2.
not change
increase
Page 58 Level III
QUESTION 10 HAS THREE PARTS (A, B, C) FOR A TOTAL OF 16 MINUTES.
Claudia Corbett, 50 years old, recently reallocated her portfolio. The portfolio was previously
allocated 90% to equity mutual funds and 10% to bond mutual funds. After reading that her
percentage allocation to fixed income should equal her age, she changed to a 50% equity and
50% fixed-income allocation.
Corbett’s portfolio has always been invested entirely in Van Gogh mutual funds, a well-known
family of funds with below-average fees covering a large number of market segments. She
briefly considered switching to other investment companies, but decided to continue to use Van
Gogh’s mutual funds because they met her basic requirements of convenience, good reputation,
and fund variety.
A. Explain why each of the following is consistent with bounded rationality:
i. Corbett’s new asset allocation
ii. Corbett’s choice of mutual fund company
6 minutes (Answer 10-A on page 59)
Corbett hires Jeremy Jung, a fee-only financial advisor, to review her investment portfolio. Jung
administers a risk tolerance questionnaire to Corbett and discusses her financial goals and
constraints. Based on the interview, he concludes that one behavioral bias exhibited by Corbett
is availability.
Jung uses a proprietary model to generate a proposed diversified portfolio of mutual funds that
has the highest expected Sharpe ratio. His analysis suggests that Corbett switch from Van Gogh
Funds to mutual funds sponsored by Infinity Funds, a highly regarded but less well-known
investment company than Van Gogh.
B. Determine, assuming Jung’s bias conclusion is correct, whether Corbett would most
likely remain with Van Gogh or switch to Infinity. Justify your response with two
reasons.
5 minutes (Answer 10-B on page 60)
After further assessment, Jung concludes that Corbett’s dominant behavioral biases are loss
aversion bias and overconfidence bias. In addition, he determines she has a low probability of
outliving her assets due to her significant wealth and modest lifestyle.
C. Recommend, assuming Jung’s bias conclusion is correct, whether he should moderate or
adapt to Corbett’s behavioral biases. Justify your recommendation with two reasons.
5 minutes (Answer 10-C on page 61)
Answer Question 10-A on This Page
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