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FRM Part I · FRM Exam Part I · Learning From Financial Disasters

Which of the following best describes the primary risk management lesson from the Volkswagen emissions scandal and similar compliance failures, as distinct from market-risk disasters?

Compliance and conduct failures can produce large fines, legal costs and lasting reputational damage, so a strong risk culture and tone from senior management are essential. VaR and hedging do not capture or remove this type of risk, and its impact does not depend on a credit downgrade.

  1. ACompliance and conduct failures can cause severe reputational, legal and financial losses, so culture and tone from the top matterCorrect
  2. BCompliance failures only matter when they lead to credit downgrades
  3. CHedging with derivatives eliminates reputational risk
  4. DReputation risk is fully captured by VaR at 99%

Explanation

Deliberate rule-breaking led to fines, recalls and brand damage far beyond a market-risk loss. Such events are not captured by VaR or removed by hedging, and they matter regardless of downgrades.

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