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

A bank's treasury team wants to apply a geopolitical risk assessment to its sovereign bond holdings. Which approach is most consistent with good risk management practice for this exposure?

The bank should embed geopolitical scenarios in country limits and stress tests and recognize that weak buffers and high debt amplify shocks, because sovereign spread responses differ across countries and the risk spans market and credit exposures.

  1. ATreat geopolitical risk as only an operational risk and exclude it from market and credit limits
  2. BAssume sovereign spreads respond identically to geopolitical shocks across all countries
  3. CIncorporate geopolitical scenarios into country limits and stress tests, recognizing that vulnerabilities such as weak buffers and high debt amplify the impactCorrect
  4. DHedge only by holding more bonds of the same issuers

Explanation

Impact differs by country, with fragile fundamentals and limited buffers amplifying shocks. Embedding scenarios into limits and stress tests captures this heterogeneity. Treating spreads as identical or adding same-issuer bonds ignores it.

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