CFA Institute Investment Foundations Program: Chapter 17 – Investment Management (Part II)

In a previous article, we introduced the CFA Institute Investment Foundation Program (Read more here).  It is a free program designed for anyone who wants to enter or advance within the investment management industry, including IT, operations, accounting, administration, and marketing.  Candidates who successfully pass the online exam earn the CFA Institute Investment Foundations Certificate.

There are total of 20 Chapters in 7 modules, covering all the essential topics in finance, economics, ethics and regulations.  This series of articles will highlight the core knowledge of each chapter.

Chapter 17 provides an overview of the investment management. The learning outcome of chapter 17 is as follows:

·       Describe systematic risk and specific risk;

·       Describe how diversification affects the risk of a portfolio;

·       Describe how portfolios are constructed to address client investment objectives and constraints;

·       Describe strategic and tactical asset allocation;

·       Compare passive and active investment management;

·       Explain factors necessary for successful active management;

·       Describe how active managers attempt to identify and capture market inefficiencies.

Strategic asset allocation is the long-term mix of assets that is expected to meet the investor’s objectives. The desired overall risk and return profile of the portfolio is a factor in determining the strategic asset allocation. A portfolio with a strategic asset allocation dominated by equities would be expected to have a higher return and be more volatile than a portfolio dominated by, say, bonds because bonds generally have lower risk than equities and thus produce lower returns. The strategic asset allocation that is suitable for one investor may not be suitable for another.

Although the chosen strategic asset allocation is expected to meet the investor’s objectives over the long term, there are times when shorter-term fluctuations in asset class returns can be exploited to potentially increase portfolio returns. A short-term adjustment among asset classes is known as tactical asset allocation.

When considering tactically altering a portfolio’s asset allocation, a manager may look at the strength of the economy and likely future trends to gain a perspective on how the central bank might change interest rates and on what might happen to corporate profits. The manager may then look at the level of the price-to-earnings ratio of the stock market and how it compares with recent decades as a measure of valuation or with the level of bond yields relative to historical ranges. The manager could also look at stock and bond market trends as a way of gauging investor sentiment.

Source: https://www.cfainstitute.org/en/programs/investment-foundations

The act of an investment manager adjusting his or her portfolio to take advantage of short-term fluctuations in asset class returns most likely describes:

A rebalancing.

B tactical asset allocation.

C strategic asset allocation.

 

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