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FRM Part II · FRM Exam Part II · The Financial Stability Implications of Artificial Intelligence

A risk manager at an asset manager notes that many market participants are adopting similar AI models trained on the same data and vendor platforms. According to the FSB's analysis of AI and financial stability, which vulnerability is most directly heightened by this development?

The correct answer is greater market correlations and herding. When many firms rely on similar AI models, data and vendors, they tend to trade alike and react to the same signals, which amplifies shocks and procyclicality instead of diversifying risk.

  1. AGreater market correlations and herding, which can amplify shocks and procyclicalityCorrect
  2. BLower model risk because common models are better tested
  3. CReduced concentration risk because tools are more widely available
  4. DLower tail risk because uniform models remove idiosyncratic errors

Explanation

Widespread use of similar models, data and providers can lead firms to take similar positions and react alike to signals. This increases correlations and herding and can amplify market stress. The other options reverse the direction of the risk, as commonality raises rather than lowers concentration and model risk.

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