LOS j: Compare and contrast the methodologies used to construct equity style indices.

Q1. Which of the following is most accurate regarding equity style index methodology? If style is viewed as a quantity then:

A)   the market cap of some stocks will be split between value and growth indices.

B)   stocks will be placed in either value or growth indices with no overlap.

C)   there will be a neutral style index category.

Q2. If an equity style index has buffering rules, the index will have:

A)   less turnover and there will be lower transactions costs from rebalancing for managers tracking the index.

B)   more turnover and there will be higher transactions costs from rebalancing for managers tracking the index.

C)   more turnover and there will be lower transactions costs from rebalancing for managers tracking the index.

Q3. Which of the following is most accurate regarding equity style index methodology? The justification for having just two categories of style (i.e., there is only value and growth and no neutral category) is that:

A)   having overlap in categories precludes a neutral category.

B)   many investment managers have a clear value or growth mandate they must follow.

C)   neutral categories are hard to define.

Q4. Which of the following is most accurate regarding equity style index methodology? Most equity style indices are constructed using:

A)   holdings-based style analysis which would make buffering more necessary compared to using returns-based style analysis.

B)   returns-based style analysis which would make buffering more necessary compared to using holdings-based style analysis.

C)   holdings-based style analysis which would make buffering less necessary compared to using returns-based style analysis.

LOS j: Compare and contrast the methodologies used to construct equity style indices. fficeffice" />

Q1. Which of the following is most accurate regarding equity style index methodology? If style is viewed as a quantity then:

A)   the market cap of some stocks will be split between value and growth indices.

B)   stocks will be placed in either value or growth indices with no overlap.

C)   there will be a neutral style index category.

Correct answer is A)

If style is viewed as a quantity, then there will be overlap when the style index is constructed. Some of a stock’s market cap may be assigned to value and another part could be assigned to growth. This would occur when a stock is not clearly value or growth. Whether style is viewed as a quality or a quantity does not affect whether there will be a neutral category.

Q2. If an equity style index has buffering rules, the index will have:

A)   less turnover and there will be lower transactions costs from rebalancing for managers tracking the index.

B)   more turnover and there will be higher transactions costs from rebalancing for managers tracking the index.

C)   more turnover and there will be lower transactions costs from rebalancing for managers tracking the index.

Correct answer is A)

If an index has buffering rules, a stock is not immediately moved to a different style category when its style characteristics have slightly changed. The presence of buffering means that there will be less turnover in the style indices and hence lower transactions costs from rebalancing for managers tracking the index.

Q3. Which of the following is most accurate regarding equity style index methodology? The justification for having just two categories of style (i.e., there is only value and growth and no neutral category) is that:

A)   having overlap in categories precludes a neutral category.

B)   many investment managers have a clear value or growth mandate they must follow.

C)   neutral categories are hard to define.

Correct answer is B)         

Most indices have just two categories, value and growth (i.e., there is no neutral style index). The justification for just two categories is that many investment managers have a clear value or growth mandate and they need a benchmark that is structured similar to their mandate.

Q4. Which of the following is most accurate regarding equity style index methodology? Most equity style indices are constructed using:

A)   holdings-based style analysis which would make buffering more necessary compared to using returns-based style analysis.

B)   returns-based style analysis which would make buffering more necessary compared to using holdings-based style analysis.

C)   holdings-based style analysis which would make buffering less necessary compared to using returns-based style analysis.

Correct answer is A)

Most indices use holdings-based style analysis to characterize securities. Holding-based style analysis detects style changes more quickly than returns-based style analysis. If an index has buffering rules, a stock is not immediately moved to a different style category when its style characteristics have slightly changed. Because holdings-based style analysis detects style changes more quickly, buffering would become more necessary so that there is not excessive turnover within the index.

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