What is one of the key advantages of using a constant proportion portfolio insurance strategy?

The key advantage of using a constant proportion portfolio insurance (CPPI) strategy is that it can protect against significant market downturns. This strategy is designed to dynamically allocate assets between risky and risk-free investments, based on the performance of the portfolio and a predetermined multiplier. When the value of the portfolio declines, the CPPI strategy reduces exposure to risky assets to preserve capital, effectively safeguarding the portfolio from steep losses during market downturns.

The essence of CPPI is its ability to adjust the allocation seamlessly, increasing exposure to risky assets when the market is performing well and decreasing it when there is a risk of downturns. This dynamic management helps investors maintain a floor value for their portfolio, ensuring that they do not fall below a certain threshold during unfavorable market conditions.

In contrast, other options do not accurately capture the essence of CPPI. While it does require some level of trading, that is not seen as a disadvantage; it’s a necessary component of rebalancing the portfolio to manage risk effectively. The strategy does not inherently focus on high-risk investments, as its goal is to manage risk and protect capital. Moreover, the implementation of CPPI does require capital to establish the initial investments, making the assertion that it requires no capital incorrect.