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In the Black-Scholes formula c = S N(d1) - K e^{-rT} N(d2), the term N(d2) can be interpreted as the:
A
B
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D
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2026 Statistics
Key Facts: IFoA CM2 Exam
70:30
Paper A to B Weighting
IFoA CM2 guide
3h 20m
Paper A Time
IFoA curriculum
1h 50m
Paper B Time
IFoA curriculum
200 hrs
Recommended Study
IFoA curriculum
5
Core Syllabus Areas
IFoA CM2 syllabus
Core Principles
Exam Stage
IFoA qualification
CM2 is a Core Principles actuarial subject assessed by two computer-based elements sat together: Paper A is a Word-based theory exam carrying 70% and Paper B is an Excel-based applied exam carrying 30%. Marks are aggregated with the Chief Examiner setting the pass mark each session at roughly the 50% level. The current IFoA syllabus weights theories of financial market behaviour and measures of investment risk at about 15% each, asset and stochastic pricing at around 30%, option theory at 20%, and liability valuations including ruin theory and run-off triangles at 20%. The IFoA recommends about 200 study hours, and CM2 may be sat remotely.
Sample IFoA CM2 Practice Questions
Try these sample questions to test your IFoA CM2 exam readiness. Each question includes a detailed explanation. Start the interactive quiz above for the full 100+ question experience with AI tutoring.
1An investor's utility function is U(w) = ln(w). What does this functional form imply about the investor's attitude to risk?
A.Risk-averse with decreasing absolute risk aversion
B.Risk-seeking, because U is increasing
C.Risk-neutral, because the function is monotonic
D.Risk-averse with increasing absolute risk aversion
Explanation: For U(w)=ln(w), U'(w)=1/w>0 (non-satiation) and U''(w)=-1/w^2<0 (risk aversion). The coefficient of absolute risk aversion A(w)=-U''/U'=1/w decreases as wealth rises, so the investor exhibits decreasing absolute risk aversion (DARA).
2An investor prefers more to less and is risk-averse. Which form of stochastic dominance is the WEAKEST condition guaranteeing that all such investors prefer investment X to investment Y?
A.First-order stochastic dominance
B.Second-order stochastic dominance
C.Third-order stochastic dominance
D.Mean-variance dominance
Explanation: Second-order stochastic dominance (SSD) applies to all investors who are non-satiated AND risk-averse (concave utility). It is a weaker condition than first-order dominance, which only requires non-satiation, so SSD is the relevant criterion when risk aversion is assumed.
3Under expected utility theory, the certainty equivalent of a risky gamble for a risk-averse investor is:
A.Equal to the expected monetary value of the gamble
B.Greater than the expected monetary value of the gamble
C.Less than the expected monetary value of the gamble
D.Independent of the investor's utility function
Explanation: The certainty equivalent is the certain amount giving the same utility as the gamble. For a risk-averse (concave utility) investor, this is strictly less than the expected monetary value; the difference is the risk premium the investor would pay to avoid the risk.
4A quadratic utility function U(w) = w - bw^2 (b>0) is sometimes criticised as a model of investor behaviour because it implies:
A.Decreasing absolute risk aversion
B.Constant relative risk aversion
C.Risk-neutral behaviour at all wealth levels
D.Increasing absolute risk aversion and eventual satiation
Explanation: For quadratic utility, A(w)=2b/(1-2bw) increases with wealth (increasing absolute risk aversion), which is unrealistic. It also implies U'(w)=1-2bw becomes negative for w>1/(2b), so utility decreases beyond a satiation point.
5The St. Petersburg paradox is most directly resolved by recognising that investors maximise:
A.Expected utility of wealth
B.Expected monetary value
C.The probability of a gain
D.Median wealth
Explanation: The St. Petersburg gamble has infinite expected monetary value yet people will pay only a small amount to play it. Bernoulli resolved this by proposing that investors maximise expected utility (e.g. log utility), which is finite, rather than expected money.
6In behavioural finance, the tendency of investors to hold on to losing investments too long and sell winners too soon is known as:
A.Anchoring
B.The disposition effect
C.Framing
D.Overconfidence
Explanation: The disposition effect describes the reluctance to realise losses and the eagerness to realise gains, consistent with prospect theory's risk-seeking in the loss domain and risk aversion in the gain domain.
7According to prospect theory, the value function is:
A.Concave everywhere and symmetric about the reference point
B.Defined over absolute wealth levels, not changes
C.Concave for gains, convex for losses, and steeper for losses than gains
D.Linear, reflecting risk neutrality
Explanation: Kahneman and Tversky's value function is defined over gains and losses relative to a reference point. It is concave for gains (risk aversion), convex for losses (risk seeking), and steeper for losses, capturing loss aversion.
8Which statement best describes the semi-strong form of the Efficient Markets Hypothesis (EMH)?
A.Prices reflect only past price and volume information
B.Prices reflect all information, public and private
C.Prices systematically misprice securities exploitable by chartists
D.Prices reflect all publicly available information
Explanation: Semi-strong form efficiency states that security prices fully and instantaneously reflect all publicly available information, so fundamental analysis of public data cannot consistently generate abnormal returns.
9Empirical evidence that share prices show a tendency to overreact to news and then partially reverse is most often cited as evidence:
A.Against the EMH, as a market anomaly
B.Supporting strong-form efficiency
C.That markets are weak-form efficient
D.That arbitrage is always riskless
Explanation: Overreaction followed by reversal is a documented anomaly that appears inconsistent with the EMH, since past information (the overreaction) would predict future returns. Such anomalies are central to the empirical debate over market efficiency.
10A practical difficulty in empirically testing the EMH is the joint hypothesis problem, which arises because:
A.Market data is never available
B.Tests of efficiency require an assumed asset-pricing model, so a rejection may reflect the wrong model
C.Transaction costs are always zero
D.Efficiency can only be tested in the strong form
Explanation: Any test of abnormal returns requires a model of expected (normal) returns. A test therefore jointly examines efficiency AND the pricing model, so a rejection could mean either the market is inefficient or the assumed model is misspecified.
About the IFoA CM2 Practice Questions
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