Risk Management and Compliance
Risk framework
This domain tests identification, measurement and control of market, credit, liquidity, operational, legal and reputational risk in securities firms and funds. Compliance is the control framework that keeps activity inside law, regulation and internal policy.
Core concepts
- Risk appetite, limits and escalation turn policy into controls.
- Market risk tools include duration, beta, volatility, VaR and stress testing.
- Credit risk includes counterparty and issuer risk; liquidity risk includes funding and market liquidity.
- Compliance covers licensing, KYC/AML, conflicts of interest, personal account dealing, Chinese walls, record-keeping and reporting.
Worked example
A firm reports a one-day 95% VaR of MNT 2 billion. Correct interpretation: under normal market conditions, there is a 5% probability of a loss exceeding MNT 2 billion over one day; it is not the maximum loss. A stress test might model a 20% equity fall and a currency depreciation together, because VaR may understate tail and liquidity risk.
Traps
- Treating VaR as a worst-case loss.
- Assuming diversification works in a liquidity crisis.
- Reducing compliance to a rulebook without testing conduct.
- Ignoring conflicts when a firm underwrites and advises on the same issuer.
- Failing to escalate breaches.