PART AK $(35$ points$)$ Question $1(30$ points$)$

Table $1$: Investor profile: Age

Age in years The student whose first name begins with the following letters

$80$ A$,$ B$,$ C$,$ D$,$ E$,$ F$,$ G

$60$ H$,$ I, J$,$ K

$40$ L$,$ M$,$ N$,$ O$,$ P$,$ Q$,$ R

$30$ S$,$ T$,$ U$,$ V$,$ W

$20$ X$,$ Y$,$ Z

Students are required to create their strategic asset allocation using this investor profile and the capital market assumptions given in Appendix $1.$

$1.$ Use $60$ years old as an example. You have been assigned an investor profile based on your age. Based on this profile, you must answer the following questions $(1($a$)$ to $1($e$)).$ To determine your investor profile, follow this rule: Your maximum allocation to Equity must not exceed $(100-$ your age$)\%.$

a$)$ Suppose you have an asset manager who proposes the following Strategic Asset Allocation $($SAA$)$ for portfolios suitable for investors in different age groups.$\_$ Which portfolio would you choose? Why? $(3$ points$)$

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Table $2$: SAA for different investor profiles

Portfolios $($SAA$)$

Asset class Conservative Moderate Balanced Growth High Growth

AU Equity $6\%11\%16\%24\%30\%$

Developed Market $($DM$)$ ex$-$AU Equity $5\%11\%22\%32\%39\%$

Emerging Market $($EM$)$ Equity $3\%5\%7\%8\%9\%$

Infrastructure $1\%3\%3\%4\%5\%$

Private Equity $2\%3\%5\%6\%6\%$

Private Debt $10\%9\%8\%5\%2\%$

AU Govt Bonds $13\%10\%7\%4\%3\%$

AU Inflation Linked Bonds $15\%12\%10\%6\%4\%$

AU Corp Bonds $8\%7\%5\%4\%0\%$

Global ex$-$AU Govt Bonds $($Hedged$)11\%10\%5\%0$

$\%0\%$

Global ex$-$AU Corp Bonds $($Hedged$)3\%3\%$

$4\%4\%0\%$

AU Cash $23\%16\%8\%3\%2\%$

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Appendix $1$: Capital Market Assumptions $(10-$year Annualised$)$

Asset Classes Nominal Returns $($AUD$)$ Nominal Volatility $($AUD$)$

Equity Global Equity $7\mathrm{.}10\%12\mathrm{.}15\%$

Developed Markets $($DM$)$ Equity $5\mathrm{.}94\%12\mathrm{.}47\%$

AU Equity $8\mathrm{.}88\%13\mathrm{.}44\%$

Developed Markets $($DM$)$ ex$-$AU Equity $6\mathrm{.}49\%11\mathrm{.}64\%$

Emerging Markets $($EM$)$ Equity $10\mathrm{.}85\%14\mathrm{.}38\%$

Alternatives

Infrastructure $7\mathrm{.}80\%23\mathrm{.}90\%$

Private Equity $6\mathrm{.}20\%17\mathrm{.}80\%$

Private Debt $5\mathrm{.}00\%15\mathrm{.}00\%$

Fixed

Income Global Composite Bonds $3\mathrm{.}04\%10\mathrm{.}33\%$

AU Fixed Income $4\mathrm{.}74\%3\mathrm{.}16\%$

AU Govt Bonds $4\mathrm{.}49\%4\mathrm{.}13\%$

AU Inflation Linked Bonds $4\mathrm{.}45\%7\mathrm{.}21\%$

AU Corp Bonds $4\mathrm{.}91\%5\mathrm{.}03\%$

Global ex AU Fixed Income $($Hedged$)2\mathrm{.}90\%12\mathrm{.}35\%$

Global ex$-$AU Govt Bonds $($Hedged$)2\mathrm{.}20\%10\mathrm{.}50\%$

Global ex$-$AU Corp Bonds $($Hedged$)4\mathrm{.}20\%13\mathrm{.}30\%$

Cash AU Cash $4\mathrm{.}33\%7\mathrm{.}21\%$

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b$)$ You asked your investment manager to send you the Capital Market Assumptions $($CMAs$)$ they had used for these allocations. These are given in Appendix $1.$ Use these CMAs and Carver$$s top$-$down approach to create your own SAA. Follow these rules while creating your portfolio. $(14$ points$)$

i$)$ Keep the cash allocation as it is$.$

ii$)$ Keep the allocation to Equity, Alternatives and Fixed Income as they are in the portfolio suggested by your manager. For example, if you selected the conservative portfolio, your allocation to Equity, Alternatives, and Fixed Income should be kept at $14\%,13\%$ and $50\%,$ respectively.

iii$)$ Use Carver$$s method to allocate for allocation within Equity, Alternatives and Fixed Income. For example, if you selected the Conservative portfolio in part $1($a$)$ then $14\%$ of your portfolio should be allocated between AU Equity, Developed Market $($DM$)$ ex$-$AU Equity and Emerging

Market $($EM$)$ Equity using Carver$$s method. And will do the same for Alternatives and Fixed Income assets.

There are several ways to distribute your portfolio within Equity and Fixed income. For example, you can allocate within equity in two steps or in one step. Please show the SAA using both the one$-$ step and two$-$step processes.

c$)$ Which one of the two SAAs you created in $1($b$)$ following the one$-$step and two$-$step Carver$$s Topdown approaches will you choose? Explain. $(3$ points$)$

d$)$ Compare the expected rate of returns of the portfolios suggested by your investment manager and the one you created. Which one would you prefer? Why? $(4$ points$)$

e$)$ From the table below, estimate the Sharpe Ratio of the portfolio created by the Carver method and your investment manager. Which portfolio would you choose? Explain your selection. For portfolio returns in columns $(2),(4)$ and $(6)$ of Table $3,$ use your estimates from the previous question. $(4$ points$)$

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Table $3$: Performance ofthe portfolos

Portfolios Returns

$($Manager$)$ Volatility $($Manager$)$ Returns $($Carver one$-$step method$)$ Volatility

$($Carver onestep method$)$ Returns $($Carver two$-$step method$)$ Volatility $($Carver two$-$step method$)$

$(1)(2)(3)(4)(5)(6)(7)$

Conservative $5\mathrm{.}81\%5\mathrm{.}60\%5\mathrm{.}58\%$

Moderate $6.$

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f$)$ Will you change your allocation if you have twice the amount of wealth you have now? $(2$ points$)$