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mcarthur724
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I think this question is missing from the consolidated list of 50...
MBS prepayment speeds - this one i was quite certain (i think
)
the tranche priced at premium will decrease in value when prepayment speed is increased and the tranche priced at discount will increase in value when prepayment speed is increased
Also, another new one that I don't think has been mentioned yet is that there was a question regarding risk aggregation. I forget what the answer was though.
MBS prepayment speeds - this one i was quite certain (i think
)the tranche priced at premium will decrease in value when prepayment speed is increased and the tranche priced at discount will increase in value when prepayment speed is increased
Also, another new one that I don't think has been mentioned yet is that there was a question regarding risk aggregation. I forget what the answer was though.
@mcarthur, can you please explain why the tranches will behave in an opposite fashion. since i marked both increase i'm a bit scared.
1) Barbell and Bullet portfolio...equal duration, higher convexity. Correct option barbell
2) Marginal PDs given for 1 yr, 2 yr, 3 yr, 4 yr, so on.. What is the prob that default occurs exactly at the end of the 3rd yr... best answer i had was 18%=(1-MargPD(1))*(1-MargPD(2))*MargPD(3), another option was 54%. Ideally it should be zero (not among the options) since the measure (ppl with measure theory background would know) of the event defaulting on one single day is very small.
3) Cumulative PDs given for 1,2,3,4,5 yrs etc. Default intensity for yr 3. I guess the answer was CumPD(3)-CumPD(2)
4) Valuation of 1yr CDS spread where on default 75% of face would be paid, PD =5%.. Correct ans=380 bp. Other options were 390 bp, 400 bp etc. Did not get the time to recheck the calculation.
5) Want high kurtosis, negative skew. Expects credit spread to narrow. What hedge fund strategy should be employed?
- Answered distressed credit
6) QQ plot - fat tailed
7) Which BASEL approach explicitly accounts for diversification? IMA, IRB, and two basic approaches... Basic approaches do not account for diversification. IRB and IMA does. But IRB does it implicitly. So i went wid IMA
8) Basel II capital ratios. A table of four banks and the various asset types kept as capital with corresponding weights were given. Which bank did not comply with basel 2 given all had 8% of RWA as capital. The answer was the bank with Tier 1 capital was less than 50%
9) Changes in Basel III regarding capital. Answered the elimination of Tier 3 capital.
10) Standard BIA Approach Last three months gross revenue were given with one negative. Some extra info were given as well, i guess to confuse
11) Hedge fund manager goes long for 3 months and then withdraws parking his money in a money market fund. Then goes long again blah blah.. What strategy is he employing?- Equity market timing
12) 1 year ATM option to be issued in 6 months time on stock paying no dividend. Wat's the price? Answer is same as the current 1 yr ATM
13) Volatility skew given. Firm uses at the money implied volatility to value all options. Which one is undervalued/overvalued. I also marked short in the money put
14) Project RAROC given, market return, rf given. The firm's beta was given (Not the project beta, thanks David for ur clarification there). So it was an easy one. Accept/Reject project.
15) Summation of Risk contributions add up to total unexpected loss. Straightforward.
16) Occurrence of originate and distribute model seen for which of the following: US, Irish. Answer was US only.
17) Which distribution is used for frequency. Answer was negative binomial. Straightforward.
18) Triggering event for flash crash. - Large fundamental trader executing sell algo, cross market arbitragers and two more options.
19) TRS payment given the 60 mil bond defaults and 30% of its face was recovered. Wat is the pmt. Regular payments were asked to be ignored. Answered 42 mil.
20) Call option on credit spread. I think the question was which of the below spreads had maximum counterparty exposure. Had to find the deep in the money one/one with max spread. Answered 250 bp - 150 bp
21)Three asset portfolio given with a lot of info and total VAR 500,000. Asked to calculate the incremental VAR due to the third position. Using full reval, the problem was impossible to solve. So I went for a reasonable approximation by component VAR and the answer came 495,000
22) Fund return = insignificant alpha (resulted from t-statistic from table) + 1.2 benchmark return. In downward market, fund underperforms.
23) fund return = 0.002 + 1.2 benchmark return - 0.4 max(0,benchmark return) Answered fund underperforms in both upward and downward markets.
24) Asset, Liability info given including correlation and vols. Asked to compute SAR. Standard one. Answer was not among the options. So i went wid -17 since it was the lowest and the answer was around -23.
25) HHI index. How does Basel use it. - to complement other concentration risk metrics - it's not used at all etc. I answered it's used as a complimentary measure
26) VAR, LVAR(exo) and LVAR(endo) were given or could be computed directly from formula. Wat is the combined LVAR. Answered LVAR(exo)*LVAR(endo)/VAR
27) Merton model assumes equity as a call option on firm's assets
28) Why Merton model cant be applied to bonds - I think I also answered it doesnt follow lognormal diffusion process
29) KMV's distance to default measure: the increases due to increase in long term liabilities is less than the increease due to increase in short term liabilities
30) Leverage Ratio - four options, three involving to tier 1 / capital etc. one was "not a risk based approach"(my ans as well). I think to confuse the unprepared candidate
31) Simple heding using key rate exposures. Answer was long 125,000 USD 2 yr.
32) Credit VaR at 99%..bond priced at 104.something. Migration data was given into various ratings... Need to add up the migration probabilties from the worst rating until the sum is 1%, which was a BB rated priced 97. So my answer was 104-97=7
33) One step bond option pricing. Risk neutral probabilities had to be calculated from the given prices. Though real probabilities were given to confuse. Answer was 3.33
34) Question on compensation practices.a) CRO's compensation should be based primarily on returns b) CEO's compensation etc. I answered the option on paying out deferred stocks as incentive.
35) Exposure into AA rating bonds issued by four firms. Their Capital structure data given (eg. for company X, AAA -25%, AA-25%, A-40%,BBB-10%)...which will have the lowest LGD. I also marked company A since the subordination was max for its AA rated issues
36) Two tranche issues. One paying LIBOR+40 bp, with given %age thickness. Total pool earns LIBOR+80 bp, 10 bp is paid out as servicing fees. What is the return on the subordinate issue. answered LIBOR+160 bp.
37) Four counterparties A,B,C,D and their exposure to each other given. What will be the impact of introducing a CCP. Marked option D. Since, exposures cannot be netted across obligors, however, due to introducing a CCP all exposure can be netted since the counterparty is one - the CCP.
38) Two assets with individual VARs 3 mil and 4 mil. Wat is the VAR range for correlation between 0 and 1. Answer 5 - 7 mil.
39) Motivation for securitization and subsequently selling those assts. Answered reduction in capital requirement.
40) A question asking about the characteristics of volatility weighted historical simulation - the correct choice was that it is based upon the current volatility. There was another choice saying that it is based upon forcasted volatility, but I think that was wrong
41) Calculate liquidity duration. We have position 400,000 shares. Avg. daily trade 200,000 shares. Do not want to exceed 10% of avg daily trade volume. Reqd. number of days to liquidate. 20
42) Which bond has negative duration. (OMG I choosed inverse! Of course it's IO!)
43). Expected shortfall at 95.5 when VaR at 96 to 99 was given - So does this end up just being the same as ES at 95, which is taking the average of the last 4 VARs? That's what I went with. I tried taking away half of the 4th lowest VAR, but there was no answer choice for doing it that way. Anyone know how to handle the .5
44) Back testing failed because of intraday activity.
45) Information ratio manager. Find Portfolio IR. Benchmark IR=0.
46) Question on CS = PD * LGD.
47) EVT POT converge to GPD
48) A firm will not get a loan it requires for purchasing an asset due to lower credit worthiness. What transaction can it make: CLN, CDS, TRS – Ans: CLN
49) Copula from marginal to multivariate
50) Two assets A worth 2 mil and B worth 1 mil. VAR=40,000 for each. Allocation is changed to 1 mil A and 2 mil B. Calc. change in VAR. Rho=0.5
51) Merton Model regarding Distance to default. Choose DD decreases with increase in volatility.
52) 30 yr. Mortgage paying interest in first 5 yrs. Find principal paid on 61st month.
53) Difference between liquidity funding risk and asset/market liquidity risk.
54) Where is friction likely to occur. Originator vs. arranger.
55) While valuing MBS what is considered? prepayment risk is considered.
56) Less principal in MBS is issued than the principal of the underlying mortgage pool. It is Over collateralization.
57) Estimated Expected Loss is a small part of sovereign CDS spread, large part, equal, one more option.
58) Back testing: Inference drawn on 95th percentile is more reliable than 99th percentile
59) Choudhury’s body tail bisecting method: Empirical distro can be used for the tail.
1) Barbell and Bullet portfolio...equal duration, higher convexity. Correct option barbell
2) Marginal PDs given for 1 yr, 2 yr, 3 yr, 4 yr, so on.. What is the prob that default occurs exactly at the end of the 3rd yr... best answer i had was 18%=(1-MargPD(1))*(1-MargPD(2))*MargPD(3), another option was 54%. Ideally it should be zero (not among the options) since the measure (ppl with measure theory background would know) of the event defaulting on one single day is very small.
3) Cumulative PDs given for 1,2,3,4,5 yrs etc. Default intensity for yr 3. I guess the answer was CumPD(3)-CumPD(2)
4) Valuation of 1yr CDS spread where on default 75% of face would be paid, PD =5%.. Correct ans=380 bp. Other options were 390 bp, 400 bp etc. Did not get the time to recheck the calculation.
5) Want high kurtosis, negative skew. Expects credit spread to narrow. What hedge fund strategy should be employed?
- Answered distressed credit
6) QQ plot - fat tailed
7) Which BASEL approach explicitly accounts for diversification? IMA, IRB, and two basic approaches... Basic approaches do not account for diversification. IRB and IMA does. But IRB does it implicitly. So i went wid IMA
8) Basel II capital ratios. A table of four banks and the various asset types kept as capital with corresponding weights were given. Which bank did not comply with basel 2 given all had 8% of RWA as capital. The answer was the bank with Tier 1 capital was less than 50%
9) Changes in Basel III regarding capital. Answered the elimination of Tier 3 capital.
10) Standard BIA Approach Last three months gross revenue were given with one negative. Some extra info were given as well, i guess to confuse
11) Hedge fund manager goes long for 3 months and then withdraws parking his money in a money market fund. Then goes long again blah blah.. What strategy is he employing?- Equity market timing
12) 1 year ATM option to be issued in 6 months time on stock paying no dividend. Wat's the price? Answer is same as the current 1 yr ATM
13) Volatility skew given. Firm uses at the money implied volatility to value all options. Which one is undervalued/overvalued. I also marked short in the money put
14) Project RAROC given, market return, rf given. The firm's beta was given (Not the project beta, thanks David for ur clarification there). So it was an easy one. Accept/Reject project.
15) Summation of Risk contributions add up to total unexpected loss. Straightforward.
16) Occurrence of originate and distribute model seen for which of the following: US, Irish. Answer was US only.
17) Which distribution is used for frequency. Answer was negative binomial. Straightforward.
18) Triggering event for flash crash. - Large fundamental trader executing sell algo, cross market arbitragers and two more options.
19) TRS payment given the 60 mil bond defaults and 30% of its face was recovered. Wat is the pmt. Regular payments were asked to be ignored. Answered 42 mil.
20) Call option on credit spread. I think the question was which of the below spreads had maximum counterparty exposure. Had to find the deep in the money one/one with max spread. Answered 250 bp - 150 bp
21)Three asset portfolio given with a lot of info and total VAR 500,000. Asked to calculate the incremental VAR due to the third position. Using full reval, the problem was impossible to solve. So I went for a reasonable approximation by component VAR and the answer came 495,000
22) Fund return = insignificant alpha (resulted from t-statistic from table) + 1.2 benchmark return. In downward market, fund underperforms.
23) fund return = 0.002 + 1.2 benchmark return - 0.4 max(0,benchmark return) Answered fund underperforms in both upward and downward markets.
24) Asset, Liability info given including correlation and vols. Asked to compute SAR. Standard one. Answer was not among the options. So i went wid -17 since it was the lowest and the answer was around -23.
25) HHI index. How does Basel use it. - to complement other concentration risk metrics - it's not used at all etc. I answered it's used as a complimentary measure
26) VAR, LVAR(exo) and LVAR(endo) were given or could be computed directly from formula. Wat is the combined LVAR. Answered LVAR(exo)*LVAR(endo)/VAR
27) Merton model assumes equity as a call option on firm's assets
28) Why Merton model cant be applied to bonds - I think I also answered it doesnt follow lognormal diffusion process
29) KMV's distance to default measure: the increases due to increase in long term liabilities is less than the increease due to increase in short term liabilities
30) Leverage Ratio - four options, three involving to tier 1 / capital etc. one was "not a risk based approach"(my ans as well). I think to confuse the unprepared candidate
31) Simple heding using key rate exposures. Answer was long 125,000 USD 2 yr.
32) Credit VaR at 99%..bond priced at 104.something. Migration data was given into various ratings... Need to add up the migration probabilties from the worst rating until the sum is 1%, which was a BB rated priced 97. So my answer was 104-97=7
33) One step bond option pricing. Risk neutral probabilities had to be calculated from the given prices. Though real probabilities were given to confuse. Answer was 3.33
34) Question on compensation practices.a) CRO's compensation should be based primarily on returns b) CEO's compensation etc. I answered the option on paying out deferred stocks as incentive.
35) Exposure into AA rating bonds issued by four firms. Their Capital structure data given (eg. for company X, AAA -25%, AA-25%, A-40%,BBB-10%)...which will have the lowest LGD. I also marked company A since the subordination was max for its AA rated issues
36) Two tranche issues. One paying LIBOR+40 bp, with given %age thickness. Total pool earns LIBOR+80 bp, 10 bp is paid out as servicing fees. What is the return on the subordinate issue. answered LIBOR+160 bp.
37) Four counterparties A,B,C,D and their exposure to each other given. What will be the impact of introducing a CCP. Marked option D. Since, exposures cannot be netted across obligors, however, due to introducing a CCP all exposure can be netted since the counterparty is one - the CCP.
38) Two assets with individual VARs 3 mil and 4 mil. Wat is the VAR range for correlation between 0 and 1. Answer 5 - 7 mil.
39) Motivation for securitization and subsequently selling those assts. Answered reduction in capital requirement.
40) A question asking about the characteristics of volatility weighted historical simulation - the correct choice was that it is based upon the current volatility. There was another choice saying that it is based upon forcasted volatility, but I think that was wrong
41) Calculate liquidity duration. We have position 400,000 shares. Avg. daily trade 200,000 shares. Do not want to exceed 10% of avg daily trade volume. Reqd. number of days to liquidate. 20
42) Which bond has negative duration. (OMG I choosed inverse! Of course it's IO!)
43). Expected shortfall at 95.5 when VaR at 96 to 99 was given - So does this end up just being the same as ES at 95, which is taking the average of the last 4 VARs? That's what I went with. I tried taking away half of the 4th lowest VAR, but there was no answer choice for doing it that way. Anyone know how to handle the .5
44) Back testing failed because of intraday activity.
45) Information ratio manager. Find Portfolio IR. Benchmark IR=0.
46) Question on CS = PD * LGD.
47) EVT POT converge to GPD
48) A firm will not get a loan it requires for purchasing an asset due to lower credit worthiness. What transaction can it make: CLN, CDS, TRS – Ans: CLN
49) Copula from marginal to multivariate
50) Two assets A worth 2 mil and B worth 1 mil. VAR=40,000 for each. Allocation is changed to 1 mil A and 2 mil B. Calc. change in VAR. Rho=0.5
51) Merton Model regarding Distance to default. Choose DD decreases with increase in volatility.
52) 30 yr. Mortgage paying interest in first 5 yrs. Find principal paid on 61st month.
53) Difference between liquidity funding risk and asset/market liquidity risk.
54) Where is friction likely to occur. Originator vs. arranger.
55) While valuing MBS what is considered? prepayment risk is considered.
56) Less principal in MBS is issued than the principal of the underlying mortgage pool. It is Over collateralization.
57) Estimated Expected Loss is a small part of sovereign CDS spread, large part, equal, one more option.
58) Back testing: Inference drawn on 95th percentile is more reliable than 99th percentile
59) Choudhury’s body tail bisecting method: Empirical distro can be used for the tail.
mcarthur724
Member
@AG- I am almost positive that I remember reading in the materials that the Barbell will have greater convexity since it is maturity squared, however, that doesn't mean that it will have greater duration. That's the first reason. The second is that the question mentioned that they were both zero-coupon bonds, which allowed us to calculate the duration based upon the maturity of the bonds. They ended up both being 32 years, which meant that they had equal durations. There are other answers that I'm not as confident about, but this is one of the ones that I am just about 100% sure that the answer was convexity is greater for Barbell while duration is the same for both.
mcarthur724
Member
@AG- I just noticed that your question was referring to the MBS tranches rather than the Bullet/Barbell. I actually just copied that explanation over from a different user's post, but I agree with that answer. The materials said that discount bonds have a direct relationship, while premium bonds have an inverse relationship. I'm pretty certain that the answer was not that they would both increase because the materials definitely said that premium and discount react differently.
ok ok... yeah i guess the material was correct.... whereas my logic was very simple.... since the question did not tell about increase/decrease in rates, I assumed the only way prepayments could affect is both tranches will realize cash flows earlier and hence both prices would increase... but i clearly messed it...
mcarthur724
Member
Good point. Who knows, you could be right since it didn't mention interest rates specifically. This is a common theme that there are often 2 answers that seem like they could be correct and it sometimes comes down to how the question is interpreted.
@Zript, @Q45, I dun rem the exact ans. however I first found the individual active returns by multiplying IR with tracking error, benchmark was ignore since active risk and tracking error are both 0.
I then found the wtd. avg. active return and the T.E. which is nothing but a diversified stardard deviation.
Yeah, I think the ans. to the mortgage question was something like it. I dun rem marking 164. And if the other options were more than 500, they were definitely wrong.
@mcarthur, let's hope for the best....
I then found the wtd. avg. active return and the T.E. which is nothing but a diversified stardard deviation.
Yeah, I think the ans. to the mortgage question was something like it. I dun rem marking 164. And if the other options were more than 500, they were definitely wrong.
@mcarthur, let's hope for the best....
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New Member
Just reading now CFA Level 1 and found HHI explanation. My answer was that BASEL allow to use with another concentration measure instruments.
But now I understand that it's false: HHI deals with concentration of market competition, but not with credit risk concentration.
But now I understand that it's false: HHI deals with concentration of market competition, but not with credit risk concentration.
Vangerok, Good observation.. But basically it's like any other measure of concentration... You can think of exposure of a given obligor as market share of a given firm.... So it can be used for exposure conc. as well... However what I'm not sure abt is if Basel allows other metrics to be used as concentration metric. If it does, then it's a correct choice.
I also marked the same ans. as you did.
I also marked the same ans. as you did.
7) Which BASEL approach explicitly accounts for diversification? IMA, IRB, and two basic approaches... Basic approaches do not account for diversification. IRB and IMA does. But IRB does it implicitly. So i went wid IMA
what's the answer? I think for IRB the drawback is it not take into account diversification and concentration, so whatever it is explicitly or implicity, IRB is wrong.
what's the answer? I think for IRB the drawback is it not take into account diversification and concentration, so whatever it is explicitly or implicity, IRB is wrong.
Eh, this is one of the easiest CFA L1 questions...
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