Core Competencies Covered Flashcards

Which of the following is an essential principle of portfolio construction?

Answer: Balancing risk and return according to the investor's goals and risk tolerance

An essential principle of portfolio construction is to align the investment strategy with the client's specific financial goals and their willingness and ability to take on risk. This involves carefully balancing the potential for higher returns with the associated level of risk. A well-constructed portfolio optimizes this balance to meet individual client needs rather than focusing on extreme concentrations or solely historical data.

Which asset allocation approach adjusts the mix of assets based on the investor's age, gradually becoming more conservative over time?

Answer: Age-Based or Life-Cycle Asset Allocation

Age-Based or Life-Cycle Asset Allocation is a strategy that systematically adjusts a portfolio's asset mix over time, typically becoming more conservative as the investor approaches retirement. This approach recognizes that younger investors generally have a longer time horizon to recover from market downturns and can tolerate more risk, while older investors prioritize capital preservation. It provides a structured way to manage risk exposure throughout an investor's life stages.

Which of the following investment strategies focuses on stocks believed to be undervalued relative to their intrinsic value?

Answer: Value Investing

Value investing is an investment strategy focused on identifying and purchasing stocks that are trading below their intrinsic value. Value investors believe that the market may sometimes undervalue certain companies, and by buying these stocks, they can profit when the market eventually recognizes their true worth. This approach often involves thorough fundamental analysis to assess a company's financial health and future prospects.

Which of the following risk management strategies is primarily focused on reducing unsystematic risk in a portfolio?

Answer: Diversification across different asset classes

Diversification is a key risk management strategy that involves spreading investments across various asset classes, industries, and geographies. Its primary goal is to reduce unsystematic risk, which is the risk specific to a particular company or industry. By diversifying, the negative performance of one investment can be offset by the positive performance of others, leading to a more stable portfolio.

Which metric is commonly used to assess a portfolio’s risk-adjusted return?

Answer: Sharpe Ratio

The Sharpe Ratio is a widely used metric to assess a portfolio's risk-adjusted return. It measures the excess return (return above the risk-free rate) per unit of total risk (standard deviation). A higher Sharpe Ratio indicates that the portfolio is generating more return for the amount of risk taken, making it a valuable tool for comparing the performance of different investment strategies.