FRM Part II · FRM Exam Part II · Risk Mitigation
A bank's expected annual loss from a process is USD 4 million with an event frequency of 20 per year. A new control is projected to cut frequency by 40% and leave average severity unchanged. The control costs USD 1.5 million per year. What is the net annual benefit of the control?
The net annual benefit is USD 0.1 million. A 40% frequency cut with unchanged severity reduces expected loss by 40% of USD 4 million, or USD 1.6 million. Deducting the USD 1.5 million annual cost of the control leaves a net gain of USD 0.1 million.
- AUSD 0.9 millionCorrect
- BUSD 1.6 million
- CUSD 2.5 million
- DUSD 0.1 million
Explanation
Expected loss falls by 40% of USD 4 million = USD 1.6 million since severity is unchanged and loss scales with frequency. Subtract the cost of USD 1.5 million: 1.6 - 1.5 = 0.1 million. The correct net benefit is therefore USD 0.1 million, so option 3 is the figure; the 0.9 option wrongly uses another base.
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