Free CFA Institute CFA-Level-III Exam Questions

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CFA Institute CFA-Level-III Exam Questions
Provided By: CFA Institute
Exam: CFA Level III Chartered Financial Analyst
Certification: CFA Level III

Total Questions: 365
Updated On: Apr 15, 2026
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Question 1
- Paul Dennon is senior manager at Apple Markets Associates, an investment advisory firm. Dennon has been
  examining portfolio risk using traditional methods such as the portfolio variance and beta. He has ranked
  portfolios from least risky to most risky using traditional methods.
  Recently, Dennon has become more interested in employing value at risk (VAR) to determine the amount of
  money clients could potentially lose under various scenarios. To examine VAR, Paul selects a fund run solely
  for Apple's largest client, the Jude Fund. The client has $100 million invested in the portfolio. Using the
  variance-covariance method, the mean return on the portfolio is expected to be 10% and the standard deviation
  is expected to be 10%. Over the past 100 days, daily losses to the Jude Fund on its 10 worst days were (in
  millions): 20, 18, 16, 15, 12, 11, 10, 9, 6, and 5. Dennon also ran a Monte Carlo simulation (over 10,000
  scenarios). The following table provides the results of the simulation:
  Figure 1: Monte Carlo Simulation Data
  
  The top row (Percentile) of the table reports the percentage of simulations that had returns below those
  reported in the second row (Return). For example, 95% of the simulations provided a return of 15% or less, and
  97.5% of the simulations provided a return of 20% or less.
  Dennon's supervisor, Peggy Lane, has become concerned that Dennon's use of VAR in his portfolio
  management practice is inappropriate and has called for a meeting with him. Lane begins by asking Dennon to
  justify his use of VAR methodology and explain why the estimated VAR varies depending on the method used
  to calculate it. Dennon presents Lane with the following table detailing VAR estimates for another Apple client,
  the York Pension Plan.
  
  To round out the analytical process. Lane suggests that Dennon also incorporate a system for evaluating
  portfolio performance. Dennon agrees to the suggestion and computes several performance ratios on the York
  Pension Plan portfolio to discuss with Lane. The performance figures are included in the following table. Note
  that the minimum acceptable return is the risk-free rate.
  Figure 3: Performance Ratios for the York Pension Plan
  
  Using the historical data over the past 100 days, the 1-day, 5% VAR for the Jude Fund is closest to:
  
  A : $11 million.
  
  B : $12 million.
  
  C : $15 million.
  
  Answer: B
Question 2
- Jerry Edwards is an analyst with DeLeon Analytics. He is currently advising the CFO of Anderson Corp., a
  multinational manufacturing corporation based in Newark, New Jersey, USA. Jackie Palmer is Edwards's
  assistant. Palmer is well versed in risk management, having worked at a large multinational bank for the last
  ten years prior to coming to Anderson.
  Anderson has received a $2 million note with a duration of 4.0 from Weaver Tools for a shipment delivered last
  week. Weaver markets tools and machinery from manufacturers of Anderson's size. Edwards states that in
  order to effectively hedge the price risk of this instrument, Anderson should sell a series of interest rate calls.
  Palmer states that an alternative hedge for the note would be to enter an interest rate swap as the fixed-rate
  payer.
  As well as selling products from a Swiss plant in Europe, Anderson sells products in Switzerland itself. As a
  result, Anderson has quarterly cash flows of 12,000,000 Swiss franc (CHF). In order to convert these cash
  flows into dollars, Edwards suggests that Anderson enter into a currency swap without an exchange of notional
  principal. Palmer contacts a currency swap dealer with whom they have dealt in the past and finds the following
  exchange rate and annual swap interest rates:
  Exchange Rate (CHF per dollar) 1.24
  Swap interest rate in U.S. dollars 2.80%
  Swap interest rate in Swiss franc 6.60%
  Discussing foreign exchange rate risk in general, Edwards states that it is transaction exposure that is most
  often hedged, because the amount to be hedged is contractual and certain. Economic exposure, he states, is
  less certain and thus harder to hedge.
  To finance their U.S. operations, Anderson issued a S10 million fixed-rate bond in the United States five years
  ago. The bond had an original maturity often years and now has a modified duration of 4.0. Edwards states that
  Anderson should enter a 5-year semiannual pay floating swap with a notional principal of about $11.4 million to
  take advantage of falling interest rates. The duration of the fixed-rate side of the swap is equal to 75% of its
  maturity or 3.75 (= 0.75 x 5). The duration of the floating side of the swap is 0.25. Palmer states that Anderson's
  position in the swap will have a negative duration.
  For another client of DeLeon, Edwards has assigned Palmer the task of estimating the interest rate sensitivity
  of the client's portfolios. The client's portfolio consists of positions in both U.S. and British bonds. The relevant
  information for estimating (he duration contribution of the British bond and the portfolio's total duration is
  provided below.
  U.S. dollar bond $275,000
  British bond $155,000
  British yield beta 1.40
  Duration of U.S. bond 4.0
  Duration of British bond 8.5
  When discussing portfolio management with clients, Edwards recommends the use of emerging market bonds
  to add value to a core-plus strategy. He explains the characteristics of emerging market debt to Palmer by
  stating:
  1. "The performance of emerging market debt has been quite resilient over time. After crises in the debt
  markets, emerging market bonds quickly recover after a crisis, so long-term returns can be poor."
  2. "Emerging market debt is quite volatile due in part to the nature of political risk in these markets. It is
  therefore important that the analyst monitor the risk of these markets. I prefer to measure the risk of emerging
  market bonds with the standard deviation because it provides the best representation of risk in these markets."
  Regarding his two statements about the characteristics of emerging market debt, is Edwards correct?
  
  A :
  Only statement 1 is correct.
  
  B :
  Only statement 2 is correct.
  
  C :
  Both statements are incorrect.
  
  Answer: A
Question 3
- William Bliss, CFA, runs a hedge fund that uses both managed futures strategies and positions in physical
  commodities. He is reviewing his operations and strategies to increase the return of the fund. Bliss has just
  hired Joseph Kanter, CFA, to help him manage the fund because he realizes that he needs to increase his
  trading activity in futures and to engage in futures strategies other than fully hedged, passively managed
  positions. Bliss also hired Kanter because of Kantcr's experience with swaps, which Bliss hopes to add to his
  choice of investment tools.
  Bliss explains to Kanter that his clients pay 2% on assets under management and a 20% incentive fee. The
  incentive fee is based on profits after having subtracted the risk-free rate, which is the fund's basic hurdle rate,
  and there is a high water mark provision. Bliss is hoping that Kanter can help his business because his firm did
  not earn an incentive fee this past year. This was the case despite the fact that, after two years of losses, the
  value of the fund increased 14% during the previous year. That increase occurred without any new capital
  contributed from clients. Bliss is optimistic about the near future because the term structure of futures prices is
  particularly favorable for earning higher returns from long futures positions.
  Kanter says he has seen research that indicates inflation may increase in the next few years. He states this
  should increase the opportunity to earn a higher return in commodities and suggests taking a large, margined
  position in a broad commodity index. This would offer an enhanced return that would attract investors holding
  only stocks and bonds. Bliss mentions that not all commodity prices are positively correlated with inflation so it
  may be better to choose particular types of commodities in which to invest. Furthermore, Bliss adds that
  commodities traditionally have not outperformed stocks and bonds either on a risk-adjusted or absolute basis.
  Kanter says he will research companies who do business in commodities, because buying the stock of those
  companies to gain commodity exposure is an efficient and effective method for gaining indirect exposure to
  commodities.
  Bliss agrees that his fund should increase its exposure to commodities and wants Kanter's help in using swaps
  to gain such exposure. Bliss asks Kanter to enter into a swap with a relatively short horizon to demonstrate how
  a commodity swap works. Bliss notes that the futures prices of oil for six months, one year, eighteen months,
  and two years are $55, S54, $52, and $5 1 per barrel, respectively, and the risk-free rate is less than 2%.
  Bliss asks how a seasonal component could be added to such a swap. Specifically, he asks if either the
  notional principal or the swap price can be higher during the reset closest to the winter season and lower for the
  reset period closest to the summer season. This would allow the swap to more effectively hedge a commodity
  like oil, which would have a higher demand in the winter than the summer. Kanter says that a swap can only
  have seasonal swap prices, and the notional principal must stay constanl. Thus, the solution in such a case
  would be to enter into two swaps, one that has an annual reset in the winter and one that has an annual reset in
  the summer.
  Given the information, the most likely reason that Bliss's firm did not earn an incentive fee in the past year was
  because:
  
  A : the normal return was subtracted.
  
  B : the 2% asset-under-management fee is greater than the risk-free rate.
  
  C : of a high water mark provision, which states the value of the fund must exceed its previous high point before managers are paid an incentive fee.
  
  Answer: C
Question 4
- Mark Rolle, CFA, is the manager of the international bond fund for the Ryder Investment Advisory. He is
  responsible for bond selection as well as currency hedging decisions. His assistant is Joanne Chen, a
  candidate for the Level 1 CFA exam.
  Rolle is interested in the relationship between interest rates and exchange rates for Canada and Great Britain.
  He observes that the spot exchange rate between the Canadian dollar (C$) and the British pound is C$1.75/£.
  Also, the 1-year interest rate in Canada is 4.0% and the 1-year interest rate in Great Britain is 11.0%. The
  current 1-year forward rate is C$1.60/£.
  Rolle is evaluating the bonds from the Knauff company and the Tatehiki company, for which information is
  provided in the table below. The Knauff company bond is denominated in euros and the Tatehiki company bond
  is denominated in yen. The bonds have similar risk and maturities, and Ryder's investors reside in the United
  States.
  
  Provided this information, Rolle must decide which country's bonds are most attractive if a forward hedge of
  currency exposure is used. Furthermore, assuming that both country's bonds are bought, Rolle must also
  decide whether or not to hedge the currency exposure.
  Rolle also has a position in a bond issued in Korea and denominated in Korean won. Unfortunately, he is having
  difficulty obtaining a forward contract for the won on favorable terms. As an alternative hedge, he has entered a
  forward contract that allows him to sell yen in one year, when he anticipates liquidating his Korean bond. His
  reason for choosing the yen is that it is positively correlated with the won.
  One of Ryder's services is to provide consulting advice to firms that are interested in interest rate hedging
  strategies. One such firm is Crawfordville Bank. One of the loans Crawfordville has outstanding has an interest
  rate of LIBOR plus a spread of 1.5%. The chief financial officer at Crawfordville is worried that interest rates
  may increase and would like to hedge this exposure. Rolle is contemplating either an interest rate cap or an
  interest rate floor as a hedge.
  Additionally, Rolle is analyzing the best hedge for Ryder's portfolio of fixed rate coupon bonds. Rolle is
  contemplating using either a covered call or a protective put on a T-bond futures contract.
  The hedge that Rolle uses to hedge the currency exposure of the Korean bond is best referred to as a:
  
  A : proxy hedge.
  
  B : cross hedge.
  
  C : forward hedge.
  
  Answer: A
Question 5
- Walter Skinner, CFA, manages a bond portfolio for Director Securities. The bond portfolio is part of a pension
  plan trust set up to benefit retirees of Thomas Steel Inc. As part of the investment policy governing the plan and
  the bond portfolio, no foreign securities are to be held in the portfolio at any time and no bonds with a credit
  rating below investment grade are allowable for the bond portfolio. In addition, the bond portfolio must remain
  unleveraged. The bond portfolio is currently valued at $800 million and has a duration of 6.50. Skinner believes
  that interest rates are going to increase, so he wants to lower his portfolio's duration to 4.50. He has decided to
  achieve the reduction in duration by using swap contracts. He has two possible swaps to choose from:
  1. Swap A: 4-year swap with quarterly payments.
  2. Swap B: 5-year swap with semiannual payments.
  Skinner plans to be the fixed-rate payer in the swap, receiving a floating-rate payment in exchange. For
  analysis, Skinner always assumes the duration of a fixed rate bond is 75% of its term to maturity.
  Several years ago, Skinner decided to circumvent the policy restrictions on foreign securities by purchasing a
  dual currency bond issued by an American holding company with significant operations in Japan. The bond
  makes semiannual fixed interest payments in Japanese yen but will make the final principal payment in U.S.
  dollars five years from now. Skinner originally purchased the bond to take advantage of the strengthening
  relative position of the yen. The result was an above average return for the bond portfolio for several years.
  Now, however, he is concerned that the yen is going to begin a weakening trend, as he expects inflation in the
  Japanese economy to accelerate over the next few years. Knowing Skinner's situation, one of his colleagues,
  Bill Michaels, suggests the following strategy:
  "You need to offset your exposure to the Japanese yen by establishing a short position in a synthetic dual
  currency bond that matches the terms of the dual currency bond you purchased for the Thomas Steel bond
  portfolio. As part of the strategy, you will have to enter into a currency swap as the fixed-rate yen payer. The
  swap will neutralize the dual-currency bond position but will unfortunately increase the credit risk exposure of
  the portfolio."
  Skinner has also spoken to Orval Mann, the senior economist with Director Securities, about his expectations
  for the bond portfolio. Mann has also provided some advice to Skinner in the following comment:
  "1 know you expect a general increase in interest rates, but I disagree with your assessment of the interest rate
  shift. I believe interest rates are going to decrease. Therefore, you will want to synthetically remove the call
  features of any callable bonds in your portfolio by purchasing a payer interest rate swaption."
  After his lung conversation with Director Securities' senior economist, Orval Mann, Skinner has completely
  changed his outlook on interest rates and has decided to extend the duration of his portfolio. The most
  appropriate strategy to accomplish this objective using swaps would be to enter into a swap to pay:
  
  A :
  fixed and receive floating.
  
  B : floating and receive fixed.
  
  C : floating and receive floating.
  
  Answer: B

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