Quiz: Organization and Roles

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2 questions to check your understanding of the chapter “Organization and Roles”. Choose an answer and select “Check answer” to see the answer and explanation. You can also open “Answer and explanation” to see the answer first.

1. Question 1

   According to the examination manual of the US Federal Reserve Board (sections dated 1998 and 2003), which task is not given to traders who execute trades?

   1. A.Checking, before entering into a trade, that it fits within the credit limit for the counterparty and within risk limits
   2. B.Keeping a blotter, a book that records trades in time order so they can track their own positions
   3. C.Signing confirmations of their own trades and controlling payments of collateral with counterparties
   4. D.Valuing positions during the day and calculating P&L and risk
   Answer and explanation

   Answer: C

   The examination manual states that people who execute trades are not given authority to sign trade confirmations, reconcile records or control payments of collateral. These tasks are kept apart because, if the people who trade also keep the records and make the payments, no one else can notice when they hide losses or misappropriate assets. Not letting the same person or unit combine trading with recording, confirming and settling those trades is called segregation of duties.

   In the examination manual's description, the other three are tasks that traders in the front office (sales and trading) do themselves. Before entering into a trade, a trader checks that it fits within the counterparty's credit limit and the trader's own risk limit. Traders also keep their own blotter, which records trades in time order. During the day, they value their own positions and calculate their own P&L and risk.

   Learn more: Front, Middle and Back Office Roles

2. Question 2

   Which understanding of how the front office, middle office (risk management and similar functions) and back office (operations and settlement) are divided is consistent with the examination manual of the US Federal Reserve Board (sections dated 1998 and 2003)?

   1. A.The back office is combined into a single department and is not split into several units such as financial control and accounting
   2. B.Some institutions combine part of the back office's work into a middle office that is independent of trading
   3. C.Monitoring trades against limits and reporting risk may be done by the internal audit unit
   4. D.The expected way of dividing the units is the same at every institution, regardless of the size of the trading operation or the types of products traded
   Answer and explanation

   Answer: B

   Some institutions combine part of the back office's work into a middle office that is independent of trading. What the examination manual calls the back office may also be a single department or several units, such as financial control, risk management, accounting and securities custody. There is no single fixed way to divide the units.

   The examination manual states that trading operations vary significantly among financial institutions. The reasons it gives include the size of the trading operation, organizational structure, the sophistication of computer systems, and the types and complexity of the products traded. As a result, practices expected at one institution may not be needed at another. Monitoring trades against limits and reporting risk may be done by the back office or by an independent risk management unit. The examination manual names the back office and an independent risk management unit for this monitoring, and does not name the internal audit unit. Internal audit is the unit that, independently of the units it audits, checks that controls are working.

   Learn more: Front, Middle and Back Office Roles