IMC Portfolio Management Principles 3

Question 1

What is 'drawdown' as a risk measure?

Accepted Answer

The peak-to-trough decline in portfolio value over a specified period, measuring the magnitude of losses

Answer

Maximum drawdown measures the largest peak-to-trough decline in a portfolio's value before a new peak is reached. It provides investors with an understanding of the worst loss they could have experienced over a period, and is used to assess downside risk.

Question 2

What is 'scenario analysis' in portfolio risk management?

Accepted Answer

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

Answer

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.

Question 3

What is 'stress testing' in investment risk management?

Accepted Answer

Applying extreme adverse market conditions to a portfolio to assess potential losses under severe but plausible scenarios

Answer

Stress testing evaluates a portfolio under extreme market conditions (severe equity crashes, liquidity crises, extreme rate movements) to identify vulnerabilities. It is required by regulators and is an important risk management tool alongside standard statistical measures.

Question 4

What is 'Value at Risk' (VaR)?

Accepted Answer

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

Answer

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.

Question 5

What is 'performance attribution' in fund management?

Accepted Answer

Analysing the sources of a portfolio's outperformance or underperformance relative to its benchmark, broken down by asset allocation and stock selection

Answer

Performance attribution decomposes a portfolio's active return (alpha) into contributions from asset allocation decisions (overweighting/underweighting sectors or geographies) and stock selection (choosing outperforming/underperforming securities within sectors).

IMC Practice Test

IMC Practice Test

IMC Portfolio Management Principles 3