6. Risk Management

Model Risk — Quiz

Test your understanding of model risk with 5 practice questions.

Practice Questions

Question 1

A financial institution uses a model to forecast economic growth. The model's underlying econometric theory is sound, but its performance degrades significantly when new, unobserved economic factors emerge. This issue is most directly related to which category of model risk?

Question 2

When performing uncertainty quantification for a financial model, a common approach involves constructing a probability distribution for each input parameter and then simulating the model's output many times by drawing random values from these distributions. This method is known as:

Question 3

A financial model used for regulatory capital calculation is found to be overly sensitive to minor fluctuations in a specific market parameter. To address this model risk, the institution decides to introduce a cap on the parameter's influence within the model. This is an example of which mitigation strategy?

Question 4

In the context of model governance, what is the primary role of a 'model owner'?

Question 5

Consider a derivative pricing model that uses a numerical method to solve a partial differential equation. During model validation, it is discovered that the numerical scheme introduces significant discretization errors, especially for short maturities. This issue is primarily a concern related to: