NISM Series XXI-B · Unit 6 of 12 · about 12% of the paper
Portfolio management process and portfolio theory: NISM Series XXI-B notes and practice questions
Asset allocation, the steps of the process, and modern portfolio theory.
What to know in Unit 6
- Investment policy statement.
- Strategic and tactical allocation.
- Efficient frontier.
- Diversification.
Key terms, examples and exam traps
Portfolio management process
The process includes planning with the client's objectives, executing the allocation and selection, and then feedback through monitoring and rebalancing.
Example. A manager reviews a portfolio each quarter.
Exam trap. This statement is false: The process ends when securities are purchased.
Investment policy statement
The investment policy statement records objectives, constraints, risk profile and guidelines, and governs the manager's decisions.
Example. A client's IPS limits equity to 60%.
Exam trap. This statement is false: An IPS is rewritten for every trade.
Strategic asset allocation
Strategic allocation sets long-term target weights across asset classes, based on objectives and risk, and is reviewed infrequently.
Example. A target of 60% equity and 40% debt.
Exam trap. This statement is false: Strategic allocation changes with every market move.
Tactical asset allocation
Tactical allocation makes short-term deviations from strategic weights to exploit market views.
Example. A manager holds extra cash when valuations are stretched.
Exam trap. This statement is false: Tactical allocation is the long-term target.
Correlation
Correlation measures how two returns move together, and combining assets with low correlation reduces portfolio risk.
Example. Gold and equity often move differently.
Exam trap. This statement is false: Combining assets cannot reduce risk.
Portfolio return
The expected return of a portfolio is the weighted average of the expected returns of its assets.
Example. 50% at 10% and 50% at 6% gives 8%.
Exam trap. This statement is false: Portfolio return is the simple sum of asset returns.
Portfolio variance
Portfolio variance depends on each asset's risk, its weight and the correlation between assets, so it is not a simple average of risks.
Example. Two risky assets with low correlation give a portfolio less risky than the average.
Exam trap. This statement is false: Portfolio risk is always the weighted average of the asset risks.
Efficient frontier
The efficient frontier shows portfolios that give the highest expected return for each level of risk.
Example. A portfolio below the frontier gives too little return for its risk.
Exam trap. This statement is false: Every portfolio lies on the efficient frontier.
Risk-averse investor
A risk-averse investor needs more expected return to accept more risk and prefers the less risky choice for the same return.
Example. An investor picks the safer of two equal-return options.
Exam trap. This statement is false: A risk-averse investor ignores risk.
Diversification
Diversification spreads capital across assets so that specific risk falls, but it does not remove market risk.
Example. Holding 30 stocks lowers company-specific risk.
Exam trap. This statement is false: Diversification removes all risk.
Systematic and unsystematic risk
Systematic risk affects the whole market and cannot be diversified, while unsystematic risk is specific to a company or sector and can be.
Example. A recession hits all stocks.
Exam trap. This statement is false: Unsystematic risk cannot be reduced by diversification.
6 practice questions
Read each question and choose your answer before opening the free mock, which shows the correct answer and the reason.
Q1. Which term is described here? Diversification spreads capital across assets so that specific risk falls, but it does not remove market risk.
- Zero-coupon bond
- Factor investing
- Diversification
- Clearing and settlement
Q2. Which term is described here? The expected return of a portfolio is the weighted average of the expected returns of its assets.
- Discounted cash flow
- Capital market line
- Costs of rebalancing
- Portfolio return
Q3. Which statement best describes “Risk-averse investor”?
- A risk-averse investor needs more expected return to accept more risk and prefers the less risky choice for the same return.
- Operational risk is the risk of loss from failed processes, people, systems or external events, including errors and fraud.
- Concentration risk arises when a large part of the portfolio is in a few securities or sectors.
- NAV is the value of a fund's assets less liabilities divided by the units outstanding.
Q4. Which statement best describes “Systematic and unsystematic risk”?
- Investing commits capital for an expected return after analysis of value, while speculation takes a short-term bet mainly on price movement.
- A good benchmark is appropriate, investable, measurable and specified in advance, and reflects the manager's style.
- An equity share represents ownership in a company, with a residual claim on earnings and assets after creditors are paid.
- Systematic risk affects the whole market and cannot be diversified, while unsystematic risk is specific to a company or sector and can be.
Q5. Which term is described here? Correlation measures how two returns move together, and combining assets with low correlation reduces portfolio risk.
- Portfolio variance
- Anti-money laundering
- Correlation
- Herding
Q6. Which statement best describes “Portfolio management process”?
- The process includes planning with the client's objectives, executing the allocation and selection, and then feedback through monitoring and rebalancing.
- Bottom-up analysis starts with company-level research on business, management and financials, with less weight on the macro view.
- An investor can raise return along the CML by borrowing and investing more in the market portfolio, which also raises risk.
- Stress testing evaluates portfolio losses under extreme but plausible scenarios, complementing statistical measures.
Frequently asked questions
How much of NISM Series XXI-B comes from Unit 6?
Unit 6 (Portfolio management process and portfolio theory) usually carries about 12% of the questions. The whole exam has 120 questions and the pass mark is 60%.
What should I study in NISM Series XXI-B Unit 6?
Investment policy statement. Strategic and tactical allocation. Efficient frontier. Diversification.
Are these NISM Series XXI-B practice questions free?
Yes. Take the full free mocks to see the correct answer and the reason for every question.
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