Asset Allocation & Risk Management Flashcards

An investor holds two assets with correlation of -1.0. What is theoretically possible?

Answer: A portfolio with zero standard deviation

With perfect negative correlation, weights can be chosen so portfolio risk is eliminated entirely.

Which allocation approach periodically rebalances back to fixed policy weights regardless of market conditions?

Answer: Constant-mix strategy

A constant-mix strategy buys losers and sells winners to restore target weights.

CPPI (constant proportion portfolio insurance) performs best in which market environment?

Answer: Strongly trending markets

CPPI buys as prices rise and sells as they fall, so it benefits from sustained trends.

A 1-day 95% VaR of $2 million means:

Answer: There is a 5% chance of losing at least $2 million in one day

VaR gives a minimum loss threshold expected to be exceeded with the stated tail probability.

Which risk measure satisfies subadditivity and captures the average loss beyond the VaR threshold?

Answer: Conditional VaR (Expected Shortfall)

Expected Shortfall averages tail losses beyond VaR and is a coherent risk measure.

In a liability-relative (ALM) approach, the surplus is defined as:

Answer: Assets minus liabilities

Surplus is the market value of assets less the present value of liabilities.

Using the square-root-of-time rule, a 1-day VaR of $1 million scales to roughly what 25-day VaR?

Answer: $5 million

VaR scales with the square root of time: $1M × √25 = $5M.