CFA Program Level I: study guide and free practice questions The ideas the CFA Level I exam tests, one page each: what free primary sources say (CFA Institute's Standards, the IFRS Foundation, the SEC, the Federal Reserve and others), the traps the questions set, and real practice questions to try. Every calculation is worked through, and every page links to its sources.
Topics Ethical and professional standards Financial statement analysis 10 free practice questions Drawn from every domain. Pick an answer to see why each option is right or wrong.
A portfolio manager at Orchard Capital bases a client recommendation on an industry report written by an analyst at an unaffiliated bank. Under Standard V(A) Diligence and Reasonable Basis, which statement about the report is most accurate? Right. In the game that’s Renown for your Ethical and Professional Standards building.
Not that one: C is right. In the game your Ethical and Professional Standards building would lose a little Renown, and this question would come back later.
Your answer A. It is third-party research, which the manager may rely on without reviewThe report is third-party research, but V(A) still applies: the manager has to take reasonable, diligent steps to check it is sound, and must avoid relying on it if there is reason to suspect bias or unreliability. Your answer B. It is secondary research, so the manager must make reasonable efforts to judge it soundSecondary research comes from colleagues inside Orchard Capital. A report from an unaffiliated bank is produced outside the firm, so it is third-party research. The answer C. It is third-party research, so the manager must make reasonable efforts to judge it soundCFA Institute defines secondary research as research done by others in the member's firm, and third-party research as research done by entities outside it, such as a bank, brokerage or research firm.
Today the annualised interest rate for borrowing or lending for six months is 3.0%, and for 12 months it is 3.5%. The annualised forward rate implied by these two rates for a six-month loan starting six months from today is most likely: Right. In the game that’s Renown for your Quantitative Methods building.
Not that one: B is right. In the game your Quantitative Methods building would lose a little Renown, and this question would come back later.
Your answer A. Between 3.0% and 3.5%The 12-month rate is roughly an average of the first six-month rate and the forward rate, not the other way round. For that average to reach 3.5% when the first half earns 3.0%, the forward rate must exceed 3.5%; it is 3.94%. The answer B. Above 3.5%Lending for 12 months at 3.5% must give the same result as lending for six months at 3.0% and then rolling over at the forward rate. Because the first six months earn less than 3.5%, the second six months must earn more than 3.5% for the year to average out at 3.5%. Your answer C. Below 3.0%A forward rate below 3.0% would leave the six-months-then-roll strategy earning less than 3.0% over the year, well short of the 3.5% available for 12 months. With an upward-sloping curve the implied forward rate lies above both spot rates, here 3.94%.
A dealer quotes the spot exchange rate as US dollars per Japanese yen. The one-year interest rate is 4.0% on US dollars and 0.5% on yen. If covered interest parity holds, the one-year forward points (forward rate minus spot rate) on this quote are most likely: Right. In the game that’s Renown for your Economics building.
Not that one: C is right. In the game your Economics building would lose a little Renown, and this question would come back later.
Your answer A. Negative, with the forward rate below spotReading the higher US dollar rate as making the dollar dearer forward gets the sign backwards. With the quote in dollars per yen, F/S = 1.040/1.005 > 1, so the forward is above spot and the points are positive. Your answer B. Zero, with the forward rate equal to spotParity does not make the forward rate equal spot. It sets F/S = (1 + r)/(1 + r*) = 1.040/1.005 ≈ 1.035, so the forward rate sits above spot and the points are positive. The answer C. Positive, with the forward rate above spotUnder covered interest parity, with the rate quoted in US dollars per unit of foreign currency, F/S × (1 + r*) = 1 + r, so F/S = (1 + r)/(1 + r*).
Under IAS 38, after initial recognition at cost, a company may choose to carry an intangible asset at a revalued amount only when: Right. In the game that’s Renown for your Financial Statement Analysis building.
Not that one: C is right. In the game your Financial Statement Analysis building would lose a little Renown, and this question would come back later.
Your answer A. The asset was acquired in a business combination rather than separatelyHow the asset was acquired is not the test. IAS 38 allows the fair value option only where an active market provides the fair value. Your answer B. An independent valuer has appraised the asset within the yearAn appraisal alone does not meet the IAS 38 condition. Fair value measurement of an intangible is allowed only when fair value can be found by reference to an active market. The answer C. Its fair value can be determined by reference to an active marketIAS 38 measures intangible assets initially at cost. Afterwards an entity usually carries them at cost less accumulated amortisation, and may choose fair value only in rare cases where fair value can be determined by reference to an active market.
Tamsin Water is appraising a treatment plant. It would spend USD600,000 at the end of year 1 and USD200,000 at the end of year 2, and would receive benefits of USD400,000 at the end of year 2 and USD600,000 at the end of year 3. Discount factors at its 8% rate are 0.9259 for year 1, 0.8573 for year 2 and 0.7938 for year 3. The project's net present value is closest to: Right. In the game that’s Renown for your Corporate Finance building.
Not that one: B is right. In the game your Corporate Finance building would lose a little Renown, and this question would come back later.
Your answer A. USD19,200USD19,200 comes from 819,200 - 800,000, which discounts the benefits but takes the USD800,000 of outlays at face value. The outlays fall in years 1 and 2, so they are discounted too: their present value is USD727,000, giving an NPV of USD92,200. The answer B. USD92,200NPV is the present value of benefits minus the present value of costs, each year's amount multiplied by its discount factor. PV of costs = 600,000 x 0.9259 + 200,000 x 0.8573 = 555,540 + 171,460 = USD727,000. Your answer C. USD200,000USD200,000 comes from 1,000,000 - 800,000, which adds amounts from different years without discounting any of them. Each year's cost and benefit must be multiplied by its discount factor first, which gives USD819,200 - USD727,000 = USD92,200.
Halvern Utilities issues preference shares that give each holder the right to sell the shares back to Halvern at a price fixed when they were first issued. These shares are best described as: Right. In the game that’s Renown for your Equities building.
Not that one: B is right. In the game your Equities building would lose a little Renown, and this question would come back later.
Your answer A. Participating preference sharesParticipating preference shares pay the standard preferred dividend plus a possible share of profits above a preset level. The feature described is a right to sell the shares back, a put. The answer B. Putable preference sharesA right for the holder to sell shares back to the issuer at a price set at issue is a put feature, so these are putable shares. Preference shares can carry call and put features that work just as they do on common shares. Your answer C. Callable preference sharesWith callable shares the issuer holds the right, buying the shares back at a preset price. Here the holder can force the sale back to Halvern, which makes the shares putable.
A government issues a two-year floating-rate note paying an index rate tied to its 13-week Treasury bill auctions plus a spread. When the note was first auctioned, the index rate was 4.10 percent and the auction set the spread at 0.15 percent. Six months later, the index rate is 3.85 percent. The note's current annual interest rate is closest to: Right. In the game that’s Renown for your Fixed Income building.
Not that one: B is right. In the game your Fixed Income building would lose a little Renown, and this question would come back later.
Your answer A. 3.85 percent3.85 percent is the index rate alone. The note pays the index plus the 0.15 percent spread fixed at its first auction: 3.85 + 0.15 = 4.00 percent. The answer B. 4.00 percentThe note's rate is the index rate plus the spread. The index rate resets with each 13-week bill auction, so the current index of 3.85 percent applies; the spread set at the first auction stays the same for the note's life. Rate = 3.85% + 0.15% = 4.00 percent. Your answer C. 4.25 percent4.10 + 0.15 = 4.25 percent uses the index rate from the issue date. The index resets weekly to the latest 13-week bill auction, so today's 3.85 percent applies.
A bank and a company agree a new vanilla interest rate swap at the market fixed rate, and no payment changes hands at the start. Which statement about the swap at inception is most accurate? Right. In the game that’s Renown for your Derivatives building.
Not that one: C is right. In the game your Derivatives building would lose a little Renown, and this question would come back later.
Your answer A. Its value is zero, and its fixed rate equals today's floating rateThe swap's value is zero at inception, but the par fixed rate depends on the forward rates for every period of the swap, not only on the current floating rate for the first period. Your answer B. Its value equals the notional principal, and its fixed rate is set by forward ratesThe notional principal is only the amount on which payments are calculated. A vanilla swap entered at the market rate costs nothing, so its market value at inception is zero. The answer C. Its value is zero, and its fixed rate is set by the forward rate curveIt typically costs nothing to enter a vanilla swap, so the fixed rate written into the contract, the par swap rate, is the one that gives the swap zero market value at inception.
An investor compares a REIT listed on a stock exchange with a public non-traded REIT that advertises a higher dividend yield. Compared with the listed REIT, the non-traded REIT most likely: Right. In the game that’s Renown for your Alternative Investments building.
Not that one: C is right. In the game your Alternative Investments building would lose a little Renown, and this question would come back later.
Your answer A. Shows its share value dailyA listed REIT's market price is readily available; a non-traded REIT's share value is hard to determine, and an estimate is typically not given until 18 months after the offering closes. Your answer B. Charges lower upfront sales feesNon-traded REITs generally have high upfront costs: sales commissions and offering fees usually total about 9 to 10 percent of the investment. The answer C. May pay distributions from offering proceedsUnlike listed REITs, non-traded REITs frequently pay distributions in excess of their funds from operations, using offering proceeds and borrowings to do so.
Fund K's annual figures over the past five years are as follows.
Average fund return: 13%
Average risk-free rate: 3%
Average benchmark return: 10%
Standard deviation of fund returns: 25%
Fund beta relative to the benchmark: 1.25
Using returns in percent (so that 13% enters as 13), Fund K's Treynor ratio is closest to: Right. In the game that’s Renown for your Portfolio Construction building.
Not that one: C is right. In the game your Portfolio Construction building would lose a little Renown, and this question would come back later.
Your answer A. 0.40This divides the excess return by the fund's standard deviation, (13 − 3)/25 = 0.40. That is the Sharpe ratio, which uses total risk. The Treynor ratio uses beta in the denominator: 10/1.25 = 8.00. Your answer B. 2.40This subtracts the benchmark return, (13 − 10)/1.25 = 2.40. The Treynor numerator is the excess return over the risk-free rate, 13 − 3 = 10, so the ratio is 10/1.25 = 8.00. The answer C. 8.00The Treynor ratio is the portfolio's average return minus the average risk-free rate, divided by the portfolio's beta: Tp = (13 − 3)/1.25 = 10/1.25 = 8.00. It measures excess return per unit of market risk.
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