Chapter 5

Question 1

What are the main types of risk?

Answer 1

Inflation risk
Interest rate risk
Credit risks
Currency risks
Shortfall risks
Operational risks
Political and event risks
Liquidity risks

Question 2

What is the official measure of inflation?

Answer 2

CPI

Question 3

What products is inflation particularly bad for?

Answer 3

Cash deposits and fixed interest securities

Question 4

What is deflation?

Answer 4

The opposite of inflation. Prices falling.

Question 5

What is the main measure of risk within bonds?

Answer 5

Duration - their sensitivity to movements in interest rates.

Question 6

How can you reduce interest rate risk?

Answer 6

Holding shorter dated stock or cash

Question 7

What are the 5 credit risks?

Answer 7

1) Default Risk
2) Downgrade Risk
3) Credit Spread Risk
4) Counterparty Risk
5) Bail in Risk

Question 8

What is the most important strategy for reducing risk?

Answer 8

Diversification

Question 9

What is gearing?

Answer 9

Where investors borrow money with the objective of using the borrowed funds to purchase investments that increase their exposure to other assets.

Question 10

What are the pros and cons of gearing?

Answer 10

+ it allows individuals or fund managers to borrow cash that they can invest
+ it allows them to take advantage of rights issues, privatisations or try to exploit shares that they perceive as under value.

• it can magnify losses, create an interest liability and add risk to the fund.