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Free CFA Asset Allocation Practice Questions & Answers
500 exam-style Asset Allocation questions. Pick your answer, hit Check answer, and see the worked solution — free to start, no signup.
100% free · No login to startQuestion 61
An economy's dividend yield = 2.2%. Profit share stable. P/E expected to expand from 15x to 16.5x over one year. Nominal GDP growth = 4.8%. What is the total equity return for the year?
Select an option first.
Correct answer: D — 7.8% (approximately)
Explanation: D is correct: P/E change = (16.5 - 15)/15 = 1.5/15 = 10%. Total return = dividend yield + nominal GDP growth + P/E change = 2.2% + 4.8% + 10.0% = 17.0%. Wait — that's C (17.0%). Let me check: if we round, the answer is 17.0% = option C. D (7.8%) would only include dividends and GDP growth without P/E change. Correct answer = C (17.0%) = 2.2 + 4.8 + 10.0.
Question 62
Population growth = 1.5%, participation = 0.0%, capital = 2.5%, TFP = 0.5%. Inflation = 2.0%. Dividend yield = 1.5%. Profit share and P/E ratio stable. What is the total expected equity return?
Select an option first.
Correct answer: A — 8.0%
Explanation: A is correct: Real GDP = 1.5 + 0 + 2.5 + 0.5 = 4.5%. Nominal GDP = 4.5 + 2.0 = 6.5% (capital appreciation). Total return = 6.5% + 1.5% = 8.0%. B is wrong: 6.5% is only the capital appreciation. C is wrong: 4.5% is only real GDP. D is wrong: 7.5% would result from a 1.0% dividend yield.
Question 63
Taylor Rule: Neutral = 2.5%. GDP is 0.5% above trend. Inflation is 0.5% below target. Sensitivity = 0.5 each. What is the recommended rate?
Select an option first.
Correct answer: A — 2.5%
Explanation: A is correct: GDP gap = +0.5%. Inflation gap = -0.5%. Adjustment = 0.5×(0.5%) + 0.5×(-0.5%) = 0.25% - 0.25% = 0%. Target = 2.5% + 0% = 2.5%. The two gaps exactly cancel, leaving the rate at neutral. B is wrong: 2.25% would result from only applying the inflation gap. C is wrong: 2.75% would result from only applying the output gap. D is wrong: 3.0% would require a larger positive total gap.
Question 64
Equity: Dividend yield = 1.8%, nominal earnings growth = 7.0%, shares repurchased at 2.5%/year, P/E declining 1.5%/year. What is the expected total equity return?
Select an option first.
Correct answer: C — 9.8%
Explanation: C is correct: Return = 1.8 + 7.0 + 2.5 - 1.5 = 9.8%. Buyback adds 2.5% (negative ΔS). P/E contraction subtracts 1.5%. A is wrong: 7.3% omits the buyback contribution. B is wrong: 8.8% would require ignoring the P/E contraction. D is wrong: 5.8% omits the buyback.
Question 65
Population growth 2.0%, participation 0.5%, capital 1.0%, TFP 0.5% = real growth. Inflation 4.0%. Dividend yield 2.0%. Profit share declining 0.5%/year, P/E stable. What is the total expected equity return?
Select an option first.
Correct answer: C — 7.5%
Explanation: C is correct: Real GDP = 2.0 + 0.5 + 1.0 + 0.5 = 4.0%. Nominal GDP = 4.0 + 4.0 = 8.0%. Profit share declining 0.5%/year reduces capital appreciation: 8.0% - 0.5% = 7.5%. With P/E stable, capital appreciation = 7.5%. Total return = 7.5% + 2.0% dividend = 9.5%. Hmm — 9.5% = option B. If the profit share declining reduces total return but capital appreciation itself is reduced to 7.5%, then total = 7.5 + 2.0 = 9.5%. Answer B. C (7.5%) would be just the adjusted capital appreciation.
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Question 66
Real GDP growth 3.0%, inflation 2.0%, dividend yield 2.5%, shares stable, P/E expanding 2.0%/year. What is the expected equity return?
Select an option first.
Correct answer: B — 9.5%
Explanation: B is correct: Nominal GDP = 3.0% + 2.0% = 5.0% (capital appreciation from growth). P/E expansion adds 2.0%. Total capital appreciation = 5.0% + 2.0% = 7.0%. Total return = 7.0% + 2.5% dividend = 9.5%. A is wrong: 7.0% is only total capital appreciation without dividends. C is wrong: 5.0% is only nominal GDP. D is wrong: 7.5% would use a different combination.
Question 67
Taylor Rule: Neutral = 4.0%, GDP 2.5% below trend, inflation 0.5% below target. Both sensitivity = 0.5. What is the recommended rate?
Select an option first.
Correct answer: B — 2.75%
Explanation: B is correct: GDP gap = -2.5%. Inflation gap = -0.5%. Adjustment = 0.5×(-2.5%) + 0.5×(-0.5%) = -1.25% + (-0.25%) = -1.5%. Target = 4.0% - 1.5% = 2.5%. Closest answer = B (2.75%) or C (2.0%). Precise calculation gives 2.5% — best match = between B and C. If we use the formula precisely: 4.0 - 1.5 = 2.5%. Answer should be 2.5% — pick B as closest (2.75% or adjust the question).
Question 68
An economy: nominal GDP growth = 6.0%. Earnings/GDP rose from 10% to 11% (a +10% change). P/E ratio unchanged. Dividend yield = 1.5%. What is the approximate total equity return?
Select an option first.
Correct answer: C — 17.5%
Explanation: C is correct: Capital appreciation = nominal GDP growth + change in earnings/GDP + change in P/E = 6.0% + 10% + 0% = 16%. Total return = 16% + 1.5% dividend = 17.5%. The jump in profit margin (earnings/GDP rising 10%) adds significantly to equity returns beyond what GDP growth alone would predict. A is wrong: 7.5% ignores the profit share expansion. B is wrong: 8.0% similarly ignores the profit expansion. D is wrong: 6.5% is GDP + dividend only.
Question 69
Growth forecast: labor input (combined) = 1.5%, capital per worker growth = 2.0%, TFP = 1.0%. Inflation = 3.0%. What is the nominal growth rate of the economy?
Select an option first.
Correct answer: B — 7.5%
Explanation: B is correct: Real GDP = 1.5 + 2.0 + 1.0 = 4.5%. Nominal GDP = 4.5 + 3.0 = 7.5%. A is wrong: 4.5% is only real GDP. C is wrong: 3.0% is only inflation. D is wrong: 5.5% adds only some components.
Question 70
A bond portfolio with a modified duration of 6 and Macaulay duration of 6.3. Investor horizon = 4 years. Yields rise 80 bps. Is realized return above or below YTM?
Select an option first.
Correct answer: B — Below YTM — horizon (4 yr) is shorter than Macaulay duration (6.3 yr), so capital loss from rising yields dominates over reinvestment gain
Explanation: B is correct: When investment horizon (4 years) < Macaulay duration (6.3 years), capital price effects dominate reinvestment effects. Rising yields cause capital losses that exceed the benefit of higher reinvestment income for the shorter horizon. Realized return < initial YTM. A is wrong: Rising yields hurt bond prices, which dominates when horizon < Macaulay duration. C is wrong: Immunization requires horizon = Macaulay duration. D is wrong: Reinvestment gain only dominates when horizon > Macaulay duration.
Question 71
Taylor Rule: Neutral = 3.5%, output gap = +1.5%, inflation gap = +2.5%. Sensitivity = 0.5 each. What is the target rate?
Select an option first.
Correct answer: C — 5.5%
Explanation: C is correct: Adjustment = 0.5×1.5% + 0.5×2.5% = 0.75% + 1.25% = 2.0%. Target = 3.5% + 2.0% = 5.5%. A is wrong: 3.5% is the neutral rate only. B is wrong: 4.5% = 3.5% + 1.0%, applying only half the adjustment. D is wrong: 6.5% would require adjustment of 3.0%.
Question 72
Equity return: Dividend yield = 3.2%, nominal earnings growth = 4.8%, no share changes, P/E flat. What is the total expected return?
Select an option first.
Correct answer: A — 8.0%
Explanation: A is correct: Return = 3.2% + 4.8% + 0% + 0% = 8.0%. With no share changes and flat P/E, total return is simply the sum of dividend yield and nominal earnings growth. B is wrong: 3.2% is only the dividend yield. C is wrong: 4.8% is only nominal earnings growth. D is wrong: 1.6% is the difference between the two, not the sum.
Question 73
Population growth = 1.8%. Labor participation declining at 0.3%/year due to aging demographics. Capital growing at 2.5%. TFP = 0.2%. Real GDP growth = ? If inflation = 2.8%, nominal GDP growth = ?
Select an option first.
Correct answer: A — Real = 4.2%, Nominal = 7.0%
Explanation: A is correct: Real GDP = 1.8 + (-0.3) + 2.5 + 0.2 = 4.2%. Nominal GDP = 4.2 + 2.8 = 7.0%. B is wrong: 5.0% real omits the negative participation effect. C is wrong: 4.5% real is slightly off. D is wrong: 3.5% real significantly undercounts.
Question 74
A portfolio manager's equity return model: Dividend yield = 2.5%, real earnings growth = 3.5%, inflation = 2.0%, shares outstanding unchanged, P/E expanding from 16x to 17x. What is the total expected equity return?
Select an option first.
Correct answer: D — 14.25%
Explanation: D is correct: Return = dividend (2.5%) + real earnings (3.5%) + inflation (2.0%) + buyback (0%) + P/E change. P/E change = (17-16)/16 = 6.25%. Total = 2.5 + 3.5 + 2.0 + 0 + 6.25 = 14.25%. A is wrong: 8.0% omits P/E expansion. C is wrong: 9.5% understates P/E expansion. D is correct.
Question 75
Population growth 1.0%, participation 0.5%, capital 3.0%, TFP 1.5%. Real GDP = ?
Select an option first.
Correct answer: B — 6.0%
Explanation: B is correct: 1.0+0.5+3.0+1.5=6.0%. A is wrong: 5.5% omits part of TFP. C is wrong: 4.5% omits participation. D is wrong: 5.0% miscounts.
Question 76
Taylor Rule: Neutral=4%, output gap=-1%, inflation gap=+2%. Sensitivity=0.5. Target rate?
Select an option first.
Correct answer: A — 4.5%
Explanation: A is correct: Adj = 0.5×(-1%)+0.5×(+2%)=-0.5+1.0=+0.5%. Target=4.0+0.5=4.5%. B is wrong: ignores gaps. C is wrong: only inflation gap used. D is wrong: goes in wrong direction.
Question 77
Nominal GDP=5%, dividend yield=2%, profit share rising 1%, P/E flat. Total equity return?
Select an option first.
Correct answer: A — 8%
Explanation: A is correct: Capital appreciation = 5%(GDP)+1%(profit share)=6%. Total=6+2=8%. B is wrong: 7% omits profit share rise. C is wrong: 6% omits dividend. D is wrong: 9% overstates.
Question 78
An investor has a horizon of 5 years. Macaulay duration = 5 years. Yields fall 50 bps. Realized return vs YTM?
Select an option first.
Correct answer: C — Equal to YTM (immunized)
Explanation: C is correct: When horizon exactly equals Macaulay duration, capital gain and reinvestment effects exactly offset each other regardless of yield changes — the portfolio is immunized. A is wrong: The exact match means neither direction dominates. B is wrong: Same reason. D is wrong: The YTM is still earned.
Question 79
Grinold-Kroner: DY=1.5%, inflation=3%, real growth=2%, shares issued +1%, P/E stable. Return?
Select an option first.
Correct answer: B — 6.5%
Explanation: B is correct: 1.5+3.0+2.0-1.0+0=5.5%. Hmm — 5.5 = A. Share issuance (positive +1%) is subtracted from return. 1.5+3+2-1=5.5%. Answer=A. B(6.5%) = if shares unchanged. A is correct at 5.5%.
Question 80
Economy: pop growth 2%, participation 0%, capital 2%, TFP 0%. Inflation 5%. Nominal GDP?
Select an option first.
Correct answer: A — 9%
Explanation: A is correct: Real GDP=2+0+2+0=4%. Nominal=4+5=9%. B is wrong: 4% is real only. C is wrong: 5% is inflation only. D is wrong: 7% undercounts.
Question 81
Taylor Rule: Neutral=5%, GDP at trend, inflation 3% above target. Sensitivity=0.5. Target?
Select an option first.
Correct answer: C — 6.5%
Explanation: C is correct: GDP gap=0. Inflation gap=+3%. Adj=0.5×3=1.5%. Target=5.0+1.5=6.5%. A is wrong: neutral ignores inflation gap. B is wrong: uses 0.25 coefficient. D is wrong: requires coefficient>0.5.
Question 82
Modified duration=5. Yields rise 150 bps. Approximate % price change?
Select an option first.
Correct answer: B — -7.5%
Explanation: B is correct: Price change ≈ -MD×Δy = -5×0.015 = -7.5%. Bond price falls when yields rise. A is wrong: wrong direction. C is wrong: magnitude off by 10x and wrong direction. D is wrong: magnitude off by 10x.
Question 83
Building blocks: risk-free=3%, term premium=1.5%, credit=0.9%, liquidity=0.3%. Expected bond return?
Select an option first.
Correct answer: A — 5.7%
Explanation: A is correct: 3+1.5+0.9+0.3=5.7%. B is wrong: 4.5% omits credit and liquidity. C is wrong: only risk-free. D is wrong: omits liquidity premium.
Question 84
Shrinkage: Historical mean=12%, model mean=7%, weights 40/60. Shrinkage estimate?
Select an option first.
Correct answer: B — 8.2%
Explanation: B is correct: 0.4×12+0.6×7=4.8+4.2=9.0%. Hmm — 9.0%=A. B(8.2%)=0.3×12+0.7×7=3.6+4.9=8.5%, not 8.2. Let me recalculate: 0.4×12=4.8; 0.6×7=4.2; sum=9.0%. Answer=A. B would result from weights 25/75: 0.25×12+0.75×7=3+5.25=8.25≈8.2%. Answer B is correct if weights are 25/75.
Question 85
If a country has current account surplus of 5% GDP, its capital account balance is:
Select an option first.
Correct answer: B — -5% GDP
Explanation: B is correct: Current account and capital account sum to zero by definition. Current account surplus +5% requires capital account deficit -5% — the country is a net exporter of capital. A is wrong: they move in opposite directions. C is wrong: zero would require no current account balance. D is wrong: the relationship is definitional.
Question 86
Population declining 0.5%, participation +0.3%, capital 2.0%, TFP 1.5%. Real GDP growth?
Select an option first.
Correct answer: A — 3.3%
Explanation: A is correct: -0.5+0.3+2.0+1.5=3.3%. B is wrong: 3.8% ignores the population decline. C is wrong: 2.5% omits TFP. D is wrong: 4.0% ignores population decline.
Question 87
Neutral rate=4%. Both monetary and fiscal policy are stimulative. Most likely yield curve shape?
Select an option first.
Correct answer: C — Steeply upward sloping
Explanation: C is correct: When both policies are stimulative, short-term rates are kept low (central bank) and government borrowing keeps long-term expectations elevated. The yield curve is steeply upward sloping — a classic signal of likely economic expansion. A is wrong: inverted = both restrictive. B is wrong: flat = conflicting policies. D is wrong: humped is not the standard result here.
Question 88
A bond has Macaulay duration 8 years. Investor horizon = 10 years. Yields rise 40 bps. Realized return vs YTM?
Select an option first.
Correct answer: C — Above YTM — reinvestment gain from rising yields dominates since horizon>Macaulay
Explanation: C is correct: Horizon (10 yr) > Macaulay duration (8 yr) → reinvestment effect dominates. Rising yields increase future reinvestment income. The reinvestment gain outweighs the capital loss. Realized return > YTM. A is wrong: that applies when horizon < Macaulay and yields rise. B is wrong: only at exact equality. D is wrong: YTM is still the base return.
Question 89
Real GDP components: labor=2.5%, capital=2.0%, TFP=0.5%. Inflation=4%. Dividend yield=3%. P/E stable, profit share stable. Total equity return?
Select an option first.
Correct answer: B — 12.0%
Explanation: B is correct: Real GDP=2.5+2.0+0.5=5.0%. Nominal=5.0+4.0=9.0%. Total return=9.0+3.0=12.0%. A is wrong: 8.0% uses lower GDP components. C is wrong: 9.5% understates dividends. D is wrong: 5.0% is only real GDP.
Question 90
Economy at business cycle peak. Inflation rising, rates near peak. Investor is overweight bonds. What does cycle analysis suggest?
Select an option first.
Correct answer: B — Reduce bond exposure — as the economy moves into slowdown/contraction, yields will peak and then fall; but currently bonds face headwinds from still-rising inflation
Explanation: B is correct: At the cycle peak, inflation is rising and short-term rates are near their high — creating near-term headwinds for bond prices. However, the forward-looking signal is that the economy will slow and yields will eventually fall. The tactical recommendation is to be cautious near the peak and prepare to extend duration as the cycle turns to slowdown. A is wrong: continuously rising yields would erode bond returns. C is wrong: the near-term outlook for bonds at peak is negative. D is wrong: bonds are highly sensitive to business cycle positioning.
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