Investment Advisor cheat sheet

IPS components: objectives (return, risk), constraints (liquidity, time horizon, tax, legal, unique), and policy statements.

Risk tolerance combines willingness (psychological) and ability (financial capacity); the lower of the two governs the overall risk budget.

Suitability vs. fiduciary: Reg BI requires recommendations be in the retail customer's best interest; fiduciary duty under the Advisers Act imposes a broader duty of loyalty and care.

Asset allocation is the primary determinant of long-term return variability; security selection and market timing are secondary.

Rebalancing rules: calendar-based (e.g., quarterly), threshold-based (e.g., ±5% of target), or hybrid; threshold rebalancing reduces transaction costs.

Performance measurement: time-weighted return (TWR) removes cash-flow effects and is preferred for manager evaluation; money-weighted return (MWR/IRR) reflects investor experience.

Dollar-weighted return equals the IRR of all cash flows; it is higher than TWR when contributions precede strong performance.

The advisory process cycle: establish relationship → gather data → analyze → develop IPS → implement → monitor and rebalance → review and update.

Bond price-yield inverse relationship; duration approximates percentage price change for a 1% yield change; convexity adjusts for larger moves.

Macaulay duration = weighted average time to cash flows; modified duration = Macaulay / (1 + y/k); effective duration used for bonds with embedded options.

Equity valuation: DDM (Gordon: P0 = D1/(r−g)), P/E relative valuation, and free-cash-flow models; g must be less than r in the Gordon model.

Options: call payoff at expiry = max(S−K, 0); put payoff = max(K−S, 0); intrinsic value excludes time premium.

Put-call parity (European, no dividends): C − P = S − PV(K); violations create arbitrage opportunities.

Money market instruments: T-bills (discount basis), commercial paper, CDs, and repo; T-bill discount yield uses 360-day year and face value denominator.

Mutual funds: open-end (NAV-priced, redeemable) vs. closed-end (exchange-traded, may trade at premium/discount to NAV); ETFs trade intraday.

Market structures: primary (issuance) vs. secondary (trading); quote-driven (dealer) vs. order-driven (auction); dark pools are ATSs without pre-trade transparency.

Holding period return = (P1 − P0 + D)/P0; arithmetic mean overstates long-run compound growth; geometric mean is the compound annual return.

Variance = Σ p_i (R_i − E(R))²; standard deviation = √variance; coefficient of variation = σ/E(R) measures risk per unit of return.

CAPM: E(R_i) = R_f + β_i [E(R_m) − R_f]; beta = Cov(R_i, R_m)/Var(R_m); beta of market = 1.

Sharpe ratio = (R_p − R_f)/σ_p; Treynor ratio = (R_p − R_f)/β_p; Jensen's alpha = R_p − [R_f + β_p(R_m − R_f)].

Portfolio variance (two assets) = w1²σ1² + w2²σ2² + 2w1w2ρσ1σ2; diversification benefit increases as ρ falls; minimum variance portfolio exists for ρ < 1.

CML prices efficient portfolios using total risk (σ); SML prices all assets using systematic risk (β); a security above the SML is undervalued.

Risk types: systematic (market, non-diversifiable) vs. unsystematic (firm-specific, diversifiable); only systematic risk is compensated in CAPM.

VaR at confidence c = loss threshold such that P(loss > VaR) = 1 − c; for normal returns, VaR = μ − z_c σ (z_95% ≈ 1.645, z_99% ≈ 2.326).

Strategic asset allocation sets long-term target weights consistent with the IPS; tactical asset allocation makes short-term deviations within policy limits.

Human capital (PV of future earnings) plus financial capital equals total wealth; younger clients typically hold more equity because human capital is bond-like.

Time horizon: short (<3 yrs) favors cash and short-duration bonds; long (>10 yrs) supports higher equity allocation and illiquid assets.

Liquidity constraint: emergency reserve of 3–6 months of expenses is funded before discretionary investing.

Tax planning: tax-deferred accounts hold high-turnover and income-producing assets; taxable accounts hold low-turnover equity and municipal bonds for high brackets.

Client profiling captures goals, time horizon, liquidity needs, tax situation, risk tolerance, and unique circumstances (ethical, legal, family).

Education funding: 529 plans grow tax-deferred and withdrawals for qualified expenses are tax-free; consider age-based glide paths.

Retirement income: 4% rule is a rough sustainable withdrawal heuristic; Monte Carlo simulation estimates probability of success under return and longevity uncertainty.

Advisers Act of 1940: registration with SEC if AUM ≥ $100 million (or state if below); Form ADV Parts 1 and 2 filed and updated annually within 90 days of fiscal year end.

Fiduciary duty: duty of care (reasonable basis, monitoring) and duty of loyalty (disclose conflicts, best execution, no undisclosed compensation).

Custody rule: qualified custodian required; surprise examination or account statement delivery; pooled vehicles may use audit exemption.

Books and records: Rule 204-2 requires retention of records for 5 years, first 2 in an easily accessible place.

Advertising rule (Rule 206(4)-1): testimonials, past performance, and third-party ratings permitted only with required disclosures and no misleading statements.

Compliance program: Rule 206(4)-7 requires written policies, a designated CCO, and annual review; Rule 204A-1 requires a code of ethics with personal trading reporting.

Reg BI (broker-dealers) and fiduciary standard (advisers) both demand best-interest recommendations; material conflicts must be disclosed and mitigated.

Privacy: Regulation S-P requires safeguarding client nonpublic personal information and delivering privacy notices.