Alternatives investments 15

Alternative investments that rely on estimates rather than observable market prices for valuation purposes are most likely to report: returns that are understated. volatility of returns that is understated. correlations of returns with the returns of traditional assets that are overstated.

B is correct. The use of estimates tends to smooth the return series. As a consequence, the volatility of returns will be understated. A is incorrect because there is a tendency for returns to be overestimated or at least smoothed. C is incorrect because correlations of returns with the returns of traditional assets tend to be understated as a consequence of smoothing the return series.

Commodity futures prices are most likely in backwardation when: interest rates are high. storage costs are high. the convenience yield is high.

C is correct. In backwardation, futures prices are lower than spot prices, that is, the commodity forward curve is downward sloping. This scenario occurs when the convenience yield is high. Futures price ≈ Spot price (1 + r) + Storage costs − Convenience yield. A is incorrect because futures price ≈ Spot price (1 + r) + Storage costs − Convenience yield. Thus, high interest rates contribute to an upward sloping commodity forward curve. B is incorrect because futures price ≈ Spot price (1 + r) + Storage costs − Convenience yield. Thus, high storage costs contribute to an upward sloping commodity forward curve.

A measure that is most likely well suited to analyzing the performance of alternative investments that may exhibit negative skewness in returns is the: Sortino ratio. Sharpe ratio. safety-first measure.

A is correct. The Sharpe ratio and the safety-first measure use standard deviation as the measure of risk, which ignores the negative skewness in returns. The Sortino ratio uses the downside deviation as the measure of risk, which will reflect negative skewness if present.

Which of the following would not be considered an equity hedge strategy? A. market neutral B. distressed securities C. quantitative directional

Answer: B Distressed security strategies revolve around the debt and equity financing of companies facing difficulties and is an event-driven strategy.

Joel Kelly, CFA, is the portfolio manager for the SureWall Direct Property Fund and is currently reviewing several properties owned by the fund. The largest property in the fund is a three-story security facility near Lisbon, Portugal, which is leased by a large technology company to house data servers and records. The property is unique in that most other technology companies in Europe own their server centers. Which of the following valuation approaches would be least appropriate for Kelly to use in valuing this property? A. Replacement cost B. Comparable sales C. Discounted cash flow

Answer: B The property is unique in that it is set up for a particular purpose and there is not likely to be too many property transactions in the region of such a property. As such, the comparable sales approach would be inappropriate.

nitial investment capital $100 million Return at the end of one year 12% Management fee based on assets under management 1% Incentive fee based on the return net of the management fee 10% Q. Assume management fees are calculated using end-of-period valuation. The investor's net return given this fee structure is closest to: 10.88%. 9.79%. 9.68%.

B is correct. Management fee: 1% of $112 million = $1.12 million Incentive fee: 10% of ($12 million − $ 1.12 million) = $1.088 million Fund value after fees: $112 million − $1.12 million − $1.088 million = $109.792 million Investor return: ($109.792 million/$100 million) - 1 = 9.79%.

A least likely reason for investors to include commodity derivatives in their investment portfolios is: commodity-related stocks' positive correlation with the overall equity market. it eliminates the need to understand the physical supply chain and general supply-demand dynamics of a commodity. the tendency for commodity prices to be positively correlated with inflation.

B is correct. Because the prices of commodity derivatives are, to a significant extent, a function of the underlying commodity prices, it is important to understand the physical supply chain and general supply-demand dynamics of a commodity. A is incorrect because commodity-related stocks tend to exhibit a high degree of correlation with the overall equity market. High correlation means low diversification benefits, which reduces the appeal of including this type of investment in a portfolio so investors may be drawn to commodity derivatives that have a lower correlation with the overall equity market. C is incorrect because commodity prices tend to be positively correlated with inflation.

Illiquidity is most likely a major concern when investing in: real estate investment trusts. private equity. commodities.

B is correct. Once a commitment in a private equity fund has been made, the investor has very limited liquidity options. A is incorrect because real estate investment trusts are publicly listed, so liquidity is not a major concern. C is incorrect because the majority of commodity investments are implemented through derivatives, so liquidity is not a major concern.

A real estate investor looking for equity exposure in the public market is most likely to invest in: real estate limited partnerships. shares of real estate investment trusts. collateralized mortgage obligations.

B is correct. Shares in real estate investment trusts are publicly traded and represent an equity investment in real estate. A is incorrect because real estate limited partnerships are an example of a private real estate investment. C is incorrect because a collateralized mortgage obligation is an example of debt-based exposure to real estate.

An investor who wants to hedge against inflation by allocating a portion of a portfolio to alternative investments should most appropriately invest in: A) real estate and commodities. B) private equity and real estate. C) commodities and private equity.

eal estate and commodities offer potential hedges against inflation because rents, property values, and commodity prices tend to increase with inflation in the long term

Capital provided for companies moving toward operation but before commercial manufacturing and sales have occurred best describes which stage in venture capital investing? Later stage Seed stage Early stage

C is correct. Early-stage financing is capital provided for companies moving toward operation but before commercial manufacturing and sales have occurred. A is incorrect because later-stage financing is provided after commercial manufacturing and sales have begun but before any initial public offering. B is incorrect because seed-stage financing is capital provided for a business idea.

To exit an investment in a portfolio company through a trade sale, a private equity firm sells: A) shares of a portfolio company to the public. B) the portfolio company to another private equity firm. C) the portfolio company to one of the portfolio company's competitors.

Explanation A trade sale involves selling a portfolio company to a competitor or another strategic buyer. An IPO involves selling all or some shares of a portfolio company to the public. A secondary sale involves selling a portfolio company to another private equity firm or a group of investors.

The mezzanine financing portion of a leveraged buyout (LBO) is most likely to: A) represent committed capital. B) be convertible to equity or include warrants. C) have seniority over other bonds issued to finance the LBO.

In the context of an LBO, mezzanine financing refers to debt that carries warrants or equity conversion features. This debt is typically subordinated to other bonds that are issued to finance the LBO. Committed capital is the investment of limited partners in a private equity fund and does not include debt that the fund issues to finance a particular LBO.

Chip Jergen, CFA, is an asset manager who wishes to allocate a percentage of his portfolio to alternative investments. Jergen invests in a security that represents a proportional claim to cash flows from a pool of loans. In which category of alternative investments has Jergen most likely invested? A) Real estate. B) Commodities. C) Private equity.

One of the ways to invest in real estate is by purchasing residential or commercial mortgage-backed securities.

Over time, compared to traditional stock and bond investments, the commodities asset class has exhibited: A) lower returns and lower price volatility. B) lower returns and higher price volatility. C) higher returns and lower price volatility.

Returns on commodities over time have been lower than returns on global stocks or bonds, and price volatility has been higher.

The roll yield in positive in A. Contango B. Backwardation C. None of the above

Roll yield is positive in backwardation when the futures or forward price is lower than the spot price. So while rolling the contract, the trader/hedger gains in rolling the contract as he sells at a higher price and buys back at a lower price.

Josh Lacy, CFA, is analyzing a portfolio company held by his private equity firm to estimate its value in liquidation. Lacy should most appropriately use: A) an asset-based approach. B) a comparables-based approach. C) a discounted cash flow-based approach.

The asset-based approach uses either the liquidation values or fair market values of assets. The discounted cash flow approach involves calculating the present value of expected future cash flows. The comparables-based approach uses market or private transaction values of similar companies to estimate multiples of EBITDA, net income, or revenue.