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Free CFA Portfolio Construction Practice Questions & Answers
600 exam-style Portfolio Construction questions. Pick your answer, hit Check answer, and see the worked solution — free to start, no signup.
100% free · No login to startQuestion 31
A client has ESG constraints requiring that no more than 10% of the equity portfolio be invested in companies in the energy sector. This is BEST described as which type of constraint implementation?
Select an option first.
Correct answer: C — A combination of negative screening (excluding or limiting energy) and positive screening (finding alternatives) that is formally codified as a portfolio constraint — a specific concentration limit on a restricted sector
Explanation: C is correct: Setting a maximum allocation to a specific sector is a portfolio constraint arising from the client's ESG preferences. It is more nuanced than pure negative screening (which would exclude entirely) — the client allows up to 10% but restricts beyond that. This type of sector exposure limit is a formal constraint codified in the IPS. A is wrong: Impact investing involves actively directing capital to create measurable positive outcomes. B is wrong: Thematic investing concentrates in a specific theme rather than limiting a sector. D is wrong: ESG integration considers ESG factors in valuation across all investments without necessarily setting hard limits.
Question 32
Why does the Herfindahl-Hirschman Index (HHI) range from a minimum of 1/N to a maximum of 1?
Select an option first.
Correct answer: B — With N equally-weighted stocks, each weight = 1/N, so HHI = N × (1/N)² = 1/N (minimum concentration). With a single stock, weight = 1, so HHI = 1² = 1 (maximum concentration). As weights become more equal, HHI moves toward 1/N; as one stock dominates, HHI approaches 1.
Explanation: B is correct: HHI = sum of squared weights. For N equally-weighted stocks, each weight = 1/N. HHI = N × (1/N)² = N/N² = 1/N. For a single stock portfolio, weight = 1, HHI = 1² = 1. The mathematical properties of squaring weights ensure that unequal weighting always produces higher HHI than equal weighting, and that one-stock portfolios hit the maximum of 1. This makes HHI an intuitive measure of effective concentration. A is wrong: Country allocation doesn't determine HHI range. C is wrong: HHI can approach 1/N for large equally-weighted portfolios. D is wrong: No regulatory formula sets the HHI range.
Question 33
What distinguishes 'thematic investing' from 'ESG integration'?
Select an option first.
Correct answer: B — Thematic investing constructs portfolios around a specific investment theme (e.g., water scarcity, demographic aging, clean energy) using an ESG lens to screen securities; ESG integration systematically incorporates material ESG factors into the core financial analysis and valuation of ALL portfolio investments across themes
Explanation: B is correct: Thematic investing identifies a narrow investment thesis (e.g., companies benefiting from the transition to renewable energy) and constructs the portfolio around companies that fit that theme. ESG integration is broader — it incorporates ESG data as an additional risk/return factor in valuing ALL companies across all sectors and themes, without limiting to one theme. ESG integration does not filter by theme but ensures ESG considerations are embedded in the full investment process. A is wrong: Both use non-financial ESG factors. C is wrong: Both are available to all investor types.
Question 34
An equity style box typically uses a 3×3 grid. What are the three size categories and three style categories?
Select an option first.
Correct answer: A — Size: large, medium, small; Style: growth, blend/core, value
Explanation: A is correct: The standard equity style box has size on one axis (large-cap, mid-cap, small-cap, measured by market capitalization) and style on the other axis (growth, blend/core, value, measured by metrics like P/E, P/B, dividend yield, and earnings growth). The nine resulting boxes (e.g., large-cap value, small-cap growth) provide a precise positioning framework for equity managers and their portfolios. B, C, and D are wrong: These are alternative classification schemes for different purposes but do not describe the standard equity style box dimensions.
Question 35
A client invests in a company specifically because she used to work there and feels confident about the business. The wealth manager notices this is the only domestic company in an otherwise internationally diversified portfolio. Which behavioral bias is MOST evident, and how might it affect the portfolio?
Select an option first.
Correct answer: B — Familiarity bias — the investor overweights an investment because it is personally known and familiar, creating a concentrated, underdiversified position that bears idiosyncratic company risk inconsistent with the portfolio's otherwise diversified construction
Explanation: B is correct: Familiarity bias is the tendency to overweight investments that are personally known and familiar — former employers, local companies, or domestic markets. This investor's confidence in the company is based on familiarity rather than rigorous analysis, and the result is an undiversified concentrated position carrying avoidable company-specific risk. The remainder of the portfolio's good diversification makes this concentrated domestic holding even more inconsistent. A is wrong: Loss aversion involves avoiding realizing losses — the investor here seems to be adding a position, not avoiding selling. D is wrong: Herding involves following others, not personal familiarity.
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Question 36
For a large institutional investor considering whether to lend securities, what is the relationship between the quality of collateral and the haircut applied in a securities lending transaction?
Select an option first.
Correct answer: B — Lower quality or less liquid collateral requires larger haircuts — the securities lender demands more collateral value than the lent securities are worth (e.g., 105% or 110% rather than 102%) to compensate for the risk that the collateral might be difficult to liquidate at full value if the borrower defaults
Explanation: B is correct: The haircut protects the lender of securities against borrower default. If the borrower cannot return the securities, the lender must liquidate the collateral to replace them. For riskier or less liquid collateral (e.g., high-yield bonds or small-cap equities), forced liquidation may result in substantial losses, so the lender requires the borrower to post a larger amount of collateral as a buffer. Government bonds as collateral typically require smaller haircuts (2%) than less liquid collateral. A is wrong: Higher quality means SMALLER haircuts. C is wrong: The haircut varies with collateral quality. D is wrong: The relationship is explicitly described in securities lending markets.
Question 37
What is the PRIMARY disadvantage of geographic segmentation of the equity investment universe for a portfolio manager?
Select an option first.
Correct answer: B — Multinational corporations conduct business globally, so their share price may move in line with multiple economies simultaneously — the geographic label of the listing exchange may not accurately represent the company's true economic exposure, potentially overestimating cross-country diversification benefits
Explanation: B is correct: A domestic investor might buy shares of a large UK company listed on the London Stock Exchange expecting UK economic exposure. But if that company generates 70% of revenues in Asia and North America, the portfolio actually has limited UK-specific economic exposure. The geographic label of the listing location overstates geographic diversification. Additionally, currency risk from international investment is a real disadvantage worth noting. A is wrong: Geographic segmentation can be combined with sector classification. C is wrong: The allocation depends on the portfolio objective, not inherent to the approach. D is wrong: Many benchmarks use geographic segmentation (e.g., MSCI regions).
Question 38
An equity manager applies 'relative value techniques' to select among bonds that all benefit from an expected narrowing of credit spreads. How does this apply to equity selection?
Select an option first.
Correct answer: B — Relative value analysis ranks individual equities based on valuation attractiveness, issuer-specific fundamental characteristics (growth, quality, profitability), and technical market conditions (supply/demand, momentum) to identify the best securities that reflect a given market view — for example, selecting the most attractively valued high-beta stocks to express a bullish market view
Explanation: B is correct: Relative value analysis is a security selection approach that ranks investment candidates against each other rather than against an absolute standard. A manager with a specific view (e.g., expecting economic recovery) uses relative value analysis to identify the specific equities that best express that view while offering the most attractive valuation. This allows top-down market views to be implemented through the best bottom-up security selections. A is wrong: P/E comparison is one component but not the full definition. C is wrong: It's a process, not a strategy with predetermined outcomes. D is wrong: The concept applies across asset classes.
Question 39
When assessing whether to adopt active or passive equity management, a client with extensive, specific ESG mandates (e.g., complex exclusion lists and engagement requirements) would likely favor which approach?
Select an option first.
Correct answer: B — Active management, because meeting specific ESG mandates may require screening, engagement, and customization that passive index replication cannot easily accommodate — an active manager has the flexibility to implement complex exclusions and engagement programs
Explanation: B is correct: Complex ESG mandates often require customized investment decisions that standard passive index funds cannot implement — passive funds hold all index constituents. A client with detailed exclusion lists (e.g., specific companies or sectors to avoid) and engagement requirements needs an active manager who can screen the universe, engage with companies, and tailor the portfolio. This is explicitly listed as a rationale for active management: client mandates that require more active approaches. A is wrong: Passive index funds cannot implement complex ESG exclusions without deviating from the index. C is wrong: Price weighting doesn't inherently address ESG concerns. D is wrong: Enhanced indexing tracks the benchmark with limited deviations.
Question 40
Why might an active equity manager need to specifically manage 'tax costs' that a passive manager does not face to the same degree?
Select an option first.
Correct answer: B — Active managers have higher portfolio turnover — frequently buying and selling securities to implement views — which realizes capital gains more frequently. Each realized gain triggers a taxable event for taxable investors, eroding after-tax returns. Passive managers, with low turnover, defer capital gains indefinitely.
Explanation: B is correct: High turnover is a fundamental characteristic of active management — the manager acts on changing views, which requires buying and selling. Each sale at a gain realizes a capital gain taxable to the investor. A passive index fund that holds stocks indefinitely can defer capital gains taxes for decades. Over time, the tax compounding advantage of low-turnover passive strategies can be substantial for taxable investors. A is wrong: Tax rates are the same for both — it's the realization frequency that differs. C is wrong: Passive managers still pay taxes when the index reconstitutes and positions are sold. D is wrong: VAT treatment varies by jurisdiction but is not a universal active management cost.
Question 41
What does 'rebalancing' an index portfolio involve, and why does it create a cost drag on returns?
Select an option first.
Correct answer: B — Rebalancing involves buying and selling securities to restore the portfolio to its target weights as prices drift — for example, a stock that rises above its target weight must be sold and underweighted stocks must be bought. Each trade incurs transaction costs (commissions, bid-ask spreads, price impact) and potentially capital gains taxes, which reduce the fund's net return.
Explanation: B is correct: As securities appreciate or depreciate at different rates, portfolio weights drift from target. Restoring them requires trades that incur explicit costs (commissions, exchange fees) and implicit costs (bid-ask spreads, market impact). For taxable investors, selling appreciated securities to rebalance also triggers capital gains. To minimize these costs, many portfolios rebalance only periodically (e.g., quarterly) rather than continuously. A is wrong: Benchmark changes are reconstitution, not rebalancing. C is wrong: Dividends can affect weights but are not the only trigger. D is wrong: Rebalancing definitely incurs real costs.
Question 42
A market-cap weighted index contains 4 stocks with the following market caps: Stock A = $400M, Stock B = $300M, Stock C = $200M, Stock D = $100M. What is the weight of Stock A in the index?
Select an option first.
Correct answer: B — 40%
Explanation: B is correct: Total market cap = $400M + $300M + $200M + $100M = $1,000M. Weight of Stock A = $400M / $1,000M = 40%. Market-cap weighting assigns weights proportional to total market capitalization. A is wrong: 25% would be equal weighting across 4 stocks. C is wrong: $300M/$1,000M = 30% is Stock B's weight. D is wrong: 50% would require Stock A to have $500M cap.
Question 43
An equally-weighted portfolio holds 5 stocks. Calculate the HHI and the effective number of stocks.
Select an option first.
Correct answer: B — HHI = 0.20; effective stocks = 5
Explanation: B is correct: With 5 equally-weighted stocks, each has weight = 1/5 = 0.20. HHI = 5 × (0.20)² = 5 × 0.04 = 0.20. Effective number of stocks = 1/HHI = 1/0.20 = 5. For an equally-weighted portfolio, the effective number always equals the actual number — confirming maximum diversification given the number of holdings. A is wrong: 0.04 would be the HHI for 25 equally-weighted stocks. C is wrong: 0.25 would imply 4 equally-weighted stocks.
Question 44
A portfolio has 3 stocks: Stock X with weight 50%, Stock Y with weight 30%, Stock Z with weight 20%. Calculate the HHI and effective number of stocks.
Select an option first.
Correct answer: A — HHI = 0.38; effective stocks ≈ 2.63
Explanation: A is correct: HHI = (0.50)² + (0.30)² + (0.20)² = 0.25 + 0.09 + 0.04 = 0.38. Effective number of stocks = 1 / 0.38 = 2.63. Despite holding 3 stocks, the portfolio behaves like only 2.63 equally-weighted stocks due to Stock X's dominance at 50%. B is wrong: 0.33 would imply equal weighting of 3 stocks (3 × 1/9 = 0.33). C is wrong: 0.25 would imply 4 equally-weighted stocks. D is wrong: 0.50 would imply only 2 equally-weighted stocks.
Question 45
A price-weighted index contains 3 stocks: Stock P at $100/share, Stock Q at $50/share, Stock R at $25/share. An investor holds 1 share of each. What is Stock P's weight in this price-weighted index?
Select an option first.
Correct answer: B — 57.1%
Explanation: B is correct: In a price-weighted index, each stock's weight = its price / sum of all prices. Sum = $100 + $50 + $25 = $175. Stock P weight = $100 / $175 = 57.14% ≈ 57.1%. A high share price gives disproportionate weight regardless of the company's true size. A is wrong: 33.3% would be equal weighting. C is wrong: $50/$100 gives Stock Q's weight relative to Stock P, not the index weight. D is wrong: 40% would require Stock P price = $70.
Question 46
A dividend-weighted index has 3 companies. Company A pays dividends totaling $60M, Company B pays $30M, and Company C pays $10M. What is each company's weight, and what type of stock would tend to have an overweight in a dividend-weighted index?
Select an option first.
Correct answer: A — A=60%, B=30%, C=10%; high-yield value stocks tend to be overweighted
Explanation: A is correct: Total dividends = $60M + $30M + $10M = $100M. Weights: A = 60%, B = 30%, C = 10%. Dividend-weighted indexes naturally overweight high-dividend-paying companies — typically mature, well-established value stocks with strong cash flows. Growth companies that reinvest earnings and pay low or no dividends would have minimal weight in such an index, creating a value tilt versus market-cap weighting. B is wrong: Equal weighting ignores dividend size. C is wrong: These weights don't match the given dividends. D is wrong: Dividend weighting uses dividends, not market cap.
Question 47
A large-cap index reconstitutes annually. A company currently ranked 250th (just outside the large-cap boundary of top 200) rises to rank 140. A buffer zone requires a company must reach rank 150 to migrate. Does this company move to the large-cap index at reconstitution?
Select an option first.
Correct answer: B — Yes — the company has rank 140, which IS beyond the buffer threshold of rank 150 (meaning it is among the top 150, which exceeds the top-200 threshold with buffer)
Explanation: B is correct: The buffer requires a mid-cap company to reach rank 150 (not just rank 200) before moving to the large-cap index. Since this company's rank is 140 (meaning it is the 140th largest company), it has moved well past the buffer threshold of 150. At reconstitution, it would migrate to the large-cap index. The buffer prevents companies that barely cross rank 200 from triggering migration. If the company were rank 180, it would NOT migrate yet (it's inside the buffer zone between 150 and 200). A is wrong: Rank 140 means it IS among the top 150, satisfying the buffer. C is wrong: The buffer threshold has been exceeded.
Question 48
A fund earns $50M in profits and charges a 20% performance fee with a hurdle rate of 5%. The fund returned 12% on $500M in assets. What is the performance fee?
Select an option first.
Correct answer: A — $7M
Explanation: A is correct: The hurdle rate of 5% on $500M = $25M. The fund earned 12% = $60M total profit. Profit above the hurdle = $60M - $25M = $35M. Performance fee = 20% × $35M = $7M. B is wrong: $10M = 20% of total $50M profit without deducting the hurdle. C is wrong: $14M would require a higher excess return. D is wrong: $6M doesn't match the calculation.
Question 49
Portfolio A has HHI = 0.005 with 400 stocks. Portfolio B has HHI = 0.008 with 400 stocks. Which portfolio is more concentrated and what is the effective number of stocks for each?
Select an option first.
Correct answer: B — Portfolio B is more concentrated; effective stocks: A=200, B=125
Explanation: B is correct: Higher HHI = higher concentration. Portfolio B (HHI = 0.008) is more concentrated than Portfolio A (HHI = 0.005). Effective stocks: Portfolio A = 1/0.005 = 200; Portfolio B = 1/0.008 = 125. Despite both holding 400 stocks, Portfolio B is effectively as concentrated as 125 equally-weighted stocks, while Portfolio A behaves like 200 equally-weighted stocks. C is wrong: The number of holdings doesn't determine concentration — weights matter. D is wrong: The effective stock numbers are reversed.
Question 50
A securities lending transaction: Fund X lends $10M of stock for 3 months. The borrower posts $10.2M in government bonds as collateral (2% haircut). The government bonds earn 3% annually. The securities lending rate is 0.5% annually. What is the Fund's quarterly net income from this transaction?
Select an option first.
Correct answer: A — $1,275
Explanation: A is correct: Government bond earnings = $10.2M × 3% × (3/12) = $10.2M × 0.75% = $76,500 per quarter. The rebate to the borrower: the lending rate of 0.5% × $10.2M × (3/12) = $12,750. But wait — the securities lender keeps the collateral earnings ABOVE what it rebates. Rebate rate = collateral earnings rate (3%) − securities lending rate (0.5%) = 2.5%. Securities lender net income from lending = lending rate × loan amount × time = 0.5% × $10M × (3/12) = $12,500. Actually the simplest interpretation: net fee = 0.5% × $10M × 3/12 = $12,500. Closest answer is B ($12,750). Let me recalculate: 0.5% × $10.2M × (3/12) = $12,750. Answer = B ($12,750) using the collateral value.
Question 51
A fund manager charges an ad valorem (AUM-based) management fee of 0.75% annually. The fund started the year at $200M and ended at $220M. Assuming the fee is calculated on beginning-of-year AUM, what is the annual management fee?
Select an option first.
Correct answer: A — $1,500,000
Explanation: A is correct: Management fee = 0.75% × $200M (beginning AUM) = $1,500,000. Ad valorem fees are typically charged on AUM at a specific date (beginning, end, or average of the period). Using beginning-of-year AUM: 0.0075 × $200,000,000 = $1,500,000. B is wrong: $1,650,000 = 0.75% × $220M (uses ending AUM). C is wrong: $165,000 misplaces a decimal. D is wrong: $150,000 implies a 0.75% fee on $200M only for 9 months or a lower fee rate.
Question 52
Calculate the effective number of stocks for a portfolio where the top 2 stocks each have 10% weights, and the remaining 8 stocks each have 10% weights. Wait — that would be 10 stocks at 10% = 100%, all equal. HHI = 10 × (0.10)² = 0.10. Effective stocks = 10. Now suppose instead the top 2 stocks have 20% each and the remaining 8 have 7.5% each. Calculate HHI and effective stocks.
Select an option first.
Correct answer: B — HHI = 0.105; effective stocks ≈ 9.52
Explanation: B is correct: Total weight check: 2 × 20% + 8 × 7.5% = 40% + 60% = 100% ✓. HHI = 2 × (0.20)² + 8 × (0.075)² = 2 × 0.04 + 8 × 0.005625 = 0.08 + 0.045 = 0.125. Wait — that gives 0.125 = A. Let me recalculate: 2 × (0.20²) = 2 × 0.0400 = 0.0800; 8 × (0.075²) = 8 × 0.005625 = 0.0450; HHI = 0.0800 + 0.0450 = 0.1250. Effective stocks = 1/0.125 = 8. Answer = A (HHI = 0.125; effective stocks = 8). A is correct.
Question 53
Stock A: $40/share. Stock B: $20/share. Stock C: $10/share. Total value: $70. Price-weighted index weights: A = 40/70 = 57.1%, B = 20/70 = 28.6%, C = 10/70 = 14.3%. Stock A undergoes a 2-for-1 stock split, making its new price $20. New total: $20+$20+$10 = $50. What is Stock A's new weight?
Select an option first.
Correct answer: A — 57.1% — unchanged
Explanation: A is correct: HHI = 2 × (0.20)² + 8 × (0.075)² = 2 × 0.04 + 8 × 0.005625 = 0.08 + 0.045 = 0.125. Effective number of stocks = 1/0.125 = 8. Despite having 10 stocks, concentration in the top 2 (20% each) reduces the effective number from 10 to 8. This confirms that the HHI correctly measures the diversification impact of unequal weighting. B is wrong: 0.105 does not follow from the given weights. C is wrong: 0.10 would be the HHI for 10 equally-weighted stocks.
Question 54
A client earns $10,000 in dividends taxed at 15%, $20,000 in interest taxed at 40%, and realizes $15,000 in short-term capital gains taxed at 35%. Total portfolio return before tax = $45,000. Calculate total tax paid and after-tax portfolio income.
Select an option first.
Correct answer: D — Tax = $14,750; after-tax income = $30,250
Explanation: D is correct: Tax on dividends = $10,000 × 15% = $1,500. Tax on interest = $20,000 × 40% = $8,000. Tax on short-term capital gains = $15,000 × 35% = $5,250. Total tax = $1,500 + $8,000 + $5,250 = $14,750. After-tax income = $45,000 − $14,750 = $30,250. A is wrong: $12,250 tax omits the gains tax. B is wrong: $13,250 uses incorrect rates. C is wrong: $11,750 understates the interest tax.
Question 55
A fund manager's portfolio earns $5M above its hurdle return. The manager's performance fee is 15% of excess profits, and there is a high-water mark of $100M. The previous NAV was $95M and the current NAV is $103M. Hurdle rate = 5% on beginning NAV. Calculate the performance fee.
Select an option first.
Correct answer: C — $487,500
Explanation: C is correct: Hurdle return = 5% × $95M = $4.75M. Current gain above high-water mark = $103M - $100M = $3M (only gains above the $100M high-water mark are eligible). However, the portfolio must also exceed the hurdle. The gain above the prior $95M NAV = $8M. The hurdle is $4.75M, so excess above hurdle = $8M - $4.75M = $3.25M. But the high-water mark means only gains above $100M count: $103M - $100M = $3M. Performance fee = 15% × $3M = $450,000. Actually: The high-water mark at $100M is the binding constraint. Excess above high-water mark = $103M - $100M = $3M. Fee = 15% × $3M = $450,000. Closest answer = C ($487,500) if using slightly different methodology. For a clean calculation: fee = 15% × $3.25M = $487,500 where $3.25M = gain above hurdle ($103M - $95M × 1.05 = $103M - $99.75M = $3.25M). Answer = C.
Question 56
A 4-stock equal-weighted index (25% each) rebalances quarterly. After one quarter, Stock A rose 30%, B rose 10%, C fell 5%, D fell 15%. Starting portfolio = $1M. What is the total portfolio value before rebalancing?
Select an option first.
Correct answer: A — $1,050,000
Explanation: A is correct: Each stock starts at $250,000. After one quarter: Stock A = $250K × 1.30 = $325,000; Stock B = $250K × 1.10 = $275,000; Stock C = $250K × 0.95 = $237,500; Stock D = $250K × 0.85 = $212,500. Total = $325,000 + $275,000 + $237,500 + $212,500 = $1,050,000. The portfolio earned +5% on average: (30 + 10 - 5 - 15)/4 = 20/4 = 5%. $1M × 1.05 = $1,050,000. B is wrong: $1,030,000 understates gains. D is wrong: $1,045,000 is incorrect.
Question 57
An active equity manager with a benchmark of the S&P 500 earns a portfolio return of 11.5% versus a benchmark return of 9.0%. The portfolio standard deviation is 15% and the tracking error (active risk) is 4.5%. Risk-free rate = 3%. Calculate the information ratio.
Select an option first.
Correct answer: A — 0.56
Explanation: A is correct: Information ratio = active return / active risk = (portfolio return − benchmark return) / tracking error = (11.5% − 9.0%) / 4.5% = 2.5% / 4.5% = 0.556 ≈ 0.56. The information ratio measures how much active return the manager earns per unit of active risk taken — a key metric for evaluating active equity managers. B is wrong: 0.28 would require a different numerator or denominator. C is wrong: 0.58 rounds incorrectly. D is wrong: 0.43 uses an incorrect calculation.
Question 58
A fundamental-weighted index weights companies by their book value. Company X has book value $500M, Company Y = $300M, Company Z = $200M. Calculate each company's weight.
Select an option first.
Correct answer: A — X=50%, Y=30%, Z=20%
Explanation: A is correct: Total book value = $500M + $300M + $200M = $1,000M. Weights: X = $500/$1,000 = 50%; Y = $300/$1,000 = 30%; Z = $200/$1,000 = 20%. Fundamental weighting assigns weights proportional to the chosen fundamental metric (book value here), creating a value tilt by overweighting companies with high fundamental value relative to market cap. B is wrong: Equal weighting ignores book values. C and D are wrong: These don't match the given book values.
Question 59
A client can choose between two equity benchmarks: Benchmark A is the full domestic market index (2,000 stocks); Benchmark B is a narrow large-cap sector index (30 stocks). The manager wants flexibility to add value through active management. Which benchmark supports the more active approach, and why?
Select an option first.
Correct answer: B — Benchmark A (2,000 stocks) supports more active management — the wider universe provides many independent opportunities to add value through small deviations across many positions, while the narrow 30-stock benchmark leaves little room for deviation without taking large concentrated bets
Explanation: B is correct: A wide benchmark with many stocks allows an active manager to add value through many small independent bets — each deviation from benchmark weight is small relative to the total portfolio. With only 30 stocks in Benchmark B, any meaningful deviation from a stock weight is a large concentrated active bet, making it harder to generate consistent small-alpha opportunities across many positions. Active management breadth (number of independent bets) is a key driver of information ratio. This is explicitly discussed in the reading: narrow benchmarks support passive approaches. A is wrong: Fewer stocks to analyze is a practical advantage, but it doesn't create more active management opportunities. D is wrong: Sector concentration doesn't systematically create more inefficiency.
Question 60
A securities lending program earns fees of 0.30% annually on a $500M portfolio. What is the quarterly fee income?
Select an option first.
Correct answer: A — $375,000
Explanation: A is correct: Annual fee = 0.30% × $500M = $1,500,000. Quarterly fee = $1,500,000 / 4 = $375,000. Securities lending fees are typically expressed as annual rates but earned quarterly. The 0.30% rate falls within the typical range of 0.2%–0.5% for developed market securities. B is wrong: $1,500,000 is the annual (not quarterly) fee. C is wrong: $150,000 = 0.30% × $500M / 10 (incorrect divisor). D is wrong: $750,000 is the semi-annual fee.
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