CAIA LEVEL 1 FINAL PAPER 2026 ACTUAL
EXAM QUESTIONS AND SOLUTIONS TESTED
AND GRADED A+
◉ fund legal documents. Answer: The subscription agreement
determines if a potential investor meets the legal requirements to invest
in a fund by asking the investor a set of questions. The offering
documents explain the potential trading strategies and associated risks of
a fund. The partnership agreement describes the legal framework of the
partnership and the terms and conditions for all parties in a fund. The
management company operating agreement defines the responsibilities
of the limited partnership members and of the fund.
◉ market types. Answer: primary - relate to the sale of newly issued
securities (including secondary issues and securitizations)
secondary - where securities trade after their initial issuance; consist of
both physical exchanges and OTC markets
third - a subset of the OTC market where participants make markets in
and trade exchange-listed securities
fourth - describe the direct exchange of securities between investors
without using the services of a broker/intermediary; facilitated by
electronic communication network (ECN)
,◉ Federal Reserve leverage rule. Answer: The standard Federal Reserve
leverage rule requires a deposit of at least 50% of the purchase cost/short
sale proceeds of a trade, or margin transaction. Alternative investment
managers that seek higher levels of leverage must avoid falling under
this rule by registering as a broker-dealer, using a joint back office
account, or relying on a broker-dealer that is located offshore.
◉ four categories of institutional-quality alternative assets. Answer: real
assets, hedge funds, private equity, structured products
◉ five structures that describe alternative assets. Answer: regulatory,
securities, trading, compensation, and institutional
◉ alternative investments risk and return characteristics. Answer: 1.
diversification - seen as diversifiers
2. illiquidity - liquidity risk premia
3. inefficiency - not all information is incorporated into prices
4. non-normal returns
◉ primary goals of investing in alternative investments. Answer: 1.
active management - create better risk and return combinations not
found in passive investing
2. generate absolute and relative returns
3. arbitrage, return enhancement, and diversification
,◉ forms of market efficiency. Answer: weak form efficiency - asset
prices reflect all available historical data on prices and volumes; cannot
earn superior returns using technical analysis
semistrong form efficiency - asset prices reflect all publicly available
information; cannot earn superior returns with either technical or
fundamental analysis
strong from efficiency - asset prices reflect all publicly and privately
available information; no investor can earn superior returns
market efficiency affected by: asset size, trade frequency, trading
frictions, regulations, information access, valuation accuracy
◉ multifactor asset pricing model. Answer: describes the relationship
between expected returns of assets and the assets' exposures to multiple
risk factors, and therefore better explain systematic risk than single
factor models
risk factors are derived theoretically (logic that captures behavior) or
empirically (historically observed)
, application to non-equity alternative investments has been limited e.g.
CAPM cannot explain alternative asset pricing because alternatives have
large idiosyncratic risks that are not easily diversified away
◉ Fama French. Answer: empirical multifactor model based on three
factors: market beta, market capitalization (SMB), and book-to-market
ratio (HML)
subsequently added the Carhart momentum factor (UMD)
◉ cost of carry model of forward contract pricing. Answer: cost of carry
refers to the cost involved with holding an asset until expiration of the
forward contract and includes both the cost of storing the asset and the
opportunity costs associated with using capital to purchase the asset
any difference between the spot and forward price is due to the cost of
carry, which causes the term structure of forward prices to have a slope
(arbitrage ensures this)
the costs and benefits of direct ownership today versus derivatives
ownership (in the future via a forward) determines the arbitrage-free
pricing relationships between underlying assets and their associated
forward contracts: costs of direct ownership today (opportunity cost of
capital and storage costs of a commodity) are added to the spot price
(because these are costs not borne by the investor when asset is
purchased forward) and benefits of direct ownership (dividends or
EXAM QUESTIONS AND SOLUTIONS TESTED
AND GRADED A+
◉ fund legal documents. Answer: The subscription agreement
determines if a potential investor meets the legal requirements to invest
in a fund by asking the investor a set of questions. The offering
documents explain the potential trading strategies and associated risks of
a fund. The partnership agreement describes the legal framework of the
partnership and the terms and conditions for all parties in a fund. The
management company operating agreement defines the responsibilities
of the limited partnership members and of the fund.
◉ market types. Answer: primary - relate to the sale of newly issued
securities (including secondary issues and securitizations)
secondary - where securities trade after their initial issuance; consist of
both physical exchanges and OTC markets
third - a subset of the OTC market where participants make markets in
and trade exchange-listed securities
fourth - describe the direct exchange of securities between investors
without using the services of a broker/intermediary; facilitated by
electronic communication network (ECN)
,◉ Federal Reserve leverage rule. Answer: The standard Federal Reserve
leverage rule requires a deposit of at least 50% of the purchase cost/short
sale proceeds of a trade, or margin transaction. Alternative investment
managers that seek higher levels of leverage must avoid falling under
this rule by registering as a broker-dealer, using a joint back office
account, or relying on a broker-dealer that is located offshore.
◉ four categories of institutional-quality alternative assets. Answer: real
assets, hedge funds, private equity, structured products
◉ five structures that describe alternative assets. Answer: regulatory,
securities, trading, compensation, and institutional
◉ alternative investments risk and return characteristics. Answer: 1.
diversification - seen as diversifiers
2. illiquidity - liquidity risk premia
3. inefficiency - not all information is incorporated into prices
4. non-normal returns
◉ primary goals of investing in alternative investments. Answer: 1.
active management - create better risk and return combinations not
found in passive investing
2. generate absolute and relative returns
3. arbitrage, return enhancement, and diversification
,◉ forms of market efficiency. Answer: weak form efficiency - asset
prices reflect all available historical data on prices and volumes; cannot
earn superior returns using technical analysis
semistrong form efficiency - asset prices reflect all publicly available
information; cannot earn superior returns with either technical or
fundamental analysis
strong from efficiency - asset prices reflect all publicly and privately
available information; no investor can earn superior returns
market efficiency affected by: asset size, trade frequency, trading
frictions, regulations, information access, valuation accuracy
◉ multifactor asset pricing model. Answer: describes the relationship
between expected returns of assets and the assets' exposures to multiple
risk factors, and therefore better explain systematic risk than single
factor models
risk factors are derived theoretically (logic that captures behavior) or
empirically (historically observed)
, application to non-equity alternative investments has been limited e.g.
CAPM cannot explain alternative asset pricing because alternatives have
large idiosyncratic risks that are not easily diversified away
◉ Fama French. Answer: empirical multifactor model based on three
factors: market beta, market capitalization (SMB), and book-to-market
ratio (HML)
subsequently added the Carhart momentum factor (UMD)
◉ cost of carry model of forward contract pricing. Answer: cost of carry
refers to the cost involved with holding an asset until expiration of the
forward contract and includes both the cost of storing the asset and the
opportunity costs associated with using capital to purchase the asset
any difference between the spot and forward price is due to the cost of
carry, which causes the term structure of forward prices to have a slope
(arbitrage ensures this)
the costs and benefits of direct ownership today versus derivatives
ownership (in the future via a forward) determines the arbitrage-free
pricing relationships between underlying assets and their associated
forward contracts: costs of direct ownership today (opportunity cost of
capital and storage costs of a commodity) are added to the spot price
(because these are costs not borne by the investor when asset is
purchased forward) and benefits of direct ownership (dividends or
