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FRM Part II · FRM Exam Part II · Margin (Collateral) and Settlement

A dealer holds a bond as collateral with a market value of USD 50 million. The bond's price volatility over the 10-day liquidation period is 4%, and the dealer sets the haircut at the 99% one-tailed level (z = 2.33), assuming normally distributed returns and ignoring FX and other add-ons. What is the collateral value the dealer credits after the haircut, to the nearest USD 0.01 million?

The credited collateral value is USD 45.34 million. The haircut is 2.33 times the 4% ten-day volatility, or 9.32%, which removes USD 4.66 million from the USD 50 million market value, leaving USD 45.34 million as the amount counted against exposure.

  1. AUSD 45.34 millionCorrect
  2. BUSD 4.66 million
  3. CUSD 49.07 million
  4. DUSD 47.67 million

Explanation

Haircut = 2.33 x 4% = 9.32%. Haircut amount = 50 x 0.0932 = USD 4.66 million. Credited value = 50 - 4.66 = USD 45.34 million. USD 4.66 million is the haircut amount, not the credited value; USD 49.07 million is a mistaken 1.86% haircut.

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