FRM Part I · FRM Exam Part I · Stress Testing
Which feature best describes a reverse stress test?
A reverse stress test starts from a predefined severe outcome, such as insolvency or breaching a capital requirement, and identifies the scenarios that could cause it. This contrasts with replaying past losses, one-factor sensitivity shocks, or statistical probability estimates.
- AIt applies the largest daily loss in the past ten years to current positions
- BIt identifies scenarios that would cause a predefined outcome such as insolvency or breach of a capital ratioCorrect
- CIt shocks each risk factor by one standard deviation in turn
- DIt estimates the probability of loss using a fitted distribution
Explanation
Reverse stress testing fixes a severe outcome, such as failure or breaching a capital minimum, and searches for the combinations of events that would produce it. The other options describe historical replay, sensitivity analysis and statistical modeling.
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