Exam I: Finance Theory Financial Instruments Financial Markets - 2015 Edition
Last Update May 4, 2024
Total Questions : 287
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| Exam Name | Exam I: Finance Theory Financial Instruments Financial Markets - 2015 Edition |
| Exam Code | 8006 |
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| See Expected Questions | PRMIA 8006 Expected Questions in Actual Exam |
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| Section | Weight | Objectives |
|---|---|---|
| I. FINANCE THEORY | 17% | A. Arbitrage Pricing Theory 1. Describe how arbitrage pricing theory can be used for decision-making. B. The CAPM and Multifactor Models 1. Outline the components of the Capital Asset Pricing Model (CAPM), including the risk premium, systematic and idiosyncratic risk, beta, security market line, and its underlying assumptions. 2. Compare and contrast single-factor (e.g., Capital Asset Pricing Model (CAPM)) and multifactor models. 3. Compare and contrast the capital asset pricing model and the single-index model. C. Capital Structures 1. Outline the factors to be considered to determine the capital structure of a firm, in particular agency costs, taxes, and leverage. D. Mean-Variance Portfolio Theory 1. Relate mean-variance portfolio theory to asset allocation decisions, with risky assets and a risk-free asset (e.g., asset correlation, efficient frontier, market portfolio, capital allocation line, capital markets line, dominated portfolio, and separation principal). 2. Describe the axioms and assumptions of utility theory with respect to expected return and risk, and describe its application to the mean-variance portfolio theory. E. Performance Measures 1. Calculate the Sharpe ratio and Jensen’s Alpha, and interpret the results. 2. Identify and describe risk adjusted performance measures, in particular RAROC, RORAC, RARORAC, RoVaR, and the Treynor, Information, and Omega ratios, and the Sortino and Kappa indices. 3. Calculate value-at-risk (VaR) for a portfolio. F. The Term Structure of Interest Rates 1. Define the term structure of interest rates and demonstrate how to construct a yield curve from observable bond pricing. 2. Describe the standard theories used to explain the observed shape of the yield curve: a) pure expectations theory, b) liquidity preference theory, c) preferred habitat theory, and 4) market segmentation theory. 3. Understand the concepts of duration and convexity, and describe the impact of an embedded call or put on the duration convexity and the price of a bond. 4. Compare and contrast the Ho-Lee, Hull-White, and Black-Derman-Toy models. G. Regulatory Frameworks 1. Compare and contrast capital management and regulatory capital and relate capital management to solvency and Basel. 2. Describe the application of an internal capital adequacy process to achieve efficient capital allocation. H. Trade Terminology 1. Illustrate the best choice of available options to execute trading for optimization of return. 2. Describe the lifecycle of a trade and distinguish between dealing and settlement. |
| II. FINANCIAL INSTRUMENTS | 14% | A. Bonds 1. Understand the characteristics of bonds, using concepts of duration, convexity, and yield. 2. Price different types of bonds (e.g., zero coupon, fixed/floating, investment/non-investment grade, etc.) B. Forward and Futures Contracts 1. Understand the relationship between spot and forward prices. 2. Value a forward contract using concepts of interest differential and delivery cost. 3. Understand the standardized characteristics of futures contract, for bonds, stocks, currencies, and commodities. C. Swaps 1. Understand the key components of a swap agreement and value a vanilla interest rate swap. 2. Understand features of various types of swaps on instruments (e.g.,currencies, bonds, equities, commodities, assets, etc.) D. Options 1. Identify and understand the components of option valuation. 2. Verify an option price using a given methodology (e.g., binomial models, Black-Scholes-Merton, etc.) 3. Identify different option trading strategies. E. Credit Derivatives 1. Apply the concepts of default probability and loss given default in determining a credit default swap premium. 2. Understand different types of credit derivatives and securitized products. F. Hedging Strategies 1. Understand hedging strategies for specific risk exposures within a portfolio. 2. Calculate hedge ratios using cash instruments or derivatives (e.g., forwards, futures, swaps, and options.) |
| III. FINANCIAL MARKETS | 16% | A. Participants in and the Structure of Financial Markets 1. Define and describe the various participants within financial markets (e.g., banks, brokers, front/middle/back office, underwriter, participants, etc.) 2. Discuss the structure of financial markets. 3. Distinguish between the various markets (e.g., bonds, FX, stocks, etc.), trading systems (e.g., over-the-counter (OTC), ECN, “open cry”, etc.), and settlement processes (e.g., straight-through). 4. Assess and analyze the capital structure of entities. B. Bond Markets 1. Define and describe the characteristics of bond markets. 2. Interpret how an agency rating impacts the spread. C. Money Market Securities 1. Define and describe money market securities (e.g., T-bills, CDs, CPs, BA, etc.). 2. Discuss significant funding rates (e.g., Euro Interbank Offered Rate (Euribor), London Interbank Offered Rate (LIBOR), Overnight Index Swap (OIS), and Euro Over Night Index Average (EONIA).) 3. Calculate the bond equivalent yield of money market securities. D. Stock Market 1. Define and describe the characteristics of stock markets. E. Foreign Exchange Markets 1. Discuss foreign exchange markets (both spot and forward) and describe various characteristics of these markets. 2. Calculate and interpret the cross rate given two FX rates. F. Energy Markets 1. Define and describe the various elements of energy markets, including emerging energy markets. G. Commodities Markets 1. Define and describe the various elements of commodities markets and the distinguishing features of these markets. H. Real Estate Evaluation 1. Describe different sectors within real estate (e.g., commercial, industrial, residential) and outline risks associated with lending or investing in real estate. I. Futures Markets 1. Discuss the rationale for futures markets and describe the settlement and clearing processes. |
| IV. MATHEMATICAL FOUNDATIONS OF RISK MEASUREMENT | 13% | A. Algebraic Methods 1. Solve equations using algebraic methods (e.g., linear and quadratic equations). B. Calculus Methods Related to Risk Management 1. Apply calculus methods (e.g., exponential and integration, approximation, differentiation, stochastic, etc.) to risk management. C. Basic Statistics Related to Risk Management 1. Compute and interpret basic statistical measures relating to risk management (e.g., mean, standard deviation, kurtosis, correlation, etc.). 2. Understand the application of extreme value theory. D. Numerical Methods 1. Discuss, calculate, and interpret various optimization and numerical methods (e.g., LaGrange, Newton-Raphson, Monte Carlo simulation, Multi-state Markov model, etc.). E. Matrix Algebra 1. Understand and apply matrix algebra as it relates to risk management (e.g., Cholesky decomposition, etc.). 2. Calculate and interpret principal components analysis (PCA). 3. Solve linear simultaneous equations using matrix algebra. F. Probability Theory in Finance 1. Understand probability theory including Bayesian theory. 2. Calculate, apply, and interpret probability distributions (e.g., normal, lognormal, Poisson, Copula, probit, and logit models). G. Regression Analysis in Finance 1. Understand and interpret time series, simple, and multiple linear regression. 2. Apply confidence intervals and hypothesis testing. H. Compounding Methods 1. Use compounding methods (continuous and discrete) and describe the differences between the two. |
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TESTED 05 May 2024
