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FRM Part I · FRM Exam Part I · Exchanges and OTC Markets

A risk manager notes that collateral under a CSA does not fully eliminate counterparty credit risk even with daily margining. Which is the most direct reason?

Residual risk arises because portfolio values can move during the margin period of risk, the time between the last successful margin exchange and the close-out of the defaulter's positions, so collateral held may not cover the exposure at close-out.

  1. AMarket values can move during the margin period of risk between the last margin call and the close-out of positions after a defaultCorrect
  2. BCollateral is always posted in the lowest-quality asset
  3. CClose-out netting increases gross exposure
  4. DDaily margining creates a threshold that is always above exposure

Explanation

After a counterparty stops posting, there is a delay for notification, grace periods, and closing out or replacing trades. Portfolio value can change in that margin period of risk, leaving uncovered exposure. The other options misstate how CSAs operate.

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