Financial Risk Manager Part 2
Get started today
Ultimate access to all questions.
In the context of diminishing opportunities in public investment markets, a pension fund has decided to seek the expertise of an investment consultant to assess the potential of investing in illiquid markets in the United States. What characteristics and features of illiquid markets in the US should the consultant highlight to inform the pension fund managers' decision-making?
Exam-Like
A
Municipal bonds are usually more liquid than pinksheet over-the-counter equities.
B
The traditional public, liquid markets of stocks and bonds are larger than the total wealth held in illiquid assets.
C
The share of illiquid assets in institutional portfolios has generally gone up in the past 2 decades.
D
During the 2008-2009 Financial Crisis, liquidity dried up in repo markets but not in commercial paper markets.
Explanation:
The correct answer is C. The share of illiquid assets in institutional portfolios has generally gone up in the past 2 decades. This is due to the increasing trend of both pensions and endowments to increase their holdings of alternative assets, which are considered illiquid, from about 5% to 20-25%. This shift reflects the search for higher returns and diversification in investment portfolios, as traditional public markets may not offer the desired returns or risk profiles.
Option A is incorrect because municipal bonds, despite being considered a more stable and secure investment, have a turnover of less than 10%, which is significantly lower than the approximately 35% turnover for over-the-counter (OTC) equities. This indicates that OTC equities are more liquid than municipal bonds.
Option B is incorrect because the statement that traditional public, liquid markets of stocks and bonds are larger than the total wealth held in illiquid assets is not accurate. In fact, the US real estate market is an example of a large illiquid asset class that is comparable in size to the US stocks and bonds market.
Option D is incorrect because during the 2008-2009 Financial Crisis, liquidity dried up in both the repo markets and commercial paper markets, contrary to the claim that liquidity only dried up in repo markets. This highlights the interconnectedness and vulnerability of different financial markets during times of crisis, affecting both liquid and illiquid segments.
Comments
Loading comments...