Skip to content

FRM Part II · FRM Exam Part II · Case Study: Model Risk and Model Validation

Which control improvement is most consistent with the lessons from the London Whale case for model risk management?

Model changes should be independently validated and approved before use, with risk functions able to give effective challenge. The London Whale case showed that weak independent review and business-driven model changes let understated risk persist, so self-approval and removing limits are wrong.

  1. AEnsure model changes receive independent validation and approval before use, with effective challenge from risk functionsCorrect
  2. BAllow business lines to approve their own model changes to speed implementation
  3. CEliminate limits on VaR because the model is complex
  4. DDelegate all model oversight to the front-office traders who understand the positions

Explanation

The case showed weak independent review and deference to the business. Supervisory guidance on model risk calls for independent validation, effective challenge and governance over model changes. Self-approval or removing limits would worsen the weaknesses.

Did you get it right without looking?

One question tells you little. A timed set on Case Study: Model Risk and Model Validation shows your real accuracy, how long you take and where you lose marks.

Practise Case Study: Model Risk and Model ValidationFree diagnostic mock

More Case Study: Model Risk and Model Validation questions