Questions and Answers of The Theory And Practice Of Investment

a. In the estimation of a multifactor model, what is the implicit assumption about the number of observations in a time series used to estimate the model and the number of factors?b. Why is this
What is meant by a fundamental factor model?
a. What is meant by latent factors?b. How are latent factors estimated?c. Why do statisticians use factor models?
What are the steps involved in estimating a multifactor model that includes both known and latent factors?
a. What are the main assumptions of arithmetic random walks?b. What are their main disadvantages when modeling asset prices?
a. What are the main assumptions of geometric random walks?b. What is the probability distribution of asset prices that follow geometric random walks?
a. What are the main assumptions of mean reversion?b. When would you model asset prices using mean-reverting walks instead of arithmetic or geometric random walks?
Explain in detail how you would simulate a geometric random walk when the volatility is assumed to follow a mean-reverting process.
Let us evaluate a simple trading strategy whose goal is to limit downside risk. Suppose you are holding one share of stock. You sell the stock as soon your loss (relative to the original price of
What is wrong with cap-weighted indexes?
How can one obtain risk parameter estimates needed for portfolio construction decisions?
How can one obtain expected return parameter estimates needed for portfolio construction decisions?
What are the main limitations of existing bond indexes?
What are the main challenges involved in deciding how much to allocate to the performance-seeking portfolio versus the liabilityhedging portfolio?
Following is information from General Mills’ fiscal 2011 first quarter results:a. What is the difference between the two earnings per share for General Mills for the period reported?b. What is
What is the basic idea behind a dividend discount model?
a. What is meant by a market order?b. What risk is an investor exposed to when placing a market order?c. When is a limit order executed?
The following appeared as the opening paragraph in an article appearing in the Wall Street Journal (March 31, 2010): SHANGHAI—China will launch its long-awaited trial program for margin trading and
What are the costs associated with short selling?
The following is the opening paragraph of a Bloomberg Businessweek story published on March 25, 2010
The following is a quote from a May 6, 2010 article published by Fox-Business (“Dow Plunge: Program Trading’s Role”):Program trading has been the subject of massive controversy in recent years
In constructing an equity portfolio, which type of tracking error—backward-looking or forward-looking should be used?
Calculate the annualized alpha, tracking error, and information ratio based on the 12 monthly returns that follows: Month Active Return
Assuming active returns are normally distributed, calculate the expected returns about the benchmark at the 67%, 95%, and 99% confidence levels assuming the following data: Expected active return
Explain the philosophy of a:a. Contrarian managerb. Yield manager
Determine the size and style orientation of the following equity mutual fund: Stock A Stock B Stock C S Market Cap (MC) (in billions) 18 30 42 MC) 2.620488909 3.106880249 3.475593597 Portfolio Cap
Construct a graph showing combinations of breadth and depth to produce constant information ratio (IR) with an alpha of 3% and a tracking error of 4%.
Use portfolio attribution analysis to assess the active strategies of two managers with the same alpha: Active management return (alpha) % Components of active return: Market timing Sector
Consider three companies, A, B, and C. Suppose that a common stock analyst estimates that the market risk premium is 5% and the risk-free rate is 4.63%. The analyst estimated the beta for each
Estimate the value of a share of stock for each of the following companies using the constant growth model and estimating the average annual growth rate of dividends from 20X1 through 20X6 as given
Estimate the expected return for each of the following companies: Company T U V W Current Dividends per Share $1.00 $0.50 $1.25 $0.25 Expected Growth Rate of Dividends 2% 3% 1% 2% Value of the
Consider Company RV that has projected earnings per share of $2.5 and a projected book value per share of $20. Determine the estimated value of this Company RV, based on a relative value using the
Why would an analyst use a multiphase dividend discount model?
Why might an analyst prefer to use a measure of cash flow generating ability such as earnings instead of sales in relative valuation?
To what extent is the procedure for valuation based on discounting cash flows and valuation by multiples similar?
In seeking to establish comparable companies in relative valuation analysis, what is the problem with specifying too stringent criteria for companies to be included in the comparable group?
Going forward, the traditional and quantitative approaches to equity portfolio management are likely to converge: Successful investors will make full use of the best available tools. In fact, many
Tracking error—the standard deviation of active returns—is a common measure of a portfolio’s ex ante risk. What are some limitations of using expected tracking error to measure the ex ante risk
When developing an equity factor risk model, why is it a good idea to include all of the return variables (the variables used to calculate stocks’ alphas) as factors in the risk model?
Two widely used methods for constructing equity portfolios are stratified sampling—a type of rule-based approach—and portfolio optimization. What are some of the advantages and disadvantages of
Transaction costs comprise two components: explicit costs, such as commissions and fees; and implicit costs, or market impact. What gives rise to market impacts costs? What are typical
Name three potential advantages of using short as well as long positions in a portfolio.
What is a liquidity buffer, and why might it be necessary?
What are the sources of overall return to the market-neutral portfolio?
Will a hypothetically ideal market-neutral long-short portfolio earn more if the underlying equity market rises by 15% than if the market falls by 15%?
What is integrated optimization and why is it so important?
How can a market-neutral long-short portfolio be modified to benefit from the returns available from the overall market?
How does an equitized long-short portfolio’s return differ from a market-neutral long-short portfolio’s return?
What’s an “enhanced active” 120-20 portfolio?
What are some of the issues that may have to be addressed in constructing long-short portfolios?
What is the most important determinant of success for a long-short portfolio?
What’s “fundamental” about fundamental risk models?
A portfolio’s risk can be calculated directly based on the variances of the stocks it holds and their correlations to each other. Why then would a portfolio manager choose to calculate portfolio
Can a portfolio manager diversify away to a negligible level both the common factor risk and the specific risk of a portfolio?
Is a bottom-up stock-picker portfolio with 50 stocks riskier than a top-down factor-betting portfolio with 500 stocks?
Can a portfolio manager use a multifactor risk model to predict if an active portfolio is at greater risk of underperforming its benchmark than outperforming it over the next period? That is, does
What are the four roles that equity derivatives serve in equity portfolio management?
What are the advantages of listed options versus OTC options?
a. What is the dollar value of an S&P 500 index option at expiration if it has a strike price of 1250 and the settlement price is 1265?b. How much would the buyer receive?
a. What are the factors that affect the price of an American option?b. How does each factor impact the price of an American option?
What is the delta, theta, and vega of an option?
Given the information below, explain how index arbitrage is possible?Index = 1150Index futures = 1150Risk-free rate = 0.5%Days to expiration = 30Dividends = 2% annualizedAssume at expiration the
How can an investor use listed options to protect an equity portfolio from price risk?
How can stock index futures be used to create a synthetic index fund?
a. Explain what an optimal hedge ratio is for portfolio hedging when the index and the futures contracts have the same volatility. b. Explain why it is referred to as a minimum hedge ratio.
Explain how an investor can use an equity swap structure to reduce domestic equity exposure on a $100 million portfolio from 75% to 70% while increasing bond exposure from 25% to 30%.
What are the three basic approaches to enhanced indexing?
Why is the maturity of an amortizing bond not a useful measure?
How do investors gauge the default risk of a bond issue?
What is the difference between a municipal tax-backed bond and a municipal revenue bond?
Why is an assumed prepayment speed necessary to project the cash flow of a mortgage pass through security?
a. What is meant by prepayment risk for a residential mortgage-backed security?b. What are contraction risk and extension risk?c. “By creating a CMO, an issuer eliminates the prepayment risk
a. Why is it necessary for a nonagency mortgage-backed security to have credit enhancement?b. Who determines the amount of credit enhancement needed?
a. What is meant by a senior-subordinated structure?b. Why is the senior-subordinated structure a form of credit enhancement?c. What is the limitation of a third-party guarantee as a form of
In a commercial mortgage-backed security, why is balloon risk referred to as extension risk?
Suppose that you are reviewing a price sheet for bonds and see the following prices (per $100 par value) reported. You observe what seem to be several errors. Which bonds seem to be reported
Why may the yield to call for a bond have more than one value?
A portfolio manager is considering buying two bonds. Bond A matures in four years and has a coupon rate of 6% payable semiannually. Bond B, of the same credit quality, matures in 10 years and has a
Consider a 5% 14-year bond with a maturity value of $100 that is option free and is selling to yield 6%.a. What is the bond’s price?b. What is the price value of a basis point for this
Consider the following two 10-year corporate bonds that are currently callable:Suppose that the current market yield for 10-year corporate bonds is 7%.a. Which of these two bonds would be expected
Explain what a 10-year key rate duration of 0.35 means for a portfolio?
The value of a Treasury security should be based on discounting each cash flow using the corresponding Treasury spot rate. Explain why this is true.
a. What is the typical relationship between credit spreads and term to maturity?b. How does this relationship change as credit ratings decline?
Explain what is meant by the nominal spread and the zero volatility spread? How are they computed?
Answer the following questions about valuing bonds with embedded options.a. Explain how an increase in expected interest rate volatility can decrease the value of a callable bond?b. What is the
Answer the following questions about valuing bonds with embedded options using a binomial interest rate tree:a. Why is the procedure for valuing a bond with an embedded option called “backward
Suppose the following information is available from the Treasury spot curve:Three-year spot rate = 3.410%Four-year spot rate = 3.854%Answer the following questions.a. What is the implied forward
Two portfolio managers are discussing the meaning of option adjusted spread. Here is what each asserted:Manager 1: “The OAS is a measure of the value of the option embedded in the bond. That is, it
For some MBS and ABS, the cash flows are path-dependent. Explain this statement.
ABCD Asset Management is going to pick a new benchmark for their investment-grade fixed income fund. The investment banking arm of ABCD’s parent company, ABCD Capital, publishes an investment-grade
a. Discuss the principles as they relate to creating a custom index using the Markowitz model of mean/variance optimization.b. What do you see as the main issues as they relate to the principles?
Specify three different optimization criteria that can be used in scenario-based portfolio construction. Briefly describe the relationship between them, and their respective pros and cons.
ABCD asset management has a fund benchmarked against a USD fixed income index, which includes Treasuries, agency debt, TIPS, mortgages and investment-grade corporate bonds. Specify at least four
Discuss the interplay between the weighting (or probabilities) in a set of bearish/bullish scenarios, maximin, and the constraints used in the optimization.
How can the global bond portfolio manager attempt to determine if capital flows enhance GDP growth or inflation which, in turn, will aid in making investment decisions?
Is the current level of interest rates and bond prices a reflection of future economic growth and activity as well a the amount of credit available?
What are the main characteristics of a global fixed income portfolio?
When should a portfolio manager have the highest conviction in their proprietary forecast?
Should the global fixed income portfolio manager focus on less crowded markets in order to more easily access mispriced securities?
What is the systematic risk of each security?Consider a portfolio of two equally weighted credit bonds from two different issuers in the same sector. Assume that interest rate risk is modeled by a

Showing 100 - 200 of 217