IFC Analyzing Mutual Fund Performance 2 — Questions and Answers
Question 1: A mutual fund's standard deviation increased from 8% to 14% over the past year. What does this indicate?
- The fund's returns became more consistent
- The fund's returns became more volatile (Correct answer)
- The fund outperformed its benchmark
- The fund's management expense ratio increased
Correct answer: The fund's returns became more volatile
Standard deviation measures return volatility, so an increase means returns varied more widely around the mean.
Question 2: Which metric best measures how much excess return a fund generates per unit of total risk taken?
- Treynor ratio
- Jensen's alpha
- Sharpe ratio (Correct answer)
- Information ratio
Correct answer: Sharpe ratio
The Sharpe ratio divides excess return over the risk-free rate by the fund's standard deviation (total risk).
Question 3: A fund has a beta of 0.75. If the market rises 10%, the fund is expected to rise approximately:
- 10%
- 13.3%
- 7.5% (Correct answer)
- 0.75%
Correct answer: 7.5%
Beta of 0.75 means the fund moves 75% as much as the market, so 0.75 × 10% = 7.5%.
Question 4: The information ratio compares a fund manager's excess return against which benchmark?
- The risk-free rate
- The fund's peer group average
- The fund's designated benchmark index (Correct answer)
- The fund's previous year return
Correct answer: The fund's designated benchmark index
The information ratio measures active return (fund return minus benchmark return) relative to tracking error against the benchmark.
Question 5: A fund's R-squared value is 0.35 relative to the S&P/TSX Composite. What does this mean?
- 35% of the fund's movement is explained by the benchmark (Correct answer)
- The fund outperforms the benchmark 35% of the time
- 65% of the fund's movement is explained by the benchmark
- The fund has a correlation of 0.35 with the benchmark
Correct answer: 35% of the fund's movement is explained by the benchmark
R-squared indicates what percentage of a fund's variability is explained by movements in the benchmark index.
Question 6: When comparing two funds with identical returns, which factor would make Fund A preferable to Fund B under modern portfolio theory?
- Fund A has higher portfolio turnover
- Fund A has a higher MER
- Fund A has lower standard deviation (Correct answer)
- Fund A has more holdings
Correct answer: Fund A has lower standard deviation
With equal returns, the fund with lower risk (standard deviation) offers better risk-adjusted performance.
Question 7: A growth fund returned 18% last year while its benchmark returned 14%. If the fund's tracking error was 6%, what is its information ratio?
- 0.50
- 0.67 (Correct answer)
- 3.00
- 1.29
Correct answer: 0.67
Information ratio = (Fund return − Benchmark return) / Tracking error = (18% − 14%) / 6% = 0.67.
IFC Analyzing Mutual Fund Performance 2
A mutual fund's standard deviation increased from 8% to 14% over the past year.
What does this indicate?