Level III Review Equity Portfolio Management

Study session 11 begins the level 3 material on equity portfolio management which is worth 5-15% of your total exam score.  There is only one reading (27) and much of the material is more conceptual than quantitative.
Equity Portfolio Management
As with the fixed income portion of the Level 3 exam, a big part here is remembering the differences between active and passive management. The advantages/disadvantages lie on a continuum for tax efficiency, fees and expected return.
Know the advantages/differences between ETFs and mutual funds. ETFs trade throughout the day, do not require shareholder recordkeeping, are more tax efficient because of in-kind redemptions, and do not have high exit costs. The one advantage of mutual funds is lower licensing fees.
Know the three main categories of investment style: value, growth and market oriented. Be able to determine the style from performance or fundamental data on the portfolio like price multiples, volatility, dividend yield, etc. Value styles will usually have lower price multiples, higher dividend yields, lower volatility.
The holding-based and returns-based style analysis is extremely testable and often shows up in the morning section. Understand the advantages and disadvantages of each.  Make sure you can use the output from the analysis to identify the management style as small-cap, large-cap, mid-cap and be able to determine style fit and drift.
The information ratio is easily testable and worth the small amount of time to memorize. It is fairly intuitive once you think about it. An investor’s (value) is a function of his depth of knowledge (IC) and breadth of knowledge (IB).
Be able to calculate the components of active return including misfit active risk, true active risk and total active risk.
I have the 2009 morning section of the Level 3 exam along with the guideline answers, originally released by the Institute but no longer available on the website. The exam includes a good practice question on equity portfolio management. Leave your email in the comments below or email me at info@efficientalpha.com and I will send you a copy.
Study session 12 concludes the material on equity investments with three readings on governance and international investments.
‘til next time, happy studyin’
Joseph Hogue, CFA

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