) BASED ON THE INFORMATION PROVIDED REGARDING THE TAX-ADVANTAGED SAVINGS PLAN, THE HARVEST SUPERVISOR IS LEAST LIKELY TO HAVE VIOLATED THE STANDARD RELATING TO
6.) Based on the information provided regarding the tax-advantaged savings plan, the
Harvest supervisor is least likely to have violated the Standard relating to:
A.
Responsibilities of Supervisors
B.
Independence and Objectivity
C.
Suitability
Answer = B
Standard I(B)—Independence and Objectivity requires members to use reasonable care
to achieve independence and objectivity. According to the standard, members must not
offer or accept any gifts or benefits that reasonably could be expected to compromise
their independence. On the basis of information provided, the commission structure is
unlikely to influence the sale of this product. Nevertheless, the supervisor failed to
exercise thoroughness in analyzing the various tax-advantaged plans and lacked a
reasonable basis for suggesting one plan over the many others. As a supervisor, he
failed to establish adequate compliance procedures for determining the suitability of
tax-advantaged programs, instead using standard compliance procedures designed for
non-tax-advantaged products.
“Guidance for Standards I–VII,” CFA Institute
Standard I(B)
CME
The United States–based CME Foundation serves a wide variety of human interest causes in
rural areas of the country. The fund’s investment policy statement sets forth allocation ranges
for major asset classes, including U.S. large, mid-, and small-cap stocks, international equities,
and domestic and international bonds.
When revising its outlook for the capital markets, CME typically applies data from GloboStats
Research on the global investable market (GIM) and major asset classes to produce long-term
estimates for risk premiums, expected return, and risk measurements. Although they have
worked with GloboStats for many years, CME is evaluating the services of RiteVal, a competing
research firm, via a trial offer. Unlike the equilibrium modeling approach applied to GloboStats’s
data, RiteVal prefers to use a multifactor modeling approach. Both research firms also provide
short- and long-term economic analysis.
CME has asked Pauline Cortez, chief investment officer, to analyze the benefit of adding U.S.
real estate equities as a permanent asset class. To determine the appropriate risk premium and
expected return for this new asset class, Cortez needs to determine the appropriate risk factor
to apply to the international capital asset pricing model (ICAPM). Selected data from GloboStats
is shown in Exhibit 1.
Exhibit 1
Selected Data from GloboStats
Covariance
Integration
Asset Class
Standard
Deviation
with GIM
Sharpe Ratio
with GIM
U.S. real estate
14.0%
0.0075
0.60
n/a
Global investable market
0.36
Additional Information
Risk-free rate: 3.1%
Expected return for the GIM: 7.2%
Cortez’s colleague Jason Grey notes that U.S. real estate is a partially segmented market. For
this reason, Grey recommends using the Singer–Terhaar approach to the ICAPM and assumes a
correlation of 0.39 between U.S. real estate and the GIM.
Cortez reviews RiteVal data (Exhibit 2) and preferred two-factor model with global equity and
global bonds as the two common drivers of return for all other asset classes.
Exhibit 2
Selected Data from RiteVal
Factor Sensitivities
Asset Class
Global Equity
Global Bonds
Residual Risk (%)
U.S. real estate equities
0.60
0.15
4.4
Global timber equities
0.45
0.20
3.9
Additional Information
Variances
0.025
0.0014
Correlation between global equities and global bonds: 0.33
Grey makes the following observations about the two different approaches the research firms
use to create their respective covariance matrices:
• GloboStats uses a historical sample to estimate covariances, whereas
• RiteVal uses a target covariance matrix by relating asset class returns to a particular
set of return drivers.
Grey recommends choosing the GloboStats approach.
Cortez states: I disagree. We will use the results of both firms by calculating a weighted average
for each covariance estimate.
Grey finds that RiteVal’s economic commentary reveals a non-consensus view on inflation.
Specifically, they believe that a near-term period of deflation will surprise many investors but
that the current central bank policy will eventually result in a return to an equilibrium expected
level of inflation.
Grey states: If RiteVal is correct, in the near-term our income producing assets, such as Treasury
bonds and real estate, should do well because of the unexpected improvement in purchasing
power. When inflation returns to the expected level, our equities are likely to perform well.
Cortez points out that RiteVal uses an econometrics approach to economic analysis, whereas
GloboStats prefers a leading indicator–based approach. Cortez and Grey discuss these
approaches at length.
Cortez comments: The big disadvantage to the leading indicator approach is that it has not
historically worked because relationships between inputs are not static. One major advantage to
the econometric approach is quantitative estimates of the effects on the economy of changes in
exogenous variables.”