FRM Part II · FRM Exam Part II · Risk Identification
A bank's internal loss data show many small losses but almost no large ones, while industry data show several very large losses in the same event category. The risk manager wants to improve identification of tail exposures. What is the most appropriate use of external loss data?
External loss data should supplement internal data to inform scenario analysis and tail severity, after adjusting for the bank's size and business relevance. Internal data rarely capture rare severe events, but external data carry scale and reporting biases, so they should not replace internal data.
- AReplace internal data entirely because external data are always more accurate
- BUse external data to inform scenario analysis and tail severity, after adjusting for scale and relevance to the bank's businessCorrect
- CIgnore external data since the bank has not experienced such losses
- DUse external data only to calibrate the bank's KRI thresholds
Explanation
Internal data typically under-represent rare, severe events. External data help reveal plausible tail losses, but must be filtered and scaled for relevance and reporting bias. Replacing internal data discards bank-specific information, and ignoring external data leaves tail risk unidentified.
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