CIC Performance Measurement and Reporting 2 — Questions and Answers
Question 1: What is the primary difference between the Money-Weighted Return (MWR) and the Time-Weighted Return (TWR)?
- MWR ignores dividends while TWR includes all income
- MWR is affected by the timing and size of client cash flows while TWR is not (Correct answer)
- TWR is used for private equity while MWR is used for public equities
- MWR annualizes returns while TWR reports them on a simple basis
Correct answer: MWR is affected by the timing and size of client cash flows while TWR is not
MWR (IRR) reflects the actual investor experience including the timing of contributions and withdrawals, while TWR isolates the manager's skill by removing cash flow timing effects.
Question 2: The Treynor Ratio measures excess return per unit of which type of risk?
- Total risk (standard deviation)
- Systematic risk (beta) (Correct answer)
- Unsystematic (idiosyncratic) risk
- Downside risk (semi-deviation)
Correct answer: Systematic risk (beta)
The Treynor Ratio divides excess portfolio return by beta, making it useful for evaluating diversified portfolios where unsystematic risk has been largely eliminated.
Question 3: In Brinson-Hood-Beebower (BHB) performance attribution, which three effects are analyzed?
- Alpha effect, beta effect, and gamma effect
- Allocation effect, selection effect, and interaction effect (Correct answer)
- Market effect, sector effect, and security effect
- Systematic effect, unsystematic effect, and timing effect
Correct answer: Allocation effect, selection effect, and interaction effect
The BHB model decomposes active return into allocation (over/underweighting sectors), selection (security picking within sectors), and interaction (combined allocation and selection decisions).
Question 4: What is 'survivorship bias' in investment performance reporting?
- The tendency for investors to hold winning positions too long
- The overstatement of historical returns caused by excluding funds that failed or were liquidated (Correct answer)
- The systematic underperformance of new funds relative to established ones
- A reporting error caused by omitting dividends from total return calculations
Correct answer: The overstatement of historical returns caused by excluding funds that failed or were liquidated
Survivorship bias inflates reported industry returns because only successful (surviving) funds are included in historical databases, excluding the poor performers that closed.
Question 5: Under GIPS standards, what is a 'composite'?
- A blended benchmark combining multiple indices
- An aggregation of all discretionary portfolios managed according to a similar investment mandate or strategy (Correct answer)
- A performance record spanning at least 10 years of verified returns
- A risk-adjusted return metric required for institutional reporting
Correct answer: An aggregation of all discretionary portfolios managed according to a similar investment mandate or strategy
A GIPS composite groups all fee-paying, discretionary portfolios managed to a similar strategy so that performance reflects the full opportunity set, preventing cherry-picking of accounts.
Question 6: The Information Ratio (IR) is calculated as:
- Portfolio return divided by portfolio standard deviation
- Active return divided by tracking error (Correct answer)
- Alpha divided by beta
- Sharpe Ratio minus the benchmark's Sharpe Ratio
Correct answer: Active return divided by tracking error
The Information Ratio equals the portfolio's active return (portfolio minus benchmark) divided by tracking error, measuring the consistency and magnitude of a manager's active bets.
Question 7: Which of the following is a requirement for GIPS compliance regarding performance history presentation?
- Firms must show a minimum of 3 years or since inception if shorter
- Firms must show a minimum of 5 years, building to 10 years over time (Correct answer)
- Firms must show the full history since the firm's founding
- Firms must show at least 2 years of audited and 3 years of unaudited returns
Correct answer: Firms must show a minimum of 5 years, building to 10 years over time
GIPS requires firms to initially present at least 5 years of compliant performance history (or since inception), then build toward a 10-year record by adding one year annually.
CIC Performance Measurement and Reporting 2
What is the primary difference between the Money-Weighted Return (MWR) and the Time-Weighted Return (TWR)?