Question #1 of 100

An analyst gathers the closing prices of a security from a widely read publication. The analyst uses the
data as part of a report she is preparing and fails to report the data source in the report. With respect
to the CFA Institute Standards, this is:

A. a violation.
B. not a violation if the data can be gathered from several public sources.
C. not a violation if the data cannot be gathered from several public sources.
D. not a violation if the analyst has a subscription to the publication.

Question #2 of 100
Regarding nonpublic information, which one of the following statements is FALSE?

A. Disclosing material nonpublic information would have an impact on the price of a security or
be of interest to a reasonable investor.
B. An analyst may use some types of nonpublic information.
C. Information that has only been disseminated to a few select individuals is still nonpublic.
D. It is a violation to receive material nonpublic information.

Question #3 of 100
Which of the following is a violation of the CFA Institute Standards with respect to market
manipulation?

A. Overstating an earnings projection in order to increase the price of a stock.

B. Implementing a trading strategy to exploit differences in market power and information.
C. Selling a security and immediately purchasing a similar security in order to minimize income
tax liability.
D. Engaging in a block trade to limit the effect on the price of a thinly traded security.

Question #4 of 100
Kevin Rosenberg is an equity analyst who covers Northwest Implements, a farm implement
manufacturer. Northwest's main factory is located in a sparsely inhabited region six hours by
automobile from the nearest airport. Northwest has its own corporate jet, and a landing strip is
located near the facility. When Rosenberg contacts Northwest's management to gather information
for a report he is preparing on the company, Northwest's chief financial officer, Thomas Blake, invites
Rosenberg to meet with management and visit Northwest's headquarters. Blake offers to send
Northwest's corporate jet to pick up Rosenberg from an airport near Rosenberg's home and to return
him home the same evening. Rosenberg estimates that it would require three days for him to make
the visit using commercial travel. If Rosenberg accepts Blake's offer and makes the trip to Northwest's
headquarters on the corporate jet, Rosenberg has:

A. not violated the CFA Institute Standards.

B. violated the CFA Institute Standards if he proceeds to write the report.
C. violated the CFA Institute Standards unless he reimburses Northwest for the cost of the trip.
D. violated the CFA Institute Standards unless he discloses the trip and the payment of his travel
expenses in his report on Northwest.

Exam 2 Section 1 1
Question #5 of 100
Alan Cramer practices in a country that does not regulate the investment of company retirement
plans. He was retained by Bingham Companies to manage their corporate pension plan. Bingham's
management has approached Cramer and requested that Cramer invest the entire plan in Bingham
stock. Cramer may:

A. immediately terminate his relationship with the plan because of the conflict of interest raised
by the management contact.
B. not invest any of Bingham Company's retirement plan in its own stock regardless of the stock's
prospects and in spite of management's request.
C. invest a portion of the retirement plan in Bingham Company stock if the investment is prudent
and if he keeps the overall portfolio properly diversified.
D. invest all of the retirement plan assets in Bingham Company stock according to management's
request only if Cramer can document that the investment is more prudent than any other
investment opportunity he finds.

Question #6 of 100
Jamie Pyles, a portfolio management trainee for a money management firm, is trying to create a client
base. He phones prospective clients, telling them that he is a portfolio manager. He informs
prospective clients that based on the last five years of performance at his firm, he can guarantee the
client at least a 75% return. He informs them that his firm can provide all of the services that they will
ever need. What is the minimum number of misrepresentations Pyles has made to the prospective
clients in violation of the CFA Institute Standards?

A. 0.
B. 2.
C. 3.
D. 5.

Question #7 of 100
A money management firm just created a new junk-bond fund. When the firm advertised the new
fund at its issuance, they carefully computed the hypothetical returns that would have occurred for
the past 10 years for the fund. The firm used the current portfolio weights to determine an average
annual historical return equal to 18% and claim an 18% annual historical return in their advertising
literature. With respect to the CFA Institute Standards, this is:

A. in compliance.
B. a violation because the Standard prohibits computing historical returns on risky assets, such
as junk bonds.
C. a violation because the advertisement implies the firm generated this return.
D. a violation because the firm should have used 12 years of data.

Question #8 of 100
Pamela Gee is a portfolio manager. She is planning to establish her own money management firm. She
has already informed her employer, Branford, Inc., about her plans. In her remaining time at Branford,
Gee is allowed to:

Exam 2 Section 1 2
 A. solicit Branford colleagues but not Branford clients.
B. inform her current clients about her resignation and let them know how to reach her, in case
any problems arise in the future.
C. start the registration of her new company.
D. prepare a list of information from Branford files that she can use for future reference in client
solicitation.

Question #9 of 100
Mitch Sherwood, CAIA, is a portfolio manager for Oak Investments, a large hedge fund. He is
considering leaving his current position and starting his own firm. Sherwood will need to make some
preparations for his new business venture while he is still employed in his current position, including
setting up offices, phones, and a website. In addition, Sherwood is considering taking on client
portfolios to manage on his own time to begin establishing his own investment track record. According
to the CFA Institute Standards, Sherwood:

A. is prohibited from taking on the clients and from making preparations for his new business
venture while still employed without permission from Oak Investments.
B. is prohibited from taking on the clients and from making preparations for his new business
venture while still employed without permission from Oak Investments and current clients.
C. must disclose his plans to take on clients and obtain Oak Investments' consent, but he doesn't
need to do either regarding the preparations to begin his own business.
D. must disclose to Oak Investments the types of services to be performed, the duration of
services, and the compensation to be received as a result of the consulting.

Question #10 of 100

All of the following are required by fiduciaries according to the CFA Institute Standards EXCEPT:

A. act in a prudent and judicious manner.

B. act solely in the interest of the ultimate beneficiaries.
C. support the sponsor's management during proxy fights.
D. place the client's interest before the employer's interest.

Question #11 of 100

Kim Lee manages a variety of accounts at Superior Investments. Some are permitted to invest in tax-
exempt issues only; others may not invest in a stock unless it pays dividends. Lee is researching a
biotech firm specializing in the analysis of mad cow disease. While touring company facilities and
meeting with management, she learns that they believe they may have found a way to reverse the
disease. Moreover, one manager conjectured, "Suppose that we reversed the disease in someone who
didn't even have it? We might then be able to boost that individual's IQ into the stratosphere!" Lee
returns to her office and buys shares for all accounts under her supervision. This action is:

A. a violation of the Standard concerning fiduciary duties.

B. appropriate given the obvious potential of the therapy.
C. only permissible if the account holders are contacted first before the shares are purchased.
D. a violation of the Standard concerning appropriateness and suitability of investment actions.

Exam 2 Section 1 3
Question #12 of 100
Heidi Krueger has discretionary authority over the accounts of Johnson, for whom she manages a
portfolio of energy stocks, and Osaki, for whom she manages a diversified portfolio of domestic and
international stocks. Krueger always seeks the best price and execution and has disclosed to all of her
clients the process she follows to make use of soft dollars and apply them for the benefit of her clients.

Last year, Krueger applied soft dollars generated from the Johnson and Osaki accounts to purchase a
report on the economic impact of world events, an analysis of the domestic steel industry, and a new
conference table for her office. Krueger was in compliance with the CFA Institute Standards:

A. only if she had not used soft dollars to pay for the conference table.
B. only if she provided a summary of her soft dollar spending to her clients with their annual
account statements.
C. because she disclosed her use of soft dollars and applied them for the direct and indirect
benefit of her clients.
D. only if she had not used soft dollars to pay for the conference table and had not used soft
dollars from the trading of Johnson's account to pay for the report on the domestic steel
industry.

Question #13 of 100

Casey Lux was approached by the management of a multistrategy hedge fund about becoming a
supervisor of its traders. Lux is reluctant to accept the position because certain compliance procedures
have not been adopted at the firm. To comply with the CFA Institute Standards, Lux should:

A. accept the position on condition that the procedures be adopted immediately.

B. accept the position and use his best efforts to get the procedures implemented as soon as
possible.
C. decline in writing to accept the supervisory position until the firm adopts appropriate
procedures.
D. discuss his concerns with management and tell them he will not accept the position unless
and until he is given authority over compliance procedures.

Question #14 of 100

Bob Hatfield owns a money management firm with two clients. The accounts of the two clients are
equal in value. It is Hatfield's opinion that interest rates will fall in the near future. Based on this,
Hatfield begins increasing the bond allocation of each portfolio. In order to comply with the CFA
Institute Standards, Hatfield needs to:

A. inform the clients of the change and tell them it is based upon an opinion and not a fact.
B. make sure that the change is identical for both clients.
C. file a report with the SEC of the new portfolio allocation.
D. perform all of these actions.

Question #15 of 100

Which of the following statements regarding the CFA Institute Standard related to referral fees is least
accurate? The Standard:

Exam 2 Section 1 4
 A. enables the referring party to determine the fair fee for the referral.
B. enables clients to evaluate the full cost of the offered service.
C. enables the client to evaluate possible partiality shown in the recommendation of services.
D. advises the client of any benefit given or received for the recommending of any services.

Question #16 of 100

Todd Gable was attending a noon luncheon when he overheard two software executives talking about
how wonderful they thought Datagen, Inc., was and about a rumor that a major brokerage firm was
preparing to issue a strong buy recommendation on the stock. Gable returned to the office, checked
a couple of online sources, and then placed an order to purchase Datagen in all of his discretionary
portfolios. The orders were filled within an hour. Three days later, a brokerage house issued a strong
buy recommendation and Datagen's share price went up 20%. Gable then proceeded to gather data
on the stock and prepared a report that he dated the day before the stock purchase. Gable has:

A. violated the Standards by improper use of inside information.

B. not caused any harm to any client, so the Standards were not violated.
C. violated the Standards by not having a reasonable basis for making the purchase of Datagen.
D. violated the Standards by using the recommendation of another brokerage firm in his report.

Question #17 of 100

Which of the following statements regarding the CFA Institute Standard related to record retention is
least accurate?

A. Firms can comply with the Standard by retaining documents in electronic form.
B. When no other regulatory guidance applies, the Standard recommends retaining records for
at least seven years.
C. When members change employers, transferring the records supporting their investment
recommendations to the new employer is the member's responsibility.
D. While members are responsible for retaining research notes and other supporting documents,
record retention is generally the responsibility of the firm.

Question #18 of 100

Fern Baldwin, a representative for Fernholz Investment Management, is compensated by a base salary
plus a percentage of fees generated. In addition, she receives a quarterly performance bonus on a
particular client's fee if the client's account increases in value by more than two points over a
benchmark index. Baldwin had a meeting with a prospect in which she described the firm's investment
approach but did not disclose her base salary, percentage fee, or bonus. Baldwin has:

A. violated the Standards by not disclosing her performance bonus.

B. violated the Standards by not disclosing her salary, fee percentage, and performance bonus.
C. not violated the Standards because there is no conflict of interest with a potential prospect in
the employment arrangements.
D. not violated the Standards because employment compensation arrangements are
confidential and should not be disclosed to clients.

Exam 2 Section 1 5
Question #19 of 100
Lisa LeBreck, CAIA, is advising a large client to place a portion of his portfolio into alternative
investments. Among all the alternative investments options, what type includes distressed debt and
mezzanine financing?

A. Hedge funds.
B. Structured products.
C. Specialized investments.
D. Private equity investments.

Question #20 of 100

A portfolio manager is explaining to one of his analysts the challenges of analyzing alternative
investments. The manager states that alternative investments require adjustments to return
computation methodologies to account for higher order distribution moments that are non-normal
and also require adjustments to valuation methodologies to account for the lack of transaction-based
prices. Determine whether the manager is CORRECT with respect to return computation
methodologies and valuation methodologies.

Return computation Valuation

A. Correct Correct
B. Correct Incorrect
C. Incorrect Correct
D. Incorrect Incorrect

Question #21 of 100

An alternative investment analyst is preparing a client presentation. In the presentation, the analyst
makes the following statements:

I. Liquid alternative investments typically do not provide an incentive fee on profits to

managers.
II. A type of liquid alternative investment strategy is hedge fund replication, which aims to
achieve returns similar to those of hedge funds through simple factor-based approaches or
trading systems.

Which of the analyst's statements is CORRECT?

A. I only.
B. II only.
C. Both I and II.
D. Neither I nor II.

Question #22 of 100

An analyst is calculating different investment return measures, including the dollar-weighted return.
When presenting his results, the analyst should explain that the dollar-weighted return is the
investment's:

A. time-weighted return that ignores the timing of the investment's cash distributions and
withdrawals.

Exam 2 Section 1 6
 B. internal rate of return that ignores the timing of the investment's cash distributions and
withdrawals.
C. time-weighted return that accounts for the timing of the investment's cash distributions and
withdrawals.
D. internal rate of return that accounts for the timing of the investment's cash distributions and
withdrawals.

Question #23 of 100

The first raw moment of a return distribution is the:

A. mean.
B. median.
C. variance.
D. standard deviation.

Question #24 of 100

A portfolio has 50 monthly returns sampled from a fund with skewness equal to 0.25 and excess
kurtosis equal to 0.40. Using a 5% level of significance, the critical value of the chi-squared distribution
with 2 degrees of freedom equals 5.99 (i.e., corresponds to the 95th percentile of the chi-square
distribution).

Conduct a test of the hypothesis that the fund's returns follow a normal distribution. Calculate the
Jarque-Bera statistic and determine whether the hypothesis should be rejected.

A. 0.85. Hypothesis should be rejected.

B. 0.85. Hypothesis should not be rejected.
C. 2.96. Hypothesis should not be rejected.
D. 6.23. Hypothesis should be rejected.

Question #25 of 100

A quantitative analyst is studying the various methods of evaluating portfolio risk and variability. As a
risk measure, what does semivariance consider?

A. Semivariance measures systematic risk.

B. Semivariance is a downside risk measure.
C. Semivariance measures dispersion on the right side of the distribution.
D. Semivariance measures relative skewness and excess kurtosis of the distribution.

Question #26 of 100

An analyst derives parametric value at risk (VaR) for hedge funds. The analyst derives his volatility
estimates from historical data and explains that he would like to derive a volatility estimate that gives
greater weight to more recent observations. The analyst should use which of the following model
types?

A. Monte Carlo VaR model.

Exam 2 Section 1 7
 B. Homoskedastic volatility model.
C. Equally weighted moving average model.
D. Autoregressive conditional heteroskedasticity model.

Question #27 of 100

Which of the following methods derives the expected return on the leveraged portfolio that has the
same standard deviation as the market index?

A. M2 method.
B. Alpha method.
C. Sortino method.
D. Treynor method.

Question #28 of 100

Asset pricing models are helpful tools for separating total risk of an investment into its:

A. diversifiable and idiosyncratic components.

B. diversifiable and unsystematic components.
C. non-diversifiable and systematic components.
D. non-diversifiable and idiosyncratic components.

Question #29 of 100

Using the ex post capital asset pricing model (CAPM), calculate the idiosyncratic return for a fund with
the following information.

Fund beta 0.80

Fund return last year 10%
Market return last year 10%
Risk-free rate 5%
A. 0%.
B. 1%.
C. 2%.
D. 3%.

Question #30 of 100

Which of the following is least likely to be a risk factor in the Fama-French three-factor asset-pricing
model?

A. The market risk factor.

B. The firm size risk factor.
C. The momentum risk factor.
D. The book-to-market risk factor.

Question #31 of 100

Which of the following statements regarding the currency option pricing model is least accurate?

A. The model assumes that the underlying assets do not pay dividends.

Exam 2 Section 1 8
 B. The model uses two different currencies and a common risk-free interest rate.
C. In the model, there are two risk-free interest rates that correspond to the two currencies
exchanged.
D. The model prices an option that gives the right to exchange S units of one currency for S* units
of another currency.

Question #32 of 100

Jacqui Cheung recently purchased a call option on one of the stocks in her portfolio. She predicts that
interest rates will change soon and that the stock's volatility may also change. Which of the option
Greeks measure the sensitivity of the option price to these factors?

Interest Rate Change Stock Volatility

A. Theta Vega
B. Rho Gamma
C. Theta Gamma
D. Rho Vega

Question #33 of 100

Using the CAPM, the required return derived for a real estate alternative investment is 6.5%. A
different pricing model produces a required return of 7.2%. A differential between the two models is
expected because the CAPM:

A. accurately accounts for the impact of kurtosis.

B. fails to take into account the impact of kurtosis.
C. only takes into account positive skewness and not negative skewness.
D. only takes into account negative skewness and not positive skewness.

Question #34 of 100

Analyst Thomas James evaluates a model that provides a benchmark return equal to 12% for a private
equity fund. James is informed that the true required return for the private equity fund is 14% and
that the private equity fund earned a 13% historical return. James should conclude that the benchmark
model is:

A. properly specified, and the true ex post alpha equals 1%.

B. properly specified, and the true ex post alpha equals −1%.
C. improperly specified, and the true ex post alpha equals 1%.
D. improperly specified, and the true ex post alpha equals −1%.

Question #35 of 100

Which of the following statements about beta and alpha drivers is FALSE?

A. Active returns are generated by alpha drivers.

B. An example of an alpha driver is alternative assets.
C. Asset classes contain only an alpha driver or a beta driver.
D. Systematic market exposure is achieved through beta drivers.

Exam 2 Section 1 9
Question #36 of 100
Which would be least likely to be correct regarding spurious correlation?

A. Spurious correlation is coincidental.

B. Spurious correlation is idiosyncratic in nature.
C. Spurious correlation is the lack of a linear relationship between two variables.
D. Spurious correlation is correlation between two variables that does not result from any direct
link between them.

Question #37 of 100

The slope of a regression line is more likely to be statistically significant when the:

A. level of significance is lower and the standard error is lower.

B. level of significance is higher and the standard error is lower.
C. level of significance is lower and the standard error is higher.
D. level of significance is higher and the standard error is higher.

Question #38 of 100

An analyst is examining the performance of the H-INV Hedge Fund and attempts to identify an
investment strategy that mimics H-INV's returns. Which of the following methods is best suited for
the analyst's needs?

A. Style analysis.
B. Fund replication analysis.
C. Market-wide factor analysis.
D. Principal components analysis.

Question #39 of 100

Rachel Stromberg, a land developer, is purchasing land in an up-and-coming area of Houston, Texas.
She intends to develop the land sometime within the next two years. The lots she is purchasing are
vacant, but have been zoned for development. Which of the following best characterizes the lots in
which Stromberg is investing?

A. Paper lots.
B. Land banks.
C. Finished lots.
D. Blue top lots.

Question #40 of 100

Clarence Jones, a long-term real estate investor, is considering an investment in a piece of farmland.
Currently, soybeans are grown on the land. However, Jones thinks the farmland might be more
valuable if corn is grown on it given the high price of gasoline and the interest in ethanol derived from
corn. In general, Jones expects a higher return on his investment if the farm can be used for multiple
crops. Which of the following is the leastimportant factor that Jones should consider regarding the
value of the option to produce alternative crops on this farm?

A. The time it takes to switch between alternative crops.

B. The volatility of the profitability of each alternative crop.

Exam 2 Section 1 10
 C. The correlation between the profitability of each alternative crop.
D. The current closeness of the profitability of each alternative crop.

Question #41 of 100

Which of the following investment types are traded on an organized exchange, thus offering a central
market and transparent pricing?

A. Futures contracts.
B. Forward contracts.
C. Swap and forward contracts.
D. Futures and forward contracts.

Question #42 of 100

Joe Samuelson, CAIA, is studying supply and demand curves and supply and demand shifts for
commodities. What would be the best description of a situation in which supplies change rather slowly
in response to market prices or when large market price changes are needed to cause supply changes?

A. Elastic supply.
B. Inelastic supply.
C. Price inelasticity.
D. Supply curve shift.

Question #43 of 100

An alternative investment analyst is examining a historical commodities markets index in an attempt
to better understand the term structure of forward prices. Which of the following would be indicative
of a commodity market in contango?

A. Prices steadily increase in future delivery months.

B. The forward price is believed to be lower than the expected spot price.
C. The longer the period of time to settlement, the lower the forward price.
D. The profit on the forward transaction will be lower because the forward contract is overpriced.

Question #44 of 100

Which of the following statements regarding the correlation of commodity prices with the prices of
capital assets is most accurate?

A. Commodity prices are highly correlated with the prices of capital assets.
B. Commodity prices have very low correlation with the prices of capital assets.
C. Prices of capital assets and commodity prices tend to be highly positively correlated.

Question #45 of 100

Jane Moore, CAIA, is a commodities trader who uses both fundamental and technical analysis to spot
superior risk-adjusted commodity trades. With commodity exposure, Moore's focus is on alpha.
Because of this focus on alpha, which of the following best characterizes Moore's basic premise or
belief?

A. The underlying commodities are inefficiently priced.

B. Systematic movements in underlying commodity prices will yield alpha.

Exam 2 Section 1 11
 C. Commodity prices are directly determined by the discounted value of future cash flows.
D. An investment vehicle such as a futures contract is mispriced relative to the underlying
commodity.

Question #46 of 100

An investor purchases a one-year, $500,000 par value commodity-linked note (CLN) issued by Roth
Incorporated, a mining company. The CLN is tied to the value of the Barclays Capital Commodity Index
Industrial Metals Pure Beta TR (the Index). The Index is currently at 480. At maturity, the investor will
receive at least the par value of the bond and the coupon payment, but if the Index exceeds a level of
500, the investor will share in the percentage appreciation of the Index. The stated interest rate on
the CLN is 5%. Straight bonds issued by Roth Incorporated pay a 7% coupon. Which of the following is
closest to the option premium and strike price embedded in the CLN?

Option Premium Strike Price

A. $10,000 480
B. $10,000 500
C. $21,000 480
D. $21,000 500

Question #47 of 100

Which of the following is least likely to have a material impact on the roll yield for a commodity futures
contract?

A. The cost to store the commodity increases.

B. The term structure of forward rates is backwardated.
C. The time remaining until contract maturity decreases.
D. The convenience yield across all market participants increases.

Question #48 of 100

Brit Conway is considering investing in a film and must estimate the value of the investment. Conway
is considering various models. The best method used to value an intellectual property investment such
as this is the:

A. appraisal method.
B. cap rate approach.
C. discounted cash flow model.
D. binomial option pricing model.

Question #49 of 100

Brent Bailey is studying to be a mortgage-backed securities analyst. He understands the concept of
prepayment risk but does not understand why prepayments are not perfectly predictable based on
the path of interest rates. His colleague suggests that he consider refinancing burnout as an
explanation. Refinancing burnout:

A. occurs when liquidity tightens and borrowers cannot get new loans or refinance existing loans.
B. occurs when the actual prepayments exceed the Public Securities Association (PSA)
prepayment benchmark more than three months in a row.

Exam 2 Section 1 12
 C. results from a conditional prepayment rate that exceeds the Public Securities Association
(PSA) prepayment benchmark due to rising interest rates.
D. results when interest rates have fallen and then fall again, resulting in fewer borrowers
refinancing after the second or subsequent decline(s) in rates.

Question #50 of 100

Sylvia Blankenbaker, a pension fund portfolio manager, would like to include mortgage-backed
securities (MBSs) in the fund's asset mix. Unfortunately, she does not understand the risks of either
residential or commercial mortgage-backed securities. Brokers have tried to sell her both junior
tranches and senior tranches of the securities, arguing that the way the securities are structured, on
a risk/return basis, both securities offer approximately the same rewards. Joe Huber, an MBS broker,
makes several statements to Blankenbaker regarding the risks and rewards of these investments.
Which of Huber's statements is least likely correct?

A. Structured residential mortgage-backed security investors focus primarily on prepayment

speeds.
B. Interest rates generally only affect mortgage-backed security investors due to their impact on
prepayment speeds.
C. The holders of junior tranche commercial mortgage-backed securities focus primarily on
credit risks and expected default rates.
D. Subprime mortgage-backed security investors are generally more concerned with expected
default rates than with prepayment speeds.

Question #51 of 100

Greg Weis is a real estate developer. He purchased a large tract of land for development. However,
the citizens voted on the zoning of the property, and Weis found that he could not fully develop the
property in the way that he had planned to maximize the value of the land. Weis could view the
development project as the:

A. sale of a string of put options.

B. sale of a string of call options.
C. purchase of string of put options.
D. purchase of string of call options.

Question #52 of 100

Which of the following is NOT a disadvantage of private equity real estate funds?

A. Investors hold an illiquid investment.

B. Fund performance is difficult to measure.
C. Use of excessive leverage leads to magnified losses.
D. Investors lose direct control of decisions to lease or sell properties.

Question #53 of 100

Jeremy Harris added real estate to a portfolio of assets, expecting higher returns and lower portfolio
risk. He was disappointed in the portfolio's performance and was informed that data smoothing might
be part of the problem. Which of the following statements regarding the effects of data smoothing is
FALSE?

Exam 2 Section 1 13
 A. The volatility of the return series is diminished if data smoothing occurs.
B. Data smoothing often results from using the appraisal approach to value real estate
investments.
C. Data smoothing results in the underestimation of the diversification benefits that arise from
including real estate in a traditional asset portfolio.
D. Data smoothing may occur because appraisers tend to anchor new real estate prices to old
prices, often underestimating large price increases or decreases.

Question #54 of 100

An investor would like to ensure that a hedge fund manager does not receive an annual incentive fee
unless the fund's net asset value (NAV) at the end of the year exceeds the NAV at the beginning of the
year. What term best describes this incentive structure provision?

A. Hurdle rate.
B. Profit-sharing fee.
C. High watermark.
D. Absolute return provision.

Question #55 of 100

Which of the following is the primary type of risk exposure for market directional hedge fund
strategies?

A. Market risk.
B. Downside risk.
C. Short volatility risk.
D. Event risk.

Question #56 of 100

A hedge fund manager plans to retire and is going to return the fund assets to investors over the next
12 months. Starting today, the manager will no longer report the fund's results to any hedge fund
database. This will likely result in the database suffering from which type of bias?

A. Backfill bias.
B. Liquidation bias.
C. Hazard rate bias.
D. Selection bias.

Question #57 of 100

Which of the following best describes a major risk of macro investing that directly results from
concentrated positions using futures, swaps, and forward markets?

A. Event risk.
B. Market risk.
C. Leverage risk.
D. Correlation risk.

Question #58 of 100

Commodity pools that only sell to institutional investors and high net worth individuals:

Exam 2 Section 1 14
 A. avoid Commodity Futures Trading Commission (CFTC) registration, but must register with the
Securities and Exchange Commission (SEC).
B. are exempt from exchange listing requirements.
C. avoid SEC registration requirements.
D. must register with the SEC but are exempt from CFTC audits.

Question #59 of 100

James Seeger is the general partner of ComVentures Select, LP. ComVentures was formed by pooling
funds from a select group of investors with a mandate to invest in commodity futures contracts.
Seeger hired Jill Smith, CAIA, to manage the fund's investments in exchange for compensation linked
to the performance of ComVentures fund. Based on this information:

A. Seeger is the commodity pool operator and commodity trading advisor of ComVentures.
B. Seeger is the commodity pool operator, and Smith is the commodity trading advisor of
ComVentures.
C. Seeger is the commodity pool operator, and Smith is the commodity trading consultant of
ComVentures.
D. Seeger is the commodity trading consultant, and Smith is the commodity pool operator of
ComVentures.

Question #60 of 100

A stock price has the following 10 consecutive daily prices, corresponding to days −10 to −1:

Day Price

−10 50
−9 53
−8 49
−7 48
−6 51
−5 51
−4 55
−3 56
−2 53
−1 54

Which of the following is closest to the five-day weighted moving average of prices on day 0?

A. 53.
B. 54.
C. 55.
D. 56.

Question #61 of 100

Suppose a hedge fund manager views a long position in the target firm as a long position in a risk-free
bond and a short binary put option. The initial cost to the fund manager is $45, with an expected

Exam 2 Section 1 15
payoff of $50 if the merger is successful or $35 if the merger fails. If the risk-free rate of return is 0%,
what is the value of the binary put option?

A. $0.
B. $5.
C. $10.
D. $15.

Question #62 of 100

Activist investors may attempt to generate alpha by looking for firms in which board members or
managers serve on multiple firms and boards simultaneously and attempt to initiate changes. Which
of the following best characterizes this particular situation?

A. Agency costs.
B. Conflicting boards.
C. Interlocking boards.
D. Conflicting principal-agent relationship.

Question #63 of 100

Which of the following would be used to describe the investment position of an investor who is short
a call option and does not own the underlying asset?

A. Naked call position.

B. Reverse put position.
C. Arbitrage call position.
D. Leveraged short call position.

Question #64 of 100

When establishing a delta-neutral position, gamma is the:

A. first derivative of an option's price with respect to the price of the underlying asset.
B. first derivative of an option price with respect to the time to expiration for the option.
C. second derivative of an option's price with respect to the underlying price of the asset.
D. change in value of an option with respect to a change in the value of the underlying asset.

Question #65 of 100

Which of the following statements regarding asset-backed securities (ABS) is FALSE?

A. ABS are generally considered too complex to be considered for arbitrage strategies.
B. ABS are securitized instruments created from pools of underlying loans or other assets.
C. ABS have cash flows that are difficult to predict due to prepayment rates and default
probabilities.
D. ABS are created by taking assets that are not easily traded and converting them into assets
that are more easily traded.

Exam 2 Section 1 16
Question #66 of 100
A hedge fund manager who starts acquiring shares when an institution starts selling a large quantity
of stock in a short time period is attempting to generate returns by using which of the following
strategies?

A. Providing liquidity.
B. A relative value strategy.
C. Capturing a complexity premium.
D. Establishing an arbitrage position.

Question #67 of 100

A hedge fund manager uses information on corporate insiders to make trades. What is one of the
primary challenges of this information?

A. Trading on insider information is illegal.

B. Senior executives do not disclose the motives for personal transactions.
C. Senior executives are not always willing to disclose their personal trade information.
D. The Security and Exchange Commission frequently changes regulations regarding insider
transactions.

Question #68 of 100

The portfolio manager of PIK Fund utilizes an active investment strategy and has an ex ante
information ratio (IR) of 1.20. If the manager makes 60 independent active trades annually, the
information coefficient (IC) would be closest to:

A. 0.15.
B. 0.83.
C. 7.75.
D. 9.30.

Question #69 of 100

A hedge fund manager is considering the diversification impact of a portfolio of four hedge funds that
each have a standard deviation of 36% compared to holding just one of these hedge funds individually.
The manager wants to use a theoretical approach to estimate the diversification benefits of increasing
the number of hedge funds in a portfolio. What is the estimated standard deviation of an equally
weighted portfolio that includes these four hedge funds with equal standard deviations and
systematic risk?

A. 6%.
B. 12%.
C. 18%.
D. 24%.

Question #70 of 100

Empirical studies reveal that funds of funds (FOFs) underperform broad hedge fund indices. Which of
the following is the least likely reason that FOFs are less biased than individual hedge funds?

A. FOFs retain the returns of liquidated funds in their track record.

Exam 2 Section 1 17
 B. FOFs use equally weighted portfolios.
C. FOFs include hedge fund returns from the date of the investment.
D. FOFs are more reflective of investments in practice.

Question #71 of 100

Brad Wilson is unfamiliar with private equity and begins researching this investment type. Which of
the following notes made by Wilson regarding private equity is CORRECT?

A. The life expectancy of private equity funds is typically 15-25 years, resulting in an illiquidity
risk premium.
B. Investments in private equity funds are fundamentally different from investments in private
equity securities.
C. Private equity firms who manage private equity funds benefit from the limited liability shield
inherent in the limited partnership fund structure.
D. Private investments in public equity (PIPEs) refer to investments in private equity firms, such
as Kohlberg Kravis Roberts, that are publicly traded.

Question #72 of 100

Joe Lancarte, CAIA, works for a private equity firm and is advising a recent acquisition's management
regarding financing options since the firm is short on capital. Lancarte is recommending mezzanine
financing. What is the most accurate statement regarding mezzanine financing?

A. Mezzanine financing is a niche market between story credits and the junk bond market.
B. Mezzanine financing is designed for companies with a market capitalization of $100 million
and below.
C. Mezzanine financing provides a firm with liquidity to handle daily firm operations on a
transitional basis.
D. Mezzanine financing can include convertible subordinated debt, convertible preferred stock,
or bank loans.

Question #73 of 100

The shares of a closed-end fund, Tessier, are selling at $52 while Tessier's net asset value (NAV) is $55.
Which of the following statements isCORRECT?

A. The shares are trading at a 5.45% premium to NAV.

B. The shares are trading at a 5.45% discount to NAV.
C. The shares are trading at a 5.77% premium to NAV.
D. The shares are trading at a 5.77% discount to NAV.

Question #74 of 100

Turner Private Equity Group operates several limited partnerships, each of which focuses on a
different stage of financing in the venture capital life cycle. Turner is considering including BYG Inc., as
one of its portfolio companies. BYG is a medical device company founded two years ago in Arizona.
Since its inception, BYG has filled out its management team and developed a fully functional business
plan. The company recently completed testing of its prototype and is ready to begin working on its
second-generation prototype. BYG has worked hard to establish relationships with major medical
device distributors in anticipation of future production.

Exam 2 Section 1 18
Turner's proposal to BYG is a $4 million convertible preferred stock investment. The investment in BYG
will be combined with other investments in a new fund. The fund will be structured as a limited
partnership with Turner as the general partner. The partnership agreement will include the following
provisions:

1. 30% of the incentive fees earned by Turner must be held in a separate bank account and are
not to be released until all limited partners have earned a profit.
2. Upon fund liquidation, capital losses experienced by limited partners will be offset to the
extent possible by reclaiming incentive fees collected by Turner.
3. Turner will not be allowed to sell its interest in the limited partnership to any third party
without consent from two-thirds of the limited partners.
4. Limited partnership investments in any single portfolio company will be no greater than $5
million.

..................................................................................................................................................................

Which of the following is least likely a characteristic of BYG Inc.? BYG has:

A. relied on traditional funding sources up to this point.

B. experienced negative cash flow for the last two years.
C. moved beyond angel investors as a primary source of financing.

Question #75 of 100

Turner Private Equity Group operates several limited partnerships, each of which focuses on a
different stage of financing in the venture capital life cycle. Turner is considering including BYG Inc., as
one of its portfolio companies. BYG is a medical device company founded two years ago in Arizona.
Since its inception, BYG has filled out its management team and developed a fully functional business
plan. The company recently completed testing of its prototype and is ready to begin working on its
second-generation prototype. BYG has worked hard to establish relationships with major medical
device distributors in anticipation of future production.

Turner's proposal to BYG is a $4 million convertible preferred stock investment. The investment in BYG
will be combined with other investments in a new fund. The fund will be structured as a limited
partnership with Turner as the general partner. The partnership agreement will include the following
provisions:

1. 30% of the incentive fees earned by Turner must be held in a separate bank account and are
not to be released until all limited partners have earned a profit.
2. Upon fund liquidation, capital losses experienced by limited partners will be offset to the
extent possible by reclaiming incentive fees collected by Turner.
3. Turner will not be allowed to sell its interest in the limited partnership to any third party
without consent from two-thirds of the limited partners.
4. Limited partnership investments in any single portfolio company will be no greater than $5
million.

..................................................................................................................................................................

Turner's proposed investment in BYG would be classified best by which of the following stages of
venture capital financing?

A. Late stage.

Exam 2 Section 1 19
 B. Early stage.
C. Seed financing.
D. Mezzanine stage.

Question #76 of 100

Turner Private Equity Group operates several limited partnerships, each of which focuses on a
different stage of financing in the venture capital life cycle. Turner is considering including BYG Inc., as
one of its portfolio companies. BYG is a medical device company founded two years ago in Arizona.
Since its inception, BYG has filled out its management team and developed a fully functional business
plan. The company recently completed testing of its prototype and is ready to begin working on its
second-generation prototype. BYG has worked hard to establish relationships with major medical
device distributors in anticipation of future production.

Turner's proposal to BYG is a $4 million convertible preferred stock investment. The investment in BYG
will be combined with other investments in a new fund. The fund will be structured as a limited
partnership with Turner as the general partner. The partnership agreement will include the following
provisions:

A. 30% of the incentive fees earned by Turner must be held in a separate bank account and are
not to be released until all limited partners have earned a profit.
B. Upon fund liquidation, capital losses experienced by limited partners will be offset to the
extent possible by reclaiming incentive fees collected by Turner.
C. Turner will not be allowed to sell its interest in the limited partnership to any third party
without consent from two-thirds of the limited partners.
D. Limited partnership investments in any single portfolio company will be no greater than $5
million.

..................................................................................................................................................................

Which of the following statements regarding the provisions of the new Turner limited partnership is
most likely correct?

A. Provision 1 is a clawback provision, and Provision 3 is a general partner covenant.

B. Provision 1 is an escrow agreement, and Provision 4 is a general partner covenant.
C. Provision 2 is a clawback provision, and Provision 4 is a fund management covenant.
D. Provision 2 is an escrow agreement, and Provision 3 is a fund management covenant.

Question #77 of 100

Leveraged buyout (LBO) firms are famous for charging fees for many parts of the process. A
privatization fee is the charge for taking a firm private. What is the typical fee for negotiating this
particular transaction?

A. Between 1% and 3%.

B. Up to 1%.
C. Approximately 5%.
D. Between 2% and 4%.

Exam 2 Section 1 20
Question #78 of 100
Which of the following is NOT a reason why leveraged buyouts (LBOs) are typically less risky than
venture capital investments?

1. LBOs use less leverage.

2. LBOs invest in more mature firms.
3. LBOs have greater certainty in the exit strategy.
4. LBOs invest in firms with an established management track record.

Question #79 of 100

The Flying Fish Restaurant Corporation needs to expand its operations and is attempting to utilize
mezzanine debt capital in lieu of equity capital to finance the expansion. At present, the bank debt
portion of the firm's capital structure is 65%, and the cost of debt is 5.5%. The firm's cost of equity is
24%. If the company were to insert mezzanine financing at a cost of 18% in lieu of equity for 20% of
its total capital structure, how much lower would be the firm's weighted average cost of capital?
Assume the costs of debt and equity are unchanged.

A. 80 basis points.
B. 100 basis points.
C. 120 basis points.
D. 140 basis points.

Question #80 of 100

Stable Corp., which has one class of creditors for its outstanding debt, just filed for Chapter 11
bankruptcy. At the time it filed for protection, Stable also submitted a reorganization plan to the
bankruptcy court. Sixty days after submitting the plan, Stable convinced 52% of its claimants, which
control 62% of the value of Stable bonds, to accept the plan. At this stage of the bankruptcy process,
which of the following is TRUE?

A. Stable may proceed with the prepackaged plan after the bankruptcy court approves.
B. Any party of interest may submit a reorganization plan to the bankruptcy court for approval.
C. The bankruptcy court will likely force a cramdown to reorganize the firm as soon as possible.
D. Stable has an additional 60 days to convince additional claimants to accept the prepackaged
plan.

Question #81 of 100

In a presentation to investors on financial structuring, the lead analyst of an investment firm made
the following statements:

1. Corporate capital structure may be used to segment investor needs based on time horizon,
taxation, and return characteristics.
2. Tranching in structured products allows issuers to reduce the overall level of credit risk of the
securities.

The analyst is CORRECT with respect to:

A. the first statement only.

B. the second statement only.

Exam 2 Section 1 21
 C. both statements.
D. neither statement.

Question #82 of 100

Which of the following statements regarding the impact of market interest rate changes on various
tranches is CORRECT?

A. An increase in market interest rates is likely to increase the value of an accrual tranche.
B. An increase in market interest rates is likely to decrease the value of an interest-only tranche.
C. An increase in market interest rates is likely to increase the value of a principal-only tranche.
D. An increase in market interest rates is likely to cause larger changes in the values of junior and
equity-only tranches compared to senior tranches.

Question #83 of 100

The risk to a creditor that a borrower will fail to make a scheduled interest or principal payment is
known as:

A. default risk.
B. downgrade risk.
C. interest rate risk.
D. credit spread risk.

Question #84 of 100

Which of the following statements is most accurate regarding sovereign and non-sovereign credit
derivatives? Sovereign credit derivatives are:

A. less complicated to model because of the fewer number of risk factors to be considered.
B. more complicated to model because both willingness and ability to pay must be considered.
C. less complicated to model because the inherent size of sovereign nations reduces credit risk.
D. less complicated to model because of the abundance of empirical data for sovereign
securities.

Question #85 of 100

A seller must make a payment to the credit protection buyer based on a trigger event. Which of the
following is NOT a trigger event according to the International Swaps and Derivatives Association
(ISDA)?

A. Restructuring.
B. Obligation acceleration.
C. Repudiation/moratorium.
D. Stock split.

Question #86 of 100

Which of the following statements regarding credit default swaps and credit options is most likely
correct? Both credit default swaps and credit options:

A. have asymmetric payouts.

B. require an initial payment by one party.

Exam 2 Section 1 22
 C. give the protection buyer the right to exercise.
D. require recurring fixed payments by the protection buyer.

Question #87 of 100

In a collateralized debt obligation (CDO), the weighted average spread (WAS) over LIBOR measures
the:

A. average credit rating of the collateral in the CDO trust.

B. yield curve risk of the CDO collateral pool.
C. excess earnings of the CDO collateral pool.
D. differences in interest payment dates of the CDO collateral pool.

Question #88 of 100

Which of the following types of collateralized debt obligations (CDOs) are commonly referred to as
correlation products?

A. Unfunded CDOs.
B. Cash-funded CDOs.
C. Market-value CDOs.
D. Synthetic CDOs using CDS.

Question #89 of 100

Which of the following is likely to cause differences in interest payment receipt periodicity?

A. Schedule of interest payments on different tranches of a collateralized debt obligation differs.

B. Schedule of interest payments on the collateral differs among different collateral assets.
C. Schedule of interest payments received differs from the collateralized debt obligation
reinvestment schedule.
D. Schedule of interest payments received from the underlying collateral differs from the
schedule of interest payments on collateralized debt obligation securities.

Question #90 of 100

Which of the following statements regarding structured products is CORRECT?

A. With a U.S.-based structured product, investors may earn multiple different payouts.
B. With a Swiss-based structured product, investors lose some upside returns in exchange for
principal protection.
C. With a French-based structured product, investors are subject to a cap that limits their returns
in exchange for lower risk.
D. With a German-based structured product, investors give up principal protection in exchange
for greater upside returns.

Question #91 of 100

Kayla Fong, CAIA, is performing research on behavioral biases and investor tendencies. When an
investor disproportionately interprets results in a way that supports a previously held opinion, what
is the term used for this particular type of behavioral bias?

A. Empirical bias.

Exam 2 Section 1 23
 B. Validation bias.
C. Anchoring bias.
D. Confirmation bias.

Question #92 of 100

Karen Brown, CAIA, is creating a client document outlining various hedge fund failures in order to
compare and contrast her firm's ethical approach to hedge fund investing. Which of these failures
included fabricating results and misrepresenting the hedge fund's performance by adding in
commission rebates as income to bolster performance results?

A. Long-Term Capital Management.

B. Lancer Group.
C. Knight Capital Group.
D. Bayou Management.

Question #93 of 100

A hedge fund manager is interested in improving operational controls at his firm. Operational errors
are best prevented by:

A. reducing agency conflicts between investors and fund managers.

B. implementing well-designed operational systems to prevent errors.
C. hiring employees with training in data entry and other operational functions.
D. clearly stating the penalties for operational errors in the personnel handbook.

Question #94 of 100

Beth Brooks would like to create a riskless hedge using put-call parity. She will use the following three
components to create the position: $210 strike, June call options on IBM stock; $210 strike, June put
options on IBM stock; and IBM stock. The combination of long and short positions that creates a
riskless hedge is:

A. a long put, a short call, and a long position in the underlying stock.
B. a long put, a long call, and a long position in the underlying stock.
C. a short put, a long call, and a long position in the underlying stock.
D. a long put, a short call, and a short position in the underlying stock.

Question #95 of 100

In reviewing the investment process of a fund, what type of risk is investment process risk, and why is
a key personnel clause important?

A. Investment process risk is an operational risk, and a key personnel clause requires that a fund
retain key personnel to make investment decisions for the fund.
B. Investment process risk is an idiosyncratic risk, and a key personnel clause allows asset
withdrawal if key personnel no longer make investment decisions for the fund.
C. Investment process risk is a due diligence structure risk, and a key personnel clause requires
retention of key personnel unless proper notification is made to investors.

Exam 2 Section 1 24
Question #96 of 100
Fred Berry's investment adviser has stressed the importance of outside service providers in the due
diligence process. Which of the following statements made by his adviser is most accurate?

A. Outside auditors are in the best position to know the current condition of the fund's portfolio.
B. The Chief Financial Officer (CFO) is the best source of verified information regarding the fund's
accounting and operations.
C. If a fund is registered as an investment adviser with the Securities and Exchange Commission
(SEC), it is likely that the firm has violated regulatory requirements in the past.
D. Legal counsel can assess a fund's current regulatory registrations and determine whether
pending civil, criminal, or regulatory proceedings have merit.

Question #97 of 100

The Quantex Global Alpha hedge fund has investors in the United States and Japan. At the present
time, Japanese tax laws are generally considered more favorable than U.S. tax laws for investors. The
operations for the Quantex Fund are not based in either country, as the fund invests through a master
trust structure that is based in Bermuda. Given this information, which of the following best describes
the tax implications for the Quantex Fund's investors?

A. Both the U.S. and Japanese investors will pay taxes based on Bermuda's tax laws since that is
where the master trust is based.
B. The master trust allows both the U.S. and Japanese investors to pay taxes based on Japan's
tax laws since they are the most favorable.
C. The U.S. investors will only pay taxes based on U.S. tax laws, while the Japanese investors will
only pay taxes based on Japan's tax laws.
D. The U.S. and Japanese investors will not have to pay taxes, as the master trust structure allows
investors to avoid paying taxes on their hedge fund investments.

Question #98 of 100

What is the term for a quantitative approach with which to measure operational risk that is computed
based on age, size, past performance, fee structure, and volatility of a fund?

A. Omega-score.
B. Sortino model.
C. N-sigma score.
D. Black-Scholes model.

Question #99 of 100

An active portfolio manager often tries to generate alpha by taking long positions in small-cap stocks.
However, the benchmark for the primary strategy is the S&P 500. She uses Russell 2000 mini futures
contracts to lay off the risk of the small-cap exposure. She manages a $2,200,000 portfolio with a beta
of 1.2 relative to the index. The Russell 2000 mini index value is 805, and the multiplier is 100. The
number of contracts required to hedge the manager's position is closest to:

A. 23.
B. 33.
C. 112.
D. 2,733.

Exam 2 Section 1 25
Question #100 of 100
Neil Chancellor is the manager of a state pension fund. Legislators are very conservative in the state
and have mandated that the fund must adhere to the precepts of traditional asset allocation.
Chancellor believes he could improve performance if he could use the new investment model. Which
of the following is a key difference between the two approaches?

A. Traditional asset allocation prevents strategic allocation decisions, while the new investment
model allows them.
B. The new investment model explicitly requires an allocation to alternative assets, while
traditional asset allocation models restrict alternative asset investments.
C. The new investment model provides greater flexibility to seek alpha independent of the beta,
while traditional asset allocation provides little flexibility with respect to benchmarks.
D. Traditional asset allocation does not allow for any divergences outside the investment
mandate, while the new investment model allows very slight divergences in extreme
circumstances.

Exam 2 Section 1 26