in Problem 2.A CFAI says the approriate strategy is Equity Dollar… Q: Equity collar uses calls and options. Aren’t calls and options are kind of leverages too. I remember all derivatives use leverage. If so, it will violate the contraint that no leverage used in the portfolio?
I had the same question. I thought it was Exchange fund…however, notice that in the solution they gave full credit for the Exchange fund answer.
it was a zero cost collar, so no leverage.
Isn’t a collar when you sell a call and buy a put, why then would this give you upside potential? Is it because the sold call is written out of the money, did the case (2007 exam) state that or is that assumed in a collar?
it gives you some upside potential, but generally not very much. both the calls and puts are generally out of the money. For instance if the strike is 35. A likely collar would be to buy the 30 put and sell the 40 call.
Ok thanks, then I you could agrue that the exchange fund had no limit to upside potential but then again it depends on the composition of the exchange fund, seems if it still had 20% of your stock it could be diversified and allow for upside potential. Anyhow cfai gave credit for both resonses but they gave no reason for a collar to be a disadvantage, I would think that the disadvantage is that upside is limited.
I haven’t seen the question, but an exchange fund generally wouldn’t let you have the upside of the stock you put in (if the stock return is greater than the exchange fund return that is).
I think you can still have upside potential, i.e what if the fund allows you to have 25% in you stock and 15 other stocks, i.e. if your stock did well then fund would do better porportionally and it would be better diverified. But I do agree that the goal of the fund is to diverisfy and most funds would not have 25% single stock but it is possible if the holder wants more exposure to his single stock.