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Hull OFOD10e MultipleChoice Questions and Answers Ch22
Hull OFOD10e MultipleChoice Questions and Answers Ch22
Hull OFOD10e MultipleChoice Questions and Answers Ch22
Answer: C
A 99.9% VaR means that there is a 0.1% chance of the loss exceeding the VaR level. This is 1
chance in 1000.
2. The gain from a project is equally likely to have any value between -$0.15 million and +$0.85
million. What is the 99% value at risk?
A. $0.145 million
B. $0.14 million
C. $0.13 million
D. $0.10 million
Answer: B
The gain is uniformly distributed between −0.15 and +0.85 million dollars. The probability
that it will be between −0.15 and −0.14 million dollars is therefore 1%. This means that
there is a 99% chance that the loss will not be greater than $0.14 million. This is the 99%
VaR.
3. The gain from a project is equally likely to have any value between −$0.15 million and +$0.85
million. What is the 99% expected shortfall?
A. $0.145 million
B. $0.14 million
C. $0.13 million
D. $0.10 million
Answer: A
As explained in the answer to the previous question the VaR level is $0.14 million.
Conditional on the loss being greater than $0.14 million it is equally likely to have any value
between $0.14 million and $0.15 million. The expected loss conditional that it is greater
than $0.14 million is therefore $0.145 million. This is the expected shortfall.
4. Which of the following is true of the historical simulation method for calculating VaR?
A. It fits historical data on the behavior of variables to a normal distribution
B. It fits historical data on the behavior of variables to a lognormal distribution
C. It assumes that what will happen in the future is a random sample from what has
happened in the past
D. It uses Monte Carlo simulation to create random future scenarios
Answer: C
The historical simulation method assumes that the percentage changes in all market
variables during the next day is a random sample from the percentage changes in a certain
number of past days.
Answer: B
The Basel committee rules allow the 10-VaR to be calculated as the one-day VaR multiplied
by the square root of 10. This is exactly true when losses on successive days have
independent normal distributions with mean zero.
6. Which was the minimum capital requirement for market risk in the 1996 BIS Amendment?
A. At least 3 times the 10-day VaR with a 99% confidence level
B. At least 3 times 7-day VaR with a 97% confidence level
C. At least 2 times 5-day VaR with a 95% confidence level
D. 1-day VaR with a 99% confidence level
Answer: A
The 1996 amendment calculated capital as k times the 10-day 99% VaR where k was at least
3.
7. An investor has $2,000 invested in stock A and $5,000 in stock B. The daily volatilities of A and B
are 1.5% and 1% respectively and the coefficient of correlation is 0.8. What is the one day 99%
VaR? Assume that returns are multivariate normal (Note that N(-2.326)=0.01)
A. $177
B. $135
C. $215
D. $331
Answer: A
The standard deviation of the change in the stock A position in one day is 2,000×0.015= $30.
The standard deviation of the change in the value of the stock B position in one day is
5,000×0.01 = $50. The variance of the combined position is 30 2+502+2×0.8×30×50 = 5,800.
The standard deviation is the square root of this or 76.16 and the 99% VaR is therefore 2.326
times 76.16 this or about $177.
8. What is the method of testing how often a VaR with a certain confidence level was exceeded in
the past called?
A. Stress testing
B. Back testing
C. EWMA
D. The model-building approach
Answer: B
Back testing involves examining how well a particular VaR methodology would have worked
in the past. It counts exceptions, which are situations where the VaR level that would have
been calculated, was exceeded.
9. Which of the following is true when delta, but not gamma, is used in calculating VaR for option
positions?
A. VaR for a long call is too low and VaR for a long put is too low
B. VaR for a long call is too low and VaR for a long put is too high
C. VaR for a long call is too high and VaR for a long put is too low
D. VaR for a long call is too high and VaR for a long put is too high
Answer: D
When gamma is ignored, VaR for long option positions is too high and VaR for short option
positions is too low. This is demonstrated for calls in Figures 22.5 and 22.6. The same can
easily be seen to be true for puts.
Answer: A
The quadratic model uses delta and gamma to approximate daily changes as described in
Section 22.5
Cash flow mapping is a way to handle interest rates when the model building approach is
used. (See page 506-507)
Answer: A
Stressed VaR was introduced in Basel II.5. It calculates VaR based on movements in market
variables in stressed market conditions.
13. A German bank has exposure to the S&P500. Which of the following is true
A. The S&P 500 index should be always be measured in U.S. dollars when VaR is calculated
B. The S&P 500 index should be always be measured in euros when VaR is calculated
C. Either A or B can be done
D. The S&P 500 index should be measured in euros only if the bank has not got a U.S.
subsidiary.
Answer: B
Answer: A
The diagonal numbers are variances. The off-diagonal numbers show the covariance
between two variables.
15. Consider a position in options on a particular stock. The position has a delta of 12 and the stock
price is 10. Which of the following is the approximate relation between the change in the
portfolio value in one day, dP, and the return on the stock during the day, dx
A. dP=12dx
B. dP=1.2dx
C. dP=120dx
D. dP=22dx
Answer: C
If S is the stock price and the change in the stock price is dS, from the definition of delta we
know that dP=12dS. This means that dP=12S(dS/S). dS/S is dx. In this case S=10 so that C is
correct.
16. A position in options on a particular stock has a delta of zero and a gamma of 4. The stock price
is 10. Which of the following is the approximate relation between the change in the portfolio
value in one day, dP, and the return on the stock, dx
A. dP = 4 times the square of dx
B. dP = 2 times the square of dx
C. dP = 20 times the square of dx
D. dP = 200 times the square of dx
Answer: D
If S is the stock price and the change in the stock price is dS, the change in the portfolio value is
0.5×4×(dS)2. This is 2S2(dS/S)2. dS/S is dx. In this case S=10 so that D is correct.
17. In a principal components analysis which of the following is the quantity of a particular factor in
an observation
A. Factor loading
B. Factor score
C. Factor size
D. Factor rating
Answer: B
The quantity of a particular factor in the observation of changes on a particular day is known as
the factor score.
18. In the case of interest rate movements the most important factor corresponds to
A. A parallel shift
B. A slope change
C. A bowing
D. An increase in short rates
Answer: A
The most important factor is the one corresponding to a parallel shift. This accounted for over
90% of the variance for the data in Section 22.9.
19. In the case of interest rate movements the second most important factor corresponds to
A. A parallel shift
B. A slope change
C. A bowing
D. An increase in short rates
Answer: B
The second most important factor is a slope change (or twist). In the example in Section 22.9
this accounted for about 7% of the variance in the data.
Answer: B
Expected shortfall and VaR can both measure market risk. Expected shortfall is the expected loss
level conditional on the loss level being greater than VaR. By definition expected shortfall must
be greater than VaR.