I don’t get the answer.
my thought is since the volatility of domestic equity is higher the corridor of domestic equities should be wider. but the answer in book says the opposite.
volatility is higher. so you would need to make the corridor narrower - so you can account for changes in the returns. Otherwise you would rapidly go out of whack on the portfolio.
If the returns change - you need to adjust the weight on the class quickly - so that the investor’s objectives continue to be met.
My reasoning was wrong; if the volatility is high, you should keep the corridor narrow before it stray too far away from target. And my idea was to keep it wider since otherwise it may trigger rebalancing too often.
see R40 Page 92
try not to focus solely on single asset class, think about a multiple asset class instead.
Suppose a multiple asset class consists of 3 different kinds of assets:domestic stocks,domestic bonds,international equities.Also suppose a corridor of ±10%. You divide the corridor into 3 parts:±4.5%to domestic stocks,±1.5% to international equities,±4% to domestic stocks.
Anyone who exhibits a highest volatility among the 3 assets(suppose it is international equity) will cause the rest 2 being more likely off target.To minimized the possibility that the rest 2 assets may be off target, the manager have to narrow the corridor of the international equities.
See the sentence on the bottom line of this page" In a two-asset case the more volatile the second asset, the more risk there is in being a given percent off target for the first asset class, all else equal"
pls correct me if I am wrong somewhere.