) CORTEZ’S COMMENT WITH REGARD TO THE TWO DIFFERENT APPROACHES TO ECONOMIC ANALYSIS IS MOST LIKELY
6.) Cortez’s comment with regard to the two different approaches to economic analysis is
most likely:
A.
incorrect because of the statement regarding leading indicators.
B.
correct.
C.
incorrect because of the statement regarding econometrics.
Answer = B
Cortez’s statement is entirely correct. A disadvantage of the leading indicators–based
approach is that historically, it has not consistently worked because relationships
between inputs are not static. An advantage to the econometric approach is that it
provides quantitative estimates of the effects on the economy of changes in exogenous
variables.
“Capital Market Expectations,” by John P. Calverley, Alan M. Meder, Brian D. Singer, and
Renato Staub
Sections 4.5.4
Arcadia
Arcadia, LLP, is one of several independently operated investment management subsidiaries of
Swiss Corp, a global bank. Arcadia is headquartered in Philadelphia, Pennsylvania, and
specializes in the management of equity, fixed income and real estate portfolios. Arcadia’s CEO
recently hired Joan Westley, CFA as chief compliance officer to achieve compliance with the
Global Investment Performance Standards (GIPS). Arcadia just opened a division in Phoenix,
Arizona, incorporated as Arcadia West, LLP, to accommodate one of its portfolio managers and
his staff who manage a hedge fund. The staff in Phoenix works exclusively on the hedge fund’s
strategy, using an investment process distinct from the one used in the Philadelphia office.
Westley makes the following statement at a meeting with the CEO: “I am establishing and
implementing policies and procedures to ensure Arcadia is in compliance with the GIPS
standards. Although the hedge fund won’t be in compliance, it won’t affect our ability to be
compliant firm-wide, because it is in an autonomous unit. We will be the first Swiss Corp
subsidiary to be compliant. Keep in mind that even after implementation, we will not be able to
claim compliance until our performance measurement policies, processes, and procedures are
verified by an independent firm.”
Westley begins her review of Arcadia’s current policies. She first reviews three policies regarding
input data:
Policy 1: The accounting systems record the cost and book values of all assets. Portfolio
valuations are based on market values, provided by a third-party pricing service.
Policy 2: Transactions are reflected in the portfolio when the exchange of cash,
securities, and paperwork involved in a transaction is completed.
Policy 3: Accrual accounting is used for fixed-income securities and all other assets that
accrue interest income; dividend-paying equities accrue dividends on the ex-dividend
date.
Next, Westley reviews Arcadia’s policies for return calculation methodologies:
Policy 4: Arcadia uses the Modified Dietz method to compute portfolio time-weighted
rates of return on a monthly basis. Returns for longer measurement periods are
computed by geometrically linking the monthly returns.
Policy 5: Arcadia revalues portfolios when capital equal to 10% or more of current
market value is contributed or withdrawn. Returns are calculated after the deduction of
trading expenses.
Policy 6: Cash and cash equivalents are excluded in total return calculations. Custody
fees are not considered direct transaction costs.
Westley also looks at the investment policy statements (IPS) for the three sample portfolios that
are included in Arcadia’s large-capitalization equity composite:
Portfolio A: A portfolio managed for a local church in which all fees are waived. The IPS
prohibits holdings of companies involved in firearms, alcohol, or tobacco. These
securities represent 5% of the benchmark, but the portfolio manager believes he can
still implement his strategy with these restrictions.
Portfolio B: The equity carve-out portfolio of a balanced account. The client provides
Arcadia discretion in the tactical asset allocation decision. Asset allocation among
subportfolios is performed quarterly and each subportfolio holds tactical or frictional
cash.
Portfolio C: A large-cap equity mutual fund managed for a corporate retirement plan.
Employees can make contributions and withdrawals daily. The client requires the
portfolio manager to maintain at least 15% of assets in cash balances to meet potential
withdrawals.
Finally, Westley examines a recent presentation to a prospective client regarding Arcadia’s
small-cap composite. Details of this presentation are presented in Exhibit 1 and its notes.
Exhibit 1: Small-Capitalization Equity Composite
Benchmark: Russell 2000
Gross of
Total Assets
Net of
Internal
($ millions)
Benchmark
Number of
Fees
Dispersion
Year
Return
Return (%)
Portfolios
(%)
Composite
Firm
2009
4.2
3.2
3.7
4
3.3
100
1,000
2010
3.7
2.7
7.0
9
4.6
225
1,250
2011
–1.0
–2.0
–4.5
7
1.7
350
900
2012
9.3
8.3
12.0
12
2.8
425
1,050
1Q13
5.2
4.9
–7.0
14
3.6
620
1,125
Notes: