FRM Part II · FRM Exam Part II · Factor Theory
A manager builds a long-only value smart beta portfolio by selecting the cheapest 30% of stocks by book-to-market and weighting them equally. Compared with a cap-weighted value index, which characteristic is the manager most likely to observe?
Equal weighting gives relatively more weight to smaller companies than cap weighting does, creating an implicit size tilt and capacity and trading-cost constraints. The portfolio still carries market beta, and its sector weights will generally differ from the broad market.
- ALower exposure to the size factor, with a bias toward large-cap stocks
- BA tilt toward smaller-cap stocks and higher turnover-related capacity constraintsCorrect
- CZero exposure to the market factor
- DIdentical sector weights to the broad market
Explanation
Equal weighting gives smaller companies larger weights than cap weighting, creating an implicit small-cap tilt. This also raises capacity and trading cost concerns. Market beta remains positive for a long-only portfolio.
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