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FRM Part II · FRM Exam Part II · Contingency Funding Planning

A bank's liquidity risk manager is deciding how to link early warning indicators (EWIs) to the CFP. Which approach is most consistent with sound practice?

EWIs should be tied to the CFP through thresholds that trigger escalation and staged responses before liquidity becomes severely impaired. Their value lies in advance warning. Using them only after activation, only for reporting, or as a trigger for automatic fire sales ignores their role in graduated crisis response.

  1. AMonitor EWIs only after the CFP has been formally activated
  2. BUse EWIs only for regulatory reporting and keep them separate from the CFP
  3. CDefine EWIs with thresholds that trigger escalation and staged CFP actions before liquidity is severely impairedCorrect
  4. DSet a single EWI threshold which, once breached, automatically triggers sale of all liquid assets

Explanation

EWIs are meant to give advance notice so management can escalate and activate graduated CFP responses. Monitoring only after activation defeats their purpose, keeping them separate from the CFP removes the link, and automatic full liquidation is blunt and unlikely to be optimal.

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