CFA Exam Prep Portfolio Management Part 2 January 26th & 28th & 29th

While assessing an investor's risk tolerance, a financial adviser is least likely to ask which of the following questions?

"What rate of investment return do you expect?"

The three major steps in the portfolio management process are

(1) planning, (2) execution, and (3) feedback

Which of the following are considered biases due to cognitive errors?

Conservatism, hindsight, and framing biases.

Which of the following cognitive errors are best described as belief persistence biases?

Conservatism, representativeness, and hindsight biases.

Which of the following asset class specifications is most appropriate for asset allocation purposes?

Domestic bonds.

Harvey Woodman invests in modern art. Occasionally, he sells a piece from his collection, but the process is often difficult because he gets insulted when potential buyers offer what he believes to be too little. Which bias is Woodman most likely exhibiting?

Endowment bias.

Strategic Asset Allocation is

Establishing and updating target weights for asset classes based on the investor's objectives and constraints

When preparing a strategic asset allocation, how should asset classes be defined with respect to the correlations of returns among the securities in each asset class?

High correlation within asset classes and low correlation between asset classes.

Which of the following should least likely be included as a constraint in an investment policy statement (IPS)?

How funds are spent after being withdrawn from the portfolio.

What are information processing biases?

Mental accounting, framing, anchoring and adjustment, and availability biases

Which of the following pooled investment shares is least likely to trade at a price different from its NAV?

Open-end mutual fund shares.

The top-down analysis approach is most likely to be employed in which step of the portfolio management process?

The execution step.

Which of the following most accurately describes cognitive errors?

They are due primarily to faulty reasoning.

Which of the following is typically the first general step in the portfolio management process?

Write a policy statement.

At a minimum an IPS should contain

a clear statement of client circumstances and constraints, an investment strategy based on these, and some benchmark against which to evaluate the account performance.

A firm that invests the majority of a portfolio to track a benchmark index, and uses active investment strategies for the remaining portion, is said to be using:

a core-satellite approach.

A multi-boutique firm is

a holding company that includes a number of different specialist asset managers.

Smart beta is

a passive management strategy that focuses on a specific market risk factor.

Because fees for passive management are lower than fees for active management, passive management represents

a smaller share of industry revenues than assets under management.

Two of the major components of an IPS should be

a statement of the responsibilities of the investment manager and the client, and a performance evaluation benchmark.

Risk budgeting refers to

allocating a portfolio's overall permitted risk among strategic asset allocation, tactical asset allocation, and security selection.

Risk and return must

always be considered together when expressing investment objectives.

Venture capital typically involves

an equity interest.

In the top-down approach to asset allocation, industry analysis should be conducted before company analysis because:

an industry's prospects within the global business environment are a major determinant of how well individual firms in the industry perform.

When performing strategic asset allocation, properly defined and specified asset classes should:

approximate the investor's total investable universe as a group.

The execution step in the portfolio management process is most likely to include:

asset allocation and security analysis.

Investors are risk averse. Given a choice between two assets with equal rates of return, the investor will always select the

asset with the lowest level of risk.

Which of the following statements best describes the availability bias? An investor:

associates new information with an easily recalled past event.

A return objective is said to be relative if the objective is:

based on a benchmark index or portfolio.

Open-end fund shares can

be purchased and redeemed at their NAVs.

Anchoring may cause investors to

believe recent highs are rational prices, even as they decline significantly.

An asset class should be specified

by type of security

Investors engaging in active ownership to pursue their ESG considerations may

choose to vote their shares themselves or instruct an investment manager to vote the shares.

The execution step of the portfolio management process includes

choosing a target asset allocation, evaluating potential investments based on top-down or bottom-up analysis, and constructing the portfolio

A pooled investment with a share price significantly different from its net asset value (NAV) per share is most likely a(n):

closed-end fund.

What are belief persistence biases?

conservatism, representativeness, confirmation, illusion of control, and hindsight biases

An individual who exhibits endowment bias

considers an owned asset to be special and worth more than its actual market value.

The portfolio approach to investing is best described as evaluating each potential investment based on its:

contribution to the investor's overall risk and return.

Financial risks include

credit risk, liquidity risk, and market risk.

Examples of financial risks include:

credit risk, market risk, and liquidity risk.

High risk tolerance, a long investment horizon, and low liquidity needs are most likely to characterize the investment needs of a(n):

defined benefit pension plan.

Tactical asset allocation is

deviating from a portfolio's strategic asset allocation because an asset class or sector is perceived to be mispriced in the short term.

Closed-end funds' share prices can

differ significantly from their NAVs.

The diversification ratio is calculated by

dividing a portfolio's standard deviation of returns by the average standard deviation of returns of the individual securities in the portfolio

In the Markowitz framework, an investor should most appropriately evaluate a potential investment based on its:

effect on portfolio risk and return.

Status quo and endowment biases what type of biases

emotional biases

Based on a questionnaire about investment risk, an advisor concludes that an investor's risk tolerance is high, but based on an analysis of the client's income needs and time horizon, he concludes the investor's risk tolerance is low. The most appropriate action for the advisor is to:

emphasize bonds over stocks.

In a defined contribution pension plan, investment risk is borne by the:

employee.

Features of a risk management framework include

establishing risk governance policies, determining risk tolerance, identifying and measuring risks, managing or mitigating risks, monitoring exposures to risks, performing strategic risk analysis, and communicating risk levels through the organization.

The planning step of the portfolio management process includes

evaluating the investor's needs and preparing an investment policy statement.

there is a positive relationship between

expected returns (ER) and expected risk and the risk return line (capital market line [CML] and security market line [SML]) is upward sweeping

Conservatism bias refers to

failing to change a view as new information becomes available, and may result in investors keeping assets too long because they are slow to update a view or forecast

Hedge funds and buyout firms typically employ

high leverage to acquire assets.

Operational risk is most accurately described as the risk that:

human error or faulty processes will cause losses.

An objective of the risk management process is to:

identify the risks faced by an organization.

Risk management within an organization should most appropriately consider:

interactions among different risks.

Risk tolerance and return requirements make up the

investment objectives.

Fear of regret may

keep even skeptical investors in the market when analysis suggests assets are significantly overvalued.

An endowment is required by statute to pay out a minimum percentage of its asset value each period to its beneficiaries. This investment constraint is best classified as:

legal and regulatory.

An individual investor specifies to her investment advisor that her portfolio must produce a minimum amount of cash each period. This investment constraint is best classified as:

liquidity.

Foundations and life insurance companies typically have

long investment horizons.

Endowments and foundations typically have investment needs that can be characterized as:

long time horizon, high risk tolerance, and low liquidity needs.

Sarah Kowalski bought a growth stock for $45 per share that subsequently fell by 35%, and she is reluctant to sell as she hopes the stock bounces back. Kowalski is most likely exhibiting:

loss-aversion bias.

If an investor's ability to bear risk is low and willingness to bear risk is high, an investment manager should most appropriately consider the investor's overall financial risk tolerance to be:

low.

In the top-down valuation approach, how does the investor analyze it

macroeconomic influences first, then industry influences, and then company influences.

Risk shifting refers to

managing a risk by modifying the distribution of outcomes.

Overconfidence bias occurs when

market participants overestimate their own intuitive ability.

Passive management has been gaining

market share over time versus active management.

The feedback step of the portfolio management process includes

measuring and reporting performance and monitoring and rebalancing the portfolio.

Rex Newman treats wages differently from bonuses when determining his savings and investment goals. As a result, he invests any available after-tax wages in low-risk investments while investing his bonuses in high-risk alternatives. Newman is most likely exhibiting:

mental accounting bias.

Compared to emotional biases, cognitive errors are more likely to be:

mitigated by information.

Non-financial risk include

model risk, operational risk, solvency risk, regulatory risk, governmental or political risk, legal risk, tail risk, and accounting risk.

A mutual fund that invests in short-term debt securities and maintains a net asset value of $1.00 per share is best described as a:

money market fund

MAL Investments is an asset management company that consists of three subsidiaries: one that focuses on mid-cap value stocks, one that focuses on alternative assets, and one that focuses on long-term emerging market sovereign debt. MAL is most accurately described as a:

multi-boutique firm.

Overconfidence bias may lead to

overtrading, underestimation of risk, and lack of diversification

Identifying a benchmark for a client portfolio is most likely to be part of the:

planning step.

A pooled investment fund buys all the shares of a publicly traded company. The fund reorganizes the company and replaces its management team. Three years later, the fund exits the investment through an initial public offering of the company's shares. This pooled investment fund is best described as a(n):

private equity fund.

Availability bias is

putting undue emphasis on information that is readily available, easy to recall, or based narrowly on personal experience or knowledge. Loss aversion arises from feeling more pain from a loss than pleasure from an equal gain.

A portfolio manager uses a computer model to estimate the effect on a portfolio's value from both a 3% increase in interest rates and a 5% depreciation in the euro relative to the yen. The manager is most accurately described as engaging in:

scenario analysis.

Hindsight bias refers to

selective memory of past events resulting in individuals believing these events were more predictable than they seemed before they happened.

The risk management process

should identify an organization's risk tolerance, identify the risks it faces, and monitor or address these risks.

Strategic asset allocation refers to

specifying the percentages of a portfolio's value to allocate to specific asset classes.

Emotional biases

stem from feelings or intuition.

Preventing a risk refers to taking steps such as

strengthening security procedures.

A portfolio manager who believes equity securities are overvalued in the short term reduces the weight of equities in her portfolio to 35% from its longer-term target weight of 40%. This decision is best described as an example of:

tactical asset allocation.

Value-at-Risk (VaR) and Conditional VaR are best described as measures of:

tail risk.

An investment manager has constructed an efficient frontier based on a client's investable asset classes. The strategic asset allocation for the client should be the asset allocation of one of these efficient portfolios, selected based on:

the client's investment objectives and constraints.

The policy statement outlines broad objectives and constraints but does not get into

the details of specific stocks for investment.

Stress testing examines

the effects of changes in a single input.

In a defined benefit pension plan:

the employee is promised a periodic payment upon retirement.

Rho measures

the interest rate sensitivity of the value of a derivative.

Duration measures

the interest rate sensitivity of the value of a fixed-income security or portfolio.

The major components of a typical investment policy statement (IPS) least likely include:

the investment manager's compensation.

Beta measures

the market risk of an asset or portfolio.

What are the five categories of investment constraints

time horizon, liquidity needs, legal and regulatory factors, unique needs and preferences, and tax situation

The investment needs of a property and casualty insurance company are most likely different from the investment needs of a life insurance company with respect to:

time horizon.

Buying insurance is best described as a method for an organization to:

transfer a risk.

The effect of integrating ESG considerations on portfolio returns is

uncertain.

Confirmation bias refers to

when investors seek out information that supports their beliefs, while avoiding conflicting views.

When developing the strategic asset allocation in an IPS, the correlations of returns:

within an asset class should be relatively high.