2015 FRM practice exam #2

[Ekin4112]

Hi,

I would like to know why b and d do not recognize diversification benefit?

Pillar 1 of the Basel II framework allows banks to use various approaches to calculate the capital requirements
for credit risk, operational risk and market risk. Which of the following Basel II approaches allows a bank to
explicitly recognize diversification benefits?
a. The internal models approach for market risk
b. The internal ratings based approach for credit risk
c. The basic indicator approach for operational risk
d. The standardized approach for operational risk

Correct Answer: a
Rationale: The internal models approach allows banks to use risk measures derived from their own internal risk
management models, subject to a set of qualitative conditions and quantitative standards. In terms of risk aggregation
within market risk, banks are explicitly allowed to recognize empirical correlations across broad market risk
categories, and, thus, diversification benefits.

Thanks,

 

[ShaktiRathore]

Hi
Standardized approach is a methodology that do not recognize diversification why it does not recognize it because methodology is such that method do not recognise it thats it just like BIA. d is incorrect
Irb for ctedit risk just assess ratings of credit assets internally,risk weight accordingly to get credit risk. The method do not recognise diversification therefore b is incorrect.
Ima calculates Var which recognise diversification. a is correct
Thanks