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Alternative Investments : CAIA Level I

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The official CAIA Level 1 curriculum book

Alternative Investments: CAIA Level I, 3rd Edition is the curriculum book for the Chartered Alternative Investment Analyst (CAIA) Level I professional examination. Covering the fundamentals of the alternative investment space, this book helps you build a foundation in alternative investment markets. You'll look closely at the different types of hedge fund strategies and the range of statistics used to define investment performance as you gain a deep familiarity with alternative investment terms and develop the computational ability to solve investment problems. From strategy characteristics to portfolio management strategies, this book contains the core material you will need to succeed on the CAIA Level I exam. This updated third edition tracks to the latest version of the exam, and is accompanied by the following ancillaries: a workbook, study guide, learning objectives, and an ethics handbook.


Most investment analyst education programs focus primarily on the traditional asset classes, pushing alternative investments to the sidelines. The CAIA designation was developed in response to the tremendous growth of alternative investing, and is the industry's premier educational standard. This book is your official study companion, bringing you fully up to speed on everything you need to know (with the exception of the ethics material covered in a separate handbook).




Understand the complexities of each alternative asset class
Learn the quantitative techniques professionals use every day
Dig into the unique aspects of alternative investments
Master the core material covered by the CAIA Level I exam


More than 300 financial institutions and hedge funds have committed key executives to the CAIA exam, and this rapidly growing trend speaks to the designation's rising status as a must-have credential for anyone in the alternative investment sphere. Increase your chances of success by getting your information straight from the source in CAIA Level I.
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Product details

  • Hardback | 960 pages
  • 188 x 258 x 56mm | 666.78g
  • New York, United States
  • English
  • 3rd Edition
  • 1119003369
  • 9781119003366
  • 137,618

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Success in the rapidly evolving area of alternative investments (AI) depends on a firm understanding of the concepts, tools, and practices associated with it, as well as an unwavering dedication to professionalism. Alternative Investments: CAIA Level 1, Third Edition provides a comprehensive introduction to institutional-quality alternative investments and has been designed to serve as a resource for professionals, a textbook for university courses, and the primary readings for Level 1 of the Charter program of the Chartered Alternative Investment Analyst (CAIA) Association.

The Charter program of the CAIA Association addresses the essential needs for professionals entering or advancing in the field of alternative investments. The CAIA Charter is the premier educational designation uniquely tailored to individuals specializing in institutional-quality alternative investments. Covering hedge funds, real assets, private equity, structured products, risk management and portfolio management, and professional standards and ethics, the CAIA Charter demonstrates one's commitment to professionalism and command of AI's unique elements.

The CAIA Charter program is comprised of a two-tier exam process (Level I and Level II) through which candidates may earn the CAIA Charter. The Level I exam assesses understanding of various alternative classes and knowledge of the tools and techniques used to evaluate the risk-return attributes of each one.

Written under the direction of the CAIA Association, with insights from many practicing and eminent professionals in this field, Alternative Investments: CAIA Level 1 best reflects the most current practices in the AI arena. It contains material on alternative investments that Level I candidates need to know as they prepare for the exam. With coverage of everything from the characteristics of various strategies within each alternative asset class to portfolio management concepts central to alternative investments, the information found here will help you build a solid foundation of knowledge about AI markets.

This comprehensive resource: Uses investment analytics to examine each alternative asset classExamines quantitative techniques used by investment professionalsAddresses the unique attributes associated with the alternative investment spaceIs supplemented by study materials available at www.caia.org/candidates

Since its inception in 2002, the CAIA Charter Program's diverse curriculum has benefited a wide array of professionals--from institutional investors, investment advisers, AI fund managers, and administrators to accountants, lawyers, and academics.

The CAIA Association is an independent, not-for-profit, global organization committed to education and professionalism in the field of alternative investments. It offers two exams (Level I and Level II) to financial professionals in this growing area. Upon successful completion of the two exams and other requirements, individuals are qualified to be designated as Chartered Alternative Investment Analyst (CAIA) Charterholders. The CAIA Association has members from over eighty countries on six continents.
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Back cover copy

Praise forAlternative InvestmentsCAIA Level 1THIRD EDITION

"By reading CAIA's Alternative Investments: CAIA Level I, an aspiring investment analyst can quickly get up to speed on all foundational concepts of alternative investments. As a result, CAIA's book is a wonderful foundation of knowledge for anyone coming into the alternative investments industry."--Hilary Till, Principal, Premia Capital Management, LLC; Co-Editor, Intelligent Commodity Investing

"Alternatives--such as hedge funds, private equity, and real estate--are an increasingly critical part of the investment portfolios of family offices, pensions, and other institutions. Yet many features of these asset classes remain shrouded in mystery. This book provides a broad yet thoughtful introduction to the spectrum of alternative investments."--Josh Lerner, Jacob H. Schiff Professor of Investment Banking, Harvard Business School

"The CAIA Association has set a new bar for excellence in alternative investments. Alternative Investments: CAIA Level 1 is an absolutely invaluable asset no matter what level of experience you have with alternative investments. The second edition currently sits on my desk, with dozens of sticky notes peeking out."--Daniel Kerbach, CAIA, Head Global Portfolio Management, Julius Baer Group

"CAIA is the leader in alternatives education and Deutsche Asset & Wealth Management is proud to endorse its third edition of the Level I textbook.Alternative investments can be a critical component of client portfolios. Ina time of market uncertainty, demographic changes, and enhanced regulatoryrequirements, we believe that a greater understanding of alternative investmentsis essential before they can be integrated into institutional and privateportfolios. This book fills that important need."--Theresa Gusman, Managing Director/Chief Knowledge Officer, Deutsche Asset & Wealth Management
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Table of contents

Preface xiii


Acknowledgments xvii


About the Authors xix


PART 1 Introduction to Alternative Investments


CHAPTER 1 What Is an Alternative Investment? 3


1.1 Alternative Investments by Exclusion 3


1.2 Alternative Investments by Inclusion 4


1.3 Structures among Alternative Investments 8


1.4 Investments Are Distinguished by Return Characteristics 12


1.5 Investments Are Distinguished by Methods of Analysis 15


1.6 Investments Are Distinguished by Other Factors 18


1.7 Goals of Alternative Investing 18


1.8 Overview of This Book 20


Review Questions 21


CHAPTER 2 The Environment of Alternative Investments 23


2.1 The Participants 23


2.2 Financial Markets 30


2.3 Regulatory Environment 32


2.4 Liquid Alternative Investments 37


2.5 Taxation 40


Review Questions 43


CHAPTER 3 Quantitative Foundations 45


3.1 Return and Rate Mathematics 45


3.2 Returns Based on Notional Principal 47


3.3 Internal Rate of Return 50


3.4 Problems with Internal Rate of Return 54


3.5 Distribution of Cash Waterfall 60


Review Questions 69


CHAPTER 4 Statistical Foundations 71


4.1 Return Distributions 71


4.2 Moments of the Distribution: Mean, Variance, Skewness, and Kurtosis 74


4.3 Covariance, Correlation, Beta, and Autocorrelation 79


4.4 Interpreting Standard Deviation and Variance 88


4.5 Testing for Normality 95


4.6 Time-Series Return Volatility Models 98


Review Questions 100


CHAPTER 5 Measures of Risk and Performance 101


5.1 Measures of Risk 101


5.2 Estimating Value at Risk (VaR) 105


5.3 Ratio-Based Performance Measures 111


5.4 Risk-Adjusted Return Measures 117


Review Questions 120


CHAPTER 6 Foundations of Financial Economics 121


6.1 Informational Market Efficiency 121


6.2 Single-Factor and Ex Ante Asset Pricing 124


6.3 Multifactor and Empirical Models 129


6.4 Arbitrage-Free Models 135


6.5 The Term Structure of Forward Contracts 142


6.6 Option Exposures 147


6.7 Option Pricing Models 153


6.8 Option Sensitivities 155


Review Questions 157


CHAPTER 7 Benchmarking and Performance Attribution 159


7.1 Benchmarking 159


7.2 Types of Models 162


7.3 Performance Attribution 165


7.4 Distinctions Regarding Alternative Asset Benchmarking 169


Review Questions 172


CHAPTER 8 Alpha, Beta, and Hypothesis Testing 175


8.1 Overview of Beta and Alpha 175


8.2 Ex Ante versus Ex Post Alpha 177


8.3 Inferring Ex Ante Alpha from Ex Post Alpha 180


8.4 Return Attribution, Alpha, and Beta 182


8.5 Ex Ante Alpha Estimation and Return Persistence 185


8.6 Return Drivers 186


8.7 Using Statistical Methods to Locate Alpha 188


8.8 Sampling and Testing Problems 193


8.9 Statistical Issues in Analyzing Alpha and Beta 197


Review Questions 201


CHAPTER 9 Regression, Multivariate, and Nonlinear Methods 203


9.1 Single-Factor Models and Regression 203


9.2 Multifactor Models and Regression 208


9.3 Three Dynamic Risk Exposure Models 210


9.4 Two Approaches to Modeling Changing Correlation 212


9.5 Four Multifactor Approaches to Understanding Hedge Fund Returns 215


9.6 Evidence on Fund Performance Persistence 219


Review Questions 221


PART 2 Real Assets


CHAPTER 10 Natural Resources and Land 225


10.1 Natural Resources Other Than Land 225


10.2 Land 230


10.3 Timber and Timberland 236


10.4 Farmland 238


10.5 Valuation and Volatility of Real Assets 242


10.6 Historical Risks and Returns 246


Review Questions 249


CHAPTER 11 Commodity Forward Pricing 251


11.1 Forward Contracts versus Futures Contracts 251


11.2 Rolling Contracts 259


11.3 The Term Structure of Forward Prices on Commodities 260


11.4 Backwardation and Contango 266


11.5 Returns on Forward Contracts 270


Review Questions 275


CHAPTER 12 Commodities: Applications and Evidence 277


12.1 Commodity Investing for Diversification 277


12.2 Commodity Investing for Return Enhancement 280


12.3 Investing in Commodities without Futures 282


12.4 Commodity Exposure through Futures Contracts 287


12.5 Commodity Futures Indices 294


12.6 Commodity Risks and Returns 296


12.7 Historical Risks and Returns 298


Review Questions 301


CHAPTER 13 Operationally Intensive Real Assets 303


13.1 Commodity Producers 303


13.2 Liquid Alternative Real Assets 306


13.3 Infrastructure 309


13.4 Intellectual Property 315


Review Questions 319


CHAPTER 14 Liquid and Fixed-Income Real Estate 321


14.1 Real Estate as an Investment 321


14.2 Residential Mortgages 323


14.3 Commercial Mortgages 333


14.4 Mortgage-Backed Securities Market 335


14.5 Liquid Alternatives: Real Estate Investment Trusts 341


14.6 Historical Risks and Returns of Mortgage REITs 342


Review Questions 345


CHAPTER 15 Real Estate Equity Investments 347


15.1 Real Estate Development 347


15.2 Valuation and Risks of Real Estate Equity 351


15.3 Alternative Real Estate Investment Vehicles 358


15.4 Real Estate and Depreciation 364


15.5 Real Estate Equity Risks and Returns 370


15.6 Historical Risks and Returns of Equity REITs 374


Review Questions 377


PART 3 Hedge Funds


CHAPTER 16 Structure of the Hedge Fund Industry 381


16.1 Distinguishing Hedge Funds 381


16.2 Hedge Fund Fees 387


16.3 Hedge Fund Classification 400


16.4 Hedge Fund Returns and Asset Allocation 402


16.5 Evaluating a Hedge Fund Investment Program 407


16.6 Do Hedge Funds Adversely Affect the Financial Markets? 410


16.7 Hedge Fund Indices 412


16.8 Conclusion 420


Review Questions 420


CHAPTER 17 Macro and Managed Futures Funds 423


17.1 Major Distinctions between Strategies 423


17.2 Global Macro 425


17.3 Returns of Macro Investing 429


17.4 Managed Futures 431


17.5 Systematic Trading 435


17.6 Systematic Trading Strategies 438


17.7 Evidence on Managed Futures Returns 448


17.8 Analysis of Historical Returns Conclusion 455


Review Questions 457


CHAPTER 18 Event-Driven Hedge Funds 459


18.1 The Sources of Most Event Strategy Returns 459


18.2 Activist Investing 462


18.3 Merger Arbitrage 473


18.4 Distressed Securities Funds 482


18.5 Event-Driven Multistrategy Funds 495


Review Questions 498


CHAPTER 19 Relative Value Hedge Funds 499


19.1 Overview of Relative Value Strategies 499


19.2 Convertible Bond Arbitrage 500


19.3 Volatility Arbitrage 518


19.4 Fixed-Income Arbitrage 532


19.5 Relative Value Multistrategy Funds 543


Review Questions 546


CHAPTER 20 Equity Hedge Funds 547


20.1 Sources of Return 548


20.2 Market Anomalies 552


20.3 The Fundamental Law of Active Management 558


20.4 Implementing Anomaly Strategies 561


20.5 The Three Equity Strategies 565


20.6 Equity Hedge Fund Risks 577


Review Questions 580


CHAPTER 21 Funds of Hedge Funds 583


21.1 Overview of Funds of Hedge Funds 583


21.2 Investing in Multistrategy Funds 592


21.3 Investing in Funds of Hedge Funds 594


21.4 Investing in Portfolios of Single Hedge Funds 598


21.5 Multialternatives and Other Hedge Fund Liquid Alternatives 598


21.6 Historical Returns of Funds of Funds 604


Review Questions 608


PART 4 Private Equity


CHAPTER 22 Introduction to Private Equity 613


22.1 Private Equity Terminology and Background 613


22.2 Private Equity as Equity Securities 616


22.3 Private Equity as Debt Securities 620


22.4 Private Equity Liquid Alternatives 625


22.5 Trends and Innovations in Private Equity 630


Review Questions 635


CHAPTER 23 Equity Types of Private Equity 637


23.1 Contrasts between Venture Capital and Buyouts 637


23.2 The Underlying Businesses of Venture Capital 638


23.3 Venture Capital Funds 639


23.4 The Dynamics of Venture Capital 642


23.5 Venture Capital Risks and Returns 648


23.6 Types of Buyouts 652


23.7 Leveraged Buyout Details 655


Review Questions 665


CHAPTER 24 Debt Types of Private Equity 667


24.1 Mezzanine Debt 667


24.2 Distressed Debt 675


Review Questions 681


PART 5 Structured Products


CHAPTER 25 Introduction to Structuring 685


25.1 Overview of Financial Structuring 685


25.2 Major Types of Structuring 686


25.3 The Primary Economic Role of Structuring 687


25.4 Collateralized Mortgage Obligations 689


25.5 Structural Model Approach to Credit Risk 697


25.6 Introduction to Collateralized Debt Obligations 703


Review Questions 707


CHAPTER 26 Credit Risk and Credit Derivatives 709


26.1 An Overview of Credit Risk 709


26.2 Reduced-Form Modeling of Credit Risk 710


26.3 Credit Derivatives Markets 717


26.4 Credit Default Swaps 720


26.5 Other Credit Derivatives 728


26.6 CDS Index Products 731


26.7 Five Key Risks of Credit Derivatives 732


Review Questions 734


CHAPTER 27 CDO Structuring of Credit Risk 737


27.1 Overview of CDO Variations 737


27.2 Balance Sheet CDOs and Arbitrage CDOs 740


27.3 Mechanics of and Motivations for an Arbitrage CDO 742


27.4 Cash-Funded CDOs versus Synthetic CDOs 744


27.5 Cash Flow CDOs versus Market Value CDOs 748


27.6 Credit Enhancements 749


27.7 Developments in CDOs 751


27.8 Risks of CDOs 752


Review Questions 757


CHAPTER 28 Equity-Linked Structured Products 759


28.1 Structured Products and Six Types of Wrappers 759


28.2 Four Potential Tax Effects of Wrappers 760


28.3 Structured Products with Exotic Option Features 763


28.4 Global Structured Product Cases 770


28.5 Structured Product Pricing 775


28.6 Motivations of Structured Products 778


Review Questions 780


PART 6 Risk Management and Portfolio Management


CHAPTER 29 Cases in Tail Events 783


29.1 Problems Driven by Market Losses 783


29.2 Trading Technology and Financial Crises 790


29.3 Failures Driven by Fraud 792


29.4 Four Major Lessons from Cases in Tail Events 799


Review Questions 799


CHAPTER 30 Investment Process, Operations, and Risk 801


30.1 Investment Strategy and Process 801


30.2 Investment Process and Market Risk 803


30.3 The Three Internal Fund Activities 805


30.4 Operational Risk 806


30.5 Controlling Operational Risk 808


30.6 Controlling Risk of Portfolios with Options 812


Review Questions 814


CHAPTER 31 Due Diligence of Fund Managers 815


31.1 Due Diligence Evidence and Organization 815


31.2 Screening with Three Fundamental Questions 816


31.3 Structural Review 820


31.4 Strategic Review 824


31.5 Administrative Review 827


31.6 Performance Review 829


31.7 Portfolio Risk Review 835


31.8 Legal Review 838


31.9 Reference Review 841


31.10 Evidence on Operational Risk 842


Review Questions 843


CHAPTER 32 Portfolio Management, Alpha, and Beta 845


32.1 Alpha and Smart Beta 845


32.2 The Estimation of Alpha and Beta 846


32.3 The Separation of Alpha and Beta 847


32.4 Portable Alpha 848


32.5 Alpha, Beta, and Portfolio Allocation 853


Review Questions 858


APPENDIX


Data Sources 859


Computations and Explanations 867


Index 875
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About Mark J. P. Anson

DR. DONALD R. CHAMBERS, CAIA, is the Associate Director of Programs at the CAIA Association, the Walter E. Hanson/KPMG Professor of Finance at Lafayette College in Easton, Pennsylvania, and Chief Investment Officer of Biltmore Capital Advisors. Dr. Chambers previously served as the Director of Alternative Investments at Karpus Investment Management. He is a member of the editorial board of The Journal of Alternative Investments.


DR. MARK J. P. ANSON, CAIA, CFA, CPA, PhD, JD, is a member of the CAIA Board of Directors and the President and Chief Investment Officer of the Bass Family Office winner of the Family Office of the Year award for 2014 2015. Dr. Anson previously served as President and Executive Director of Investment Services at Nuveen Investments Inc., Chief Executive Officer of both the British Telecom Pension Scheme and its wholly owned asset management company in London, Hermes Pension Management Limited, and Chief Investment Officer at California Public Employees' Retirement System. He has published over 100 research articles in professional journals, has won two Best Paper Awards, is the author of six financial textbooks, and sits on the editorial boards of several financial journals.


DR. KEITH H. BLACK, CAIA, is the Managing Director of Curriculum and Exams at the CAIA Association. He was previously an Associate at Ennis Knupp and, before that, an Assistant Professor at Illinois Institute of Technology. He is a member of the editorial board of The Journal of Alternative Investments.


DR. HOSSEIN KAZEMI, is a senior adviser to the CAIA Association. He is Michael and is Michael and Cheryl Philipp Professor of Finance at the University of Massachusetts Amherst, the Director of the Center for International Securities & Derivatives Markets, a co-founder of the CAIA Association, and the Editor-in-Chief of The Journal of Alternative Investments, the official publication of the CAIA Association.
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