CFA® Level 2 Question Bank

UWorld + Wiley CFA: The New Standard in CFA Level 2 Practice Questions
Build speed, accuracy, and real exam readiness with practice questions that mirror the CFA Level 2. Developed by charterholders and trusted by candidates worldwide, our QBank pairs expert rationales with power visuals and proven learning tools from UWorld and Wiley CFA.
The UWorld CFA Level 2 QBank

How Our Practice Questions Build Exam Readiness

Train with practice questions that mirror the real CFA Level 2 exam — created by CFA charterholders to match or exceed the exam’s difficulty and format.

Master Concepts Faster

Engage with every question using our active learning techniques — proven to boost retention and understanding.

Quiz Smarter, Not Harder

Build personalized quizzes by topic or subject or to target exactly where you need more practice.

Learn the “Why” Behind Every Answer

Detailed answer rationales help you think like a charterholder and build deep conceptual understanding.

Simulate Exam Conditions

Practice with exam-like time constraints so you don’t run out of time on exam day.

Turn Weaknesses into Strengths

Identify knowledge gaps with real-time performance metrics so you can study exactly what you need.

Replicate the Exam Environment

Practice in a Prometric-like layout. Don’t wait until exam day to get comfortable with the interface.
Experience the UWorld Difference—Try CFA Level 2 Questions Now
See why thousands of candidates trust UWorld. Answer sample questions and experience real CFA Level 2 Exam conditions.
Explore Questions

Think Like a CFA Charterholder — Starting Now

Invest in your CFA Level 2 Exam prep today. Maximize your returns on exam day.
UWorld CFA question bank explanation with table
UWorld CFA question bank explanation with flowchart
UWorld CFA question bank explanation with visual illustration

Score Higher on Level 2 with UWorld’s Quality Learning Tools

Study with high-quality learning tools that help you learn faster, retain longer, and score higher.

Use Up-to-Date CFA QBank Aligned to the Exam

Access an extensive library of CFA Level 2 questions and in-depth answer explanations written by our in-house team of charterholders. Questions are routinely updated to reflect the current exam format and Learning Outcome Statements (LOS).

Use Up-to-Date CFA QBank Aligned to the Exam

UWorld's award winning CFA QBank interface.

Learn by Doing

UWorld CFA Qbank Create Test Interface

Learn by Doing

Our CFA Level 2 QBank promotes active learning with unlimited practice tests featuring exam-level questions. Engage deeply with concepts, build stamina and confidence, and simulate real exam conditions — boosting your readiness and ensuring you know what to expect on test day.

Simplify Your Learning

Our exam prep simplifies the rigorous CFA Level 2 study process with in-depth, yet concise answer explanations and illustrations that boost comprehension and retention. By covering correct and incorrect answers, you gain a deep understanding of key concepts — reducing memorization and promoting real mastery.

Simplify Your Learning

UWorld CFA Qbank practice question explanation depicting active learning

Practice with Challenging Questions

UWorld CFA Level 1 practice question and explanation

Practice with Challenging Questions

Our in-house charterholders create questions at or above exam-level difficulty and include detailed explanations for correct and incorrect answers.

Make Data Work for You

Don’t waste time studying what you already know. Measure your progress with advanced performance analytics. Identify knowledge gaps in real time and focus your Level 2 studies accordingly.

Make Data Work for You

UWorld CFA Level 2 QBank Performance Report

Access Level 2 Practice Questions Anywhere at Any Time

UWorld Level 1 CFA question on mobile

Access Level 2 Practice
Questions Anywhere at Any Time

Review QBank questions in a rideshare or take a practice test on your lunch break. Keep everything you need to pass the CFA Level 2 Exam in arms reach. Download our app today!
Apple App Store
Google Play store icon

Multiple Ways to Study, Multiple Ways to Save

Whether you’re searching for a complete CFA Level 2 course with unlimited access time or a supplement, we have you covered.

 
Step Up to a Full Course
Build Your Path to CFA Level 2 Success

QBank Only

 

$ 

Use code:
 
Buy Now

Core

 

$ 

Use code:
 
Buy Now

Advanced

 

$ 

Use code:
 
Buy Now

Elite

 

$ 

Use code:
 
Buy Now
QBank
Practice with questions written by finance experts to reflect the most current CFA Level 2 Exam in difficulty and format.
Mobile App Access
Take your CFA prep on the go with full access to all study materials via the UWorld Finance - Exam Prep mobile app.
Performance Tracking & Analytics
Monitor your progress, identify weak areas, and optimize your prep using detailed performance analytics
Study Guides (eBook)
Simplify the extensive content of CFA curriculum books with focused study notes, practical examples, and a range of questions covering each LOS.
MyNotebook
Save key content, take notes, and build a personalized digital study guide as you learn.
Study Planner
Create a personalized study plan aligned to your test date and progress, helping you stay on track.
Expert-Led Video Lectures
Get additional context and depth with bite-sized review videos that hone in on learning outcome statements.
SimpleSheets+
Reference an outline of key formulas, definitions, and must-know concepts in a streamlined format for quick review.
Digital Flashcards
Create your own flashcards to reinforce key concepts, formulas, and definitions. Organize them by subject, topic, or custom tags. Study your personalized deck anytime, anywhere across devices.
ReadyDecks
Study with preloaded, expert-curated flashcards organized by subject, topic, or custom tag.
Mock Exam A
Simulate the actual exam with mock exams that mirror the format, timing, and difficulty of the CFA Level 2 Exam.
Mock Exam B
Simulate the actual exam with mock exams that mirror the format, timing, and difficulty of the CFA Level 2 Exam.
StudyPass (Access Until You Pass)
Request a free course extension if you don’t pass the CFA Exam on your first try, giving you more time to succeed.
Study Guides (Printed)
Get print copies of the CFA Level 2 study guide for offline review, complete with practical examples and key concept summaries.
Expert MasterClass
Master how you tackle CFA Exam questions with expert-led video sessions that sharpen strategy, close knowledge gaps, and keep you on track.
Accelerate Boot Camp
Turn practice into power with a 2-day, high-yield problem-solving experience designed to transform your prep and elevate your CFA Exam readiness.
ExpertConnect
Tackle your most challenging CFA questions live in real time Q&A sessions. Get direct answers from experts when it matters most.

QBank Only

Buy Now

Core

Buy Now

Advanced

Buy Now

Elite

Buy Now

Explore our free trial and see how UWorld CFA can boost your Prep

7-Day Free Trial
Build Your Path to CFA Level 2 Success

QBank Only

 

$ 

Use code:
 
Buy Now
QBank
Practice with questions written by finance experts to reflect the most current CFA Level 2 Exam in difficulty and format.
Mobile App Access
Take your CFA prep on the go with full access to all study materials via the UWorld Finance - Exam Prep mobile app.
Performance Tracking & Analytics
Monitor your progress, identify weak areas, and optimize your prep using detailed performance analytics.
MyNotebook
Save key content, take notes, and build a personalized digital study guide as you learn.

Step Up to a Full Course

Core

 

$ 

Use code:
 
Buy Now
See What’s Included
QBank
Practice with questions written by finance experts to reflect the most current CFA Level 2 Exam in difficulty and format.
Mobile App Access
Take your CFA prep on the go with full access to all study materials via the UWorld Finance - Exam Prep mobile app.
Performance Tracking & Analytics
Monitor your progress, identify weak areas, and optimize your prep using detailed performance analytics.
Study Guides (eBook)
Simplify the extensive content of CFA curriculum books with focused study notes, practical examples, and a range of questions covering each LOS.
MyNotebook
Save key content, take notes, and build a personalized digital study guide as you learn.

Step Up to a Full Course

Advanced

 

$ 

Use code:
 
Buy Now
See What’s Included
QBank
Practice with questions written by finance experts to reflect the most current CFA Level 2 Exam in difficulty and format.
Mobile App Access
Take your CFA prep on the go with full access to all study materials via the UWorld Finance - Exam Prep mobile app.
Performance Tracking & Analytics
Monitor your progress, identify weak areas, and optimize your prep using detailed performance analytics.
Study Guides (eBook)
Simplify the extensive content of CFA curriculum books with focused study notes, practical examples, and a range of questions covering each LOS.
MyNotebook
Save key content, take notes, and build a personalized digital study guide as you learn.
Study Planner
Create a personalized study plan aligned to your test date and progress, helping you stay on track.
Expert-Led Video Lectures
Get additional context and depth with bite-sized review videos that hone in on learning outcome statements.
SimpleSheets+
Reference an outline of key formulas, definitions, and must-know concepts in a streamlined format for quick review.
Digital Flashcards
Create your own flashcards to reinforce key concepts, formulas, and definitions. Organize them by subject, topic, or custom tags. Study your personalized deck anytime, anywhere across devices.
ReadyDecks
Study with preloaded, expert-curated flashcards organized by subject, topic, or custom tag.
Mock Exam A
Simulate the actual exam with mock exams that mirror the format, timing, and difficulty of the CFA Level 2 Exam.

Step Up to a Full Course

Elite

 

$ 

Use code:
 
Buy Now
See What’s Included
QBank
Practice with questions written by finance experts to reflect the most current CFA Level 2 Exam in difficulty and format.
Mobile App Access
Take your CFA prep on the go with full access to all study materials via the UWorld Finance - Exam Prep mobile app.
Performance Tracking & Analytics
Monitor your progress, identify weak areas, and optimize your prep using detailed performance analytics.
Study Guides (eBook)
Simplify the extensive content of CFA curriculum books with focused study notes, practical examples, and a range of questions covering each LOS.
MyNotebook
Save key content, take notes, and build a personalized digital study guide as you learn.
Study Planner
Create a personalized study plan aligned to your test date and progress, helping you stay on track.
Expert-Led Video Lectures
Get additional context and depth with bite-sized review videos that hone in on learning outcome statements.
SimpleSheets+
Reference an outline of key formulas, definitions, and must-know concepts in a streamlined format for quick review.
Digital Flashcards
Create your own flashcards to reinforce key concepts, formulas, and definitions. Organize them by subject, topic, or custom tags. Study your personalized deck anytime, anywhere across devices.
ReadyDecks
Study with preloaded, expert-curated flashcards organized by subject, topic, or custom tag.
Mock Exam A
Simulate the actual exam with mock exams that mirror the format, timing, and difficulty of the CFA Level 2 Exam.
Mock Exam B
Simulate the actual exam with mock exams that mirror the format, timing, and difficulty of the CFA Level 2 Exam.
StudyPass (Access Until You Pass)
Request a free course extension if you don’t pass the CFA Exam on your first try, giving you more time to succeed.
Study Guides (Printed)
Get print copies of the CFA Level 2 study guide for offline review, complete with practical examples and key concept summaries.
Expert MasterClass
Master how you tackle CFA Exam questions with expert-led video sessions that sharpen strategy, close knowledge gaps, and keep you on track.
Accelerate Boot Camp
Turn practice into power with a 2-day, high-yield problem-solving experience designed to transform your prep and elevate your CFA Exam readiness.
ExpertConnect
Tackle your most challenging CFA questions live in real time Q&A sessions. Get direct answers from experts when it matters most.

Explore our free trial and see how UWorld CFA can boost your Prep

7-Day Free Trial

Hear From Our Past CFA Candidates

quotes

A very big thank you. You guys did great work on me. I wouldn't have passed the CFA Level 2 exams if not for your beautiful, well-crafted notes and videos. Your mock exams were the closest to the actual exam. Your advanced package is indeed the magic card."

— Abdul A.
quotes

The best test-bank I've found! The questions are complex. And the format mimics the exam; excellent explanations for each answer option. Application-based questions are very nuanced and further help strengthen the underlying concept. My favorite, the QBank itself, can help one learn the whole curriculum thoroughly just through practice questions."

— Het D.
quotes

I have used other well-known CFA providers and found the questions provided by UWorld to be very targeted in honing on the highly essential practice problems needed for success. I'm also a big fan of the available option to create flashcards; it's been hugely beneficial so far."

— Pearle A.
Read More Reviews

Frequently Asked Questions (FAQs)

Our in-house team of charterholders and subject matter experts craft the CFA Level 2 QBank questions and answer explanations.

No. As an officially approved prep provider by CFAI, we do not use or distribute past CFA L2 Exam questions. Therefore, our QBank questions are not sourced from past exams. However, we ensure that our questions are specifically tailored to match the format of the exam you are preparing for and align with the CFAI’s learning outcome statements.

Our users routinely tell us that our questions were so similar to the ones they saw on the CFA Exam that they felt like they had answered them before.

Our CFA Level 2 Exam 7-day free access provides 5 vignette-style scenarios with 6 questions each (total of 30) across 5 of the 10 topics. Each question has a detailed rationale that comprehensively explains the overall concept and why each answer selection is right or wrong.

Our team of charterholders and finance experts develop questions that meet or exceed exam-level difficulty.

Our CFA Level 2 test bank covers all learning outcomes statements as outlined by the CFA Institute. That means exam-level questions with in-depth answer explanations for every exam topic, plus a platform designed around a research backed active-learning methodology.
* UWorld CFA is a CFA® Institute Prep Provider. Only CFA Institute Prep Providers are permitted to use CFA Institute copyrighted materials, which are the building blocks of the exam. We are also required to update our materials every year, as validated by CFA Institute.
Scroll to Top

Preview the Quality for Yourself

Explore sample CFA Level 2 Exam questions with full answer explanations to see how we prepare you to pass with confidence.

Select a Question sample.

Select a Question sample.

Buy Now

Passage

Compass Engineering's board of directors is deciding between cash dividends or a share repurchase program as a method to begin returning cash to shareholders. Liam Fischer, a member of the board, states that both cash dividends and share repurchases have certain advantages that should be considered:

Advantage 1: Share repurchases tend to be more flexible. Although dividends can be raised, lowered, or suspended, they appear to create an expectation among investors that the distribution will continue in the future. Share repurchases do not seem to create the same expectation.
Advantage 2: If the tax rates for capital gains and dividends are the same, and the information content is the same, then shareholders' wealth will be greater with cash dividends since all shareholders receive cash.

Alicia Wu, the chairman of the board, indicates that Compass should review the long-term trends in the country (the United Kingdom) before deciding.

After deliberation, the board favors a share repurchase program. Jessica King, another member of the board, is concerned about the effect of share repurchases on Compass' EPS. She collects the following data for 20X2:

Visualization of Compass' Financial and market information for proposed share repurchase

In addition, King wonders what effect share repurchases have on companies' book values. She gathers data from three of Compass' peers who have made a share repurchase:

A graphical representation of financial information on compass' peers

The board members then discuss the best approach for Compass to repurchase shares. King has identified two possible scenarios, both using the same amount to repurchase shares:

Scenario 1: Purchase shares using all cash on hand.

Scenario 2: Purchase shares with funds from an issuance of debt.

Wu states that her preference is to choose a method by which the company can control the process and execute it quickly. She also prefers a process that would allow Compass to discover the minimum price at which it can repurchase the desired number of shares.

Based on Scenario 1 and Exhibit 1, a share repurchase would cause Compass' 20X2 EPS to be closest to:

  1. £6.72
  2. £6.77
  3. £6.80
Submit Next

Explanation:

Visual illustration depicting an example scenario in share re-purchase

Share repurchases are a popular alternative to cash dividends for returning cash to shareholders.  Repurchases allow companies to purchase shares currently being held by shareholders using one of several methods. Once repurchased, the shares are either held for reissue (ie, treasury shares) or retired (ie, canceled shares).

The repurchase leaves fewer shares for investors to hold (ie, shares outstanding), which often results in a change to a company's per-share financial ratios (eg, EPS). Like dividends, share repurchases are made using corporate cash, whether the cash is on hand or obtained through the issuance of new debt.

  • When cash on hand is used, EPS always increases.
  • When new debt is issued, the change in EPS depends on the company's after-tax cost of debt and its earnings yield.

In this question, Compass' EPS following the share repurchase would be £6.77, calculated below.

A brief infographic of a step-by-step calculation of shares repurchased, remaining shares after the repurchase and the Earning per share after each repurchase

(Choice A) £6.72 results from incorrectly applying the company's tax rate to the cash used to repurchase shares, arriving at cash of £400 million [£500 million × (1 − 0.2)].

(Choice C) £6.80 incorrectly uses the company's share price instead of the purchase price to calculate the number of shares repurchased.  Companies do not always repurchase shares at the market price.

Things to remember:
Share repurchases are a popular alternative to cash dividends.  They often result in a change to a company's per-share financial ratios.  When cash on hand is used for a repurchase, EPS will always increase.  When new debt is issued instead, the change in EPS depends on a company's after-tax cost of debt and its earnings yield.

Passage

Tom Johnson, CFA, is a portfolio manager at Universal Advisors, a US-based wealth management firm that serves high-net-worth individuals and families. Universal's equity portfolio offering includes separately managed accounts (SMAs) in which clients own individual securities. Johnson manages the portfolio with an aggressive high-risk, high-reward strategy, investing mostly in small-cap growth stocks. To reduce transaction costs and to simplify trading and settlement, Universal buys only US-listed securities for client accounts.

Johnson instructs Francois Martin, a CFA Level II candidate and new equity analyst at the firm, to conduct research on Vent Industries, a French wind turbine manufacturer. Vent is dually listed on exchanges in France and in the US. Martin, a French national who recently moved to the US, is already familiar with the company since he has been following it personally for the past two years.

After completing due diligence on Vent, Martin is thoroughly impressed by the investment prospects and suggests that Johnson add the US-listed shares of Vent to client portfolios. Johnson, as the sole decision-maker, reviews Martin's research and financial models but wants to think about the suggestion before reaching a conclusion.

Martin is so impressed with Vent's investment prospects that he wants to buy it for his personal account. For guidance, Martin references Universal's publicly available personal transaction disclosure, which states only the following:

"Investment personnel are subject to policies and procedures regarding their personal trading."

Needing more detail, Martin checks with the firm's compliance officer, who informs him that the firm does have policies and procedures designed to prevent potential conflicts of interest related to personal trading. Universal does not require that employees obtain preclearance before trading, but the firm's policies do require:

  • a two-day blackout period before and after client trades, and
  • a quarterly report by its investment decision-making personnel on transactions and holdings.

Based on this information, Martin immediately places an order to buy Vent shares listed in France through his personal French brokerage account, which he established prior to joining Universal. Three days later, Johnson decides to invest for clients in the US-listed shares of Vent and places the order through Universal's trading desk.

Johnson is a board member for a local hospital endowment; for this, he receives modest compensation. Universal has approved Johnson's board participation and compensation. Johnson is considered to be a thoughtful and successful investor. The other board members, unhappy with the fees and performance of the endowment's existing income-oriented large-cap equity manager, asked Johnson a year ago if he would be willing to manage the equity portion of the endowment. Johnson responded by stating:

"The hospital provides so much to this community, I would be happy to manage the endowment's equity portfolio. It won't even take much time; I will manage the endowment portfolio as an exact replica of Universal's equity portfolio."

The next month, without informing Universal, Johnson began managing the endowment portfolio as a mirror image of Universal's equity strategy.

Recently, Johnson evaluated the investment prospects of an upcoming IPO for a small-cap biotech firm. The company does innovative cancer research, but it is still years away from profitability. After conducting thorough due diligence, Johnson has concluded this is a great investment opportunity; he would like the hospital endowment to participate, believing the other board members would be excited about the company's cancer research.

Johnson speaks to Universal's lead underwriter and requests that 5% of the firm's IPO allotment be allocated to the endowment. A few days later, when the IPO is priced and allocated, Universal receives 95,000 shares and the endowment receives 5,000 shares.

Do Universal's personal transaction disclosure policies comply with CFA Institute's required and recommended procedures?

  1. No.
  2. Yes, since no disclosure is required.
  3. Yes, since they meet the minimum disclosure requirements.
Submit
Prev Next

Explanation:

"Investment transactions for clients and employers must have priority over investment transactions in which a Member or Candidate is the beneficial owner."

Standard VI(B) Priority of Transactions requires Members and Candidates to place clients' and employers' financial interests before their own when conducting investment transactions and recommends avoiding even the appearance of conflicts of interest.

Firms should have policies and procedures to address such issues.  Members and Candidates should fully and publicly disclose their firm's policy regarding personal securities transactions.  If such a policy is established, CFA Institute requires that it be disclosed with some level of detail, not simply in general, nondescript ("boilerplate") language, as was the case in this scenario.

Although each firm should develop specific provisions applicable to its circumstances, publicly available details of firm policies must be informative and convey the essence of full and complete disclosure to alleviate the public's concern regarding the potential for conflicts of interest (Choices B and C).

Things to remember:
A firm's policy on personal investing must be disclosed with some level of detail, as required by CFA Institute, and cannot be written in general, nondescript language.  Although each firm should develop specific provisions, the guiding principle is that a complete disclosure of the policy must be conveyed to alleviate the public's concern regarding the potential for conflicts of interest.

Passage

Chao Li is a vice president at Tailwind Capital, a private equity (PE) firm. He is currently raising £100 million for Tailwind Fund A. Li meets with An Heng, an associate at Insular Insurance Co., a potential institutional investor. In their meeting, Li explains the general structure of PE funds to Heng:

Statement 1: The limited partners (LPs) and the general partner (GP) in a private equity fund participate in managing the fund.

Statement 2: The GP is entitled to carried interest, which is typically a percentage of the fund's profits after management fees.

Statement 3: PE funds are closed-end funds, so LPs can redeem their investments only at specified times.

Heng says, "I understand there are costs associated with investing in PE, such as significant performance fees, dilution costs whenever the PE firm starts new funds, and annual audit costs. And I know that there are some agency risks involved with investing in a PE fund. Is there a governance provision that would address GP gross negligence?"

Subsequently, Li raises the full £100 million for Fund A. One of the fund's investments is ModernWare, an online services company. The initial investment is £20 million: £13 million in debt, £2 million in preferred equity, and £5 million in the PE fund's equity. Tailwind plans to sell ModernWare 5 years from now and plans to reduce the debt balance by £10 million by the time of exit. The promised return for the preferred equity holders is 15%.

Several years after the fund's inception, Tailwind exits two investments: StoneWare and BronzeWare (Exhibit 1). Carried interest to the GP is accrued on a deal-by-deal basis and equals 20% of the profits from each exit. The hurdle rate is 10%. When a deal's IRR is above the hurdle rate, carried interest is accrued; when a deal's IRR is below the hurdle rate, a clawback penalty amount is accrued if there is a loss.

A brief infographic representing Investment exits

Twelve years after the fund's inception, Li meets with Heng again to review Fund A's performance, shown in Exhibit 2.

A graphical representation of Tailwind's Fund A's performance

Which of Li’s statements on Tailwind's fund structure is incorrect?

  1. Statement 1
  2. Statement 2
  3. Statement 3
Submit
Prev Next

Explanation:

Statement 1: The limited partners (LPs) and the general partner (GP) in a private equity fund participate in managing the fund.

Statement 2: The GP is entitled to carried interest, which is typically a percentage of the fund's profits after management fees.

Statement 3: PE funds are closed-end funds, so LPs can redeem their investments only at specified times.

Flowchart Visualization of a Private equity fund structure

PE funds are typically structured as limited partnerships in which the GP (ie, fund manager) acts as an agent on behalf of the LPs (ie, investors). The GP actively manages the fund and is responsible for all debts (ie, unlimited liability). The LPs commit capital to the GP, and their liabilities are limited to their invested amounts. Statement 1 is incorrect since LPs are not actively involved in managing the fund.

(Choice B) In exchange for managing funds, GPs charge management fees, some transaction fees, and carried interest.

(Choice C) PE funds are closed-end funds since existing investors are restricted from redeeming their shares for long periods of time. In addition, new investors can be restricted from entering the fund during certain windows.

Things to remember: A private equity fund consists of a general partner (GP) (ie, fund manager) and limited partners (ie, investors). The GP is entitled to management fees and carried interest in exchange for managing the fund. However, the GP is responsible for all the fund's debt (ie, unlimited liability), whereas the limited partners' liabilities are limited to their invested amounts.

Passage

Botan Saito is a portfolio manager for Spire Financial. Spire's investments are largely domestic, and Saito plans to diversify Spire's holdings by adding investments in international markets. Saito identifies three countries that he will research further. He collects the following economic data for each country, using average year-on-year growth rates:

A graphical representation of Exhibit 1, select Economic Data, 20x4

During his research, Saito realizes that numbers are not fully explaining the economic differences in these countries. He further researches institutional economic information, shown in Exhibit 2:

Visualization of Country related institutional factors

Country 2 is planning to implement new policies that create a more open trade policy. Saito expects that this will result in a higher permanent steady-state GDP growth rate.

Saito is interested in how economic factors will ultimately impact each country's stock market. He notes that Country 3's:

  • GDP growth is slightly above the country's steady-state GDP growth rate in 20X4;
  • earnings-to-GDP ratio was above the country's historical average in 20X4; and
  • price-to-earnings ratio of the country's publicly traded stocks was below its historical average in 20X4.

Saito is also interested in how potential GDP will affect each country's bonds. He arrives at the following conclusions:

Conclusion 1 Actual GDP growth relative to a country's potential GDP growth rate is an important factor in central bank decision-making and the likelihood of changes to the central bank's policies.

Conclusion 2 A decrease in a country's potential GDP growth rate increases the likelihood that the credit ratings on its sovereign debt will be downgraded.

Saito wishes to identify how capital deepening will affect each country's per capita output growth. Based on the neoclassical model, which of the following factors is most appropriate for Saito to consider?

  1. Capital-to-labor ratio
  2. Steady-state GDP growth
  3. Average hours worked per worker
Submit
Prev Next

Explanation:

Scatter graph Visualization of Capital deepening between developed and developing country tracing Output per worker as opposed to capital per worker

Capital deepening is an increase in a country's capital per worker (ie, capital-to-labor ratio). When workers gain more capital, they traditionally become more productive. However, the neoclassical model of economic growth states that the per capita production function, which measures capital per worker against output per worker, exhibits diminishing marginal returns. Therefore, when a country has a greater capital-to-labor ratio, it will likely see a smaller per capita output increase from capital deepening than if it had a lesser capital-to-labor ratio, all else equal.

(Choice B) Steady-state GDP growth considers several factors, including capital growth, labor growth, capital and labor as a percentage of total factor cost, and total factor productivity. Therefore, this measure would not be the most appropriate to identify how capital deepening will affect each country's growth in output per capita.

(Choice C) Average hours worked per worker affects the factor of labor, not capital, when calculating economic output. Therefore, this measure would not be the most appropriate to use when specifically identifying how capital deepening will affect each country's growth in output per capita.

Things to remember:
Capital deepening is an increase in a country's capital per worker. In the neoclassical model, the per capita production function has diminishing returns. Therefore, a country with a greater capital-to-labor ratio will likely see a smaller output increase from capital deepening than a country with a lesser capital-to-labor ratio.

Passage

Herman Schmidt is a fund manager working at Rosige Zukunft LLC (RZ), a derivatives trading firm. RZ uses the carry arbitrage model to assess the value of bond forward contracts. Exhibit 1 contains information on several German government bonds that pay coupons once per annum and have five years remaining until maturity. Schmidt directs Hedwig Meyer, an RZ analyst, to price forward contracts on Bond A, Bond B, and Bond C. The 6-month risk-free rate is 1.50% and the 1-year risk-free rate is 2.00%.

Visualization of 5-Year German government bonds

Schmidt and Meyer discuss different methods for valuing interest rate and currency swaps. Exhibit 2 contains information on at-market EUR and CHF interest rate swaps, and the CHF/EUR exchange rate.

Mapping the list of Selected data related to 3 year EUR and CHF interest rates and currency swaps

Schmidt has RZ initiate a fixed-for-fixed EUR/CHF currency swap, agreeing to pay 1.20% in CHF and receive 1.80% in EUR. RZ exchanges the swap notional with the counterparty at contract initiation, paying EUR 10 million and receiving CHF 10.5 million. Six months later, at-market 2.5-year fixed-for-fixed EUR/CHF currency swaps are quoted at 1.60% EUR for 1.40% CHF and the spot CHF/EUR exchange rate is 1.1000.

Schmidt anticipates that the equity of Dash Haber Ltd., a UK clothing retailer, will outperform versus expectations. He decides to use a 1-year, quarterly settled, equity-return-for-fixed-interest rate swap to gain long exposure to Dash Haber equity. Exhibit 3 contains information related to the swap:

A brief infographic of a Selected data related to Dash Haber equity Swaps%

All interest rates are annual compound rates and are based on a 360-day year.

Based on Exhibit 1, the no-arbitrage 6-month forward price of Bond A is most likely:

  1. less than its spot price.
  2. equal to its spot price.
  3. greater than its spot price.
Submit Prev

Explanation:

Visualization of 5-Year German government bonds

Graphical representation of the No-arbitrage forward price formula

The no-arbitrage forward price of an asset is the:

  • future value of the asset's spot price, adjusted for the
  • costs and benefits (ie, "carry" costs and benefits) of holding the asset to the forward contract expiration.

The forward price of a zero-coupon bond is just the future value of the bond's spot price since there are:

  • no explicit carry costs, due to the opportunity cost of capital being captured in the future value of the spot price, and
  • no carry benefits since a bondholder receives no periodic coupon payments.

As a result, CC0 and CB0 in the formula above both equal 0, reducing the calculation of the no-arbitrage forward price to:

Graphical representation of the Zero coupon bond forward contract price

In this scenario, the 6-month forward price of the 5-year zero-coupon bond (ie, Bond A) is calculated as:

F0 = 86.261 (1.015)0.5 = 86.906

If interest rates are positive, the no-arbitrage forward price of an asset with no holding costs or benefits is greater than the asset's spot price (Choices A and B). The spot/forward price difference reflects the opportunity cost of capital (eg, cost of financing a position in the asset) over the time to the forward contract expiration.

Things to remember:
The no-arbitrage forward price of an asset is the future value of the asset's spot price adjusted for the costs and benefits of holding the asset to the forward expiration. The forward price of an asset with no holding costs or benefits is above the asset's spot price by the opportunity cost of capital over the time to the forward expiration.

CFA Level 2 QBank

 

$ 

Use code:  

Select your exam date

Nov 2025 May 2026 Aug 2026 Nov 2026
Immediate access through Jun 30, 2025
Continue to Cart
CFA Level 2 Advanced

 

$ 

Use code:  

Select your exam date

Nov 2025 May 2026 Aug 2026 Nov 2026
Immediate access through Jun 30, 2025
Continue to Cart
CFA Level 2 Elite

 

$ 

Use code:  

Select your exam date

Nov 2025 May 2026 Aug 2026 Nov 2026
Immediate access through Jun 30, 2025
Continue to Cart
CFA Level 2 Core

 

$ 

Use code:  

Select your exam date

Nov 2025 May 2026 Aug 2026 Nov 2026
Immediate access through Jun 30, 2025
Continue to Cart

Preview the Quality for Yourself

Explore sample CFA Level 2 Exam questions with full answer explanations to see how we prepare you to pass with confidence.
Buy Now

Kickstart 2025 Strong: Take 15% Off CFA Products

Ends January 31, 2025
ResReady15
Save 15%
Still Time to Save On CFA® Prep!