Skip to content

FRM Part II · FRM Exam Part II · Illiquid Assets

A pension fund holds 30% of its portfolio in private equity and real estate funds. A risk manager notes that during market stress, reported valuations of these holdings fell much less than public market indices. Which interpretation is most appropriate?

Appraisal-based valuations smooth returns, so measured volatility and correlations with public markets are biased downward. The reported stability does not reflect lower economic risk, and it overstates diversification benefits, particularly during stress periods.

  1. AIlliquid assets have inherently lower economic risk than listed assets
  2. BAppraisal-based smoothing understates measured volatility and correlations, so reported risk is biased downwardCorrect
  3. CLower reported volatility proves that the assets offer diversification benefits in stress
  4. DSmoothing raises measured volatility because valuations lag market prices

Explanation

Infrequent, appraisal-based valuations smooth returns, which lowers measured volatility and correlation with liquid markets and induces serial correlation. This understates true economic risk. The claim of lower inherent risk confuses reported with economic risk, and smoothing reduces rather than raises measured volatility.

Did you get it right without looking?

One question tells you little. A timed set on Illiquid Assets shows your real accuracy, how long you take and where you lose marks.

Practise Illiquid AssetsFree diagnostic mock

More Illiquid Assets questions