Friction 1: Mortgagor and Originator - correct answer ✔The borrower may
not even be aware of the financing options available. On the other hand, the
lender may steer the borrower to products that are not suitable.
Friction 2: Originator and Arranger - correct answer ✔The arranger (issuer)
purchases the loans from the originators for the purpose of resale through
securitized products. The originator has superior knowledge about the
borrower (adverse selection problem).
Friction 3: Arranger and third-parties - correct answer ✔The arranger of the
pool of mortgages will possess better information about the borrower than
third parties including rating agencies, asset managers, and warehouse
lenders.
,Friction 4: Servicer and Mortgagor - correct answer ✔The servicer's role is to
manage the cash flows of the pool and follow up on delinquencies and
foreclosures. A conflict of interest arises for delinquent loans.
Friction 5: Servicer and third-parties - correct answer ✔The servicer faces a
moral hazard problem because their (lack of) effort can impact the asset
manager and credit rating agencies without directly affecting their own cash
flow distribution.
Friction 6: Asset manger and investor - correct answer ✔The investor relies
on the asset manager's expertise to identify and analyze potential investments
Friction 7: Investor and credit rating agencies - correct answer ✔Rating
agencies are compensated by the arranger and not the end user, the investor.
Default time distribution - correct answer ✔F(t) = 1 - e^(-lambda*t)
Coherent Risk Measure: Monotonicity - correct answer ✔If X < Y, then p(Y) <
p(X)
If the expected value of Y is greater than X, then the risk of Y is less than the
risk of X
Coherent Risk Measure: Translation Invariance - correct answer ✔p(X + c) =
p(X) - c
Like adding cash
Operational Risk Management: 3 Lines of Defense - correct answer ✔1.
Business Line Management
2. Independent Corporate operation RM function
3. Independent review/audit
Basel Suggestions for Sound Operational Risk Managemnet - correct answer
✔1. Strong risk management culture
2. Fully integrated with overall RM process
3. Board of directors reviews OR framework
4. Board approves risk appetite/tolerance
5. Well defined governance structure
6. Incentives incorporate risks taken
7. Approval for new line of business
8. Constant monitoring of OR
9. Internal controls to mitigate/transfer risk
10. Major business disruption plans
11. Disclosure
Risk Capacity - correct answer ✔Max level of risk an institution can take
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