Reading 16: Life-Cycle Investing－LOS a policy, setting, investment

tycoon

CFA Institute Area 3-5, 7, 12, 14-18: Portfolio Management
Session 4: Private Wealth Management
Reading 16: Life-Cycle Investing
LOS a: Explain the importance of age and level of wealth in setting investment policy.

tycoon

Which of the following statements concerning an investors age and level of wealth is most accurate? The investors level of risk tolerance is usually:

A) decreasing with age, and decreasing with wealth.

B) decreasing with age, but increasing with wealth.

C) increasing with age, but decreasing with wealth.

D) increasing with age, and increasing with wealth.

Answer and Explanation

The investors level of risk tolerance is typically decreasing with age, but increasing with wealth.

tycoon

Jay, aged 30, is not wealthy. Kevin, aged 50, has significant net worth. Lee, aged 70, is independently wealthy. Which of the following relationships regarding their optimal investment policies is most accurate?

A) Jay should be more aggressive than Kevin, who should be more aggressive than Lee.

B) Kevin should be more aggressive than Jay, who should be more aggressive than Lee.

C) Lee should be more aggressive than Kevin, who should be more aggressive than Jay.

D) Lee should be more aggressive than Jay, who should be more aggressive than Kevin.

---

Answer and Explanation

Even though Lee is older than Kevin, who is older than Jay, wealth dominates age for these investors. Lee is independently wealthy, thus implying that he can be aggressive. Kevin should adopt a moderate risk profile, while Jay should adopt a conservative risk profile.

tycoon

What are the main factors that underlie the determination of an appropriate investment policy when using a life-cycle approach, what is the main concern involved with determination of feasible retirement income, and what methods can be used to address this potential problem?

A) The main factors that underlie investment policy under a life-cycle approach are the investors stage of life and level of wealth. The main issue to be addressed in determining the feasible level of retirement income is that of outliving ones assets and income, and this can be addressed by spending only the real returns on assets held, incorporating a margin of safety in life expectancy calculations, or by using life annuities.

B) The main factors that underlie investment policy under a life-cycle approach are the investors stage of life and level of wealth. The main issue to be addressed in determining the feasible level of retirement income is that of maintaining purchasing power, and this can be addressed by spending only the real returns on assets held, incorporating a margin of safety in life expectancy calculations, or by using life annuities.

C) The main factors that underlie investment policy under a life-cycle approach are the investors stage of life and liability structure. The main issue to be addressed in determining the feasible level of retirement income is that of outliving ones assets and income, and this can be addressed by spending only the real returns on assets held, incorporating a margin of safety in life expectancy calculations, or by using life annuities.

D) The main factors that underlie investment policy under a life-cycle approach are the investors stage of life and liability structure. The main issue to be addressed in determining the feasible level of retirement income is that of maintaining purchasing power, and this can be addressed by spending only the real returns on assets held, incorporating a margin of safety in life expectancy calculations, or by using life annuities.

---

Answer and Explanation

The main factors that underlie investment policy under a life-cycle approach are the investors stage of life and level of wealth. Stage of life is a proxy for the length of the investment horizon. The longer the investment horizon, the greater the risk-tolerance, and the more aggressive the appropriate investment policy. Wealth is measured by the amount of discretionary wealth (that above and beyond what is required to meet current and future liabilities) relative to total assets. The greater the investors wealth, the greater the risk-tolerance, and the more aggressive the appropriate investment policy.

The main issue to be addressed in determining the feasible level of retirement income is that of outliving ones assets and income. This potential problem can be addressed by spending only the real returns on assets held, incorporating a margin of safety in life expectancy calculations, or by using life annuities.

The main factors that underlie investment policy under a life-cycle approach are the investors stage of life and level of wealth. Stage of life is a proxy for the length of the investment horizon. The longer the investment horizon, the greater the risk-tolerance, and the more aggressive the appropriate investment policy. Wealth is measured by the amount of discretionary wealth (that above and beyond what is required to meet current and future liabilities) relative to total assets. The greater the investors wealth, the greater the risk-tolerance, and the more aggressive the appropriate investment policy.

The main issue to be addressed in determining the feasible level of retirement income is that of outliving ones assets and income. This potential problem can be addressed by spending only the real returns on assets held, incorporating a margin of safety in life expectancy calculations, or by using life annuities.