Liquidity & Treasury Risk

FRM® Part II, published weight 15%. Funding vs market liquidity, LVaR, transfer pricing, IRRBB, LCR and NSFR.

What the outline covers

Liquidity risk: funding vs market liquidity
Liquidity-adjusted VaR and transaction cost measurement
Cash flow modelling and liquidity stress testing
Intraday, collateral and contingent liquidity management
Deposit and wholesale funding structures; transfer pricing
Balance sheet management; repo markets
Interest rate risk in the banking book (IRRBB)
LCR, NSFR and the Basel liquidity framework
Contingency funding plans

Sample questions

These 5 questions are free in the app too. Try each one before opening the answer.

Question 1

A position worth $50m has a VaR of $2m and a bid–ask spread of 0.40%. Liquidity-adjusted VaR using the exogenous spread approach is closest to:

V $50m · VaR $2m · spread 0.40%

A. $2.00m
B. $2.10m
C. $2.20m
D. $4.00m

Show the answer

B. LVaR = VaR + ½ × spread × V = 2m + 0.5 × 0.004 × 50m = 2m + 0.1m = $2.10m.

Reading: Liquidity Risk — Liquidity-Adjusted VaR

Question 2

The liquidity coverage ratio requires a bank to hold high-quality liquid assets sufficient to cover net cash outflows over:

A. 5 days
B. 30 days
C. 90 days
D. One year

Show the answer

B. The LCR is a 30-day stressed horizon. The NSFR is the one-year structural measure.

Reading: Liquidity Risk — Basel Liquidity Framework

Question 3

A fund forced to sell assets to meet redemptions depresses prices, triggering further redemptions and further sales. This is best described as:

A. Basis risk
B. A liquidity spiral
C. Wrong-way risk
D. Regulatory arbitrage

Show the answer

B. Funding pressure forces sales, which worsens market liquidity, which worsens funding pressure — the self-reinforcing liquidity spiral.

Reading: Liquidity Risk — Funding versus Market Liquidity

Question 4

Without funds transfer pricing, a bank’s long-dated lending business will most likely appear:

A. Less profitable than it is, because liquidity cost is over-allocated
B. More profitable than it is, because liquidity cost is not charged to it
C. Correctly priced, since liquidity cost is a central function
D. Unaffected, since FTP is an accounting convention only

Show the answer

B. FTP charges business lines for the liquidity they consume. Without it, long-dated lending appears artificially profitable at the centre’s expense.

Reading: Liquidity Risk — Transfer Pricing

Question 5

Which asset receives no haircut in the LCR high-quality liquid asset calculation?

A. Level 1 assets
B. Level 2A assets
C. Level 2B assets
D. All HQLA receive the same haircut

Show the answer

A. Level 1 assets — cash, central bank reserves and qualifying sovereign debt — are counted at full value. Level 2A and 2B take haircuts and are capped.

Reading: Liquidity Risk — Basel Liquidity Framework

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