Manager skill and luck

CFA Level III Portfolio Management
#1

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In reviewing the relative performance of Manager B from Exhibit 1, Parker makes the following statements:

He faced more volatile markets than the others did, based on the tracking errors.

He used currency overlays to lever the returns of securities held in foreign currency.

His excess return looks like it is more a matter of luck than skill

Which of Parker’s statements about Manager B in Exhibit 1 is most appropriate? The statement about:

A. tracking errors.
B. excess return.
C. currency overlays.

A: incorrect, because tracking error does not measure portfolio volatility.
C: incorrect, because overlays are used to hedge, not lever, returns of securities.
B: correct “The proper measure of skill is the tracking error. Manager B has the highest tracking error.” Therefore, Manager B’s excess return is because of luck. What? Help, please?

#2

Note that they’re called Equity Replication Managers (emphasis added).

They should have extremely low tracking errors. Even Manager C’s tracking error seems a bit high for a replication portfolio (and his number of holdings seems incredibly low).

While it might be appropriate to say that Manager B’s excess return is the result of his failure to abide by his mandate, one could argue that he took an unreasonable chance and it worked out. Sounds a lot like luck.

In any case, answers A and C are clearly wrong. Perhaps B is the correct answer only because it only might be wrong.

Not a great question.

#3

While doing the recap and going through these CFA online questions these days, I thought it is only my impression, and/or lack of knowledge, but the truth is, some of the questions are really poorly written. I completely agree with you.