Farming 102 Flashcards
Farming techniques
Q1: What are the two core fiduciary duties?
A1: Duty of loyalty (act in the client’s best interest) and duty of care (act with prudence, skill, diligence).
Q2: What does ERISA stand for?
A2: Employee Retirement Income Security Act of 1974, governing most private-sector retirement plans.
Q3: Who is an ERISA 3(16) fiduciary?
A3: The Plan Administrator (responsible for administrative/operational functions and required notices).
Q4: Who is an ERISA 3(21) fiduciary?
A4: A provider who gives investment advice for a fee and shares fiduciary responsibility with the plan sponsor.
Q5: Who is an ERISA 3(38) fiduciary?
A5: A discretionary investment manager with full authority over plan assets (plan sponsor must still monitor).
Q6: Define ‘duty of loyalty.’
A6: Acting solely in the client’s best interest, avoiding or properly managing conflicts of interest.
Q7: Define ‘duty of care.’
A7: Acting with the care, skill, prudence, and diligence of a prudent expert in similar circumstances.
Q8: What is an Investment Policy Statement (IPS)?
A8: A governing document outlining objectives, asset allocation, risk tolerance, and monitoring criteria for a portfolio.
Q9: What are the three core asset classes in a baseline diversified portfolio?
A9: Equities, fixed income, and cash (or cash equivalents).
Q10: Which three inputs do mean-variance optimizers require?
A10: Expected return, standard deviation, and correlation.
Q11: Define ‘standard deviation’ in a portfolio context.
A11: A measure of total volatility or dispersion of returns around the mean.
Q12: What is ‘beta’?
A12: A measure of systematic (market) risk relative to a benchmark (beta=1 moves in line with the market).
Q13: What is ‘alpha’?
A13: Excess return over a risk-adjusted benchmark, indicating manager skill or outperformance.
Q14: Define the Sharpe ratio.
A14: (Portfolio Return - Risk-Free Rate) / Std. Deviation; measures risk-adjusted performance.
Q15: What is a blended benchmark?
A15: A custom benchmark mixing multiple indexes in the same weights as the portfolio’s asset allocation.
Q16: Explain ‘404(c)’ safe harbor under ERISA.
A16: Shields plan fiduciaries from liability for participants’ own choices if certain disclosure/diversification rules are met.
Q17: What is QDIA?
A17: Qualified Default Investment Alternative, a default fund (like a target-date fund) that offers fiduciary protection if participants do not choose.
Q18: Define ‘watch list’ in monitoring investments.
A18: A list of under-review investments/managers with performance or qualitative concerns needing closer scrutiny.
Q19: What is ‘408(b)(2)’ disclosure under ERISA?
A19: Requires service providers to disclose compensation, services, and fiduciary status so plan sponsors can evaluate fee reasonableness.
Q20: Explain ‘soft dollars.’
A20: Excess brokerage commissions used to obtain research/brokerage services benefiting the client portfolio.
Q21: Difference between ‘gross’ and ‘net’ returns?
A21: Net returns subtract fees/expenses; gross returns do not.
Q22: What is the Prudent Expert Rule?
A22: A fiduciary must act with the care, skill, and caution of a prudent professional under similar circumstances.
Q23: Define a ‘bundled’ provider arrangement.
A23: A single vendor providing multiple plan services (recordkeeping, administration, etc.) in one package.
Q24: What is ‘revenue sharing’ in a 401(k)?
A24: A portion of fund expenses (e.g., 12b-1 fees) passed to plan service providers, potentially a conflict if not managed.
Q25: What does ‘UPMIFA’ govern?
A25: The Uniform Prudent Management of Institutional Funds Act for nonprofits/endowments, focusing on total return and prudent spending.
Q26: What is an ERISA prohibited transaction?
A26: A transaction involving self-dealing or parties-in-interest that is disallowed unless there’s an exemption.
Q27: Define ‘fiduciary gap analysis’ (Level 1).
A27: An initial assessment comparing current policies/practices to fiduciary standards to find deficiencies.
Q28: What is a ‘time horizon’ for a portfolio?
A28: The period until net outflows exceed contributions/growth, e.g., retirement date or major distribution point.
Q29: Name three numeric metrics for manager due diligence.
A29: (1) Performance vs. benchmark, (2) Standard deviation, (3) Fees/expense ratio.
Q30: What does alpha > 0 typically indicate?
A30: The manager outperformed its risk-adjusted benchmark (positive excess return).
Q31: How should fiduciaries monitor fees for reasonableness?
A31: By regularly reviewing direct/indirect compensation and comparing them to market standards for similar services.
Q32: Define ‘hat switching’ in a fiduciary context.
A32: When an advisor switches between fiduciary and non-fiduciary roles with the same client, requiring clear disclosure.
Q33: Distinguish fiduciary vs. suitability standards.
A33: Fiduciary = best interest of client; Suitability = product must be suitable but not necessarily conflict-free or best option.
Q34: What is Fi360’s Code of Ethics?
A34: A professional code that sets ethical principles for fiduciaries, exceeding minimal legal requirements.
Q35: Name the global fiduciary precept from Fi360.
A2: “Kids Demand Pizza Until Cats Are Milked Loudly.” Each initial =
Know, Diversify, Prepare IPS, Use experts, Control fees, Avoid conflicts, Monitor, Loyalty/care.
Q36: How does ‘time horizon’ apply in a DB plan?
A36: It relates to the duration of plan liabilities; asset strategy should align with when benefits must be paid.
Q37: Define Modern Portfolio Theory (MPT).
A37: A theory that diversification can maximize return for a given risk, focusing on expected return and standard deviation.
Q38: Describe the efficient frontier.
A38: Portfolios offering the highest expected return for each level of risk; no portfolios above it are achievable without extra skill.
Q39: What is correlation? What is the range?
A39: A measure of how two assets move relative to each other, from -1.0 to +1.0.
Q40: Explain a ‘large loss’ or ‘tail-risk’ scenario.
A40: Extreme market events beyond typical standard deviation assumptions (fat tails).
Q41: Define ‘risk-free rate.’
A41: Often short-term T-bill yields, used as a baseline for measuring risk premiums.
Q42: What is a policy portfolio?
A42: The strategic or target asset allocation defined in the IPS, measured by a blended benchmark.
Q43: Why is asset allocation crucial?
A43: Research shows most long-term return variability is driven by asset class weightings, not security selection.
Q44: Explain ‘ESG’ investing.
A44: Considering Environmental, Social, and Governance factors in investment decisions, often for mission alignment or risk management.
Q45: Under UPMIFA, how do nonprofits set prudent spending?
A45: They balance total return, inflation, and principal preservation, often using a ~4-5% spending rule.
Q46: Define ‘internal rate of return’ (IRR).
A46: The discount rate at which an investment’s net present value is zero, often for cash-flow-based projects.
Q47: What is ERISA 404(c) safe harbor?
A47: It protects sponsors from liability for participant-directed decisions if the plan meets diversification/disclosure conditions.
Q48: What is ‘self-directed brokerage window’?
A48: A feature allowing participants to invest in a broader range of securities beyond the plan’s core menu.
Q49: Define ‘405(c)’ safe harbor.
A49: Limits sponsor liability if they prudently select and monitor a 3(38) investment manager who has full discretion.
Q50: What is a ‘bundled vs. unbundled’ provider decision?
A50: Evaluating if one firm should handle all plan services vs. splitting them among multiple specialized providers.
Q51: Define ‘soft dollars’ again.
A51: Extra commissions allocated for research/brokerage services that must benefit the client, subject to fiduciary monitoring.
Q52: How are 12b-1 fees handled in ERISA plans?
A52: Often rebated or offset so the advisor’s compensation remains level and avoids conflicts.
Q53: Define ‘unregulated vs. regulated’ investments.
A53: Regulated (e.g., publicly registered mutual funds) have more disclosure; unregulated (hedge funds, private equity) require deeper due diligence.
Q54: What is a ‘due diligence filter’?
A54: A set criterion excluding investments that don’t meet a minimum threshold (e.g., 3-year track record).
Q55: What is a ‘retain or replace’ process?
A55: Evaluating whether an underperforming fund/manager should remain, considering both quantitative and qualitative factors.
Q56: In an IPS, what are ‘permitted ranges’?
A56: Acceptable bands (e.g., ±5%) around target allocations that trigger rebalancing if exceeded.
Q57: Define ‘401(k) self-directed brokerage window.’
A57: An option enabling participants to invest in more securities beyond the plan’s core lineup, with potential extra fees/risks.
Q58: What is the minimum recommended frequency for performance review?
A58: Quarterly, unless special circumstances require more frequent checks.
Q59: Define ‘qualitative review’ in monitoring.
A59: Assessing non-performance aspects such as manager turnover, organizational structure, service quality, regulatory issues.
Q60: What if a manager has legal or regulatory problems?
A60: A fiduciary must investigate promptly, assess impact, and document whether to retain or replace.
Q61: Why use a blended benchmark in monitoring?
A61: To see if the portfolio’s actual allocation out/underperforms the strategic mix, isolating asset allocation effects.
Q62: What are implicit trading costs?
A62: Hidden or indirect costs like bid-ask spreads and market impact, not shown in expense ratios.
Q63: Which costs are excluded from a mutual fund’s stated expense ratio?
A63: Brokerage/trading costs and soft-dollar arrangements; only management, 12b-1, and certain admin fees are included.
Q64: How often should fees be reviewed?
A64: Regularly (often annually) or when service/asset changes occur, ensuring they’re still ‘reasonable.’
Q65: What is the key to reviewing organizational effectiveness?
A65: Periodic fiduciary assessments or audits (gap analysis, remediation, certification) to maintain best practices.
Q66: Define ‘fiduciary gap analysis’ in another way.
A66: A Level 1 review identifying where current processes deviate from fiduciary norms or standards.
Q67: What is a fidelity bond in ERISA?
A67: Insurance covering the plan against losses from fraud/dishonesty by plan officials.
Q68: Why do periodic rebalancing?
A68: To realign the portfolio with target allocations and maintain the intended risk profile.
Q69: Define ‘material facts’ in monitoring.
A69: Facts a reasonable investor would consider important for assessing investments/providers.
Q70: Give an example of a qualitative ‘red flag.’
A70: Major staff turnover at the manager, negative regulatory findings, or persistent service lapses.
Q71: Define ‘continuous improvement’ in a fiduciary context.
A71: Ongoing updates to policies and procedures as best practices and regulations evolve.
Q72: Under 404(c), how many core investment alternatives must be offered?
A72: At least three with distinct risk/return profiles for participant-directed plans.
Q73: What is a Level 3 fiduciary assessment?
A73: Often a formal certification (e.g., CEFEX) verifying adherence to high fiduciary standards.
Q74: Define Taft-Hartley plans.
A74: Multiemployer plans (union plus management trustees) subject to ERISA and special labor rules.
Q75: What is the Model Management of Public Employee Retirement Systems Act?
A75: A framework for prudent governance of public-sector plans, focusing on diversification, oversight, etc.
Q76: Under UPIA, do trustees focus on individual securities or total portfolio?
A76: The total portfolio approach (risk/return is evaluated collectively).
The Uniform Prudent Investor Act (UPIA) is a set of rules that guide how trustees invest trust assets. The UPIA was created to protect beneficiaries’ assets while also seeking to improve income.
Q77: Define ‘Diversification.’
A77: Spreading investments across different asset classes/securities to reduce unsystematic risk.
Q78: What is the ‘prudent person rule’?
A78: An older rule requiring fiduciaries to act with care/prudence; modern versions focus on portfolio-level prudence.
Q79: Define ‘Form ADV’ Part 2.
A79: Disclosure brochure for Registered Investment Advisers: services, fees, conflicts, disciplinary info, etc.
Q80: What is a prohibited transaction exemption (PTE)?
A80: DOL/IRS permission allowing certain transactions otherwise barred as ‘prohibited.’
Q81: Under a 3(38) arrangement, does the sponsor still have monitoring duties?
A81: Yes. They must monitor the 3(38)’s performance and adherence to the IPS, even though discretion is delegated.
Q82: Define ‘self-dealing.’
A82: A fiduciary personally benefiting from plan/client assets or transactions at the client’s expense.
Q83: What is the Sortino ratio?
A83: A risk-adjusted measure focusing on downside volatility, a variant of the Sharpe ratio.
Q84: Define R-squared in investment analysis.
A84: Percentage of a fund’s movements explained by its benchmark (0 to 100%).
Q85: Distinguish investment stewardship vs. investment management.
A85: Stewardship is broad oversight/governance; management is day-to-day security selection with discretion.
Q86: Under UPMIFA, must nonprofits chase maximum returns?
A86: No. They balance risk and return for charitable purposes, focusing on prudent spending and capital preservation.
Q87: What is an investment adviser representative (IAR)?
A87: An individual providing advice on behalf of an RIA, requiring certain licensing/registration.
Q88: Does the ‘prudent man rule’ judge each security in isolation today?
A88: Generally no. Modern standards (UPIA/ERISA) use portfolio-level context.
Q89: Define a 403(b) plan.
A89: A retirement plan for nonprofits/educational entities; some are ERISA-exempt if governmental or church-related.
Q90: What is a ‘fiduciary breach’?
A90: Failing to meet fiduciary responsibilities (e.g., loyalty, care) causing harm or liability risk.
Q91: If a fund is on watch, what does that typically mean?
A91: It’s under more frequent review due to performance or qualitative concerns before a retain/replace decision.
Q92: Define asset-liability matching in DB plans.
A92: Aligning asset durations/risk with projected liability payouts to reduce funding volatility.
Q93: How does ERISA define ‘reasonable compensation’?
A93: Fees that are not excessive relative to the services provided, determined in a prudent manner.
Q94: What is an Eligible Investment Advice Arrangement (EIAA)?
A94: A safe harbor for unbiased advice to participants via a level-fee or certified computer model.
Q95: Describe a wrap fee arrangement in stable value funds.
A95: An insurance or bank ‘wrap’ guaranteeing book-value liquidity for participant withdrawals, charging a wrap fee.
Q96: Define ‘benchmark error.’
A96: Using a benchmark that doesn’t match the fund’s style, causing misleading performance comparisons.
Q97: Under a 3(38) manager, can the sponsor ignore everything?
A97: No. The sponsor must still monitor performance/compliance. Delegation doesn’t end all sponsor duties.
Q98: Explain ‘pro rata’ rebalancing.
A98: Adjusting each position proportionally to bring the portfolio back to its target allocation weights.
Q99: What if plan assets grow significantly? How handle provider fees?
A99: Re-benchmark or renegotiate fees to leverage economies of scale, ensuring reasonableness.
Q100: Define automatic enrollment under the PPA.
A100: Participants are enrolled in the plan by default, often using a QDIA, unless they actively opt out.
Q101: What is the fiduciary approach to proxy voting?
A101: Proxies should be voted in the client’s/plan’s best interests, with policies/procedures documented; can delegate but must oversee.
Q102: Define ‘best execution’ in trading practices.
A102: Executing trades with the lowest overall cost (price + commission + market impact) consistent with timely, efficient execution.
Q103: What is the NIST cybersecurity framework?
A103: A five-part approach (Identify, Protect, Detect, Respond, Recover) for managing cybersecurity risks across an organization.
Q104: How should fiduciaries protect personal identifying info (PII)?
A104: Maintain robust data security policies, encryption, access controls, and business continuity plans to prevent theft, embezzlement, or cyber breaches.
Q105: Define ‘commission recapture’ in a fiduciary context.
A105: An arrangement to return part of brokerage commissions to the plan or offset expenses, reducing net trading costs.
Q106: What is ‘business continuity’ planning in a fiduciary context?
A106: Ensuring operations (including portfolio management, recordkeeping) can continue or recover quickly after disruptions (disaster, cyberattack, etc.).
How often do key fiduciary tasks/updates occur? (Performance reports, IPS review, service agreements, etc.)”,
Here are common ‘how often’ guidelines: -Performance reports ≈ Quarterly;
-Participant statements ≈ Quarterly (or as required);
-IPS review ≈ Annually (or after major changes);
-Service agreements review ≈ Every 3 years unless circumstances require sooner;
-QDIA notices ≈ Annually to participants; Plan committee meetings ≈ Quarterly or as needed;
-Cybersecurity/data review ≈ Periodically (often annually) + ongoing monitoring.”
Under a normal distribution, how much data lies within 1, 2, and 3 standard deviations of the mean?
According to the ‘68-95-99.7 rule’: ~68% within 1 SD, ~95% within 2 SDs, and ~99.7% within 3 SDs of the mean. Explanation: This is the empirical rule that helps approximate how often returns (or data points) fall around the mean in a bell-shaped (normal) curve.
