IS SEYFRIED MOST LIKELY CORRECT ABOUT THE LIMITATIONS OF THE FUNDAM...

6. Is Seyfried most likely correct about the limitations of the fundamental law?

A. Yes.

B. No, incorrect about high correlation in fixed-income returns due to credit risk and

duration risk.

C. No, incorrect about breadth being not equal to the number of individual assets.

The following information relates to questions 7 – 9.

Karlene Burnell is the new chief investment officer at Prost & Ingsol Foundation which finances

secondary school education. The foundation has €1 billion in assets managed by outside

portfolio managers. Burnell is responsible for selecting and evaluating portfolio managers.

Burnell is meeting with Ray Peterson, a newly hired member of her team, to gauge his

knowledge regarding manager selection and evaluation. She starts by asking, "How is value

added to a portfolio?" Peterson responds by making the following statements:

I. “Value is added when the portfolio return is greater than the benchmark return.

II. Positive value is added when securities with returns greater than the benchmark are

overweighted and those with lower than benchmark returns are underweighted.

III. Value added can be from asset allocation and security selection.”

Burnell then asks Peterson to review the information for Brye Investment Consultants and

include the information ratio.

Exhibit 1: Brye Investment Consultants Selected Data

Fund average annual

return (%) 15.58 Benchmark standard

deviation (%) 8.03

Fund standard

deviation (%) 8.9 Sharpe ratio 1.41

Benchmark average

annual return (%) 15.25 Active risk 1.38

Burnell comments, “The information ratio helps assess the active performance of a manger for

incurring the level of active risk and is useful in selecting managers.” She asks Peterson about

his understanding of the information ratio. Peterson remarks:

I. For any given asset class, the manger with the highest expected skill as measured by

the information ratio should be chosen.

II. The information ratio of a portfolio without constraints is unaffected if the active

weights deviate from the benchmark weights.

III. The information ratio of a combined portfolio will be unaffected if cash is added or

leverage is used.