SECURITY MARKET INDICES

SOLUTIONS

1. C is appropriate. A safety market index represents the worth of a given safety market, market phase, or asset class.
2. A is appropriate. Safety market indices are constructed and managed like a portfolio of securities.
3. A is appropriate. The primary resolution is figuring out the goal market that the index is meant to symbolize as a result of the goal market determines the funding universe and the securities obtainable for inclusion within the index.
4. C is appropriate. The distinction between a worth return index and a complete return index consisting of equivalent securities and weights is the earnings generated over time by the underlying securities. If the securities within the index don’t generate earnings, each indices can be equivalent in worth.
5. A is appropriate. At inception, the values of the value return and whole return variations of an index are equal.
6. B is appropriate. The worth return is the sum of the weighted returns of every safety. The return of Ready is 20 % [(12 2 10)/10]; of Baker is 25 % [(19 2 20)/20]; and of Charlie is 0 % [(30 2 30)/30]. The worth return index assigns a weight of 1/3 to every asset; due to this fact, the value return is 1/3 3 [20% 1 (25%) 1 0%] 5 5 %.
7. C is appropriate. The overall return of an index is calculated on the premise of the change in worth of the underlying securities plus the sum of earnings acquired or the sum of the weighted whole returns of every safety. The overall return of Ready is 27.5 %; of Baker is 0 %; and of Charlie is 6.7 %: Ready: (12 2 10 1 0.75)/10 5 27.5 % Baker: (19 2 20 1 1)/20 5 0 %

Charlie: (30 2 30 1 2)/30 5 6.7 %

An equal-weighted index applies the identical weight (1/3) to every safety’s return; due to this fact, the entire return 5 1/3 3 (27.5% 1 0% 1 6.7%) 5 11.4 %.

1. B is appropriate. The worth return of the price-weighted index is the share change in worth of the index: (68 2 75)/75 529.33 %.

99

• B is appropriate. The worth return of the index is (48,250,000 2 53,750,000)/53,750,000 5 210.23 %.

• B is appropriate. The overall return of the market-capitalization-weighted index is calculated under:

Safety	Starting of Interval Worth f	Finish of Interval Worth f	Complete Dividends f	Complete Return %
MNO	12,500,000	13,500,000	500,000	12.00
QRS	26,250,000	18,750,000	1,125,000	224.29
XYZ	15,000,000	16,000,000	1,000,000
Complete	53,750,000	48,250,000	2,625,000

• A is appropriate. The goal market determines the funding universe and the securities obtainable for inclusion within the index.
• A is appropriate. The sum of costs in the beginning of the interval is 96; the sum on the finish of the interval is 100. Whatever the divisor, the value return is 100/96 2 1 5 0.042 or 4.2 %.
• B is appropriate. It’s the proportion change available in the market worth over the interval:

Market worth at starting of interval: (20 3 300) 1 (50 3 300) 1 (26 3 2,000) 5 73,000

Market worth at finish of interval: (22 3 300) 1 (48 3 300) 1 (30 3 2,000) 5 81,000 Share change is 81,000/73,000 2 1 5 0.1096 or 11.0 % with rounding.

• C is appropriate. With an equal-weighted index, the identical quantity is invested in every safety. Assuming $1,000 is invested in every of the three shares, the index worth is $3,000 in the beginning of the interval and the next variety of shares is bought for every inventory:

Safety A: 50 shares

Safety B: 20 shares Safety C: 38.46 shares.

Utilizing the costs in the beginning of the interval for every safety, the index worth on the finish of the interval is $3,213.8: ($22 3 50) 1 ($48 3 20) 1 ($30 3 38.46). The worth return is $3,213.8/$3,000 2 1 5 7.1 %.

1. A is appropriate. Within the price-weighting technique, the divisor should be adjusted so the index worth instantly after the cut up is identical because the index worth instantly previous to the cut up.

Chapter 2 Safety Market Indices          101

• C is appropriate. The principle supply of return variations arises from outperformance of smallcap securities or underperformance of large-cap securities. In an equal-weighted index, securities that represent the most important fraction of the market are underrepresented and securities that represent solely a small fraction of the market are overrepresented. Thus, increased equal-weighted index returns will happen if the smaller-cap equities outperform the larger-cap equities.
• C is appropriate. “Float” is the variety of shares obtainable for public buying and selling.
• B is appropriate. Basic weighting results in indices which have a price tilt.
• C is appropriate. Rebalancing refers to adjusting the weights of constituent securities in an index to take care of consistency with the index’s weighting technique.
• B is appropriate. Altering market costs will trigger weights that had been initially equal to develop into unequal, thus requiring rebalancing.
• C is appropriate. Reconstitution is the method by which index suppliers overview the constituent securities, reapply the preliminary standards for inclusion within the index, and choose which securities to retain, take away, or add. Constituent securities that now not meet the factors are changed with securities that do. Thus, reconstitution reduces the probability that the index consists of securities that aren’t consultant of the goal market.
• C is appropriate. Safety market indices play a vital position as proxies for asset lessons in asset allocation fashions.
• A is appropriate. Safety market indices are used as proxies for measuring market or systematic danger, not as measures of systematic danger.
• B is appropriate. Sector indices present a way to find out whether or not a portfolio supervisor is extra profitable at inventory choice or sector allocation.
• C is appropriate. Fashion indices symbolize teams of securities labeled in accordance with market capitalization, worth, progress, or a mixture of those traits.
• A is appropriate. The massive variety of fixed-income securities—mixed with the dearth of liquidity of some securities—makes it expensive and troublesome for traders to duplicate fixedincome indices.
• C is appropriate. An combination fixed-income index could be subdivided by market sector (authorities, authorities company, collateralized, company), type (maturity, credit score high quality), financial sector, or another attribute to create extra narrowly outlined indices.
• C is appropriate. Coupon frequency will not be a dimension on which fixed-income indices are primarily based.
• A is appropriate. Commodity indices include futures contracts on a number of commodities.
• C is appropriate. The efficiency of commodity indices could be fairly completely different from that of the underlying commodities as a result of the indices include futures contracts on the commodities relatively than the precise commodities.
• B is appropriate. It isn’t an actual property index class.
• B is appropriate. Hedge funds aren’t required to report their efficiency to any occasion apart from their traders. Due to this fact, every hedge fund decides to which database(s) it would report its efficiency. Thus, for a hedge fund index, constituents decide the index relatively than index suppliers figuring out the constituents.
• A is appropriate. Voluntary efficiency reporting might result in survivorship bias, and poorer performing hedge funds can be much less prone to report their efficiency.
• C is appropriate. The fixed-income market has extra issuers and securities than the fairness market.