Answers to Questions
1. Passive portfolio management strategies ha
ve grown in popularity
because investors are
recognizing that the stock mark
et is fairly efficient and that the costs of an actively
managed portfolio are substantial.
2.
Numerous studies have shown that the major
ity of portfolio managers have been unable
to match the risk-return performance of
stock or bond indexes. Following an indexing
portfolio strategy, the portfolio manager build
s a portfolio that matches the performance
of an index, thereby reducing
the costs of research and trad
ing. The portfolio manager’s
evaluation is based upon how cl
osely the portfolio tracks th
e index or “tracking error,”
rather than a risk-retur
n performance evaluation.
Another passive portfolio stra
tegy, buy-and-hold, has the in
vestor purchase securities and
then not trade them—i.e., hold them—for a peri
od of time. It differs from an indexing
strategy in that indexing does require some
limited trading, such as when the composition
of the index changes as firms merge or
are added and deleted from the index.
3. There are a number of active
management strategies discu
ssed in the chapter including
sector rotation, the use of
factor models, quantitative sc
reens, and linear programming
methods.
Following a sector rotation strategy, the mana
ger over-weights certain
economic sectors,
industries or other stock attri
butes in anticipation of an
upcoming economic period or the
recognition that the shares are undervalued.
Using a factor model, portfolio managers examine the sensitivity of stocks to various
economic variables. The managers
then “tilt” the
portfolios by trading
those shares most
sensitive to the analys
t’s economic forecast.
Through the use of computer databases and qua
ntitative screens, por
tfolio managers are
able to identify groups of stocks
based upon a set of characteristics.
Using linear programming techniqu
es, portfolio managers are able to develop portfolios
that maximize objectives while satisfying linear constraints.
4. Three basic techniques exist for constructing a
passive portfolio: (1)
full replication of an
index, in which all securities in the index ar
e purchased proportionally to their weight in
the index; (2) sampling, in which a portfolio
manager purchases only a sample of the
stocks in the benchmark index; and (3
) quadratic optimiza
tion or programming
techniques, which utilize computer programs th
at analyze historical security information
16 – 2
in order to develop a portfolio
that minimizes tracking error.
5. Managers attempt to add value to their port
folio by: (1) timing their investments in the
various markets in light of market forecasts
and estimated risk premiums; (2) shifting
funds between various equity sectors, industries,
or investment styles in order to catch the
next “hot” concept; and (3) stockpicking of
individual issues (buy low, sell high).
6. The job of an active portfolio manager is
not easy. In order to succeed, the manager
should maintain his/her investment philosophy,
“don’t panic.” Since
the transaction costs
of an actively managed portfolio typically
account for 1 to 2 percent of the portfolio
assets, the portfolio must earn 1-2 percent abov
e the passive benchmark just to keep even.
Therefore, it is recommended th
at a portfolio manager attempt to minimize the amount of
portfolio trading activity. A hi
gh portfolio turnover rate w
ill result in diminishing
portfolio profits due to growing commission costs.
7. The four asset allocat
ion strategies are: (1) integrat
ed asset allocatio
n strategy, which
separately examines capital market condi
tions and the investor’s objectives and
constraints to establish a portfolio mix;
(2) strategic asset a
llocation strategy, which
utilizes long-run projections;
(3) tactical asset
allocation strategy, which adjusts the
portfolio mix as capital market expectations
and relative asset valuations change while
assuming that the investor’s objectives and constraints remain constant over the planning
horizon; and (4) insured asset
allocation strategy, which pres
umes changes in investor’s
objectives and constraints as his/her wealth chan
ges as a result of risi
ng or falling market
asset values.
8.
CFA Examination III (1994)
Value-oriented investors (1) focus on the curren
t price per share, specifically, the price of
the stock is valued as “inexpensive”; (2) not
be concerned about current earnings or the
fundamentals that drive earnings growth; and/or
(3) implicitly assume that the P/E ratio is
below its natural level and that
the (an efficient) market w
ill soon recognize the low P/E
ratio and therefore drive the stock price upwar
d (with little or no change in earnings).
Growth-oriented investors (1) focus on earnin
gs per share (EPS) and what drives that
value; (2) look for companies that expect to
exhibit rapid EPS growth in the future;
and/or (3) implicitly assume that the P/E ratio will remain constant over the near term,
that is, stock price (in an efficient market)
will rise as forecasted earnings growth is
realized.
Another perspective is that beta is not the onl
y risk factor that is priced by the efficient
market; other risk factors explain the differe
nce in risk-adjusted
returns between value
and growth portfolios.
9.
A price momentum strategy is based on the
assumption that a stock’s recent price
behavior will continue to hold. Thus an
investor would buy a st
ock whose price has
recently been rising, and sell (or short)
a stock whose price has been falling.Category: Business, General Busines
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