Chapter 13
Structuring the Global Investment Process
1. Sell-side analysts supply research to brokers for use in selling trading ideas to investors. Buy-side
analysts work for investment managers and institutional investors.
2. In a pay-as-you-go retirement system, active workers pay for the retirement of retired workers. In a
3. Asset management is a low-margin business compared with investment banking, but profits are more
stable.
4. Four methods of indexing are: full replication, stratified sampling, optimization sampling, and
5. Four approaches to currency management are: (1) treat currencies as a residual variable, (2) fully
hedge currencies, (3) minimize currency risk while exploiting currency opportunities, and (4) use a
currency overlay manager. The residual variable approach accepts whatever currency exposure is
6. If the portfolio’s returns are normally distributed and independent, with a mean of 9.82 percent and a
standard deviation of 8 percent, a loss of 6.18 percent lies 9.82 − 2 8 = 2 standard deviations below
7. Before looking at the following year, it is useful to make sure that the advisor’s original calculations
are understood. The portfolio principal was €1,900,000. Assuming that return expectations of
9.82 percent were met, James Timor would have gained 186,580 after paying management fees and
Chapter 13 Structuring the Global Investment Process 95
Unfortunately, the return on the portfolio the following year was −6.18 percent, or a loss of 117,420.
It will now become more difficult for Timor to meet his spending needs and at the same time preserve
the real value of his portfolio. For example a return rate of 9.82 percent would allow an amount to be
spent of:
Principal:
1,683,000
Return rate
0.0982
165,278
8. Because the defined benefit is risk-free, the present value of the annuity should be calculated at the
risk-free rate of 3 percent, making the annuity worth approximately $550,000. The assumption in the
offer is that it should be evaluated at a rate close to the 11 percent expected annual return on the
market. The offer should be rejected.
9. With his savings of approximately $212,000, this individual can “guarantee” himself a spending rate
of almost $15,000 per year for thirty years beginning at the end of three years, using the three percent
10. For an individual planning to retire in 10 years, with a thirty-year life expectancy in retirement, and
11. The investor should be upset at losing money but once it is lost there are no grounds to be upset at
12. A catch-up, aggressive-growth strategy is a gambling strategy without merit. This investor actually
has probably a low ability to take risk and hence a low risk tolerance. In an investment policy
96 Solnik/McLeavey • Global Investments, Sixth Edition
13. If an asset class has a 0.25 correlation with the market portfolio and the market portfolio has a Sharpe
14. If the equilibrium Sharpe ratio required for a well-diversified portfolio is 0.25 and the world
market portfolio has a volatility of 19 percent, then the risk premium on the market would be 0.25
15. The full hedging approach has three flaws. First it ignores expected return and the theory of why
some currencies would have a positive risk premium. Second, it ignores the correlation between
16. The chief merit of a 50 percent hedging ratio is the minimization of regret. Choosing no-hedging will
expose to losses as soon as the foreign currency depreciates, and the losses can be huge and rapid.
17. Fully hedged, he would have sold US$159,600 forward to receive A$285,000 at US$:A$ = 1/0.56 =
1.7857. At the end of the period, he pays $270,508 to buy back US$159,600 at the rate US$:A$ =
1/0.59 = 1.6949. He has gained A$285,000 − A$270,508 = A$14,492. That represents a 5.08%
contribution in additional performance to the un-hedged portfolio return.
18. He would have sold US$79,800 forward to receive A$142,500 (half his A$285,000 U.S. equity