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FRM Part I Updated
How does daily mark-to-market work for futures?
Daily mark-to-market means the clearing house revalues each open position at settlement price and settles the P&L in cash the same day through margin accounts.
How do I calculate and interpret the Altman Z-score?
Edward Altman's original 1968 Z-score uses five ratios from public manufacturing firms: Z = 1.2·X1 + 1.4·X2 + 3.3·X3 + 0.6·X4 + 1.0·X5 where X1 = Working Capital / Total Assets (liquidity)...
Why does rho matter more for long-dated options and how do I compute it?
Rho measures sensitivity to interest rates. Long-dated calls have meaningful rho; short-dated options have nearly zero. Formula: ρ_call = K·T·e^(-rT)·N(d2).
How do CMO sequential-pay tranches redistribute prepayment risk?
Sequential CMOs pay principal to tranches in order (A→B→C→Z) while all classes receive interest. This creates time-segmented maturity profiles from one pool.
How do finite difference methods solve the Black-Scholes PDE?
Finite difference methods discretize the BSM PDE on a grid of stock prices and times, approximating derivatives with differences...
What does an inverted vol term structure signal?
Inverted vol term structure signals acute stress with mean reversion priced in. Front-month spikes to 40-60 while 1-year lags because long-run vol reverts to average.
What alternative data sources are used in credit scoring and what are the regulatory concerns?
Alt-data includes cash flow, rent, telecom, payroll, and public records. It expands access but triggers FCRA, ECOA disparate impact, CFPB adverse action, and privacy concerns.
How does machine learning credit scoring compare with traditional logistic regression?
GBMs usually beat logistic by 2-8 Gini points but at the cost of interpretability, stability, and regulatory explainability. Most banks deploy ML as challenger first.
What's the difference between a strap and a strip option combination?
Strap = 2C+1P (bullish vol bias); Strip = 1C+2P (bearish vol bias)...
What is a straddle and when would you use it?
Long straddle = long call + long put at same strike, profits from large moves either way...
What's the difference between cash-settled and physically-settled futures?
Cash settlement credits/debits the difference in cash at expiry; physical settlement requires actual delivery of the underlying. Indices use cash; commodities typically use physical.
How do delivery months and expiry work for futures?
Each listed contract references a delivery month. The contract stops trading on an exchange-specified last trading day, and delivery occurs during a multi-day delivery window.
How do rating agencies measure rating migration over time?
A rating transition matrix is a square table showing the probability that an issuer at rating X today will be at rating Y one year later. Rows sum to 100%...
What is vega and which options have the biggest vega exposure?
Vega = S·√T·φ(d1) and is largest for long-dated ATM options. A 2-year $100 ATM call has vega ~5x a 1-month version on the same name.
Explain extension risk — why does my MBS get worse when rates rise?
Extension risk is the lengthening of MBS life when rates rise and borrowers stop prepaying. Investors are stuck with below-market coupons longer, amplifying duration losses.
How do I price a barrier option using Monte Carlo simulation?
Barrier options pay only if the underlying hits or avoids a trigger during life. For a down-and-out call, simulate thousands of paths...
How does the implied vol surface move over time?
The surface doesn't move rigidly. Sticky strike keeps sigma(K,T) fixed; sticky delta keeps vol for a given moneyness fixed; sticky local vol follows Dupire's equation.
How is logistic regression used for default prediction and how do I interpret coefficients?
Logistic regression models log-odds of default linearly. exp(beta) gives odds multiplier per unit of predictor. PD recovered via the sigmoid.
What is the end-to-end scorecard development process for credit risk?
Eight steps: sampling, data prep, binning, attribute selection, logistic regression, points scaling, validation, deployment and monitoring with PSI.
How do you identify and exploit option bound violations?
Violations exploited by buying undervalued options + hedge, or selling overvalued options + hedge...
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