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Worksheet: Risk Management and Portfolio Theory

Total questions: 95

Worksheet time: 48mins

Name
Class
Date
1.

Two portfolios have identical expected returns and standard deviations. However, Portfolio A has a lower semi-variance than Portfolio B. A downside-risk-averse investor would prefer Portfolio A because

a)

It has higher beta

b)

It reduces total risk

c)

It minimizes negative deviations

d)

It dominates the efficient frontier

2.

In mean–variance optimization, an increase in correlation among assets will

a)

Increase diversification benefits

b)

Shift the efficient frontier inward

c)

Eliminate systematic risk

d)

Increase Jensen’s Alpha

3.

The key limitation of variance as a risk measure is that it

a)

Ignores expected return

b)

Penalizes upside and downside volatility equally

c)

Cannot be estimated empirically

d)

Assumes non-normality

4.

If an asset has a beta of zero, it implies

a)

The asset is risk-free

b)

The asset has no total risk

c)

The asset is uncorrelated with the market

d)

The asset has negative expected return

5.

Which condition violates the assumptions of Modern Portfolio Theory?

a)

Investors are risk-averse

b)

Returns are normally distributed

c)

Investors have heterogeneous expectations

d)

Markets are frictionless

6.

A portfolio located below the efficient frontier is considered

a)

Dominant

b)

Efficient

c)

Sub-optimal

d)

Risk-free

7.

Jensen’s Alpha is most appropriate when

a)

Total risk is relevant

b)

Portfolio is well diversified

c)

Returns are negatively skewed

d)

Correlation is zero

8.

Which risk measure is coherent under Artzner et al.’s axioms?

a)

Variance

b)

Standard deviation

c)

Value at Risk

d)

Conditional Value at Risk

9.

Increasing the number of assets in a portfolio indefinitely will

a)

Eliminate total risk

b)

Eliminate systematic risk

c)

Reduce unsystematic risk only

d)

Increase beta

10.

Portfolio risk reduction through diversification becomes ineffective when

a)

Correlation approaches −1

b)

Assets are identical

c)

Correlation approaches +1

d)

Number of assets increases

11.

A 99% one-day VaR of ₹10 million implies that

a)

Losses will never exceed ₹10 million

b)

Expected loss is ₹10 million

c)

Losses exceed ₹10 million on 1% of days

d)

Maximum loss is capped at ₹10 million

12.

The principal weakness of parametric VaR lies in its

a)

High computational cost

b)

Assumption of linear payoffs and normality

c)

Dependence on historical data

d)

Inability to aggregate risks

13.

Economic capital differs from regulatory capital because economic capital

a)

Is fixed by regulators

b)

Covers expected losses

c)

Reflects firm-specific risk profile

d)

Is irrelevant for pricing

14.

Which risk interaction most contributed to the 2008 financial crisis?

a)

Market–operational risk

b)

Credit–liquidity risk

c)

Operational–strategic risk

d)

Legal–reputational risk

15.

Aggregating risks without considering correlation will most likely

a)

Underestimate risk

b)

Overestimate risk

c)

Eliminate tail risk

d)

Improve capital efficiency

16.

Stress testing complements VaR because it

a)

Uses historical volatility

b)

Focuses on normal conditions

c)

Captures low-probability, high-impact events

d)

Replaces capital requirements

17.

Enterprise Risk Management (ERM) creates value primarily by

a)

Eliminating risks

b)

Increasing leverage

c)

Improving risk-adjusted decision making

d)

Reducing compliance burden

18.

Unexpected loss is best covered by

a)

Provisions

b)

Capital reserves

c)

Insurance contracts

d)

Risk transfer via derivatives

19.

A major criticism of VaR is that it

a)

Ignores diversification

b)

Is not regulator-approved

c)

Fails to describe tail severity

d)

Overstates extreme losses

20.

Firmwide risk management fails when

a)

Risks are measured quantitatively

b)

Risks are managed in silos

c)

Capital is risk-based

d)

Risk appetite is defined

21.

Credit risk is asymmetric because

a)

Gains and losses are equal

b)

Upside is capped while downside is large

c)

Defaults are continuous

d)

Credit spreads are stable

22.

Expected Credit Loss (ECL) under IFRS 9 is calculated as

a)

PD + LGD

b)

PD × EAD

c)

PD × LGD × EAD

d)

LGD × recovery rate

23.

Credit migration risk primarily affects

a)

Expected loss

b)

Market value of credit instruments

c)

Liquidity ratios

d)

Operational capital

24.

Structural credit risk models assume default occurs when

a)

Cash flows decline

b)

Firm value falls below debt obligations

c)

Ratings are downgraded

d)

Interest rates rise

25.

Credit risk differs from market risk because credit losses are

a)

Continuous

b)

Normally distributed

c)

Event-driven

d)

Easily hedged

26.

Concentration risk undermines diversification because

a)

Correlation increases

b)

Exposure becomes idiosyncratic

c)

PD falls

d)

LGD becomes zero

27.

Credit derivatives primarily facilitate

a)

Risk creation

b)

Risk pricing

c)

Risk transfer

d)

Risk elimination

28.

Higher recovery rates imply

a)

Higher LGD

b)

Lower LGD

c)

Higher PD

d)

No impact on loss

29.

Credit risk capital is required mainly to cover

a)

Expected losses

b)

Unexpected losses

c)

Operating expenses

d)

Market volatility

30.

Which borrower characteristic increases default risk most?

a)

High leverage

b)

Stable cash flows

c)

Strong collateral

d)

Long credit history

31.

Basel I was criticized primarily for

a)

Ignoring credit risk

b)

Excessive complexity

c)

Lack of risk sensitivity

d)

High capital requirement

32.

Pillar III of Basel II aims to

a)

Increase capital

b)

Improve supervisory control

c)

Enhance market discipline through disclosure

d)

Reduce operational risk

33.

Basel III strengthened capital quality by emphasizing

a)

Tier-3 capital

b)

Hybrid instruments

c)

Common Equity Tier 1

d)

Subordinated debt

34.

The countercyclical buffer is intended to

a)

Increase profitability

b)

Smooth credit booms and busts

c)

Replace monetary policy

d)

Reduce operational losses

35.

Liquidity Coverage Ratio (LCR) addresses

a)

Long-term solvency

b)

Structural funding risk

c)

Short-term liquidity stress

d)

Credit concentration

36.

Net Stable Funding Ratio (NSFR) discourages

a)

Capital accumulation

b)

Short-term wholesale funding

c)

Credit growth

d)

Asset diversification

37.

Basel III was primarily a response to

a)

Asian Financial Crisis

b)

European Debt Crisis

c)

Global Financial Crisis (2008)

d)

COVID-19 shock

38.

Risk-weighted assets (RWA) increase when

a)

Asset quality improves

b)

Risk exposure rises

c)

Liquidity improves

d)

Capital increases

39.

One criticism of Basel norms is that they

a)

Ignore risk

b)

Are pro-cyclical

c)

Eliminate lending

d)

Remove bank competition

40.

Basel implementation in India follows

a)

A delayed adoption model

b)

Full deviation model

c)

RBI-calibrated phased approach

d)

Market-driven approach

41.

Operational risk losses typically exhibit

a)

Normal distribution

b)

Low severity, high frequency

c)

Fat-tailed distribution

d)

Symmetric distribution

42.

Scenario analysis in operational risk is particularly useful when

a)

Historical data is abundant

b)

Loss events are rare

c)

Systems are automated

d)

Correlation is stable

43.

Internal fraud is difficult to model because it

a)

Is systematic

b)

Has predictable frequency

c)

Involves behavioral factors

d)

Is insured

44.

Liquidity risk materializes fastest through

a)

Credit deterioration

b)

Funding withdrawal

c)

Capital erosion

d)

Accounting losses

45.

Market liquidity risk increases when

a)

Trading volume rises

b)

Bid-ask spread widens

c)

Volatility declines

d)

Information symmetry improves

46.

A maturity mismatch primarily exposes a bank to

a)

Market risk

b)

Credit risk

c)

Liquidity risk

d)

Operational risk

47.

Liquidity stress testing differs from solvency testing because it focuses on

a)

Asset quality

b)

Cash flow timing

c)

Capital adequacy

d)

Profitability

48.

Funding liquidity risk and market liquidity risk are linked because

a)

Both reduce capital

b)

Asset sales can depress prices

c)

Both eliminate diversification

d)

Both are regulatory risks

49.

A contingency funding plan is activated when

a)

Capital falls

b)

Normal funding sources fail

c)

Profits decline

d)

Credit ratings improve

50.

Effective liquidity management ultimately supports

a)

Risk elimination

b)

Short-term profits

c)

Institutional survival

d)

Regulatory arbitrage

51.

A coherent risk measure must satisfy all EXCEPT

a)

Subadditivity

b)

Translation invariance

c)

Positive homogeneity

d)

Mean-variance efficiency

52.

Which condition ensures diversification benefit in portfolio risk aggregation?

a)

Zero beta

b)

Negative covariance

c)

Identical expected returns

d)

High volatility

53.

Skewness in return distribution primarily affects

a)

Expected return

b)

Variance

c)

Downside risk perception

d)

Correlation

54.

Why does CAPM fail empirically in many markets?

a)

Risk-free rate is unstable

b)

Beta does not fully explain returns

c)

Investors are risk neutral

d)

Markets are perfectly efficient

55.

A portfolio optimized under variance may be suboptimal when returns are

a)

Symmetric

b)

Normally distributed

c)

Fat-tailed

d)

Independent

56.

Downside-risk measures are preferred over variance because they

a)

Reduce estimation error

b)

Focus only on unfavorable outcomes

c)

Ignore volatility

d)

Eliminate tail risk

57.

Correlation breakdown during crises implies

a)

Improved diversification

b)

Stable portfolio risk

c)

Underestimated portfolio VaR

d)

Lower systemic risk

58.

Which assumption of Modern Portfolio Theory is most violated in practice?

a)

Risk aversion

b)

Rationality

c)

Stable correlations

d)

Diversification

59.

Portfolio optimization under expected shortfall differs from VaR because it

a)

Penalizes tail losses

b)

Assumes normality

c)

Ignores correlations

d)

Uses historical means only

60.

A negatively skewed distribution implies

a)

Frequent small gains and rare large losses

b)

Frequent losses

c)

Stable returns

d)

Low kurtosis

61.

VaR fails as a risk measure mainly because it

a)

Overstates losses

b)

Violates subadditivity

c)

Is computationally complex

d)

Is regulator imposed

62.

Expected Shortfall (CVaR) improves upon VaR by

a)

Reducing confidence levels

b)

Measuring average tail loss

c)

Eliminating model risk

d)

Removing volatility

63.

Monte Carlo VaR is preferred when portfolios contain

a)

Linear instruments

b)

Plain vanilla bonds

c)

Non-linear derivatives

d)

Risk-free assets

64.

Economic capital allocation supports value creation by

a)

Maximizing leverage

b)

Pricing risk correctly

c)

Reducing disclosures

d)

Avoiding regulations

65.

Why did banks with high VaR still fail in 2008?

a)

VaR ignored profitability

b)

VaR ignored liquidity and tail dependence

c)

VaR overstated risk

d)

VaR replaced stress tests

66.

Risk aggregation becomes unreliable when

a)

Risks are independent

b)

Correlations are stable

c)

Tail dependence exists

d)

Capital is adequate

67.

Stress testing is forward-looking because it

a)

Uses past losses

b)

Assumes normal markets

c)

Simulates hypothetical extreme scenarios

d)

Uses accounting data

68.

Capital buffers primarily exist to absorb

a)

Expected losses

b)

Operating costs

c)

Unexpected losses

d)

Interest expenses

69.

A key challenge in firmwide risk management is

a)

Risk measurement

b)

Risk governance and culture

c)

Risk modeling software

d)

Regulatory reporting

70.

Silo-based risk management fails because it

a)

Underprices risk

b)

Ignores risk interactions

c)

Increases diversification

d)

Enhances transparency

71.

Credit risk losses are non-linear because

a)

Exposure is fixed

b)

Default is a binary event

c)

Returns are continuous

d)

LGD is zero

72.

Structural credit models are most sensitive to

a)

Interest rates

b)

Asset volatility

c)

Inflation

d)

Accounting earnings

73.

IFRS 9 differs from Basel ECL because IFRS 9 is

a)

Backward-looking

b)

Forward-looking and lifetime-based

c)

Ignoring LGD

d)

Ignoring staging

74.

Credit concentration risk becomes systemic when

a)

Borrowers diversify

b)

Correlations rise during downturns

c)

Recovery rates increase

d)

PD declines

75.

Credit derivatives reduce risk at system level only if

a)

Counterparty risk is negligible

b)

Risk is transferred outside banking system

c)

Spreads decline

d)

Liquidity is high

76.

Basel I was inadequate because it

a)

Ignored capital

b)

Treated all corporate loans equally

c)

Overweighted market risk

d)

Eliminated credit risk

77.

Basel II internal ratings-based (IRB) approach allowed banks to

a)

Reduce disclosure

b)

Use internal PD, LGD estimates

c)

Ignore operational risk

d)

Eliminate capital buffers

78.

Basel III capital reforms emphasized quality because

a)

Quantity alone failed during crisis

b)

Banks had excess capital

c)

Profits were low

d)

Liquidity was abundant

79.

Procyclicality of Basel norms implies

a)

Capital rises during booms

b)

Lending amplifies business cycles

c)

Risk declines in recessions

d)

Liquidity improves in downturns

80.

Countercyclical buffers are activated when

a)

GDP contracts

b)

Credit growth is excessive

c)

Banks incur losses

d)

Liquidity dries up

81.

Operational risk distributions typically show

a)

Thin tails

b)

Normality

c)

Extreme skewness and kurtosis

d)

Stability over time

82.

The greatest challenge in operational risk modeling is

a)

Data abundance

b)

Rare but severe loss events

c)

Stable correlations

d)

Regulatory clarity

83.

Why is insurance insufficient for operational risk?

a)

Premiums are high

b)

Moral hazard and exclusions exist

c)

Losses are predictable

d)

Claims are instant

84.

Liquidity risk differs from solvency risk because liquidity risk concerns

a)

Capital adequacy

b)

Asset valuation

c)

Timing of cash flows

d)

Profitability

85.

Market liquidity and funding liquidity reinforce each other because

a)

Asset sales depress prices

b)

Capital increases

c)

Credit improves

d)

Correlations decline

86.

During crises, liquidity evaporates primarily due to

a)

Inflation

b)

Loss of confidence

c)

Accounting losses

d)

Regulation

87.

LCR focuses on

a)

Long-term funding

b)

30-day stress scenario

c)

Profitability

d)

Capital buffers

88.

NSFR discourages

a)

Long-term lending

b)

Stable deposits

c)

Short-term wholesale funding

d)

Capital adequacy

89.

Liquidity stress testing assumes

a)

Perfect markets

b)

Normal funding access

c)

Severe but plausible shocks

d)

Zero correlations

90.

Contingency funding plans fail when

a)

Capital is high

b)

Triggers are unclear

c)

Markets are liquid

d)

Assets are diversified

91.

Liquidity hoarding during crises leads to

a)

Market stabilization

b)

Credit contraction

c)

Lower spreads

d)

Improved trust

92.

Systemic liquidity risk arises when

a)

Individual bank fails

b)

Many institutions act defensively

c)

Capital ratios improve

d)

Central banks intervene

93.

Central bank lender-of-last-resort function addresses

a)

Solvency problems

b)

Structural deficits

c)

Temporary liquidity shortages

d)

Credit defaults

94.

Effective liquidity risk management ultimately supports

a)

Risk elimination

b)

Regulatory arbitrage

c)

Institutional survival

d)

Short-term ROE

95.

The biggest lesson from global financial crises for risk management is that

a)

Models must be complex

b)

Capital alone is sufficient

c)

Liquidity, correlation, and behavior matter

d)

Risk can be eliminated

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