Chapter 5: Market Risk (15 marks)

Question 1

What sub-divisions can market risk be broken down into?

Answer 1

• Volatility risk
• Market liquidity risk
• Currency risk
• Basis risk
• Interest rate risk
• Commodity price risk
• Equity price risk

Question 2

What is volatility risk?

Answer 2

Price movements that are more uncertain than usual affecting the price of products.

Question 3

What is market-liquidity risk?

Answer 3

Risk of loss through not being able to trade in a market or obtain the desired price for a product.

Question 4

What is currency price risk?

Answer 4

Adverse movements in exchange rates. Affects any portfolio with cash flows denominated in a currency other than the firm’s base currency.

Question 5

What is basis risk?

Answer 5

When one risk exposure is hedged with an offsetting exposure in another instrument that behaves in a similar, but not identical, manner.

Question 6

What is interest rate risk?

Answer 6

Adverse changes in interest rates. Affects fixed income securities, futures, options, and forwards.