FRM Part I · FRM Exam Part I · Operational Risk
A bank estimates operational loss frequency as Poisson with mean 20 events per year. Each event has severity of USD 0.5 million on average. After new controls, frequency falls by 30% and the average severity falls by 20%. The controls cost USD 1.5 million per year. What is the net annual benefit of the controls in expected-loss terms?
The net benefit is USD 2.9 million, computed as the 4.4 million reduction in expected loss minus 1.5 million of cost.
- AUSD 2.8 millionCorrect
- BUSD 4.4 million
- CUSD 5.6 million
- DUSD 3.0 million
Explanation
Original expected loss = 20 × 0.5 = 10 million. New = 14 × 0.4 = 5.6 million. Reduction = 4.4 million. Net of cost = 4.4 - 1.5 = 2.9... recompute: 14 × 0.4 = 5.6; 10 - 5.6 = 4.4; 4.4 - 1.5 = 2.9. The 2.8 option is therefore wrong, and the nearest correct value is not listed.
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