Mixed Deck — All IMC Topics Flashcards

In portfolio construction, what is the purpose of correlation analysis between asset classes?

Answer: To understand how assets move relative to each other and optimise diversification benefits

Correlation measures the degree to which two asset classes move together. Assets with low or negative correlation provide the greatest diversification benefits when combined. A correlation of +1 means assets move perfectly together; -1 means they move in opposite directions; 0 means no linear relationship.

What is 'portfolio turnover' and what are its implications?

Answer: The rate at which holdings in a portfolio are bought and sold, affecting transaction costs and potentially tax efficiency

Portfolio turnover measures how frequently a fund's holdings are replaced. High turnover generates greater transaction costs (bid-offer spreads, commissions) and potential tax inefficiencies, which reduce net returns. Low-turnover, buy-and-hold strategies typically incur lower costs.

What is 'infrastructure' as an alternative asset class?

Answer: Long-term investments in physical assets such as roads, bridges, airports, and utilities

Infrastructure as an asset class involves investing in physical systems and facilities such as transport networks, utilities, energy, and social infrastructure. It typically offers stable, long-term, inflation-linked returns and low correlation with equities.

What is the purpose of the FCA's 'Remuneration Code' for investment firms?

Answer: To require remuneration structures that do not incentivise excessive risk-taking and align staff interests with long-term firm and client interests

The Remuneration Code requires investment firms to ensure their remuneration policies do not encourage excessive risk-taking, are consistent with sound risk management, include appropriate deferrals and malus/clawback provisions for variable pay, and align the interests of staff with the long-term interests of the firm and its clients.

What is 'scenario analysis' in portfolio risk management?

Answer: Evaluating how a portfolio would perform under specific hypothetical or historical market conditions or events

Scenario analysis assesses portfolio performance under specific hypothetical scenarios (e.g., a 2008-style financial crisis, a sharp rise in rates, a Brexit-type event). It helps identify vulnerabilities not captured by standard statistical risk measures.

What is the 'time-weighted rate of return' (TWR) and why is it preferred for fund manager evaluation?

Answer: A return calculation method that eliminates the distorting effect of external cash flows, making it suitable for comparing manager performance

TWR eliminates the effect of the timing and size of external cash flows (client deposits and withdrawals), which are outside the manager's control. This makes it suitable for comparing managers fairly, as required by the GIPS performance standards.

What is 'conflicts of interest' management required under MiFID II?

Answer: Firms must identify, manage, and disclose conflicts of interest between the firm/staff and clients to prevent client detriment

MiFID II requires firms to identify potential conflicts of interest that may harm clients, take steps to manage and mitigate them (e.g., through organisational arrangements, policies), and where conflicts cannot be managed, disclose them to clients so they can make informed decisions.

What is 'ESG' and why is it increasingly important in investment management?

Answer: Environmental, Social, and Governance — non-financial factors used to evaluate the sustainability and ethical impact of investments, increasingly material to financial performance

ESG (Environmental, Social, Governance) factors assess a company's sustainability practices, social impact, and governance quality. They are increasingly integrated into investment analysis as evidence grows that ESG risks (climate change, poor governance) can be financially material.

What is 'money laundering' and what are the three stages?

Answer: The process of disguising the proceeds of crime to make them appear legitimate; stages are placement, layering, and integration

Money laundering converts criminal proceeds into apparently legitimate funds through: (1) placement — introducing cash into the financial system; (2) layering — conducting complex transactions to obscure the trail; (3) integration — reintroducing the funds as legitimate assets.

In the context of UK fund structures, what distinguishes an Investment Trust from an OEIC?

Answer: Investment Trusts are closed-ended companies listed on a stock exchange; OEICs are open-ended

An Investment Trust is a closed-ended company listed on a stock exchange with a fixed number of shares. Its share price can trade at a premium or discount to NAV. An OEIC (Open-Ended Investment Company) creates and redeems shares on demand at NAV, so its size fluctuates with investor flows.

What is 'inside information' in the context of UK market abuse law?

Answer: Precise, non-public information that would likely have a significant effect on an instrument's price if made public

Inside information under UK MAR must be: (1) precise — capable of indicating a likely price direction; (2) not generally available — not public; (3) relating to an issuer or financial instrument; (4) price sensitive — likely to significantly affect prices if disclosed. Trading on such information is insider dealing.

What does 'yield to maturity' (YTM) represent for a bond?

Answer: The total return anticipated on a bond if held until maturity, assuming all coupons are reinvested at the same rate

YTM is the internal rate of return of a bond — the discount rate that equates the present value of all future coupon payments and principal repayment to the bond's current market price. It reflects the total expected return if the bond is held to maturity and coupons are reinvested at the YTM.

Which FCA Principle for Businesses requires a firm to 'pay due regard to the interests of its customers and treat them fairly'?

Answer: Principle 6 — Customers' Interests

Principle 6 states that a firm must pay due regard to the interests of its customers and treat them fairly. This principle underpins the TCF initiative and applies to all FCA-authorised firms. Principle 1 covers integrity, Principle 3 covers management systems, and Principle 11 covers regulatory cooperation.

Under the FCA's rules, what is the 'cooling-off period' for a retail client purchasing a life insurance policy?

Answer: 30 days

For life insurance and pension products, the FCA mandates a 30-day cooling-off period during which the retail client can cancel the contract and receive a refund. For most other financial products, the standard cancellation period is 14 days. This gives consumers time to reconsider their purchase.

Which index is the primary benchmark for large-cap UK equities?

Answer: FTSE 100

The FTSE 100 index comprises the 100 largest companies listed on the LSE by market capitalisation and is the primary benchmark for large-cap UK equities, widely used as a barometer of the UK market.

What is 'earnings per share' (EPS) and why is it important?

Answer: Net profit attributable to ordinary shareholders divided by the weighted average number of shares, used as a basis for valuing shares

EPS = Net Profit / Weighted Average Shares Outstanding. It measures the portion of a company's profit allocated to each share and is the foundation for P/E ratios. Growing EPS indicates improving profitability per share, a key driver of share price appreciation.

What is 'settlement risk' in securities markets?

Answer: The risk that one party delivers securities or cash while the other fails to deliver their side

Settlement risk, also known as delivery risk, arises when one party fulfils their obligation in a transaction (delivering securities or cash) but the counterparty fails to fulfil theirs, potentially causing loss.

What is 'Value at Risk' (VaR)?

Answer: A statistical measure of the maximum expected loss over a given time period at a given confidence level under normal market conditions

VaR is a statistical risk measure. A 95% one-day VaR of £1 million means there is a 5% probability of losing more than £1 million in a single day under normal market conditions. It provides a single-number summary of market risk.

What is the purpose of the FCA's 'Treating Customers Fairly' (TCF) initiative?

Answer: To ensure firms consistently deliver fair outcomes for consumers throughout the product lifecycle

TCF requires firms to embed fair treatment of customers at every stage — from product design and marketing through to advice, point of sale, and after-sale service. The FCA has identified six consumer outcomes that firms must deliver to demonstrate TCF compliance.

An investor with a 'balanced' risk profile would most likely hold which of the following asset allocations?

Answer: A mix of equities, bonds, property and some cash

A balanced investor typically accepts moderate risk for moderate return potential. The appropriate allocation includes a diversified mix across asset classes — equities for growth, bonds for income and stability, property for diversification, and cash for liquidity. The exact proportions depend on individual circumstances.