When creating composites, ________ returns must not be mixed with asset-plus-cash returns.
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A. B. C. D. E.E
To be in compliance with the PPS, a firm creating a composite must meet this requirement.
When creating composites, the correct answer is E. asset-only returns must not be mixed with asset-plus-cash returns.
Composite returns are used to evaluate the performance of investment managers or investment strategies. They are constructed by combining the returns of individual portfolios or accounts managed by the same investment manager, which are then weighted according to their asset values.
Asset-only returns represent the performance of an investment portfolio without considering any cash flows, such as contributions or withdrawals. These returns reflect the investment manager's ability to select and manage the underlying assets effectively.
Asset-plus-cash returns, on the other hand, include the impact of cash flows in addition to the performance of the underlying assets. Cash flows can arise from contributions, withdrawals, or any other changes in the cash position of the portfolio. These returns incorporate both the investment manager's asset management decisions and their ability to effectively manage cash flows.
When constructing composites, it is crucial to maintain consistency and comparability among the portfolios or accounts being combined. Mixing asset-only returns with asset-plus-cash returns would introduce inconsistency because the inclusion of cash flows can significantly impact the overall performance. This mixing would make it challenging to evaluate the investment manager's ability to manage assets independently of cash flow decisions.
Therefore, asset-only returns must not be mixed with asset-plus-cash returns when creating composites. By keeping them separate, investors and analysts can accurately assess and compare investment managers' performance based on their asset management skills alone, without the influence of cash flows.