You are a U.S. investor who purchased British securities for £2,000 one year ago when the British
pound cost U.S.$1.50. What is your total return (based on U.S. dollars) if the value of the securities
is now £2,400 and the pound is worth $1.75? No dividends or interest were paid during this period
3. An investor in the common stock of companies in a foreign country may wish to hedge agains
of the investor's home currency and can do so by
the foreign currency in the
a depreciation; selling.
b. appreciation: purchasing
c. appreciation: selling
d. depreciation; purchasing
4. John Irish, CFA, is an independent investment adviser who is assisting Alfred Darwin, the head
the Investment Committee of General Technology Corporation to establish a new pension fund
Darwin asks Irish about international equities and whether the Investment Committee shoal
consider them as an additional asset for the pension fund
a. Explain the rationale for including international equities in General's equity portfolio, Ident
and describe three relevant considerations in formulating your answer
List three possible arguments against international equity investment and briefly discuss
significance of each.
To illustrate several aspects of the performance of international securities over
shows Darwin the accompanying graph of investment results experienced by a U.S
fund in the recent past. Compare the performance of the U.S. dollar and non-U.S. dollare
and fixed-income asset categories, and explain the significance of the result of
performance index relative to the results of the four individual asset class indexes
Real Returns (%)
Account Performance Index
Non-U.S. $ Bonds
Annualized Historical Performance Data
vield on invest $1 million in U.S. government cash equivalents equivalents. for as long as
the U.S. bond is expected to remain
lobal manager plans she is also to authorized to use non-U.S. government contracts cash
currency risk is the manager earn if she invests in money market instruments in the following in either
days. However, hedged to U.S. dollars using forward currency
Canada What rate or of Japan return and will hedges the dollar value of her investment? Use the data
tables What must be the approximate value of the 90-day interest rate available on U.S. government
Interest Rates (APR) 90-Day Cash Equivalents
Exchange Rates Dollars per Unit of Foreign Currency
Why 18 it harder to assess the performance of a hedge fund portfolio manager than that of a typi-
4 Which of the following is most accurate in describing the problems of survivorship bias and back-
cal mutual fund manager?
fill bias in the performance evaluation of hedge funds?
a. bias and backfill bias both result in upwardly biased hedge fund fund index index returns. returns
Survivorship bias and backfill bias both result in downwardly biased hedge bias results
b. C. Survivorship Survivorship bias results in upwardly biased hedge fund index returns. but backfill
Which of the following would be the most appropriate benchmark to use for hedge fund
in downwardly biased hedge fund index returns
a. A multifactor model.
b. The S&P 500.
C. With The respect to hedge fund investing, the net return to an investor in a fund of funds would be
lower than that earned from an individual hedge fund because of:
a b. No reason; fund of funds earn returns that are equal to those of individual hedge funds.
Both the extra layer of fees and the higher liquidity offered
7. C. Which of the following hedge fund types is most likely to have a return that is closest to risk-free?
The extra layer of fees only.
a A market-neutral hedge fund.
b. An event-driven hedge fund.
c. A long/short hedge fund.
8. Is statistical arbitrage true arbitrage? Explain
A fund with $1 billion of assets charges a management fee of 2% and an total incentive fees, both fee of in
20% hedge of returns over a money market rate, which currently is 5%. Calculate of:
dollars and as a percent of assets under management, for portfolio returns
14. The following is part of the computer output from a regression of monthly returns on Water
works stock against the S&P 500 index. A hedge fund manager believes that Waterworks
underpriced, with an alpha of 2% over the coming month.
06 (i.e., 6% monthly)
a If he holds a $2 million portfolio of Waterworks stock and wishes to hedge market exposu
for the next month using 1-month maturity S&P 500 futures contracts, how many contrag and
should he enter? Should he buy or sell contracts? The S&P 500 currently is at 1,000
contract multiplier is $250.
b. What is the standard deviation of the monthly return of the hedged portfolio?
c. Assuming that monthly returns are approximately normally distributed, what is Assumo the
ability that this market-neutral strategy will lose money over the next month?
risk-free rate is 5% per month.
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1. The primary rationale is the opportunity for diversification. Factors that contribute to low correlations of stock returns across national boundaries are:
i. imperfect correlation of business cycles
ii. imperfect correlation of interest rates
iii. imperfect correlation of inflation rates
iv. exchange rate volatility
Obstacles to international investing are:
i. Availability of information, including insufficient data on which to base investment decisions. Interpreting and evaluating data that are different in form and/or content than the routinely available and widely understood U.S. data is difficult. Much foreign data also are reported with a considerable lag.
ii. Liquidity, in terms of the ability to buy or sell, in size and in a timely manner, without affecting the market price. Most foreign stock exchanges offer (relative to U.S. norms) limited trading and involve greater price volatility. Moreover, only a (relatively) small number of individual foreign stocks enjoy liquidity comparable to that of U.S. stocks, although this situation is improving steadily.
iii. Transaction costs, particularly when viewed as a combination of commission plus spread plus market impact costs, are well above U.S. levels in most foreign markets. This, of course, adversely affects realized returns.
iv. Political risk.
v. Foreign currency risk, although this can be hedged to a great extent.
a. 10,000/2 = £