AAMS Asset Allocation & Selection 4 — Questions and Answers
Question 1: Which fixed income duration strategy best protects a bond portfolio against rising interest rates?
- Lengthening duration
- Shortening duration (Correct answer)
- Concentrating in long-term corporate bonds
- Adding callable bonds
Correct answer: Shortening duration
Shortening duration reduces a bond portfolio's sensitivity to interest rate increases, limiting price declines when rates rise.
Question 2: An investor holds a large concentrated position in employer stock. Which strategy best reduces concentration risk while deferring taxes?
- Selling all shares immediately
- Using an exchange fund (Correct answer)
- Purchasing index puts on the stock
- Moving all proceeds to cash
Correct answer: Using an exchange fund
Exchange funds allow investors to contribute concentrated stock positions and receive a diversified fund interest, deferring capital gains taxes.
Question 3: In asset allocation, which behavioral bias leads investors to maintain portfolios that resemble their employer's business sector?
- Anchoring bias
- Home country bias
- Familiarity bias (Correct answer)
- Recency bias
Correct answer: Familiarity bias
Familiarity bias causes investors to overweight assets they feel familiar with, such as their employer's industry or home market.
Question 4: Which allocation approach uses multiple asset classes to achieve a consistent volatility target regardless of market conditions?
- Buy-and-hold
- Risk parity (Correct answer)
- Sector rotation
- Buy-write strategy
Correct answer: Risk parity
Risk parity allocates capital so each asset class contributes equally to total portfolio risk, often levering low-volatility assets to hit targets.
Question 5: Which of the following is a key advantage of using ETFs over individual securities for asset class exposure?
- ETFs eliminate all market risk
- ETFs provide instant diversification at low cost (Correct answer)
- ETFs always outperform active managers
- ETFs have no tracking error
Correct answer: ETFs provide instant diversification at low cost
ETFs offer diversified exposure to an entire asset class or index in a single, low-cost, liquid trade.
Question 6: A client with $2M portfolio wants 5% allocated to alternatives. Which alternative investment type typically requires a long lock-up period?
- Listed REITs
- High-yield bond ETFs
- Private equity funds (Correct answer)
- Gold ETFs
Correct answer: Private equity funds
Private equity funds typically lock investor capital for 7–10 years while they deploy capital, manage investments, and exit positions.
Question 7: Which factor should an advisor consider when selecting between a passive index fund and an active manager for large-cap US equities?
- Active managers always outperform in large-cap markets
- The relative cost difference versus the probability of alpha generation (Correct answer)
- Index funds carry more risk than active strategies
- Active management is only suitable for fixed income
Correct answer: The relative cost difference versus the probability of alpha generation
In the highly efficient large-cap US equity market, active managers rarely outperform their benchmark after fees, making cost comparison critical.
AAMS Asset Allocation & Selection 4
Which fixed income duration strategy best protects a bond portfolio against rising interest rates?