Risk Assessment & Asset Allocation Flashcards
7 cards from real CFM practice questions. Tap to flip, then mark Knew It or Still Learning — missed cards come back until you master them.
Read the first 7 Risk Assessment & Asset Allocation flashcards as text
The Black-Litterman model improves upon traditional mean-variance optimization primarily by:
Answer: Combining market equilibrium returns with investor views
Black-Litterman blends implied equilibrium returns (from market cap weights) with manager-specific views, producing more stable and intuitive portfolio allocations.
A fund manager uses a strategic asset allocation of 60% equity / 40% bonds. After a strong equity rally, the portfolio drifts to 70/30. Rebalancing back to 60/40 is an example of:
Answer: Disciplined risk management that sells winners and buys underperformers
Rebalancing restores target risk exposure by trimming outperforming assets and adding to underperforming ones, maintaining the intended risk profile.
Which of the following best describes liquidity risk in asset allocation?
Answer: The risk of being unable to sell an asset quickly at fair value
Liquidity risk is the potential inability to exit a position without significantly impacting the asset's price or incurring excessive transaction costs.
An investor's risk tolerance is best described as:
Answer: The level of portfolio volatility they can financially and emotionally sustain
Risk tolerance encompasses both the financial capacity to absorb losses and the psychological willingness to endure portfolio volatility without making panic decisions.
Downside deviation differs from standard deviation in that it:
Answer: Penalizes only returns that fall below a minimum acceptable return
Downside deviation focuses only on negative deviations below a threshold (minimum acceptable return), making it more aligned with investor loss aversion.
In a liability-driven investing (LDI) framework, the primary risk being managed is:
Answer: The mismatch between asset cash flows and liability obligations
LDI focuses on matching or hedging the interest rate and duration sensitivity of assets to pension or insurance liabilities, minimizing surplus volatility.
The Sortino ratio improves on the Sharpe ratio by:
Answer: Replacing total volatility with downside deviation in the denominator
The Sortino ratio uses downside deviation rather than total standard deviation, rewarding funds that have upside volatility without penalizing them for positive return variability.