June 2021 Flashcards
(34 cards)
Using the Capital Asset Pricing Model (CAPM) equation, calculate, showing all
your workings, the expected return for the client’s portfolio.
(3.3-0.2)
0.91 x (3.1)
0.2 + 2.821 = 3.021 = 3.02
Explain why UK Government Treasury bills are a suitable measure of risk-free
return to use in the CAPM equation.
- Minimal/no default risk;
- Short duration/less than 3 months;
- minimal inflation and;
- interest rate sensitivity.
State seven main assumptions upon which the CAPM equation is based.
- Investors are rational and risk averse.
- Single/identical holding period.
- No individual can affect the market price.
- Ignores charges/tax.
- Market is liquid.
- Information is fully available to all investors.
- Risk-free rate/treasury bills are suitable to use.
- Investors can lend/borrow;
- unlimited amounts.
- Beta is correct measure of risk.
Describe briefly Macaulay duration.
- Weighted;
- average term/number of years;
- discounted/present value of;
- all cash flows/coupons + redemption value;
- from a bond
Explain briefly what is measured by modified duration.
- Measures sensitivity of;
- a bond’s price;
- yield to maturity/redemption yield/interest rates.
State one reason why a fixed interest fund manager would use Macaulay duration
and one reason why a fixed interest fund manager would use modified duration
within a bond fund.
Macaulay
* Portfolio immunisation/liability matching/hedging out interest risk/predict
returns.
Modified
* Reduce duration/interest rate risk.
State the technical definition of a recession in the UK economy.
- Two;
- consecutive;
- quarters of;
- negative/declining/falling;
- GDP growth.
Describe briefly the four main factors that cause UK interest rates to reduce.
You should exclude recession/economic activity from your answer.
- Fiscal surplus/reduction in gilt issuance.
- Monetary policy loosening.
- Reduction in inflation expectations.
- Quantitative easing (QE).
- Credit crisis/safe haven appeal/demand for sterling.
State four changes that could be made within the client’s fixed interest portfolio
in the event of an anticipated recession.
- Increase duration.
- Decrease high yield.
- Increase investment grade/gilts/cash/short dated bonds.
- Use derivatives.
State the main product features of NS&I Income Bonds.
- Minimum £500;
- Maximum £1 million.
- No minimum term/Instant access/no notice withdrawal/penalty.
- All/100% protected without upper limit.
- Backed by Government.
- Can use personal savings allowance/taxable but paid gross.
- Pay monthly/income must be paid out.
List three benefits of investing in NS&I Income Bonds.
- Provides diversification.
- Could invest more than £85,000/higher level of investor protection.
- No volatility/default/market/investmentrisk.
Identify two limitations on the use of NS&I Premium Bonds within the client’s
portfolio.
- Maximum deposit £50,000.
- Interest rate notional/may not win any prize/erosion of money in real terms.
Calculate, showing all your workings, the portfolio’s standard deviation using the
returns data for the past two years.
(-0.4 + 7.3)/2 = 3.45
(-0.4 – 3.45) + (7.3 - 3.45)
(-3.85)2 + (3.85)2
14.8225 + 14.8225
29.645/2 = 14.8225 = 3.85
Describe briefly what standard deviation measures.
- Volatility/dispersion of returns;
- through variation in;
- actual return;
- against mean return.
State the percentage of returns that fall within one and two standard deviations,
based upon the normal distribution of returns of a bell curve.
- 65-70% for 1SD.
- 94-98% for 2SD
Describe the semi-strong form of efficient market hypothesis (EMH).
- Prices adjust/reflect/respond to;
- all;
- public information;
- rapidly and;
- unbiased.
- No excess return/cannot outperform market;
- Includes past prices and;
- company information.
State how the semi-strong form of EMH considers technical analysis and
fundamental analysis.
- Fundamental analysis ineffective;
- technical analysis ineffective.
- Neither adds outperformance.
Identify five factors that should be taken into consideration if it is agreed at the meeting to rebalance the portfolio.
- Cost.
- Potential tax liability.
- Impact/interruption to existing income.
- Attitude to risk/capacity for loss.
- Suitability of funds/asset allocation.
- Retention/change of benchmark.
- Time out of market.
List seven additional pieces of information relating to Fenna’s financial situation that a
financial adviser would consider when determining her objectives and needs.
You should exclude the information provided in the case study from your answer.
- Marital status/dependents/children.
- State of health.
- Other assets.
- Liabilities.
- Provision of emergency fund.
- Ethical/socially responsible investments preferences.
- Capacity for loss.
Calculate, showing all your workings, the most recent dividend Fenna received,
net of any tax, from her technology company shares. You should assume this is
the only dividend Fenna receives.
Assume fenna is higher rate tax payer 20/21
22,000 x 12.5p = £2,750
£2,750 - £2,000 = £750
£750 x 32.5% = £243.75
£2,750 - £243.75 = £2,506.25
Explain the tax treatment of any investment that Fenna might make into a new
VCT.
- For investment of up to £200,000;
- 30%;
- Income Tax relief;
- up to Fenna’s tax liability;
- if held for 5 years.
- Gains exempt from CGT/CGT-free;
- with no minimum period.
- No loss relief/deferral relief.
- Dividends tax-free
State two potential drawbacks that Fenna’s financial adviser would draw to her
attention in respect of the proposed level of investment, if she wanted to invest
£95,000 in a new VCT at issue.
- Not covered at all by Financial Services Compensation scheme/£95,000/all
capital at risk. - May not receive full Income Tax relief/level of tax relief may exceed tax paid.
Identify four additional risks to which Fenna would be exposed if she invested
into a VCT in comparison to her AIM shareholding.
- Accessibility/unable to sell underlying assets.
- Liquidity.
- Manager breaches qualifying rules.
- Manager risk/change in gains or income profile.
- May hold cash/not invest for a while.
While Fenna’s current salary is more than sufficient to meet her income needs, she would like to be able to generate an income stream of £20,000 per annum in real terms from her capital in 15 years’ time.
Compare the main differences in the tax treatment of the gains and withdrawals from
onshore and offshore investment bonds, based upon Fenna’s investment needs
Onshore
* Corporation Tax paid;
* on capital gains made/investment income;
* deemed UK basic rate tax/20% tax paid.
* Chargeable gains subject to 20%.
* Taxed as top part of income/after dividends.
Offshore
* Withholding tax;
* not subject to UK tax internally/gross roll-up.
* Subject to 40% on gains.
* Taxed as savings income.
* No chargeable event on death if on capital redemption basis.
