Chapter 6: Q2B (page 662)
For Questions 1–4, answer true or false. Explain your answer.
Question: The principle of diversification assures us that diversifying a U.S. portfolio internationally will reduce standard deviation.
False
Over 30 million students worldwide already upgrade their learning with Vaia!
All the tools & learning materials you need for study success - in one app.
Get started for free
A fund manages a \(1.2 billion equity portfolio with a beta of .6. If the S&P contract multiplier is \)250 and the index is currently at 800, how many contracts should the fund sell to make its overall position market neutral?
Give another example of adverse selection
Reconsider the hedge fund in the previous problem. Suppose it is January 1, the standard deviation of the fund’s annual returns is 50%, and the risk-free rate is 4%. The fund has an incentive fee of 20%, but its current high water mark is \(66, and net asset value is \)62.
a. What is the value of the annual incentive fee according to the Black-Scholes formula?
b. What would the annual incentive fee be worth if the fund had no high water mark and it earned its incentive fee on its total return?
c. What would the annual incentive fee be worth if the fund had no high water mark and it earned its incentive fee on its return in excess of the risk-free rate? (Treat the risk-free rate as a continuously compounded value to maintain consistency with the Black-Scholes formula.)
d. Recalculate the incentive fee value for part (b ) now assuming that an increase in fund leverage increases volatility to 60%.
The finance committee of an endowment has decided to shift part of its investment in an index fund to one of two professionally managed portfolios. Upon examination of past performance, a committee member proposes to choose the portfolio that achieved a greater alpha value.
a. Do you agree? Why or why not?
b. Could a positive alpha be associated with inferior performance? Explain.
Evaluate the timing and selection abilities of the four managers whose performances areplotted in the following four scatter diagrams.
What do you think about this solution?
We value your feedback to improve our textbook solutions.
