CIMA Portfolio Theory and Construction 3

Question 1

The Capital Market Line (CML) differs from the Security Market Line (SML) in that the CML:

Accepted Answer

Plots expected return against total risk for efficient portfolios

Answer

The CML plots expected return versus total standard deviation for efficient (fully diversified) portfolios, while the SML uses beta for all assets.

Question 2

A portfolio's tracking error is best defined as:

Accepted Answer

The standard deviation of the portfolio's returns minus the benchmark returns

Answer

Tracking error is the standard deviation of active returns (portfolio return minus benchmark return) over a period.

Question 3

Under the Black-Litterman model, when an investor expresses no views, the optimal portfolio weights converge to:

Accepted Answer

Market-capitalization weights implied by equilibrium

Answer

With no investor views, the Black-Litterman model reverts to equilibrium (market-cap weighted) expected returns implied by reverse optimization.

Question 4

Which rebalancing strategy involves buying assets that have declined and selling those that have risen to restore target weights?

Accepted Answer

Percentage-of-portfolio rebalancing

Answer

Percentage-of-portfolio (or threshold) rebalancing triggers trades whenever an asset drifts beyond a set band from its target weight, inherently acting contra-trend.

Question 5

An investor's utility function is U = E(r) − 0.5 × A × σ². If A = 4 and two portfolios have the same expected return, the investor will prefer the one with:

Accepted Answer

Lower standard deviation

Answer

A positive risk-aversion coefficient A means higher variance reduces utility, so the investor prefers the lower-variance portfolio.

(CIMA) Certified Investment Management Analyst Practice Test

(CIMA) Certified Investment Management Analyst Practice Test

CIMA Portfolio Theory and Construction 3