.

Question 11

What triggers the conversion of CoCos?

Answer 11

Accounting metrics (e.g., Tier 1 capital levels) or market-based events (e.g., stock price declines).

Question 12

How does CCAR apply to large banks?

Answer 12

It ensures banks maintain sufficient capital through sensitivity testing, stress scenario analysis, and ongoing capital planning.

Question 13

What is the role of external factors in shaping risk culture?

Answer 13

Economic cycles, industry practices, professional standards, and regulatory compliance influence risk culture.

Question 14

What behavioral bias describes avoiding negative financial information?

Answer 14

The Ostrich Effect.

Question 15

How does CCAR differ from standard bank stress testing?

Answer 15

It extends projections over nine quarters and requires both regulatory and bank-generated scenarios.

Question 16

How can scenario analysis create false confidence in risk assessments?

Answer 16

By oversimplifying complex risk relationships or overlooking key variables.

Question 17

Why was Northern Rock’s collapse not a result of trading liquidity risk?

Answer 17

It failed due to funding liquidity risk mismanagement, as it could not secure short-term financing.

Question 18

What key improvement does CCAR introduce regarding risk interconnections?

Answer 18

It dynamically adjusts risk factors like credit spreads and probability of default.

Question 19

How do contingent convertible bonds (CoCos) help banks during financial distress?

Answer 19

They absorb losses by converting into equity or being written down when predefined conditions are met.

Question 20

What are two key behavioral risk concepts that impact financial decision-making?

Answer 20

Anchoring (relying on initial information) and Groupthink (pressure to conform to group opinions).