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FRM Part II · FRM Exam Part II · Risk, Regulation and Organizational Structure

A fund's risk committee has an escalation policy: a VaR limit breach of up to 10% over limit goes to the CRO, 10% to 25% over goes to the CEO, and above 25% goes to the board. The 1-day 99% VaR limit is USD 8.0 million. Reported VaR is USD 10.4 million, but the committee discovers that a model error understated VaR by 5% of the true figure (true VaR = reported / 0.95). To whom should the breach be escalated?

The breach should go to the board. Corrected VaR is 10.4 divided by 0.95, about USD 10.95 million, which is roughly 36.8% above the USD 8.0 million limit. That exceeds the 25% threshold for board escalation, so lower-level escalation would be inadequate.

  1. AThe CRO
  2. BThe CEO
  3. CThe boardCorrect
  4. DNo escalation, as the reported figure is within the limit

Explanation

True VaR = 10.4 / 0.95 = 10.947 million. Excess over limit = 10.947/8.0 - 1 = 36.8%, above 25%, so board. Using the reported figure gives 30% (also board), but a mistaken adjustment of multiplying by 1.05 gives 10.92 and still board; only an error like subtracting would drop it. Reported 10.4 is already 30% over, so the answer is board either way.

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