Question 1

A restriction under which investors cannot withdraw their funds for as long as several months or years is called ________.

Accepted Answer

A)  transparency 
B)  a lock-up period 
C)  a back-end load 
D)  convertible arbitrage

Question 2

Which of the following are not managed investment companies?

Accepted Answer

A)  hedge funds 
B)  unit investment trusts 
C)  closed-end funds 
D)  open-end funds

Question 3

Which of the following investment styles could be the best description of the Long Term Capital Management market-neutral strategies?

Accepted Answer

A)  convergence arbitrage 
B)  statistical arbitrage 
C)  pairs trading 
D)  convertible arbitrage

Question 4

What strategy might a hedge fund use to take advantage of positive alpha in a long equity position?

Accepted Answer

A)  short sell the security with positive alpha 
B)  leverage and use the proceeds to go long in the alpha security 
C)  create a neutral position and gain from the alpha value increase 
D)  reduce reliance on margin

Question 5

A ________ is a private investment pool open only to wealthy or institutional investors that is exempt from SEC regulation and can therefore pursue more speculative policies than mutual funds.

Accepted Answer

A)  commingled pool 
B)  unit trust 
C)  hedge fund 
D)  money market fund

Question 6

You manage a $15 million hedge fund portfolio with beta = 1.2 and alpha = 2% per quarter. Assume the risk-free rate is 2% per quarter and the current value of the S&P 500 Index is 1,200. You want to exploit the positive alpha, but you are afraid that the stock market may fall and you want to hedge your portfolio by selling 3-month S&P 500 future contracts. The S&P contract multiplier is $250.
How much is the portfolio expected to be worth 3 months from now?

Accepted Answer

A)  $15,000,000 
B)  $15,450,000 
C)  $15,600,000 
D)  $16,000,000

Question 7

Portfolio A has a beta of .2 and an expected return of 14%. Portfolio B has a beta of .5 and an expected return of 16%. The risk-free rate of return is 10%. If you manage a long-short equity fund and want to take advantage of an arbitrage opportunity, you should take a short position in portfolio ________ and a long position in portfolio ________.

Accepted Answer

A)  A; A 
B)  A; B 
C)  B; A 
D)  B; B

Question 8

A hedge fund owns a $15 million bond portfolio with a modified duration of 11 years and needs to hedge risk, but T-bond futures are available only with a modified duration of the deliverable instrument of 10 years. The futures are priced at $105,000. The proper hedge ratio to use is ________.

Accepted Answer

A)  143 
B)  157 
C)  196 
D)  218

Question 9

A 1-year oil futures contract is selling for $74.50. Spot oil prices are $68, and the 1-year risk-free rate is 3.25%.
The arbitrage profit implied by these prices is ________.

Accepted Answer

A)  $6.50 
B)  $5.44 
C)  $4.29 
D)  $3.25

Question 10

A hedge fund has $150 million in assets at the beginning of the year and 10 million shares outstanding throughout the year. Throughout the year assets grow at 12%. The fund charges a 3% management fee on the assets. The fee is imposed on year-end asset values. What is the end-of-year NAV for the fund?

Accepted Answer

A)  $15 
B)  $15.60 
C)  $16.30 
D)  $17.55

Question 11

Hedge fund managers receive incentive bonuses when they increase portfolio assets beyond a stipulated benchmark but lose nothing when they fail to perform. This is equivalent to ________.

Accepted Answer

A)  writing a call option 
B)  receiving a free call option 
C)  writing a put option 
D)  receiving a free put option

Question 12

A typical traditional initial investment in a hedge fund generally is in the range between ________ and ________.

Accepted Answer

A)  $1,000; $5,000 
B)  $5,000; $25,000 
C)  $25,000; $250,000 
D)  $500,000; $1,000,000

Question 13

Research by Aragon (2007) indicates that lock-up restrictions tend to hold ________ portfolios.

Accepted Answer

A)  less liquid 
B)  more liquid 
C)  event-driven 
D)  shorter-maturity

Question 14

A market neutral hedge fund is likely to have ________.

Accepted Answer

A)  various derivative strategies designed to create stability 
B)  a low beta compared to other equity only investments 
C)  a beta well above 1.0 compared to other equity investments 
D)  a beta near 1.0

Question 15

Which of the following typically employ(s) significant amounts of leverage?
I. Hedge funds
II. Equity mutual funds
III. Money market funds
IV. Income mutual funds

Accepted Answer

A)  I only 
B)  I and II only 
C)  III and IV only 
D)  I, II, and III only

Question 16

You manage a hedge fund with $300 million in assets. Your fee structure provides for a 1% annual management fee with a 20% incentive on returns over a 12% benchmark. If the fund value, before fees, is $345 million at the end of the year, what is the net return to the investors?

Accepted Answer

A)  13.33% 
B)  13.40% 
C)  14.00% 
D)  14.42%

Question 17

Higher returns of equity hedge funds as compared to the S&P 500 Index reflect positive compensation for ________ risk.

Accepted Answer

A)  market 
B)  liquidity 
C)  systematic 
D)  interest rate

Question 18

You manage a hedge fund with $400 million in assets. Your fee structure provides for a 1% annual management fee with a 20% incentive on returns over an 8% benchmark. If the fund value is $445 million at the end of the year, what is your fee?

Accepted Answer

A)  $2,600,000 
B)  $4,000,000 
C)  $6,600,000 
D)  $8,400,000

Question 19

The collapse of the Long Term Capital Management hedge fund in 1998 was a case of an extremely unlikely statistical event called ________.

Accepted Answer

A)  statistical arbitrage 
B)  an unhedged play 
C)  a tail event 
D)  a liquidity trap

Question 20

Assume the risk-free interest rate is 10% and is equal to the fund's benchmark, the portfolio's net asset value is $100, and the fund's standard deviation is 20%. Also assume a time horizon of 1 year.
Assuming a 2% management fee and a 20% incentive bonus, what is the expected management compensation per share if the fund's net asset value exceeds the stated benchmark?

Accepted Answer

A)  $4.24 
B)  $4 
C)  $3.84 
D)  $2.20

Exam 20: Hedge Funds