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CFA Level II Questions and Answers Rated A+
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Exam of 40 pages for the course CFA at CFA (CFA Level II)
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CFA Level IIWhat are the 7 Standards of Professional Conduct? - answer1) Professionalism
2) Integrity of Capital Markets
3) Duties to Clients
4) Duties to Employers
5) Investment Analysis, Recommendations and Actions
6) Conflicts of Interest
7) Responsibilities as a CFA Institute Member or CFA Candidate
What are two equivalent ways of comparing mutually exclusive projects with different
lifetimes? - answer1) Least Common Multiple of Lives
2) Equivalent Annual Annuity
What are the four types of real options? - answer1) Timing Options
2) Sizing Options
3) Flexibility Options (price-setting or production-flexibility options)
4) Fundamentals Options
What are the five basic forms of investments in other companies? - answer1)
Investments in Financial Assets
2) Investment in Associates
3) Joint Ventures
4) Business Combinations
5) Investments in Special Purpose and Variable Interest Entities
What differentiates investment in financial assets compared to other intercorporate
investments and how may they measured/reported? How does treatment differ under
IFRS vs. US GAAP? - answerThese are investments in which the investor has no
significant influence. They can be measured/reported as:
1) Fair value through profit or loss
2) Fair value through other comprehensive income (OCI)
3) Amortized cost
No major differences between treatment under IFRS and US GAAP.
What differentiates investment in financial associates and joint ventures compared to
other intercorporate investments? What method is required for reporting? -
answerThese are investments in which the investor has significant influence, but not
control, over the investee's business activities. IFRS and US GAAP require the equity
method of accounting.
,3 Key Characteristics of the Equity Method of Reporting - answer1) Requires the
investor to recognize income as earned, rather than when dividends are received.
2) Requires the equity investment to be carried at cost, plus its share of post-acquisition
income (after adjustments) less dividends received
3) The equity investment is reported as a single line item on the balance sheet and on
the income statement.
What method do IFRS and US GAAP require for business combinations? What is the
key characteristic of the method? - answerThe acquisition method. In this method, fair
value of the consideration given is the appropriate measure for identifiable assets and
liabilities acquired in the combination.
What is Goodwill? Is it amortized? What differences in treatment exist between IFRS
and US GAAP? - answerGoodwill is the difference between the acquisition value and
fair value of the target's identifiable net tangible and intangible assets.
It is not amortized because it is considered to have an indefinite life. Rather it is
evaluated at least annually for impairment.
IFRS uses a one-step approach to determine and measure impairment loss, whereas
US GAAP uses a two-step approach.
What is the difference between full goodwill and partial goodwill? - answerIFRS allows
the non-controlling interest in a company to be either measured at its fair value (full
goodwill) or at the non-controlling interest's proportionate share of the acquiree's
identifiable net assets (partial goodwill). US GAAP requires the full goodwill method.
How are SPEs and VIEs treated on financial statements? - answerSPEs and VIEs are
required to be consolidated by the entity which is expected to absorb the majority of the
expected losses or receive the majority of expected residual benefits.
What are the four key assumptions in the no-arbitrage arguments? - answer1)
Replicating instruments are identifiable and investable.
2) Market frictions are nil.
3) Short selling is allowed with full use of proceeds.
4) Borrowing and lending is available at a known risk-free rate.
What is the fundamental difference between futures and forwards? - answerFutures
contract values are reset to zero daily because of daily marking-to-market.
What are the five key international parity conditions? - answer1) Covered interest rate
parity
2) Uncovered interest rate parity
3) Forward rate parity
4) Purchasing power parity
,5) International Fisher effect
What five factors impact bid-offer spreads in FX markets? - answer1) The currency pair
involved
2) The time of day
3) Market volatility
4) Transaction size
5) The relationship between the dealer and client
What are 3 implications of international parity conditions? - answer1) Relative expected
inflation rates should determine relative nominal interest rates.
2) Relative interest rates should determine forward exchange rates
3) Forward exchange rates should correctly anticipate the path of the future spot
exchange rate
What is covered interest rate parity? - answerA foreign-currency-denominated money
market investment that is completely hedged against exchange rate risk in the forward
market should yield exactly the same return as an otherwise identical domestic money
market investment.
What is uncovered interest rate parity? - answerThe expected change in a domestic
currency's value should be fully reflected in domestic-foreign interest rate spreads.
What is the major implication of the ex ante purchasing power parity condition? -
answerExpected changes in exchange rates should equal the difference in expected
national inflation rates.
What is real interest rate parity and what are two sufficient conditions for it to hold? -
answerIt is the condition in which real interest rates are the same across all markets. It
would be guaranteed to hold if both ex ante purchasing power parity AND uncovered
interest rate parity held.
What is the international Fisher effect? What is one of its major assumptions? -
answerNominal interest rate differential between two currencies equals the difference
between the expected inflation rates.
It assumes risk premia are the same throughout the world.
What is forward rate parity? What are two sufficient conditions to guarantee it will hold?
- answerIt is when the forward exchange rate equals the expected spot exchange rate.
If both covered AND uncovered interest rate parity hold, forward rate parity is
guaranteed.
What does the balance of payments approach predict in terms of currency
appreciation/depreciation? - answerIt predicts that countries that run persistent current
, account deficits (surpluses) will generally see their currencies weaken (strengthen) over
time.
What can a country do to strengthen its currency? (3) - answer1) Institute relatively tight
monetary policies
2) Introduce structural economic reforms
3) Lower budget deficits
Under the Mundell-Fleming model, how does monetary policy affect a country's
exchange rate? - answerThrough interest rate sensitivity of capital flows. When
monetary policy is tightened (eased), the currency strengthens (weakens).
Under conditions of high capital mobility, what should happen to countries that
simultaneously pursue expansionary fiscal policies and relatively tight monetary
policies? - answerThese countries should see their currencies strengthen.
What is the main assertion of the portfolio balance model? - answerThe model says that
increases in government debt resulting from a rising budget deficit will be willingly held
by investors only if they are compensated in the form of a higher expected return. This
higher expected return could come from:
1) Higher interest rates/higher risk premium
2) Currency depreciation sufficient to generate anticipation of gains from subsequent
currency appreciation
3) Some combo of (1) and (2)
Why might emerging market countries have greater success in managing their
exchange rates? - answerThese countries tend of have larger foreign exchange reserve
holdings, particularly relative to the FX volume of their own currency.
What are 9 factors which may be predictive of a currency crisis? - answer1) Capital
markets which have recently been liberalized to allow the free flow of capital
2) Large recent inflows of foreign capital (particularly if short-term funding is
denominated in a foreign currency)
3) Recent banking crisis
4) Fixed or partially fixed (as opposed to floating) exchange rates
5) Declining foreign exchange reserves
6) Recently appreciated domestic currency
7) Deteriorating terms of trade
8) Broad money growth and the ratio of M2 to bank reserves
9) High inflation
What are the 5 Modigliani-Miller Assumptions? - answer1) All investors have the same
expectations for cash flows
2) Perfect capital markets
3) Investors can borrow and lend at the risk-free rate
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