LOS n: Contrast the characteristic issues relating to asset allocation for individual investors versus institutional investors and critique a proposed asset allocation in light of those issues.

Q1. Melissa Brown, an analyst with Mollette Capital Advisors, is reviewing the client profile of Karrie Jones. Mollette manages all of Jones’ investment assets; however, since Brown is new to the firm, she has never met Jones. She does know, however, that Jones’ asset allocation is appropriate given her age and investment policy statement. The allocation of Jones’ portfolio is shown below:

Given Jones’ asset allocation, which of the following conclusions about Jones is most accurate?

A)   Jones has a low risk tolerance.

B)   Jones’ human capital makes up the bulk of her portfolio.

C)   Jones has a large amount of financial capital.

Q2. Stokes Day Nursery is a nonprofit organization to provide day care for children from low-income homes. The endowment that funds the nursery has a value of $8 million, and it is estimated that the nursery will need $360,000 in the current year to fund its operations. The nursery’s expenses are expected to grow by 3% annually, in line with inflation. William Rose has been hired as a consultant to review Stokes Day Nursery’s portfolio. The asset allocation for the current portfolio is shown below.

Rose makes four suggestions regarding the current portfolio:

Suggestion 1:       The allocation to cash should be higher.

Suggestion 2:       The allocation to intermediate-term Treasury bonds should be lower.

Suggestion 3:       The allocation to U.S. equities should be lower.

Suggestion 4:       The allocation to emerging market international equities is appropriate.

Which of the suggestions should the board of directors for Stokes Day Nursery agree with?

A)   Suggestions 2 and 4 only.

B)   Suggestions 1 and 3 only.

C)   Suggestions 1 and 2 only.

Q3. Reid Williams is responsible for training new analysts and portfolio managers for Grames Investment Advisors. Since Grames specializes in institutional clients, Williams wants to make sure that his new trainees know the needs of various institutional investors. Reid gives an assignment to all of his trainees to identify general differences in asset allocations for different types of institutional investors. One of Williams’ trainees, Phil Nagy, turns in his assignment with the following statements.

Statement 1:     A bank is likely to hold more bonds than an insurance company’s surplus portfolio.

Statement 2:     An endowment is likely to hold more equities than the portfolio that funds an insurance company’s fixed annuities.

Statement 3:     An endowment is more likely to hold more emerging market equities than an insurance company’s surplus portfolio.

Statement 4:     A private foundation is likely to have higher cash needs than a pension fund with a low ratio of retired to active lives.

When grading the papers, Williams gives his trainees 25 points for each correct statement. Given the grading criteria, Nagy’s grade on the paper is most likely:

A)   50%.

B)   100%.

C)   75%.