Deck 5: Evaluating the Investment Process

Question 1

Several studies have looked at the effect of analyst recommendations on stock prices.These studies have concluded that the recommendations are not useful to investors interested in making excess returns.

Answer 1

True

Question 2

Mutual funds are subject to a single set of tax rules.To avoid taxes,mutual funds must distribute by December 31^st 98% of all ordinary income earned during the calendar year and 98% of all realized net capital gains earned during the previous 12 months ending October 31^st.

Answer 2

True

Question 3

Explain how Betas of Index funds result below one under a passive strategy.

Answer 3

There is no such index fund that has a performance that exactly matches the performance of the index it tracks on a month-by-month or year-by-year basis.Cash inflows from investors,the payment of dividends,and the response to changes in the composition of the index cause the cash position to change and transaction costs to be incurred.Index funds available to individual investors also maintain a cash position to smooth out cash flows.This results in Betas to be slightly below one with respect to the index being tracked.It means that the index funds generally do slightly better when markets are down and slightly worse when markets go up.

Question 4

List the methods that are employed to determine the "I's" in the literature of performance measurement,where the "I's" represent influences that systematically affect returns.

Question 5

Past fund performance is correlated with future fund performance,such as,poor fund performance predicts future poor performance.

Question 6

One of the techniques adopted by managers to improve performance through market timing is to:

A) maintain a constant percentage of amount invested in bonds and stock.
B) adjust the expected return on the portfolio in anticipation of changes in market.
C) adjust the unsystematic risk in anticipation of changes in market.
D) adjust the average beta on the portfolio in anticipation of changes in market.

Question 7

A perfect forecasting ability implies that:

A) the predicted change in earnings are higher than the realized change in earnings.
B) the forecaster outperforms the naive no-change model.
C) the value of Thiel's inequality coefficient will be more than 1.
D) the predicted change in earnings equals difference between actual earnings and forecasted level of earnings.

Question 8

While money managers,on average,have not done as well as the market,larger money managers have generally done much better than smaller money managers.

Question 9

An active strategy utilized for common stocks

A) involves less diversifiable risk than an index fund.
B) involves a lower cost of paying the forecasters either in form of salaries or in the management fees than a passive strategy.
C) requires higher turnover as opposed to the very low turnover of the buy and hold strategies of an index fund.
D) requires lower transaction cost as compared to passive management.

Question 10

Explain how a fund manager may improve the portfolio's performance through market timing.Also discuss the limitation of using such strategies.

Question 11

The tremendous growth in assets under management of open-end funds was fuelled by two sources: a high rate of return in the capital markets and huge inflows of new capital due in large part to the growth in the private pension market in the U.S.

Question 12

Explain the steps involved in evaluating the valuation process of an output.