115. Which of the following constraints would most likely appear in the unique needs and preferences section of a trust’s investment policy statement? The portfolio is:
A. subject to the prudent-man standard.
B. prohibited from investing in tobacco companies.
C. prohibited from holding less than 5% in cash instruments.
116. Over time, the major source of investment return and risk can most likely be attributed to:
A. stock selection.
B. asset allocation.
C. risk management.
117. The risk-free interest rate is 5 percent, and the return on market portfolio is 8 percent. A stock with a beta of 0.5 that has an estimated rate of return of 7 percent is most likely:
A. overvalued.
B. undervalued.
C. correctly valued.
115. Which of the following constraints would most likely appear in the unique needs and preferences section of a trust’s investment policy statement? The portfolio is:
A. subject to the prudent-man standard.
B. prohibited from investing in tobacco companies.
C. prohibited from holding less than 5% in cash instruments.
Answer: B
“The Asset Allocation Decision,” Frank K. Reilly and Keith C. Brown
2009 Modular Level I, Volume 4, pp. 206-212
Study Session 12-49-d
Describe the investment constraints of liquidity, time horizon, tax concerns, legal and regulatory factors, and unique needs and preferences.
Unique needs and preferences include the prohibition of certain investments. The investment constraints of liquidity, tax concerns, and legal and regulatory factors adequately address the portfolio’s other constraints.
116. Over time, the major source of investment return and risk can most likely be attributed to:
A. stock selection.
B. asset allocation.
C. risk management.
Answer: B
“The Asset Allocation Decision,” Frank K. Reilly and Keith C. Brown
2009 Modular Level I, Volume 4, pp. 214-216
Study Session 12-49-e
Describe the importance of asset allocation, in terms of the percentage of a portfolio’s return that can be explained by the target asset allocation, and explain how political and economic factors result in differing asset allocations by investors in various countries.
The asset allocation decision explains about 90% of a fund’s returns over time.
Across al funds, asset allocation explains an average of 40% of the variation in fund returns, and slightly more than 100% of the average fund’s level of return.
117. The risk-free interest rate is 5 percent, and the return on market portfolio is 8 percent. A stock with a beta of 0.5 that has an estimated rate of return of 7 percent is most likely:
A. overvalued.
B. undervalued.
C. correctly valued.
Answer: B
“Managing Investment Portfolio: A Dynamic Process” John Maginn, Donald
Tuttle, Denis McLeavy, Jerald Pinto
2009 Modular Level I, Volume 4, p 259-263
Study Session 12-51-e
Calculate, using the SML, the expected return on a security, and evaluate whether the security is overvalued, undervalued, or properly valued.
The required return = E(Ri)= RFR + ?i (E(Rm)- RFR) = 5 +0.5(8-5) = 6.5. But the estimated return is 7%. Therefore the stock is undervalued because its estimated return, given the risk, lies above the SML, i.e. 7% > 6.5%.
118. The minimum variance zero-beta portfolio most likely has some:
A. systematic and unsystematic risk.
B. unsystematic risk and no systematic risk.
C. systematic risk and no unsystematic risk.
119. Which of the following statements is least likely to be an assumption about investor behaviour underlying the Markowitz model?
A. Investors maximize one-period expected return
B. Investors base their decisions solely on expected return and risk
C. Investors have utility curves that are a function of expected returns and variance.
120. Compared to the traditional Capital Asset Pricing Model (CAPM), where lending and borrowing are carried out at the risk-free rate, a zero-beta CAPM would most likely result in a security market line (SML) with:
A. unchanged intercept and slope.
B. a higher intercept and flatter slope.
C. a lower intercept and steeper slope.
118. The minimum variance zero-beta portfolio most likely has some:
A. systematic and unsystematic risk.
B. unsystematic risk and no systematic risk.
C. systematic risk and no unsystematic risk.
Answer: B
“Managing Investment Portfolio: A Dynamic Process” John Maginn, Donald Tuttle, Denis McLeavy, Jerald Pinto
2009 Modular Level I, Volume 4, pp. 268-269
Study Session 12-51-d
The candidate should be able to explain the capital asset pricing model, including the security market line (SML) and beta, and describe the effects of relaxing its underlying assumptions.
Specifically within the set of feasible alternative portfolios, several portfolios exist where the returns are completely uncorrelated with the market portfolio; the beta of these portfolios with the market portfolio is zero. From among the several zero-beta portfolios, you would select one with minimum variance. This portfolio does not have any systematic risk (beta = 0), but it does have some unsystematic risk.
119. Which of the following statements is least likely to be an assumption about investor behaviour underlying the Markowitz model?
A. Investors maximize one-period expected return
B. Investors base their decisions solely on expected return and risk
C. Investors have utility curves that are a function of expected returns and variance.
Answer: A
“Managing Investment Portfolio: A Dynamic Process” John Maginn, Donald Tuttle, Denis McLeavy, Jerald Pinto
2009 Modular Level I, Vol 4, p 225-226
Study Session 12-50 b;
The candidate should be able to list the assumptions about investor behaviour underlying the Markowitz model;
Investors maximize one-period expected utility, and their utility curves demonstrate diminishing marginal utility of wealth.
120. Compared to the traditional Capital Asset Pricing Model (CAPM), where lending and borrowing are carried out at the risk-free rate, a zero-beta CAPM would most likely result in a security market line (SML) with:
A. unchanged intercept and slope.
B. a higher intercept and flatter slope.
C. a lower intercept and steeper slope.
Answer: B
“Managing Investment Portfolio: A Dynamic Process” John Maginn, Donald Tuttle, Denis McLeavy, Jerald Pinto
2009 Modular Level I, Volume 4, pp. 268-269
Study Session 12-51-d
The candidate should be able to explain the capital asset pricing model, including the security market line (SML) and beta, and describe the effects of relaxing its underlying assumptions.
Compared to the traditional CAPM, where lending and borrowing takes place at the risk-free rate, a zero beta CAPM will result in a SML that has a higher intercept and a flatter slope.
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