Are You Ready for the CIPM Level 1 Exam 2026? Free Practice Questions Set

Are You Ready for the CIPM Level 1 Exam 2026? Free Practice Questions Set

The CIPM Level 1 examination is widely regarded as a demanding test of both conceptual understanding and quantitative precision. While many candidates enter preparation with a strong foundation in investment management, the CIPM curriculum requires a level of specificity — particularly around performance appraisal measures — that goes well beyond general familiarity. The ten questions below are drawn directly from the core content of the official CIPM curriculum, with a deliberate emphasis on the areas that most frequently distinguish high scorers from those who fall short. Are You Ready for the CIPM Level 1 Exam 2026, Free Practice Questions

Practice Questions Are You Ready for the CIPM Level 1 Exam 2026, Free Practice Questions

Question 1 

An analyst is evaluating two portfolio managers, Manager A and Manager B, both of whom have negative Sharpe ratios during the evaluation period. Manager A has a Sharpe ratio of −0.15 with an annual standard deviation of 12%, while Manager B has a Sharpe ratio of −0.28 with an annual standard deviation of 18%. Which of the following statements is most accurate regarding the comparison of their Sharpe ratios?

A. Manager A is unambiguously superior because her Sharpe ratio is closer to zero.

B. Manager B may be considered superior because higher volatility could accelerate recovery of losses, making comparisons of negative Sharpe ratios ambiguous.

C. The Sharpe ratio is inappropriate for comparing any two funds with negative excess returns, and no conclusion can be drawn.

D. Manager A is unambiguously superior because negative Sharpe ratios are always ranked from highest (least negative) to lowest.

Question 2 

A pension fund analyst is assessing a hedge fund manager whose strategy involves writing covered calls — a negatively skewed return distribution that produces frequent small gains but occasional large losses. The analyst calculates both the Sharpe ratio and the Sortino ratio using a minimum acceptable return (MAR) of 3%. Which of the following best explains why the Sortino ratio is more appropriate in this context?

A. The Sortino ratio uses beta rather than standard deviation, making it more suitable for non-linear return profiles.

B. The Sortino ratio penalizes only downside deviations below the MAR, which more accurately reflects the risk profile of negatively skewed strategies than a measure treating upside and downside volatility symmetrically.

C. The Sortino ratio is always preferred over the Sharpe ratio for any portfolio whose manager charges performance fees.

D. The Sortino ratio incorporates the benchmark return in its numerator, making it better aligned with relative performance objectives.

Question 3 

Which of the following represents the most significant limitation of Jensen's alpha when applied to a fund manager who dynamically adjusts portfolio beta in response to changing market forecasts?

A. Jensen's alpha relies on the Treynor ratio, which is not applicable to time-varying beta strategies.

B. The market model regression used to estimate Jensen's alpha assumes a constant beta over the evaluation period; a manager who times the market violates this assumption, potentially biasing the alpha estimate.

C. Jensen's alpha cannot be negative for a market-timing manager because any active strategy generates a return premium above the risk-free rate.

D. Jensen's alpha is only valid for portfolios that replicate the composition of the S&P 500.

Question 4 

An analyst pools two years of quarterly returns from a fund that followed a low-risk strategy in Year 1 and a high-risk strategy in Year 2. She calculates a single Sharpe ratio across all eight quarters. Which of the following best describes the primary methodological flaw in this approach?

A. The analyst should use annual rather than quarterly returns because the Sharpe ratio requires annualisation before pooling.

B. Pooling returns from two distinct investment regimes violates the assumption that sampled returns are drawn from the same population, making the resulting Sharpe ratio potentially misleading.

C. The Sharpe ratio cannot be calculated using quarterly data under any circumstances, as it is defined only for monthly or annual return windows.

D. Pooling returns from two years is always superior to single-year estimates because larger samples reduce estimation error.

Question 5 

The M² (Modigliani-Modigliani) measure is described as a rescaling of the Sharpe ratio. Which of the following most precisely explains the conceptual advantage M² offers over the Sharpe ratio when comparing multiple portfolio managers?

A. M² adjusts for systematic risk rather than total risk, making it more appropriate than the Sharpe ratio for diversified portfolios.

B. M² produces a portfolio ranking that differs from the Sharpe ratio ranking, thereby offering a distinct assessment of manager skill.

C. M² is denominated in units of percentage return, enabling investors to interpret the magnitude of risk-adjusted outperformance or underperformance relative to the benchmark in familiar terms.

D. M² penalises only downside risk, making it more accurate than the Sharpe ratio for non-normally distributed returns.

Question 6 

A small-cap value fund manager selects the S&P 500 as her benchmark and estimates Jensen's alpha using a CAPM-based market model regression. An informed peer suggests her alpha estimate is likely biased. Which direction would the bias most plausibly take, and why?

A. Downward bias, because small-cap stocks have historically underperformed large-cap stocks, making the CAPM a conservative return standard.

B. Upward bias, because small-cap and value stocks have historically generated returns in excess of those predicted by the CAPM using a large-cap benchmark, and this premium would be incorrectly attributed to manager skill.

C. No bias, because the CAPM is a universal pricing model and applies equally to all equity strategies regardless of market capitalisation.

D. Downward bias, because value stocks tend to carry lower beta than growth stocks, making the CAPM overestimate the required return.

Question 7 

The Appraisal Ratio (AR) is described as the "Sharpe ratio of abnormal returns." Which of the following most accurately distinguishes it from the Information Ratio (IR)?

A. The Appraisal Ratio uses benchmark-relative excess return in its numerator, while the Information Ratio uses Jensen's alpha; both use tracking risk in the denominator.

B. The Appraisal Ratio uses Jensen's alpha in the numerator and non-systematic (residual) risk in the denominator, derived from a factor regression; the Information Ratio uses mean active return relative to the benchmark divided by tracking risk.

C. The Appraisal Ratio and Information Ratio are mathematically identical and will always rank portfolios in the same order.

D. The Information Ratio uses Jensen's alpha and residual risk, while the Appraisal Ratio uses active return and tracking risk — the reverse of the conventional definitions.

Question 8

Portfolio Alpha generated a mean annual return of 14% with an annual standard deviation of 20%. The benchmark returned 10% annually with a standard deviation of 16%. The annual risk-free rate is 4%. Calculate the M² alpha.

A. −2.00%

B. 4.00%

C. 8.00%

D. 2.00%

Question 9

A portfolio delivered an average annualised return of 12% with an annualised standard deviation of 15%. The market index returned 9% per year with a standard deviation of 10%. The portfolio's estimated beta is 1.20 and the risk-free rate is 3% per year. Calculate the Appraisal Ratio.

A. 0.1200

B. 0.1800

C. −0.2000

D. 0.2000

Question 10

A portfolio has a Treynor ratio of 0.10 and a Sharpe ratio of 0.50. The portfolio's beta is 1.20, its annual standard deviation is 24%, and the risk-free rate is 2%. Using each ratio independently, derive the implied mean portfolio return and determine whether the two measures are consistent.

A. The Treynor ratio implies a mean return of 12.0% and the Sharpe ratio implies a mean return of 12.0%; both measures are consistent at 12.0%.

B. The Treynor ratio implies a mean return of 14.0% and the Sharpe ratio implies a mean return of 14.0%; both measures are consistent at 14.0%.

C. The Treynor ratio implies a mean return of 12.0% and the Sharpe ratio implies a mean return of 14.0%; the measures are inconsistent.

D. The Treynor ratio implies a mean return of 14.0% and the Sharpe ratio implies a mean return of 12.0%; the measures are inconsistent.

Answer Key and Explanations

Question 1 — Correct Answer: B

The comparison of negative Sharpe ratios is genuinely ambiguous, as the curriculum explicitly acknowledges. While it is intuitively logical to prefer the ratio closer to zero when volatilities are equal (suggesting Manager A is better), the curriculum notes that a counterargument exists: higher volatility when returns are negative may actually benefit an investor by enabling faster recovery of losses. This makes direct comparisons unreliable.

Option A partially captures the standard logic but overstates certainty.

Option C is too absolute — limited inferences can sometimes be drawn — and Option D incorrectly treats the ranking as unambiguous.

Question 2 — Correct Answer: B

The Sortino ratio's defining feature is its use of target semi-standard deviation — a measure of downside risk that captures only returns falling below the MAR. For a negatively skewed strategy such as covered call writing, where the critical risk is a large infrequent loss rather than symmetric volatility, the Sortino ratio provides a more faithful representation of the true risk borne by investors. The Sharpe ratio's symmetric treatment of upside and downside volatility would understate this risk, potentially inflating the manager's apparent performance. Options A and D contain factual errors; Option C is unsupported by the curriculum.

Question 3 — Correct Answer: B

The market model regression underlying Jensen's alpha estimation assumes that the portfolio's beta is constant throughout the evaluation period. A market-timing manager who shifts between equities and cash — or otherwise modulates systematic risk exposure — continuously changes the portfolio's beta. This violates the model's core assumption and introduces bias into both the alpha and beta estimates. The curriculum specifically flags market timing as the primary context in which Jensen's alpha is least appropriate, making B the most defensible answer.

Question 4 — Correct Answer: B

The curriculum illustrates precisely this scenario. When a manager shifts strategy between years — producing returns from two distinct underlying distributions — pooling those observations creates a sample that is not representative of any single population. The resulting Sharpe ratio for the combined period can diverge substantially from, and even contradict, the separate annual estimates. In the textbook example, the pooled Sharpe ratio showed the manager underperforming the benchmark, while each individual year showed outperformance. The statistical integrity of the calculation requires that all observations be drawn from the same distribution.

Question 5 — Correct Answer: C

M² and the Sharpe ratio rank portfolios identically because M² is a linear transformation of the Sharpe ratio — multiplying by the benchmark's standard deviation and adding the risk-free rate. Consequently, Option B is incorrect. The critical advantage of M² lies in its units: expressed as a percentage return, the M² alpha (the difference between M² and the benchmark's return) tells an investor exactly how much additional return was generated per unit of total risk, calibrated to the benchmark's own risk level. This is far more intuitive than a dimensionless ratio.

Question 6 — Correct Answer: B

Fama and French (1992, 1993) documented that small-cap stocks and value stocks have historically outperformed predictions made by the CAPM over long periods. When a manager running a small-cap value strategy uses the S&P 500 (a large-cap blend index) as her benchmark and applies a CAPM-based regression, the historical risk premiums associated with size and value factors are not captured by the model. These premiums will be absorbed into the alpha estimate, making it appear that the manager is generating excess returns through skill when, in reality, the outperformance may reflect systematic factor exposures.

Question 7 — Correct Answer: B

The Appraisal Ratio, introduced by Treynor and Black (1973), uses Jensen's alpha — the return not explained by systematic risk — in the numerator, and the standard deviation of the portfolio's residual (non-systematic) risk in the denominator. It measures whether active management decisions are rewarded relative to the unsystematic risk they introduce. The Information Ratio, by contrast, uses mean active return (portfolio return minus benchmark return) in the numerator and tracking risk (the standard deviation of active returns) in the denominator. Both assess active management efficiency but through conceptually different lenses and different risk decompositions.

Question 8 — Correct Answer: D

Step 1 — Compute the Sharpe ratio: SR = (14% − 4%) / 20% = 10% / 20% = 0.50

Step 2 — Compute M²: M² = SR × σ_Benchmark + r_F = 0.50 × 16% + 4% = 8% + 4% = 12.0%

Step 3 — Compute M² alpha: M² alpha = M² − Benchmark return = 12.0% − 10.0% = 2.00%

Option A results from omitting the risk-free rate when computing M², then subtracting the benchmark return from SR × σ_B alone. Option B results from using the portfolio's own standard deviation instead of the benchmark's standard deviation in the M² formula. Option C results from computing M² correctly but then subtracting the risk-free rate instead of the benchmark return to derive the alpha figure.

Question 9 — Correct Answer: D

Step 1 — Compute Jensen's alpha: α = 12% − [3% + 1.20 × (9% − 3%)] = 12% − [3% + 7.2%] = 12% − 10.2% = 1.8% = 0.018

Step 2 — Compute non-systematic variance: σ²_ε = σ²_p − β² × σ²_m = (0.15)² − (1.20)² × (0.10)² = 0.0225 − 1.44 × 0.01 = 0.0225 − 0.0144 = 0.0081

Step 3 — Compute the Appraisal Ratio: AR = α / σ_ε = 0.018 / √0.0081 = 0.018 / 0.09 = 0.2000

The three incorrect options correspond to common calculation errors: Option A results from dividing alpha by total portfolio standard deviation (0.15) instead of residual risk; Option B results from using the market's standard deviation (0.10) in the denominator; and Option C results from an alpha sign error where the candidate subtracts the risk-free rate incorrectly, producing a negative result.

Question 10 — Correct Answer: B

From the Treynor ratio: TR = (r_p − r_F) / β → r_p = TR × β + r_F = 0.10 × 1.20 + 2% = 12% + 2% = 14.0%

From the Sharpe ratio: SR = (r_p − r_F) / σ → r_p = SR × σ + r_F = 0.50 × 24% + 2% = 12% + 2% = 14.0%

Both measures imply a mean return of exactly 14.0%, confirming they are perfectly consistent with one another. Option A results from omitting the risk-free rate in both calculations, arriving at TR × β = 12% and SR × σ = 12% — plausible but incorrect. Option C results from omitting the risk-free rate only in the Treynor calculation. Option D results from omitting the risk-free rate only in the Sharpe calculation.