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FRM Part II · FRM Exam Part II · Liquidity and Reserves Management: Strategies and Policies

A bank's treasurer is deciding how to hold its liquidity reserve. Which feature is most important for an asset to qualify as a core component of the reserve intended for use in a stress event?

The key feature is that the asset can be turned into cash quickly with little loss of value, even in stressed markets. A reserve is for stress outflows, so market depth and price stability matter more than yield, maturity or affiliation with the group.

  1. AIt offers the highest yield among available securities
  2. BIt can be converted into cash quickly with little loss of value, even in stressed marketsCorrect
  3. CIt has the longest maturity to lock in funding costs
  4. DIt is issued by a related group entity to keep exposures internal

Explanation

A liquidity reserve exists to meet cash needs when funding is disrupted, so assets must be convertible to cash rapidly and with minimal price impact under stress. Yield and long maturity raise price and market risk, and related-party securities are likely to become illiquid in the same stress that hits the group.

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