THROUGH 36 RELATE TO FIXED INCOME PORTFOLIO MANAGEMENT. M...
Questions 31 through 36 relate to Fixed Income Portfolio Management. Mike Spong Case Scenario Jennifer Simko’s fixed income portfolio has underperformed its benchmark, the Barclays Capital Aggregate Bond Index. Simko has asked her investment advisor, Mike Spong, to recommend a new fixed income manager. Spong has selected three fixed income portfolio managers for Simko to consider: - Mondavi Investment Partners - Smithers Associates - Vertex Group Selected characteristics for each manager’s portfolio are provided in Exhibit 1. Exhibit 1 Selected Portfolio Characteristics for the Benchmark Portfolio and Three Potential Fixed Income Managers, December 2009.
Percent of Market Value
Contribution to Spread Duration
Mondav
Smither
Benchmar
Verte
Sector
Benchmar
i
s
x
k
i
Treasury
25
25
20
15
0.0
0.0
0.0
0.0
Agency
11
11
11
0
0.4
0.4
0.4
0.0
Credit
25
25
30
24
1.4
1.4
1.6
1.1
Mortgag
34
34
35
43
1.5
1.5
1.6
1.7
e
2
2
0
2
0.0
0.0
0.0
0.2
Asset-
backed
CMBS
3
3
4
8
0.1
0.1
0.1
0.5
Cash
0
0
0
8
0.0
0.0
0.0
0.0
Total
100
100
100
100
3.4
3.4
3.7
3.5
Note that in Exhibit 1, the portfolio duration for the benchmark, Mondavi Investment Partners and Smithers Associates portfolios is 4.7. Portfolio duration for Vertex Group is 4.3. Spong makes the following statements to Simko regarding Exhibit 1: 1. “Mondavi follows a full-replication approach where portfolio performance will match the fixed income benchmark’s performance. Mondavi’s portfolio sector weights, duration, convexity, and term structure match those of the benchmark. Smithers’s portfolio characteristics do not match the benchmark’s because Smithers has minor risk factor mismatches with the benchmark.” By accessing this mock exam, you agree to the following terms of use: This mock exam is provided to currently-registered CFA candidates. Candidates may view and print the exam for personal exam preparation only. The following activities are strictly prohibited and may result in disciplinary and/or legal action: accessing or permitting access by anyone other than currently-registered CFA candidates; copying, posting to any website, emailing, distributing and/or reprinting the mock exam for any purpose. 2. “Vertex’s strategy is to construct a portfolio that has significant mismatches with the benchmark with respect to duration, key rate duration, and sector allocations. Vertex also relies on proprietary interest rate forecast models to generate superior portfolio returns. Vertex’s objectives are to ensure that tracking risk is minimized and portfolio return exceeds benchmark return.” 3. “Vertex evaluates potentials trades using total return analysis. Total return analysis assesses the expected effect of a trade on total portfolio return based on an interest rate forecast. For example, Vertex recently evaluated the expected total return for a single bond, with a beginning price of $103, a 5 percent semiannual coupon, an expected price at the end of one year of $102.5, and an annual reinvestment rate of 2 percent.” 4. “Vertex also positions the portfolio to reflect the firm’s opinions on the direction of interest rates and credit spreads. Over the next six months Vertex is forecasting: low and stable implied interest rate volatility, spreads to narrow in all other spread sectors, a positively sloped yield curve with short rates rising 25 basis points and long rates rising by about 75 basis points.” 31. Based on Exhibit 1 and Statement 1, Smithers’s investment strategy is best described as: A. pure bond indexing B. enhanced indexing. C. active management. 32. Based on Exhibit 1 and Statement 1, one disadvantage of the investment strategy followed by Mondavi is that the portfolio will most likely: A. be expensive to construct. B. result in a poorly diversified portfolio. C. have higher advisory and non-advisory fees. 33. In Statement 2, are Vertex’s objectives with regard to tracking risk and portfolio return consistent with its strategy? A. Yes. B. No, the objective regarding tracking risk is inconsistent with its strategy. C. No, the objective regarding portfolio return is inconsistent with its strategy. 34. For the example given in Spong’s third statement, the one-year expected total return is closest to: A. 4.35%. B. 4.50%. C. 4.84%. 35. Given Vertex’s interest rate volatility and yield curve forecasts in Statement 4, compared to bullet structures, callable structures and putable structures, respectively, will most likely: Callable Putable Structures A. underperform outperform B. outperform underperform C. outperform outperform 36. Given Vertex’s forecasts in Statement 4, the most appropriate strategy for Vertex is to: A. lengthen duration in all spread sectors. B. lengthen duration in the credit sector and shorten it in the Treasury sector. C. shorten duration in the credit sector and lengthen it in the Treasury sector.