Explanation:
C is correct. Style analysis was introduced as a tool to systematically measure the exposures of managed portfolios. In style analysis, fund returns are regressed on indexes representing a range of asset classes and the R-square of the regression would then measure the percentage of return variability attributable to style choice rather than security selection.
A is incorrect. Style analysis emphasizes the significance of asset allocation, not security selection, on return variation. For example, according to a well-known study that helped to popularize this type of analysis, 91.5% of the variation in returns of 82 mutual funds could be explained by the fund's asset allocation to bills, bonds, and stocks.
B is incorrect. Style analysis is capable of handling time-varying benchmarks and was introduced in part to capture time-varying exposures.
D is incorrect. In style analysis, fund returns are regressed on relevant indices and the intercept of the regression (alpha) measures the average return from security selection.
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A
Style analysis shows that the contribution of security selection to the variation in the returns of a fund is usually much higher than the contribution of asset allocation.
B
For style analysis to provide reliable return estimates, risk factor exposures should remain constant throughout the evaluation period.
C
In style analysis, returns are regressed on relevant benchmark indices and the R-square measures the percentage return variability attributable to style choice.
D
In style analysis, returns are regressed on non-tradable factors and the intercept of the regression measures the average return attributable to style choice.
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