Portfolio Management and Wealth Planning【Reading 14】 regarding, following, statements

mouse123

Which of the following statements regarding the Human Capital equation below is least accurate?

A) The expectancy of receiving a bonus is incorporated into the numerator.

B) The amount of human capital is based on an investor’s current annual inflows.

C) Volatility is included in the denominator.

---

The Human Capital equation is:

Thus the amount of human capital (HCt) is based on future income expectations and not just current income.

mouse123

Social security and other employment-related pension payments are considered:

A) human capital because they are derived directly from the investor’s labor.

B) financial capital because they are derived from an accumulation of the investor’s past labor.

C) neither human capital nor financial capital because they are received after retirement.

---

Since social security and other employment-related pension payments are derived directly from the investor’s labor, they are considered human capital. Thus, an individual’s human capital can have a positive value at retirement.

mouse123

A measure of an individual’s lifetime earning capacity is best defined as which of the following?

A) Financial capital.

B) Total wealth.

C) Human capital.

---

The definition of human capital is a measure of an individual’s lifetime earning capacity. It is the present value of the individual’s expected income from salary, wages, bonuses, etc, as well as employment-related retirement pension income. Human and financial capital added together are called total wealth.

mouse123

Which of the following is considered human capital?

A) Social Security payments.

B) Investment gains.

C) Inheritance.

---

Human capital is a measure of the individual’s lifetime earning capacity. It is the present value of the individual’s expected income from salary, wages, and bonuses, as well as employment-related retirement pension income. Since social security is derived directly from the investor’s labor it is considered human capital. Both investment gains and inheritance are considered financial capital defined as the total value of financial assets owned.

mouse123

In the following graph which of the following statements is most accurate regarding what the vertical axis represents besides dollars?

A) The point in time when the individual is born and their potential human capital is the greatest while their financial capital is the smallest.

B) The combined amount of human and financial capital called total wealth.

C) The point in time when the individual finishes their educational training and starts working.

---

The vertical axis denotes the point in time when the investor finishes preparing for their career by completing their education or training and starts generating income. It also shows the amounts of human and financial capital separately.

mouse123

A financial asset that is specifically designed to address the problem of outliving one’s assets is called:

A) a guaranteed investment contract.

B) a life annuity.

C) life insurance.

---

Life annuities are designed to pay income to the owner as long as the owner is alive. Therefore, unless the insurance company issuing the annuity fails and is unable to make the payments as promised, the annuitant cannot outlive their income.

mouse123

Life insurance is most commonly used to hedge against:

A) mortality risk.

B) earnings risk.

C) longevity risk.

---

Life insurance is the most commonly employed hedge against mortality risk.

mouse123

Which of the following statements regarding human capital is most accurate?

A) For a young investor their human capital is equivalent to a large holding of an illiquid asset.

B) A person’s human capital is highest when they are born and trends downward after that.

C) A person’s human capital is zero at retirement.

---

Young investors are at the peak of their human capital which is defined as the present value of all expected future income derived from their labor. Human capital is illiquid because at the beginning of their careers young investors cannot cash in their future earnings or pension accounts which they have not earned yet. A person’s human capital is highest when they have finished their training or education for their career and it steadily trends downward from there. Social Security and pension payments are derived from labor thus they are considered part of human capital so at retirement if a person receives social security or a pension from a company their human capital at retirement would not be zero.

mouse123

With regard to an individual’s total wealth, which statement is most accurate? If an individual’s human capital is fixed income-like their financial portfolio:

A) may be weighted more heavily towards risky assets.

B) should be weighted with similar non-risky fixed income assets.

C) should be weighted in no specific way that is related to their human capital.

---

An individual’s financial portfolio can be weighted more heavily towards risky assets if their human capital is fixed income-like. If an individual has a secure job with an annual salary, they are able to accept more risk in their financial portfolio since their human capital has very low risk.

mouse123

A salesman is paid by his employer by the commission of his sales only. He has noticed that in the last couple years, the amount of his sales has been closely correlated with the U.S. market. The salesman should:

A) weight his financial portfolio more so in risky assets.

B) weight his financial portfolio more so in low risk, fixed income assets.

C) have no preference for how his financial portfolio is weighted.

---

If an individual’s human capital is equity-like (tied directly or indirectly to equity markets), he or she may want to hold a lower risk, fixed-income weighted portfolio to compensate for the riskiness of their human capital.