9.3 portfolio management: an overview Flashcards
the portfolio’s diversification ratio
(total portfolio standard deviation) / (average standard deviation of all securities in the portfolio)
contagion
severe market turmoil often leads to many assets moving down in value together
reduces the benefits of diversification that are achieved under normal market conditions.
The portfolio management process has three steps. The actions involved in each step are summarized below:
- The Planning Step:
- Understanding the client’s needs
- Preparing the Investment Policy Statement (IPS)
- The Execution Step:
- Asset allocation
- Security analysis
- Portfolio construction
- The Feedback Step:
- Monitoring and rebalancing
- Performance measurement and reporting
The rapid growth of robo-advisors can be attributed to several factors, including:
Underserviced customers
Lower fees
New entrants
Mutual funds
commingled pools of assets.
Investors have pro-rata claims to these assets based on the amount of their investment. T
his investment vehicle is ubiquitous, with a wide variety of options available to investors.
A study of 23 countries recorded almost 50,000 mutual funds.
Open-end funds
will accept new investments after they have been launched.
Funds with this structure can easily accommodate growth by creating new shares. The number of new shares to be created is determined by dividing the amount of the new investment by the fund’s net asset value (NAV) per share.
Of course, existing investors can also redeem their shares at NAV, so managers must hold a certain amount of cash. If redemptions exceed new investments, shares will be retired and NAV per share will be unaffected.
All transactions are conducted with the fund itself, which retires shares and issues new ones as appropriate based on investor cash flows.
Closed-end funds
do not accept new money investments after they have been launched
No new shares are created and no existing shares are retired. However, closed-end fund shares can be sold to other investors. Because of this structure, closed-end fund shares can trade at a premium or discount relative to NAV.
The major advantage of closed-end funds is that managers can be fully invested because there is no need to hold cash in anticipation of redemptions. However, open-end funds are easier to grow because they are always accepting new capital.
No-load funds
do not have investing or redemption fees, but they do take a percentage of NAV as an annual fee.
Load funds charge an annual fee based on NAV as well as fees on inflows (new investments) and outflows (redemptions).
The number of loan funds has steadily decreased.
Types of Mutual Funds
Money Market Funds
Bond Mutual Funds
Stock Mutual Funds
Hybrid/Balanced Funds
The key features of hedge funds include:
Short positions are common, either directly through short sales or indirectly with derivatives.
Managers pursue high absolute returns that have a low correlation with returns on other asset classes.
High leverage (either from borrowing or derivatives) is used to enhance returns.
The manager’s fee structure includes a management fee based on a percentage of assets and a performance-based incentive fee, which may be subject to a high-water mark provision.
The pool of hedge fund investors is relatively small due to high minimum investment levels, liquidity constraints, and long-term investment commitments.
Which of the following is the best reason for an investor to be concerned with the composition of a portfolio?
a) Risk reduction.
b) Downside risk protection.
c) Avoidance of investment disasters.
a) Risk reduction.
With respect to the portfolio management process, the asset allocation is determined in the:
a) planning step.
b) feedback step.
c) execution step.
c) execution step.
A defined benefit plan with a large number of retirees is likely to have a high need for:
a) income.
b) liquidity.
c) insurance.
a) income.
Income is necessary to meet the cash flow obligation to retirees. Although defined benefit plans have a need for income, the need for liquidity typically is quite low
Which of the following institutional investors is most likely to manage investments in mutual funds?
a) Insurance companies.
b) Investment companies.
c) University endowments.
b) Investment companies.
Investment companies manage investments in mutual funds
Which of the following investment products is most likely to trade at their net asset value per share?
a) Exchange traded funds.
b) Open-end mutual funds.
c) Closed-end mutual funds.
b) Open-end mutual funds.
Open-end funds trade at their net asset value per share, whereas closed-end funds and exchange traded funds can trade at a premium or a discount.
