2016 CFAI PM Question 9

[licky]

Tan has not found any manager capable of generating positive alpha in US midcap stocks. She has, however, identified a long-only portfolio manager of Canadian equities whom she believes will produce positive alpha. This manager uses the S&P/TSX (Toronto Stock Exchange) Index as a benchmark. Tan wants to create a portable alpha strategy that will earn the alpha of the Canadian equity portfolio and meet the new benchmark allocation to US midcap stocks. She asks Dodson for advice to establish this strategy.
Which of the following combinations of futures positions would most likely be included in Dodson’s advice to Tan regarding her intended portable alpha strategy?
A. Long position in S&P/TSX futures and short position in S&P 400 futures
B. Short position in S&P/TSX futures and long position in S&P 400 futures
C. Long position in S&P/TSX futures and long position in S&P 400 futures
From the case, it seems Tan wants to get exposure to alpha in both S&P TSX and S&P Midcap. So why isn’t the answer C? I didn’t quite understand the guideline answers
Thanks

 

[Mosstastic]

The case starts off by saying that Tan cannot find any manager capable of generating Alpha in us midcap stocks. So he’s not trying to generate alpha via the Midcap stocks, just the beta.

 

[verse214]

The answer is B right? If it’s not I’m screwed.
She will invest in the manager that she found (long canada beta + alpha) then short the TSX futures (shore canadian beta) and then long the US SP400 (US Beta).
Just always think of what they are going to invest in and where and what they are trying to generate (alpha or beta) and then just use the futures to net off what you don’t need to 0.

 

[Mosstastic]

B looks correct to me. But she won’t be long the Canadian beta. She will short the future so she has zero systematic risk, and then pick her stocks to generate alpha. Her beta will come from the US market

 

[waynelee106]

Tan has found a manager that can produce alpha from the TSX/S&P = Alpha
Tan wants exposure to US midmarket stocks = Beta
Sell Canadian futures and use proceeds to purchase US midmarket stocks.
This effectively keeps alpha exposure in Canada and Beta exposure in US midmarket stocks.

 

[licky]

Thanks everyone. For some reason, the below concept didn’t click for me before. I thought Tan wanted alpha in TSX and beta in US, so I immediately went to answer C - forgetting that the investment in the Cdn mgr would have given him both alpha and beta.

verse214 wrote:
She will invest in the manager that she found (long canada beta + alpha) then short the TSX futures (shore canadian beta) and then long the US SP400 (US Beta).