CAIA LEVEL 2 FINAL EXAM PREP 2025/2026 ACCURATE QUESTIONS WITH CORRECT DETAILED ANSWERS || 100% GUARANTEED PASS <RECENT VERSION>

CAIA LEVEL 2 FINAL EXAM PREP 2025/2026 ACCURATE QUESTIONS WITH CORRECT DETAILED ANSWERS || 100% GUARANTEED PASS &lt;RECENT VERSION&gt; 1. Systematic Return and Idiosyncratic Return - ANSWER Systematic Return = Beta(Market Return - Risk Free Rate) 2. Idiosyncratic Return = Realized Return of an investment - Risk Free Rate - Systematic Return 3. Exponentially Smoothed Variance - ANSWER (1-Smoothing Factor) x previous variance + Smoothing Factor(Current Return - mean return)^2 4. True Price - ANSWER (1/Reported Price change) x Reported Price 5. Risk os asset based lending - ANSWER Collateral valuation People processes Hedging Legal Exit timing risks 6. Christory, Daul, Girauds Study - ANSWER A diversified portfolio of at least 40 funds provides reasonable diversification against operational risk 7. Hard Lockup period - ANSWER Does not allow investors to make any withdrawals during the lockup period 8. Capacity Constraint hypothesis - ANSWER Is based on alpha being a zero-sum game 9. Value of assets with Dividends - ANSWER =Div/(k-g) 10. Omega Ratio - ANSWER (Difference of the upper movements/(Difference of the lower movements) 11. Meta risks are qualitative risks not captured by specific and measurable financial risks. events. - ANSWER They include organizational and human behavior, moral hazard, the misuse and excessive dependence on quantitative methods, market interaction, and extreme capital market 12. A distressed securities strategy is most likely to earn returns from liquidity risk. - ANSWER Global macro and equity long/short are most likely to earn returns from directional market risks. 13. The three most important factors when reviewing a fund's investment objectives are: - ANSWER 1) the markets and assets in which the manager invests, 2) the manager's investment strategy, and 3) any applicable benchmarks. 14. The total return index is a fully collateralized strategy, with collateral in the form of Treasury bills. The returns of the total return index, therefore, include the cash return from the collateral, which is called the collateral yield. - ANSWER The excess return index measures the returns over (above) cash returns. It is not a collateralized strategy 15. The advisor can take advantage of the cross-margin benefit by posting the full margin account in one currency. This process is known as the single currency margining.. - ANSWER The futures clearinghouse then manages the conversion of that currency into a different currency 16. Arguments supporting desk reviews include: - ANSWER (1) lower due diligence costs relative to going on site, (2) shorter review times, and (3) equivalent information as information compiled on site 17. Determining asset allocation percentages, including - ANSWER caps and floors, primarily considers absolute asset allocation size, relative asset allocation size, and liquidity 18. Investment warning indicators and awareness signals include: (1) a lack of transparency by the manager, (2) investment returns not consistent with the investment strategy, (3) an unclear investment process, and (4) inadequate controls and inadequate segregation of duties. - ANSWER Risk management warning indicators and awareness signals include: (1) significant concentration in investments, (2) lack of adequate knowledge by the investment staff, (3) investment strategy drift, and (4) overly complicated investment descriptions or lack of transparency 19. The relationship between the number of SWFs created and oil prices is similar to the relationship - ANSWER between IPO issuance and the strength of equity markets. 20. The median account is not a valid benchmark because - ANSWER it is not investable. 21. In its broader interpretation, market risk includes both systematic (i.e., general market) risks and asset-specific (i.e., unsystematic) risks. - ANSWER General market risk includes changes in interest rates, market prices, and market conditions. Synergistic risk reflects the combined magnified impact of two or more risks. 22. Because higher volatility means lower asset returns and returns are negatively correlated with market volatility, long positions in equities are short volatility (short vol). - ANSWER While lower volatility does relate to higher asset returns, long equity positions are not long volatility 23. Private real estate investments, on a risk-adjusted basis, do not seem to offer illiquidity premiums to investors. - ANSWER Public real estate investments have no term limits, lower initial offering expenses, lower overall fees than private investments, and have outperformed private real estate given the fees charged for each type of investment 24. Producers who are hedging will take long positions to protect against rising input costs (like raw materials) and short positions to hedge against falling output prices. - ANSWER Producers will most likely go long on the commodities used in their production process and go short on the commodities they are looking to sell 25. Asset owners typically have three responsibilities. They must: (1) frame the investment strategy, (2) oversee the implementation of the strategy, and (3) orchestrate the investment process. - ANSWER Taking management in house may be an option if an asset owner is dissatisfied with the commitment or performance of the asset manager, but that is not a responsibility of the asset owner. The asset owner may not have the skills and resources for insourcing investment management 26. Best practices in risk management should outline the level of detail, frequency and specific individuals receiving the reports. The level of data frequency relies on the availability and purpose of data collection rather than the nature of data and data collection's associated risk. - ANSWER The efficiency of risk measurement is further optimized using an exception report not an efficiency report. Detailed information is collected daily and reported to senior management on a quarterly basis not a daily basic 27. A real estate operating company (REOC) is publicly traded and takes all income earned and reinvests it in the firm rather than paying it out in dividends. The investment flexibility is greater than it is in a real estate investment trust (REIT). - ANSWER REITs provide tax advantages because they are required to pay out a significant portion of their earnings to investors, whereas REOCs do not have this requirement and therefore do not provide the same tax advantages. The management focus for REOCs tends to be long term relative to REITs 28. Capital at risk may overstate risk because it does not account for long and short positions. When significant price changes occur, these long and short positions offset one another, making it unlikely that all positions will hit their stop-loss levels at the same time. - ANSWER Hence, by not accounting for long and short positions, capital at risk tends to overstate risk levels. 29. Valuation of side pocket investments (illiquid) is usually done. - ANSWER less frequently and less accurately compared to computing the net asset value (NAV) of the liquid portion of the hedge fund 30. Funded Status - ANSWER Assets/Projected Benefit Obligation (PBO) 31. Split strike conversion strategy - Used by Bernie Madoff - ANSWER 1) buy underlying asset 2) write a call at the higher of two strikes 3) buy a put at the lower of two strikes 32. Value at Risk (VaR) - ANSWER If calculated at 95% VAR- (1.645 x SD) + Average Return If Calculated at 99% VAR- (1.96 x SD) + Average Return 33. # of Future Contracts for Portable Alpha - ANSWER (Value of Hedged Position x Beta)/ (Index Value x Multiplier) 34. Value if asset with dividends - ANSWER Div/(K-g) 35. Capacity Constraint Hypothesis - ANSWER Claims alpha is a zero-sum game and that more managers pursuing alpha dilute superior performance. 36. Total Value Paid in Ratio (TVPI) - ANSWER DPI + RVPI 37. Where DPI = Sum of all distributions/Sum of all Contributions 38. BDT averaged short-rate total return - ANSWER .5(1 + r)[(1 + ru) + (1 +rd)] - 1 39. Recovery Rate - ANSWER PV of sum to be recovered/EAD 40. Adjusted Mean Return - ANSWER Mean Return - (Liquidity Preference - Liquidity Level) 41. Total Portfolio Risk - ANSWER Sum of Marginal contributions(MCs) to risk 42. Internal Constraints set by asset owners - ANSWER 1. Liquidity 2. Time horizon 3. Country & Sector Limits 43. 4 Factors that affect the Value if a pensions plans liabilities - ANSWER 1. Interest rates 2. Inflation 3. Retirement Cycle 4. Mortality Rate 44. The Change in Value of a Pension Plans PBO (% change in Liabilities) - ANSWER -Modified Duration x Change in Yield 45. Macro factors that drive the performance of family offices - ANSWER 1. Real Returns 2. Inflation 3. Growth 4. Risk Premium 46. Free Cash Flow to Firm - ANSWER Net Income + Non Cash Charges [Interest Expense x (1 - Tax Rate)] -Investments in Fixed assets & Working Capital 47. Forward Exchange - Formula - ANSWER (1 + Rf)^t / (1 + Rd)^t 48. overcommitment ratio - ANSWER Total Commitments/Resources available for commitment 49. Information Ratio - ANSWER Information Coefficient x the Square Root of Breadth 50. Fixed Charge Coverage Ratio - ANSWER (EBIT + Fixed Charges) / (Interest + Fixed Charges) 51. Ticking Fee - ANSWER A ticking fee is a payment paid by the borrower to the lender to account for the time lag between the commitment on a loan and the actual disbursement. 52. Total coupon rate - ANSWER Libor + Spread 53. Know, According to Bodoff and Gan the Spread equation equals 3.33% + (Slope Coefficient x Expected Loss) 54. Three types of Firms that Publish ESG Ratings - ANSWER 1. Major Financial Firms 2. MAJOR index Providers 3. major Financial Rating Firms 55. Expected Return on Equities - ANSWER Short term real Risk Free Return + Expected Inflation + Risk Premium 56. Merton Model Inputs - ANSWER Debt maturity Assets Firms leverage Riskless interest rate 57. Bond Price - Formula - ANSWER Ke^(rate x default intensity) x T 58. With RR: Ke^-[rate + default intensity(1 - RR)] x T 59. Degree of Risk Aversion - ANSWER (Expected Return - Risk Free rate)/Variance 60. Marginal Contribution - ANSWER SD/Weight 61. PV of A growth Annuity - ANSWER [Initial Payment/(Rate-Growth)/{1 [(1-Growth)/(1-Rate)]^N} 62. Parity - ANSWER Stock Price x Conversion Ratio 63. Binomial Tree Up & Down Factors - ANSWER Up=e^(SD x square root of Time) Down = 1/UP 64. Up Risk Neutral Probability - ANSWER (Rate - Down Factor)/ (Up Factor - Down Factor) 65. Where Rate = 1+ the Risk Free Rate 66. Glamour Investors - ANSWER Under react to bad new and over react to good news 67. Signal-to-noise ratio (SNR) - ANSWER Larger SNR values have stronger signal Strength (ie., larger numerator) in relation to noise level (ie. the denominator) 68. Fung and Hsieh (1997) - ANSWER Traditional Asset class returns explain less than 25% of the returns on many hedge funds 69. co-integration approach - ANSWER Identified whethery a linear combination of two non-stationary time-series variables is stationary. The approach is used to find candidate pairs for pairs trading. 70. covered interest rate parity - ANSWER (1 + r_D) / (1 + r_F) where: D = Domestic F = Foreign 71. The monitoring cost and due diligence costs are also lower for replication products which allows investors to capture a higher proportion of gross returns. 83% of gross returns flow to investors of hedge fund replication products. - ANSWER In contrast, investors typically only retain 50% to 63% of gross returns for funds of hedge funds 72. The bottom-up approach only works for well-defined systematic trading strategies - ANSWER (e.g., merger arbitrage, convertible arbitrage, trend following, momentum, and value-growth strategies). 73. The Monte Carlos simulation model is commonly used to measure nonlinear risk exposures for alternative assets and strategies. Stress testing and scenario analysis are used to measure risk exposure probabilities for different risk management and hedging activities. - ANSWER Multifactor risk models are used with developed systems to analyze complex risk exposures. 74. The four mechanics of the fundamental valuation process include idea generation, optimal idea expression, sizing the position, and executing the trade. The optimal trade needed to exploit hidden value is the second step, which occurs after the idea generation step. - ANSWER The risk profile of the investor is considered in determining the trade size. Superior returns are unlikely to come from ideas that have already been widely publicized. Passive and aggressive trading strategies are implemented in the "executing the trade" step 75. A significant drawdown in a market-neutral strategy should not normally occur if a manager is sufficiently competent. In contrast, - ANSWER significant drawdowns in directional strategies such as credit, global macro, and especially short-only might be attributable to market risk as opposed to lack of skill 76. scores can be interpreted based on the following score ranges: - ANSWER Z &lt; 1.81: Default group 1.81 ≤ Z ≤ 2.99: Gray zone Z &gt; 2.99: Nondefault group 77. The four mechanics of the fundamental valuation process include idea generation, optimal idea expression, sizing the position, and executing the trade. The optimal trade needed to exploit hidden value is the second step, which occurs after the idea generation step. - ANSWER The risk profile of the investor is considered in determining the trade size. Superior returns are unlikely to come from ideas that have already been widely publicized. Passive and aggressive trading strategies are implemented in the "executing the trade" step 78. Portable alpha is a strategy of pursuing alpha from a benchmark other than the one used for beta management. - ANSWER Derivatives are primarily used to accomplish this task. 79. The threshold for the fixed-charge coverage ratio ((EBIT + fixed charge) / (fixed charge + interest)) is one. A ratio of less than one indicates that the firm is not generating enough cash to pay for its fixed costs. - ANSWER 80. The three advantages to using the hedonic pricing model are that it uses all observations, it is adaptable and can be structured to include any desired attributes, and it avoids backward adjustments of historical returns. - ANSWER While repeat sales are included in the observations used, they are not the only data points used 81. Funds often have minimum subscription requirements in order to (1) limit subscriptions to sophisticated investors with a significant tolerance for risk, and (2) limit reporting requirements by maintaining a small number of investors. - ANSWER Addressing capacity issues and size limitations is a rationale for maximum subscription amounts 82. Most reconciliations for liquid securities are usually done on a T+1 basis, - ANSWER which is one business day after the trade date. 83. Due diligence is viewed mainly as a means of information gathering and evaluation and a chance to meet the potential manager. - ANSWER Theoretically speaking, due diligence is not viewed as a decision-making tool, although in practice, due diligence is used to screen and eliminate funds that do not meet the investor's requirements and to accept those funds that do meet the requirements 84. The hedonic pricing method (HPM) is used to determine the overall value of a property by estimating the values of unique attributes that are associated with each property. These attributes are things like location, size, vintage, number of rooms, tax jurisdiction, school district, etc. - ANSWER The steps to calculating a hedonic price index include modeling value as a function of observable price characteristics (or attributes), using sample prices from recent transactions, and estimating values for properties in the index that did not transact. Discounting each attribute using an appropriate risk-adjusted rate is not a step in the calculation 85. The funded status is calculated as market value of assets minus projected benefit obligation. - ANSWER A decrease in the actual rate of return will lower the market value of assets, thereby decreasing funded status.