FRM Part II · FRM Exam Part II · Global Financial Stability Report, April 2025, Chapter 2 (Geopolitical Risk)

A bank's market risk team wants to use the chapter's framework to stress a portfolio of sovereign bonds and equities. Historical analysis shows geopolitical risk shocks typically coincide with higher volatility and a flight to safety. Which scenario design is most consistent with that evidence?

The best scenario combines falling equities, wider emerging market sovereign spreads and stronger safe-haven assets with lower safe yields, amplified for vulnerable countries. This matches the evidence that geopolitical shocks raise volatility and trigger flight to safety, rather than being diversifiable or benefiting all markets.

1. ASimultaneous equity declines, wider emerging market sovereign spreads, and lower yields or stronger safe-haven assets, with larger effects for vulnerable countriesCorrect
2. BEquity gains in all markets because higher volatility raises option-implied expected returns
3. CWider spreads for advanced economy sovereigns only, with unchanged emerging market spreads
4. DLower volatility across asset classes since geopolitical events are idiosyncratic and diversifiable