mouse123

The three primary risks that could jeopardize the desired lifestyle and/or bequest of an individual include which of the following?

A) Longevity risk, savings risk, and inflation risk.

B) Savings risk, financial market risk, maturity risk.

C) Financial market risk, longevity risk, and savings risk.

---

The three primary risks that could jeopardize an individual’s retirement plans are: financial market risk, longevity risk, and savings risk. Financial market risk refers to the effects of volatility in the financial markets that could result in significant drops in portfolio values. Longevity risk refers to the chance of out-living one’s financial assets. Savings risk refers to the chance of an individual spending more than they should so that they save less than needed during the accumulation stage. This is usually the result of poor long-term planning. Inflation risk is included in savings risk.

mouse123

Which of the following is NOT an example of a cause of savings risk?

A) The financial markets drop significantly wiping out a significant portion of a person’s wealth.

B) A person expects to average a 12% rate of return in their 401k retirement account.

C) A person fails to determine how much they need to save given an assumed rate of return and time frame.

---

A drop in a person’s financial wealth due to a drop in the equity markets is an example of financial market risk and not savings risk. Savings risk is when a person doesn’t save enough for retirement and spends more than they should during the accumulation phase. Savings risk usually arises from a lack of long-term planning and is the result of consuming too much current income rather than saving it. Relying too much on growth in a 401k to make up for a lack of saving is an example of savings risk.

mouse123

The volatility of human capital and the demand for life insurance are:

A) negatively correlated.

B) positively correlated.

C) uncorrelated.

---

Human capital volatility and demand for life insurance are negatively correlated. Life insurance acts as a substitute for human capital, so its face value depends on the perceived value of the human capital it replaces. If the human capital has high volatility (equity-like), a higher discount rate is used to estimate its present value. Thus, human capital with high volatility has a smaller present value than human capital with low volatility.

mouse123

Factors that are positively related to the demand for life insurance include:

A) human capital volatility and risk aversion.

B) financial wealth and probability of death.

C) risk aversion and probability of death.

---

As either risk aversion or probability of death increase, so does the demand for life insurance. Human capital volatility and financial wealth are both negatively correlated with the demand for life insurance.

mouse123

Which of the following statements regarding human capital volatility is most accurate? When human-capital is bond-like, an investor’s financial assets should be:

A) allocated towards low risk assets and their demand for life insurance will increase.

B) more aggressively allocated and their demand for life insurance will decrease.

C) more aggressively allocated and their demand for life insurance will increase.

---

When human-capital is bond-like, an investor’s financial assets can be more aggressively allocated and the demand for life insurance will increase. On the other hand, when human-capital is equity-like, an investor’s financial assets should be allocated towards low risk assets and their demand for life insurance will decrease.

mouse123

Financial wealth and the demand for life insurance have:

A) a negative relationship.

B) a positive relationship.

C) either a positive or a negative relationship depending upon the individual’s level of wealth.

---

Financial wealth and the demand for life insurance have a negative relationship which means if a person has a lot of financial wealth their need for life insurance is small and visa versa.

mouse123

In general, an individual facing retirement has a greater amount of:

A) financial capital than human capital.

B) human capital than financial capital.

C) both human and financial capital than when they first started working.

---

An individual facing retirement has a decreased amount of human capital, but most likely has accumulated a significant amount of financial capital. On the other hand, a young individual beginning their career most likely has minimal financial capital but a great amount of human capital.

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.

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

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.