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Free CFA-Level-III Exam Braindumps (page: 24)

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PDF with 472 Questions

Wealth Management's top economist, Frederick Milton, is an economic cycle forecaster- Milton's economic forecasts indicate an economic upswing that will impact all goods and services sectors. Milton presents his economic findings to the rest of Wealth Management's professionals at their monthly meeting. All are excited about Milton's forecast of an improving economic condition that should translate into a steadily rising stock market.
Nathaniel Norton and Timothy Tucker have confidence in Milton's capabilities and decide to meet with their clients. Their first meeting is with Elizabeth Mascarella to whom Norton recommends a dynamic asset allocation strategy to take advantage of Milton's forecast. However, Mascarella is concerned because the somewhat persistent back-and-forth of economic activity has translated into an oscillating stock market.
Mascarella questions Norton's recommendation and asks Tucker which strategy should be followed if the market continues as it has, instead of making such "wonderful" strides.
It is one year later and Frederick Milton's economic forecast has been correct, and the market has trended upward as expected. Mascarella's strategic allocation to equity, which was $600,000 of a total portfolio of $1,000,000, has increased 20%. Her overall portfolio, which contains equity, debt, and some cash, is now valued at $1,150,000. Tucker meets with Mascarella and indicates it may be time to rebalance her portfolio.

Tucker has tried to make Mascarella understand the benefits of percentage-of-portfolio rebalancing relative to calendar rebalancing. Which of the following statements made by Tucker is not correct?

  1. Calendar rebalancing provides discipline while requiring less monitoring.
  2. Percentage-of-portfolio rebalancing minimizes the amount by which the allocations stray from their strategic levels.
  3. Percentage of portfolio rebalancing is better than calendar rebalancing because it keeps allocations closer to their strategic levels.

Answer(s): C

Explanation:

This statement is too general. The need to rebalance is determined by several factors, including the volatility of the assets and the correlations among the classes. For example, if the assets in the portfolio are not overly volatile and are fairly highly correlated, monitoring more frequently than on an annual basis may be a waste of time and money. (Study Session 16, LOS 46.e)



Wealth Management's top economist, Frederick Milton, is an economic cycle forecaster- Milton's economic forecasts indicate an economic upswing that will impact all goods and services sectors. Milton presents his economic findings to the rest of Wealth Management's professionals at their monthly meeting. All are excited about Milton's forecast of an improving economic condition that should translate into a steadily rising stock market.
Nathaniel Norton and Timothy Tucker have confidence in Milton's capabilities and decide to meet with their clients. Their first meeting is with Elizabeth Mascarella to whom Norton recommends a dynamic asset allocation strategy to take advantage of Milton's forecast. However, Mascarella is concerned because the somewhat persistent back-and-forth of economic activity has translated into an oscillating stock market. Mascarella questions Norton's recommendation and asks Tucker which strategy should be followed if the market continues as it has, instead of making such "wonderful" strides.
It is one year later and Frederick Milton's economic forecast has been correct, and the market has trended upward as expected. Mascarella's strategic allocation to equity, which was $600,000 of a total portfolio of $1,000,000, has increased 20%. Her overall portfolio, which contains equity, debt, and some cash, is now valued at $1,150,000. Tucker meets with Mascarella and indicates it may be time to rebalance her portfolio.

Which of the following would generally suggest a narrower tolerance band?

  1. Assets in the portfolio tend to be illiquid.
  2. Highly volatile assets.
  3. Correlated portfolio assets.

Answer(s): B

Explanation:

Illiquid assets generally have higher costs associated with buying and selling. In that case, too tight of a tolerance band (i.e., corridor) could require high costs. The investor should always strive for a happy medium between the need to rebalance and the associated costs. Answers A and C would support wider corridors- (Study Session 16, LOS 46. f)



Matrix Corporation is a multidivisional company with operations in energy, telecommunications, and shipping. Matrix sponsors a traditional defined benefit pension plan. Plan assets are valued at $5.5 billion, while recent declines in interest rates have caused plan liabilities to balloon to $8.3 billion. Average employee age at Matrix is 57.5, which is considerably higher than the industry average, and the ratio of active to retired lives is 1.1. Joe Elliot, Matrix's CFO, has made the following statement about the current state of the pension plan.
"Recent declines in interest rates have caused our pension liabilities to grow faster than ever experienced in our long history, but I am sure these low rates are temporary. I have looked at the charts and estimated the probability of higher interest rates at more than 90%. Given the expected improvement in interest rate levels, plan liabilities will again come back into line with our historical position. Our investment policy will therefore be to invest plan assets in aggressive equity securities. This investment exposure will bring our plan to an over- funded status, which will allow us to use pension income to bolster our profitability."

  1. Critique Elliot's statement with respect to investing Matrix's plan assets by addressing the following three points:
  2. Behavioral characteristic exhibited.ii. Plan risk and return objectives.iii. Using pension plan income to bolster firm profitability.
  3. Based on the information provided, formulate a return objective and a risk objective for the Matrix Corporation pension plan. (No calculations required.)Template for Question 2-B
  4. Based on the information provided, formulate an appropriate constraints section for the investment policy statement for the pension fund.Template for Question 2-C

Answer(s): A

Explanation:

i. For the Exam:
Elliot as exhibiting "overconfidence." Discussion:
Elliot's over reliance on his personal belief chat there is a high probability of interest rate increases ignores historical evidence chat interest rate changes are very difficult if not impossible to predict with that degree of accuracy. Elliot is more than likely overestimating the probability that his analysis will prove correct.
ii. For the Exam:
The return objectives are excessive, relative to the level of risk that is appropriate for the fund. Discussion:
Elliot's plan to solve the underfunded status of the plan by investing in high return securities is ill-advised. It requires the plan to invest in high-risk securities to obtain the high returns. Given the current plan funding status, retired to active lives ratio, and the demographic profile of the workforce, the plan's ability to bear risk is below average-Also, Elliot is considering only the present value of the liabilities when interest races increase, where increasing rates can have a dampening effect on equity return. Hence, the return objectives are excessive relative to the level of risk chat is appropriate for the fund.
iii. For the Exam:
The investment of plan assets for the stated purpose of bolstering profitability is inappropriate, and may constitute a violation of Elliots fiduciary responsibilities und ERISA.
Discussion:
ERISA requires that pension plan assets be invested in the sole interest of plan beneficiaries. Failure to do so most likely constitutes a breach of fiduciary duty. Moreover, the financial implications of such an objective suggest an increase in the uncertainty about the future funding status of the plan. For both reasons, Elliot's investment plan is inappropriate.
Template for Question 2-B




Template for Question 2-C



Somerset Investment Limited is a Singapore-based money management firm that is conducting an appraisal of its investment performance. Cameron Li, CFA, has been charged with conducting the appraisal, and is to report back to upper management with his findings.
Li is convinced that trade executions play a substantial role in overall portfolio performance, particularly for funds that have a relatively high level of turnover during the year. As a result, he is seeking methods that will allow him to evaluate the quality of trade executions.
He knows that the firm's traders use both market and limit orders, and he is wondering if a framework can be developed to ensure that the best order type is used under the specific circumstances for each trade. When he consults with the firm's head trader, Rick Gleeson, Gleeson tells him that market orders have price uncertainty but no execution uncertainty, while limit orders eliminate price uncertainty but have execution uncertainty.
According to Gleeson, rebalancing and liquidity-motivated trades should use limit orders while value-motivated and information-motivated trades should use market orders.
Li knows that bid-ask spreads are a major component of trading costs, and asks Gleeson for some recent trade data that he can use for analysis and presentation to management. He receives the following data relating to a series of buy trades for Sumatra Natural Resources (SNR), with all currency values in Singapore dollars:

Trades of Sumatra Natural Resources

Gleeson also tells Li that the portfolio manager had originally made the decision to purchase 5,000 SNR at 10:00 a.m. when the price was $22.36. The closing price for the day was Leeson's last trade at $22.65, at which point the order for the remaining 2,000 shares was cancelled.

Which of the following correctly summarizes Gleeson’s comments concerning the differences between market and limit orders?

  1. He is correct concerning the nature of uncertainty; he is correct concerning when the order types should be used.
  2. He is correct concerning the nature of uncertainty; he is incorrect concerning when the order types should be used.
  3. He is incorrect concerning the nature of uncertainty; he is correct concerning when the order types should be used.

Answer(s): B

Explanation:

Gleeson is correct concerning the nature of uncertainty. Market orders have price uncertainty but no execution uncertainty, while limit orders eliminate price uncertainty but have execution uncertainty. However, he is incorrect concerning when rhese order types should be used. In most cases, information-motivated and liquidity-motivated trades should use market orders to ensure that execution takes place, while value-motivated and rebalancing trades should use limit orders because price is typically more important than the speed of execution. (Study Session 16, LOS 45.a)






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