CFA Level 1 Study Notes – Alternative Investments
Study Session 17 Reading 47 (2022) – Introduction to Alternative Investments -LOS 47a: describe types and categories of alternative investments; -LOS 47b: describe characteristics of direct investment, co-investment, and fund investment methods for alternative investments; -LOS 47c: describe investment and…
Alternative Investments vs. Traditional Investments
Traditional Investments Every possible investment choice is either an alternative or a traditional investment. Traditional investments are: long-only, publicly traded investments in stocks; long investments in publicly traded bonds; or cash. Traditional is not a synonym for “common,” and neither…
Categories of Alternative Investments
With no true consensus as to any “official” categories of alternative investments, it’s still useful to present a list to aid in your understanding. Hedge Funds are private equity funds that hold a variety of traditional and alternative assets, long-and-short…
Potential Benefits of Alternative Investments
Diversification is a well-known strategy used to improve returns and lower risk. Alternative investments manifest different characteristics and returns compared to traditional investments. Illiquidity in the underlying investments is common. A low correlation of returns with traditional investments offers opportunities…
Description of Alternative Investments
Hedge Funds Hedge funds employ strategies to offer their investors absolute returns (net of fees and taxes). These private funds are actively managed (often by “star investors”) and employ aggressive strategies across asset classes. Many will use derivatives, high leverage,…
Hedge Fund Fees
Management and Incentive Fees Hedge fund fees are usually two-fold: management fees and incentive fees. For example, a “2 and 20” fee structure bills a client 2% of funds under management as an annual fee and takes 20% of the…
Valuating and Calculating Returns on Alternative Investments
Hedge Funds Valuating and calculating returns for hedge funds include issues such as the difference between fund performance and investor performance (net-of-fees, redemption issues). The use of high leverage in hedge funds can amplify gains and losses. Investors must, therefore,…
Risk Management and Due Diligence for Alternative Investments
Due diligence for hedge fund selection includes looking at the track record (if any), investment strategies, redemption rules, and many other qualitative and quantitative factors. Private equity funds require investors to look at the track record. The investment horizon is…
The Role of Arbitrage
In well-functioning markets with low transaction costs and a free flow of information, the same asset cannot sell for more than one price. If the same asset trade at a higher price in one place and a lower price in…
Call & Put Option Profits and Payoffs
Call and put options have basic formulas for determining the value, profit, and break-even point at expiration, dependent on whether the investor has bought or sold the option. Using these basic characteristics, more complex option strategies can be evaluated. Standard…
