Skip to content

IAI Actuarial Core Principles · Economic Modelling · Single and multifactor models for investment returns

Which statement about statistical (principal components) multifactor models is correct?

In a statistical model the factors are extracted from the covariance matrix of historic returns, for example by principal components analysis, so they are not specified in advance and often lack a clear economic meaning.

  1. AFactors are chosen in advance from observable economic data such as inflation
  2. BFactors are extracted from the covariance matrix of returns and may lack a clear economic interpretationCorrect
  3. CFactors are company attributes such as dividend yield and sector
  4. DThe model requires that all factor sensitivities equal one
  5. Factors must be correlated with each other to be valid

Explanation

Statistical models derive factors from the historic return data, typically from the covariance matrix, so factors are not pre-specified and can be hard to interpret economically. Options 0 and 2 describe macroeconomic and fundamental models; principal components are in fact uncorrelated.

Did you get it right without looking?

One question tells you little. A timed set on Single and multifactor models for investment returns shows your real accuracy, how long you take and where you lose marks.

Practise Single and multifactor models for investment returnsFree diagnostic mock

More Single and multifactor models for investment returns questions