Study Notes for CFA® Level II – Portfolio Management – offered by AnalystPrep

Study Notes for CFA® Level II – Portfolio Management – offered by AnalystPrep

Reading 40: Exchange-Traded Funds: Mechanics and Applications

-a. Explain the creation/redemption process of ETFs and the function of authorized participants;

-b. Describe how ETFs are traded in secondary markets;

-c. Describe sources of tracking error for ETFs;

-d. Describe factors affecting ETF bid-ask spreads;

-e. Describe sources of ETF premiums and discounts to NAV;

-f. Describe the costs of owning an ETF;

-g. Describe types of ETF risk;

-h. Identify and describe portfolio uses of ETFs;

Reading 41: Using Multifactor Models

-a. Describe arbitrage pricing theory (APT), including its underlying assumptions and its relation to multifactor models;

-b. Define arbitrage opportunity and determine whether an arbitrage opportunity exists;

-c. Calculate the expected return on an asset given an asset’s factor sensitivities and the factor risk premiums;

-d. Describe and compare macroeconomic factor models, fundamental factor models, and statistical factor models;

-e. Explain sources of active risk and interpret tracking risk and the information ratio;

-f. Describe the uses of multifactor models and interpret the output of analyses based on multifactor models;

-g. Describe the potential benefits for investors in considering multiple risk dimensions when modeling asset returns;

Reading 42: Measuring and Managing Market Risk

-a. Explain the use of value at risk (VaR) in measuring portfolio risk;

-b. Compare the parametric (variance-covariance), historical simulation, and Monte Carlo simulation methods for estimating VaR;

-c. Estimate and interpret VaR under the parametric, historical simulation, and Monte Carlo simulation methods;

-d. Describe the advantages and limitations of VaR;

-e. Describe extensions of VaR;

-f. Describe sensitivity risk measures and scenario risk measures and compare these measures to VaR;

-g. Demonstrate how equity, fixed-income, and options exposure measures may be used in measuring and managing market risk and volatility risk;

-h. Describe the use of sensitivity risk measures and scenario risk measures;

-i. Describe the advantages and limitations of sensitivity risk measures and scenario risk measures;

-j. Explain constraints used in managing market risks, including risk budgeting, position limits, scenario limits, and stop-loss limits;

-k. Explain how risk measures may be used in capital allocation decisions;

-l. Describe risk measures used by banks, asset managers, pension funds, and insurers;

Reading 43: Backtesting and Simulation 

-a. Describe objectives in backtesting an investment strategy;

-b. Describe and contrast steps and procedures in backtesting an investment strategy;

-c. Interpret metrics and visuals reported in a backtest of an investment strategy;

-d. Identify problems in a backtest of an investment strategy;

-e. Evaluate and interpret a historical scenario analysis;

-f. Contrast Monte Carlo and historical simulation approaches;

-g. Explain inputs and decisions in simulation and interpret a simulation;

-h. Demonstrate the use of sensitivity analysis.

Reading 44: Economics and Investment Markets

-a. Explain the notion that to affect market values, economic factors must affect one or more of the following: 1) default-free interest rates across maturities, 2) the timing and magnitude of expected cash flows, and 3) risk premiums;

-b. Explain the role of expectations and changes in expectations in market valuation;

-c. Explain the relationship between the long-term growth rate of the economy, the volatility of the growth rate, and the average level of real short-term interest rates;

-d. Explain how the phase of the business cycle affects policy and short-term interest rates, the slope of the term structure of interest rates, and the relative performance of bonds of different maturities;

-e. Describe the factors that affect yield spreads between non-inflation adjusted and inflation-indexed bonds;

-f. Explain how the phase of the business cycle affects credit spreads and the performance of credit-sensitive fixed-income instruments;

-g. Explain how the characteristics of the markets for a company’s products affect the company’s credit quality;

-h. Explain how the phase of the business cycle affects short-term and long-term earnings growth expectations;

-i. Explain the relationship between the consumption-hedging properties of equity and the equity risk premium;

-j. Describe cyclical effects on valuation multiples;

-k. Describe how economic analysis is used in sector rotation strategies;

-l. Describe the economic factors affecting investment in commercial real estate;

Reading 45: Analysis of Active Portfolio Management

-a. Describe how value added by active management is measured;

-b. Calculate and interpret the information ratio (ex-post and ex-ante) and contrast it to the Sharpe ratio;

-c. State and interpret the fundamental law of active portfolio management including its component terms—transfer coefficient, information coefficient, breadth, and active risk (aggressiveness);

-d. Explain how the information ratio may be useful in investment manager selection and choosing the level of active portfolio risk;

-e. Compare active management strategies (including market timing and security selection) and evaluate strategy changes in terms of the fundamental law of active management;

-f. Describe the practical strengths and limitations of the fundamental law of active management;

Reading 46: Trading Costs and Electronic Markets

-a. Explain the components of execution costs, including explicit and implicit costs;

-b. Calculate and interpret effective spreads and VWAP transaction cost estimates;

-c. Describe the implementation shortfall approach to transaction cost measurement;

-d. Describe factors driving the development of electronic trading systems;

-e. Describe market fragmentation;

-f. Distinguish among types of electronic traders;

-g. Describe characteristics and uses of electronic trading systems;

-h. Describes the comparative advantages of low-latency traders;

-i. Describe the risks associated with electronic trading and how regulators mitigate them;

-j. Describes abusive trading practices that real-time surveillance of markets may detect;

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