CFA Institute CFA-LEVEL-1 Online Practice Questions and Exam Preparation

CFA Institute CFA-LEVEL-1 Online Questions & Answers

• Question 3701:

  If business decision makers suddenly become more optimistic about future sales and profits, which of the following will most likely occur?

  A. The interest rate will fall, causing both investment and GDP to rise.
  B. Income will increase and actual saving will remain constant.
  C. Actual investment will increase but consumption will decrease, leaving GDP unchanged.
  D. Investment will increase, causing both aggregate demand and GDP to increase.
  D. Investment will increase, causing both aggregate demand and GDP to increase.

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  Explanation

  If business decision makers are optimistic about the future, they will increase their private investment and stimulate other parts of the economy. Thus, aggregate demand and aggregate output will increase.

• Question 3702:

  A Consolidated Statement of Stockholders' Equity could have all of the following, except

  A. number of shares of cumulative, callable preferred shares.
  B. unrealized gains and losses on securities.
  C. the cumulative effect of exchange rate changes.
  D. the book value of redeemable preferred stock.
  E. the change in reinvested earnings.
  D. the book value of redeemable preferred stock.

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  Explanation

  Redeemable preferred stock is reported after liabilities but before the equity section of the balance sheet.

• Question 3703:

  Which statement is correct concerning the correlation of venture capital?

  A. It has a high correlation with the other assets in a portfolio.
  B. There is a positive correlation with treasury bills.
  C. It is negatively correlated to the large-cap stock market.
  D. There is a small correlation with corporate and treasury bonds.
  E. It is highly correlated with the small-cap stock market.
  E. It is highly correlated with the small-cap stock market.

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  Explanation

  The high correlation with small-cap stocks primarily results from the implications of exit strategies, which are fundamentally connected to the value of the market.

• Question 3704:

  Consider the following transactional information for the inventory account of an institutional bond house:

  1st Quarter Ending portfolio value: $400,500,000 Total amount invested: $396,000,000

  2nd Quarter Ending portfolio value: $401,900,000 Total amount invested: $400,500,000

  3rd Quarter Ending portfolio value: $406,500,000 Total amount invested: $400,000,000

  4th Quarter Ending portfolio value: $409,800,000 Total amount invested: $400,000,000

  Using this information, what is the annual time-weighted rate of return for this portfolio? Assume no taxes or transaction charges.

  A. None of these answers is correct.
  B. 5. 91% per year
  C. The time-weighted rate of return cannot be calculated from the information provided.
  D. 5. 79% per year
  E. 6. 22% per year
  F. 5. 09% per year
  B. 5. 91% per year

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  Explanation

  The time-weighted rate of return is the preferred method of return calculation in the investment management industry, primarily because this method is not sensitive to significant additions and withdrawals of funds from portfolios under

  examination. The calculation of the time-weighted rate of return involves three steps, which are illustrated as follows:

  Step 1:

  Price the portfolio immediately prior to any significant additions or withdrawals. Separate the portfolio into a series of subperiods based on the dates of cash inflows and outflows.

  Step 2:

  Calculate the holding period return for each subperiod.

  Step 3:

  Determine the annualized holding period return by linking or compounding the holding period return of each subperiod. If the investment is for more than one year, use the geometric mean of the annual returns as the time-weighted rate of

  return. If the investment is for less than one year, compound the subperiod returns to obtain an annualized measurement.

  To begin the process of determining the time-weighted rate of return, we would break the portfolio up into the subperiod series of cash flows. However, in this example, the cash flows are already aggregated for us and we can move on to the

  next step:

  determining the holding period return for each subperiod. This process is detailed as follows:

  Quarter 1 holding period return = [($400,500,000 ending value - $396,000,000 invested) / $396,000,000 invested] = 1.13636%

  Quarter 2 holding period return = [($401,900,000 ending value - $400,500,000 invested) / $400,500,000 invested] = 0.34956%

  Quarter 3 holding period return = [($406,500,000 ending value - $400,000,000 invested) / $400,000,000 invested] = 1.625%

  Quarter 4 holding period return = [($409,800,000 ending value - $400,000,000 invested) / $400,000,000 invested] = 2. 450%

  Now that the holding period return for each subperiod has been determined, we must annualize the return measure by taking the product of all four quarterly returns. This process is illustrated below:

  [(1 + .0136) * (1 + .0035) * (1 + .0163) * (1 + .0245) - 1] = .05905 or 5. 905%

  When calculating the time-weighted rate of return, remember that the total amount invested is the relevant figure, not the beginning portfolio value. Notice that during the third quarter, the total amount invested does not equal the ending

  amount for the second quarter. (A similar situation exists in the fourth quarter).

  This differential could be explained by numerous phenomena. Perhaps the difference is due to a cash withdrawal from the account. Maybe it was used to pay expenses or meet an outstanding margin call.

  What is important to note is the fact that this money (the difference between the total amount invested and the ending portfolio value for the previous subperiod) was not invested, and should not be included in the holding period return for the

  fourth quarter. So said, whenever possible you should use the total amount invested rather than the beginning portfolio value in the calculation of the subperiod holding period return. If you chose 5. 79%, remember that in the calculation of the

  time-weighted rate of return, it is the geometric average that is used, not the arithmetic average.

• Question 3705:

  An investor faces the following investment scenarios:

  Scenario Probability Return Bull market 60% 30% Neutral market 30% 7% Market crash 10% -25%

  The variance of the investor's rate of return is ________.

  A. 17. 6%%
  B. 4. 17%%
  C. 307. 4%%
  D. 6. 17%%
  C. 307. 4%%

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  Explanation

  The expected return equals 0.6 * 30% + 0.3 * 7% + 0.1*(-25%) = 17. 6%. To calculate the variance, an easy way is to first calculate the second moment, which is the expected value of the square of the return. Thus, the second moment equals

  0.6*[(30%)^2] + 0.3*[(7%)^2)] + 0.1*[(-25%)^2] = 617. 2%%.

  The variance of a random variable equals the second moment minus the square of the mean. In this case, the variance equals 617. 2%% - 17. 6%^2 = 307. 4%%

• Question 3706:

  In estimating a firm's earnings multiplier, finding the firm's required rate of return involves analyzing the firm's fundamental risk characteristics. Which of the following is not considered a fundamental risk?

  A. Business risk
  B. Exchange rate risk
  C. Financial risk
  D. Country risk
  E. Liquidity risk
  F. Government risk
  F. Government risk

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  Explanation

  In addition to the consideration of fundamental factors, one should consider market-determined risk (beta) based on the CAPM. A low beta combined with below-average fundamental risk, for example, would indicate that the firm's risk is quite low compared to the aggregate market. This means that the risk premium and the required rate of return for this firm should be lower than the market. By itself, this lower required rate of return would suggest an earnings multiplier above the market multiplier.

• Question 3707:

  The initial investment outlay consists of which of the following?

  I. Up-front costs of the project's fixed assets.

  II. Flotation costs associated with raising the necessary capital.

  III. Increases in net working capital.

  IV.

  Present value of all interest expenses associated with the project capital.

  A. II only
  B. I, II and IV
  C. I, II and III
  D. I, II, III and IV
  E. I and III
  F. III only
  G. I only
  H. IV only
  E. I and III

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  Explanation

  The initial investment outlay consists of up-front costs of the project's fixed assets and any increases in net working capital. Costs involved in raising the finances are not part of the initial outlay.

• Question 3708:

  Carlos recently attended a seminar on a new technique in identifying possible relative mispricings amongst stocks. Impressed by the presentation, he used the technique to suggest that two of his biggest clients rebalance their portfolios with a heavier emphasis on the stocks the technique identified as being mispriced. While presenting this suggestion to his clients, Carlos did not mention anything about the source of the ideas used. Before recommending the changes, he did not personally check the results nor did he try to find out if there were any significant caveats or assumptions associated with the methodology. He has:

  I. violated Standard II (B) - Professional Misconduct.

  II. violated Standard II (C) - Prohibition against Plagiarism.

  III. violated Standard IV (A.1) - Reasonable Basis and Representations.

  IV.

  violated Standard IV (B.1) - Fiduciary Duties.

  A. I, II and III
  B. I and III only
  C. I, II, III and IV
  D. II and III only
  D. II and III only

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  Explanation

  By not mentioning the sources of the results used, Carlos violated AIMR Standard II (C) related to Plagiarism. By not exercising reasonable care in verifying the soundness of his recommendations, he violated Standard IV (A.1). However, Standard II (B) - Professional Misconduct - and Standard IV (B.1) - Fiduciary duties are not directly relevant to this situation.

• Question 3709:

  If the underlying theory suggests that the value of an estimated variable is less than a particular number, it is appropriate to use:

  A. a right-tailed test.
  B. a left-tailed test.
  C. a two-tailed test.
  D. either a right-tailed or left-tailed test.
  B. a left-tailed test.

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  Explanation

  When an observation is made and we see a value less than the threshold suggested by the theory, we would like to known the probability of getting the smaller value due simply to chance rather than to the event being driven by the theory. For this, we need to known the left-tail probabilities under the null hypothesis.

• Question 3710:

  ERISA fiduciaries must adhere to the following prudent procedures:

  -establish a written investment policy for the plan

  - ________ plan assets - make investment decisions with the skill and care of aprudent expert

  -monitor investment performance

  -

  control investment expenses - avoid prohibited transactions

  A. distribute
  B. qualify
  C. account for
  D. none of these answers
  E. diversify
  E. diversify

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  Explanation

  These procedures are stipulated under the detailing of ERISA fiduciary duties, to ensure that the fiduciary complies with the duty to act with prudence.