FRM Part II · FRM Exam Part II · Global Financial Stability Report, April 2025, Chapter 2 (Geopolitical Risk)
A risk manager at a global asset manager reviews a country in which geopolitical tensions have risen sharply. Foreign portfolio investors are heavily invested in local-currency bonds through open-ended funds offering daily redemptions. Which feature most directly makes the country vulnerable to a sudden stop in portfolio inflows after a geopolitical shock?
A large, concentrated nonresident investor base in local bond markets, held through funds that offer daily redemptions, creates a liquidity mismatch. After a geopolitical shock, redemptions can force quick selling and sudden outflows, whereas FDI, reserves and long-horizon domestic investors tend to stabilize flows.
- AA large and concentrated nonresident investor base in local bond markets with liquidity mismatch in the fundsCorrect
- BA high share of long-term foreign direct investment in manufacturing
- CA large stock of official foreign exchange reserves
- DA domestic investor base that is mostly pension funds with long horizons
Explanation
Nonresident holdings through funds with daily redemption create liquidity mismatch, so heightened geopolitical risk can trigger rapid redemptions and outflows. FDI, large reserves and long-horizon domestic investors are stabilizing or mitigating factors, not sources of fragility.
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