Valuing a derivative by taking expected payoffs under probabilities adjusted so that all assets earn the risk-free rate, then discounting at that rate. It gives the same price as replication.
Where you will meet it
Risk-neutral valuation comes up in 32 learning outcome notes across the FRM syllabus.
A few of them:
Foreign Exchange Markets FRM Part I · Financial markets and products
“UIP depends on expectations and risk-neutral investors, with no arbitrage to enforce it, and it often fails empirically.”
Simulation and Bootstrapping FRM Part I · Quantitative analysis
“For derivative pricing, simulate under the risk-neutral drift and discount the average payoff.”
External and Internal Credit Ratings FRM Part I · Valuation and risk models
“Market-implied default probabilities are risk-neutral and include liquidity premiums, so they tend to overstate real-world default frequencies.”
Introduction to Credit Risk Modeling and Assessment FRM Part II · Credit risk measurement and management
“The risk-neutral default probability is then N(−d2).”
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