AIP Portfolio Management & Asset Allocation 3

Question 1

A pension fund must match future liabilities with asset cash flows. This approach is best described as:

Accepted Answer

Liability-driven investing (LDI)

Answer

Liability-driven investing structures the portfolio to hedge against changes in liability values, ensuring assets track or exceed future obligations.

Question 2

Which of the following best explains why adding an asset with low correlation to a portfolio can reduce overall portfolio risk?

Accepted Answer

Diversification benefits arise when asset returns do not move in lockstep

Answer

Modern portfolio theory shows that combining assets with low or negative correlations reduces portfolio variance even if individual asset risks remain unchanged.

Question 3

An investor's policy statement specifies a maximum portfolio drawdown of 15%. Which portfolio construction tool directly addresses this constraint?

Accepted Answer

Value at Risk (VaR) and drawdown-constrained optimization

Answer

Drawdown-constrained optimization and VaR-based frameworks explicitly limit worst-case losses, directly implementing the investor's stated risk tolerance.

Question 4

Which factor in the Fama-French three-factor model explains the tendency of small-cap stocks to outperform large-cap stocks over time?

Accepted Answer

SMB (Small Minus Big)

Answer

The SMB factor captures the size premium, reflecting the historical tendency of small-capitalization stocks to generate higher returns than large-cap stocks.

Question 5

A portfolio has an expected return of 10% and a standard deviation of 12%. The risk-free rate is 2%. What is its Sharpe ratio?

Accepted Answer

0.67

Answer

Sharpe ratio = (10% - 2%) / 12% = 8% / 12% = 0.67, representing the excess return earned per unit of total risk.

(AIP) Accredited Investment Professional Certification Practice Test

(AIP) Accredited Investment Professional Certification Practice Test

AIP Portfolio Management & Asset Allocation 3