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CFA Level 3 - Equity Portfolio Management > SS11 - Equity Portfolio Management > Flashcards

SS11 - Equity Portfolio Management Flashcards

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CFA flashcards
1
Q

Are equities a good hedge for inflation?

A

Yes, equitites tend to be a good inflation hedge.

However, effectivness depends on:

  • industry
  • competitive position (if the company can pass on price increases to the consumer or not)
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2
Q

What are some risk factors for stocks?

A
  • Size
  • P/E
  • Leverage
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3
Q

What are the three methods of equity portfolio management?

A
  • passive
    • buy all the securities in the index
  • semi-active
    • try to outperform index but have savme level of risk
  • active
    • try to outperform benchmark, dont need to match risk
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4
Q

The information ratio is highest for which equity management style?

A

Semi-active management has the highest IR.

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5
Q

Under what condidtions would an investor prefer passive management?

A
  • investor is taxable
  • to invest in large cap stocks (they are the most efficient)
  • believe in efficiency of markets
  • investing in international stocks (because you probably dont have expertise)
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6
Q

What are the four major index types?

A
  1. price-weighted
  2. value-weighted
  3. float-weighted
  4. equal-weighted
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7
Q

What are the advantages of a price-weighted index?

A
  • easy to calculate
  • long track record
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8
Q

What is the purpose of a float-adjusted index?

A

A float-adjusted index recognizes the fact that the number of shares outstanding and the number that are investable by the general public is generally not the same.

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9
Q

What are the biases of each index type?

A
  • price-weighted
    • bias by high-priced stocks
    • price is arbitrary
    • assumes investor purchases one share of each stock in index
  • value- and float-weighted
    • higher market cap stocks dominate
    • these may be mature of overvalued
    • may be less diversified (more large cap)
  • equal-weighted
    • biased toward small caps
    • rebalancing will incur substantial t-costs
    • finding liquidity on some of the smaller names may be an issue
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10
Q

What are **four methods **of passive equity investing?

A
  • index mutual fuds, ETFs
  • separate or pooled accounts
  • equity futures
  • equity total return swap
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11
Q

What are some features of mutual funds compared to ETFs?

A
  • not traded frequently
  • more record keeping
  • usually lower license fee paid to idx providers
  • less tax efficient (liquidations are taxable evetns for the fund)
  • higher long-term cost
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12
Q

What are some features of ETFs compared to mutual funds?

A
  • trades throughout the day
  • less record keeping
  • pay higher license fee to idx provider
  • more tax efficient
  • lower long-term costs
    *
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13
Q

What are two disadvantages of an equity future relative to an ETF?

A
  • Equity futures have finite lives and need to be rolled. (at potentially less attractive terms)
  • basket may not be shorted if one component violates the uptick rule
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14
Q

What are some features of full replication?

A
  • lowest tracking error
  • only needs to be rebalanced when divs paid or instruments added/removed
  • earns less return than index itself due to t-costs
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15
Q

What are some features of stratified sampling?

A
  • dont need to purchase all stocks in the index
  • cell matching by risk factors
  • assumes risk factors are uncorrellated
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16
Q

What are some features of **optimization **to create an index fund?

A

Advantages:

  • uses risk model to match risk exposure of index
  • objective function minimizes risk subject to certain constraints
  • does account for correllation between factors
  • lower tracking error than stratified sampling

Disadvantages:

  • sensitivities based on historical data
  • needs to be updated as risk sensitivities change
  • can be misleading if data is skewed
17
Q

What are the three styles of equity investing?

A
  • Growth
  • Value
  • Market-oriented
18
Q

Whar are some features of the **value style **of equity investing?

A
  • focus on numerator (P/E, P/B), earnings growth
  • want low price relative to assets
  • Justifications
    • earnings are mean reverting. if temporarily depressed, they will revert in the future
    • growth investors are paying too much
19
Q

What are three sub-styles within the value style?

A
  • low price multiple
  • high dividend yield
  • contrarian
20
Q

What are some features of the growth equity investment style?

A
  • focus on denominator (P/E, P/B)
  • looking for high expected earnings growth
21
Q

What are **two substyles **within the growth style?

A
  • consistent earnings growth
  • momentum
22
Q

What are some features of a market-oriented equity investment style?

A
  • doesn’t focus on growth or value
  • try to create market coverage
23
Q

What are **four substyles **within the market-oriented style?

A
  • growth at a resonable price (GARP)
  • market oriented with growth tilt
  • market oriented with value tilt
  • style rotators
    • shift to hottest style
24
Q

What are three methods you can use to determine if a PM is telling the truth?

A
  1. returns-based analysis
  2. holdings-based analysis
  3. equity boxes
25
Q

What is the basic process for a returns-based analysis?

A
  1. find series of indices (exhausetiv, mutually exclusive)
  2. regress the returns of the portfolio on the returns of the indices
  3. if R^2 = 100%, we can conclude that returns can be explained by *systematic *(market) risk
  4. Do this over multiple periods to ensure consistency
26
Q

What is the basic process for a holdings-based analysis?

A
  1. Characterize holdings along a variety of dimensions
    • value/growth
    • expected EPS growth rate
    • earnings volatility
    • industry representation

Holdings-based is better for capturing style drifts more quickly.

27
Q

What are some features of long-short equity investing?

A
  • can create alphas on 2 sides (long and short)
  • can eliminate systematic risk
  • can reinstate market risk via various vehicles
    • mutual fund
    • ETF
    • swap
    • index futures
28
Q

What the reasons there is larger potential alpha on the short side?

A
  • need to find a lender
  • firm management more likely to promote value of stock using accounting manipulation or other means (more likely to be overvalued than undervalued)
  • analysts more likely to issue buy recommendations than sell recommendations
  • analyts want to avoid angering mgmt of the firm analyst is following
29
Q

What are the sources of alpha in an equitized long-short portfolio?

A
  1. alpha on long positions
  2. alpha on short positions
  3. interest on cash from short sale (short rebate)
  4. return on equity futures contract
30
Q

What are two methods of enhanced indexing?

A
  • derivatives-based
    • often has alpha through fixed income
  • stock-based
    • manager under- or over-weights index stocks based on view of stock’s prospects
31
Q

What is the fundamental law of active management?

A

IR = IC * SQRT(Breadth)

IR is a function of two things:

  • depth of knowledge about securities
  • number of *independent *decisions
32
Q

What are two approaches to portfolio construction?

A
  • core-satellite approach
    • have core holding (passive or enhanced index) (active risk managed here)
    • add some number of active managers (active return added here)
  • completeness fund approach
    • less exact
    • completeness fund is combined with active portfolio so that the combined portfolio is similar to the benchmark
33
Q

What are the components of total active return?

A

return<strong>total</strong>= returntrue+ returnmisfit

return<strong>true</strong>= portfolio - normal portfolio

return<strong>misfit</strong>= normal portfolio - investor benchmark

34
Q

What are some features of an equity total return swap?

A
  • investor exchanges return on an equity security or an interest rate for the return on a equity index
  • can synthetically diversify a portfolio in one transaction (more cheaply than buying stocks)
  • can have tax advantages (US investor can use swap to get exposure to european stocks. cpty is responsible for the taxes and may be tax advantaged)
35
Q

What are the advantages and disadvantages of returns-based analysis?

A

Advantages

  • characterizes entire portfolio
  • enables comparisons of entire portfolios
  • summarizes results of investment process
  • methodology backed by theory
  • different models usually result in same conclusions
  • low cost; can be executed quickly

Disadvantages

  • may be inaccurate due to style drift
  • misspecified indices can lead to misleading conclusions
36
Q

What are the advantages and disadvantages of holdings-based analysis?

A

Advantages

  • characterizes each security
  • enables comparisons of securities
  • can detect style drifts more quickly

Disadvantages

  • not consistent with the method used by managers to select securities
  • requires subjective judgement to classify securities
  • requires more data than returns-based analysis
37
Q

What are the two *general *biases of SRI portfolios?

A

Tilts towards:

  • growth
  • small-cap
38
Q

What is alpha-beta separation?

A
  • Manager gains systematic risk exposure through low cost index fund or ETF
  • alpha is added through long-short strategy

CFA Level 3 - Equity Portfolio Management (1 decks)

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