PRACTISE EXAM - 100 Questions Flashcards
1
Q
Paul and Alex are married and have the following savings deposited in their banks:
Bank X Joint account = £150,000
Bank X Sole account (Paul) = £50,000
Bank Z Sole account (Alex) = £50,000
How much protection from default risk are they covered by in total under the Financial Services Compensation Scheme?
1.£250,000
2.£200,000
3.£210,000
4.£170,000
A
210000
The FSCS covers 100% of a deposit where the provider has become insolvent per person per marketing group, capped at £85,000.
Therefore, Paul and Alex’s joint account of £150,000 is entirely covered since they each would be protected for up to £85,000 on the accounts with Bank X. The £10,000 not used up by the joint account can be used by Paul for his sole account. In addition, Alex would have up to £85,000 protection with Bank Z so his sole account of £50,000 is covered in its entirety. So £75,000 + £85,000 + £50,000 = £210,000.
2
Q
Lisa buys a buy to let property for £220,000. Her purchase costs are £4,250. She has already found a tenant who will pay her £950 monthly. What is her gross yield?
1.
5.04%
2.
5.08%
3.
5.18%
4.
5.28%
A
5.08%
The net yield is calculated by dividing annual rental income by the total purchase costs of a property. £950 monthly income x 12 months = £11,400
£11,400 ÷ £220,000 + £4,250 = 5.08% gross yield achieved. The calculation could also factor in agent’s fees, but the question doesn’t tell us about these.
3
Q
Company XYZ plc made £50,000,000 profit in its latest financial year. It has 200 million shares in issue on which it paid a dividend of 10p per share. If the latest share price is 270p calculate the price earnings ratio.
1.
10.8
2.
27.0
3.
18.0
4.
67.5
A
10.8
First you need to calculate the earnings per share = £50,000,000 ÷ 200,000,000 = £0.25 or 25p
PE ratio = Share price ÷ EPS = 270 ÷ 25 = 10.8
‘Earnings per share’ is not related to any dividends paid out by the company!
4
Q
John has made the following investments:
Convertible loan stock = £15,000
Gilts 3% 2022 = £25,000
Floating rate notes = £10,000
If UK interest rates fall, which of the following statements is CORRECT?
1.All three holdings see an increase in market prices in equal proportion
2.Gilts prices will rise whereas convertibles and floating rate notes will stay closer to their nominal value
3.Gilts & convertibles prices will rise whereas floating rate notes will stay closer to their nominal value
4.Floating rate notes will see a fall in market prices whereas GILTS & convertibles will stay closer to their nominal value
A
Gilts & convertibles prices will rise whereas floating rate notes will stay closer to their nominal value
A and D cannot be correct, as floating rate notes (FRN)’s coupon is variable.
If interest rates fall, both GILTS and convertibles will rise in value as their coupons are fixed, whereas FRNs will stay closer to their nominal value.
5
Q
Harry, who owns his own home, is buying a residential property in Bradford for £350,000 which he is renting out to provide additional income, and Gerald is remortgaging his £300,000 property. How much more will Harry pay in Stamp Duty Land Tax than Gerald?
1.
£2,500
2.
£5,000
3.
£12,500
4.
£15,500
A
£15,500
Gerald is re-mortgaging. No SD is paid as no land transfer has taken place
Harry will pay SDLT at the standard rates, but will also have an additional 3% surcharge as it is a second residential property:
First £250,000 x 3% = £7,500
Next £100,000 x 8% = £8,000
The total SDLT will be £15,500
REMEMBER, THE 3% surcharge is added to the 0% band as seen in first 250k above
6
Q
An investor has purchased a portfolio of shares. He has used CREST to invest £8,000, and the stock transfer form method to invest £15,000. Which of the following is correct?
1.The stock transfer form purchase method will be faster and cost less
2.The stock transfer form purchase will incur less Stamp Duty
3.The CREST purchase will not involve a Panel on Takeovers and Mergers levy
4.The CREST purchase will always involve the use of a stockbroker
A
The CREST purchase will not involve a Panel on Takeovers and Mergers levy
Using a stock transfer form is a longer, more expensive route for the purchase of equities. Therefore, A and B are incorrect. CREST purchases do not automatically involve a stockbroker (they may be done online) making D incorrect. The PTM levy is only paid on equity purchases of more than £10,000, so our investor, purchasing £8,000 worth of equities, will not be charged this.
7
Q
Jane has a holding in £100 government stocks with a coupon of 7.25% and a redemption date in 6 years’ time. She paid £121.50 for the stock. What is her gross redemption yield?
1.
1.28%
2.
2.95%
3.
3.02%
4.
5.97%
A
3.02%
The first stage in this calculation is to calculate the interest/running yield, which is the income of £7.25 ÷ stock purchase price of £121.50 x 100 = 5.97%.
If Jane holds the stock to redemption, she will lose 21.50 ÷ 6 years = £3.58 loss annually. £3.58 ÷ £121.50 x 100 = 2.95% loss annually. 5.97% – 2.95% = 3.02% gross redemption yield.
8
Q
Lucy buys a fixed-interest security, and has entitlement to the full six months’ worth of interest at the next coupon date. Lucy has bought this stock…
1.
cum dividend
2.
ex-dividend
3.
at the clean price
4.
at the mid-price
A
If an investor purchases stock with a full entitlement, they have bought it ‘cum dividend’. A higher price must have been paid to the seller as compensation
9
Q
BTS Ltd has turnover of £1,090,000 million and 500,000 ordinary shares in issue. Profit after interest and tax is £285,000 in the current financial year, but a £50,000 interest payment is due to bond holders. If the dividend paid per share is £0.11, what is the dividend cover for BTS?
1.
3.82
2.
4.27
3.
5.18
4.
19.82
A
4.27
Dividend cover considers how many times the current dividend could be paid out of current company profits attributable to shareholders.
BTS’s current dividend of £0.11 x 500,000 shares = £55,000 total dividend payments.
The net profit attributable to shareholders is the profit after interest, taxes and payment to preference shareholders = £285,000 – £50,000 = £235,000
Dividend cover = £235,000 ÷ £55,000 = dividend cover of 4.27.
10
Q
Jane has an investment where her running yield is 2.50% and the gross redemption yield is 3.75%. This is most likely to indicate…
1.
the future income that Jane will receive will be higher than now
2.
the future income that Jane will receive will be lower than now
3.
if Jane holds the investment to maturity, she may experience a capital gain
4.
if Jane holds the investment to maturity, she may experience a capital loss
A
if Jane holds the investment to maturity, she may experience a capital gain
If Jane has an investment where her running yield is lower than her gross redemption yield, she is will most likely make a capital gain at stock redemption as she has purchased her stock below par.
11
Q
Cheryl wishes to track the stock markets of Japan and America using the broadest spread of companies possible. Which of the following indices would allow her to do so?
1.
NASDAQ and S&P Composite
2.
TOPIX and S&P Composite
3.
Dax and Dow Jones
4.
Nikkei 225 and Dow Jones
A
TOPIX and S&P Composite
The TOPIX is the whole market Japanese index, and the S&P Composite (500 companies) is the broadest American index.
Whilst the Nikkei 225 is a Japanese index and the Dow Jones an American index, neither contain as many stocks as their counterparts. The NASDAQ and the S&P Composite are both USA indices. The DAX is a German index.
12
Q
Sarah is a basic rate taxpayer renting out two rooms in her home, each for £420 per month. She claims rent a room relief. If this rent does not take her into HRT, how much income tax will she pay on this income in the current tax year?
1.
£0
2.
£258
3.
£516
4.
£2,016
A
£516
Sarah’s annual rental income is £420 x 12 = £5,040 per room so £10,080 in total. Deduct the tax-free annual rental income allowance of £7,500 and this leaves £2,580 taxable at 20% = £516.
13
Q
The Monetary Policy Committee works within the Bank of England. Its main aim is to…
1.
set interest rates to control inflation
2.
maintain the value of sterling
3.
ensure government economic targets are met
4.
ensure the rate of inflation is falling
A
The sole aim of the MPC is to set interest rates to control inflation.
14
Q
Gary owns a preference share type where any dividends that are not paid in a year will be carried forward and paid the following year, before other dividend payments. This is because Gary owns…
1.
cumulative preference shares
2.
participating preference shares
3.
redeemable preference shares
4.
convertible preference shares
A
Garry must own cumulative preference shares, which is where, if any dividends are missed, these must be made up the following year, before other classes of shareholder receive their dividends.
15
Q
The UK is entering the ‘boom’ stage of the economic cycle. Which of the following is MOST likely to occur?
1.
The Bank of England base rate falls
2.
Equity prices will be reaching their peak
3.
Fixed-interest security yields rise sharply
4.
The rate of inflation starts to fall
A
Equity prices will be reaching their peak
In the boom phase interest rates and inflation are starting to rise so options A and C cannot be correct. FIS yields would fall sharply if there was more of a rise in interest rates, not fall. This leaves B as the only feasible correct answer. It is true that equities will reach their peak at the start of the boom period but then will start to fall as interest rates rise. Note it says as the UK is entering the boom stage, not that they are in it or coming out of it
Equites are always one cycle behind
16
Q
If the M4 measure of money supply is growing faster this year in comparison to last year this may indicate that…
1.
demand for loans is rising
2.
demand for loans is falling
3.
Inflation is decreasing
4.
indirect taxation is falling
A
demand for loans is rising
If M4 is rising then inflation, interest rates and the demand for loans must be rising. So, option B is incorrect. M4 does not reflect either increases or falls in direct or indirect taxation. So, only option A can be correct.
17
Q
Peter has £100,000 in a 90-day notice account with a UK bank. His interest rate is fixed at 2%. His investment is LEAST likely to be affected by…
1.
inflation and interest rate risk
2.
equity capital and institutional risk
3.
liquidity and interest rate risk
4.
shortfall and currency risk
A
shortfall and currency risk
Peter’s bank account can be affected by inflation, institutional and liquidity risk. This means options A, B and C cannot be correct. This leaves option D as the only possible correct answer.
18
Q
Hazel has the following investments:
Investment / Market Correlation (Beta) Company A / 1.0
Company B / 0.8
If the market rises by 9% what is likely to happen to company B?
1.It will fall by 4.6%
2.It will fall by 7.2%
3.It will rise by 4.6%
4. It will rise by 7.2%
A
It will rise by 7.2%
The market has a beta of 1. Company B is positively correlated to the market by 80% (it moves in the same direction). So, if the market rises by 9%, company B will rise by 80% of this, i.e. 7.2%.
19
Q
A whole of market adviser has recommended a negatively-correlated portfolio to his client. This is MOST likely to be in order to…
1.
reduce systematic risk
2.
Increase systematic risk
3.
reduce non-systematic risk
4.
Increase non-systematic risk
A
reduce non-systematic risk
Negatively correlated assets reduce unsystematic risk, so option C is the correct answer. Systematic risk or market risk cannot be eliminated.
20
Q
If the market rises by 2% and a security has a Beta of 0.8 which of the following is MOST likely to happen to the security?
1.
It will rise by less than 2%
2.
It will rise by more than 2%
3.
If will fall by more than 2%
4.
It will fall by less than 2%
A
It will rise by less than 2%
This security moves in line with the market but at an 80% margin. If the market rises it will also rise, but at 80% of the increase.
21
Q
A country has experienced a period of sluggish economic growth with the result that inflation is lower than government targets. How could monetary policy be used to promote growth in GDP?
1.
By reducing inflation targets
2.
By increasing inflation targets
3.
By reducing interest rates
4.
By increasing interest rates
A
By reducing interest rates
Monetary policy is stabilising the economy through the use of interest rates and money supplies. So, options A and B cannot be correct. GDP measures a country’s overall economic activity. If growth is required a cut in interest rates will stimulate an increased feeling of ‘well-being’ amongst individuals encouraging them to spend more increasing GDP as a result.
22
Q
Harry has a fixed-interest security he has held for 5 years, during which time interest rates have doubled. If interest rates stay the same, what will happen to his nominal value when the security matures next year, and the loan is repaid?
1.
It will stay the same
2.
It will be higher
3.
It will fall in line with interest rates
4.
It will rise in line with interest rates
A
It will stay the same
The nominal value of Harry’s FIS will stay the same at maturity. This is the same as the PAR value. Nominal value always stays same. Intrinsic value can change however
23
Q
A key effect of globalisation on the UK economy is…
1.
an influx of overseas financial institutions via the passporting rules
2.
a reduction in the competitiveness of our manufacturing industry
3.
reduced consumer choice
4.
wage price inflation
A
a reduction in the competitiveness of our manufacturing industry
The only correct option here is B. Globalisation hurts developed markets, particularly in service and manufacturing industries
24
Q
An investment manager is constructing an equity portfolio for a client using Modern Portfolio Theory. This will assume that…
1.
negatively correlated investments produce the highest returns
2.
diversification is less important than past performance
3.
investors looking for income will accept higher risks
4.
investors are looking for the lowest risk to achieve the same return
A
investors are looking for the lowest risk to achieve the same return
MPT assumes that investors are risk adverse, so are looking for the lowest risks to achieve the returns they require.
25
An investment has a Standard Deviation (SD) of 4 and an average, mean return of 7%. This means that?
1.
68% of the time the maximum return is likely to be 11%
2.
95% of the time the return is likely to be between 0% and 11%
3.
68% of the time the maximum return is likely to be 4%
4.
95% of the time the return is likely to be between 3% and 11%
68% of the time the maximum return is likely to be 11%
SD has 3 assumptions: in 68% of cases, returns will fall within 1 SD range, in 95% of cases returns will fall within a 2 SD range, and in 99% of cases, within a 3 SD range.
Our investment has a SD of 4 and a mean of 7%.
In 68% of cases: the range will be 3% to 11%, in 95% of cases: -1% to 15%, and 99% of cases: – 5% to 19%.
Only option A is correct.
26
A key limitation of the Capital Asset Pricing Model (CAPM) is that…
1.
betas used are unreliable, as they rely on historic data
2.
comparisons used are over different holding periods
3.
it can only be calculated using assets within the portfolio
4.
un-systematic risk is not taken into account
betas used are unreliable, as they rely on historic data
The main limitation of CAPM is that historical data is used and, as we know, ‘past performance is no guide to the future’. All the other options here are incorrect.
27
An asset manager is looking to make a profit out of what he sees as the undervaluing of an asset in the market. He is therefore using…
1.
Arbitrage
2.
Semi-strong form efficiency
3.
Prospect theory
4.
Behavioural finance
Arbitrage
Arbitrage is all about establishing whether a stock/share is priced correctly. It is used to establish whether a stock/share is undervalued or not.
28
A basic rate taxpayer invests £12,600 in a fixed-interest savings account paying 4.1% gross annually over a 3-year period. What will the balance be in the account in 3 years time if no withdrawals are made?
1.
£13,116.60
2.
£13,880.95
3.
£13,891.37
4.
£14,214.21
£14,214.21
Interest on bank accounts is paid gross. Start by turning the percentage rate into a decimal and add 1. So, 4.1% becomes 1.041. Using your calculator, press 1.041 xx £12,600 (the amount invested) and then === (equals three times, once for each year the money is invested). This gives the answer of £14,214.21.
FV = CV(1+r)^n
29
A deposit account pays interest quarterly at 3.6% p.a. What is the AER on this account?
1.
3.09%
2.
3.65%
3.
3.69%
4.
4.50%
3.65%
Divide the interest rate by the number of times this is paid in a year, in this case 4 times as the interest is paid quarterly. 3.6% / 4 = 0.9%. Then turn this into a decimal and add 1, so 1.009. Using your calculator, press 1.009 xx 100 (used for calculation only) ==== (equals one time for each period paid, again in this case it is four as the interest is quarterly. This equals 103.65. Take off the £100 and you are left with the answer, 3.65%.
PRACTISE. CALCULATING AER
30
How much capital would need to be invested now, in an account paying 2% annual interest, to produce a lump sum of £10,000 in 6 years’ time?
1.
£8,705.60
2.
£8,879.71
3.
£9,057.31
4.
£9,803.92
£8,879.71
Rearrange
FV = CV(1+r)^n
31
Nellie has invested directly into property and Sallie into corporate bonds, via a collective investment. Which of the following is TRUE?
1.
Both Nellie and Sallie face interest rate risk
2.
Sallie’s investment is less diversified than Nellie’s
3.
Nellie faces credit risk, but Sallie does not
4.
Nellie faces greater liquidity risk than Sallie
Nellie faces greater liquidity risk than Sallie
Property is the most illiquid asset class. Nellie can only realise her property for cash if she finds a suitable buyer, whereas Sallie is likely to more easily sell her bonds via the market.
32
Jeff sells his OEIC holdings to invest directly into FTSE 100 shares. In doing so he is exposing his investment to…
1.
reduced inflation risk
2.
reduced liquidity risk
3.
greater unsystematic risk
4.
greater systematic risk
greater unsystematic risk
By selling his OEIC holdings for FTSE 100 shares, it is highly likely that Jeff is reducing the diversification of his holdings. Diversification reduces un-systematic risk, so Jeff will be subject to greater un-systematic risk.
33
Cara has the following investments:
Shares in an Enterprise Investment Scheme (EIS)
Corporate bonds in a unit trust
Shares in a Venture Capital Trust
A life assurance investment bond
Which investment represents the highest unsystematic risk for Cara?
The shares in the EIS
This is a similar question to 32. The more concentrated the investment, the higher its un-systematic risk. The investment with the least spread of asset classes are the shares in Cara’s EIS, as these are all invested in one company, making them extremely un-diversified. Venture Capital is a risky investment type, but investment in a VCT is diversified as these invest in several companies.
34
James is a fund manager with responsibility for a portfolio of corporate bonds. He is concerned that interest rates might increase over the next 12 months, and this could have a negative impact on the investment performance of the portfolio. He could reduce this risk by…
1.
seeking to reduce the modified duration
2.
seeking to increase the modified duration
3.
purchasing longer-dated bonds
4.
selling shorter-dated bonds
seeking to reduce the modified duration
Reducing the interest rate risk would be best achieved by selling longer-dated bonds and buying shorter dated ones. This results in a reduction in the modified duration of the portfolio
35
Jack bought 1,000 shares in ABC plc for £2.50 each using his savings of £2,000, plus some money he borrowed from his father. A month later he sold the shares for £2.25 each. What is the return on Jack’s original £2,000 after he has repaid the loan to his father?
1.12.5% profit
2.12.5% loss
3.10% loss
4.10% profit
12.5%
If he bought 1,000 shares at £2.50, they cost him £2,500. £500 must have come from his father. Jack’s gross disposal proceeds are 1,000 x £2.25 = £2,250
After repaying the loan of £500, his net sale proceeds are £1,750. This is a loss on his original £2,000 of £250. -£250 ÷ £2,000 = -12.5%
36
Which of the following actions within an investment portfolio is MOST likely to increase diversification?
1.
Switching from investment trust shares to oil company shares
2.
Selling holdings and re-purchasing them 30 days later
3.
Investing some monies into an additional market sector
4.
Switching holdings in a bank to an insurance company
Investing some monies into an additional market sector
Investing monies into an additional market sector will increase the portfolio’s diversification. Options A and D will either reduce or have no effect and option B is a complete red herring from a diversification perspective
37
Which of the following investments is likely to be MOST negatively affected by an increase in the rate of inflation?
1.
Gold
2.
Property
3.
Equities
4.
Cash deposits
Cash deposits
Inflation is most likely to negatively affect deposits, as their return is via interest payments, whose value will be eroded by inflation. Property and equities are asset-backed investments, so should cope well with inflation. Gold tends to be positively affected by inflation, at least in the longer term.
38
A unit trust holds 65% in equities and 35% in UK Gilts and fixed-interest securities. Which of the following statements is TRUE for taxation purposes?
1.
It will be categorised as an equity fund
2.
It will be categorised as a non-equity fund
3.
It will be categorised as a fixed-interest fund
4.
It will be categorised as a specialist fund
Any fund with an equity element in excess of 60% will be classified as an equity fund for tax purposes.
39
Richard is a fund manager of a fund with an investment mandate that requires it to track a global stock market index that contains 2,600 stocks. To minimise costs and administration, Richard aims to hold about 150 shares in the fund. This is an example of…
1.
full replication
2.
stratification
3.
stochastic modelling
4.
screening
stratification
Stratification is where a sample of the shares held in an index are purchased by a fund manager. This is usually due to the fact that the fund does not have sufficient assets for full replication.
40
Ben and Lucy have three children: Sam 19, Chloe 16 and Ellie 14. Ignoring Junior ISA allowances, how much is the combined maximum monthly contribution the family could make to Stocks & Shares ISAs?
1.
£2,500
2.
£3,333.33
3.
£5,000
4.
£6,666.66
5000
The maximum monthly ISA contribution per person is £1,666.66 (£20,000 ÷ 12 months). An individual must be 18 or over to contribute to a Stocks and Shares ISA, so Ben, Lucy and Sam can all contribute. £1,666.66 x 3 = £5000.
41
Lisa, an additional rate taxpayer and her partner Peter, a basic rate taxpayer, have both made a gain of £5,000 on the sale of some shares. How much more CGT will Lisa pay than Peter if both have already used their annual CGT exemption?
1.
None
2.
£500
3.
£1,000
4.
£1,400
500
Lisa will pay CGT at 20% whereas Peter will have an 10% liability.
£5,000 gain x 20% = £1,000. £5,000 gain x 10% = £500. £1,000 – £500 = £500
Or £5,000 x 10% difference = £500.
42
A higher rate taxpayer has received the following income in excess of his dividend allowance and Personal Savings Allowance:
Investment / Income £
Dividends / 1,340
Interest / 490
Assuming that they stay in the higher rate tax band how much tax will need to be paid through self-assessment?
1.
£198.50
2.
£399.50
3.
£533.50
4.
£648.25
£648.25
Both would have paid out gross amounts and the question tells you that the £1,000 dividend allowance and £500 PSA are not available.
So, for the dividend, it’s £1,340 x 33.75% = £452.25 and for the savings it’s £490 x 40% = £196. Combined: £452.25 + £196 = £648.25
Interest is taxed at investors highest marginal rate of tax
43
Alison and Steve are both UK residents and higher rate taxpayers. If Alison has an offshore and Steve an onshore bond, both make a gain of £20,000, which pushes neither into the next tax band, who will pay the most personal income tax on encashment?
1.
Alison will pay £2,000 more than Steve
2.
Alison will pay £4,000 more than Steve
3.
Steve will pay £2,000 more than Alison
4.
Steve will pay £4,000 more than Alison
Alison will pay £4,000 more than Steve
Both Alison and Steve are HRTPs who have made gains on their respective bonds of £20,000. Steve’s bond is onshore, so BRT has been satisfied at source. His further liability is therefore 20% x £20,000 = £4,000. Alison has an offshore bond, where no tax has been taken internally, so her £20,000 gain is taxed at 40% = £8,000.
44
Alison and Steve are both UK residents and higher rate taxpayers. If Alison has an offshore and Steve an onshore bond, both make a gain of £20,000, which pushes neither into the next tax band, who will pay the most personal income tax on encashment?
1.
Alison will pay £2,000 more than Steve
2.
Alison will pay £4,000 more than Steve
3.
Steve will pay £2,000 more than Alison
4.
Steve will pay £4,000 more than Alison
75%
A REIT must have a minimum of 75% of its assets invested into property to qualify for its various tax exemptions.
45
Last tax year, Katie invested £100,000 into an Enterprise Investment Scheme (EIS). She was a higher rate taxpayer and received the maximum income tax relief. This tax year, Katie has become a basic rate taxpayer. If she disposes of her EIS shares today, she will…
1.
have to pay back half the £30,000 tax relief she received
2.
receive the proceeds tax-free
3.
have the £30,000 tax relief she received clawed back
4.
have to repay two thirds of the tax relief she received
Have the £30,000 tax relief she received clawed back
Katie must hold her EIS investment for a minimum of 3 years to avoid having her income tax relief of £30,000 clawed back in its entirety. Her income tax status now does not affect this claw-back at all. She will therefore have to repay the entire £30,000 she received in income tax relief on her £100,000 EIS investment if she disposes of these shares one year later.
46
Paul is a higher rate taxpayer, earning £55,000 p.a. and his wife Sue a basic rate taxpayer, earning £16,000 p.a. They have both encashed offshore bonds, and each made a gain of £20,000. If neither can utilise their Personal Savings Allowances, how much combined income tax is payable on the encashment?
1.
£16,000
2.
£12,000
3.
£8,000
4.
£4,000
£12,000
No tax has been paid internally as this bond is an offshore version. Paul will pay 40% income tax on his gain, £20,000 x 40% = £8,000. Sue will pay 20% income tax on her gain, £20,000 x 20% = £4,000. Their total tax liability will be £12,000.
47
A hedge fund manager using a long/short strategy is MOST likely to use which of the following to protect his investments?
1.
Arbitrage
2.
Options
3.
Gearing
4.
Warrants
Options
Arbitrage is where stocks are purchased as they are viewed as being undervalued, gearing is borrowing against assets, and warrants are issued by investment trusts. Long/short strategies are synonymous with the use of derivatives, such as options.
48
Hazel made the following stakeholder investments 12 months ago:
Investment / £ Invested / Details
Cash ISA / 3,000 / 3% / fixed annual interest
Equity ISA / 5,000 /8% growth before charges
If no withdrawals have been made, and the maximum annual management charge (AMC) is levied and taken at the end of the year, what is the current combined value of these investments?
1.
£8,409
2.
£8,415
3.
£8,436
4.
£8,440
£8,409
Hazel’s £3,000 Cash ISA will have grown with interest to £3,090. There is no AMC levied.
Her equity ISA will have grown to £5,400 – 1.5% AMC = £5,319. Combined current values will be £3,090 + £5,319 = £8,409
49
Jo is concerned about investing responsibly and a friend has told her that some fund managers use positive ethical screening in constructing an investment portfolio for a client. She asks you what this means, and you explain this will involve…
1.
avoiding exposure to companies in undesirable sectors
2.
applying her ethical beliefs to identify shares held in the manager’s investment fund that need to be sold
3.
selecting companies with profiles that match Jo’s requirements
4.
avoiding any company that is stock market list
selecting companies with profiles that match Jo’s requirements
Positive ethical screening involves including companies that have a good ethical record. You are looking for an answer that includes words such as ‘including’ or ‘selecting’, so option C is the best available answer to this question.
50
As part of risk-profiling, a financial adviser is reviewing a client’s financial status, including assets and liabilities and future requirements for liquid funds. The adviser is ascertaining…
1.
attitude to risk
2.
tolerance to risk
3.
acceptance of risk
4.
capacity for loss
capacity for loss
Capacity for loss’ assesses how well a customer can cope with risk. This involves looking at their other assets and liabilities, plus future requirements.
51
You have completed a fact find with your clients and established their attitude to investment risk. Why would you NOT look at available tax-incentives that are appropriate to your clients’ tax status next?
1.
Because suitable investments should be established before looking at tax incentives
2.
Because you have already taken this into account in risk profiling
3.
As the client first needs to seek professional tax advice from an accountant
4.
To avoid over committing the client to investments they cannot afford
Because suitable investments should be established before looking at tax incentives
Tax incentives are all well and good, but an adviser should first establish which investment types are suitable for the client.
52
Peter is decumulating his investments as he has just retired, and he wants to ensure that his living standards are sustainable for the rest of his life. To preserve the value of his income in real terms he will need to…
1.
take more income and capital growth produced by his assets
2.
decrease the portfolio risk profile to counteract inflation effects
3.
take the income by capital withdrawals
4.
take no more income than his portfolio’s combined income and growth, less inflation
take no more income than his portfolio’s combined income and growth, less inflation
To preserve the value of a portfolio an investor should not withdraw more than the income and growth a portfolio produces, less inflation. Ideally, they should leave some of this income and growth within the portfolio.
53
You have recommended to Sarah, one of your cautious clients, that she sells some of her equity holdings rather than fixed-interest securities, to pay for the wedding of her daughter. This recommendation is MOST likely to be made if Sarah…
1.
needs the funds quickly
2.
is overweight in equities
3.
is reacting to a fall in interest rates
4.
is reacting to a more volatile market
is overweight in equities
If Sarah’s portfolio is overweight in equities and she is a cautious client, selling some of this holding will help ‘rebalance’ her portfolio back in line with her attitude to risk.
54
A high-risk investor has an investment horizon of 15 years up to retirement, and a short term (2-year) horizon to buy his daughter a car for £3,000.
If the total investment amount is £20,000 what would be the MOST appropriate asset allocation to recommend?
1.
Invest in low risk assets for 2 years and then rebalance
2.
Invest £20,000 in equities and pay for the car by a capital withdrawal 2 years later
3.
Invest £17,000 in equities and £3,000 in low-risk assets
4.
Invest the entire £20,000 in medium risk assets as this balances out the high ATR
Invest £17,000 in equities and £3,000 in low-risk assets
Any monies required short-term (within 5 years) should be invested in low-risk, easily-accessible assets such as cash deposits. Therefore, the best answer available for this high-risk investor should be to invest £17,000 in equities and £3,000 in low risk assets.
It is better to have them separate
55
A financial adviser completing a fact-find and satisfying the know your customer requirements will help the…
1.
adviser to establish the maximum amount he can charge the customer
2.
adviser calculate the Ongoing Fund Charge for his recommended product
3.
client to choose the most tax efficient investment from the adviser’s range of products
4.
client to identify their objectives and time horizon
client to identify their objectives and time horizon
The purpose of the factfind is to establish goals, needs, wants and any barriers.
56
Clare set up her equity portfolio 2 years ago and it was benchmarked against the FTSE All Share index. This suggests that the portfolio…
1.
contains shares in both FTSE 100 and FTSE SmallCap indices
2.
is consistent with Sarah’s speculative risk attitude
3.
does not contain shares from FTSE SmallCap and FTSE Fledgling indices
4.
contains shares in both FTSE 100 and FTSE Fledgling indices
contains shares in both FTSE 100 and FTSE SmallCap indices
The FTSE All Share Index will contain both FTSE 100 and smaller UK company shares within it. If Sarah had a speculative ATR, she would probably invest in an index that is tracking more speculative shares.
57
You are the adviser to a client with a broad asset mix in their investment portfolio. You have not been able to identify a suitable recognised index to benchmark the portfolio against. It would be best to…
1.
benchmark against the index with the closest asset allocation match
2.
identify weighting of asset classes in the portfolio and benchmark against more than one index
3.
benchmark against other clients who have similar portfolios
4.
compare the portfolio’s overall performance after 1 year against the best available cash savings rate to demonstrate the value that has been added
identify weighting of asset classes in the portfolio and benchmark against more than one index
Option B is the best option, of the 4 given. The adviser should identify the appropriate asset class weightings and use more than one index in this benchmarking process.
58
A financial adviser has the following clients:
Meryl, aged 63, retired and living off investment income
Tom, aged 32, a high earner with surplus monthly income
Chris, aged 22, who want to buy a house in 2 years’ time
Susie, aged 46, risk-averse with only cash-based savings
Which client’s investment objective is most likely to be capital growth?
1.
Meryl
2.
Tom
3.
Chris
4.
Susie
Tom
Tom has no current need for income so is most likely to have a capital growth investment objective. Chris does not have a long enough investment timescale to achieve this in. Susie is risk-averse, so only invests in cash-based savings. These do not provide capital growth, but income through interest payments.
59
You are rebalancing a client’s portfolio. This is mainly designed to…
1.
minimise income and capital gain tax liabilities
2.
amend the asset allocation to match a benchmark
3.
reduce overall exposure to market and specific risk
4.
ensure asset allocation is in line with client needs & risk tolerance
ensure asset allocation is in line with client needs & risk tolerance
Rebalancing a portfolio is designed to ensure that the asset allocation continues to match the client’s needs and risk tolerance.
60
A financial adviser is researching the following funds:
Fund / Fund Size (£m) / Investment Area
W / 162 / UK equities
X / 154 / Gilts/fixed-interest
Y / 200 / Tracker
Z / 40 /US smaller companies
Which fund is likely to have the HIGHEST Total Expense Ratio (TER)?
Fund Z
The smaller fund in terms of funds under management is likely to have the highest TER. In the TER, charges are expressed as a percentage of fund size, so much more likely to be highest when fixed costs are calculated as a percentage of a smaller fund.
61
Which of the following investors is most likely to pay the highest ongoing management charges on their portfolio?
1.
Dale who has £65,000 invested in a range of corporate bond OEICS
2.
Gary who has £65,000 invested into an investment trust
3.
Emma who has £60,000 invested in specialist unit trusts
4.
Benny who has £60,000 invested in tracker funds
Emma who has £60,000 invested in specialist unit trusts
The highest charges tend to be associated with specialist investments, making option C the correct answer. Investment trusts, corporate bond OEICs and tracker funds tend to have lower charges.
62
Jake has the following investments:
Fund / £ invested / Current value / Income
A £22,000 £35,000 £1,000
B £35,000 £48,000 £0
C £26,000 £32,000 £720
Which fund has given Jake the best return?
Fund A
This question requires the calculation of holding value returns. This is where the net return to the client is calculated, as a percentage of the amount invested.
Fund A: £1,000 + £35,000 – £22,000 = £14,000 ÷ £22,000 = 63.64%
Fund B: £48,000 – £35,000 = £13,000 ÷ 35,000 = 37.14%
Fund C: £720 + £32,000 – £26,000 = £6,720 ÷ £26,000 = 25.85%
Correct answer is therefore Fund A, option A.
63
Luke and James are both invested into Fund of Fund OEICs. Luke’s is fettered, and James is unfettered. When comparing the two you would correctly identify that…
1.
Luke’s fund is likely to be more expensive to run than James’s
2.
Luke’s fund is likely to have more investments from different companies than James’s
3.
James’s fund is likely to have more investments from different companies than Luke’s
4.
James’s fund is EU-based whereas Luke’s is UK-based
James’s fund is likely to have more investments from different companies than Luke’s
A fettered FoF is in house, one company and generally cheaper. An unfettered FoF can have internal funds from different marketing groups.
64
An investment fund has a positive Information Ratio. This confirms that…
1.
the fund manager has outperformed the relevant index / market
2.
the fund manager has performed better than expected given the fund’s beta
3.
the fund manager has produced a better risk-adjusted performance than similar funds
4.
the fund is in the top quartile in terms of performance
the fund manager has outperformed the relevant index / market
Information Ratio assesses how well the fund manager has performed in comparison to the benchmark. A positive Information Ratio means returns achieved have been better than the benchmark.
65
When considering using portfolio construction with particular reference to risk, which of the following methods is described as using a portfolio modelling tool?
1.
Replication
2.
Stochastic
3.
Stratified
4.
Long/ short
Stochastic
Stochastic modelling provides a probabilistic assessment of returns and volatility on a portfolio for an investor. Replication and stratified are to do with tracker funds. Long/short is a popular strategy used by hedge funds.
66
Which of the statements regarding collective funds costs and charges is TRUE?
1.
Performance fees are charged by most UK equity funds
2.
Annual Management Charges are higher on passive funds
3.
The OCF of a fund is never less than the AMC
4.
The initial charge is included when calculating OCF
The OCF of a fund is never less than the AMC
As a fund’s AMC is included as one of the charges that Ongoing Charges Figures (OCF) takes into account, it makes sense that OCF cannot be less than the AMC. TER takes all the charges levied on an investment and calculates them as a % of the overall fund value.
67
When comparing government stock with corporate bonds…
1.
both are likely to trade above par value if the coupon is higher than market interest rates
2.
only the government stock will trade without reference to the stock issuer
3.
both pay interest net of basic rate tax twice a year
4.
both have the same degree of credit risk associated with them
both are likely to trade above par value if the coupon is higher than market interest rates
Options B, C and D are all factually incorrect. Both corporate bonds and GILTS are likely to trade above par if the coupon is higher than market interest rates, as this will make them very attractive to investors.
68
A fund manager invests in Treasury Bills. She should be aware that…
1.
The maximum available term is 3 months
2.
They are considered risk-free investments
3.
Interest is always paid net of basic rate tax
4.
They are issued half-yearly
They are considered risk-free investments
Treasury Bills are available in 1, 3 and 6-month terms, making option A incorrect. These investments are considered risk-free as government-issued. Interest is usually paid gross. They are not necessarily issued half-yearly. It depends on the government PSNCR.
69
When considering the characteristics of index-linked GILTS…
1.
CPI is taken into account in calculating the annual coupon payments only
2.
income is paid net of basic rate tax
3.
both capital and income payments rise and fall in line with CPI
4.
the interest payment is based on CPI 6 months ago
both capital and income payments rise and fall in line with CPI
Index-linked GILT coupon payments are made gross and paid twice a year, not annually. Income and capital values rise in line with CPI.
70
A financial institution is considering investing into debentures, convertible loan stocks and floating-rate notes, issued by a UK bank.
In assessing the merits of each of these investments, they need to take into account that…
1.
any floating charge will be affected by property prices
2.
CGT may be payable on the convertible loan stocks
3.
the market value of the floating rate notes is likely to be volatile
4.
they will receive voting rights from the convertible loan stocks from the date of purchase
CGT may be payable on the convertible loan stocks
CGT is potentially paid on convertible loans stocks. All the other statements are incorrect. Options A and D are made up, FRNs stay closer to their nominal value, as coupons are not fixed, but variable.
71
Peter is looking to diversify his portfolio by buying residential buy to let properties. If he goes ahead…
1.
he should find a tenant for a minimum 5-year period
2.
his net yield will be the rent without costs received divided by the purchase price
3.
he will not be exposed to liquidity risk
4.
he may have to pay a stamp duty surcharge when he buys the properties
he may have to pay a stamp duty surcharge when he buys the properties
Option A is incorrect: there is no minimum tenant period. Option B is too simplistic: for net yield calculations, costs should be taken into account, such as any management fees and house purchase costs such as solicitor fees and SD. Property is exposed to liquidity risk. A Stamp Duty surcharge of 3% will be added to each rate (even the 0% rate).
72
Jackie, an experienced investor, is buying copper futures as she believes the price will rise. She should be aware that…
1.
prices will fall if demand in developing countries drops
2.
as a soft commodity, copper will be more volatile than hard commodities
3.
the investment return will be correlated to global equities
4.
she cannot trade the futures on the open market
prices will fall if demand in developing countries drops
Copper is a hard commodity as it is produced through mining rather than grown, so option B is incorrect. Copper futures are not correlated to global equities, so option C is incorrect. Futures are tradeable.
73
Ross has £10,000 invested into a Cash ISA in a building society account, and his wife Angela has £10,000 in an equity stocks and shares ISA with a bank. When comparing the two…
This is a multi-response question. Select one or more correct answers from the choices.
1.
Angela can invest the same amount as Ross in the current calendar year
2.
There is no capital gains tax or income tax to be paid on proceeds for either of them
3.
Ross has protection under the FSCS, and Angela doesn’t
4.
Angela is subject to more CGT than Ross
5.
Ross’ ISA can include collective investments that may be subject to a fluctuation in value
A B & E
The maximum investment for either cash or stocks/shares ISAs is £20,000 in the tax year. So, option A is correct. Both are covered under FSCS, so option C is incorrect. Neither ISA is subject to CGT, so option D is incorrect.
A Cash ISA can include investments that fluctuate in value provided they return at least 95% of the value after 5 years (the 5% rule), so E is correct.
74
Carrie is buying £12,000 of shares via a stockbroker using a stock transfer form and Julian is buying £5,000 online using CREST. Therefore…
This is a multi-response question. Select one or more correct answers from the choices.
1.
Julian’s Stamp Duty will be rounded up to the nearest £5
2.
Carrie will pay a PTM levy, but Julian will not
3.
Julian will pay 0.5% of the purchase price in Stamp Duty Reserve Tax
4.
Carrie will pay a lower rate of Stamp Duty than Julian
b & c
CREST share purchases are rounded up to the nearest penny, stock transfer form purchases are rounded up to the nearest £5. This means option A is incorrect. Carrie will pay the PTM levy as she has purchased shares for more than £10,000 whilst Julian has purchased less than this threshold, so option B is correct. The rate of SD on share purchases is the same at 0.5% regardless of the purchase method, making option C correct and D incorrect.
75
Iris has cumulative and Kenneth participating preference shares. When comparing the two…
This is a multi-response question. Select one or more correct answers from the choices.
1.
Iris will receive an additional payment based on company profits
2.
Kenneth’s shares will only pay a variable dividend
3.
if Iris does not receive a dividend one year, it will be carried over to the next year
4.
Kenneth is likely to receive a higher return than Iris in the same year if the company does well
C & D
Kenneth’s participating preference shares potentially benefit from extra payments linked to company profits, not Iris’ cumulative shares, so option A is incorrect. Preference shares pay fixed rather than variable dividends, so option B is incorrect. If Iris does not receive her fixed dividend in one year, her entitlement is carried over to the next year (cumulative) so option C is correct. Kenneth will receive a higher return than Iris, depending on the profits the company makes so option D is also correct.
76
Paul is comparing several companies, using published investment ratios, with a view to selecting ones to invest in long-term for growth. In reviewing these ratios Paul should…
This is a multi-response question. Select one or more correct answers from the choices.
1.
avoid companies with rising dividend cover
2.
assess the demand for a company’s shares looking at their P/E ratio
3.
consider any external factors that could affect share prices
4.
use earnings per share to identify the profitability trends
b c & d
Rising dividend cover does not automatically reflect poorly on a company per-se. They may be retaining profits for a reason (long term investment being an example) and this may provide good growth opportunity. PE ratio shows how the market views a company in terms of its earnings potential, so Option B is correct. All external factors should be considered prior to purchase, so option C is correct. Earnings per share also shows how profitable a company is, so option D is also correct.
77
When comparing the FTSE100 index with the FTSE AIM100 index an investor should remember that?
This is a multi-response question. Select one or more correct answers from the choices.
1.
Every stock listed on both indices must be liquid and readily tradable
2.
The FTSE100 index is based on company market capitalisation
3.
Both indices are real-time
4.
Only the constituents of the FTSE100 index are reviewed every quarter
a b & c
A, B and C are factually correct. Both indices have their constituents reviewed every quarter, so D is incorrect.
78
Dan, a high net worth individual, is considering diversifying his portfolio by investing into commercial property. If he proceeds…
This is a multi-response question. Select one or more correct answers from the choices.
1.
he may benefit from increasing rental income due to reviews specified in the lease
2.
the expected returns will be negatively correlated to equities
3.
he should look for properties with tenants on short term leases
4.
his rental yield could be higher than on residential property
5.
he will be increasing the liquidity risk within his portfolio
a d & e
With commercial property investment, regular rent reviews are the norm, so option A is correct. Property returns are not strongly correlated to equity returns however they are not negatively correlated, so option B is incorrect. An investor wants long-term, rather than short-term leases, so option C is incorrect. Rental yields could be higher than with residential property, so option D is correct. And property investment is illiquid, so option E is correct.
79
Angela is a low risk investor and is looking to invest a £60,000 inheritance into NS&I products. As her adviser you tell her that…
This is a multi-response question. Select one or more correct answers from the choices.
1.
her investment will be fully covered under FSCS
2.
she can invest up to £50,000 in Premium Bonds and any return will be tax free, although she might not get any return
3.
she may invest the full amount in Index-Linked Saving Certificates and her money will be protected against inflation risk
4.
Income Bonds will provide gross interest on a monthly basis, however the interest rate may change
b & d
The FSCS does not apply to NS&I products and Index-Linked Saving Certificates are currently not available to new investments, making A and C incorrect.
80
When placing £20,000 into a savings account with a UK bank, the individual should be aware that…
This is a multi-response question. Select one or more correct answers from the choices.
1.
if this is their only deposit, they are completely protected by the FSCS if the bank becomes insolvent
2.
if they are a higher rate taxpayer, they may have to pay additional tax on any interest received
3.
to achieve a positive real rate of return, the account will need to pay net interest in excess of inflation
4.
They are exposing their funds to capital risk
5.
Interest on all notice accounts will be paid gross but is potentially taxable
a, b, c & e
Deposits of up to £85,000 are FSCS protection so option A is correct. Interest will be paid gross so higher and additional rate taxpayers may have a liability making option B correct. Positive real returns are those above inflation, so option C is correct. Deposits are not subject to capital risk, and interest is, in fact, paid gross, so only option D is incorrect.
81
James is the compliance officer for an investment manager with oversight of a range of authorised UCITS unit trusts. Which of the following funds meet the UCITS rules?
This is a multi-response question. Select one or more correct answers from the choices.
1.
An equity fund that has borrowed 10% of its value for the past 6 months
2.
A tracker fund with 12% invested in one company
3.
A UK GILT fund with 10 holdings
4.
An equity fund with 10% invested in each of 5 companies
b & c
A fund can only borrow up to 10% on a temporary basis and 6 months would not meet this requirement, so option A is incorrect.
No more than 20% of a tracker fund can be invested in any one company, which rises to 35% in extreme market conditions, so option B is correct.
Whilst a minimum of 16 company shares must be held in an equity fund, a lower limit of 6 securities applies to government bonds from a single issuer, so option C is correct.
A UCITS fund can only invest the maximum 10% holding in up to 4 companies, so option D is incorrect.
82
The regulatory framework and structure of an OEIC means that…
This is a multi-response question. Select one or more correct answers from the choices.
1.
it issues units to investors based on a single price
2.
the depositary reports to investors twice a year
3.
a dilution levy can be charged, at the discretion of the ACD
4.
the ACD is responsible for ensuring the fund invests in line with its strategy
5.
taxation is identical to unit trusts
c, d & e
OEICS are a company, so issue shares, making option A incorrect. A depositary reports to investors at least annually, so option B is incorrect. A dilution levy is applied at the ACDs discretion, so option C is correct. The ACD is responsible for compliance, making option D correct. And the taxation of an OEIC is identical to that of a unit trust so option E is also correct.
83
Barbara works in the new product department of a building society and is considering launching a new Cash ISA. If the new product is to meet the minimum stakeholder requirements it is likely to include…
This is a multi-response question. Select one or more correct answers from the choices.
1.
an AMC limited to a maximum 1.5% for the first 10 years
2.
a minimum deposit no higher than £10
3.
a maximum charge of £25 for ISA transfers
4.
unlimited withdrawals at any time
5.
interest paid not less than 1% below Bank of England base rate
b, d & e
Cash ISA do not tend to have an AMC, so Option A is incorrect. They must offer a minimum one-off premium of no higher than £10, no transfer charges, no withdrawals restrictions and interest at least not less than 1% below Bank of England base rate, so options B, D and E are all correct.
84
Carl, an additional rate taxpayer with a high attitude to risk, has invested £60,000 into an EIS. As a result, he will…
This is a multi-response question. Select one or more correct answers from the choices.
1.
receive up to £18,000 income tax relief on his investment
2.
avoid income tax relief claw-back if he keeps the shares for at least 2 years
3.
be unable to offset any losses against gains made elsewhere
4.
be able to invest both lump sum and regular payments
5.
invest in new ordinary shares
A & E
EIS investments receives 30% income tax relief, so option A is correct. Shares must be held for a minimum of 3 years to avoid tax relief claw-back, so option B is incorrect. Gains are tax-free after 3 years and any losses can be offset against gains elsewhere, so option C is incorrect. Only single premiums are available, so option D is incorrect. And EISs invest in new ordinary shares of unlisted smaller companies, so option E is correct.
85
Jackie is considering investing £25,000 into commercial property and has asked you to explain the differences between a property unit trust and a property insurance fund. You advise her that…
This is a multi-response question. Select one or more correct answers from the choices.
1.
only the unit trust can delay encashment payments by up to 6 months
2.
both will have any gains taxed to income tax
3.
the unit trust can be held within an ISA
4.
the unit trust is more tax efficient for a non-taxpayer
C & D
Both can delay encashment payments by up to 6 months, so option A is incorrect. Gains made in both are subject to CGT, so option B is incorrect. Property unit trusts can be ISA’d, so C is correct. If a unit trust invests in cash or fixed-interest securities, a non-taxpayer can reclaim any tax paid at source. This is not possible within a property insurance fund, so option D is correct.
86
Bill, aged 24, is thinking about buying a property within the next 5-10 years and has asked you to explain how a Lifetime ISA might be suitable for his needs. You explain that…
This is a multi-response question. Select one or more correct answers from the choices.
1.
if he does not buy a property, he will be able to withdraw his savings and retain any bonus from age 55 or when he retires, if later.
2.
he can contribute up to £4,000 per tax year up to age 50.
3.
both cash and stock and shares LISAs are available.
4.
a government bonus of 20% is added each time that he adds money to the LISA.
B & C
Contributions can be added to a LISA up to age 50 and Bill can hold either a cash or stocks & share LISA, so B and C are correct.
The LISA can be accessed from age 60 without loss of the bonus, if the savings are not used to purchase a property, so A is incorrect. The government bonus is 25%, so D is incorrect.
87
Which of the following statements are correct with regard to a cash and/or stocks and shares ISA?
This is a multi-response question. Select one or more correct answers from the choices.
1.
Distributions carry a 20% or 25% tax credit, reclaimable through self-assessment
2.
Property income distributions from REITs are paid gross to ISA holders
3.
Losses on a stocks and shares ISA can offset gains elsewhere in portfolio
4.
All interest from a cash ISA is paid gross
5.
Dividends from a stocks and shares ISA are exempt from any income tax liability
B,D & E
Cash ISAs are tax-free, as are stocks and shares ISAs. No other taxation is suffered within the ISA wrapper, so options B, D and E are correct.
88
Zara has invested £500,000 in an OEIC but is disappointed with her investment returns. As an adventurous investor, she has decided to cash in holdings and invest directly into equities. In doing so she will…
This is a multi-response question. Select one or more correct answers from the choices.
1.
be increasing her exposure to unsystematic risk
2.
pay more CGT on any gains from the disposal of direct equities
3.
have more control over her investment to be able to reflect any ethical considerations in her portfolio
4.
avoid paying future annual management charges
5.
be increasing the diversity of her portfolio
A,C & D
Zara will have less diversification, so she will be more exposed to unsystematic risk, making option A correct and option E incorrect. She can pay CGT if she holds shares via an OEIC or directly, so option B is incorrect. She will have more control over direct equity investments, so option C is correct. AMCs are not synonymous with direct equity investment, so option D is correct.
89
Liz has the following investments:
* Conventional with-profit fund £30,000
* Unitised with-profit fund £20,000
Which of the following statements are CORRECT?
Only the conventional with-profit fund will charge a market value reducer (MVR)
2.
Bonuses on the unitised with-profit fund could increase existing unit prices
3.
Both are designed to produce smoothed returns
4.
New units could be added to the unitised with-profit holding on an annual basis
5.
Bonuses will be added at least twice a year
B, C & D
Option A is incorrect, as an MVR could be levied on both fund types. Bonuses can increase unit prices, so option B is correct. Both are designed to provide investors with smoothed returns, so option C is also correct. Bonuses could also purchase extra units in a unitised WP fund, so option D is correct. Bonuses are added annually, so option E is incorrect.
90
Margaret has a hedge fund investment, that she has held for some time. This investment is likely to…
This is a multi-response question. Select one or more correct answers from the choices.
1.
have a low minimum premium
2.
have a high total expenses ratio
3.
have additional charges if the fund manager produces investment returns above a defined level
4.
aim for an absolute, positive return in all market conditions
5.
utilise a variety of strategies including the use of financial derivatives
B, C, D & E
Hedge funds tend to have higher minimum investment amount, so option A is incorrect. They have higher charges, so options B and C are correct. They aim for an absolute return regardless of how markets are performing and utilise a variety of investment strategies including derivatives, making options D and E also correct.
91
A financial adviser has recently reviewed a client’s investment portfolio and advised them to switch a number of investments. In what circumstances could this be appropriate?
This is a multi-response question. Select one or more correct answers from the choices.
1.
The client has a new need for income
2.
There is the opportunity for churning
3.
The adviser only gets paid a set fee on new investments
4.
Existing holdings have underperformed
5.
Asset allocation needs to be rebalanced due to market changes
A, D & E
Churning or making more in terms of fees are never acceptable reasons for switching investments, so options B and C are incorrect. All the other options given are valid reasons for switching.
92
When calculating the Money-weighted Rate of Return (MWR) and the Time Weighted Rate of Return (TWR)…
This is a multi-response question. Select one or more correct answers from the choices.
1.
MWR aims to eliminate the distortion of new monies invested
2.
MWR is also known as the internal rate of return
3.
TWR enables comparisons between fund managers
4.
MWR is the most accurate way of comparing portfolio returns
5.
TWR breaks down the assessment period into sub periods
B, C & E
MWR is the more simplistic measure, and does not eliminate the distortion that can occur when new money is added, whereas TWR does, so option A is incorrect. MWR is
known as the internal rate of return, so option B is correct, but is not the best way to compare portfolio returns, as this is TWR, so option D is incorrect. TWR enables fund manager returns to be compared, taking into account inflows and outflows of capital, as it breaks the investment down into sub periods. So, options C and E are also correct.
93
An investment manager has outperformed his benchmark by 2% during the previous year. Which of the following decisions are MOST likely to have provided positive performance attribution?
This is a multi-response question. Select one or more correct answers from the choices.
1.
Making a tactical asset allocation decision that led him to go underweight US bonds and overweight US equities. The US stock market subsequently outperformed bonds
2.
Deciding not to hold any oil company stocks which subsequently underperformed the benchmark
3.
Delaying the investment of money from new investors for a month during which yields on corporate bonds fell. He then invested into corporate bonds and yields returned to their former level
4.
Making a tactical asset allocation decision to overweight banks in the portfolio. Bank shares subsequently underperformed
A & B
Performance attribution measures asset allocation and stock selection to see how successful these have been, in terms of investment returns.
Going overweight an asset that subsequently outperforms will be positive. Likewise, not holding a stock that subsequently underperforms (i.e., being underweight relative to the benchmark) will be positive. So both A and B are correct.
If bond yields fall, then the price of bonds will rise making them more expensive to purchase. If the yield then reverts back, the price falls and the investment will be worth less. This timing decision (option C) is negative in terms of performance.
Option D is the opposite of option A and is incorrect.
94
Adam has a portfolio of shares on which he has a potential capital gain of £50,000. He asks you about the implications if he switched the portfolio into an investment fund with your company. You inform him that the gain…
This is a multi-response question. Select one or more correct answers from the choices.
1.
cannot be offset against other realised losses
2.
can sometimes be avoided by transferring assets to a spouse
3.
may be worth paying if the switch improves long term performance
4.
can be avoided using rollover relief as he is investing into an equity OEIC
B & C
CGT gains can be offset against losses elsewhere as long as they are not made in tax-exempt investments such as an ISA or EIS, so option A is incorrect. Gains on transferring between spouses are exempt, so option B is correct. Option C is correct (as this is simply a logical statement). Option D is incorrect, as rollover relief does not apply to OEICS.
95
Edward is 64 and you are meeting him to conduct the annual review. His investment portfolio of £250,000 is a key part of his strategy to provide income in retirement. Why might it be appropriate to recommend rebalancing his portfolio?
This is a multi-response question. Select one or more correct answers from the choices.
1.
To accelerate the rate of growth in the last few years before his retirement as he might have a shortfall in the level of fund he needs
2.
To realise gains to pay the capital gains tax due before his income reduces
3.
To reduce equity exposure, to limit risk, and ‘lock in’ gains
4.
To switch out of growth stocks and into corporate bonds
C & D
As clients approach retirement, they are more likely to want to limit their risk, to avoid last minute sharp falls in capital values, and switch their aim to income rather than growth. So, options C and D are correct.
Option A is incorrect as the time horizon is too short to add risk. If his income is going to be lower, he may have less CGT to pay in future on the gains, so B is incorrect.
96
Trevor is reviewing a client’s portfolio. It started the year with a value of £60,000. A further £5,000 was invested after 6 months and, at the end of the year, the portfolio was worth £72,000. Therefore…
This is a multi-response question. Select one or more correct answers from the choices.
1.
the money-weighted return (MWR) is 11.2%
2.
the time-weighted return (TWR) is 11.2%
3.
the performance measure is not valid for evaluating different portfolio
4.
the investment is likely to be in the top quartile of performance measures
A & C
The MWR is calculated as:
Value at end – Value at start – new money added. (£72,000 – £60,000 – £5,000 = £7,000) divided by value at start (£60,000) + proportionate money added (in this case £5,000 for six months i.e. £2,500) total £62,500. £7000 ÷ £62,500 = 11.2% so answer A is correct.
The appropriate performance measure where cashflows are involved and we want the investor’s return is the MWR, so B is incorrect. The MWR is not suitable for comparison of different portfolios, so C is correct. It is impossible to say if the investment is top quartile, so D is incorrect.
97
In assessing the performance of a fund manager, it is important to take into account…
This is a multi-response question. Select one or more correct answers from the choices.
1.
the performance of risk-free investments over the same period
2.
how effective their stock picking skills were
3.
their skill in deciding whether to introduce or withdraw money from the fund
4.
the size and experience of the team supporting the fund manager
5.
their success in adjusting asset allocation over the period
A B & E
The performance of risk free investments is important in deciding were the risks taken worth it, so option A is correct. Options B and E are also valid assessments.
The manager’s team may be an important consideration when deciding whether to invest however it is not relevant when assessing performance , so option D is incorrect. The manager has no control over when money is introduced or withdrawn so C is incorrect.
98
A portfolio was established to match a benchmark asset allocation and has performed as follows:
Asset Weighting Performance
UK equities 40% 10%
Overseas equities 30% 12%
Fixed-interest 20% 8%
Cash 10% 5%
This means that…
This is a multi-response question. Select one or more correct answers from the choices.
1.
the return contribution on UK equities to the portfolio as a whole is 4.0%
2.
The overall return of the portfolio as a whole is 9.7%
3.
the return contribution on fixed-interest to the portfolio as a whole is 2%
4.
the overseas equities have provided the greatest contribution to the return of the portfolio
A & B
This question requires you to calculate each asset’s return. This is achieved by taking the weighting and multiplying it by the performance percentage. So,
UK equities 40 x 10% = 4.0%
Overseas equities 30 x 12% = 3.6%
Fixed-interest 20 x 8% = 1.6%
Cash 10 x 5% = 0.5%.
Total portfolio return = 9.7%
From this you can conclude that answers A and B are correct.
99
Lydia has two investments and asks you about the following information that she has seen on the fund factsheets.
Fund Information Ratio Sharpe Ratio Alpha
A 0.8 0.75 0.3
B 0.5 0.45 0.6
After comparing the two funds you tell Lydia that…
This is a multi-response question. Select one or more correct answers from the choices.
1.
the performance of Fund A has been more volatile than Fund B
2.
Fund A has provided a higher return than Fund B after allowing for the risk taken by each fund
3.
both funds must be a tracker funds as they have provided positive alpha
4.
the manager of Fund A has added more value than the manager of Fund B relative to their benchmark
B & D
The Sharpe Ratio provides the risk-adjusted return of an investment, and Fund A has a higher ratio, so B is correct.
A higher information ratio indicates that a manager has added more value through active management, so D is correct.
There is insufficient information to say which fund has been more volatile, and positive alpha indicates active management not passive.
100
A balanced investor would normally include which of the following in their portfolio?
This is a multi-response question. Select one or more correct answers from the choices.
1.
GILTS
2.
Larger overseas listed companies
3.
Venture Capital Trusts
4.
Unlisted securities
5.
Cash
A, B & E
A balanced investor would include all the main asset classes in their portfolio, avoiding those that are too high-risk. This would mean avoiding venture capital and unlisted securities, options C and D, but including the remaining options.
