Free CFA Level II Portfolio Management Practice Questions
Portfolio management on the CFA Level II exam covers multifactor models, active portfolio management theory, transaction cost analysis, and portfolio risk decomposition. Weighted 10-15% (CFA Institute).
Sample Questions
Question 1
Easy
An ETF's creation unit is typically:
Solution
C is correct.
A creation unit is a large, standardized block of ETF shares (typically 25,000 to 100,000 shares, though the exact size varies by ETF) that serves as the unit of exchange in the creation/redemption process. Only authorized participants (APs) — typically large broker-dealers or market makers — can create or redeem shares in creation unit increments by exchanging the underlying securities (or cash) with the ETF issuer.
A creation unit is a large, standardized block of ETF shares (typically 25,000 to 100,000 shares, though the exact size varies by ETF) that serves as the unit of exchange in the creation/redemption process. Only authorized participants (APs) — typically large broker-dealers or market makers — can create or redeem shares in creation unit increments by exchanging the underlying securities (or cash) with the ETF issuer.
Question 2
Medium
The break-even inflation rate (BEI) is best calculated as:
Solution
B is correct.
The break-even inflation rate is the difference between the yield on a nominal (conventional) government bond and the yield on an inflation-linked (real return) government bond of the same maturity. It represents the inflation rate at which an investor would be indifferent between holding the nominal bond and the inflation-linked bond. If actual inflation exceeds the BEI, the inflation-linked bond outperforms.
The break-even inflation rate is the difference between the yield on a nominal (conventional) government bond and the yield on an inflation-linked (real return) government bond of the same maturity. It represents the inflation rate at which an investor would be indifferent between holding the nominal bond and the inflation-linked bond. If actual inflation exceeds the BEI, the inflation-linked bond outperforms.
Question 3
Hard
Based on Exhibit 4, Kim's concern about factor tilts is most justified because:
Solution
A is correct.
The fund has a market beta of 1.08 (above-market risk) and a significant HML loading of 0.58 (strong value tilt), both of which are statistically significant. This means a substantial portion of the fund's returns can be attributed to systematic factor exposures — taking more market risk and tilting toward value stocks. Since the alpha is not statistically significant (t = 1.88, p = 0.065), the evidence suggests the manager is not generating returns from stock selection skill but rather from factor exposures that could be replicated more cheaply with passive factor-tilted strategies.
The fund has a market beta of 1.08 (above-market risk) and a significant HML loading of 0.58 (strong value tilt), both of which are statistically significant. This means a substantial portion of the fund's returns can be attributed to systematic factor exposures — taking more market risk and tilting toward value stocks. Since the alpha is not statistically significant (t = 1.88, p = 0.065), the evidence suggests the manager is not generating returns from stock selection skill but rather from factor exposures that could be replicated more cheaply with passive factor-tilted strategies.