Skip to content

FRM Part II · FRM Exam Part II · Illiquid Assets

A risk manager compares two portfolios with identical true annual volatility of 10%. Portfolio A holds listed equities. Portfolio B holds private assets whose reported returns have smoothing weight a = 0.50 on the prior reported value. Using the relationship that reported return variance equals true variance multiplied by (1-a)/(1+a), approximately what annual volatility will Portfolio B report?

Portfolio B will report roughly 5.8% volatility. The variance ratio is (1−0.5)/(1+0.5) = 1/3, so reported volatility is 10% times the square root of one third, about 5.77%. Using 3.3% would wrongly skip the square root of the variance ratio.

  1. A5.8%Correct
  2. B10.0%
  3. C3.3%
  4. D7.1%

Explanation

Variance ratio = (1-0.5)/(1+0.5) = 1/3. Reported volatility = 10% x sqrt(1/3) = 10% x 0.5774 = 5.77%, about 5.8%. The 3.3% option uses the variance ratio without taking the square root; 7.1% uses sqrt(0.5).

Did you get it right without looking?

One question tells you little. A timed set on Illiquid Assets shows your real accuracy, how long you take and where you lose marks.

Practise Illiquid AssetsFree diagnostic mock

More Illiquid Assets questions