Q1. Norwegian Fisherman Pension Plan (NFPP) is the pension fund of a Norwegian-based fishing
company. NFPP is fully funded with 8 billion Krone (NOK) in assets and has the following investment
policy objectives:
• Earn a 10.3% annual portfolio return.
• Have a maximum Roy’s safety-first ratio with a minimum return threshold of 8%.
• Maintain a cash balance sufficient to meet liquidity requirements.
• Maintain a maximum of 10% of assets in a passively managed sub-portfolio that is indexed to the S&P
GSCI Precious Metals Index (SPGSPM).
NFPP expects to pay NOK 380 million in pension benefits this year. At an investment committee meeting
egarding possible changes to NFPP’s strategic asset allocation policy, the committee reviews five
alternative portfolio allocations that meet NFPP’s return objectives. These alternatives are shown below
in Exhibit 1.
Exhibit 1
Alternative Portfolio Allocations (%)
Asset Class Portfolio Allocations
A B C D E
Cash equivalents XXXXXXXXXX
SPGSPM XXXXXXXXXX
Global Bonds XXXXXXXXXX
Global Equity XXXXXXXXXX
Total XXXXXXXXXX
Portfolio Measures A B C D E
Expected Total Annual Return XXXXXXXXXX XXXXXXXXXX
Expected Standard Deviation XXXXXXXXXX XXXXXXXXXX
Determine the most appropriate portfolio for NFPP. State, for each portfolio not selected, one
eason why it is not the most appropriate.
Q2. USF is a private, tax-exempt, educational institution and has an endowment with the purpose of
providing financial support to the university budget. Cu
ently, the spending rule for the endowment is 4
percent of the market value of its investment portfolio as of the previous year-end. Based on the
endowment’s 2018 year-end market value of $1.2 billion, the annual distribution represents 5 percent of
the operating budget for USF, just meeting USF’s desired level of endowment support. USF expects a
similar dollar level of endowment support, indexed to inflation in its costs, in future years.
The university’s operating expenses are expected to grow at a nominal rate of 3.25 percent per
year for the foreseeable future. The inflation rate in the U.S., as measured by the Consumer Price Index
(CPI), is expected to be 2.0 percent per year for the foreseeable future.
The endowment investment committee is concerned because the endowment has not met its stated return
equirement over the last four years. The investment committee has hired George Burns, CFA, as an
investment consultant. Burns prepares Exhibits 1 and 2 in his review of the endowment and suggests the
committee formulate an investment policy statement (IPS).
Exhibit 1
Spending History of USF Endowment
Year Ending 31 December Market Value of
Endowment
4% Spending Allowance for
the Following Year
2014 $850,000,000 $34,000,000
2015 $975,000,000 $39,000,000
2016 $925,000,000 $37,000,000
2017 $1,010,000,000 $40,400,000
2018 $1,200,000,000 $48,000,000
Exhibit 2
Comparison of USF Endowment and the Average University Endowment
Portfolio Characteristics as
of 31 December 2018
USF Endowment Average University
Endowment
Market Value $1,200,000,000, $1,080,000,000
5 Year Annualized Rate of
Return
9.04% 11.2%
Investment Management
Expense
0.55% 0.58%
A. Formulate the return requirement for USFs endowment’s IPS. Show your calculations.
B. Indicate if each factor below increases or decreases the endowment’s ability to take risk:
a. USF endowment’s role in the university’s operating budget
. The USF endowment’s past performance as reflected in the year-end market values of the
endowment
Justify each of your responses with one reason.
C. Prepare the liquidity and time horizon constraints of USF endowment’s IPS.
Two years have passed since Burns was hired, and the endowment’s investment portfolio now has an
asset allocation of 55 percent global equities, 40 percent global fixed income, and 5 percent cash. A newly
established goal of USF is to enhance its scholarship program in order to attract a larger number of top-
ated students. The endowment investment committee asks Burns to develop a funding strategy for the
additional scholarships. Burns suggests the USF endowment adopt a rolling three-year average spending
ule, in which the 4 percent spending calculation is based on the average ending market value over the
previous three years.
D. Justify the adoption of a rolling three-year average spending rule by the USF endowment.
Burns suggests the endowment investment committee consider adding alternative investments to improve
the portfolio’s returns and to offer greater diversification benefits. The endowment investment committee
is willing to assume additional risk, but is opposed to investing in asset classes that significantly reduce
the liquidity of the overall portfolio. Burns suggests reducing global equities to 45 percent of the portfolio
and global fixed income to 35 percent of the portfolio, and investing the proceeds equally in indirect real
estate, commodity futures, and hedge funds. He compiles the data on the historical performance of the
asset classes shown in Exhibit 3 and adjusts the data to approximate “net-of-fees” returns for a client of
USF’s size. Burns expects these data will be representative of future investment performance.
Exhibit 3
Historical Data for the Period 2000 – 2018
Measure MSCI World
Equity
Barclays
Global Agg
Bond
NAREIT
Indirect Real
Estate
GSCI
Commodity
HFRI Hedge
Funds
Annualized
Return (net)
10.45% 6.54% 11.50% 6.89% 13.24%
Standard
Deviation
16.93% 4.31% 13.08% 21.61% 7.64%
Sharpe Ratio XXXXXXXXXX 1.34
Co
elation with
MSCI World
Equity
XXXXXXXXXX51
Co
elation with
Barclays Global
Agg Bond
XXXXXXXXXX15
E. Evaluate the impact of Burns proposed asset allocation with reference to the portfolio’s:
a. Return
. Risk
c. Liquidity
Note: No calculations are required.