Financial Risk Manager Part 1
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Which of the following lessons is most relevant to the Orange County case?
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TTanishq
A
Every firm needs to have more than a basic understanding of the risks that are inherent in its business models.
B
Reporting and monitoring of positions and risks (i.e., back-office operations) must be separated from trading (i.e., front-office operations).
C
Risk managers have a responsibility to analyze reported business profits and determine if they seem logical in light of the positions held.
D
Outsize or strangely consistent profits should be independently investigated and rigorously monitored in order to verify that they are real, generated in accordance with the firm's policies and procedures.
Explanation:
Explanation
The correct answer is A because:
- The main lesson from the Orange County case centers on the need for firms to have a deep/detailed understanding of the inherent risks in their business models
- Robert Citron, Orange County's treasurer, used complex structured products to generate higher returns but later admitted he did not understand the positions he took or the risk exposure of the fund
- This case highlights the danger of using sophisticated financial instruments without proper risk comprehension
Why other options are incorrect:
- B, C, and D are lessons from the Barings case study involving Nick Leeson
- These options focus on operational controls, profit analysis, and investigation procedures, which were key issues in the Barings collapse but not the primary lesson from Orange County
Key Takeaway: The Orange County case demonstrates that even basic risk understanding can be insufficient when dealing with complex financial products, and firms need comprehensive risk awareness of their business models.
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