PRMIA Exam 8008 Topic 1 Question 15 Discussion

Generally, stress tests consider a shock or a severe scenario in order to determine the 'what-if' that circumstance were to materialize. They focus on the outcome based upon a set of shocks. In a reverse stress test, the outcome is assumed to be known (generally something as severe as bankruptcy, non-compliance with capital requirements etc), and the test is intended to work out what shocks or events would lead to such an outcome.

Reverse stress tests therefore start from a known stress test outcome (such as breaching regulatory captial ratios, illiquidity or insolvency) and then asking what events could lead to such an outcome for the bank. This can be quite a challenging task. Principle 9 laid out in the BCBS document on stress testing (May 2009) (which is part of the PRM syllabus effective March 1, 2010) lays down the expectations relating to reverse stress tests.

Therefore Choice 'a' is the correct answer. All the other choices are nonsensical.