Stock Trading Stock Trading Portfolio Strategy & Asset Allocation 2 — Questions and Answers
Question 1: What is 'dollar-cost averaging' (DCA) as an investment strategy?
- Investing a fixed dollar amount at regular intervals regardless of price (Correct answer)
- Buying only when prices hit a predefined low
- Allocating more capital to higher-priced stocks
- Setting a maximum dollar loss limit per trade
Correct answer: Investing a fixed dollar amount at regular intervals regardless of price
Dollar-cost averaging involves investing a fixed amount at regular intervals, buying more shares when prices are low and fewer when prices are high, reducing average cost over time.
Question 2: What does 'Sharpe ratio' measure in portfolio analysis?
- Total portfolio return over a benchmark
- Risk-adjusted return, calculated as excess return divided by standard deviation (Correct answer)
- The ratio of dividend income to capital gains
- Portfolio turnover relative to index turnover
Correct answer: Risk-adjusted return, calculated as excess return divided by standard deviation
The Sharpe ratio measures how much excess return is earned per unit of risk (standard deviation), with higher ratios indicating better risk-adjusted performance.
Question 3: What is 'sector rotation' as a portfolio strategy?
- Randomly switching between stocks monthly
- Moving capital between economic sectors based on business cycle stages (Correct answer)
- Rebalancing equally across all 11 GICS sectors
- Replacing all holdings annually
Correct answer: Moving capital between economic sectors based on business cycle stages
Sector rotation involves shifting portfolio allocations among sectors—like moving from defensive sectors during downturns to cyclical sectors during recoveries—based on economic cycle expectations.
Question 4: What is 'correlation' and why is it important in portfolio construction?
- It measures how two assets move relative to each other, helping reduce overall portfolio risk (Correct answer)
- It calculates the exact return of two combined positions
- It tracks the historical dividend yield of paired stocks
- It describes the relationship between a stock's P/E and its growth rate
Correct answer: It measures how two assets move relative to each other, helping reduce overall portfolio risk
Correlation measures the degree to which two assets move together; combining assets with low or negative correlation reduces portfolio volatility through diversification.
Question 5: What is a 'core-satellite' portfolio strategy?
- Holding 50% cash as a buffer for satellite positions
- Combining a stable core of index funds with smaller satellite positions in active or specialized investments (Correct answer)
- Rotating between growth and value styles quarterly
- Concentrating 80% of capital in one core stock
Correct answer: Combining a stable core of index funds with smaller satellite positions in active or specialized investments
The core-satellite approach uses low-cost, diversified index funds as the portfolio core (70-80%) while adding smaller satellite positions in higher-conviction or specialized strategies.
Question 6: What is 'position sizing' in portfolio management?
- Determining how many shares of a stock are listed on an exchange
- Deciding how much capital to allocate to each individual investment (Correct answer)
- Calculating the size of a stop-loss order
- Measuring the percentage gap between bid and ask prices
Correct answer: Deciding how much capital to allocate to each individual investment
Position sizing determines the percentage of portfolio capital to commit to each investment, balancing potential reward against risk exposure from a single holding.
Stock Trading Stock Trading Portfolio Strategy & Asset Allocation 2
What is 'dollar-cost averaging' (DCA) as an investment strategy?