- CFA Exams
- 2024 Level I
- Topic 3. Portfolio Management
- Learning Module 4. Basics of Portfolio Planning and Construction
- Subject 2. Investment Risk and Return Objectives, and Risk Tolerance
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Subject 2. Investment Risk and Return Objectives, and Risk Tolerance PDF Download
The investor's objectives are his or her investment goals expressed in terms of both risk and return. Why?
Investment firms survey clients to gauge their risk tolerance. Risk tolerance is an investor's attitude toward risk. It is segmented into ability and willingness to assume risk.
The investment adviser should work with the investor and reach a conclusion about the investor's risk tolerance consistent with the lower of the two factors (ability and willingness).
Risk objectives are specifications for portfolio risk that reflect the risk tolerance of the client. Quantitative risk objectives can be stated on an absolute or a relative basis. For example:
- Absolute risk objectives: not to lose more than 5% of the capital within a 12-month period; portfolio standard deviation not to exceed 25% at any time, etc.
- Relative risk objectives: match the performance of S&P 500, achieve returns within 3% of the DJIA, etc.
Return objectives can be stated in terms of absolute or a relative percentage return, or other terms. For example:
- 20% capital growth.
- beat the S&P 500 by 2%.
The return measure can be stated:
- before or after fees.
- on either a pre- or post-tax basis.
- as nominal or real returns.
User Contributed Comments 3
|personally, i'd rather have consistent absolute returns rather than relative returns.
market goes down 30% and your only down 20%, best of the worst, no thanks.
|jonan - this may answer a question, I saw in an earlier chapter, about why bonds are preferable to stocks.
I am happy to say that I passed! Your study notes certainly helped prepare me for what was the most difficult exam I had ever taken.
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