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FRM Part I · FRM Exam Part I · Operational Risk

A bank's simulated aggregate annual operational loss distribution has a mean of 8 million. In 100,000 simulated years, the 99.9th percentile of aggregate loss is 95 million. Regulators-style capital is set as the 99.9% quantile less expected loss, because expected loss is assumed already covered by provisions and pricing. What is the unexpected-loss capital, and how would it change if the bank cannot show expected loss is covered?

Capital net of expected loss is 95 minus 8, or 87 million. If the bank cannot demonstrate that expected loss is covered by provisions or pricing, it must hold capital against the full 99.9% quantile, so capital rises to 95 million.

  1. A87 million; capital would rise to 95 millionCorrect
  2. B95 million; capital would fall to 87 million
  3. C103 million; capital would fall to 95 million
  4. D87 million; capital would fall to 79 million

Explanation

Unexpected loss capital = 95 - 8 = 87 million. If expected loss is not offset by provisions or pricing, capital must cover the whole 99.9% quantile, 95 million, so capital rises by 8 million. Adding EL (103) misuses the sign.

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