Questions Flashcards
The relative strength index for a stock stands at 75. This reading is best
described as an indication that the stock is
A neutral.
B oversold.
C overbought.
C is correct. The relative strength index (RSI) is a momentum oscillator and provides
information on whether or not an asset is overbought or oversold. An RSI greater than 70
indicates that a stock is overbought; an RSI lower than 30 suggests that a stock is oversold. A is incorrect. The relative strength index is a momentum oscillator and provides
information on whether or not an asset is overbought or oversold. An RSI greater than 70
indicates that a stock is overbought; an RSI lower than 30 suggests that a stock is oversold.
B is incorrect. The relative strength index is a momentum oscillator and provides
information on whether or not an asset is overbought or oversold. An RSI greater than 70
indicates that a stock is overbought; an RSI lower than 30 suggests that a stock is oversold.
Which of the following institutional investors is most likely to have a low tolerance
for investment risk and relatively high liquidity needs?
A Insurance company
B Defined-benefit
pension plan
C Charitable foundation
A is correct. Insurance companies need to be relatively conservative and liquid, given
the necessity of paying claims when due.
B is incorrect because defined-benefit
pension plans tend to have quite high risk
tolerances and quite low liquidity needs.
C is incorrect because endowments/foundations typically have high risk tolerances
and quite low liquidity needs.
The risk-free
rate is 5%, and the market risk premium is 8%. If the beta of TRL
Corp. is 1.5, based on the capital asset pricing model (CAPM), the expected
return of TRL’s stock is closest to:
A 17.0%.
B 9.5%.
C 15.5%.
A is correct. Using the CAPM relationship of E(Ri ) = Rf + [E(Rm ) – Rf ]β i , we can estimate
the expected return as: E(Ri ) = 0.05 + (0.08)(1.5) = 17.0%.
B is incorrect because the expected return is computed as 0.05 + (0.08 – 0.05)(1.5)
= 9.5%.
C is incorrect because the expected return is computed as 0.08 + (0.05)(1.5) = 15.5%.
An investment policy statement’s risk objective states that over a 12-month
period, with a probability of 95%, the client’s portfolio must not lose more than
5% of its value. This statement is most likely a(n):
A total risk objective.
B relative risk objective.
C absolute risk objective.
C is correct. The statement is an absolute risk objective because it expresses a maximum
loss in value with an associated probability of loss.
A is incorrect because this is an absolute (not total) risk objective because it expresses
a maximum loss in value with an associated probability of loss.
B is incorrect because this is an absolute (not relative) risk objective because it expresses
a maximum loss in value with an associated probability of loss.
Two investors have utility functions that differ only with regard to the coefficient
of risk aversion. Relative to the investor with a higher coefficient of risk
aversion, the optimal portfolio for the investor with a lower coefficient of risk
aversion will most likely have:
A a lower level of risk and return.
B a higher level of risk and return.
C the same level of risk and return.
B is correct. A less risk-averse
investor’s highest utility curve, given the lower coefficient of
risk aversion, is likely to touch the capital allocation line at a point that would represent
a portfolio with higher risk and more expected return.
A is incorrect because for a high coefficient of risk aversion, the investor will seek a
lot of return for a bit of extra risk and will have an optimal portfolio that is tangential to
the capital allocation line at a lower level of risk and return relative to the investor with
a lower coefficient of risk aversion.
C is incorrect because only investors with identical coefficients of risk aversion would
select the same optimal portfolio.
Within a risk management framework, risk tolerance:
A and risk exposure should be kept in alignment.
B includes the qualitative assessment and evaluation of risk.
C is determined as a result of establishing how and where risk is taken.
A is correct. The process of risk monitoring, mitigation, and management is the most
obvious facet of the risk management framework and requires recognizing when risk
exposure is not aligned with risk tolerance.
B is incorrect. Risk identification and measurement include the qualitative assessment
and evaluation of risk.
C is incorrect. Risk tolerance can provide guidance on risk budgeting, which is how
and where risk is taken. Risk budgeting is a result of determining risk tolerance.
Which of the following statements best describes a potential concern for clients
using robo-advisers?
Robo-advisers:
A must be established as registered investment advisers.
B do not seem to incorporate the full range of investment information into
their recommendations.
C are likely to be held to a similar code of conduct as other investment professionals
in the given region.
B is correct. Initial research has shown that robo-advisers
do not seem to incorporate
the full range of investment information into their recommendations, meaning that
important points may be missing in investment decisions.
A is incorrect. It is an advantage to clients that robo-advisers
must be registered as
investment advisers, because they are subject to guidance from the securities regulator
of their country.
C is incorrect. It is an advantage to clients that robo-advisers
must be held to a similar
code of conduct as other investment professionals in the given region.
When a security that was in an upward trend falls 1% below its trendline, a
technical analyst will most likely determine that:
A a downward trend is beginning.
B the upward trend is ending.
C the trendline needs an adjustment.
C is correct. When a security’s price drops through the trendline by a significant amount
(at least 5% to 10%), this decline signals that the uptrend has ended and further decline
may follow. Minor breakthroughs simply call for the trendline to be moderately adjusted
over time. A security falling 1% below its trendline is considered a minor breakthrough.
A is incorrect. The amount the price falls below the trendline would need to be at
least 5% before it would be considered a signal that the uptrend is ending and may
signal a further decline in price.
B is incorrect. The amount the price falls below the trendline would need to be at
least 5% before it would be considered a signal that the uptrend is ending.
Security analysis is most likely a part of which step in the portfolio management process? A The feedback step B The execution step C The planning step
B is correct. The execution step of the portfolio management process has three parts:
asset allocation, security analysis, and portfolio construction.
A is incorrect because under the planning step, there are two parts: understating the
client’s needs and preparation of an investment policy statement.
C is incorrect because under the feedback step, there are two parts: portfolio monitoring
and rebalancing and performance measurement and reporting.
Which of the following is most likely associated with an investor’s ability to take
risk rather than the investor’s willingness to take risk?
A The investor has a long investment time horizon.
B The investor believes earning excess returns on stocks is a matter of luck.
C Safety of principal is very important to the investor.
A is correct. Investment time horizon is an objective factor that measures the investor’s
ability to take risk.
B is incorrect because luck is a subjective factor that measures willingness to take risk.
C is incorrect because safety of principal is a subjective factor that measures willingness
to take risk.
An investment has a 50% probability of returning 12% and a 50% probability of
returning 6%. An investor prefers this uncertain investment over a guaranteed
return of 10%. This preference most likely indicates that the investor is risk:
A seeking.
B averse.
C neutral.
A is correct. The expected value of the uncertain investment is 9%, which is less than
the guaranteed return of 10%. Only a risk-seeking
person would be willing to accept
this investment.
B is incorrect. A risk-averse
person would prefer the guaranteed outcome of 10%.
C is incorrect. A risk-neutral
person would prefer the guaranteed outcome of 10%.
John Smith is given two investment options. Option A is a payment with a 50%
chance of getting $100 and a 50% chance of getting $0. Option B is a guaranteed
payment of $50. If Smith chooses Option A over Option B, his risk preference is
best described as risk:
A seeking.
B averse.
C neutral.
A is correct. Both options have the same expected return of $50. Option A, however, has
a higher risk (standard deviation) than Option B. Therefore, John Smith’s risk preference
is that of risk seeking.
B is incorrect because a risk-averse
person would prefer a lower risk profile given the
same expected return.
C is incorrect because a risk-neutral
person would be indifferent about the risk profile
of the outcome.
Risk management is a process that can most likely be best described as:
A minimizing risks while attempting to maximize returns.
B forecasting the level of risk that can meet a defined required return.
C defining a level of risk to be taken with the goal of maximizing the portfolio’s
value.
C is correct. Risk management is the process by which an organization or individual
defines the level of risk to be taken, measures the level of risk being taken, and adjusts
the latter toward the former, with the goal of maximizing the company’s or portfolio’s
value or the individual’s overall satisfaction or utility.
A is incorrect. Risk management is actively understanding how to best balance the
achievement of goals with an acceptable chance of failure.
B is incorrect. Risk management is not about predicting risks.
Fintech” is best described as:
A technology-driven
innovation in the financial service industry.
B the collection of large quantities of financial data from a variety of sources
in multiple formats.
C the use of technical models to describe patterns in financial markets and
make trading decisions.
A is correct. In its broadest sense, the term “fintech” generally refers to technology-driven
innovation occurring in the financial service industry.
B is incorrect. The collection of large quantities of data from a variety of sources in
multiple formats is the description of big data.
C is incorrect. The use of technical models to describe patterns in financial markets
and make trading decisions is the description of technical analysis.
Which of the following is least likely to be a constraint for an investment trust that has been
established for an infant for the strict use of buying their first home?
A. Liquidity
B. Tax concerns
C. Unique circumstances
Answer: A
This is correct. It is unlikely that the infant will be drawing funds from the trust for a lengthy
period of time and hence the trust might not have any liquidity constraints whatsoever.
Which of the following statements is least correct? Bond index construction can be more difficult
than equity index construction because:
A. there are more equity issues.
B. the bond price discovery process is less effective.
C. specific bonds are likely to move between different indexes.
Answer: A
This is incorrect as the universe and types of bonds is much broader than that of equities.
Furthermore, specific bonds mature and are replaced constantly.
Which of the following statements is most correct? Exchange-traded funds (ETFs) differ from
index mutual funds as:
A. ETFs are more tax-effective.
B. mutual funds have lower fees.
C. mutual funds pay out all dividends received.
Answer: A
This is correct. ETFs are generally considered to have a tax advantage over index mutual funds,
as the latter is generally required to pass on capital gains tax as gains are realized through trading.
Good risk governance practices in an organization should:
(i) focus on enterprise risk management.
(ii) provide for the appointment of a chief risk officer.
(iii) provide for a risk management committee.
(iv) give clear guidance to management.
A. Only (i), (ii), and (iv) are correct.
B. Only (ii), (iii), and (iv) are correct.
C. (i), (ii), (iii), and (iv) are all correct.
Answer: A
This is correct. Good risk governance should focus on the business as a whole (enterprise risk
management), and should provide for governance structures, such as the appointment of a CRO
and a risk forum of some kind. A good risk governance framework will also give clear guidance
to management, while at the same time leaving another flexibility in the execution of business
strategy.
Ingrid Jolley, CFA, has put together a constrained efficient frontier (no short sales) of five risky
assets based on expected returns, volatility, and correlations of the risky assets. Asset E has the
highest expected return and standard deviation of returns of 13.5% p.a. and 16.2% p.a. However,
Jolley wishes to put together a portfolio with an expected return greater than 13.5% p.a. but with
an expected volatility of no more than 13.5% p.a. This objective might best be achieved by:
A. borrowing and investing in Asset E.
B. including a long position in the risk-free asset.
C. borrowing and investing in a portfolio of the risk assets.
Answer: C
This statement is correct. As Asset E is the highest returning asset, it would sit on the right-hand
extreme of a constrained efficient frontier. The only way to achieve a portfolio that is above the
efficient frontier is to combine the optimal risky portfolio with the risk-free asset; in this case,
borrowing the risk-free asset and leveraging into the optimal risky portfolio.
Which of the following markets is most likely to exhibit semi-strong form efficiency?
A. Stock market in a country with no laws against insider trading
B. Corporate bond market where all issuers are required to have a credit rating
C. Commodity futures market where most trading is based on technical analysis
Answer: B
This is correct. A bond market where issuers are required to have a credit rating would likely lead
to prices based on public information. This is a semi-strong form efficient market.
Which of the following statements is most correct? In technical analysis, the change in polarity
principle might refer to:
A. a price trend changing direction.
B. a resistance level becoming a support level.
C. a price movement between support and resistance levels.
Answer: B
The change in polarity principle asserts that once the price rises (falls) through the resistance
(support) level, this then becomes the new support (resistance) level.
Growth in adoption of robo-advisory services is least likely driven by:
A. desire for lower fees.
B. demand from younger investors.
C. high barriers to entering the industry.
Answer: C
New entrants into the market are finding it easy to develop solutions to compete against
incumbent wealth managers.
Which of the following would most likely be a “social issue” considered within a sustainable investing policy? A. Data protection B. Energy efficiency C. Board composition
Answer: A
Data protection would be considered a social issue as it relates to corporate responsibility
regarding the sensitive information of customer and stakeholder information.
1 Investors should use a portfolio approach to:
A reduce risk.
B monitor risk.
C eliminate risk
1 A is correct. Combining assets into a portfolio should reduce the portfolio’s volatility. Specifically, “individuals and institutions should hold portfolios to reduce
risk.” As illustrated in the reading, however, risk reduction may not be as great
during a period of dramatic economic change.
2 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
2 A is correct. Combining assets into a portfolio should reduce the portfolio’s volatility. The portfolio approach does not necessarily provide downside protection
or guarantee that the portfolio always will avoid losses.
3 With respect to the formation of portfolios, which of the following statements is
most accurate?
A Portfolios affect risk less than returns.
B Portfolios affect risk more than returns.
C Portfolios affect risk and returns equally
3 B is correct. As illustrated in the reading, portfolios reduce risk more than they
increase returns.
4 Which of the following institutions will on average have the greatest need for liquidity? A Banks. B Investment companies. C Non- life insurance companies.
4 A is correct. The excess reserves invested by banks need to be relatively liquid.
Although investment companies and non- life insurance companies have high
liquidity needs, the liquidity need for banks is on average the greatest.
5 Which of the following institutional investors will most likely have the longest time horizon? A Defined benefit plan. B University endowment. C Life insurance company.
5 B is correct. Most foundations and endowments are established with the intent
of having perpetual lives. Although defined benefit plans and life insurance
companies have portfolios with a long time horizon, they are not perpetual.
6 A defined benefit plan with a large number of retirees is likely to have a high need for A income. B liquidity. C insurance
6 A is correct. 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. A retiree may need life insurance; however, a defined benefit plan does not need insurance.
7 Which of the following institutional investors is most likely to manage investments in mutual funds?
A Insurance companies.
B Investment companies.
C University endowments
7 B is correct. Investment companies manage investments in mutual funds.
Although endowments and insurance companies may own mutual funds, they
do not issue or redeem shares of mutual funds
8 With respect to the portfolio management process, the asset allocation is determined in the:
A planning step.
B feedback step.
C execution step.
8 C is correct. The client’s objectives and constraints are established in the investment policy statement and are used to determine the client’s target asset allocation, which occurs in the execution step of the portfolio management process.
9 The planning step of the portfolio management process is least likely to include an assessment of the client’s A securities. B constraints. C risk tolerance
9 A is correct. Securities are analyzed in the execution step. In the planning step,
a client’s objectives and constraints are used to develop the investment policy
statement.
10 With respect to the portfolio management process, the rebalancing of a portfolio’s composition is most likely to occur in the:
A planning step.
B feedback step.
C execution step.
10 B is correct. Portfolio monitoring and rebalancing occurs in the feedback step
of the portfolio management process.
12 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
12 B is correct. 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.
13 Which of the following financial products is least likely to have a capital gain distribution? A Exchange traded funds. B Open- end mutual funds. C Closed- end mutual funds.
13 A is correct. Exchange traded funds do not have capital gain distributions. If an
investor sells shares of an ETF (or open- end mutual fund or closed- end mutual
fund), the investor may have a capital gain or loss on the shares sold; however,
the gain (or loss) from the sale is not a distribution.
14 Which of the following forms of pooled investments is subject to the least amount of regulation? A Hedge funds. B Exchange traded funds. C Closed- end mutual funds
14 A is correct. Hedge funds are currently exempt from the reporting requirements of a typical public investment company.
15 Which of the following pooled investments is most likely characterized by a few large investments? A Hedge funds. B Buyout funds. C Venture capital funds.
15 B is correct. Buyout funds or private equity firms make only a few large investments in private companies with the intent of selling the restructured companies in three to five years. Venture capital funds also have a short time horizon;
however, these funds consist of many small investments in companies with the
expectation that only a few will have a large payoff (and that most will fail).
1 An investor purchased 100 shares of a stock for $34.50 per share at the beginning of the quarter. If the investor sold all of the shares for $30.50 per share
after receiving a $51.55 dividend payment at the end of the quarter, the holding
period return is closest to:
A −13.0%.
B −11.6%.
C −10.1%
1 C is correct. −10.1% is the holding period return, which is calculated as: (3,050
− 3,450 + 51.55)/3,450, which is comprised of a dividend yield of 1.49% = 51.55/
(3,450) and a capital loss yield of −11.59% = –400/(3,450).
4 Which of the following return calculating methods is best for evaluating the
annualized returns of a buy- and- hold strategy of an investor who has made
annual deposits to an account for each of the last five years?
A Geometric mean return.
B Arithmetic mean return.
C Money- weighted return.
4 A is correct. The geometric mean return compounds the returns instead of the
amount invested.
9 With respect to capital market theory, which of the following asset characteristics is least likely to impact the variance of an investor’s equally weighted
portfolio?
A Return on the asset.
B Standard deviation of the asset.
C Covariances of the asset with the other assets in the portfolio.
9 A is correct. The asset’s returns are not used to calculate the portfolio’s variance
[only the assets’ weights, standard deviations (or variances), and covariances (or
correlations) are used].
1 The line depicting the total risk and expected return of portfolio combinations
of a risk- free asset and any risky asset is the:
A security market line.
B capital allocation line.
C security characteristic line.
1 B is correct. A capital allocation line (CAL) plots the expected return and total
risk of combinations of the risk- free asset and a risky asset (or a portfolio of
risky assets).
2 The portfolio of a risk- free asset and a risky asset has a better risk- return
tradeoff than investing in only one asset type because the correlation between
the risk- free asset and the risky asset is equal to:
A −1.0.
B 0.0.
C 1.0
2 B is correct. A portfolio of the risk- free asset and a risky asset or a portfolio of
risky assets can result in a better risk- return tradeoff than an investment in only
one type of an asset, because the risk- free asset has zero correlation with the
risky asset.
3 With respect to capital market theory, an investor’s optimal portfolio is the
combination of a risk- free asset and a risky asset with the highest:
A expected return.
B indifference curve.
C capital allocation line slope.
3 B is correct. Investors will have different optimal portfolios depending on their
indifference curves. The optimal portfolio for each investor is the one with
highest utility; that is, where the CAL is tangent to the individual investor’s
highest possible indifference curve.
4 Highly risk- averse investors will most likely invest the majority of their wealth in: A risky assets. B risk- free assets. C the optimal risky portfolio.
4 B is correct. Although the optimal risky portfolio is the market portfolio, highly
risk- averse investors choose to invest most of their wealth in the risk- free asset.
5 The capital market line (CML) is the graph of the risk and return of portfolio
combinations consisting of the risk- free asset and:
A any risky portfolio.
B the market portfolio.
C the leveraged portfolio.
5 B is correct. Although the capital allocation line includes all possible combinations of the risk- free asset and any risky portfolio, the capital market line is a
special case of the capital allocation line, which uses the market portfolio as the
optimal risky portfolio.
6 Which of the following statements most accurately defines the market portfolio
in capital market theory? The market portfolio consists of all:
A risky assets.
B tradable assets.
C investable assets
6 A is correct. The market includes all risky assets, or anything that has value;
however, not all assets are tradable, and not all tradable assets are investable.
7 With respect to capital market theory, the optimal risky portfolio:
A is the market portfolio.
B has the highest expected return.
C has the lowest expected variance.
7 A is correct. The optimal risky portfolio is the market portfolio. Capital market
theory assumes that investors have homogeneous expectations, which means
that all investors analyze securities in the same way and are rational. That is,
investors use the same probability distributions, use the same inputs for future
cash flows, and arrive at the same valuations. Because their valuations of all
assets are identical, all investors will invest in the same optimal risky portfolio
(i.e., the market portfolio).
8 Relative to portfolios on the CML, any portfolio that plots above the CML is considered: A inferior. B inefficient. C unachievable.
8 C is correct. Theoretically, any point above the CML is not achievable and any
point below the CML is dominated by and inferior to any point on the CML.
9 A portfolio on the capital market line with returns greater than the returns on the market portfolio represents a(n): A lending portfolio. B borrowing portfolio. C unachievable portfolio.
9 B is correct. As one moves further to the right of point M on the capital market
line, an increasing amount of borrowed money is being invested in the market
portfolio. This means that there is negative investment in the risk- free asset,
which is referred to as a leveraged position in the risky portfolio.
10 With respect to the capital market line, a portfolio on the CML with returns
less than the returns on the market portfolio represents a(n):
A lending portfolio.
B borrowing portfolio.
C unachievable portfolio.
10 A is correct. The combinations of the risk- free asset and the market portfolio
on the CML where returns are less than the returns on the market portfolio are
termed ‘lending’ portfolios.
11 Which of the following types of risk is most likely avoided by forming a diversified portfolio?
A Total risk.
B Systematic risk.
C Nonsystematic risk.
11 C is correct. Investors are capable of avoiding nonsystematic risk by forming
a portfolio of assets that are not highly correlated with one another, thereby
reducing total risk and being exposed only to systematic risk.
12 Which of the following events is most likely an example of nonsystematic risk?
A A decline in interest rates.
B The resignation of chief executive officer.
C An increase in the value of the US dollar.
12 B is correct. Nonsystematic risk is specific to a firm, whereas systematic risk
affects the entire economy.
13 With respect to the pricing of risk in capital market theory, which of the following statements is most accurate?
A All risk is priced.
B Systematic risk is priced.
C Nonsystematic risk is priced.
13 B is correct. Only systematic risk is priced. Investors do not receive any return
for accepting nonsystematic or diversifiable risk.
14 The sum of an asset’s systematic variance and its nonsystematic variance of returns is equal to the asset’s: A beta. B total risk. C total variance.
14 C is correct. The sum of systematic variance and nonsystematic variance equals
the total variance of the asset. References to total risk as the sum of systematic
risk and nonsystematic risk refer to variance, not to risk.
1 Which of the following is least important as a reason for a written investment
policy statement (IPS)?
A The IPS may be required by regulation.
B Having a written IPS is part of best practice for a portfolio manager.
C Having a written IPS ensures the client’s risk and return objectives can be
achieved.
1 C is correct. Depending on circumstances, a written IPS or its equivalent may
be required by law or regulation and a written IPS is certainly consistent with
best practices. The mere fact that a written IPS is prepared for a client, however,
does not ensure that risk and return objectives will in fact be achieved.
2 Which of the following best describes the underlying rationale for a written
investment policy statement (IPS)?
A A written IPS communicates a plan for trying to achieve investment success.
B A written IPS provides investment managers with a ready defense against
client lawsuits.
C A written IPS allows investment managers to instruct clients about the
proper use and purpose of investments.
2 A is correct. A written IPS is best seen as a communication instrument allowing
clients and portfolio managers to mutually establish investment objectives and
constraints.
3 A written investment policy statement (IPS) is most likely to succeed if:
A it is created by a software program to assure consistent quality.
B it is a collaborative effort of the client and the portfolio manager.
C it reflects the investment philosophy of the portfolio manager.
3 B is correct. A written IPS, to be successful, must incorporate a full understanding of the client’s situation and requirements. As stated in the reading, “The IPS
will be developed following a fact finding discussion with the client.”
4 The section of the investment policy statement (IPS) that provides information
about how policy may be executed, including investment constraints, is best
described as the:
A Investment Objectives.
B Investment Guidelines.
C Statement of Duties and Responsibilities.
4 B is correct. The major components of an IPS are listed in Section 2.2 of the
reading. Investment Guidelines are described as the section that provides information about how policy may be executed, including investment constraints.
Statement of Duties and Responsibilities “detail[s] the duties and responsibilities
of the client, the custodian of the client’s assets, the investment managers, and
so forth.” Investment Objectives is “a section explaining the client’s objectives in
investing.”
5 Which of the following is least likely to be placed in the appendices to an
investment policy statement (IPS)?
A Rebalancing Policy.
B Strategic Asset Allocation.
C Statement of Duties and Responsibilities.
5 C is correct. The major components of an IPS are listed in Section 2.2 of the
reading. Strategic Asset Allocation (also known as the policy portfolio) and
Rebalancing Policy are often included as appendices to the IPS. The Statement
of Duties and Responsibilities, however, is an integral part of the IPS and is
unlikely to be placed in an appendix.
6 Which of the following typical topics in an investment policy statement (IPS) is
most closely linked to the client’s “distinctive needs”?
A Procedures.
B Investment Guidelines.
C Statement of Duties and Responsibilities
6 B is correct. According to the reading, “The sections of an IPS that are most
closely linked to the client’s distinctive needs are those dealing with investment objectives and constraints.” Investment Guidelines “[provide] information about how policy may be executed, including investment constraints.”
Procedures “[detail] the steps to be taken to keep the IPS current and the
procedures to follow to respond to various contingencies.” Statement of Duties
and Responsibilities “detail[s] the duties and responsibilities of the client, the
custodian of the client’s assets, the investment managers, and so forth.
7 An investment policy statement that includes a return objective of outperforming the FTSE 100 by 120 basis points is best characterized as having a(n):
A relative return objective.
B absolute return objective.
C arbitrage- based return objective
7 A is correct. Because the return objective specifies a target return relative to the
FTSE 100 Index, the objective is best described as a relative return objective.
8 Risk assessment questionnaires for investment management clients are most useful in measuring: A value at risk. B ability to take risk. C willingness to take risk
8 C is correct. Risk attitude is a subjective factor and measuring risk attitude is
difficult. Oftentimes, investment managers use psychometric questionnaires,
such as those developed by Grable and Joo (2004), to assess a client’s willingness
to take risk.
9 Which of the following is best characterized as a relative risk objective?
A Value at risk for the fund will not exceed US$3 million.
B The fund will not underperform the DAX by more than 250 basis points.
C The fund will not lose more than €2.5 million in the coming 12- month
period.
9 B is correct. The reference to the DAX marks this response as a relative risk
objective. Value at risk establishes a minimum value of loss expected during a
specified time period at a given level of probability. A statement of maximum
allowed absolute loss (€2.5 million) is an absolute risk objective.
10 In preparing an investment policy statement, which of the following is most difficult to quantify? A Time horizon. B Ability to accept risk. C Willingness to accept risk.
10 C is correct. Measuring willingness to take risk (risk tolerance, risk aversion)
is an exercise in applied psychology. Instruments attempting to measure risk
attitudes exist, but they are clearly less objective than measurements of ability
to take risk. Ability to take risk is based on relatively objective traits such as
expected income, time horizon, and existing wealth relative to liabilities.
11 After interviewing a client in order to prepare a written investment policy statement (IPS), you have established the following:
● The client has earnings that vary dramatically between £30,000 and £70,000
(pre- tax) depending on weather patterns in Britain.
● In three of the previous five years, the after- tax income of the client has
been less than £20,000.
● The client’s mother is dependent on her son (the client) for approximately
£9,000 per year support.
● The client’s own subsistence needs are approximately £12,000 per year.
● The client has more than 10 years’ experience trading investments including
commodity futures, stock options, and selling stock short.
● The client’s responses to a standard risk assessment questionnaire suggest
he has above average risk tolerance.
The client is best described as having a:
A low ability to take risk, but a high willingness to take risk.
B high ability to take risk, but a low willingness to take risk.
C high ability to take risk and a high willingness to take risk.
11 A is correct. The volatility of the client’s income and the significant support
needs for his mother and himself suggest that the client has a low ability to take
risk. The client’s trading experience and his responses to the risk assessment
questionnaire indicate that the client has an above average willingness to take
risk.
12 After interviewing a client in order to prepare a written investment policy statement (IPS), you have established the following:
● The client has earnings that have exceeded €120,000 (pre- tax) each year for
the past five years.
● She has no dependents.
● The client’s subsistence needs are approximately €45,000 per year.
● The client states that she feels uncomfortable with her lack of understanding
of securities markets.
● All of the client’s current savings are invested in short- term securities guaranteed by an agency of her national government.
● The client’s responses to a standard risk assessment questionnaire suggest
she has low risk tolerance.
The client is best described as having a:
A low ability to take risk, but a high willingness to take risk.
B high ability to take risk, but a low willingness to take risk.
C high ability to take risk and a high willingness to take risk.
12 B is correct. On the one hand, the client has a stable, high income and no
dependents. On the other hand, she exhibits above average risk aversion. Her
ability to take risk is high, but her willingness to take risk is low.
13 A client who is a 34- year old widow with two healthy young children (aged
5 and 7) has asked you to help her form an investment policy statement. She
has been employed as an administrative assistant in a bureau of her national
government for the previous 12 years. She has two primary financial goals—her
retirement and providing for the college education of her children. This client’s
time horizon is best described as being:
A long term.
B short term.
C medium term.
13 A is correct. The client’s financial objectives are long term. Her stable employment indicates that her immediate liquidity needs are modest. The children will
not go to college until 10 or more years later. Her time horizon is best described
as being long term.
14 The timing of payouts for property and casualty insurers is unpredictable
(“lumpy”) in comparison with the timing of payouts for life insurance companies. Therefore, in general, property and casualty insurers have:
A lower liquidity needs than life insurance companies.
B greater liquidity needs than life insurance companies.
C a higher return objective than life insurance companies.
14 B is correct. The unpredictable nature of property and casualty (P&C) claims
forces P&C insurers to allocate a substantial proportion of their investments
into liquid, short maturity assets. This need for liquidity also forces P&C companies to accept investments with relatively low expected returns. Liquidity is of
less concern to life insurance companies given the greater predictability of life
insurance payouts
15 A client who is a director of a publicly listed corporation is required by law to
refrain from trading that company’s stock at certain points of the year when
disclosure of financial results are pending. In preparing a written investment
policy statement (IPS) for this client, this restriction on trading:
A is irrelevant to the IPS.
B should be included in the IPS.
C makes it illegal for the portfolio manager to work with this client.
15 B is correct. When a client has a restriction in trading, such as this obligation to
refrain from trading, the IPS “should note this constraint so that the portfolio
manager does not inadvertently trade the stock on the client’s behalf.
17 Returns on asset classes are best described as being a function of:
A the failure of arbitrage.
B exposure to the idiosyncratic risks of those asset classes.
C exposure to sets of systematic factors relevant to those asset classes.
17 C is correct. Strategic asset allocation depends on several principles. As stated
in the reading, “One principle is that a portfolio’s systematic risk accounts for
most of its change in value over the long run.” A second principle is that, “the
returns to groups of like assets… predictably reflect exposures to certain sets of
systematic factors.” This latter principle establishes that returns on asset classes
primarily reflect the systematic risks of the classes.
18 In defining asset classes as part of the strategic asset allocation decision, pairwise correlations within asset classes should generally be:
A equal to correlations among asset classes.
B lower than correlations among asset classes.
C higher than correlations among asset classes.
18 C is correct. As the reading states, “an asset class should contain homogeneous assets… paired correlations of securities would be high within an asset class, but should be lower versus securities in other asset classes.”
19 Tactical asset allocation is best described as:
A attempts to exploit arbitrage possibilities among asset classes.
B the decision to deliberately deviate from the policy portfolio.
C selecting asset classes with the desired exposures to sources of systematic
risk in an investment portfolio.
19 B is correct. Tactical asset allocation allows actual asset allocation to deviate
from that of the strategic asset allocation (policy portfolio) of the IPS. Tactical
asset allocation attempts to take advantage of temporary dislocations from the
market conditions and assumptions that drove the policy portfolio decision.
1 Risk management in the case of individuals is best described as concerned with:
A hedging risk exposures.
B maximizing utility while bearing a tolerable level of risk.
C maximizing utility while avoiding exposure to undesirable risks.
1 B is correct. For individuals, risk management concerns maximizing utility
while taking risk consistent with individual’s level of risk tolerance.
2 Which of the following may be controlled by an investor?
A Risk
B Raw returns
C Risk- adjusted returns
2 A is correct. Many decision makers focus on return, which is not something
that is easily controlled, as opposed to risk, or exposure to risk, which may
actually be managed or controlled
3 The process of risk management includes:
A minimizing risk.
B maximizing returns.
C defining and measuring risks being taken.
3 C is correct. Risks need to be defined and measured so as to be consistent with
the organization’s chosen level of risk tolerance and target for returns or other
outcomes.
4 Risk governance:
A aligns risk management activities with the goals of the overall enterprise.
B defines the qualitative assessment and evaluation of potential sources of risk
in an organization.
C delegates responsibility for risk management to all levels of the organization’s hierarchy.
4 A is correct. Risk governance is the top- down process that defines risk tolerance, provides risk oversight and guidance to align risk with enterprise goals.
5 The factors a risk management framework should address include all of the following except: A communications. B policies and processes. C names of responsible individuals.
5 C is correct. While risk infrastructure, which a risk management framework
must address, refers to the people and systems required to track risk exposures,
there is no requirement to actually name the responsible individuals.
6 Which of the following is the correct sequence of events for risk governance
and management that focuses on the entire enterprise? Establishing:
A risk tolerance, then risk budgeting, and then risk exposures.
B risk exposures, then risk tolerance, and then risk budgeting.
C risk budgeting, then risk exposures, and then risk tolerance.
6 A is correct. In establishing a risk management system, determining risk tolerance must happen before specific risks can be accepted or reduced. Risk tolerance defines the appetite for risk. Risk budgeting determine how or where the
risk is taken and quantifies the tolerable risk by specific metrics. Risk exposures
can then be measured and compared against the acceptable risk.
7 Which of the following best describes activities that are supported by a risk
management infrastructure?
A Risk tolerance, budgeting, and reporting
B Risk tolerance, measurement, and monitoring
C Risk identification, measurement, and monitoring
7 C is correct. Risk infrastructure refers to the people and systems required to
track risk exposures and perform most of the quantitative risk analysis to allow
an assessment of the organization’s risk profile. The risk management infrastructure identifies, measures, and monitors risks (among other things).
8 Effective risk governance in an enterprise provides guidance on all of the following except:
A unacceptable risks.
B worst losses that may be tolerated.
C specific methods to mitigate risk for each subsidiary in the enterprise.
8 C is correct. Risk governance is not about specifying methods to mitigate risk
at the business line level. Rather, it is about establishing an appropriate level of
risk for the entire enterprise. Specifics of dealing with risk fall under risk management and the risk infrastructure framework.
9 A firm’s risk management committee would be expected to do all of the following except:
A approving the governing body’s proposed risk policies.
B deliberating the governing body’s risk policies at the operational level.
C providing top decision- makers with a forum for considering risk management issues.
9 A is correct. The risk management committee is a part of the risk governance
structure at the operational level—as such, it does not approve the governing
body’s policies.
10 Once an enterprise’s risk tolerance is determined, the role of risk management
is to:
A analyze risk drivers.
B align risk exposures with risk appetite.
C identify the extent to which the enterprise is willing to fail in meeting its
objectives.
10 B is correct. When risk tolerance has been determined, the risk framework
should be geared toward measuring, managing, and complying with the risk tolerance, or aligning risk exposure with risk tolerance. The risk tolerance decision
begins by looking at what shortfalls within an organization would cause it to fail
to achieve some critical goals and what are the organization’s risk drivers.
11 Which factor should most affect a company’s ability to tolerate risk?
A A stable market environment
B The beliefs of the individual board members
C The ability to dynamically respond to adverse events
11 C is correct. If a company has the ability to adapt quickly to adverse events
may allow for a higher risk tolerance. There are other factors, such as beliefs of
board members and a stable market environment, which may but should not
affect risk tolerance
12 Risk budgeting includes all of the following except:
A determining the target return.
B quantifying tolerable risk by specific metrics.
C allocating a portfolio by some risk characteristics of the investments.
12 A is correct. Risk budgeting does not include determining the target return.
Risk budgeting quantifies and allocates the tolerable risk by specific metrics.
13 A benefit of risk budgeting is that it:
A considers risk tradeoffs.
B establishes a firm’s risk tolerance.
C reduces uncertainty facing the firm
13 A is correct. The process of risk budgeting forces the firm to consider risk
tradeoffs. As a result, the firm should choose to invest where the return per unit
of risk is the highest.
14 Which of the following risks is best described as a financial risk?
A Credit
B Solvency
C Operational
14 A is correct. A financial risk originates from the financial markets. Credit risk is
one of three financial risks identified in the reading: Credit risk is the chance of
loss due to an outside party defaulting on an obligation. Solvency risk depends
at least in part on factors internal to the organization and operational risk is an
internal risk arising from the people and processes within the organization.
15 Liquidity risk is most associated with:
A the probability of default.
B a widening bid–ask spread.
C a poorly functioning market
15 B is correct. Liquidity risk is also called transaction cost risk. When the bid–ask
spread widens, purchase and sale transactions become increasingly costly. The
risk arises from the uncertainty of the spread.
16 An example of a non- financial risk is:
A market risk.
B liquidity risk.
C settlement risk.
16 C is correct. Settlement risk is related to default risk, but deals with the timing
of payments rather than the risk of default
17 If a company has a one- day 5% Value at Risk of $1 million, this means:
A 5% of the time the firm is expected to lose at least $1 million in one day.
B 95% of the time the firm is expected to lose at least $1 million in one day.
C 5% of the time the firm is expected to lose no more than $1 million in one
day.
17 A is correct. The VaR measure indicates the probability of a loss of at least a
certain level in a time period.
18 An organization choosing to accept a risk exposure may:
A buy insurance.
B enter into a derivative contract.
C establish a reserve fund to cover losses.
18 C is correct. Risk acceptance is similar to self- insurance. An organization
choosing to self- insure may set up a reserve fund to cover losses. Buying insurance is a form of risk transfer and using derivatives is a form of risk- shifting,
not risk acceptance.
19 The choice of risk- modification method is based on:
A minimizing risk at the lowest cost.
B maximizing returns at the lowest cost.
C weighing costs versus benefits in light of the organization’s risk tolerance.
19 C is correct. Among the risk- modification methods of risk avoidance, risk
acceptance, risk transfer, and risk shifting none has a clear advantage. One must
weigh benefits and costs in light of the firm’s risk tolerance when choosing the
method to use.
1 Technical analysis relies most importantly on:
A price and volume data.
B accurate financial statements.
C fundamental analysis to confirm conclusions.
1 A is correct. Almost all technical analysis relies on these data inputs.
2 Which of the following is not an assumption of technical analysis?
A Security markets are efficient.
B The security under analysis is freely traded.
C Market trends and patterns tend to repeat themselves.
2 A is correct. Technical analysis works because markets are not efficient and
rational and because human beings tend to behave similarly in similar circumstances. The result is market trends and patterns that repeat themselves and are
somewhat predictable
3 Drawbacks of technical analysis include which of the following?
A It identifies changes in trends only after the fact.
B Deviations from intrinsic value can persist for long periods.
C It usually requires detailed knowledge of the financial instrument under
analysis.
3 A is correct. Trends generally must be in place for some time before they are
recognizable. Thus, some time may be needed for a change in trend to be
identified.
4 Why is technical analysis especially useful in the analysis of commodities and
currencies?
A Valuation models cannot be used to determine fundamental intrinsic value
for these securities.
B Government regulators are more likely to intervene in these markets.
C These types of securities display clearer trends than equities and bonds do.
4 A is correct. Commodities and currencies do not have underlying financial
statements or an income stream; thus, fundamental analysis is useless in determining theoretical values for them or whether they are over- or undervalued.
5 A daily bar chart provides:
A a logarithmically scaled horizontal axis.
B a horizontal axis that represents changes in price.
C high and low prices during the day and the day’s opening and closing prices
5 C is correct. The top and bottom of the bars indicate the highs and lows for the
day; the line on the left indicates the opening price and the line on the right
indicates the closing price.
6 A candlestick chart is similar to a bar chart except that the candlestick chart:
A represents upward movements in price with X’s.
B also graphically shows the range of the period’s highs and lows.
C has a body that is light or dark depending on whether the security closed
higher or lower than its open.
6 C is correct. Dark and light shading is a unique feature of candlestick charts.
7 In analyzing a price chart, high or increasing volume most likely indicates which
of the following?
A Predicts a reversal in the price trend.
B Predicts that a trendless period will follow.
C Confirms a rising or declining trend in prices.
7 C is correct. Rising volume shows conviction by many market participants,
which is likely to lead to a continuation of the trend.
8 In constructing a chart, using a logarithmic scale on the vertical axis is likely to
be most useful for which of the following applications?
A The price of gold for the past 100 years.
B The share price of a company over the past month.
C Yields on 10- year US Treasuries for the past 5 years.
8 A is correct. The price of gold in nominal dollars was several orders of magnitude cheaper 100 years ago than it is today (roughly US$20 then versus
US$1,100 today). Such a wide range of prices lends itself well to being graphically displayed on a logarithmic scale.
9 A downtrend line is constructed by drawing a line connecting:
A the lows of the price chart.
B the highs of the price chart.
C the highest high to the lowest low of the price chart.
9 B is correct. A downtrend line is constructed by drawing a line connecting the
highs of the price chart
11 The “change in polarity” principle states which of the following?
A Once an uptrend is broken, it becomes a downtrend.
B Once a resistance level is breached, it becomes a support level.
C The short- term moving average has crossed over the longer- term moving
average.
11 B is correct
14 In an inverted head and shoulders pattern, if the neckline is at €100, the
shoulders at €90, and the head at €75, the price target is closest to which of the
following?
A €50.
B €110.
C €125
14 C is correct. Target = Neckline + (Neckline − Head): €100 + (€100 − €75) = €125
15 Which flow- of- funds indicator is considered bearish for equities?
A A large increase in the number of IPOs.
B Higher- than- average cash balances in mutual funds.
C An upturn in margin debt but one that is still below the long- term average
15 A is correct. A large increase in the number of IPOs increases the supply of
equity and if overall demand remains the same, puts downward pressure on
equities. Also, companies tend to issue shares of equity when the managers
believe they will receive a premium price, which is also an indicator of a market
top.
16 A TRIN with a value of less than 1.0 indicates:
A the market is in balance.
B there is more volume in rising shares.
C there is more volume in declining shares.
16 B is correct. A value below 1.0 is a bullish sign; it means more volume is in rising shares than in declining ones. The TRIN is calculated as: (Advancing issues/
Declining issues)/(Volume of advancing issues/Volume of declining issues).
17 Bollinger Bands are constructed by plotting:
A a MACD line and a signal line.
B a moving- average line with an uptrend line above and downtrend line below.
C a moving- average line with upper and lower lines that are at a set number of
standard deviations apart.
17 C is correct. Bollinger Bands consist of a moving average and a higher line
representing the moving average plus a set number of standard deviations from
average price (for the same number of periods as used to calculate the moving
average) and a lower line that is a moving average minus the same number of
standard deviations
18 Which of the following is not a momentum oscillator?
A MACD.
B Stochastic oscillator.
C Bollinger Bands
18 C is correct. Bollinger Bands are price- based indicators, not momentum oscillators, which are constructed so that they oscillate between a high and a low or
around 0 or 100
19 Which of the following is a continuation pattern?
A Triangle.
B Triple top.
C Head and shoulders.
19 A is correct. Triangles are one of several continuation patterns
20 Which of the following is a reversal pattern?
A Pennant.
B Rectangle.
C Double bottom
20 C is correct. It is one of several reversal patterns.
21 Which of the following is generally true of the head and shoulders pattern?
A Volume is important in interpreting the data.
B The neckline, once breached, becomes a support level.
C Head and shoulders patterns are generally followed by an uptrend in the
security’s price
21 A is correct. Volume is necessary to confirm the various market rallies and
reversals during the formation of the head and shoulders pattern.
22 Nikolai Kondratieff concluded in the 1920s that since the 1780s, Western economies have generally followed a cycle of how many years?
A 18.
B 54.
C 76
22 B is correct.
23 Based on the decennial pattern of cycles, how would the return of the Dow
Jones Industrial Average (DJIA) in the year 2015 compare with the return in
2020?
A The return would be better.
B The return would be worse.
C The answer cannot be determined because the theory does not apply to
both of those years.
23 A is correct. The decennial pattern theory states that years ending with a 5 will
have the best performance of any of the 10 years in a decade and that those
ending with a zero will have the worst.
24 According to the US presidential cycle theory, the DJIA has the best performance during which year?
A The presidential election year itself.
B The first year following a presidential election.
C The third year following a presidential election.
24 C is correct. A possible reason for the superior performance in the third year
is that the US presidential election occurs, together with a number of other
elections, in a four- year cycle, so the politicians desiring to be reelected inject
money into the economy in the third year to improve their chances of winning
the following year.
25 What is a major problem with long- term cycle theories?
A The sample size is small.
B The data are usually hard to observe.
C They occur over such a long period that they are difficult to discern.
25 A is correct. Long- term cycles require many years to complete; thus, not many
cycles are available to observe.
26 In 1938, R. N. Elliott proposed a theory that equity markets move:
A in stochastic waves.
B in cycles following Fibonacci ratios.
C in waves dependent on other securities.
26 B is correct.
27 All of the following are names of Elliott cycles except:
A presidential.
B supercycle.
C grand supercycle.
27 A is correct. This is the term for a separate cycle theory.
28 To identify intermarket relationships, technicians commonly use:
A stochastic oscillators.
B Fibonacci ratios.
C relative strength analysis.
28 C is correct. Relative strength analysis is often used to compare two asset classes or two securities
1 A correct description of fintech is that it:
A is driven by rapid growth in data and related technological advances.
B increases the need for intermediaries.
C is at its most advanced state using systems that follow specified rules and
instructions.
1 A is correct. Drivers of fintech include extremely rapid growth in data (including their quantity, types, sources, and quality) and technological advances
enabling the capture and extraction of information from it.
2 A characteristic of Big Data is that:
A one of its traditional sources is business processes.
B it involves formats with diverse types of structures.
C real- time communication of it is uncommon due to vast content.
2 B is correct. Big Data is collected from many different sources and is in a
variety of formats, including structured data (e.g., SQL tables or CSV files),
semi- structured data (e.g., HTML code), and unstructured data (e.g., video
messages).
3 In the use of machine learning (ML):
A some techniques are termed “black box” due to data biases.
B human judgment is not needed because algorithms continuously learn from
data.
C training data can be learned too precisely, resulting in inaccurate predictions
when used with different datasets.
3 C is correct. Overfitting occurs when the ML model learns the input and target
dataset too precisely. In this case, the model has been “over trained” on the data
and is treating noise in the data as true parameters. An ML model that has been
overfitted is not able to accurately predict outcomes using a different dataset
and may be too complex.
4 Text Analytics is appropriate for application to:
A economic trend analysis.
B large, structured datasets.
C public but not private information
4 A is correct. Through the Text Analytics application of natural language processing (NLP), models using NLP analysis may incorporate non- traditional
information to evaluate what people are saying—via their preferences, opinions,
likes, or dislikes—in the attempt to identify trends and short- term indicators
about a company, a stock, or an economic event that might have a bearing on
future performance.
5 In providing investment services, robo- advisers are most likely to:
A rely on their cost effectiveness to pursue active strategies.
B offer fairly conservative advice as easily accessible guidance.
C be free from regulation when acting as fully- automated wealth managers.
5 B is correct. Research suggests that robo- advisers tend to offer fairly conservative advice, providing a cost- effective and easily accessible form of financial
guidance to underserved populations, such as the mass affluent and mass market segments.
6 Which of the following statements on fintech’s use of data as part of risk analysis is correct?
A Stress testing requires precise inputs and excludes qualitative data.
B Machine learning ensures that traditional and alternative data are fully
segregated.
C For real- time risk monitoring, data may be aggregated for reporting and
used as model inputs.
6 C is correct. There is increasing interest in monitoring risk in real- time. To do
so, relevant data must be taken by a firm, mapped to known risks, and identified while moving within the firm. Data may be aggregated for reporting purposes or used as inputs to risk models.
7 A factor associated with the widespread adoption of algorithmic trading is increased: A market efficiency. B average trade sizes. C trading destinations
7 C is correct. Global financial markets have undergone substantial change as
markets have fragmented into multiple trading destinations consisting of electronic exchanges, alternative trading systems, and so- called dark pools. In such
an environment, when markets are continuously reflecting real- time information and continuously changing conditions, algorithmic trading has been
viewed as an important tool.
8 A benefit of distributed ledger technology (DLT) favoring its use by the investment industry is its:
A scalability of underlying systems.
B ease of integration with existing systems.
C streamlining of current post- trade processes.
8 C is correct. DLT has the potential to streamline the existing, often complex
and labor intensive post- trade processes in securities markets by providing
close to real- time trade verification, reconciliation, and settlement, thereby
reducing related complexity, time, and costs.
9 What is a distributed ledger technology (DLT) application suited for physical assets? A Tokenization B Cryptocurrencies C Permissioned networks
9 A is correct. Through tokenization—the process of representing ownership
rights to physical assets on a blockchain or distributed ledger—DLT has the
potential to streamline this rights process by creating a single, digital record of
ownership with which to verify ownership title and authenticity, including all
historical activity.
