Portfolio Management & Asset Allocation Flashcards

A pension fund must pay $50 million in liabilities in 10 years. Which strategy BEST ensures assets will meet this obligation regardless of interest rate movements?

Answer: Cash-flow matching (dedication)

Cash-flow matching (dedication) purchases bonds whose coupon and principal payments exactly match the liability schedule, eliminating interest rate risk for known obligations.

What is the primary purpose of a policy asset allocation (strategic asset allocation) in an IPS?

Answer: To establish long-term target weights reflecting the client's risk/return objectives

Strategic (policy) asset allocation sets long-term target weights for asset classes based on the client's goals, risk tolerance, and time horizon.

Which measure adjusts portfolio return for market risk (beta) rather than total risk, making it useful for comparing non-diversified portfolios or individual securities?

Answer: Treynor ratio

The Treynor ratio divides excess return by beta (systematic risk), making it appropriate for evaluating components within a larger diversified portfolio.

An investor increases gold and TIPS allocations prior to expected inflation spikes. This is an example of:

Answer: Tactical asset allocation using inflation hedges

Overweighting inflation-sensitive assets in anticipation of rising inflation is a tactical deviation from the strategic benchmark to hedge a specific macro risk.

The Sortino ratio improves on the Sharpe ratio for asymmetric return distributions by:

Answer: Using only downside deviation (below a minimum acceptable return) in the denominator

The Sortino ratio penalizes only downside volatility (below the MAR), making it more appropriate when the return distribution is skewed.

Which of the following BEST explains why adding a low-correlation asset to a portfolio can reduce total portfolio risk even if the asset itself has higher standalone volatility?

Answer: The covariance effect can outweigh the asset's own variance contribution

When correlation is sufficiently low, the negative covariance contribution can reduce overall portfolio variance even if the new asset has high individual volatility.

A client with a 2-year investment horizon is MOST appropriately suited to which asset allocation?

Answer: A predominantly fixed-income, capital-preservation portfolio

A short 2-year horizon limits the time available to recover from equity losses, making capital preservation through fixed income most appropriate.