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LOA GOD MODE > Chap 23 > Flashcards

Chap 23 Flashcards

1
Q

It quantifies the degree to which a manager has added value relative to the market given the portfolio’s systematic risk.

A

Jensen’s alpha

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2
Q

It measures the performance of the portfolio as experienced by the investor.

A

dollar-weighted return

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3
Q

These are the best-known type of benchmark portfolios. They are designed to measure the movements of specified markets, rather than benchmark performance.

A

composite market index

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4
Q

It is the collection of portfolios (share similar risk characteristics) that form the basis for comparison in performance evaluation.

A

comparison/performance universes

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5
Q

The primary purpose of this is to set a realistic, attainable performance standard.

A

benchmark portfolio

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6
Q

Sharpe Benchmark

Key Concepts:

A
  1. Statistical Creation:
    • Method: Multiple-regression analysis
    • Purpose: Identifies if success is due to good management or high risk
  2. Performance Measurement:
    • Comparison: Against various indexes
  3. Style Analysis:
    • Function: Classifies manager’s typical investment style
  4. Reduce Style Drift:
    • Goal: Ensures manager sticks to intended investment style

Visual Summary:

•	**Multiple-Regression Analysis:**
•	🧮 Statistical Method
•	🎯 Goal: Good Management vs. Excessive Risk
•	**Performance Measurement:**
•	📊 Against Indexes
•	**Style Analysis:**
•	🧐 Classifies Investment Patterns
•	**Reduce Style Drift:**
•	🚦 Maintains Consistent Style
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7
Q

It is a measure of the average excess return per unit of risk. Risk is measured by the portfolio’s beta.

A

Treynor ratio

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8
Q

It involves the calculation of the return realized by a portfolio over a specific period.

A

Performance measurement

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9
Q

It is a specialized benchmark that includes all the securities that a manager normally selects from.

A

normal portfolio

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10
Q

It measures the excess average return per unit of total risk for a given period. Total risk is measured as the standard deviation of returns.

A

Sharpe ratio

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11
Q

It measures only the cumulative performance of the portfolio’s investments.

A

time-weighted return

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12
Q

It is an assessment of how well a portfolio has done over the evaluation period.

A

Performance appraisal

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13
Q

An effective monitoring system should (at a minimum) do the following:

A
  1. Keep the client’s financial information up to date.
  2. Keep the client’s contact information up to date.
  3. Describe how often meetings will as per the investment policy statement
    (IPS), which is created and agreed to by the client and advisor.
  4. Allow the advisor to stay on top of economic and financial market trends.
  5. Monitor the performance of fund managers if managed accounts are being used.
  6. Conduct periodic reviews and ask clients if their financial goals or personal circumstances have changed since the last review. Reviews should be held at least annually, and in some cases, quarterly.
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14
Q

Performance measurement and performance appraisal when looked at together will provide a ___________ of the advisor’s recommendations and how the client did.

A

cost-benefit analysis

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15
Q

Most firms have in-house software that will generate client portfolio reports with the following information:

A
  • list of the securities held in the portfolio.
  • adjusted cost base (ACB) aka book value of each security.
  • the security’s weighting in the portfolio (based on current market value)
  • each security’s dividend or interest rate along with the annual dollar income and the current yield.
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16
Q

Measuring Portfolio Returns when there are no cash flows (in or out) during the measurement period

A

Holding period return = (Ending value - Beginning value) / (Beginning value)

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17
Q

Measuring Portfolio Returns when there are cash flows (in or out) during the measurement period

A

Holding period return = (Ending value - Beginning value - Net contributions) / (Beginning value + Contributions)

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18
Q

notes on holding period return formulas:

A
  1. not an exact return if there are cash flows (assumptions made)
    - contributions @ beginning
    - withdrawals @ end
  2. Instead dollar-weighted and time-weighted returns generally used
  3. calculates return over entire holding period (could be one day or many decades)
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19
Q

IIROC requires investment dealers to give clients their annualized returns using the ________________

A

dollar-weighted return (money-weighted return or internal rate of return)

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20
Q

_____________ measures the performance of a portfolio, taking into account the amount and timing of cash flows (additional contributions or withdrawals)

A

dollar-weighted return

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21
Q

___________ removes the cash flows from the calculation and determines the return for each period from just after the last contribution (or withdrawal) to just before the next contribution (or withdrawal)

A

Time-Weighted Return

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22
Q

How to “follow the dollar”

A

To calculate the return over the entire period, we use a process called “follow the dollar”, where we pretend that one dollar was invested, and we see how much it would grow using the internal rate of return (IRR) that we already calculated.

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23
Q

Remember, with __________, you do not directly include the contributions or withdrawals in the formula because they are already accounted for in the “Portfolio Value Immediately After the Contribution (Beginning)”

A

time-weighed return

24
Q

Calculate time-weighted return (step 2)

A
25
Q

Calculate time-weighted return (step 1)

A
26
Q

A good benchmark should be the following:

A
  • Investable
    The client should be able to invest in the securities that make up the benchmark index
  • Unambiguous composition
    The securities that make up the benchmark portfolio must be clearly identified.
  • Appropriate
    The benchmark must have a similar risk level to the client’s portfolio and be consistent with the manager’s investment style.
  • Attainable
    The advisor must be able to invest in all benchmark securities for the client.
  • Objectively constructed
    The benchmark must be built using objective rules, so it is not lopsided either for or against the advisor.
  • Specified in advance
    The benchmark must have existed before the start of the evaluation period.
  • Easily measurable (self-explanatory)
27
Q

Problems with benchmarking

A
  1. unless rebalanced regularly investment style will drift and become inappropriate for benchmarking
  2. temptation to become a closet indexer
  3. temptation to deviate to out-perform (unfair to other who don’t deviate from SAA)
  4. fees may impact return and render benchmark an unfair comparison
  5. money managers need to hold cash (for redemptions and investment opportunities) but benchmarks don’t
28
Q

Classes of Benchmark Portfolios

A
  1. Composite market indexes
  2. Investment-style benchmarks
  3. Normal portfolios
  4. Sharpe benchmarks
29
Q

A __________ primary purpose is to be a realistic, attainable performance standard that will allow the performance of an investor’s portfolio with a similar asset allocation to be compared against it.

A

benchmark portfolio’s

30
Q

Composite Market Indexes

A

• Indexes that are designed to measure the movement of specific markets. An example would be the S&P/TSX Composite Index.

31
Q

Investment-Style Benchmarks

A

• These benchmarks reflect the performance of a certain style of security. An example would be an index that tracks only small-cap stocks.

32
Q

Problems with comparison/performance universes

A
  1. poorly defined
  2. poor job accounting for risk
  3. difficult to partition fixed-income universes (find close benchmark)
  4. returns gross of management fees (gross return can be misleading due to varying management fees)
  5. may be survivorship bias
33
Q

_____________ happens when comparing the return of a fund to its peers. You are comparing the fund only to the survivors, which are the very best funds that have survived the long haul.

A

survivorship bias

34
Q

Risk-Adjusted Returns

A

The success of a portfolio manager is determined by comparing the return of the portfolio he or she manages to that of comparable portfolios. When evaluating performance, it is critical that the risk assumed be factored into the assessment. For example, if T-bills (considered a risk-free investment) earned 4% and a manager who accepted lots of risk earned only 4.25%, the question must be asked “Was the increased return worth the much higher risk taken to earn that extra 0.25%?”

35
Q

When evaluating the risk-adjusted return on a portfolio, the ___________________ is the preferred measure.

A

Sharpe Ratio

36
Q

The __________________ measures the return per unit of risk in a portfolio.

A

Sharpe ratio

37
Q

Sharpe ratio formula

A

Sharpe ratio =
(Return on portfolio - Risk-free rate) /
Standard deviation

All else being equal, the higher the Shape ratio the better because a higher ratio means you are getting more return for the risk you are taking.

38
Q

All else being equal, the ________ the Shape ratio the better

A

higher (because a higher ratio means you are getting more return for the risk you are taking)

39
Q

How much risk the manager assumes is measured by _______________

A

standard deviation

40
Q

_______ is a measure of the value that a fund manager adds to the performance of his or her fund

A

Alpha

41
Q

If alpha is __________, the manager added value. If the fund manager has under-performed expectations (did not add value), the alpha is ____________.

A

positive, negative

42
Q

To calculate the ______________ of a portfolio, use Jensen’s alpha (CAPM Alpha)

A

risk-adjusted expected return

43
Q

CAPM Alpha (aka Jensen’s alpha) Formula

A

CAPM Alpha (aka Jensen’s alpha) = Actual return - CAPM expected return

To calculate alpha, all you have to do is compare the actual return to the risk-adjusted expected return, and the difference is Alpha

44
Q

At the end of the year, a portfolio achieved an actual return of 13.5%. The portfolio’s beta was 1.20. The Canadian equity market has historically returned 9%. The rate on 90-day T-bills (the risk-free rate) during the measurement period was 4%. Did the fund manager add value, and if so, how much?

First, we must determine the ________________ using the three-step process.

A

CAPM expected return of the portfolio

45
Q

How to calculate CAPM expected return of the portfolio (3 steps)

A

Step 1: Deduct the risk-free rate from the market rate.
Step 2: Multiply the remaining variable by beta.
Step 3: Add the risk-free rate back in.

Step 1: 9% - 4% = 5%
Step 2: 5% x 1.20 = 6%
Step 3: 6% + 4% = 10%
Therefore, the expected return of the portfolio using the CAPM is 10%.

46
Q

Treynor Ratio (Also Known as “___________________”)

A

Reward-to-Volatility Ratio

47
Q

The _____________ the Treynor ratio the better.

A

higher

48
Q

The __________________ uses beta (systematic risk) as the measure of risk (i.e. beta is on the bottom of the formula)

A

Treynor ratio

49
Q

The ______________ uses standard deviation as the measure of risk (i.e. standard deviation is on the bottom of the formula).

A

Sharpe ratio

50
Q

Both Treynor and Jensen (CAPM) use _______ as the measure of risk in the formula.

A

beta

51
Q

The Treynor ratio may differ from Jensen (CAPM) in the ranking of different portfolios due to ____________________.

A

due to the manner in which they incorporate risk.

  • while both methods would agree as to whether a portfolio out-performed or underperformed the market portfolio, how well it out-performed or under-performed may differ depending on which method is used.
52
Q

Client (Account) Statements must be sent:

A

Monthly whenever a transaction (purchase/sale of a security, or a contribution/withdrawal from an account)

Quarterly for all customers having either a credit balance (cash and/or securities held within the account) or a debit balance.

53
Q

Receiving regular interest or dividends does not in itself require a monthly statement to be sent out. However, the _________________ would!

A

reinvesting of that money

54
Q

Issues in Performance Evaluation

*Whether returns are reported prior to or after fees is an important observation to make when ____________.

A

analyzing returns

55
Q

Issues in Performance Evaluation

*Mutual fund returns are calculated ________ of fees, but returns on managed portfolios are typically stated __________ to fees.

A

net, prior

56
Q

Sharpe Ratio vs Sharpe Benchmark

A

Sharpe Ratio:
• 🧮 Formula-Based
• 🎯 Risk-Adjusted Return
• 📈 Comparison Between Portfolios
Sharpe Benchmark:
• 📊 Statistical Evaluation
• 🔍 Style Analysis & Consistency
• 🧭 Benchmarking Against Indexes

LOA GOD MODE (28 decks)

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