Quick Question,
On page 347 of CFAI, for the solution to Problem 1, it says that Recommendation B also failes to consider Moreaus’s overall risk tolerance. Can we assume that volatility of the common stock-total return capital gain strategy is lower than the volatility of the common stock -dividend income strategy, hence allocating more in common stock -total return (capital gain) is more appropriate?
Anyone please!
could someone please help?
Which reading is this?
This was Reading 18. Thanks!
Struggling with this blue box too (reading 17). Would be great if someone could shed some light on it.
Note that this new portfolio allocation is being considered for a taxable account. We have to optimize allocation on “after tax” basis.
A is out simply because of high tax drag related to HY bonds + they high correlations with equity. As per Exhibit 6, an optimal after tax mix minimizes the allocation to HY bonds (for normal cases).
You are left with B and C.
C is better, because dividend (from stocks) will be taxed in a taxable account, so you want to avoid that. Now, so will the Investment grade bonds (interest income will be taxed too), but the risk control benefit from investment grade bonds (as their correlation with equity on post tax basis is low), outweighs the cost (related to tax on investment grade bond income), so C is the optimum choice here.
Thank you, cfa2014