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CIFA ADVANCED LEVEL
COURSE OUTLINE
GENERAL OBJECTIVE
This paper is intended to equip the candidate with the knowledge, skills and attitudes that will enable him/her to apply advanced portfolio management skills.
LEARNING OUTCOMES
A candidate who passes this paper should be able to:
- Identify the different types of individual and institutional investors
- Allocate different asset classes when constructing a portfolio
- Analyse different strategies used to manage a portfolio of different asset classes
- Apply trade execution decisions and techniques in portfolio management
- Undertake portfolio monitoring and rebalancing processes
- Evaluate the performance of a portfolio.
CONTENT
Managing individual portfolios and institutional investors:
Individual investors:
- Overview of investor characteristics: situational profiling (source of wealth, measure of wealth, stage of life); psychological profiling (traditional finance, behavioural finance, personality typing)
- Investment policy statement for an individual investor
- Strategic asset allocation for an individual investor: Monte Carlo simulation in personal retirement planning
Institutional investors:
- Overview of pension funds: defined-benefit and defined-contribution plans; pension fund risk tolerance; defined benefit and defined contribution investment policy statement; risk management considerations; hybrid pension plans; employee share ownership plans
- Other institutional investors: Foundations, endowments, Insurance industry (life and non-life insurance companies), banks, investment intermediaries and other institutional investors; their background and investment setting
Asset allocation
- Overview of asset allocation: role of asset allocation in portfolio management; strategic versus tactical asset allocation; importance of asset allocation in portfolio performance; steps involved in establishing an appropriate asset allocation
- Asset allocation and investors and return objectives: dynamic versus static asset allocation; factors affecting asset allocation policy(loss aversion; mental accounting; fear of regret); return and risk objectives in relation to asset allocation
- Selection of asset classes: criteria for specifying asset classes; inclusion of international assets (developed and emerging markets)
- Optimisation approaches to asset allocation: mean-variance approach (Its application when adding an asset class in an existing portfolio); resampled efficient frontier; experience based approaches; asset only, asset/liability management (ALM); ); Black– Letterman approach: Monte-Carlo Simulation
- Nondomestic equities and bonds: Their associated risks, costs and opportunities
- Conditional return correlations: their importance when evaluating the diversification effects of nondomestic investments
- Integrating a segmented market with a global market: expected effects on share prices expected returns, and return volatilities
- Formulation and justification of minimum-variance frontier given investment policy statement and capital market expectations
Fixed income portfolio management
- Use of liability as a benchmark and use of bond index as a benchmark with respect to investment objectives
- Managing funds against a bond market: classification of strategies (pure bond indexing/full replication approach, enhanced indexing and active investing, full- blown); selection of a benchmark bond index and factors to consider(market value risk, income risk, liability framework risk); use of bond market indices
- Techniques used to align the risk exposures of the portfolio with those of the benchmark bond index: duration matching technique, key rate durations technique
- Assessment of the risk and return characteristics of a proposed trade: total return analysis, scenario analysis
- Bond immunisation strategy: its formulation and evaluation under various interest rate scenarios
- Spread duration and its importance
- Extension of classical immunisation theory: introduction of contingent immunisation
- Risks associated with managing a portfolio against a liability structure: interest rate risk, contingent claim risk, cap risk
- Immunisation strategies for single liability, multiple liabilities and general cash flows: their advantages and disadvantages
- Immunised portfolios: risk immunisation and return maximisation
- Cash flow matching: its use in funding a fixed set of future liabilities; its advantages and disadvantages
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Relative value methodologies for global credit bond portfolio management
- Classic relative value analysis based on top down and bottom up approaches to credit bond portfolio management
- Cyclical supply and demand changes: their implications in the primary bond markets; impact of secular changes in the markets dominant structures
- Investors short term and long term liquidity needs: their influence on portfolio management decisions
- Common rationale for secondary market trading
- Corporate bond portfolio strategies
International and emerging market fixed-income portfolio management strategies
- Effect of leverage on portfolio duration and investment returns
- Use of repurchase agreements (repos) to finance bond purchases: Factors affecting the repo rate
- Measures of fixed income portfolio risk: standard deviation, target semi variance, shortfall risk and value at risk (VaR)
- Use of futures instead of cash market instruments to alter portfolio risk
- Formulation and evaluation of an immunisation strategy based on interest rates
- Use of interest rate swaps and options to alter portfolio cash flows and exposure to interest rate risk; use of credit derivative instruments to address default risk, credit spread risk and downgrade risk in the context of fixed income portfolio
- Potential sources of excess return for an international bond portfolio
- Effect of change in value for a foreign bond when domestic interest rates change, and the bond’s contribution to duration in domestic portfolio, given the duration of the foreign bond and the country beta
- Hedging currency risk in international bond markets; break even spread analysis in seeking yield advantages across international bond market; investing in emerging market debt:
- Criteria for selecting a fixed income manager
Equity portfolio management
- Role of the equity in the overall portfolio
- Equity investment approaches: passive approach; active approach; semi-active (enhanced-index ) approach; their relevance with respect to expected active return and tracking risk
- Weighting schemes used in the construction of major equity market indices and the biases associated with each
- Passive equity investing: alternative methods for establishing passive exposure to an equity market; indexed separate or pooled accounts, index mutual funds, exchange-traded funds, equity index futuresand equity total return swaps
- Approaches to constructing an indexed portfolio: full replication, stratified samplingand optimisation
- Active equity investing: equity investment–styles classifications and risks associated with each; techniques for identifying investment styles; equity style indices; equity style box analysis and style drift; long–short and long-only investment strategies; ‘equitised’ market-neutral and short-extension portfolios; sell disciplines/trading of active investors
- Semi-active equity investing (enhanced-index): derivatives-based and stock-based enhanced indexing strategies
- Managing a portfolio of managers: core-satellite approach to portfolio construction; effect of adding a completeness fund to control overall risk exposures
- Components of total active return (“true” active return and “misfit” active return) and their associated risk measures; alpha and beta separation as an approach to active management;
- Identifying, selecting, and contracting with equity managers
- Structuring equity research and security selection: top-down and bottom-up approaches to equity research
Alternative investments portfolio management
- Introduction to alternative investments portfolio management
- Selection of active managers of alternative investment scheme
- Alternative investment benchmarks: construction and interpretation; benchmark bias
- Return enhancement and risk diversification effects of adding an alternative investment to a reference portfolio(for instance a portfolio of bonds and equity only)
- Venture capital: major issuers and suppliers; purpose of venture capital; buyout funds; use of convertible preferred stock in direct venture capital investment
- Private equity fund: typical structure and timelines; formulating private equity investment strategy
- Commodity investments: direct and indirect commodity investment; components of return for commodity futures contracts; role of commodities in a portfolio
- Hedge funds: typical structure; high water- mark provisions; fund-of-funds; performance and evaluation
- Managed futures: trading strategies; role in a portfolio
- Distressed securities: risks associated with investing in distressed securities including event risk, market liquidity risk, ‘J-factor’ risk
Currency portfolio management
- Effects of currency movements on portfolio risk and return
- Strategic choices in portfolio management
- Active currency trading strategies based on economic fundamentals, technical analysis, curry trade and volatility trading
- Adjusting the hedge ratio using forward contracts and foreign exchange (FX) swaps
- Trading strategies used to reduce hedging costs and modify the risk return characteristics of a foreign currency portfolio
- Portfolios exposed to multiple foreign currencies: use of cross-hedges ratio, macro- hedges ratio, minimum-variance-hedge ratio
- Challenges for managing emerging market currency exposures
Execution of portfolio decisions
- The context of trading: market microstructure: order types and their price and execution uncertainties, their effective spread and their quoted bid ask spread ; types of markets and their quality; roles of brokers and dealers
- Costs of trading: transaction costs components (explicit and implicit costs); implementation shortfall and volume weighted average price (VWAP) as measures of transaction costs; use of econometric methods/models in pre-trade analysis to estimate implicit transaction costs
- Major types of traders: their motivation to trade, time versus price preferences and preferred order types; major trading tactics ;algorithmic trading strategies and determining factors including order size, average daily trading volume, bid–ask spread and the urgency of the order
- Trade execution decision and tactics: meaning and criteria of best execution; firm’s investment and trading procedures, including processes, disclosures and record keeping with respect to best execution
- Role of ethics in trading
Portfolio monitoring and rebalancing
- Monitoring : fiduciary’s responsibilities in monitoring an investment portfolio; monitoring of investor circumstances, market/economic conditions and portfolio holdings; revisions to an investor’s investment policy statement and strategic asset allocation, given a change in investor circumstances
- Rebalancing: benefits and costs of rebalancing a portfolio to the investor’s strategic asset allocation; calendar rebalancing; percentage-of-portfolio rebalancing; optimal corridor width of an asset class; target portfolio rebalancing versus allowed range portfolio rebalancing; rebalancing strategies (linear, concave, and convex rebalancing strategies); constant mix, buy-and-hold, and constant proportion portfolio insurance (CPPI) rebalancing strategies
Evaluating portfolio performance
- Importance of performance evaluation from the perspective of fund sponsors and the perspective of investment managers
- Components of performance evaluation: performance measurement, performance attribution and performance appraisal
- Performance measurement: total, time-weighted, money-weighted rates of return, linked internal rate of return and annualized return
- Benchmarks: concept of a benchmark; properties of a valid benchmark; types; steps involved in constructing a custom security-based benchmark; validity of using manager universes as benchmarks; tests of benchmark quality; hedge funds and hedge fund benchmarks
- Performance attribution: inputs for micro and macro attribution; use of macro and micro performance attribution methodologies to identify the sources of investment performance; use of fundamental factor models in micro performance attribution
- Performance appraisal: risk-adjusted performance measures, including (in their ex post forms) alpha, information ratio, Treynor measure, Sharpe ratio and Modigliani- Modiglian measure(M2 ) ;incorporation of portfolio’s alpha and beta into the information ratio, Treynor measure, and Sharpe ratio; use of performance quality control charts in performance appraisal
- Practice of performance evaluation: noisiness of performance data; manager continuation policy decisions
