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FRM Part II · FRM Exam Part II · Liquidity Risk Management

A bank's treasurer reviews the funding structure and wants to reduce vulnerability to a sudden loss of confidence. Which action would most directly reduce this vulnerability?

Lengthening funding maturities and diversifying across investors, instruments and markets best reduces vulnerability to a confidence shock. It lowers rollover risk and reliance on any single source, whereas overnight, concentrated, or single-collateral funding increases exposure.

  1. ALengthening the maturity profile of wholesale funding and diversifying across investor types and marketsCorrect
  2. BShifting funding to overnight unsecured borrowing because it is cheaper
  3. CConcentrating funding with a few large counterparties to simplify relationships
  4. DUsing the same collateral type for all secured borrowing to minimize operations

Explanation

Longer maturities lower rollover frequency, and diversification reduces dependence on any single investor group or market. Overnight borrowing increases rollover risk, while concentrating counterparties or collateral types raises concentration risk and leaves the bank exposed if one source dries up.

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