Question 1

To ________ means to mitigate a financial risk.

Accepted Answer

Hedging is a strategy used to mitigate financial risk. It typically involves taking a position in a financial instrument that is negatively correlated with a particular asset or market. This way, if the asset or market experiences losses, the hedging position can help to offset those losses. Investing and speculating involve taking risks in the hopes of generating profits, while renege means to fail to follow through on a commitment, which is not related to financial risk mitigation.

Question 2

My pension plan will pay me a yearly retirement amount equal to 2% of my highest annual salary for each year of service. I must have ________.

Accepted Answer

The description matches a type of defined benefit plan where the retirement benefit is calculated based on a formula that takes into account the employee's length of service and highest average salary.

Question 3

In a defined contribution pension plan, the ________ bears all of the fund's investment performance risk.

Accepted Answer

In a defined contribution pension plan, the employee bears all of the fund's investment performance risk as the contributions made and the investment returns earned are credited to their account. The employer does not bear any investment risk as they only contribute a predetermined amount towards the plan. The fund manager is responsible for managing the investments, but they do not bear the investment performance risk. The government does not bear any investment risk in a defined contribution pension plan.

Question 4

To become a CFA, you must do all of the following except which one?

Accepted Answer

While it is important for CFAs to disclose any potential conflicts of interest with clients, divesting all personal holdings is not a requirement to become a CFA. The other options (A, B, and C) are all necessary components of becoming a CFA.

Question 5

The major asset most people have during their early working years is their ________.

Accepted Answer

During the early working years, most individuals have yet to accumulate significant assets such as a home, stock portfolio or bond portfolio. The major asset they possess during this time is their earning power derived from their skills, education and experience. This enables them to generate income and potentially build wealth over time.

Question 6

If the maturity of a bank's assets is much longer than the maturity of its liabilities and it wants to limit its interest rate risk, the bank may ________.

Accepted Answer

If the maturity of a bank's assets is much longer than the maturity of its liabilities and it wants to limit its interest rate risk, it should prefer to invest in variable-rate assets. This is because variable-rate assets have interest rates that are periodically adjusted based on changes in prevailing market conditions, which helps the bank to better manage its interest rate risk. Additionally, variable-rate assets tend to have shorter maturities, which helps to reduce the maturity gap between the bank's assets and liabilities.

Question 7

Which one of the following would be considered a "cash equivalent" investment?

Accepted Answer

Cash equivalent investments are highly liquid and easily convertible to cash. Treasury bills fit this description as they are short-term, highly liquid debt securities issued by the government and are considered to be very low-risk. Common stock, corporate bonds, and real estate are not considered cash equivalents.

Question 8

The two most important factors in describing an individual's or organization's investment objectives are ________.

Accepted Answer

It is important to consider an individual's or organization's return requirement (the desired level of return on their investment) and their risk tolerance (the level of risk they are willing to accept in pursuit of that return) when determining their investment objectives. Factors such as income level and age can also be important, but they are not as central to defining investment objectives as return requirement and risk tolerance.

Question 9

A portfolio manager indexes part of a portfolio and actively manages the rest of the portfolio. This is called a ________ strategy.

Accepted Answer

A passive core strategy involves indexing a portion of a portfolio to achieve broad market exposure while actively managing the rest to seek higher returns or manage risk. This approach combines the benefits of both passive and active management.

Question 10

Just 2 months after you put money into an investment, its price falls 25%. Assuming that none of the investment fundamentals have changed, which of the following actions would evidence the greatest risk tolerance?

Accepted Answer

Buying more when the price has dropped 25% shows a high risk tolerance because it involves investing more money in a declining asset. This strategy assumes that the investment fundamentals are sound and that the price will eventually rebound, which is not guaranteed. Option A shows a lower risk tolerance because it involves selling out of fear, while option B shows a moderate risk tolerance because it involves holding onto the investment but not taking any active steps to increase exposure. Option D is not a viable choice since the advisor has not necessarily done anything wrong, and lawsuits are generally costly and time-consuming.

Question 11

At the early stage of an individual's working career, his or her retirement portfolio should probably consist mostly of ________.

Accepted Answer

At the early stage of an individual's working career, they have a longer investment horizon and can afford to take a higher level of risk. Therefore, investing in stocks, which has the potential for higher returns, can help grow the retirement portfolio over the long term. Annuities, bonds, and commodities are typically recommended for individuals nearing or in retirement who are looking for more stable, income-generating investments.

Question 12

For a bank, the difference between the interest rate charged to borrowers and the interest rate paid on liabilities is called the ________.

Accepted Answer

The difference between the interest rate charged on loans and the interest rate paid on liabilities (deposits) is known as the interest rate spread. It represents the earnings of the bank and reflects the risk and costs associated with the lending and borrowing activities. Option A is incorrect as insurance premium is a fee paid by the bank to transfer the risk of lending to an insurer. Option C is incorrect as risk premium is the compensation for bearing risk above the risk-free rate. Option D is incorrect as term premium is the additional compensation paid for holding a longer-term bond.

Question 13

As the typical investor ages, the composition of his wealth usually switches from primarily ________ to primarily ________.

Accepted Answer

As individuals age, they typically transition from relying on their ability to earn (human capital) to depending on their savings and investments (financial capital) for their wealth.

Question 14

If an investor wants to invest 100% of her portfolio in safe assets but does not want to manage her portfolio, she should invest in ________.

Accepted Answer

A money market fund invests in short-term, low-risk debt securities, making it a safe investment option. Additionally, the fund is managed by a professional who handles the portfolio, eliminating the need for the investor to manage her portfolio.

Question 15

Price volatility is greatest on which one of the following investments?

Accepted Answer

Zero-coupon bonds have the highest price volatility as they offer no periodic interest payments and rely solely on the appreciation of the bond for returns. This means that even a small change in interest rates can have a significant impact on the bond's value. The other options, commercial paper, Treasury notes, and Treasury bills, have lower price volatility as they are generally short-term debt instruments with lower risk profiles.

Question 16

Which of the following is not one of the main areas covered in the examinations that must be taken in order to achieve the designation of Chartered Financial Analyst?

Accepted Answer

Securities marketing techniques are not one of the main areas covered in the examinations for Chartered Financial Analyst (CFA) designation. The three main areas covered are investment management ethics, securities analysis, and portfolio management.

Question 17

A ________ insurance policy provides death benefits, with no buildup of cash value.

Accepted Answer

Term life insurance is designed to provide only a death benefit for a set period of time or term. It does not build up any cash value over time, which makes it a cheaper option compared to other types of life insurance policies such as whole-life, universal life, or variable life. Therefore, option D) is the best choice for a policy that provides death benefits with no buildup of cash value.

Question 18

SoHo International Investment Management has an asset allocation strategy of 57% U.S. investments and 43% global investments. Within the United States, Go Global has allocated 55% of its portfolio to equities and 45% to bonds. SoHo International now holds 4.4% of its U.S. equity portfolio in the stock of Bright Force. Internationally, SoHo International has allocated 72% to equities and 28% to bonds. About what percentage of SoHo International's total portfolio is invested in Bright Force?

Accepted Answer

(57%)(72%)(4.4%) = 1.81%

Question 19

In a defined benefit pension plan, the ________ bears all of the fund's investment performance risk.

Accepted Answer

In a defined benefit pension plan, the employer promises to pay a specific benefit to the employee upon retirement, regardless of the fund's investment performance. Therefore, the employer assumes all investment performance risk.

Question 20

You are thinking of investing in one of two assets. Asset A has higher systematic risk than asset B. You can be sure that asset A's ________ return will be higher than asset B's, but you can't be sure if asset A's ________ return will be higher than asset B's.

Accepted Answer

The statement suggests that asset A has higher systematic risk but does not guarantee a higher expected return. Therefore, the best choice is option C where we can be sure that asset A's expected return may be higher than asset B, but we can't be sure about the realized returns until the investment is made.

Quiz 22: Investors and the Investment Process