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FRM Part II · FRM Exam Part II · Liquidity Stress Testing

A supervisor designs a liquidity stress test for a large bank. Which design feature is most consistent with the way supervisory liquidity stress tests complement the LCR?

Supervisory liquidity stress tests complement the LCR by applying bank-specific and market-wide scenarios of different severities and horizons, including beyond 30 days. This reveals vulnerabilities the standardized LCR run-off rates miss, such as concentrations and second-round effects like fire sales.

  1. AUsing only the fixed LCR run-off rates, to keep results comparable across banks without any institution-specific scenarios
  2. BApplying bank-specific and market-wide scenarios of varying severity and horizon, including survival horizons beyond 30 days, to reveal vulnerabilities the LCR does not captureCorrect
  3. CLimiting the exercise to a single overnight horizon because intraday flows dominate all other risks
  4. DExcluding second-round effects such as asset fire sales so that results remain stable over time

Explanation

Supervisory stress tests supplement the standardized LCR by using tailored scenarios, multiple horizons and behavioral and second-round effects. Reusing LCR run-off rates adds no new information, and ignoring fire-sale feedback understates stress.

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