TUESDAY: 25 April 2023. Afternoon Paper. Time Allowed: 3 hours.

Answer ALL questions. Marks allocated to each question are shown at the end of the question. Show ALL your workings. Do NOT write anything on this paper.


1. Identify TWO characteristics of each of the following phases of a business cycle on short-term and long-term capital market returns:

Initial recovery. (2 marks)

Early upswing. (2 marks)

Slowdown. (2 marks)

Recession. (2 marks)

2. Concord Insurance Limited underwrites auto and home owners insurance. The company is licensed to do business in all the 47 counties of country X. The company has achieved stable growth rate and the Board of Directors (BOD) of the company has approved a strategic plan for increasing the company’s growth rate and profitability.

The company’s total assets exceed Sh.5 billion and its surplus approaches Sh.2 billion. The company is facing increased competition in its markets from competitors through internet sales. The competitive environment has focused the BOD on increasing the after-tax returns on the bond portfolio and the growth of the portfolio. The company’s chief investment officer (CIO) has been tasked by the BOD to revise the company’s investment policy statement (IPS) to reflect the changes that will be necessary to meet the new growth targets.


Formulate, for the CIO the following aspects of the IPS for Concord Insurance Limited:

Investment philosophy. (2 marks)

Return objectives. (2 marks)

Risk tolerance. (2 marks)

3. Edna Maasai placed three sell orders for Rahisi Limited shares and gathered the following data for the quoted bid and ask quotes at various points in the day:

Edna has provided the following further information:

1. At 1 pm, she placed an order to sell 200 shares. The execution price was Sh.20.02.
2. At 2 pm, she placed an order to sell 300 shares. The execution price was Sh.20.11.
3. At 4 pm, she placed an order to sell 500 shares. The average execution price was Sh.20.09.


Calculate the effective spreads for each of Edna’s orders. (6 marks)

(Total: 20 marks)



1. Highlight FIVE fixed income enhancement strategies available to portfolio managers seeking to reduce the component of tracking errors associated with the expenses and transaction costs of portfolio management. (5 marks)

2. Mbunika Ltd. offers its employees attractive benefits which include a defined contribution pension plan. An asset only (AO) approach to strategic asset allocation is currently used for the investment management of the pension plan. Titus Mezo is a consultant to the board of trustees of the pension plan.

The board has requested Titus Mezo to recommend a strategic asset allocation for the pension plan given the following investment policy objectives:

1. Return requirement: Earn an average annual return of 8.7% plus management and administrative fees of 0.7%.
2. Risk objectives: A maximum standard deviation of portfolio returns of 10%.

For the strategic asset allocation analysis, Titus Mezo has generated the corner portfolio shown below:

Additional information:
1. The risk free rate is 4.5%.
2. Currently, the pension plan investment policy statement (IPS) prohibits short positions and the use of
3. The IPS allows investment in any single portfolio or combination of portfolio described above.
4. Titus is proposing a change in the IPS to allow borrowing or lending at the risk free rate.


Using traditional mean-variance analysis:

Determine with TWO reasons the most appropriate portfolio or combination of portfolios for the strategic asset allocation of the current pension plan. (2 marks)

Determine the weight of total equities in the most appropriate strategic asset allocation of the current
pension plan. (3 marks)

Determine the optimal asset allocation for the overall portfolio for the pension plan based on Titus’
proposal. (4 marks)

Explain how the proposed allocation by Titus improves the plan’s risk adjusted return. (2 marks)

3. State TWO advantages of the resampled efficient frontier approach relative to the traditional mean-
variance efficient frontier approach. (2 marks)

Highlight TWO advantages of the Asset Liability Management (ALM) approach to the Asset Only (AO)
approach. (2 marks)

(Total: 20 marks)



1.  Distinguish between “micro attribution analysis” and “macro attribution analysis” in relation to portfolio performance evaluation. (4 marks)

2. Discuss THREE key areas that must be addressed in formulating a private equity investment strategy as used in alternative investment portfolio management. (6 marks)

3. Eliud Omondi has compiled data on the performance of a plan’s portfolio for the year ending 31 December 2022.

Eliud has noted that each sub-portfolio has its own external manager with the plan trustees determining the portion of the overall portfolio allocated to each manager as shown below:


The return attributable to asset owner. (2 marks)

The return attributable to the managers. (2 marks)

Comment on your results in (c) (i) and (c) (ii) above. (1 mark)

4. Wangechi Joy, a Fund manager is responsible for the Uganda equity portion of her company’s pension plan. She is thinking about trying to boost the overall alpha in Ugandan equities by using an enhanced index to replace her core index fund. Further, it is established that:

• The Uganda equity portion of the pension plan currently consists of three managers (one index, one value and one growth) and the portion is expected to produce a target annual alpha of 2.4% with a tracking risk of 2.75%.
• By replacing the index manager with an enhanced indexer, the target alpha changes to 2.8% with a
tracking risk of 2.9%.
• Wangechi Joy is willing to accept a slightly higher level of tracking risk.


Using information ratio, justify whether there is any change in the equity portfolio. (5 marks)

(Total: 20 marks)



1. Describe TWO benefits that each of the following players could derive by complying with performance standards in the investment industry:

Investment managers. (2 marks)

Prospective clients. (2 marks)

2. Job Wambua manages a Kenya (KES) based hedge fund. A portion of the fund is currently allocated 60% and 40% respectively to Uganda (UGX) and Rwanda (RWF) risk free investments, pending other investment opportunities.

Job has collected the following information:


Determine the following from the portfolio perspective, measured in KES:

The expected returns as measured in investor’s domestic currency. (2 marks)

The standard deviation of the risk free assets as measured in the investor’s domestic currency. (2 marks)

3. Mema Capital Ltd. is a United States based investment firm that invests in a portfolio of bonds that trade in Euros.
Over a one year holding period, the value of the portfolio increases by 5% (in Euros) and the Euro-Dollar exchange rate increases from 1.300 USD/EUR to 1.339 USD/EUR.


The currency that has appreciated. (1 mark)

The returns from foreign exchange. (2 marks)

Investor’s return in domestic currency terms (USD) over a one-year holding period. (2 marks)

4. The following information is available regarding four managers benchmarked against the MSCI World Index:


Based on major types of traders and their motivation to trade, justify which manager is:

A closet indexer. (1 mark)

Concentrated stock picker. (2 marks)

Diversified multi-factor investor. (2 marks)

Sector rotator. (2 marks)

(Total: 20 marks)



1.  Highlight TWO weaknesses of using each of the following benchmarks to measure the performance of a portfolio:

Market index. (2 marks)

Benchmark normal portfolio. (2 marks)

Median of the manager universe. (2 marks)

2. A client hires a fixed income portfolio manager to pursue a contingent immunisation strategy for his portfolio. The goal is to reach a terminal distribution in 6.75 years of Sh.525 million. The required amount to immunise the portfolio is Sh.375 million. The portfolio was funded with Sh.400 million. Three months later, the portfolio is worth Sh.390 million. The immunisation rate for the remaining term of the portfolio is now 5.0%.


Determine whether the manager has increased or decreased the surplus during the first three months of managing the portfolio. (3 marks)

3. Sherly Achieng initially has Sh.100,000 invested in shares at the Nairobi Securities Exchange (NSE) and Sh.35,000 in T-bills so that the total portfolio is worth Sh.135,000. Sherly observes that the share market index rise from 1,240 to 1,350 following the recently concluded peaceful general election that boosted investors’ confidence. The index rise was from 1 September 2022 to 30 September 2022. By the end of 30 October 2022, the share market had fallen to 1,300. Sherly discloses that her initial position held her most optimal stock-to-total assets ratio (S/TA).


Advise Sherly Achieng on the following:

Optimal S/TA ratio. (1 mark)

Stockholding as at 30 September 2022 under a buy and hold strategy. (2 marks)

Stockholding as at 30 October 2022 under the buy-and hold strategy. (2 marks)

The amount of stock to buy or sell as at 30 September 2022 under the constant-mix strategy. (3 marks)

The amount of stock to buy or sell as at 30 October 2022 under the constant-mix strategy. (3 marks)

(Total: 20 marks)

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