2019 CFA level 3 qbank reading 28 active equity investing strategy questions

10/12/2018

Learning Management System

Question #1 of 27
Consider two equity portfolios with the same benchmark index composed of 943 constituents.
Active equity manager A has constructed a portfolio of 45 high conviction ideas which are
continuously monitored to assess whether their weights in the portfolio remain appropriate.
Active equity manager B has active bets on 550 stocks with automatic rebalancing conducted
on regular monthly intervals. It is most likely that:

A) Both manager A and manager B are following quantitative active equity approaches

following a quantitative active equity approach

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B) Manager A is following a fundamental active equity approach and manager B is

Question #2 of 27

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fundamental active equity approach

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C) Manager A follows a quantitative active equity approach and manager B follows a

Competitive positioning and environmental, social and governance (ESG) characteristics of a

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company are most likely to be used as information sources for:

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A) Neither quantitative nor fundamental active equity managers

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B) Both quantitative and fundamental active equity managers

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C) Fundamental active managers only

Question #3 of 27

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Learning Management System

The table below provides information on three stocks being considered for investment by a
bottom-up equity manager

123-Year
Sector
Price Month
EPS
Dividend
Company
Industry Sector Average
($) Forward Growth
($)
P/E
EPS
Forecast
S

5

0.25

20%

0.00 Pharmaceuticals

20

T

95

4.75

3%

0.08 Defence

25

U

15

5.5

-5%

0.03 Utilities

12

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Which stock is most likely to be the best opportunity for investors that use a relative value

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approach?

A) Stock S
B) Stock T

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Question #4 of 27

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C) Stock U

A fundamental active equity investment manager screens the stocks in their universe in order

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to create an equally weighted portfolio of securities that have a price-to-book ratio of less than

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one. Which of the following pitfalls of fundamental active investing is this manager most likely
to be subject to?

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A) The value trap

B) Behavioural biases

C) The growth trap

Question #5 of 27

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Learning Management System

An analyst is backtesting a quantitative investment process which investigates the relationship
between EPS announcements and subsequent month stock returns. The analyst notes that one
speci c company in the universe frequently revises earnings – for example 2017 EPS was
initially announced in March 2018 as $2 when the market expected earnings of $2.10. These
2017 earnings were subsequently revised down to a loss of $1 per share in June 2018 due to
accounting fraud coming to light. In order to avoid look ahead bias, when backtesting the
performance of the stock in April 2018, the manager should use an EPS value of:

A) $2
B) $2.10

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C) -$1

Question #6 of 27

investment manager should:

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An analyst who wishes to capture the most accurate and up-to-date style exposure of an

A) Prefer to use returns-based analysis

B) Prefer to use holdings-based analysis

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C) Be indi erent between using holdings based and returns based analyses

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Question #7 of 27

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10/12/2018

Learning Management System

An analyst conducting a returns-based style analysis on an active equity fund constructs the
following monthly multivariate regression:
rt = 0.005 + 0.7LC + 0.3SC + ϵt

Where:
rt = the fund return in period t
LC = large cap style index
SC = small cap style index

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εt = residual return not explained by style factors

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The value added by the fund manager is closest to:

A) 0.5% plus the residual return, εt
B) The residual return, εt

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Question #8 of 27

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C) 0.5%

A quantitative active equity investment manager gathers the following data regarding

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information coe cients (ICs) when backtesting the value, growth and size factors in their

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investment universe:

Factor

insigni cant

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Value

Pearson IC

Spearman Rank IC
signi cantly positive

Growth signi cantly positive signi cantly positive
Size

signi cantly positive insigni cant

If the manager is concerned about biases caused by outliers in the data, they should most likely
conclude that the factors with strong predictive powers for subsequent returns are:

A) Value and Growth
B) Growth and Size
C) Value, Growth and Size
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Learning Management System

Question #9 of 27
Which of the following statements regarding activist equity investing is most accurate?

A) Activist investors tend to target companies that have lower than average revenue
growth with negative price momentum
B) Activist investors tend to target companies that have multi-class share structures
C) The assets under management of activist hedge funds decreased sharply during the

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global nancial crisis of 2008/2009 and have since failed to recover to pre-crisis levels

Question #10 of 27

Company A announces a cash-only purchase of Company B. In order to pro t from this event, a

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merger-arbitrage hedge fund manager would most likely:

A) Purchase the shares of Company B prior to the deal being announced
B) Purchase the share of Company B and short sell the shares of Company A after the deal

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is announced

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C) Purchase the shares of Company B after the deal is announced

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Question #11 of 27

Which of the following statements is most accurate with respect to factor-mimicking portfolios?

A) Factor mimicking portfolios are usually constructed using long only portfolios
B) Factor mimicking portfolios are commonly used in factor-tilting portfolios
C) Factor mimicking portfolios are relatively expensive to construct

Question #12 of 27
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Learning Management System

Which of the following statements regarding market-microstructure arbitrage strategies is least
accurate?

A) The typical time horizon of a trade is a few minutes
B) High-frequency trading techniques are a fundamental part of the strategy
C) The strategy analyses limit order books of exchanges to identify very short-term
mispricing opportunities

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Question #13 of 27

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The table below provides information on three stocks being considered for investment by a
bottom-up equity manager

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123-Year
Sector
Price Month
EPS
Dividend
Company
Industry Sector Average
($) Forward Growth
($)
P/E
EPS
Forecast
5

0.25

20%

T

95

4.75

U

15

5.5

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S

0.00 Pharmaceuticals

20

3%

0.08 Defence

25

-5%

0.03 Utilities

12

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approach?

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Which stock is most likely to be the best opportunity for investors that use a deep value

A) Stock U

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B) Stock S
C) Stock T

Question #14 of 27
With regards to the potential pitfalls in investment strategies, which of the following statements
is likely to be most accurate?

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Learning Management System

A) A fundamental active equity investor who seeks information that agrees with their
existing beliefs is exhibiting availability bias
B) Over tting is more likely to be a pitfall for a fundamental manager than a quantitative

active equity manager
C) The behavioural bias of overcon dence is more likely to be a pitfall for a fundamental
manager than a quantitative active equity manager

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Question #15 of 27
The table below provides information on three stocks being considered for investment by a

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bottom-up equity manager

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123-Year
Sector
Price Month
EPS
Dividend
Company
Industry Sector Average
($) Forward Growth
($)
P/E
EPS
Forecast

5

0.25

20%

0.00 Pharmaceuticals

20

T

95

4.75

3%

0.08 Defence

25

U

15

5.5

-5%

0.03 Utilities

12

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S

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A) Stock T

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Which stock is most likely to be the best opportunity for investors that use GARP?

B) Stock U

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C) Stock S

Question #16 of 27

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Learning Management System

Consider the following three companies:

Company Listing Return on Assets Asset Turnover Cash Balance
SBD

Nasdaq

Low

Low

High

JBC

Amex

High

Average

Average

LLB

Unlisted Low

Low

Low

Which of the above companies is most likely to o er an opportunity for activist investing?

A) LLB

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B) JBC

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C) SBD

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Question #17 of 27

Consider the following two statements regarding the hedged portfolio approach to
implementing factor-based active equity investing strategies:

Statement 1: Restrictions on short selling securities will likely prevent the strategy being

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implemented

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Statement 2: When constructed properly, hedged portfolios represent pure exposure to the

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factors they are designed to represent
It is most likely that:

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A) Both statements are false
B) Both statements are true
C) Statement 1 is true and statement 2 is false

Question #18 of 27
Data for US companies show that in the years after activist investing, companies on average
have:

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Learning Management System

A) Higher return on equity and leverage levels
B) Lower return on equity and lower leverage levels
C) Higher return on equity and lower leverage levels

Question #19 of 27
A factor-based quantitative active equity investment manager is investigating the relationship
between treasury yields and factor returns. They regress both contemporaneous and

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subsequent month factor returns against the 10-year treasury bond yield. The factors used are

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coe cients are displayed in the chart below:

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systematic risk (beta), size (market capitalisation) and value (book-to-market). The regression

Based on the regression coe cients above, which of the following strategies is most likely to be
pro table:

A) Short high beta securities and long value securities in months subsequent to treasury
yields being high
B) Long high beta securities and short value securities in months where treasury yields are
high
C) Long high beta securities and short value securities in months subsequent to treasury
yields being high

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10/12/2018

Learning Management System

Question #20 of 27
A top down portfolio manager using a short straddle position to express their view on market
volatility will most likely earn excess returns when:

A) Implied volatility is lower than realized market volatility
B) Market volatility levels fall
C) Realised market volatility is lower than implied volatility

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Question #21 of 27

A portfolio overlay derivatives strategy can be employed by a portfolio manager for all the
following purposes, except:

A) Removal of unintended macro exposures created by a bottom-up fundamental

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investment process

B) Adding active returns that are not correlated with the underlying portfolio strategy

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C) Identifying overvalued/undervalued securities for stock selection

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Question #22 of 27

The Information coe cient is best de ned as:

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A) The correlation of the performance of a hedged portfolio representing returns to a
factor and a fundamental driver of factor performance such as interest rates across
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B) The cross-sectional correlation of factor scores verses subsequent stock returns across
an investment universe
C) The correlation of the performance of a hedged portfolio representing returns to a
factor and the returns of the manager’s portfolio

Question #23 of 27
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Learning Management System

According to Morningstar's classi cation criteria for Value/Growth stocks, a security with a net
style score of close to zero is classi ed as

A) Growth
B) Value
C) Core

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Question #24 of 27

When comparing fundamental and quantitative approaches to active equity investing, which of

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the following statements is most accurate?

A) Manager judgement plays a large role in fundamental active equity approaches, but
plays no role in quantitative active equity approaches

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B) Company nancial statements would likely be a source of information for fundamental
approaches but not for quantitative active equity approaches
C) Factor based modelling is likely to play a greater role in quantitative approaches than

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fundamental approaches to active management

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Question #25 of 27

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Learning Management System

An analyst is investigating potential pairs trades for a statistical arbitrage fund. She gathers the
following information about three potential pairs:
Pair 1 consists of two car manufacturers. One of the companies is a small new
manufacturer of electric self-drive vehicles, the other companies is one of the
largest car manufacturers in the world established over 100 years ago. The mature
company has recently made signi cant investment in new electric vehicles. The
historical correlation of the two companies has been low.
Pair 2 consists of two mature advertising agencies that have comparable future
earnings prospects. Both typically trade on similar valuations and the historical

standard deviations below its moving average

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correlation of share prices has been high. The ratio of share prices is currently 1.5

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Pair 3 consists of two mature companies: one is a cement manufacturer and the other is a
thermal coal company. Although the companies operate in di erent markets and have di erent

business models the stock prices have historically shown high correlation. A recent news

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announcement has caused the ratio of share prices to deviate from the long-term average.
The pairs trade the analyst should most likely recommend is:

A) Pair 3
B) Pair 1

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C) Pair 2

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Question #26 of 27

Which of the following investment strategies is least likely to be a top-down investment
strategy?

A) Volatility based strategies
B) Special situations strategies

C) Thematic investment strategies

Question #27 of 27
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Learning Management System

When creating a fundamental active investment strategy an active equity manager should
assign a price target that they believe to be the fair value of the security. Which of the following
statements regarding this price target is most accurate?

A) The price target should not be adjusted after it is set at the outset in order to avoid
su ering from behavioural biases such as loss aversion
B) Adjusting the price target down in response to negative news ow until it is lower then
the current market price would trigger a sale or reduction in the position size.
C) The stock position should always be fully liquidated as soon as the security reaches the

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price target.

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