Asset Allocation and Investment Planning Quiz

Questions and Answers

Which of the following is not a step in the planning system for asset allocation?

Consider personal factors

Identify and review investment alternatives

Employ portfolio management principle

All of the above are steps in the planning system (correct)

Why can investments be viewed as a delivery mechanism?

Because they transform future income into current spending (correct)

Because they help create sufficient assets to fund our goals (correct)

Because they increase the household's risk level

Because they transform current savings into future spending (correct)

Which of the following factors is not a personal consideration that enters into the asset allocation process?

Risk neutrality (correct)

Current available resources

Taxes

Projected future cash flows

Which of the following time frames is associated with a long-term horizon?

10-20 Signup and view all the answers

Which of the following is not part of the investment policy associated with a short-term horizon?

Stocks Signup and view all the answers

Normal long-term asset allocation is the investment policy associated with which of the following horizons?

Very long-term Signup and view all the answers

Which of the following influences one's risk tolerance?

All of the above Signup and view all the answers

Which of the following is the holding period return?

The return achieved during the time an investment is held Signup and view all the answers

What does semi-variance measure?

Fluctuations resulting in both gains and losses Signup and view all the answers

Which of the following best defines unsystematic risk?

The risk related to an individual company Signup and view all the answers

What does the risk premium represent?

The extra return for taking additional risk over a completely safe investment Signup and view all the answers

If the risk-free rate is 5% and the risk premium is 4%, what is the expected rate of return?

9% Signup and view all the answers

The expected rate of return is calculated by which of the following?

Risk-free rate plus risk premium Signup and view all the answers

Which of the following is furthest to the left of the security market line?

Risk-free rate Signup and view all the answers

Which of the following statements best describes the efficient market hypothesis?

All available information is fully reflected in stock prices Signup and view all the answers

Which of the following is NOT a characteristic of unsystematic risk?

It impacts the entire market Signup and view all the answers

What is the formula for calculating the holding period return?

(Sum of dividends or interest paid + Gains in principal invested)/Original cost Signup and view all the answers

If the sum of dividends is $45,000, gains in principal invested are $2,500, and the original cost is $365,500, what is the holding period return?

Approximately 11.5% Signup and view all the answers

What is liquidity risk?

The risk of receiving a lower than market price upon sale of your holding Signup and view all the answers

Which risk refers to unfavorable business conditions caused by weakness in the overall economy?

Market risk Signup and view all the answers

Which of the following is the most common measurement of price fluctuations?

Standard deviation Signup and view all the answers

How does standard deviation differ from semi-variance?

Standard deviation includes fluctuations that result in both gains and losses while semi-variance only measures fluctuations resulting in losses Signup and view all the answers

Which option best defines market risk?

The risk arising from volatility in the overall market Signup and view all the answers

Which of these does NOT contribute to systematic risk?

Industry competition Signup and view all the answers

Which of the following characterizes a defensive stock?

The company grows at average or below-average rates Signup and view all the answers

Which of the following is a weakness associated with mutual funds?

Tax implications Signup and view all the answers

Which of the following statements regarding ETFs is false?

Traditionally actively managed Signup and view all the answers

Greater potential returns and greater risk is a characteristic of which of the following?

Smaller capitalization companies Signup and view all the answers

A fund that attempts to duplicate market performance and keeps costs low by using computerized programs to purchase holdings is called:

An index fund Signup and view all the answers

Which of the following is a characteristic of Total Portfolio Management?

All household assets interact and their correlations are taken into account Signup and view all the answers

Which of the following is not a question that is asked during the performance evaluation?

What are the future investment trends? Signup and view all the answers

Which of the following is true about mutual funds?

They allow for pooling of investors' resources Signup and view all the answers

What is considered a strength of keeping records by fund management?

It can provide information about performance. Signup and view all the answers

Which of the following poses a risk associated with market conditions?

Market risk. Signup and view all the answers

What risk is associated with receiving a lower price when selling an asset?

Liquidity risk. Signup and view all the answers

Which risk is primarily influenced by government actions or policy changes?

Regulatory risk. Signup and view all the answers

What type of risk involves unexpected price increases affecting purchasing power?

Inflation risk. Signup and view all the answers

What does currency risk involve in international activities?

Fluctuations in exchange rates. Signup and view all the answers

Which type of risk can result from shifts in consumer preferences?

Preference risk. Signup and view all the answers

Which risk is directly related to the specific financial operations of a single firm?

Company risk. Signup and view all the answers

Study Notes

Asset Allocation Planning

Personal factors, investment alternatives, and portfolio management principles are all critical steps in the asset allocation planning system.
Viewing investments as a delivery mechanism relates to transforming current savings into future spending.

Investment Horizons

Long-term investment horizons typically span 10-20 years or 15-35 years.
Short-term investment policies commonly include money market funds and short-term bond funds.

Risk Factors

Key personal considerations in asset allocation include current resources, future cash flows, taxes, and risk neutrality.
Risk tolerance can be influenced by personality, upbringing, and expected household cash flows.

Holding Period Return Calculation

Holding period return can be determined using the formula based on dividends or interest paid and gains in principal.
Example calculation: With dividends of $45,000, gains of $2,500, and an original cost of $365,500, the holding period return is approximately 11.5%.

Types of Risk

Liquidity risk refers to the potential to sell an investment at a lower price than the market value.
Market risk indicates unfavorable business conditions due to economic weakness, while inflation risk involves purchasing power reduction from unexpected price rises.
Unsystematic risk relates specifically to an individual company's performance as opposed to the overall market.

Risk Premium and Expected Returns

The risk premium compensates for the additional risk taken with a security over a risk-free asset.
An expected rate of return can be calculated by adding the risk-free rate to the risk premium, e.g., with a risk-free rate of 5% and a risk premium of 4%, the expected return is 9%.

Security Market and Efficient Market Hypothesis

Securities such as government bonds are typically seen on the left side of the security market line, indicating lower risk.
The efficient market hypothesis suggests that all available information is already reflected in security prices.

Defensive Stocks and Mutual Fund Weaknesses

Defensive stocks tend to be less affected by cyclical conditions and may grow at average rates.
Weaknesses associated with mutual funds include overhead costs and tax implications.

Exchange-Traded Funds (ETFs) Characteristics

ETFs are not traditionally actively managed, combine investor funds for joint management, and are traded like stocks.
They usually have a lower cost structure compared to mutual funds.

Total Portfolio Management

This concept involves considering all household assets and their correlations in investment decisions.
Investment strategies include assessing individual asset returns and risks comprehensively.

Performance Evaluation Questions

Performance assessment involves reflecting on outcomes, understanding causes for under or overperformance, and planning for improvement.

Fundamental Risks of Financial Assets

Key risks associated with financial assets include market, liquidity, economic, inflation, political, regulatory, currency, technological, preference, industry, and company risks.

Mutual Fund Strengths

Mutual funds offer diversification, professional management, immediate exposure to a variety of assets, and cost efficiency due to pooled resources, among others.

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Description

Test your knowledge on asset allocation planning, investment horizons, and risk factors that affect financial decisions. This quiz also covers the calculation of holding period returns and the principles of portfolio management. Perfect for anyone looking to enhance their investment strategy skills.