Investments, Eleventh Edition
By Zvi Bodie, Alex Kane and Alan J. Marcus
Contents:
Preface xvi
Part-I
Introduction 1
Chapter 1
The Investment Environment 1
1.1 Real Assets versus Financial Assets 2
1.2 Financial Assets 3
1.3 Financial Markets and the Economy 5
The Informational Role of Financial Markets /
Consumption
Timing / Allocation of Risk / Separation of
Ownership and Management / Corporate Governance
and Corporate Ethics
1.4 The Investment Process 8
1.5 Markets Are Competitive 9
The Risk–Return Trade-Off / Efficient Markets
1.6 The Players 11
Financial Intermediaries / Investment Bankers / Venture
Capital and Private Equity
1.7 The Financial Crisis of 2008 15
Antecedents of the Crisis / Changes in Housing Finance /
Mortgage Derivatives / Credit Default Swaps / The Rise of
Systemic Risk / The Shoe Drops / The Dodd-Frank Reform Act
1.8 Outline of the Text 23
End of Chapter Material 23–26
Chapter 2
Asset Classes and Financial Instruments 27
2.1 The Money Market 27
Treasury Bills / Certificates of Deposit / Commercial
Paper / Bankers’ Acceptances / Eurodollars / Repos
and Reverses / Federal Funds / Brokers’ Calls /
The LIBOR Market / Yields on Money Market
Instruments
2.2 The Bond Market 33
Treasury Notes and Bonds / Inflation-Protected Treasury
Bonds / Federal Agency Debt / International Bonds /
Municipal Bonds / Corporate Bonds / Mortgages and
Mortgage-Backed Securities
2.3 Equity Securities 40
Common Stock as Ownership Shares / Characteristics of
Common Stock / Stock Market Listings / Preferred Stock /
Depositary Receipts
2.4 Stock and Bond Market Indexes 43
Stock Market Indexes / Dow Jones Industrial Average /
The Standard & Poor’s 500 Index / Other U.S. Market-
Value Indexes / Equally Weighted Indexes / Foreign
and International Stock Market Indexes / Bond Market
Indicators
2.5 Derivative Markets 50
Options / Futures Contracts
End of Chapter Material 52–56
Chapter 3
How Securities Are Traded 57
3.1 How Firms Issue Securities 57
Privately Held Firms / Publicly Traded Companies /
Shelf Registration / Initial Public Offerings
3.2 How Securities Are Traded 62
Types of Markets
Direct Search Markets / Brokered Markets / Dealer
Markets / Auction Markets
Types of Orders
Market Orders / Price-Contingent Orders
Trading Mechanisms
Dealer Markets / Electronic Communication Networks
(ECNs) / Specialist Markets
3.3 The Rise of Electronic Trading 66
3.4 U.S. Markets 68
NASDAQ / The New York Stock Exchange / ECNs
3.5 New Trading Strategies 70
Algorithmic Trading / High-Frequency Trading / Dark
Pools / Bond Trading
3.6 Globalization of Stock Markets 73
3.7 Trading Costs 74
3.8 Buying on Margin 75
3.9 Short Sales 78
3.10 Regulation of Securities Markets 82
Self-Regulation / The Sarbanes-Oxley Act / Insider
Trading
End of Chapter Material 86–90
Chapter 4
Mutual Funds and Other Investment
Companies 91
4.1 Investment Companies 91
4.2 Types of Investment Companies 92
Unit Investment Trusts / Managed Investment Companies /
Other Investment Organizations
Commingled Funds / Real Estate Investment Trusts
(REITs) / Hedge Funds
4.3 Mutual Funds 95
Investment Policies
Money Market Funds / Equity Funds / Sector
Funds / Bond Funds / International Funds / Balanced
Funds / Asset Allocation and Flexible Funds /
Index Funds
How Funds Are Sold
4.4 Costs of Investing in Mutual Funds 98
Fee Structure
Operating Expenses / Front-End Load / Back-End
Load / 12b-1 Charges
Fees and Mutual Fund Returns
4.5 Taxation of Mutual Fund Income 102
4.6 Exchange-Traded Funds 103
4.7 Mutual Fund Investment Performance:
A First Look 106
4.8 Information on Mutual Funds 109
End of Chapter Material 112–116
Part-II
Portfolio Theory
and Practice 117
Chapter 5
Risk, Return, and the Historical Record 117
5.1 Determinants of the Level of Interest Rates 118
Real and Nominal Rates of Interest / The Equilibrium
Real Rate of Interest / The Equilibrium Nominal Rate of
Interest / Taxes and the Real Rate of Interest
5.2 Comparing Rates of Return for Different Holding
Periods 121
Annual Percentage Rates / Continuous Compounding
5.3 Bills and Inflation, 1926–2015 124
5.4 Risk and Risk Premiums 126
Holding-Period Returns / Expected Return and Standard
Deviation / Excess Returns and Risk Premiums
5.5 Time Series Analysis of Past Rates of Return 129
Time Series versus Scenario Analysis / Expected Returns
and the Arithmetic Average / The Geometric (Time-
Weighted) Average Return / Variance and Standard
Deviation / Mean and Standard Deviation Estimates
from Higher-Frequency Observations / The Reward-to-Volatility
(Sharpe) Ratio
5.6 The Normal Distribution 134
5.7 Deviations from Normality and Alternative Risk
Measures
136
Value at Risk / Expected Shortfall / Lower Partial
Standard
Deviation and the Sortino Ratio / Relative
Frequency
of Large, Negative 3-Sigma Returns
5.8 Historic Returns on Risky Portfolios 140
A Global View of the Historical Record
5.9 Normality and Long-Term Investments 147
Short-Run versus Long-Run Risk / Forecasts for the
Long Haul
End of Chapter Material 151–156
Chapter 6
Capital Allocation to Risky Assets 157
6.1 Risk and Risk Aversion 158
Risk, Speculation, and Gambling / Risk Aversion and
Utility Values / Estimating Risk Aversion
6.2 Capital Allocation across Risky and Risk-Free
Portfolios 164
6.3 The Risk-Free Asset 166
6.4 Portfolios of One Risky Asset and a Risk-Free
Asset 167
6.5 Risk Tolerance and Asset Allocation 170
Non-Normal Returns
6.6 Passive Strategies: The Capital Market Line 176
End of Chapter Material 178–187
Appendix A: Risk Aversion, Expected Utility, and the
St. Petersburg Paradox 187
Appendix B: Utility Functions and
Risk Premiums 191
Chapter 7
Optimal Risky Portfolios 193
7.1 Diversification and Portfolio Risk 194
7.2 Portfolios of Two Risky Assets 195
7.3 Asset Allocation with Stocks, Bonds, and Bills 203
Asset Allocation with Two Risky Asset Classes
7.4 The Markowitz Portfolio Optimization Model 208
Security Selection / Capital Allocation and the Separation
Property / The Power of Diversification / Asset
Allocation and Security Selection / Optimal Portfolios
and Non-Normal Returns
7.5 Risk Pooling, Risk Sharing, and the Risk
of Long-Term Investments 217
Risk Pooling and the Insurance Principle / Risk Sharing /
Diversification and the Sharpe Ratio / Time Diversification
and the Investment Horizon
End of Chapter Material 222–232
Appendix A: A Spreadsheet Model for Efficient
Diversification 232
Appendix B: Review of Portfolio Statistics 237
Chapter 8
Index Models 245
8.1 A Single-Factor Security Market 246
The Input List of the Markowitz Model / Systematic versus
Firm-Specific Risk
8.2 The Single-Index Model 248
The Regression Equation of the Single-Index Model / The
Expected Return–Beta Relationship / Risk and Covariance
in the Single-Index Model / The Set of Estimates
Needed for the Single-Index Model / The Index Model
and Diversification
8.3 Estimating the Single-Index Model 255
The Security Characteristic Line for Ford / The Explanatory
Power of Ford’s SCL / The Estimate of Alpha / The
Estimate of Beta / Firm-Specific Risk
Typical Results from Index Model Regressions
6.4 Portfolios of One Risky Asset and a Risk-Free
Asset 167
6.5 Risk Tolerance and Asset Allocation 170
Non-Normal Returns
6.6 Passive Strategies: The Capital Market Line 176
End of Chapter Material 178–187
Appendix A: Risk Aversion, Expected Utility, and the
St. Petersburg Paradox 187
Appendix B: Utility Functions and
Risk Premiums 191
Chapter 7
Optimal Risky Portfolios 193
7.1 Diversification and Portfolio Risk 194
7.2 Portfolios of Two Risky Assets 195
7.3 Asset Allocation with Stocks, Bonds, and Bills 203
Asset Allocation with Two Risky Asset Classes
7.4 The Markowitz Portfolio Optimization Model 208
Security Selection / Capital Allocation and the Separation
Property / The Power of Diversification / Asset
Allocation and Security Selection / Optimal Portfolios
and Non-Normal Returns
7.5 Risk Pooling, Risk Sharing, and the Risk
of Long-Term Investments 217
Risk Pooling and the Insurance Principle / Risk Sharing /
Diversification and the Sharpe Ratio / Time Diversification
and the Investment Horizon
End of Chapter Material 222–232
Appendix A: A Spreadsheet Model for Efficient
Diversification 232
Appendix B: Review of Portfolio Statistics 237
Chapter 8
Index Models 245
8.1 A Single-Factor Security Market 246
The Input List of the Markowitz Model / Systematic versus
Firm-Specific Risk
8.2 The Single-Index Model 248
The Regression Equation of the Single-Index Model / The
Expected Return–Beta Relationship / Risk and Covariance
in the Single-Index Model / The Set of Estimates
Needed for the Single-Index Model / The Index Model
and Diversification
8.3 Estimating the Single-Index Model 255
The Security Characteristic Line for Ford / The Explanatory
Power of Ford’s SCL / The Estimate of Alpha / The
Estimate of Beta / Firm-Specific Risk
Typical Results from Index Model Regressions
8.4 The Industry Version of the Index Model 259
Predicting Betas
8.5 Portfolio Construction Using the Single-Index Model 262
Alpha and Security Analysis / The Index Portfolio as an
Investment Asset / The Single-Index Model Input List /
The Optimal Risky Portfolio in the Single-Index Model /
The Information Ratio / Summary of Optimization Procedure
/ An Example / Correlation and Covariance Matrix
Risk Premium Forecasts / The Optimal Risky Portfolio / Is
the Index Model Inferior to the Full-Covariance Model?
End of Chapter Material 271–276
PART III
Equilibrium in Capital
Markets 277
Chapter 9
The Capital Asset Pricing Model 277
9.1 The Capital Asset Pricing Model 277
Why Do All Investors Hold the Market Portfolio? / The
Passive Strategy Is Efficient / The Risk Premium of the
Market Portfolio / Expected Returns on Individual
Securities / The Security Market Line / The CAPM and
the Single-Index Market
9.2 Assumptions and Extensions of the CAPM 288
Identical Input Lists / Risk-Free Borrowing and the
Zero-Beta Model / Labor Income and Nontraded
Assets / A Multiperiod Model and Hedge Portfolios /
A Consumption-
Based CAPM / Liquidity and the CAPM
9.3 The CAPM and the Academic World 298
9.4 The CAPM and the Investment Industry 299
End of Chapter Material 300–308
Chapter 10
Arbitrage Pricing Theory and Multifactor
Models of Risk and Return 309
10.1 Multifactor Models: A Preview 310
Factor Models of Security Returns
10.2 Arbitrage Pricing Theory 312
Arbitrage, Risk Arbitrage, and Equilibrium / Well-
Diversified Portfolios / The Security Market Line of the APT
Individual Assets and the APT
Well-Diversified Portfolios in Practice
10.3 The APT, the CAPM, and the Index Model 319
The APT and the CAPM / The APT and Portfolio
Optimization
in a Single-Index Market
10.4 A Multifactor APT 321
10.5 The Fama-French (FF) Three-Factor Model 324
End of Chapter Material 326–332
Chapter 11
The Efficient Market Hypothesis 333
11.1 Random Walks and the Efficient Market
Hypothesis 334
Competition as the Source of Efficiency / Versions of the
Efficient Market Hypothesis
11.2 Implications of the EMH 339
Technical Analysis / Fundamental Analysis / Active versus
Passive Portfolio Management / The Role of Portfolio
Management in an Efficient Market / Resource Allocation
11.3 Event Studies 343
11.4 Are Markets Efficient? 347
The Issues
The Magnitude Issue / The Selection Bias Issue / The
Lucky Event Issue
Weak-Form Tests: Patterns in Stock Returns
Returns over Short Horizons / Returns over Long Horizons
Predictors of Broad Market Returns / Semistrong Tests:
Market Anomalies
The Small-Firm Effect / The Neglected-Firm Effect
and Liquidity Effects / Book-to-Market Ratios / Post–Earnings-
Announcement Price Drift
Strong-Form Tests: Inside Information / Interpreting the
Anomalies
Risk Premiums or Inefficiencies? / Anomalies or Data
Mining? / Anomalies over Time
Bubbles and Market Efficiency
11.5 Mutual Fund and Analyst Performance 359
Stock Market Analysts / Mutual Fund Managers / So, Are
Markets Efficient?
End of Chapter Material 365–372
Chapter 12
Behavioral Finance and Technical
Analysis 373
12.1 The Behavioral Critique 374
Information Processing
Forecasting Errors / Overconfidence / Conservatism /
Sample Size Neglect and Representativeness
Behavioral Biases
Framing / Mental Accounting / Regret Avoidance /
Affect / Prospect Theory
Limits to Arbitrage
Fundamental Risk / Implementation Costs / Model Risk
Limits to Arbitrage and the Law of One Price
“Siamese Twin” Companies / Equity Carve-Outs /
Closed-End Funds
Bubbles and Behavioral Economics / Evaluating the
Behavioral Critique
12.2 Technical Analysis and Behavioral Finance 384
Trends and Corrections
Momentum and Moving Averages / Relative Strength /
Breadth
Sentiment Indicators
Trin Statistic / Confidence Index / Put/Call Ratio
A Warning
End of Chapter Material 391–396
Chapter 13
Empirical Evidence on Security
Returns 397
13.1 The Index Model and the Single-Factor SML 398
The Expected Return–Beta Relationship
Setting Up the Sample Data / Estimating the SCL /
Estimating the SML
Tests of the CAPM / The Market Index / Measurement
Error in Beta
13.2 Tests of the Multifactor Models 403
Labor Income / Private (Nontraded) Business / Early Tests
of the Multifactor CAPM and APT / A Macro Factor Model
13.3 Fama-French-Type Factor Models 407
Size and B/M as Risk Factors / Behavioral Explanations /
Momentum: A Fourth Factor
13.4 Liquidity and Asset Pricing 414
13.5 Consumption-Based Asset Pricing and the Equity
Premium
Puzzle 416
Expected versus Realized Returns / Survivorship Bias /
Extensions to the CAPM May Resolve the Equity Premium
Puzzle / Liquidity and the Equity Premium Puzzle /
Behavioral Explanations of the Equity Premium Puzzle
End of Chapter Material 422–424
PART IV
Fixed-Income Securities 425
Chapter 14
Bond Prices and Yields 425
14.1 Bond Characteristics 426
Treasury Bonds and Notes
Accrued Interest and Quoted Bond Prices
Corporate Bonds
Call Provisions on Corporate Bonds / Convertible
Bonds / Puttable Bonds / Floating-Rate Bonds
Preferred Stock / Other Domestic Issuers / International
Bonds / Innovation in the Bond Market
Inverse Floaters / Asset-Backed Bonds / Catastrophe
Bonds / Indexed Bonds
14.2 Bond Pricing 432
Bond Pricing between Coupon Dates
14.3 Bond Yields 438
Yield to Maturity / Yield to Call / Realized Compound
Return versus Yield to Maturity
14.4 Bond Prices over Time 444
Yield to Maturity versus Holding-Period Return / Zero-
Coupon Bonds and Treasury Strips / After-Tax Returns
14.5 Default Risk and Bond Pricing 449
Junk Bonds / Determinants of Bond Safety / Bond
Indentures
Sinking Funds / Subordination of Further Debt /
Dividend
Restrictions / Collateral
Yield to Maturity and Default Risk / Credit Default Swaps /
Credit Risk and Collateralized Debt Obligations
End of Chapter Material 460–466
Chapter 15
The Term Structure of Interest Rates 467
15.1 The Yield Curve 467
Bond Pricing
15.2 The Yield Curve and Future Interest Rates 470
The Yield Curve under Certainty / Holding-Period
Returns / Forward Rates
15.3 Interest Rate Uncertainty and Forward Rates 475
15.4 Theories of the Term Structure 477
The Expectations Hypothesis / Liquidity Preference
Theory
15.5 Interpreting the Term Structure 480
15.6 Forward Rates as Forward Contracts 484
End of Chapter Material 486–494
Chapter 16
Managing Bond Portfolios 495
16.1 Interest Rate Risk 496
Interest Rate Sensitivity / Duration / What Determines
Duration?
Rule 1 for Duration / Rule 2 for Duration / Rule
3 for Duration / Rule 4 for Duration / Rule 5 for
Duration
16.2 Convexity 505
Why Do Investors Like Convexity? / Duration and
Convexity
of Callable Bonds / Duration and Convexity of
Mortgage-Backed Securities
16.3 Passive Bond Management 513
Bond-Index Funds / Immunization / Cash Flow Matching
and Dedication / Other Problems with Conventional
Immunization
16.4 Active Bond Management 522
Sources of Potential Profit / Horizon Analysis
End of Chapter Material 525–536
PART V
Security Analysis 537
Chapter 17
Macroeconomic and Industry Analysis 537
17.1 The Global Economy 537
17.2 The Domestic Macroeconomy 540
Key Economic Indicators
Gross Domestic Product / Employment / Inflation /
Interest Rates / Budget Deficit / Sentiment
17.3 Demand and Supply Shocks 542
17.4 Federal Government Policy 542
Fiscal Policy / Monetary Policy / Supply-Side Policies
17.5 Business Cycles 545
The Business Cycle / Economic Indicators / Other Indicators
17.6 Industry Analysis 550
Defining an Industry / Sensitivity to the Business Cycle /
Sector Rotation / Industry Life Cycles
Start-Up Stage / Consolidation Stage / Maturity Stage /
Relative Decline
Industry Structure and Performance
Threat of Entry / Rivalry between Existing Competitors /
Pressure from Substitute Products / Bargaining Power
of Buyers / Bargaining Power of Suppliers
End of Chapter Material 560–568
Chapter 18
Equity Valuation Models 569
18.1 Valuation by Comparables 569
Limitations of Book Value
18.2 Intrinsic Value versus Market Price 571
18.3 Dividend Discount Models 573
The Constant-Growth DDM / Convergence of Price
to Intrinsic Value / Stock Prices and Investment
Opportunities / Life Cycles and Multistage Growth
Models / Multistage Growth Models
18.4 The Price–Earnings Ratio 587
The Price–Earnings Ratio and Growth Opportunities /
P/E Ratios and Stock Risk / Pitfalls in P/E Analysis
/
Combining P/E Analysis and the DDM / Other
Comparative
Valuation Ratios
Price-to-Book Ratio / Price-to-Cash-Flow Ratio /
Price-to-Sales Ratio
18.5 Free Cash Flow Valuation Approaches 595
Comparing the Valuation Models / The Problem with
DCF Models
18.6 The Aggregate Stock Market 599
End of Chapter Material 601–612
Chapter 19
Financial Statement Analysis 613
19.1 The Major Financial Statements 613
The Income Statement / The Balance Sheet / The Statement
of Cash Flows
19.2 Measuring Firm Performance 618
19.3 Profitability Measures 619
Return on Assets, ROA / Return on Capital, ROC /
Return on Equity, ROE / Financial Leverage and ROE /
Economic
Value Added
19.4 Ratio Analysis 623
Decomposition of ROE / Turnover and Other Asset
Utilization
Ratios / Liquidity Ratios / Market Price
Ratios: Growth versus Value / Choosing a Benchmark
19.5 An Illustration of Financial Statement Analysis 633
19.6 Comparability Problems 636
Inventory Valuation / Depreciation / Inflation and Interest
Expense / Fair Value Accounting / Quality of Earnings and
Accounting Practices / International Accounting Conventions
19.7 Value Investing: The Graham Technique 642
End of Chapter Material 643–656
PART VI
Options, Futures, and Other
Derivatives 657
Chapter 20
Options Markets: Introduction 657
20.1 The Option Contract 657
Options Trading / American and European Options /
Adjustments in Option Contract Terms / The Options
Clearing Corporation / Other Listed Options
Index Options / Futures Options / Foreign Currency
Options / Interest Rate Options
20.2 Values of Options at Expiration 663
Call Options / Put Options / Option versus Stock
Investments
20.3 Option Strategies 667
Protective Put / Covered Calls / Straddle / Spreads / Collars
20.4 The Put-Call Parity Relationship 675
20.5 Option-Like Securities 678
Callable Bonds / Convertible Securities / Warrants /
Collateralized Loans / Levered Equity and Risky Debt
20.6 Financial Engineering 684
20.7 Exotic Options 686
Asian Options / Barrier Options / Lookback Options /
Currency-Translated Options / Digital Options
End of Chapter Material 687–698
Chapter 21
Option Valuation 699
21.1 Option Valuation: Introduction 699
Intrinsic and Time Values / Determinants of Option
Values
21.2 Restrictions on Option Values 703
Restrictions on the Value of a Call Option / Early Exercise
and Dividends / Early Exercise of American Puts
21.3 Binomial Option Pricing 706
Two-State Option Pricing / Generalizing the Two-State
Approach / Making the Valuation Model Practical
21.4 Black-Scholes Option Valuation 714
The Black-Scholes Formula / Dividends and Call Option
Valuation / Put Option Valuation / Dividends and Put
Option Valuation
21.5 Using the Black-Scholes Formula 722
Hedge Ratios and the Black-Scholes Formula / Portfolio
Insurance / Option Pricing and the Crisis of 2008–2009 /
Option Pricing and Portfolio Theory / Hedging Bets on
Mispriced Options
21.6 Empirical Evidence on Option Pricing 734
End of Chapter Material 735–746
Chapter 22
Futures Markets 747
22.1 The Futures Contract 747
The Basics of Futures Contracts / Existing Contracts
22.2 Trading Mechanics 753
The Clearinghouse and Open Interest / The Margin
Account and Marking to Market / Cash versus Actual
Delivery / Regulations / Taxation
22.3 Futures Markets Strategies 757
Hedging and Speculation / Basis Risk and Hedging
22.4 Futures Prices 761
The Spot-Futures Parity Theorem / Spreads / Forward
versus Futures Pricing
22.5 Futures Prices versus Expected Spot Prices 768
Expectations Hypothesis / Normal Backwardation /
Contango / Modern Portfolio Theory
End of Chapter Material 770–774
Chapter 23
Futures, Swaps, and Risk Management 775
23.1 Foreign Exchange Futures 775
The Markets / Interest Rate Parity / Direct versus Indirect
Quotes / Using Futures to Manage Exchange Rate Risk
23.2 Stock-Index Futures 783
The Contracts / Creating Synthetic Stock Positions: An
Asset Allocation Tool / Index Arbitrage / Using Index
Futures to Hedge Market Risk
23.3 Interest Rate Futures 788
Hedging Interest Rate Risk
23.4 Swaps 790
Swaps and Balance Sheet Restructuring / The Swap
Dealer / Other Interest Rate Contracts / Swap Pricing /
Credit Risk in the Swap Market / Credit Default Swaps
23.5 Commodity Futures Pricing 797
Pricing with Storage Costs / Discounted Cash Flow
Analysis for Commodity Futures
End of Chapter Material 801–810
PART VII
Applied Portfolio
Management 811
Chapter 24
Portfolio Performance Evaluation 811
24.1 The Conventional Theory of Performance
Evaluation 811
Average Rates of Return / Time-Weighted Returns versus
Dollar-Weighted Returns / Adjusting Returns for Risk /
The Sharpe Ratio for Overall Portfolios
The M2 Measure and the Sharpe Ratio
The Treynor Ratio
The Information Ratio
The Role of Alpha in Performance Measures / Implementing
Performance Measurement: An Example / Realized
Returns versus Expected Returns
24.2 Style Analysis 823
24.3 Performance Measurement with Changing Portfolio Composition 826
Performance Manipulation and the Morningstar Risk-
Adjusted Rating
24.4 Market Timing
The Potential Value of Market Timing / Valuing Market
Timing
as a Call Option / The Value of Imperfect Forecasting
24.5 Performance Attribution Procedures 835
Asset Allocation Decisions / Sector and Security Selection
Decisions / Summing Up Component Contributions
End of Chapter Material 841–852
Chapter 25
International Diversification 853
25.1 Global Markets for Equities 853
Developed Countries / Emerging Markets / Market
Capitalization and GDP / Home-Country Bias
25.2 Exchange Rate Risk and International
Diversification 857
Exchange Rate Risk / Investment Risk in International
Markets / International Diversification / Are Benefits from
International Diversification Preserved in Bear Markets?
25.3 Political Risk 868
25.4 International Investing and Performance
Attribution 871
Constructing a Benchmark Portfolio of Foreign Assets /
Performance Attribution
End of Chapter Material 875–880
Chapter 26
Hedge Funds 881
26.1 Hedge Funds versus Mutual Funds 882
Transparency / Investors / Investment Strategies /
Liquidity / Compensation Structure
26.2 Hedge Fund Strategies 883
Directional and Nondirectional Strategies / Statistical
Arbitrage
26.3 Portable Alpha 886
An Example of a Pure Play
26.4 Style Analysis for Hedge Funds 889
26.5 Performance Measurement for Hedge Funds 891
Liquidity and Hedge Fund Performance / Hedge Fund
Performance and Survivorship Bias / Hedge Fund
Performance and Changing Factor Loadings / Tail
Events and Hedge Fund Performance
26.6 Fee Structure in Hedge Funds 899
End of Chapter Material 902–906
Chapter-27
The Theory of Active Portfolio
Management 907
27.1 Optimal Portfolios and Alpha Values 907
Forecasts of Alpha Values and Extreme Portfolio Weights /
Restriction of Benchmark Risk
27.2 The Treynor-Black Model and Forecast
Precision 914
Adjusting Forecasts for the Precision of Alpha / Distribution
of Alpha Values / Organizational Structure and
Performance
27.3 The Black-Litterman Model 918
Black-Litterman Asset Allocation Decision / Step 1: The
Covariance Matrix from Historical Data / Step 2: Determination
of a Baseline Forecast / Step 3: Integrating the
Manager’s Private Views / Step 4: Revised (Posterior)
Expectations / Step 5: Portfolio Optimization
27.4 Treynor-Black versus Black-Litterman:
Complements, Not Substitutes 923
The BL Model as Icing on the TB Cake / Why Not
Replace the Entire TB Cake with the BL Icing?
27.5 The Value of Active Management 925
A Model for the Estimation of Potential Fees / Results
from the Distribution of Actual Information Ratios / Results from Distribution of Actual Forecasts
27.6 Concluding Remarks on Active Management 927
End of Chapter Material 927–928
Appendix A: Forecasts and Realizations of
Alpha 928
Appendix B: The General Black-Litterman
Model 929
Chapter 28
Investment Policy and the Framework of the
CFA Institute 931
28.1 The Investment Management Process 932
Objectives / Individual Investors / Personal Trusts /
Mutual Funds / Pension Funds / Endowment Funds / Life
Insurance Companies / Non–Life Insurance Companies / Banks
28.2 Constraints 937
Liquidity / Investment Horizon / Regulations / Tax Considerations / Unique Needs
28.3 Policy Statements 939
Sample Policy Statements for Individual Investors
28.4 Asset Allocation 943
Taxes and Asset Allocation 944
28.5 Managing Portfolios of Individual Investors 945
Human Capital and Insurance / Investment in Residence /
Saving for Retirement and the Assumption of Risk /
Retirement Planning Models / Manage Your Own Portfolio
or Rely on Others? / Tax Sheltering
The Tax-Deferral Option / Tax-Protected Retirement
Plans / Deferred Annuities / Variable and Universal
Life Insurance
28.6 Pension Funds 951
Defined Contribution Plans / Defined Benefit Plans /
Pension Investment Strategies
Investing in Equities / Wrong Reasons to Invest in
Equities
28.7 Investments for the Long Run 954
Making Simple Investment Choices / Inflation Risk and
Long-Term Investors
End of Chapter Material 956–966
REFERENCES TO CFA PROBLEMS 967
GLOSSARY G-1
NAME INDEX I-1
SUBJECT INDEX I-4
FORMULAS F-1