Financial Risk Management – Level 2

Explain bank credit risk analysis by dividing into quantitative and qualitative skills, covering statement analysis, ratios, macro factors, and collateral evaluation. Assess capacity, willingness, and default implications through these skills.

Identify key sources for credit analysis: annual reports (income statement, balance sheet, cash flow), md&a, investor presentations, press releases, rating agency and third-party research, and credit modeling tools.

Learn how audit reports provide independent opinions on the bank's financial statements, including unqualified, qualified, and adverse, and how analysts read between the lines to detect fraud or misrepresentation.

Explore the Camel framework for bank credit risk, evaluating capital adequacy, asset quality, management, earnings, and liquidity to assess risk and guide valuation.

Compute the portfolio's expected loss from PD, LGD, and EAD for assets A and B, then determine the unexpected loss and risk contribution using the asset correlation.

Explore counterparty credit risk, its differences from lending risk, and key terminologies. Learn Basel III concepts, CVA, bilateral netting, close-out clauses, and practical risk management techniques.

Explore exposure amount and exposure at default, using outstanding loans as examples, and relate loss rate, probability of default, and recovery rate to estimate expected and unexpected losses.

Learn to compute expected loss as exposure amount times probability of default and loss rate, and explore unexpected loss and credit migration with simple models like the Merton model.

Explore three risk assessment approaches—expert-based, statistical, and numerical—using qualitative and quantitative variables to assess default risk and adapt to market changes with neural networks.

Explore rating agencies methodologies, blending judgment and model-based analysis, the eight-step rating process, and how privileged information supports assessing issuer risk and credit quality.

Learn how linear discriminant analysis builds scoring models to separate solvent and insolvent firms, using z-scores, calibration, and cutoff thresholds to assess credit risk.

Explain counterparty risk in financial transactions, highlighting minimal risk in exchange-traded derivatives, and describe repos, reverse repos, securities lending and borrowing, and short selling with practical India constraints.

Identify large, medium, and small counterparty risk players in OTC markets and how collateral and clearing services reduce exposure. Learn terms like credit exposure, default probability, recovery, and mark-to-market exposure.

Examine netting and close-out procedures, including unilateral, bilateral, and multilateral netting; compare payment netting (set-off) with closeout netting, and explore the ISDA master agreement standardizing OTC terms and collateral.

examine multilateral netting across multiple counterparties using central counterparties or exchanges, weighing risk reduction against added costs, disclosure needs, and collateral implications.

This analysis of flaws in securitization, including wrong ratings by rating agencies, the originate-to-distribute model, opaqueness of multi-layer securitized products, and SIVs rolling short-term debt, with credit risk mitigation insights.

Explore credit risk mitigation techniques, including bond insurance, collateralization, termination and reassignment, netting, marking to market, loan syndication, and their impact on bank credit functions.

Credit derivatives unbundle and transfer credit risk from assets to other parties without selling them. Credit default swaps act as customizable insurance, enabling risk management or speculation through specified payments.

Explore credit derivatives such as credit default swaps, forced default puts, and total return swaps, illustrating counterparty risk, default correlation, and protection mechanics through a four-bond bank portfolio.

Analyze collateral concepts including haircut, substitution, rehypothecation, and segregation, and compare CSI agreements with two-way and one-way CSAs, linking collateral terms to credit quality.

Understand how counterparty risk is mitigated through central counterparty structures, loss waterfall, multilateral netting, collateralization, and the role of special purpose vehicles in securitization.

Explore retail banking risk and credit scoring, compare with corporate lending, examine scoring models and mortgage factors, and understand risk-based pricing for lender profitability.

Explore stress testing of counterparty credit risk within market risk, covering unilateral and bilateral CVA, DBA, and how expected exposure and default probabilities are stressed.

Analyze how incremental and marginal CVA account for netting and collateral, quantify changes in exposure, and convert CVA to running spreads, including bilateral CVA and DBA considerations.

Explore credit var with copulas, extending single-factor models to capture default correlations, using threshold, beta, and market factor, and compare loss distributions via simulation.

Explore securitization basics, including selling cash flows to an SPV and converting loans into securities. Learn about tranche structures, mortgage-backed securities, credit enhancements, and risk transfer.

Explore how a master trust SPV enables multiple asset-backed securities from a single credit card pool by using a grantor trust SPV, with excess spread to service tranches.

Explore securitization benefits for financial institutions and investors, including funding assets, balance sheet management, risk transfer through SPV-backed ABS, and enhanced diversification.

Explore credit spreads as the yield gap between risky and risk-free bonds, and examine subordinated debt’s role between equity and debt.

Explore liquidity risk principles, funding models, cash flow modeling, and stress testing. Differentiate solvency from liquidity, and examine cost of liquidation with liquidity-adjusted VaR.

Explore money market and capital market instruments—from treasury bills and munis to corporate bonds, asset-backed securities, structured notes, and strips—and how yield, liquidity, and risk shape bank portfolios.

Examine factors shaping a bank’s net liquidity position by analyzing liquidity supply and demand, time and urgency dimensions, and approaches like asset conversion, borrowed liquidity, and balanced strategies.

Monitor intraday liquidity by tracking inflows and outflows across 1–14, 15–28, 29–90, and 90–180 day buckets to assess liquidity risk and funding costs.

Learn how dealer banks mitigate counterparty risk through hedging, immunization, and central clearing while examining the right to offset, insurance limits, and the lender of last resort during crises.

Align a customized contingency funding plan with the bank's risk profile to support liquidity under stress. Integrate this CFP with liquidity stress testing, governance, scenarios, and stakeholder escalation.

Explore hedge funds, examine performance, compare with mutual funds, and analyze alpha and beta across strategies and institutional growth.

Compare hedge funds to mutual funds as private, leveraged investments with a 2% management fee and 20% performance payout, and examine selection bias, self-reporting bias, and data challenges shaping performance.

Examine how hedge funds grew from 190 billion to 1.3 trillion (1999–2007) and how alpha-beta separation guides managers to pursue alpha while controlling beta with risk tools, benchmarks, and derivatives.

Explore market imperfections that drive illiquidity, including participation costs, transaction costs, search friction, asymmetric information, price impacts, and funding constraints, with real estate as a key example.

Assess a potential investment manager and fund via due diligence elements, including investment background, risk controls, valuation practices, and a balanced risk-return profile with clear fees.

Explore how to assess operational risk, business model risk, and fraud risk in funds using a thorough due diligence questionnaire, coverage from governance to controls, and regulatory checks.

Master portfolio construction by analyzing current portfolios, alphas, covariances, and transaction costs; apply scaling, trimming, and various neutralizations for improved active risk and alpha.

Master risk planning, budgeting, and monitoring to set return and volatility goals, allocate risk capital, and evaluate performance with VaR, tracking error, mean-variance optimization, and sensitivity analysis.

Explore how GDP per capita and regulatory stringency shape fintech credit across countries, analyze risk and returns in peer-to-peer lending, and compare policy frameworks.

Explore how digital evolution shapes finance and business, from cryptocurrencies and fintech to non-banking institutions and digital wallets, with computers recording every online transaction.

Explore how big data exceeds Excel and SQL limits, driving cloud-based, distributed analysis of terabytes of transactions; learn tools like Hadoop, MapReduce, and BigQuery for advanced modeling.

Analyze how banks price deposits based on transaction and non-transaction account fluctuations, using long-term and seasonal averages, with cost plus margin and marginal cost approaches.

Explore non-deposit liabilities as a funding source beyond deposits, including federal funds market, FHLB advances, negotiable CDs, and eurocurrency deposits, and how cost of funds shapes banks’ funding mix.

Examine non-deposit liabilities, focusing on the federal funds market and repo agreements, showing how banks borrow short-term reserves via fed wire, meet reserve requirements, and manage funding costs.

Discover how banks borrow from the federal reserve, distinguish federal funds from the discount window, and analyze primary, secondary, and seasonal credits, plus FHLB advances and negotiable CDs.

Compare historical average cost and pooled funds approaches to determine a bank's cost of funds, comparing sources like savings, time deposits, CDs, and federal borrowing, with risk factors.

Utilize repo financing as a major, secured funding source by posting government securities as collateral, applying haircuts, and aligning buyback terms with asset liquidity and credit quality.

Understand long-term repo financing, including collateral maturity, liquidity, and haircut effects; differentiate general vs special reverse repo transactions and their rate implications.

Analyze a reverse repo transaction that balances demand and supply in the short-term funding market, calculating accrued interest, haircut, and cash flows across both legs and the buyback.

Explore liquidity transfer pricing (LTV) and governance practices that price the cost of liquidity, credit providers of funds, and strengthen resilience after the global financial crisis.

Explore how banks manage cost of liquidity through the liquidity management information system, transfer pricing, and centralized or decentralized funding structures amid stress scenarios and Basel guidelines.

Explore how interest rate parity determines exchange rates by comparing domestic and foreign rates, inflation, and monetary policy, with examples of arbitrage via forward contracts.

Explain covered interest rate parity, the basis b, and how forward hedging ties foreign and domestic interest rates; discuss banks, institutional hedging, and policy-driven factors.

Analyze how duration and convexity shape net worth and how banks manage positive and negative duration gaps. Include a Fannie Mae example of duration gap and basis points scenario analysis.

Analyze how capital allocation among products, lines of business, and practices creates economic value within an ERM framework by balancing risk and risk-return trade-offs.

Foster a diverse senior leadership and board to improve risk management, and measure culture through ethics, behavior, and performance to restore public trust in finance, noting regulators can't create culture.

Explore a 1.5 billion commercial loan portfolio to compute risk-adjusted returns using the ROC formula, detailing expected revenue, operating costs, expected losses, taxes, and economic capital.

Explore coherent risk measures for economic capital, compare standard deviation, value at risk, expected shortfall, and spectral/distorted metrics, and learn aggregation methods such as covariance matrices, copulas, and full modeling.

Explore how stress testing evolved from scap to CCR, focusing on capital adequacy, baselines, tailored supervision, and scenario planning for non global systemically important banks.

Identify and evaluate money laundering and financial terrorism risks through comprehensive customer due diligence, robust kyc policies, governance, sar reporting, and a three-line defense with continuous monitoring.

Regulatory changes push standardised otc derivatives to be cleared by a centralised counterparty, standardise contracts, and trade on electronic platforms, improving price discovery, transparency, and settlement.

Trace the global regulatory evolution from Basel I to Basel 2.5 and the trading book reforms, highlighting stress testing, CCAR, Dodd-Frank, and DFAST shaping modern banking supervision.

Understand how banks compute risk weighted assets using asset weights 0% to 100% and how this drives tier one capital under Basel II to Basel 2.5, including stressed var.

Examine Basel III reforms on operational risk capital, leverage ratio and buffers, and the flows for calculating risk parameters under standardized and IRB approaches across credit, market, and operational risk.

Identify the UK's financial market infrastructures and their supervising authorities—the Bank of England, PRA, and FCA—and outline key objectives for operational resilience, financial stability, market integrity, and consumer protection.

Explore market risk measurement and management through var and var mapping, detailing lognormal var for long option portfolios and normal var for forward positions, with daily conversions and 95% confidence.

Analyze dv01 hedging with tips, swap payments, and binomial bond valuation. Explore drift and mean-reverting interest rate models, including Vicsek.

Explore credit risk concepts, including the Kamil rating system, expected and unexpected losses, internal rating models vs regulators, Willcocks cash flow model for startup liquidity, and CDO tranche risk.

Practice solving FRM Part 2 exam questions on equity tranche IRR, break and close-out clauses, margin risk timing, CCP advantages, and BCVA calculations.

Evaluate mismatches in model risk descriptions, distinguish statistical, calibration, and parameter risks, and analyze data errors, suspicious activity reporting, risk-weighted assets, and Basel buffers.

Calculate the stable funding ratio using ASF and SF to determine net stable funding, and explore cyber resilience attributes, best practices, ISO standards, and cyber value at risk metrics.

Explore liquidity risk concepts, from identifying early warning indicators and appropriate contingent funding buffers to key liquidity ratios, and calculate bank funding costs using the pooled funds approach.