High-yield WME-FP Exam 2 review: case workflow, client constraints, portfolio fit, return/risk math, TVM and loan formulas, tax-aware decisions, plus a large terminology glossary.
WME-FP Exam 2 is case-based: translate a client profile into a plan, then choose and justify the best next step. Use this cheatsheet for last‑mile review alongside the Syllabus and Practice.
flowchart TD
A["Case"] --> B["Goals + deadlines"]
B --> C["Constraints (liquidity/tax/debt/horizon)"]
C --> D["Feasibility + risk capacity"]
D --> E["Plan action + portfolio fit"]
E --> F["Document + monitor"]
WME rewards candidates who can (1) gather the right facts, (2) convert them into constraints and goals, (3) choose a suitable strategy and portfolio, and (4) explain and document the rationale. Most misses are process misses (“skipped steps”) or constraint misses (“ignored liquidity/tax/horizon”).
flowchart TD
A["Client goals + scope"] --> B["Facts (KYC + cash flow)"]
B --> C["Risk profile (tolerance + capacity + required return)"]
C --> D["Strategy (allocation + products + tax placement)"]
D --> E["Implement (accounts + trades + paperwork)"]
E --> F["Monitor + rebalance + update KYC"]
If tolerance and capacity conflict, the safest answer is usually: prioritize capacity and constraints, adjust goals/plan, document.
| Constraint | Portfolio implication | Classic exam trap |
|---|---|---|
| Short horizon | reduce volatility + liquidity risk | “chasing yield” to meet a goal |
| Liquidity need | avoid lockups/illiquid alternatives | over-allocating to private/illiquid |
| High tax sensitivity | think after-tax return + asset location | confusing distributions with returns |
| Low risk capacity | lower drawdown tolerance | adding leverage to “catch up” |
| Concentration (employer/sector) | diversify gradually | ignoring correlated risks |
| Income need | balance yield + stability | reaching for yield (credit/duration) |
| Diversify across… | Why it helps | Limitation |
|---|---|---|
| Asset classes | different return drivers | correlations rise in stress |
| Regions | different cycles and currencies | FX risk |
| Sectors | reduces single-sector blowups | factor crowding |
| Styles/factors | balances regimes | factor timing is hard |
\[ HPR=\frac{V_1-V_0+I}{V_0} \]
What it tells you: Total return over a period = change in value plus income, relative to starting value.
Symbols (what they mean):
Common pitfalls: forgetting \(I\) and dividing by \(V_1\) instead of \(V_0\).
\[ CAGR=\left(\frac{V_n}{V_0}\right)^{1/n}-1 \]
What it tells you: The constant annual compound rate that turns \(V_0\) into \(V_n\) over \(n\) years.
Symbols (what they mean):
Common pitfalls: using a simple average return instead of compounding; mixing months/years for \(n\).
\[ E[R_p]=\sum_{i=1}^{k} w_i E[R_i] \]
What it tells you: Expected portfolio return is the weighted average of component expected returns.
Exam cue: If weights don’t sum to 1, you’re missing cash or have a rounding issue.
\[ \sigma_p^2=w_1^2\sigma_1^2+w_2^2\sigma_2^2+2w_1w_2\sigma_1\sigma_2\rho_{12} \]
What it tells you: Portfolio risk depends on individual volatilities and correlation.
Interpretation (fast):
Where correlation \(\rho_{12}\) drives diversification benefit.
\[ R_{\text{real}}\approx R_{\text{nominal}}-\pi \]
What it tells you: Approximate purchasing-power return after inflation.
Exam note: The exact relationship is \(1+r_{real}=\frac{1+r_{nom}}{1+\pi}\).
| Measure | What it means | What to remember |
|---|---|---|
| Standard deviation (\(\sigma\)) | volatility | higher \(\sigma\) → wider outcomes |
| Correlation (\(\rho\)) | co-movement | lower \(\rho\) → better diversification |
| Beta (\(\beta\)) | market sensitivity | \(\beta>1\) amplifies market moves |
| Sharpe ratio | return per unit risk | compare risk-adjusted performance |
CAPM (conceptual) \[ E[R_i]=R_f+\beta_i\left(E[R_m]-R_f\right) \]
What it tells you: A simple “required return” model—expected return rises with market exposure (beta).
Symbols (what they mean):
Exam cue: Higher \(\beta\) implies higher expected volatility and higher required return (all else equal).
\[ \frac{\Delta P}{P}\approx -D_{\text{mod}}\cdot \Delta y \]
What it tells you: Approximate percentage bond price change for a yield move.
Symbols (what they mean):
Exam cue: Longer duration → larger price change for the same \(\Delta y\).
Longer duration → more price sensitivity.
If quoted rate \(r\) compounds \(m\) times per year: \[ EAR=\left(1+\frac{r}{m}\right)^m-1 \]
What it tells you: The annualized rate that reflects compounding more than once per year.
Symbols (what they mean):
Common pitfalls: confusing EAR (effective) with nominal; mixing annual \(r\) with monthly \(m\) incorrectly.
\[ FV=PV(1+r)^n \] \[ PV=\frac{FV}{(1+r)^n} \]
What it tells you: How money grows (FV) or is discounted back (PV) under compounding at rate \(r\) for \(n\) periods.
Common pitfalls: mismatching period units (monthly vs annual), and forgetting that fees/taxes reduce the effective \(r\).
\[ FV_{\text{ann}}=PMT\cdot \frac{(1+r)^n-1}{r} \]
What it tells you: The accumulated value of regular end-of-period contributions.
Symbols (what they mean):
Common pitfall: Using this for an annuity-due case (payments at beginning) without adjusting.
\[ PV_{\text{ann}}=PMT\cdot \frac{1-(1+r)^{-n}}{r} \]
What it tells you: The present value of regular end-of-period payments (useful for retirement income gaps and loan payments).
\[ PV_{\text{perp}}=\frac{C}{r} \]
What it tells you: Present value of a level cash flow that continues forever (concept model).
Common pitfall: Using perpetuity when the cash flow is actually finite or growing/declining.
\[ PMT=\frac{r\cdot PV}{1-(1+r)^{-n}} \]
What it tells you: The fixed payment required to amortize a present value (loan) over \(n\) periods at rate \(r\).
Symbols (what they mean):
Common pitfalls: mixing annual vs monthly rates, and confusing amortization length with payment frequency.
If a return is taxed at rate \(t\): \[ R_{\text{after-tax}}=R\cdot (1-t) \]
What it tells you: A simple way to translate a pre-tax return into an after-tax return using a tax rate \(t\) (concept).
Common pitfall: Applying one \(t\) to all income types; interest, dividends, and capital gains can be taxed differently (concept).
| Asset type (typical) | Often better in… | Why |
|---|---|---|
| Interest-heavy | tax-sheltered accounts | interest is typically tax-inefficient |
| Growth / capital gains | taxable or sheltered (depends) | deferral and realization timing matter |
| Distributions | depends on investor | focus on after-tax cash flows |
When uncertain, the exam-safe answer is: compare after-tax outcomes and document the rationale.
Account rules and limits change. WME questions typically care about tax treatment and use‑case fit, not memorizing annual limits.
| Account | Contributions | Growth | Withdrawals | Typical use |
|---|---|---|---|---|
| RRSP | generally deductible | tax-deferred | taxed as income | retirement saving; tax deferral |
| TFSA | after-tax | tax-free | tax-free | flexibility; tax-free compounding |
| RESP | after-tax | tax-deferred | often taxed in student’s hands when paid out | education funding |
| RRIF | rollover from RRSP | tax-deferred | taxed as income | retirement withdrawals |
| Non-registered | after-tax | taxable | taxable | overflow investing + liquidity |
Heuristic: if two answers seem close, choose the one that (1) compares after-tax outcomes, and (2) matches time horizon + liquidity.
PV of retirement income gap (real dollars)
If you need real payment \(PMT\) each year for \(n\) years at real discount rate \(r\):
\[
PV_{\text{retire}} = PMT \cdot \frac{1-(1+r)^{-n}}{r}
\]
What it tells you: Present value of a level real withdrawal stream (an annuity) to fund a retirement income gap.
Exam cue: This is the same structure as \(PV_{\text{ann}}\)—use real rates/real payments if the question is in today’s dollars.
Savings required to reach a target (FV of annuity)
To accumulate \(FV\) with end-of-period contributions:
\[
PMT = FV \cdot \frac{r}{(1+r)^n - 1}
\]
What it tells you: The periodic savings required to reach a target future amount \(FV\) given \(r\) and \(n\).
Common pitfalls: period mismatch (monthly payments but annual \(r\)), and forgetting that contributions might start later (reducing \(n\)).
Sequence risk reminder: bad early returns hurt more during withdrawals; cash buffers, rebalancing discipline, and risk alignment matter.
Debt-to-income (conceptual heuristic) \[ DTI=\frac{\text{Total debt payments}}{\text{Gross income}} \]
What it tells you: A simple affordability stress indicator (higher DTI generally means less flexibility and lower risk capacity).
Wealth management is also about protecting the plan from “one bad event”.
Needs analysis framing (conceptual)
Required capital \(\approx\) immediate cash needs \(+\) PV of income replacement \(−\) existing resources.
Heuristic: answers that mention “coordinate with qualified tax/legal professionals, document, and update beneficiaries” often score higher than “DIY” answers.
| Bias | What it looks like | Advisor antidote |
|---|---|---|
| Loss aversion | sells winners, holds losers too long | re-anchor to plan + time horizon |
| Recency | extrapolates recent trend | show long-term data + diversification |
| Overconfidence | concentrated bets | position sizing + IPS discipline |
| Anchoring | fixates on purchase price | focus on forward-looking suitability |
| Confirmation bias | ignores disconfirming info | use checklists + second opinions |
Explanations are provided above next to each formula; this section is a quick reference.
After-tax return — Return net of taxes; the correct comparison for many investors.
Allocation — How the portfolio is divided across asset classes/regions/sectors.
Annuity — Series of equal payments over time; PV/FV formulas are common.
Annuity due — Annuity with payments at the beginning of each period (vs ordinary at end).
Amortization — Loan repayment process where payments cover interest then principal over time.
Asset location — Placing assets in taxable vs sheltered accounts based on tax efficiency.
Asset mix — Another term for strategic asset allocation.
Asset allocation — Choosing weights across asset classes to match goals and risk constraints.
Balanced portfolio — Mix of growth and defensive assets intended to smooth outcomes.
Behavioral bias — Systematic decision error (overconfidence, loss aversion, recency).
Beneficiary — Person/entity designated to receive assets from certain accounts/policies on death.
Beta (\(\beta\)) — Sensitivity of a security/portfolio to the market; systematic risk proxy.
Bond ladder — Holding bonds with staggered maturities to manage reinvestment and liquidity.
Capital preservation — Objective emphasizing minimizing loss probability.
Capital gains — Increase in asset value; tax treatment differs from interest (jurisdiction-dependent).
CAGR — Compound annual growth rate; smooth annualized return measure.
Cash flow — Inflows/outflows over time; the foundation of planning feasibility.
Cash reserve / buffer — Liquid funds held to reduce forced selling and manage sequence risk.
Constraint — Limitation shaping recommendations (liquidity, horizon, tax, legal).
Core-satellite — Portfolio structure using a diversified core plus smaller thematic “satellite” positions.
Correlation (\(\rho\)) — Degree to which returns move together; lower is better for diversification.
Credit risk — Risk of issuer default/downgrade; affects bond pricing and spreads.
Decumulation — Withdrawal phase in retirement; sequencing and inflation become central.
Dollar-cost averaging — Investing fixed amounts periodically; reduces timing risk (doesn’t remove market risk).
Diversification — Reducing unsystematic risk by spreading exposures.
Drawdown — Peak-to-trough decline; often what clients feel most acutely.
Duration — Interest-rate sensitivity measure; higher duration means larger price moves for a given yield change.
Emergency fund — Liquid reserve for unexpected expenses; protects long-term plan from shocks.
Effective annual rate (EAR) — True annualized rate after compounding frequency is applied.
Efficient frontier — Set of portfolios with maximum expected return for a given risk level (concept).
Expected return — Probability-weighted average return; used in allocation thinking.
Expense ratio / MER — Ongoing fund costs; reduces net return.
Fee drag — Reduction in return due to fees; matters in long-horizon plans.
Fee-based account — Account where compensation is fee-based rather than transaction commissions (structure varies).
Financial statement (personal) — Net worth statement and cash flow statement used for planning.
Financial plan — Coordinated plan covering goals, cash flows, risk management, and investing.
First Home Savings Account (FHSA) — Tax-advantaged account for home ownership goals (rules vary; confirm current policy).
Geometric return — Compounded return measure; lower than arithmetic when volatility exists.
Goal-based planning — Designing strategy around explicit goals and timelines.
Holding period return (HPR) — Return over a period including income; baseline measurement.
Human capital — Present value of future earning ability; key input to risk capacity.
Income need — Requirement for periodic cash flow from the portfolio.
Inflation (\(\pi\)) — Erodes purchasing power; motivates real-return thinking.
Inflation risk — Risk that purchasing power declines faster than portfolio grows.
IPS (Investment Policy Statement) — Document defining objectives, constraints, allocation, and monitoring rules.
Liquidity — Ability to access cash quickly without large penalties/price impact.
Longevity risk — Risk of outliving assets.
Marginal tax rate — Tax rate on the next dollar of income; used for after-tax comparisons.
Market risk — Risk of broad market movements; cannot be diversified away fully.
Monte Carlo — Simulation approach for goal probability (conceptual, not always computed).
Net worth statement — Assets minus liabilities; planning baseline.
NPV (Net present value) — Present value of cash flows discounted at rate \(r\); used for “which option is better?” comparisons.
Nominal return — Return not adjusted for inflation.
Ordinary annuity — Payments at the end of each period.
Perpetuity — Payment stream with no end date; \(PV=C/r\) model (concept).
Probate — Legal process of validating a will and administering an estate (jurisdiction-dependent).
Probability of goal — Likelihood a plan funds the goal (often discussed conceptually).
Registered plan — Tax-advantaged account wrapper (e.g., RRSP/TFSA/RESP).
RRIF — Retirement income fund used for withdrawals after RRSP accumulation (tax rules vary).
RRSP — Retirement savings plan with tax deferral features (tax rules vary).
RESP — Education savings plan with tax advantages (rules vary).
TFSA — Tax-free savings account; tax-free growth and withdrawals (rules vary).
Rebalancing — Restoring target weights after drift; risk-control mechanism.
Rebalancing band — Threshold around target weights that triggers a rebalance.
Real return — Return adjusted for inflation; approximate \(R_{\text{real}}\approx R_{\text{nominal}}-\pi\).
Required return — Return needed to meet the goal; can imply goal/plan adjustments.
Risk budgeting — Allocating a limited “risk budget” across goals/portfolios.
Risk capacity — Financial ability to absorb losses; often the binding constraint.
Risk tolerance — Emotional willingness to accept volatility and loss.
Sequence-of-returns risk — Risk that poor early returns harm outcomes, especially during withdrawals.
Sharpe ratio — Excess return per unit of risk; risk-adjusted performance metric.
Tax-loss harvesting — Realizing losses to offset gains (jurisdiction-dependent; rules apply).
Strategic allocation — Long-term target mix; the main driver of risk/return.
Suitability — Fit of recommendations to client objectives/constraints, supported by documentation.
Time horizon — Time until funds are needed; key determinant of risk budget.
Trust — Legal arrangement to hold/manage assets for beneficiaries under specified terms.
Withdrawal rate — Rate at which assets are withdrawn over time; sustainability depends on returns/inflation.
Will — Legal document expressing distribution intent and executor appointment (jurisdiction-dependent).
Volatility — Variation of returns (often measured by \(\sigma\)); drives dispersion of outcomes.
WME answers score higher when they explicitly reference constraints, compare after-tax outcomes, and include documentation/monitoring.