Level 2: Post what your remember here...

Discussion in 'About FRM' started by troubleshooter, May 19, 2012.

  1. jeevanraju

    jeevanraju New Member

    Any one knows the answers for the following : Please guide /confirm
    1) Bank Trading book .. Additional Capital for the trader ( 1.14 etc -- Is it option A)
    2) Traders Compensation related to Risk Adjusted returns ( Is it :VAR understates
    3) Hedge funds ( survivor ship bias -- Performance Overstated )
    4) Tranches ( p,p-2 etctec )
    5) Netting
    6)Question on delay in payment ( Default , LCR and Interest Coverage Ratios etc etc were the options)
    7) Minimal funding risk ( variance -covariance matrix was given )
    8) TBA portfolios ( Impact on rising interest rates on the market -- Outperform/Underperform etc )
    9) Constant spread assumption v/s a dynamic spread results ( interest and prepayments)
    10) Credit 2 GDP ration (negative )

    In case if any one knows , please provide your valuable inputs .. Thanks
  2. ibrahim-1987

    ibrahim-1987 Active Member

  3. shanlane

    shanlane Active Member

    I had .15 for Excess spread, 2.99 for the high water mark question.

    The convertable arb question was another one where there seemed to be 2 answers. The bond payment was a cash flow but it was not an INCREASE to cash flows. In the hedge fund section it said that if the stock moves up or down we re-hedge and make $ so that was my answer. Any opinions?

    I may sound lilke a nag but I really want to email GARP and tell them that if they expect people to spend a couple of hundred hours studying they should put in half that time re-reading all of their questions to make sure that there are no mistakes.

  4. ibrahim-1987

    ibrahim-1987 Active Member

    100% shanon,,, put my name also.!!!!
  5. emer

    emer New Member


    i chose the coupon as well, but was considering the change in stock value as well. In one case it was a decrease in stock price, which would lead to rebalancing the hedge. Because Delta for the convertible should go down, you will need to BUY BACK some of our SHORTED stocks, leading to a cash OUTFLOW. The other option - dividend on the stock - would also reduce the stock price, hence leading to cash OUTFLOW. The last option, increased fees of brokerage fees, was also not possible. So the only thing left was bond coupon. But maybe my logic is flawed.

  6. emer

    emer New Member


    here my remarks. Overall, I had a very good feeling, when leaving the site. But it changed by now...:-(


    @Net Excess Spread: You have to deduct the guarantee fee. It is "Net" excess spread. So the correct answer was 0.15.

    @Liquidity Duration: It said that the trader wants to liquidate a max. of 15% of MARKET volume.
    So I think you have to calculate the avarage - which was indeed around 5.

    ==> Mistake by GARP:
    There was one apparent mistake in a question regarding DV01 gaps: The question gave liabilities and assets plus
    their modified duration and asked to calculate the gap in DV01s. However, the answers presented referred to the
    gaps in modified durations. Choices were in the millions (correct: 700 million) while DV01-gap was in the
    thousands (770,000)

    @Option pricing using binomial tree
    ==>Inconsenstency by GARP
    They sated in the beginning that any calculations are done using continously discounting. That was not true.
    There was one question which asked to calculate the value of a bond call option using risk-neutral probabilities.
    With continously compounding this yielded 0.53 USD, with annual compounding 0.52 USD (which was one of the choices)

    @Question with formula for probability of default:

    pd = e^x/(e^x + 1) and x = a + b/LTR + g*DSCR

    Asked for range of b and g; correct answer was (a): b < 0 and g < 0.

    Could have been derived analytically or by the given choices: Since LTR and DSCR both influence PDs any choices
    with b>=0 or b<=0 or g>=0 or g<=0 could not work. This left only (a)

    @Question with LVaR and Elasticity: LVaR = VaR * (1 - dP/P) = VaR * (1 - dN/N * Elasticity)
    dN/N = 3% and Elasticity = -0.8 were given and asked by how much LVaR is higher relative to VAR.

    @Question with LVaR and Constant Spread Approach:
    Choices were VaRs with different confidence level. Asked for which of those Liquidity ADJUSTMENT will be highest.
    This is the case for the LOWEST VaR value, since Liquidity Cost are CONSTANT:
    I think this was option (a): 90% + 5 day horizon

    @Question with Barrier Options: Correct answer was 40; Explanation was given above.

    @Question with Asian Options:
    What is correct about Asian options ==> Not sure, chose less volatile payoffs; but actually it is not the payoffs
    which are less volatile but the prices of these options; therefore if could have been "cannot be used for hedging underlyings with regular cash flows". Can anbody confirm?

    @Volatility smile + asked for which option is undervalued: the ONLY correct answer was out-of-the-money-calls,
    because for those the quoted volatility is higher than that for at-the-money options.

    @Question with Senior + Equity tranche and pool of 2 bonds with notional of 100 each and equal PDs p. Notional of Senior Tranche was 100.
    Asked for default probability of equity/senior tranche:

    You had to note that the equity tranche already defaults, when the first
    bond defaults, because than there is only monies left to serve the senior tranche. This made it a calculation of binomial probabilities:

    PD Default of Equity tranche: 1- P(0 bonds default) = 1 - (1-p)^2 = 2p-p^2 = p(2-p)

    I think this was option (a).

    For the senior tranche you had to calculate

    PD Default of Senior tranche: P(2 bonds default) = p^2
    This was not an option.

    @Question with hedge fund 2/20 fees: selected option (c), 2.57
    3 times 2% management fee plus 1 time 20% performance fee on NET performance (i.e. performance less 2%).

    @Icelandic banking crisis: CIB lent more to banks, accepting bonds of other Icelandic banks as collateral.

    @AIB/Rusniak: I think 3 questions from this paper. Don't remember exactly what was asked.

    @Madoff: Why should investors have been suspicious ==> answered "Consisten returns"

    @Macroprudential policies: Asked, which one would be a leading indicator that a shock is a HEALTHY shock:
    Answered, that capital aedaquacy ratios do not change much. All other options were not unique to a healthy shock. However,
    this question was badly phrased.

    @Some question, asking how much of ALPHA should be attributed to asset allocation decision given benchmark weights and returns
    as well as portfolio weights and portfolio returns to some indices.
    ==> Solution was to multiply ACTIVE WEIGHTS with BENCHMARK RETURNS; I think I select option (a), but not sure anymore.

    @Some question to calculate PD for a 1year CDS paying 10% and recovery rate of 0%, default occuring at END of the year.
    Solution was to solve PD*LGD = CS for PD = 25%.

    @Some question about which model focus the most on debt structure ==> KMV

    @Some question with VaR-Results calculated with historical simulation, delta normal and monte carlo simulation;
    Consitency questioned by trader. What is the most plausible explanation for this inconsistency?
    ==> Answered: Different model assumptions;
    However, it could have been data problems as well. In my opinion both choices are possible; But even if you would have perfect data, you will have differences,
    e.g. because Delta-Normal does not account for non-linearities, assumption of parametric distribution does not need to match the historical distribution.

    @Some question, regarding some A-rated company and outstanding derivative exposures. Which would be a good credit mitigant?
    Since all exposures were positive, netting made no sense. Possible were choices "Increase Collateral" and "Credit Triggers".
    I opted for "Increase Collateral", but not sure. Can anybody confirm?

    @Some question regarding which bond to use to collateralize a financial innovation?
    ==> I selected the bond with the LOWEST correlation with the financial innovation, even though it had 3rd highest volatility. Any opinions?
    • Like Like x 1
  7. ibrahim-1987

    ibrahim-1987 Active Member

    i think we were togehter on the exam!! 100% matching!!!
  8. LankyLint

    LankyLint Member

    I swear I could have remembered the entire paper if I tried.

    About the high-water mark question, I got 2.99 as well. Fees for each year was 0.6x or 0.7x something. Also, for the 1st and 3rd year, we would get some profit-sharing fees of 0.1 and 0.15 and the total clearly came out to 2.99!

    About the cash-flow increase, I marked stock going down as well. We didn't know if the value of the stock to go down. Coupons, on the other hand, is expected. It isn't changing, it is just being paid. Our cashflow doesn't change in that case.
  9. troubleshooter

    troubleshooter Active Member

    1. I thought Q.79 (Duration dollar matching qustion) had an issue with the question itself.

    Liability Value = 200 M; Modified Duration = 20
    Asset Value = 220 M; Modified Duration = 15

    What is the gap in DV01.

    Answers: 700 M, 1,000 M, 1,100 M, 1200 M

    I did 700M but how can DV01 could be so high and 100's of millions. I think GARP screwed up again.
    2. Surprisingly there was no question related to Merton Model. Just one straight forward question from KMV model (not quant question) only. The short term debt and long term debt are given. Then the question asks with model uses information related to such captial structure. Obviously KMV...
    • Like Like x 1
  10. LankyLint

    LankyLint Member

    Net excess spread - Definitely 0.15, we had to detect the servicing fees

    Liquidity duration was 5. Taking both together or taking the average both gave us values very close to 5. We won't sell 1 stock and wait another to sell the other.

    Gap - I don't think it mattered how you calculated it. I didn't even think about DV01 in that question. But, I can imagine someone who did must have spent a lot of time on it.

    Option pricing - I marked 0.52 as well

    Probability of default - I think I made the mistake of thinking that we need the score to be as less as possible?

    LVaR - Increases by 2.5% or something

    Asian options - Definitely less volatile pay-offs. It is more likely that Europeans will have 0 one day, and +100 the other. Asians will usually have 0, 5, 0, 10 and so on.

    Healthy shocks - I didn't cover this chapter properly but, couldn't it be trade-balance to gdp or w/e? Trade balance decreases because people are buying foreign goods.

    How much of alpha attributed to benchmark - I think this was 0.18

    VaR results - I thought about assumptions as well. But then I noticed that two of them were giving results very close to each other, whereas, only historical was off.

    Exposures - definitely collateral. Netting wouldn't make sense because all the exposures were positive.

    Choose collateral - definitely lower correlation. If our shit decreases in value, the lower correlation asset will decrease in value the least.
    • Like Like x 1
  11. emer

    emer New Member

    @Inflows: Pretty sure that it was indicated that the stock is going down.
    @Hedge fund fees: HF price always arround 35; Hence, it was 0,7 + 0,66 + 0,66 = 2,10 in Management Fee PLUS positive return was 7,8, net return was 5,8%, absolut performance fee ca. 0,4. Thus, something around 2,50.

    Regards, J
  12. ibrahim-1987

    ibrahim-1987 Active Member

    • Like Like x 1
  13. LankyLint

    LankyLint Member

    @Inflows - yes it was going down but we were short the stock so that's a good thing. But then again, it could be argued that it is more of an adjustment rather than a cash flow. On the other hand, coupon is a cashflow but it isn't increasing anything.

    @Hedge fund fees - Did you take into account that they gave the value of year 2007 in the question somewhere? I'm not sure what I marked in the end but I do remember being able to get 2.99
  14. emer

    emer New Member

    Hi, i left it out on purpose actually, cause with 4 prices you only have 3 periods covered 2008-2009, 2009-2010 and 2010-2011 I think. Hence, only for those periods we can calculate the fees, because for one fee we would NOT know whether there is a performance fee to be applied or not.

    Regards, J
  15. ibrahim-1987

    ibrahim-1987 Active Member

    the q about Wrong way risk from A's perspective :
    i answered with b,
    a: counterparty b offered to sell put options to a on b stocks
    b: company a have a debt with b, & was having collateral of b bonds.

    although Q1: i answered c, since it was collaterlized with 51%. more than any positions else.

    also Q about three managers or somethin,,,, nix, cheson and rey
    i choosed A, haigher IR., he was the middle one.
  16. emer

    emer New Member


    @convertible: Still, it leads to a cash outflow, even though performance will be positive.

    @hedge fund fees: see my logic above.

    Regards, J
  17. ibrahim-1987

    ibrahim-1987 Active Member

    hi emer,
    the q was from 2007, but they only provide from 2008 in the table , tricky q.
  18. LankyLint

    LankyLint Member

    The NAV of how many years was given in the table? I think it was 4? Or was it 3?
  19. ibrahim-1987

    ibrahim-1987 Active Member

  20. emer

    emer New Member

    @1: No, it was bank B offering selling puts on its own shares. Take into account, that question was asking from Bank A perspective. If bank A takes a debt from B and secures it with bonds of B, it will be a wrong-way risk for B.

    @2: I also chose NIX and Information ratio, even though Cheson would have highest sharpe ratio.

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