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Reading 10: Prudence in Perspective-LOS c 习题精选

Session 2: Ethical and Professional Standards: Application
Reading 10: Prudence in Perspective

LOS c: Differentiate between the old Prudent Man Rule and the new Prudent Investor Rule.

 

 

With respect to the Prudent Man Rule and the Prudent Investor Rule, which of the following statements is least accurate?

A)
An investment that is not appropriate under the Prudent Man Rule may be appropriate under the Prudent Investor Rule.
B)
The Prudent Investor Rule imposes an ordinary standard of care.
C)
Both impose discretion in choosing investments.


 

The Prudent Investor Rule imposes a “professional” standard of care. The Prudent Investor Rule may allow an investment in an asset, based upon diversification benefits, when the Prudent Man Rule would not allow investing in that asset. Both rules impose discretion in choosing investments.

Which of the following statements represent the most important aspect of the Prudent Man Rule?

A)
The fiduciary is generally forbidden from delegating their investment authority.
B)
Each investment is considered on its own merits, not in regard to the rest of the portfolio.
C)
Using caution and being conservative in the selection of investments.


In general the Prudent Man Rule has been construed as a directive to preserve capital and avoid risk.

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Which of the following statements regarding the Prudent Investor Rule (PIR) and the Prudent Man Rule (PMR) is most accurate?

A)
Under the PIR no particular investment is either prudent or imprudent.
B)
The PIR is primarily results-oriented while the PMR is process-oriented.
C)
Under the PIR restrictions on investment in categories of securities have been codified.


Under the PIR no particular investment is either prudent or imprudent. The decision is made based upon return vs. risk, where risk is measured by the asset’s impact on the portfolio.

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Mary Rutherford, CFA, is considering the purchase of Greenbelt Paper's stock in an upcoming initial public offering (IPO) for a portfolio that she serves as trustee. She has performed the necessary research and believes that the stock satisfies the fund's risk/reward requirements. Under the Prudent Man Rule, Rutherford would:

A)
be allowed to buy the IPO as well as any options on the stock.
B)
be allowed to buy the IPO.
C)
not be allowed to buy the IPO, because the transaction is considered too risky.


Under the Prudent Man Rule, entire classes of securities (options, futures, IPOs, etc.) were deemed imprudent. Hence, Rutherford would not be able to buy IPOs or options on stocks.

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Mary Rutherford, CFA, is considering the purchase of Greenbelt Paper's stock in an upcoming initial public offering (IPO) for a portfolio that she serves as trustee. She has performed the necessary research, and believes that the stock satisfies the fund's risk/reward requirements. Under the Prudent Investor Rule, Rutherford would:

A)
not be allowed to buy the IPO because the transaction is considered too risky.
B)
be allowed to buy the IPO.
C)
not be allowed to buy the IPO but could instead purchase a large position in the secondary market.


The new Prudent Investor Rule does not rule out entire classes of securities as does the old rule. However, the trustee must avoid speculation and undue risk. A large position of any stock would not be considered prudent, not to mention an untested stock. The higher fees could be construed as excessive fees and prohibited under the Prudent Investor Rule.

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Lorenzo Edwards, CFA, is a member of the board of trustees for the Waldrop Enterprise pension fund. He was instrumental in the hiring of Dora Ray, CFA, as lead manager of the fund 5 years ago. During her tenure, Ray's long-term performance has been solid. The record shows that the fund has outperformed the relevant composite benchmark by 62 basis points, on average, during the period. Last quarter, she purchased shares of Baseco which proceed to fall sharply in value and brought down the overall performance of the fund. The board is now asking Edwards what has gone wrong. Which of the following is most correct with regard to the situation at Waldrop pension fund?

A)
Edwards should tell the board that under the Prudent Man Rule, the investment risk for Baseco must be evaluated in a portfolio context, and not on a standalone basis.
B)
As a CFA Charterholder, Edwards’ delegation of investment authority to Rey is in violation of the Code and Standards.
C)
Edwards should tell the board that even though the Baseco investment did not perform as expected, there is no evidence that the Prudent Investor Rule has been violated.


The Prudent Investor Rule requires that the evaluation of an investment must be done with consideration to how it affects portfolio performance, and not in isolation. Thus, even though the addition of Baseco has had a negative impact on fund performance, there is no evidence that the Prudent Investor Rule has been violated. The Prudent Man Rule, which the Prudent Investor Rule has supplanted in most jurisdictions, evaluates each individual security in isolation—the Prudent Investor Rule takes a portfolio perspective. The Prudent Investor Rule allows for delegation of authority. In fact, delegation of authority can be viewed as required when specialized expertise is required.

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The basic rationale for switching from the Prudent Man Rule (PMR) to the Prudent Investor Rule (PIR) is that the PMR:

A)
was permitting fiduciaries to take risks that were deemed unacceptable when reviewed in court.
B)
is process-oriented while the PIR is a results-oriented framework.
C)
views the decision to invest in each asset in isolation, while the PIR recognizes the major tenets of modern portfolio theory and views the decision to invest in a given asset relative to its impact on the portfolio as a whole.


The main difference between the PMR and the PIR is that the PMR looks at assets in isolation while the PIR incorporates modern portfolio theory. In other words, the PIR looks at an asset’s risk relative to return, and the risk is a function of how the inclusion of the asset affects overall portfolio returns.

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Which of the following statements best summarizes the fundamental concepts underlying the Prudent Man Rule (PMR) and the Prudent Investor Rule (PIR)? The PMR considers risk:

A)
relative to return; the PIR considers risk independent of return.
B)
relative to return; the PIR considers risk relative to return.
C)
independent of return; the PIR considers risk relative to return.


The PMR considers risk independent of return. The PIR considers risk relative to return.

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Which of the following statements about the Prudent Investor Rule is least accurate?

A)
The fiduciary has a duty to diversify unless there is a valid reason not to.
B)
Liability is based on the performance of the assets not on the process of making the selections.
C)
Prudence is determined by looking at the portfolio rather than on specific investments.


Liability is based on the care in the process of making the selections, not on the performance of the assets chosen.

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The Prudent Man Rule (PMR) traces its origins back to:

A)
the 1933 legislation known as the Glass-Steagall Act.
B)
the 1830 court case of Harvard College vs. Amory.
C)
changes in banking practices that resulted from the collapse in financial markets during the Great Depression in the 1930s.


The PMR concept originated with the 1830 court case of Harvard College vs. Amory.

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