2010 Level II Mock Exam: Afternoon Session The afternoon session of the 2009 Level II Chartered Financial Analyst® Mock Examination has 60 questions. To best simulate the exam day experience, candidates are advised to allocate an average of 18 minutes per item set (vignette and 6 multiple choice questions) for a total of 180 minutes (3 hours) for this session of the exam.
By accessing this mock exam, you agree to the following terms of use: This mock exam is provided to currently-registered CFA candidates. Candidates may view and print the exam for personal exam preparation only. The following activities are strictly prohibited and may result in disciplinary and/or legal action: accessing or permitting access by anyone other than currently-registered CFA candidates; copying, posting to any website, emailing, distributing and/or reprinting the mock exam for any purpose.
Trendwise Case Scenario Trendwise is an investment firm advising individual clients, as well as, offering a variety of mutual funds, including the Omega Fund (OF). OF has a large ownership stake in Cyclical Industries (CI). OF and CI have one director in common, Glenn Libra. At the April OF board meeting, portfolio manager Ileana Natali, CFA, stated that after conducting thorough research and analysis, she was firmly convinced the fund should sell its shares of CI. One director advised Natali, “Don’t sell CI. It’s a great stock, isn’t it Mr. Libra?” Libra listened but did not respond. Hearing the director’s comment, Natali decided not to sell the shares as planned. In the following weeks the stock price rose dramatically. One month later, Libra phoned Natali, requesting she vote OF’s shares to reelect him to the CI board of directors. Natali then sent Libra an email saying, “I voted OF’s shares for you, a step I feel is in the best interest of our fundholders.” Natali continued, “Please be aware we recently conducted a cost-benefit analysis and determined it is not worthwhile to vote all proxies. We are sending all clients a copy of our new proxy-voting policies which will explain, we may not vote all proxies in the future.” Libra warned, “Voting proxies is an integral part of the management of investments. A fiduciary who fails to vote proxies may violate CFA Standards.” In response, Natali agreed to consult counsel and the CFA handbook regarding the new policies. The following week, Natali’s supervisor asked her to evaluate a proposal from Brock Securities Brokerage (Brock). Brock recently proposed a soft dollar arrangement with Trendwise. Trendwise claims compliance with the CFA Institute Soft Dollar Standards. In her evaluation, Natali noted Brock proposes a higher commission rate than Trendwise pays its current brokerage firm. She also indicated Brock’s fees are within a reasonable range. In addition, Natali indicated Brock could possibly provide better trade execution than Trendwise’s present broker. Natali proposes to use Brock on a trial basis. In a memorandum to Trendwise’s compliance officer, Natali states: “I believe the proposed brokerage arrangement from Brock satisfies the two fundamental principles in the CFA Institute Soft Dollar Standards Trendwise must use in evaluating soft dollar arrangements: Principle 1: All client commissions paid to a broker are the property of the client. Principle 2: Mutual funds, such as Omega, establish their own policies with respect to the use of certain brokers.
By accessing this mock exam, you agree to the following terms of use: This mock exam is provided to currently-registered CFA candidates. Candidates may view and print the exam for personal exam preparation only. The following activities are strictly prohibited and may result in disciplinary and/or legal action: accessing or permitting access by anyone other than currently-registered CFA candidates; copying, posting to any website, emailing, distributing and/or reprinting the mock exam for any purpose.
I recommend we use Brock only for OF transactions. This will allow us to verify the quality of Brock’s trade execution, and the soft dollar credits will decrease the research costs to OF’s fundholders. After a one-year trial period, we will inform our directors of this new arrangement and report the results of the arrangement. If the directors decide to renew the contract, we will inform the fundholders. The following week Natali’s supervisor sent her a memo asking if the following firm policies need any revisions to comply with the CFA Institute Research Objectivity Standards: Policy 1. Base compensation for analysts is determined from the quality of research performed. Year-end bonuses may be adjusted based on an analyst’s work with investment banking and corporate finance teams. Policy 2. In their relationships with corporate issuers, analysts are prohibited from either directly or indirectly promising favorable reports, or threatening negative reports. Price targets may be agreed upon as long as the corporate issuer meets all disclosure requirements prior to the report being issued. Policy 3. In their relationships with corporate issuers, analysts are prohibited from sharing with or communicating to a subject company, prior to publication, any section of a research report. Policy 4. Ensure that covered employees do not share information about the subject company or security with any person who could have the ability to trade in advance of or otherwise disadvantage the firm’s mutual funds. 1. With respect to her actions concerning Libra and Cyclical Industries (CI), Natali least likely violated the CFA Institute Standards of Professional Conduct concerning: A. Loyalty. B. Conflicts of interest. C. Independence and Objectivity. 2. In their discussion of the new proxy voting policy, whose statements are consistent with the CFA Institute Standards? A. Libra’s only. B. Natali’s only. C. Both Libra’s and Natali’s.
By accessing this mock exam, you agree to the following terms of use: This mock exam is provided to currently-registered CFA candidates. Candidates may view and print the exam for personal exam preparation only. The following activities are strictly prohibited and may result in disciplinary and/or legal action: accessing or permitting access by anyone other than currently-registered CFA candidates; copying, posting to any website, emailing, distributing and/or reprinting the mock exam for any purpose.
3. Which aspect of Trendwise’s duty to its clients is most likely to be violated by its proposed soft dollar arrangement with Brock? A. All soft dollar practices must be fully disclosed. B. Investment managers must at all times seek best trade execution. C. Commissions paid must be reasonable in relation to the research and execution services provided. 4. In her statement about evaluating soft dollar arrangements, Natali is most likely correct with respect to: A. Principle 1. B. Principle 2. C. Both Principles 1 and 2. 5. In response to her supervisors question regarding the firm’s policies on research objectivity, Natali’s best response would be: A. both policies 1 and 2 are consistent with the current Standards. B. both policies 1 and 2 are inconsistent with the current Standards and require changes. C. the policy on analyst compensation requires changes, but the policy regarding relationships with corporate issuers is consistent with current Standards. 6. To make the firm’s policies consistent with CFA Institute Research Objectivity Standards, Natali should suggest the following regarding Policy 3 and 4: A. both policies 3 and 4 are consistent with the current Standards. B. both policies 3 and 4 are inconsistent with the current Standards. C. policy 3 requires changes, but policy 4 is consistent with current Standards.
By accessing this mock exam, you agree to the following terms of use: This mock exam is provided to currently-registered CFA candidates. Candidates may view and print the exam for personal exam preparation only. The following activities are strictly prohibited and may result in disciplinary and/or legal action: accessing or permitting access by anyone other than currently-registered CFA candidates; copying, posting to any website, emailing, distributing and/or reprinting the mock exam for any purpose.
Walter Speckley Case Scenario Walter Speckley is a high net worth individual who recently relocated from Europe to the United States. Speckley sold his European properties and will receive the €10 million proceeds 180 days from now. The terms of the sale require the funds to remain in escrow for an additional 180 days after receipt. He intends to invest the escrowed funds in a 180day euro-denominated money market instrument. When the escrow period ends 360 days from now, Speckley intends to convert these funds to U.S. dollars and buy stock in the First Bank of Kanata (FBK), a small regional U.S. bank that he has identified as an attractive investment opportunity. FBK stock is priced in U.S. dollars and the company will pay a dividend of $5.00 per share 180 days from now. Speckley’s investment objectives are to lock in: 1.
the yield he will receive on his euro-denominated money market investment 180 days from now;
2.
the exchange rate he will receive when he converts his funds from euros to U.S. dollars 360 days from now; and
3.
the current purchase price of FBK stock.
To accomplish these objectives, Speckley plans to use forward contracts. Exhibit 1 describes the transactions proposed by Speckley. Exhibit 1 Time-line of Events
Cash transactions Property sale proceeds received Euro-denominated money market investment Euros converted into U.S. dollars FBK stock purchase (in U.S. dollars) Dividend paid on FBK stock Derivatives transactions Euribor forward rate agreement Forward currency contract Forward contract on FBK stock
Now
180 Days from Now
360 Days from Now
---
€10,000,000
---
---
€10,000,000
Investment matures
-------
----$5.00 per share
Dollars received Stock purchased ---
Contract entered Contract entered Contract entered
-------
Contract matures Contract matures Contract matures
By accessing this mock exam, you agree to the following terms of use: This mock exam is provided to currently-registered CFA candidates. Candidates may view and print the exam for personal exam preparation only. The following activities are strictly prohibited and may result in disciplinary and/or legal action: accessing or permitting access by anyone other than currently-registered CFA candidates; copying, posting to any website, emailing, distributing and/or reprinting the mock exam for any purpose.
Speckley approaches Illing & Partners, a private investment bank, to obtain price quotes on the various forward contracts. Illing & Partners base their price quotes on the information in Exhibit 2. Exhibit 2 Spot Market Information 180-day Euribor 2.50% 360-day Euribor 3.50% 180-day U.S. yield 3.00% 360-day U.S. yield 3.00% Dollars per euro (spot) $1.25 Price per share of FBK stock $100.00 Howard Dunn, an analyst at Illing & Partners, explains to Speckley that currency forward prices are determined in part by the current levels of domestic and foreign interest rates and the levels of domestic and foreign interest rates expected at the expiration of the forward contract. Dunn tells Speckley that he will receive fewer dollars when he converts his proceeds using the 360-day forward currency contract than he would receive at the current spot exchange rate. When Speckley asks why, Dunn replies: “The forward exchange rate reflects that 360-day U.S. interest rates are lower than 360day European interest rates.” Speckley enters into a Euribor forward rate agreement, a short position in a currency forward contract to exchange dollars for euros, and a long position in a FBK forward contract. As the currency forward contract nears maturity, the market value of the long position is $149,000 and Speckley estimates that the probability that his counterparty will default at maturity is 25 percent. 7. Based on the information in Exhibits 1 and 2 and assuming a 360-day year, the price of a 360-day euro forward contract is closest to: A. $1.244. B. $1.250. C. $1.256. 8. Based on the information in Exhibits 1 and 2 and assuming a 360-day year, the price of a 360-day forward contract on FBK stock is closest to: A. $97.93. B. $98.07. C. $103.00. By accessing this mock exam, you agree to the following terms of use: This mock exam is provided to currently-registered CFA candidates. Candidates may view and print the exam for personal exam preparation only. The following activities are strictly prohibited and may result in disciplinary and/or legal action: accessing or permitting access by anyone other than currently-registered CFA candidates; copying, posting to any website, emailing, distributing and/or reprinting the mock exam for any purpose.
9. Dunn’s explanation of the currency forward price is most likely: A. correct. B. incorrect because forward exchange rates are not affected by current domestic and foreign interest rates. C. incorrect because forward exchange rates are not affected by domestic and foreign interest rate expectations. 10. Dunn’s explanation of the difference between the 360-day forward exchange rate and the current spot exchange rate is most likely: A. correct. B. incorrect because the forward exchange rate will also depend upon inflation expectations. C. incorrect because the forward exchange rate will be higher than the spot rate when U.S. interest rates are lower than European interest rates. 11. The credit risk of the currency forward contract from Speckley’s perspective is closest to: A. $0. B. $37,250. C. $149,000. 12. Based on the information in Exhibits 1 and 2 and assuming a 360-day year, the rate on a Euribor forward rate agreement (FRA) that meets Speckley’s needs is closest to: A. 2.22%. B. 3.00%. C. 4.44%.
By accessing this mock exam, you agree to the following terms of use: This mock exam is provided to currently-registered CFA candidates. Candidates may view and print the exam for personal exam preparation only. The following activities are strictly prohibited and may result in disciplinary and/or legal action: accessing or permitting access by anyone other than currently-registered CFA candidates; copying, posting to any website, emailing, distributing and/or reprinting the mock exam for any purpose.
Sofiya Prutko Case Scenario Sofiya Prutko, CFA, is a partner at Fedir Investments, a firm that acts as a private conduit for issuing securities backed by non-conforming residential mortgages. Fedir has assembled an $80 million pool of 30-year, fixed-rate mortgages with unusually high loanto-value ratios and intends to privately place the securities created from this pool. Prutko’s task is to determine the best structure for the securities. As part of that process, she has scheduled a series of meetings with current and potential investors. Her first meeting is with an endowment fund manager who may purchase a portion of the securities if they meet his needs. During the meeting, Prutko is asked about the pool’s characteristics and its estimated cash flows. She explains that the pool has a WAC of 7.10 percent and a WAM of 356 months and that, under current market conditions, prepayments are expected at 310 PSA. Later in the discussion, she presents a table showing pool cash flow estimates for a different prepayment assumption. An incomplete part of that table appears in Exhibit 1.
Months From Now 24
Exhibit 1 Mortgage Pool Monthly Cash Flow Estimate Outstanding Mortgage Net Scheduled Balance Payment Interest Principal $47,563,831 $327,321 $281,419 $45,901
Prepayment
The endowment fund manager explains that one of his primary concerns is that market interest rates will rise, leading to prepayment rates that are much lower than currently expected. He also explains that he wants a relatively long-term investment (average life greater than 5 years) and does not want to receive any cash flow from it for a number of years. Prutko’s second meeting is with the manager of a public pension fund that invests in a wide variety of fixed income securities. The manager is currently concerned about credit risk but states that, “Although I’m concerned because some non-agency issuers have more credit risk than Fannie Mae and Freddie Mac, credit enhancement can be used to achieve a credit rating equal to that of Fannie and Freddie securities.” Prutko describes the credit risk characteristics of Fedir’s securitizations relative to agency securities and adds, “in addition, for each $100 in mortgage principal, we issue only $95 in par-value securities, retaining $5 as an equity position.”
By accessing this mock exam, you agree to the following terms of use: This mock exam is provided to currently-registered CFA candidates. Candidates may view and print the exam for personal exam preparation only. The following activities are strictly prohibited and may result in disciplinary and/or legal action: accessing or permitting access by anyone other than currently-registered CFA candidates; copying, posting to any website, emailing, distributing and/or reprinting the mock exam for any purpose.
After meeting with these two individuals and others, Prutko decides to separate the pool into two $40 million pools. The first pool is used to back a pair of interest-only and principal-only stripped securities with a $38 million par value. The second pool is used to back a CMO structure with two $12 million sequential planned amortization class (PAC) tranches, PAC-A and PAC-B, and one $14 million support tranche. Interest rates at new issue suggest that prepayments will occur at 310 PSA and the initial PAC collar is 200-450 PSA for PAC-A and 230-420 PSA for PAC-B. Each strip security and CMO tranche is privately placed, as was originally desired. 13. Given the 310 PSA prepayment assumption, the current prepayment rate of the pool is closest to a CPR of: A. 2.5%. B. 18.6%. C. 41.3%. 14. Given a single monthly mortality prepayment assumption of 2.1482 percent and the other information about the 24th month of the pool’s life that is provided in Exhibit 1, the expected prepayment amount is closest to: A. $1,014,735. B. $1,020,780. C. $1,021,766. 15. The endowment fund manager’s concern about the impact of movements in market interest rates is best described as a concern about: A. extension risk. B. contraction risk. C. prepayment risk. 16. The pension fund manager’s statement about the credit risk of non-agency mortgage-backed securities is most likely: A. correct. B. incorrect, with respect to the use of credit enhancement. C. incorrect, with respect to the credit risk of non-agency issuers. 17. According to the information that Prutko provided to the pension fund manager, the kind of credit enhancement that Fedir provides is best described as: A. wrapping. B. overcollateralization. C. excess spread accounts. By accessing this mock exam, you agree to the following terms of use: This mock exam is provided to currently-registered CFA candidates. Candidates may view and print the exam for personal exam preparation only. The following activities are strictly prohibited and may result in disciplinary and/or legal action: accessing or permitting access by anyone other than currently-registered CFA candidates; copying, posting to any website, emailing, distributing and/or reprinting the mock exam for any purpose.
18. Which type of CMO tranche would most likely meet the endowment fund manager’s desired investment maturity and cash flow characteristics? A. An accrual tranche. B. A sequential-pay tranche. C. A planned amortization class tranche.
By accessing this mock exam, you agree to the following terms of use: This mock exam is provided to currently-registered CFA candidates. Candidates may view and print the exam for personal exam preparation only. The following activities are strictly prohibited and may result in disciplinary and/or legal action: accessing or permitting access by anyone other than currently-registered CFA candidates; copying, posting to any website, emailing, distributing and/or reprinting the mock exam for any purpose.
Lisa Jaworski Case Scenario Lisa Jaworski is an equity portfolio manager for Thornhurst Investments, a large investment management company based in Charlotte, North Carolina. Thornhurst currently uses the Capital Asset Pricing Model (CAPM) to evaluate securities and meanvariance portfolio optimization to construct equity portfolios. Jaworski is meeting with two assistant portfolio managers, Yaodong Bi and Niyati Ahuja. Bi and Ahuja have been asked to do some research on ways to improve on the methods currently being used by Thornhurst to evaluate securities and develop portfolios. Jaworski begins the meeting by outlining some issues relating to the CAPM. She makes the following statements: Statement 1 “One of the reasons I am uncomfortable using the CAPM is that it makes some very restrictive assumptions such as: investors pay no taxes on returns and no transaction costs on trades, investors have unique views on expected returns, variances and correlations of securities, and investors can borrow and lend at the same risk-free rate of interest.” Statement 2 “We are also faced with a problem that our mean-variance optimization models can generate unstable minimum-variance efficient frontiers. Consequently, we face considerable uncertainty regarding recommendations we make to our clients on asset allocation. I attribute the instability to our use of: a short sales constraint, and historical betas.” Bi suggests that multifactor models provide a better way to model stock returns. He develops two models on a whiteboard while stating: “There are two ways to model stock returns using the following multifactor model:
Model 1 In this model, stock returns ( ) are determined by surprises in economic factors such as GDP growth and the level of interest rates. Model 2 Here, stock returns ( ) are determined by factors that are company attributes such as price-earnings ratio and market capitalization. By accessing this mock exam, you agree to the following terms of use: This mock exam is provided to currently-registered CFA candidates. Candidates may view and print the exam for personal exam preparation only. The following activities are strictly prohibited and may result in disciplinary and/or legal action: accessing or permitting access by anyone other than currently-registered CFA candidates; copying, posting to any website, emailing, distributing and/or reprinting the mock exam for any purpose.
While the interpretation of the intercept is similar for both models, the factor sensitivities are interpreted differently in the two models.” Ahuja notes that a multifactor Arbitrage Pricing Model (APT) provides a much better basis than the CAPM for calculating expected portfolio returns and evaluating portfolio risk exposures. In order to illustrate the advantages of the multifactor APT model, Ahuja provides information for two portfolios Thornhurst currently manages. The information is provided below in Exhibit 1. The current risk-free rate is 2 percent. Exhibit 1 Factor Sensitivities and Risk Premia Factor Factor Sensitivities Risk Portfolio A Portfolio B Benchmark Risk Factor Premium (%) Confidence Risk 0.81 0.04 0.5 4.5 Inflation Risk -0.15 -0.45 -0.25 -1.2 Business Cycle Risk 1.23 0.09 0.9 5.2 Ahuja makes the following statement: Statement 3 “We can tell from Exhibit 1 that Portfolio A is structured in such a manner that it will benefit from an expanding economy and improving confidence because the factor sensitivities for confidence risk and business cycle risk exceed the factor sensitivities for the benchmark. Portfolio B has very low factor sensitivities for confidence risk and business cycle risk but moderately high exposure to inflation risk, therefore Portfolio B can be referred to as a factor portfolio for inflation risk.” Jaworski wants to examine how active management is contributing to portfolio performance. Ahuja responds with the following statement: Statement 4 “Our models show that Portfolio A has annual tracking error of 1.25 percent and an information ratio of 1.2 while Portfolio B has annual tracking error of 0.75 percent and an information ratio of 0.87.” 19. Which assumption of the CAPM is most likely incorrect in Jaworski’s Statement 1? The assumption regarding: A. borrowing and lending. B. taxes and transaction costs. C. expected returns, variances and correlations. By accessing this mock exam, you agree to the following terms of use: This mock exam is provided to currently-registered CFA candidates. Candidates may view and print the exam for personal exam preparation only. The following activities are strictly prohibited and may result in disciplinary and/or legal action: accessing or permitting access by anyone other than currently-registered CFA candidates; copying, posting to any website, emailing, distributing and/or reprinting the mock exam for any purpose.
20. Is Jaworski’s Statement 2 most likely correct? A. Yes. B. No, she is incorrect about the short sales constraint. C. No, she is incorrect about the use of historical betas. 21. With regard to the statement on multifactor models, Bi is most likely incorrect with respect to the: A. intercept value . B. factor sensitivities . C. description of the factors. 22. Based on the information in Exhibit 1, the expected return for portfolio A is closest to: A. 8.4% B. 10.2% C. 12.2% 23. Is Ahuja’s Statement 3 most likely correct? A. Yes B. No, she is incorrect about Portfolio A C. No, she is incorrect about Portfolio B. 24. Based on Statement 4 by Ahuja, an appropriate conclusion is that the portfolio that has benefited the most from active management is: A. portfolio B because of tracking error. B. portfolio A because of the information ratio. C. portfolio B because of the information ratio.
By accessing this mock exam, you agree to the following terms of use: This mock exam is provided to currently-registered CFA candidates. Candidates may view and print the exam for personal exam preparation only. The following activities are strictly prohibited and may result in disciplinary and/or legal action: accessing or permitting access by anyone other than currently-registered CFA candidates; copying, posting to any website, emailing, distributing and/or reprinting the mock exam for any purpose.
Brigitte Langlois Case Scenario Brigitte Langlois, a fixed income securities analyst for Cunard Securities, is responsible for evaluating and monitoring the creditworthiness of companies whose bonds are held in Cunard's High Yield International Corporate Bond Fund. Langlois bases her buy and sell decisions on a multivariate bankruptcy prediction model that estimates the probability that a company will face insolvency within the next 18 months. As inputs into the model, Langlois uses adjusted, rather than reported, accounting data to calculate a company's liquidity, solvency, and profitability ratios. Langlois and her research assistant, Barclay Kingston, are preparing a research report on Duban Inc., a U.S. based company, and Kerwin Corporation, Duban’s recently acquired Swedish affiliate, to determine whether either company's intermediate-term bonds would be suitable investments for Cunard's bond fund. Langlois assigns Kingston several tasks: “I want you to analyze Duban’s long-term solvency because I am concerned about its obligation to provide pension benefits. Because Duban uses U.S. GAAP while Kerwin uses International Financial Reporting Standards (IFRS), I want you to prepare an analysis of their financial statements.” Langlois provides Kingston with information about Duban’s pension plan, which is shown below in Exhibit 1.
By accessing this mock exam, you agree to the following terms of use: This mock exam is provided to currently-registered CFA candidates. Candidates may view and print the exam for personal exam preparation only. The following activities are strictly prohibited and may result in disciplinary and/or legal action: accessing or permitting access by anyone other than currently-registered CFA candidates; copying, posting to any website, emailing, distributing and/or reprinting the mock exam for any purpose.
Exhibit 1 Duban Inc. Selected Footnote Disclosure Pension Plan Information (in U.S. $ millions) 2009
2008
$1,606 86 147 (148) 8 $1,699
$1,296 81 131 237 (145) 6 $1,606
2009
2008
Reconciliation of Plan Assets Opening Balance Return on Plan Assets Employer Contributions Participant Contributions Benefits Paid Closing Balance
$507 (41) 117 8 (148) $443
$592 (21) 75 6 (145) $507
Other Information Unrecognized Prior Service Cost Unrecognized Actuarial Loss Expected Return on Plan Assets Amortization of Unrecognized Prior Service Cost Amortization of Unrecognized Loss
227 348 46 23 15
250 205 45 12 10
Reconciliation of Pension Benefit Obligation (PBO) Opening Balance Service Cost Interest Cost Plan Amendments Benefits Paid Participant Contributions Closing Balance
Langlois continues to outline Kingston’s tasks: “I would like you to compute the effect of the consolidation of Kerwin on Duban’s profitability. As outlined in Exhibit 2, since the acquisition by Duban, Kerwin’s performance has improved dramatically, but I think they should still be considered a Swedish based company for our investment purposes for the following reasons: They sell all of their output in Sweden, in kronas. Although they purchase some components from Duban, all of the labor and other costs are incurred in Sweden. They are able to finance all of their working capital needs from local sources.” Selected information from Duban’s financial statements and Management’s Discussion and Analysis relating to its investment in Kerwin, is shown below in Exhibit 2. By accessing this mock exam, you agree to the following terms of use: This mock exam is provided to currently-registered CFA candidates. Candidates may view and print the exam for personal exam preparation only. The following activities are strictly prohibited and may result in disciplinary and/or legal action: accessing or permitting access by anyone other than currently-registered CFA candidates; copying, posting to any website, emailing, distributing and/or reprinting the mock exam for any purpose.
Exhibit 2 Selected Information from Duban’s 2009 Financial Statements and Management’s Discussion and Analysis Concerning Duban’s Investment in Kerwin
Sweden is an important foreign market for Duban Inc. On 1 January 2009, we made an investment in Kerwin Corporation in expectation of strong consumer demand. As indicated in the following table, as a result of Duban’s involvement in the Swedish operations Kerwin's 2009 net sales increased by 25 percent compared with 2008 sales. In addition, Kerwin's 2009 net income increased by 40percent compared to the prior year. Kerwin: Selected Financial Data (in SEK millions) 2009 Net sales 56,000 Net income 5,000 Monetary assets 13,000 Non-monetary assets 32,500 Monetary liabilities 18,000 Equity 27,500
2008 44,800 3,600 12,000 28,000 17,500 22,500
USD/SEK Exchange Rate Year-end rate, 31 December *Average rate during year
2009 $0.140 = 1SEK $0.132= 1SEK
2008 $0.127 = 1SEK $0.141= 1SEK
25. Based on Exhibit 1, funded status of Duban’s pension plan under U.S. GAAP for 2009 ($ millions) would be closest to a liability of: A. 681. B. 1,256. C. 1,831. 26. Based on Exhibit 1, the pension expense ($ millions) that would be reported on Duban's 2009 income statement under U.S. GAAP would be closest to: A. 187. B. 225. C. 230. By accessing this mock exam, you agree to the following terms of use: This mock exam is provided to currently-registered CFA candidates. Candidates may view and print the exam for personal exam preparation only. The following activities are strictly prohibited and may result in disciplinary and/or legal action: accessing or permitting access by anyone other than currently-registered CFA candidates; copying, posting to any website, emailing, distributing and/or reprinting the mock exam for any purpose.
27. Based on Exhibit 1, the underlying economic pension expense ($ millions) for Duban for 2009 would be closest to: A. 192. B. 233. C. 274. 28. Langlois’ description of Kerwin’s operations most likely classifies the U.S. dollar as the: A. local currency. B. functional currency. C. presentation currency. 29. If the Swedish krona is chosen as Kerwin’s functional currency, Kerwin’s 2009 return on equity ratio (%) after translation, using the year-end balance for equity, will be closest to: A. 17.1. B. 18.2. C. 18.8. 30. With the changes in the krona indicated in Exhibit 2, compared to using the current rate method, net income under the temporal method, will most likely be: A. lower. B. higher. C. the same.
By accessing this mock exam, you agree to the following terms of use: This mock exam is provided to currently-registered CFA candidates. Candidates may view and print the exam for personal exam preparation only. The following activities are strictly prohibited and may result in disciplinary and/or legal action: accessing or permitting access by anyone other than currently-registered CFA candidates; copying, posting to any website, emailing, distributing and/or reprinting the mock exam for any purpose.
Brad Turner Case Scenario Brad Turner is the Chief Financial Officer of Foster Inc., a Canadian based manufacturing corporation that operates internationally. Foster has Cdn$20 billion in total assets, with excess cash to invest for a planned acquisition in two years. Information about Foster’s equity portfolio and fixed income portfolio is provided in Exhibits 1 and 2, respectively. All securities were purchased on the first day of the current year. Foster adheres to International Financial Reporting Standards (IFRS) when accounting for its investments in the securities of other companies.
Characteristic Classification
Exhibit 1 Foster Inc. Equity Portfolio (at year end, Cdn$ thousands) Security Alton Inc. Barker Inc. Cosmic Inc. Held-forAvailableAvailabletrading for-sale for-sale
Darnell Inc. Associated Company
Cost $100,000 $150,000 $250,000 $500,000 Market Value, end-of-year $97,000 $151,000 $257,000 $506,000 Dividends received during the year $1,000 $2,000 $3,000 $4,000 Foster’s share of investee’s net income for the year $5,000 $7,000 $10,000 $15,000 Note: Darnell Inc. has $2 billion in total assets. Foster owns 40 percent of Darnell’s equity and has representation on Darnell’s Board of Directors but does not have effective control.
Characteristic Classification
Exhibit 2 Foster Inc. Fixed Income Portfolio (at year end, Cdn$ thousands) Security Eldon Inc. Fizz Inc. Gilt Inc. Held-forAvailableHeld-totrading for-sale maturity
Cost $20,000 $35,000 $50,000 Market Value, end-of-year $23,000 $45,000 $45,000 Interest earned for the year $1,000 $2,000 $4,000 Note: All fixed income securities were purchased at par value.
Harp Inc. Held-tomaturity $60,000 $64,000 $5,000
By accessing this mock exam, you agree to the following terms of use: This mock exam is provided to currently-registered CFA candidates. Candidates may view and print the exam for personal exam preparation only. The following activities are strictly prohibited and may result in disciplinary and/or legal action: accessing or permitting access by anyone other than currently-registered CFA candidates; copying, posting to any website, emailing, distributing and/or reprinting the mock exam for any purpose.
Turner is interested in understanding the effect of the investment portfolios on Foster’s year-end financial statements. Foster is re-evaluating its investment strategy, including what would have been the effect if Foster had designated more of the securities as investments at fair value. Turner does not think the decline in market value of any of the securities is permanent, but when discussing it with his investment officer, Charlene Chen, she makes the following statement: “I think the impairment in Gilt Inc. is permanent and we should recognize the impairment loss in net income. However, if it recovers next year we will be able to reverse the loss.” For Turner’s analysis, all tax effects are ignored. 31. The contribution of the equity portfolio to Foster’s net income ($) for the year is closest to: A. 7,000. B. 18,000. C. 26,000. 32. If at acquisition, all of the equity securities that were eligible to be designated as investments at fair value were so designated, the amount that the entire equity portfolio would contribute to Foster’s net income ($) for the year is closest to: A. 11,000. B. 21,000. C. 26,000. 33. Compared to its current classification, if Foster had classified its investment in Darnell as a joint venture and accounted for it in the preferred manner, the most likely effect on Foster’s return on assets (ROA) is that ROA would be: A. no change. B. a decrease. C. an increase. 34. At year-end, the carrying value ($) of the fixed income portfolio will be closest to: A. 168,000. B. 177,000. C. 178,000.
By accessing this mock exam, you agree to the following terms of use: This mock exam is provided to currently-registered CFA candidates. Candidates may view and print the exam for personal exam preparation only. The following activities are strictly prohibited and may result in disciplinary and/or legal action: accessing or permitting access by anyone other than currently-registered CFA candidates; copying, posting to any website, emailing, distributing and/or reprinting the mock exam for any purpose.
35. If Turner is correct in his opinion about Gilt’s loss, a positive effect on reported net income will most likely occur if Foster classifies: A. both Gilt and Harp as held-for-trading securities. B. Gilt as a held-for-trading security, and Harp as an available-for-sale security. C. Gilt as an available-for-sale security, and Harp as a held-for-trading security. 36. Chen’s statement is most accurate under: A. IFRS only. B. U.S. GAAP only. C. both IFRS and U.S. GAAP.
By accessing this mock exam, you agree to the following terms of use: This mock exam is provided to currently-registered CFA candidates. Candidates may view and print the exam for personal exam preparation only. The following activities are strictly prohibited and may result in disciplinary and/or legal action: accessing or permitting access by anyone other than currently-registered CFA candidates; copying, posting to any website, emailing, distributing and/or reprinting the mock exam for any purpose.
Rhonda Hamilton Case Scenario Rhonda Hamilton, CFA, manages the Select Electric Fund. Hamilton is reviewing a research report written by her colleague Brian Ender about the U.S. electric utility industry. Ender’s report includes the results of a regression of the monthly return for an electric utility equity index for the previous 203 months (the dependent variable) against the monthly returns for the Standard &Poor’s 500 (S&P500) and the difference between the monthly returns on long-term U.S. government bonds and one-month U.S. Treasury bills (SPREAD) (the two independent variables). Hamilton has reviewed Ender’s regression results. She agrees that S&P500 and SPREAD are reasonable independent variables, but she is not convinced of the validity of Ender’s model. Using Enders’ data, Hamilton tested for and confirmed the presence of conditional heteroskedasticity. She then ran a regression similar to that run by Ender and corrected for conditional heteroskedasticity using robust standard errors (i.e., Hansen’s method). Hamilton’s regression model and relevant statistics are presented in Exhibit 1.
Variable Constant S&P500 SPREAD
Exhibit 1 Hamilton’s Regression Model Electric Utility Industry Coefficient t-statistic 0.0069 0.013 0.3625 6.190 1.0264 4.280
R2 Durbin-Watson Statistic
p-value 0.99 Akunuri's by 1% B. No, because Kong's ex-ante alpha > Akunuri's by 3% C. Yes, because Akunuri's ex-ante alpha > Kong's by 1% 60. Which of the two statements by Koh in support of T-B is most accurate? A. Statement 1 only B. Statement 2 only C. Both statements 1 and 2 are accurate.
By accessing this mock exam, you agree to the following terms of use: This mock exam is provided to currently-registered CFA candidates. Candidates may view and print the exam for personal exam preparation only. The following activities are strictly prohibited and may result in disciplinary and/or legal action: accessing or permitting access by anyone other than currently-registered CFA candidates; copying, posting to any website, emailing, distributing and/or reprinting the mock exam for any purpose.
