THROUGH 18 RELATE TO MONITORING AND REBALANCING. HIGH-RI...
Questions 13 through 18 relate to Monitoring and Rebalancing.
High-Rise Investment Management (HRIM) Case Scenario
High-Rise Investment Management (HRIM) is a Canadian asset management firm with a
reputable standing in the financial community. Bill Coss is the head of the trading
division at the firm, and supervises more than twenty financial experts at his department.
Due an expansion in the firm’s business, Coss has recently hired a few portfolio
managers to support the trading activities of the firm. One of the new employees is Bruce
Block, an equity portfolio manager who worked for a small Canadian equity firm for two
years. During his job interview, Coss mentioned the various types of orders that traders
use and that portfolio managers need to understand. Block made the following comments:
Statement 1: “A variation of the market order designed to give the agent of the trader
greater discretion than a simple market order is the market-not-held order.
An order type that gives the trader’s agent even more discretion is the
‘best efforts order’.”
Statement 2: “Sometimes traders with a buying motive, post bids, hoping others would
sell to them, yielding negative implicit trading costs. However if bid-ask
spread is small, they may buy at the ask. Such trading is termed a pegging
strategy which typically utilizes iceberg orders.”
At his first day at work, Block was instructed by Coss to work with the firm’s most senior
traders, Mike Gentile, to purchase 1,650 shares of Altec Corporation. The trade was
executed in a single day and was split into three parts of different trade sizes. Exhibit 1
displays information about the dealers who make a market in Altec Corp’s stock, and
their quoted bid-ask prices. Exhibit 2 displays information about the three trades executed
by Block.
Exhibit 1
Bid-Ask Prices of Dealers
Dealer
Bid Price (C$)
Bid Size
Ask Price (C$)
Ask Size
Dealer A
45.74
750
47.88
800
Dealer B
45.76
500
47.56
450
Dealer C
45.68
200
48.90
350
Exhibit 2
Trading transactions in Altec stock
Trade
Shares Bought
Execution Price (C$)
Trade 1
750
47.70
Trade 2
500
47.56
Trade 3
400
49.10
Dealer A’s quote was in effect at the time of trade 1, Dealer B’s quote was in effect at the
time of trade 2, and Dealer C’s quote was in effect at the time of trade 3.
Coss came over to analyze the costs of the trade. After his analysis he made the following
comments:
Statement 3: “The inside bid-ask spread is lower than any individual dealer’s spread.”
Statement 4: “The average effective spread of the transactions in Altec Corp’s stock is
C$2.4.”
Gentile works with many of the firm’s portfolio managers towards selecting the
appropriate execution strategy for portfolio decisions. As a part of this process, Gentile is
assessing the execution of orders in three stocks. Exhibit 3 displays information in the
order management system, including trade sizes, market attributes, and the urgency levels
from the portfolio managers, for the three stocks.
Exhibit 3
Order Management System
Stock
Size (shares)
Avg. Daily Vol.
Price
Spread (%)
Urgency
A
15,000
45,000
65.78
0.45
Low
B
89,000
1,500,000
102.34
0.03
Low
C
47,000
1,000,000
39.02
0.02
Low
Gentile sold 500 shares of Star Energy Inc. for a pension fund at a price of $50.00 per
share. All the trades that occurred during the day in Star Energy Inc. are shown in Exhibit
4.
Exhibit 4
Shares traded in Star Energy Inc.
Trade Price ($)
Shares Traded
53.45
300
49.77
400
50.00
500
50.10
650
Coss is working with Gentile to rebalance his own portfolio in order to keep the asset
class weights within their specified corridors. Coss has specified a corridor for each asset
class as a common multiple of the standard deviation of the asset class’s returns.
Gentile is determining the appropriate execution strategy for the stock of Pyramid
Enterprise, a thinly traded stock with irregular volume patterns. He has decided to use a
simple logical participation strategy but is not sure which one to use.
13. Block is least accurate with respect to:
A.
Statement 1 only.
B.
Statement 2 only.
C.
neither Statement 1 nor Statement 2.
14. Coss is most accurate with respect to:
A.
Statement 3 only.
B.
Statement 4 only.
C.
both statements 3 and 4.
15. Which of the following is most accurate about the orders in the Order
Management System?
A.
The order in Stock A is most suited for a VWAP algorithm and the order
in Stock B should be traded using an implementation shortfall algorithm.
B.
The orders in Stock B and C are most suited for a logical participation
strategy, whereas the order in Stock A should be traded on a crossing
system.
C.
The order in Stock B should be traded on a crossing system, whereas the
order in Stock C is most suitable for trading through a broker.
16. The implicit transaction cost of the trade in Star Energy Inc., using the VWAP as
the price benchmark, is closest to:
A.
$212.39
B.
$230.95
C.
$272.43
17. Which of the following is most accurate about the rebalancing strategy that Coss
is using for his own portfolio?
A.
Each asset class will have a different probability of triggering rebalancing
if the normal distribution describes the asset class returns.
B.
The rebalancing strategy does not account for differences in transaction
costs or asset correlations.
C.
Such a strategy requires less frequent rebalancing when the market is
trending and more frequent rebalancing when the market is characterized
by reversals.
18. Which of the following simple logical participation strategy will be most
appropriate for trading in Pyramid Enterprise’s stock?
A.
TWAP.
B.
VWAP.
C.
Percentage of volume strategy.