TUESDAY: 5 December 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. In relation to forming capital market expectations, explain THREE approaches to economic forecasting. (6 marks)

2. Jane Maingi, a 50-year old single parent has recently inherited a fortune of Sh.20 million from her late uncle. Jane is a successful lawyer and earns an annual income of Sh.5,000,000. She lives a luxurious lifestyle with annual expenses of Sh.3,000,000. Jane has a niece in college to whom she wants to provide an annual support of Sh.500,000. She also wishes to donate Sh.1,000,000 each year to her favourite charity. Jane is risk averse and would like to ensure her wealth lasts her lifetime and beyond. She plans to retire at the age of 65 years and maintain her current lifestyle. She also wants to leave a substantial portion of her wealth to herniece and the charity.

Formulate an investment policy statement (IPS) for Jane Maingi under the following sections:

Return requirements. (2 marks)

Liquidity requirements. (2 marks)

Unique circumstances. (2 marks)

Time horizon constraints. (2 marks)

3. Wilberforce Makandi is an investment consultant for a Jua Kali Fund. He has identified two portfolios; portfolio A and portfolio B to be appropriate to Jua Kali Fund in meeting the Fund’s risk and return objectives. Both portfolios comprise portfolio asset classes 1, 2, 3 and 4 and Makandi gathers the following additional information:

1. Portfolio A comprises 25%, 15%, 20% and 40% weights in asset class 1, 2, 3 and 4 respectively.
2. Portfolio B comprises 30%, 20%, 35% and 15% weights in asset class 1, 2, 3 and 4 respectively.
3. Portfolio A and B have expected returns of 10% and 15% respectively.

Determine the individual asset class weightings for the efficiency portfolio with an expected return of 11%. (6 marks)

(Total: 20 marks)



1. Describe THREE roles of fixed income securities in portfolio management. (3 marks)

2. Highlight FOUR reasons for the establishment of globally accepted investment performance standards (GIPs) in your country. (4 marks)

3. The long-term market expectations for XDZ Ltd. and emerging market equities portfolio are provided below:

A portfolio manager is evaluating whether adding an additional asset class to XDZ Ltd.’s portfolio will improve its risk-return characteristics. He establishes that the applicable inflation rate is 0.5%, the applicable risk free rate is 1.0% and the correlation between the current portfolio and emerging market equities is 0.79.


The Sharpe ratio of the current portfolio. (2 marks)

The Sharpe ratio of the new asset class. (1 mark)

Explain the criteria the portfolio manager must follow in evaluating whether to add an additional asset
class to XDZ Ltd.’s portfolio. (2 marks)

Determine whether adding a new asset class in XDZ Ltd.’s portfolio is recommended. (2 marks)

4. Ephraim Mpole is a small cap growth manager who invests in domestic equities. He was hired by an investment firm that benchmarks against a broad domestic market index. He has gathered the following information:

Compute the following:

Misfit active return. (2 marks)

Time active risk. (2 marks)

Misfit information ratio. (2 marks)

(Total: 20 marks)



1. With respect to emerging markets debts (EMDs) investing, outline the following:

THREE advantages of investing in EMDs. (3 marks)

THREE risks associated with EMDs. (3 marks)

2. Michael Simba, a trader with Capera Brokers made the following trades for Wasafiri Limited’s shares on Tuesday, 7 November 2023:

• At 10 a.m. : Traded 100 shares at Sh.12.11 each.
• At 1 p.m. : Traded 300 shares at Sh.12.00 each.
• At 2 p.m. : Traded 600 shares at Sh.11.75 each.


Calculate the volume weighted average price (VWAP) for Michael Simba’s trades. (3 marks)

Justify using THREE reasons why VWAP may not be a suitable measure to evaluate trades. (3 marks)

3. Bemuka Investment managers are desirous of making investment performance comparison with a different portfolio in another jurisdiction but of comparable investment nature.

Bemuka’s portfolio of interest has the following performance:

Additional information:
1. In order to have a like-for-like investment performance comparison with the other portfolio, Bemuka
Investment adopts a revaluing for large cash flows methodology where “large” is defined as greater than
5% in conformity to the investment performance standards.
2. Mathematical linking applies where appropriate.


Time weighted rate of return (TWRR) for the months of January, February and March 2023 that
accommodates only the large cash flows for comparison purposes. (6 marks)

The return for the first quarter of the year 2023 by chain linking the daily TWRR in (c) (i) above.
(2 marks)

(Total: 20 marks)



1. Explain the following types of rebalancing strategies used in portfolio management:

Buy and hold strategy. (2 marks)

Constant mix strategies. (2 marks)

Constant proportion strategy. (2 marks)

2. Describe the following trading tactics as used in the execution of portfolio decisions:

Liquidity-at-any-cost trading. (2 marks)

Costs-are-not-important trading. (2 marks)

Need-trustworth-agent trading. (2 marks)

3. Anastacia Wambura, a portfolio manager at Hepo Fund invests in small and medium sized companies whose shares are primarily listed. The benchmark of the active investment is the market index.
The following performance data are available for the benchmark and the active portfolio:


Calculate the active return of the portfolio. (2 marks)

Determine the portfolio returns attributable to the following:
• Pure sector allocation. (2 marks)
• Security selection within sector. (2 marks)
• Sector allocation/security selection interaction. (2 marks)

(Total: 20 marks)



1. Highlight THREE active currency portfolio management approaches. (3 marks)

2. In relation to alternative investments portfolio management, summarise THREE risks associated with investing in distressed securities. (3 marks)

3. John Opiyo is an investment advisor at an asset management firm. He is developing an asset allocation for James Mwamba, a client of the firm. Opiyo considers two possible allocations for James.
Allocation A: Consist of four asset classes; cash, domestic bonds, domestic equities and global equities.
Allocation B: Includes the same asset classes in allocation A as well as global bonds

Determine, with reasons, the allocation that John Opiyo should recommend to James Mwamba. (4 marks)

4. A portfolio manager is desirous of implementing a contingent bond immunisation strategy to his fixed income portfolio and has gathered the following information:

1. The firm has a three year investment horizon.
2. The firm must earn an annual return of 3% as a minimum and can immunise its assets portfolio at a rate of 4.75% per annum.
3. The manager can actively invest part or all of the portfolio until it reaches the safety net return of 3%.
4. If the portfolio drops to its safety net level, the portfolio is immunised and active management is dropped.
5. The manager’s portfolio is worth Sh.500 million and immunisation is carried out using semi-annual pay coupon bonds with the par value equal to the portfolio value.


Explain the term “cushion spread” as used in contingent immunisation strategies. (1 mark)

Determine the cushion spread for the portfolio manager’s immunisation. (1 mark)

Compute the ending value of the immunisation portfolio after 3 years using the safety net rate of return.
(2 marks)

Determine the required terminal value of the portfolio at the beginning of the immunisation, assuming the portfolio is immunised at a rate of 4.75% per annum. (2 marks)

If the manager invests the entire Sh.500 million at the rate of 4.75% per annum and the yield to maturity
(YTM) immediately drops to 3.75% per annum, determine the value of the safety margin. (4 marks)

(Total: 20 marks)

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