Question 1

Tracking error is defined as

Accepted Answer

Tracking error is the difference between the returns on the overall risky portfolio versus the benchmark return.

Question 2

Alpha forecasts must be ____________ to account for less-than-perfect forecasting quality.When alpha forecasts are ____________ to account for forecast imprecision,the resulting portfolio position becomes ____________.

Accepted Answer

Alpha forecasts are typically not perfect and can be imprecise. Shrinking alpha forecasts can help account for such imprecision and reduce the impact of potential forecasting errors. By shrinking alpha forecasts, the resulting portfolio position becomes more moderate and less extreme, which helps to manage risk. Therefore, the correct choice is B.

Question 3

Benchmark risk is defined as

Accepted Answer

Benchmark risk is the standard deviation of the return difference between the portfolio and the benchmark. A measures the excess return, B measures the volatility of the benchmark which is not the benchmark risk. D measures the standard deviation of the return of the actively-managed portfolio which is also not the benchmark risk. Therefore, C is the correct choice.

Question 4

The Treynor-Black model is a model that shows how an investment manager can use security analysis and statistics to construct __________.

Accepted Answer

The Treynor-Black model is commonly used in constructing active portfolios. It takes into account both security analysis and statistics to create a portfolio that is actively managed and designed to outperform the market. Options A, B, D, and E are not specific types of portfolios that are created using the Treynor-Black model.

Question 5

Active portfolio managers try to construct a risky portfolio with __________.

Accepted Answer

Active portfolio managers aim to achieve higher returns than the market index by constructing a portfolio with a higher Sharpe measure than a passive strategy. They do this by investing in undervalued stocks or selling overvalued stocks, among other strategies. A higher Sharpe measure indicates a better risk-adjusted return, which is the primary objective of active portfolio management.

Question 6

The tracking error of an optimized portfolio can be expressed in terms of the ____________ of the portfolio and thus reveals ____________.

Accepted Answer

The tracking error of an optimized portfolio can be expressed in terms of its beta with respect to the benchmark and thus reveals the portfolio's benchmark risk. Therefore, the correct answer is D - beta; benchmark risk.

Question 7

The ____________ model allows the private views of the portfolio manager to be incorporated with market data in the optimization procedure.

Accepted Answer

The Black-Litterman model allows the portfolio manager's private views to be incorporated with market data in the optimization procedure, helping to construct a well-diversified portfolio that enhances returns and reduces risks. The Treynor-Black model is a variation of the Black-Litterman model that incorporates the Treynor ratio as a performance measure, while the Treynor-Mazuy model is a different approach that utilizes market timing signals. The Black-Scholes model is used to price options. Therefore, the best choice for this question is A) Black-Litterman.

Question 8

The Black-Litterman model and Treynor-Black model are

Accepted Answer

The Black-Litterman model and Treynor-Black model are complementary tools that should be used in portfolio management. The Black-Litterman model is a Bayesian approach that starts with a prior assumption about expected returns, which can be adjusted based on market views or the manager's own expectations. On the other hand, the Treynor-Black model is a mean-variance optimization that incorporates asset classes and allows managers to balance risk and return within a portfolio. Used together, these models can enhance portfolio optimization and provide a more informed decision-making process.

Question 9

Even low-quality forecasts have proven to be valuable because R-squares of only ____________ in regressions of analysts' forecasts can be used to substantially improve portfolio performance.

Accepted Answer

R-squares as low as 0.001 in regressions of analysts' forecasts can still be used to substantially improve portfolio performance, indicating that even low-quality forecasts have value.

Question 10

The critical variable in the determination of the success of the active portfolio is ________.

Accepted Answer

The success of an active portfolio is largely determined by the alpha, which represents the ability of the portfolio manager to choose securities that outperform their respective benchmarks. However, alpha is affected by both systematic (market) and nonsystematic (idiosyncratic) risk. Since a portfolio manager can diversify away nonsystematic risk, the critical variable in the determination of success is alpha/nonsystematic risk.

Question 11

If a portfolio manager consistently obtains a high Sharpe measure,the manager's forecasting ability __________.

Accepted Answer

The Sharpe measure evaluates a portfolio's return relative to its risk, and a high Sharpe measure indicates that the portfolio is generating good returns for the amount of risk it takes on. Since the portfolio manager consistently achieves a high Sharpe measure, it suggests that their forecasting ability is above average.

Question 12

In the Treynor-Black model

Accepted Answer

In the Treynor-Black model, portfolio weights are sensitive to large alpha values which can lead to infeasible long or short positions for many portfolio managers. This is because the model uses a linear programming approach to optimize portfolio weights based on the given inputs, and extreme values (such as large alphas) can result in unrealistic weightings that may not be feasible to implement in practice. Therefore, portfolio managers may need to adjust the alpha values or constraints in the model to ensure that the resulting portfolio is feasible and manageable.

Question 13

If you begin with a ______ and obtain additional data from an experiment you can form a ______.

Accepted Answer

The prior distribution represents the initial belief or assumption about the parameter or phenomenon being studied. By collecting additional data from an experiment, one can update their prior belief to form a posterior distribution using Bayesian analysis. Therefore, the correct order is to begin with a prior distribution and form a posterior distribution based on new data.

Question 14

The Treynor-Black model requires estimates of ________.

Accepted Answer

The Treynor-Black model requires estimates of alpha (the excess return of the portfolio over the risk-free rate), beta (the portfolio's sensitivity to the market), and residual variance (the idiosyncratic risk of the portfolio). Therefore, option B, which includes all three parameters, is the best choice.

Question 15

Active portfolio management consists of __________.

Accepted Answer

Active portfolio management involves both market timing and security analysis. Market timing involves predicting the overall movements of the market and adjusting the portfolio accordingly, while security analysis involves analyzing individual stocks or bonds in order to select the best investments. Indexing, on the other hand, involves simply tracking the performance of a market index and does not involve active decision-making. Therefore, options A and B are both included in active portfolio management, while option C (indexing) is not.

Question 16

Absent research,you should assume the alpha of a stock is

Accepted Answer

In the absence of research or information, the default assumption is that a stock's alpha, which measures its performance relative to a benchmark, is zero, indicating no expected outperformance or underperformance.

Question 17

Benchmark risk

Accepted Answer

Benchmark risk refers to the risk that a portfolio deviates significantly from its benchmark index. Treynor-Black model is a portfolio optimization model that takes into account the investor's risk tolerance and the market's risk profile (beta) to construct a portfolio. Benchmark risk can be constrained by setting limits on the deviation of the portfolio from the benchmark, thus keeping the weights of assets within reasonable bounds. Therefore, D is the correct answer. A, B and C are incorrect as they do not reflect the nature of benchmark risk and its management.

Question 18

The Black-Litterman model is geared toward ____________ while the Treynor-Black model is geared toward ____________.

Accepted Answer

The Black-Litterman model is primarily used for asset allocation while the Treynor-Black model is primarily used for security analysis. Therefore, option D (asset allocation; security analysis) is the best answer.

Question 19

Passive portfolio management consists of __________.

Accepted Answer

Passive portfolio management involves creating a portfolio that tracks a market benchmark, such as the S&P 500, rather than trying to outperform the market through market timing or security analysis. Indexing involves buying and holding a diversified portfolio of securities that mirrors the composition of the benchmark index, providing broad market exposure and minimizing trading costs.

Question 20

____________ can be used to measure forecast quality and guide in the proper adjustment of forecasts.

Accepted Answer

The answer of ____________ can be used to measure forecast...

Quiz 27: The Theory of Active Portfolio Management