CFA Practice Question
Marianne Singleton needs to earn 6% on her client's portfolio over the next year. She is evaluating two asset classes, A and B, with expected returns of 7% and 8.5%; and variances of 186 and 296 respectively. Based on Roy's Safety First rule, which of the two asset classes should Marianne select?
A. Asset class A
B. Asset class B
C. Neither
Explanation: According to the safety-first rule, SF-ratioA = (7 - 6)/1861/2 = 0.073, SF-ratioB = (8.5 - 6)/2961/2 = 0.145. Since B has a higher SF-ratio, select asset class B.
User Contributed Comments 8
| User | Comment |
|---|---|
| mark98007 | "needs to earn 6%..." with those standard deviations, she is high risk if "needs" is the case; ~40% of the time she won't make it! |
| steved333 | SF and Sharpe are the same except that SF uses minimum rate whereas Sharpe uses market return. |
| sagania | I wonder what score steved333 is gone have... he knows everything,,, really good his comments. |
| johnmullrooney | I went with neiter too, Choosing A or B if you need 6% is way too risky... would probably get you fired! |
| Shcote | 14,5% chances of getting the minimum return is real low... neither was my answer. |
| dybacis | I know based on the numbers we can assume the variances are % same as returns but would be better if the question actually stated correct variances as 0.0186 and 0.0296, otherwise the answers would be 0.073% and 0.145% which is ridiculously low for a safety first ratio |
| schweitzdm | What does steved333 mean by "SF uses minimum rate"? |
| FozzeyBear | SF means safety first, and steved333 means that instead of subtracting the market rate, you subtract the "minimum" number you are trying to achieve - in this case 6. |