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In this scenario, we are underestimating the liquidity risk in the market. By marking to model we are making liquidity assumptions that may not hold. As a result, if the model assumes a liquid market, it may spit out a better price than we can get in a market where liquidity is scarce. Here is...

Hi @Wanderer, they were attempting to create a straddle like position, similar to how you would with options. This strategy is used when you want to benefit from moves in the underlying, but are not sure what direction they will go. Here is a good definition of straddle...

@QuantMan2318 and @Matthew Graves , thanks for your help.

Malz lists causes of transaction liquidity risk, but I don't see how the factors he listed can affect the ability of buying or selling to move the price. He lists: Cost of trade processing Inventory management by dealers Adverse selection Differences of opinion Picking just one of these -...

Thanks David.

Hi @David Harper CFA FRM CIPM ,. I'm a bit confused as to the difference between Operational Risk Categories (ORCs) and the standard seven operational risk event types. The Basel paper “Operational Risk—Supervisory Guidelines for the Advanced Measurement Approaches says banks can come up with...

IMO this can be a confusing topic. When a new position is priced, we want to know the value of the counterparty risk of the position and charge it to the client, as you know this is CVA. Assume we have other positions with this counterparty in a netting set; CVA will be expressed at the...

If you want to drill down into more detail on a topic, a lot of the source texts are available free on Google Books. Entire books are not available as a whole, but if you are able to find the text, using the "search inside this book", you will likely find the piece you are looking for. This is...

Hi, I'm having trouble grasping this concept; I don't see the relevance of Gregory's explanation either. When expected exposure and probability of default are positively correlated (wrong way risk), the exposure conditional on default is higher than if the two were independent. This part makes...

Memorizing passages isn't going to help you much. As you pointed out, there is a lot of content! You need to understand the content in order to do well. The majority of questions test your understanding of the material and won't ask a direct question. Regarding formulas, many formulas are given...

Hi excalibur, this forum is aimed at content testable on the FRM exams. While the basic concept of Cholesky decomposition is mentioned in the material, your question might be better posed here: quant.stackexchange.com

Hi @David Harper CFA FRM CIPM , If CVA represents the risk to both parties, how come it is calculated (in Gregory 12.2) using the exposure of the firm to its counterparty (B) and counterparty B's PD ? Why don't we somehow incorporate both PDs ? I'm having a lot of trouble with the Gregory...

I'm also confused by the difference. I *think* I got the idea behind synthetic CDOs thanks to one of David's youtube videos (bottom), but "structured finance securities" are still not clear to me. 1. My understanding of synthetic CDOs: A bank wants to buy protection for its credit portfolio. It...

Gregory states that tranching creates leverage, but I don't understand his explanation. "Tranching creates a leverage effect since the more junior tranches carry more risk than the index whilst the most senior tranches have less risk." They way I understand it, I invest 10MM to go long a CDS...

Hi, I'm having trouble understanding what happens when a CDS index rolls. The text in Gregory doesn't do much for my understanding :). Thanks in advance.

As always, thanks for the very detailed reply.

I'm a bit confused with how margin calls typically work in OTC agreements governed by ISA Credit Support Annexes. We have a exposure threshold below which no collateral need be posted. We have a minimum transfer amount, such that when the exposure is >= threshold + minimum transfer amount...

Hi, (realizing this was asked nearly a year ago, but it may still be useful to people.) According to Malz "Increases in the default rate increase the bond losses and decrease the equity Internal Rate of Return." So you are correct, an increase in probability of default (PD) alone, with...

Sorry @David Harper CFA FRM CIPM , I've got another question on the same topic of calculating CVaR. I'm having trouble wrapping my head around the second half of this chapter, thanks in advance for the help. In practice question 311.2 we are given the following inputs and asked to calculate a...

@David Harper CFA FRM CIPM , thanks for clearing that up. I had (incorrectly) thought loss at (alpha or significance level) to be the same as unexpected loss.