Helpful Notes

CFA Level III
#61

381. Spread Duration = Duration - Contribution to duration from treasury securities

382. Discount liabilities using implied yield curve of port securities (AKA IRR). Using the treasury spot curve is very conservative way to do it.

383. Investment Impediments/Restricitions AKA “Segmentation” create relative value opportunities

384. Bottom up = credit plus, Top down = sovereign plus. Crossover sectors = BBB and BB credit quality

385. Combination Matching = Horizon Matching = Cash flow match first 5 years then immunized classically afterward.

386. Management fees are most important for fixed income where alpha is pretty much non-existant over the long term.

387. Adding an additional manager may be useful if their active return has a low correlation to port active return

388. Cash flow matching starts with last bond/liability and works backward. It does not require rebalancing

389. 3 major sources of hedging error: Incorrect duration calc, inaccurate projected basis values, inaccurate yield beta estimate

390. Factor exposures (beta/duration) are calculated as of DATE THE HEDGE IS LIFTED

#62

where do you see 386? You mean we don’t need acitve mutual fund fixed income manager? wink

#63

391. If downside deviation uses average annual return as the threshold return it is called semivariance. Con is uses half the dataset and is hard to compute. Another Con - Most bonds/options have skewed returns and characteristics that change over time. Therefore you cannot solely use either analytical VAR or semivariance for these types of investments as it relies on std dev. Historical VAR or monte Carlo VAR are both non parametric.

It says that shortfall risk is also nonparamentric but I’m really not sure how that’s accurate as in every IPS problem I’ve seen its expected return - 2 * std dev. Shortfall risk is also unfamiliar to clients

Both Shortfall Risk and VAR approaches do not account for magnitude of worst returns wheras semi-variance does.

392. Risk management is about setting appropriate levels of risk given firms expertise not eliminating risk

393. Market oriented can be the result of an unfocused process

Growth risk is that forecasted growth won’t materialize

Value risk is that prices are low for a reason

394. Total Return swaps avoid foreign dividend tax

395. Static Hedge - buy and hold to expiry. This obviously is a poorer hedge but has lower transaction costs than dynamic hedging. Larger the risk aversion, the more dynamic the hedge. If holding a foreign asset and the foreign currency is expected to weaken by less than the negative roll yield a risk NEUTRAL investor will not hedge. However a risk AVERSE investor will still hedge due to the risk of the forecast being wrong.

396. (Spread at Maturity - Strike Spread) * Notional * Risk Factor = Payoff from credit spread option

397. If there are capital controls covered interest rate parity will not hold. Thus Forward will not equal Spot * (1 + rf dom) / (1 + rf for)

398. Trade the foward rate bias = carry trade = a bet that UNCOVERED interest rate parity will not hold and you will capture all/part of the interest rate differential between the two countries without much currency movement offsetting gains

399. If hedging a foreign asset with a higher rf rate you will want to sell forward the base foreign currency to receive the price domestic currency.

Since Spot = (Domestic / Foreign), Forward Rate = Spot * (1 + domestic rf) / (1 + foreign rf)

Thus forward rate will be at a discount to spot.

Rule: If selling at a discount or buying at a premium you will have a negative roll yield approximately equal to the differentials between the rf rates.

If selling at a premium and buying at a discount you will have a positive roll yield approximately equal to the differential between rf rates.

Always ask yourself 3 questions

A. Am I hedging a foreign liability or a foreign asset? If a foreign asset you will want to sell forward the foreign currency. Your goal will be to lock in a rate you can convert that foreign asset back to your domestic currency.

If you have a foreign liability you will want to sell forward your domestic currency. Your goal will be to lock in a rate you can convert your domestic dollars to foreign money in order to pay off your foreign liability.

Selling forward Foreign = Buying Forward Domestic

Selling forward domestic = Buying Forward Foreign

B. What is the base currency? The base currency will always be the subject of the sentence unless otherwise stated. On the test they should tell you which one it should be. “For pound vs the euro” The pound will be the base currency.

C. What is the forward rate? Based upon A and B you should have all the info you will need to calculate the forward rate. Forward Rate = SPOT (P/B) * (1 + rf P) / (1 + rf B) Calculate the foward rate then apply the rule.

400. A 5% change in EUR/USD is not the same as a 5% change in USD/EUR

When calcuating the domestic return of a foreign asset the equation =

Domestic Return = (1 + Local Return) * (1 + currency return)

Currency Return = New Spot (Domestic / Foreign) / Old Spot (Domestic / Foreign) - 1

#64

386 is from a past AM guideline exam answer which was a trick question about expected future performance of a fixed income manager. I think it relates to the null hypothesis that managers have no skill and some evidence cited throughout the cirriculum about the persistance of outperformance.

#65

401. Passive Currency Hedge Goal = minimize tracking error - requires frequent monitoring/rebalance

Discretionary Currency Hedge Goal = small mismatches but goal is to reduce risk and make up for costs

Active Currency Hedge Goal = outperformance

Overlay Currency = Anything outsourced to another manager

402. Qualities that are more likely to make someone want to hedge currency:

Short term View

Short term liquidity need

more risk averse

unconcerned with opportunity cost

believe in active management

positive correlation between Rfx and Rfc

Using Bonds (as currency volatility makes up a large portion of a bonds overall volatility and Rfx and Rfc are correlated as interest rates will affect both)

*In equities there are little long term effects from hedging in a well diversified portfolio

403. Socially Responsible Investing (SRI)

Should be noted in unique and causes a bias to small caps and growth that may require either a custom bench or tilts to correct

404. 3 Reasons Shorts can Outperform Longs

A. Mgmt more likely to be too optimistic because they own shares/options of their own stock

B. Barriers to shorting exist (segmentation)

C. More likely to have buy recommendations than sell recommendations (as don’t want to tick off mgmt or large shareholders)

405. Long Short Mkt Neutral - Earns 2 alpha, symmetric opportunity set and thus more breadth thus higher info ratio, portable, efficient, systematic risk eliminated

406. Pro of equitized market neutral ----Return = Alpha + Beta + Collateral Yield

A. Suitable for highly efficient markets

B. Better idea of alpha cost

C. Can change beta leaving alpha manager undisturbed

Con - Alpha and beta not coordinated so less efficient.

407. Forecast for good healthcare sector so buy 8 healthcare stocks. Breadth = 1 not 8

408. Semi-active stock based is relative bench weights, has more breadth and higher info ratio than derivative based (which earns alpha via collateral managment)

409. 3 uses of market indexes = market proxy, basis for etfs, instructions for manager/consultant

410. ETFs Pro vs. index funds = trades all day, no fund level shareholder accounting, more tax efficient as selling ETF shares to another investor is not a taxable event for the ETF.

Con - has higher index licensing fees

#66

411. Equity is a better hedge against inflation than bonds but in certain industries where there is strong competitino not all of cost is passed on to consumer

412. Performance Evaluation purpose is feedback and exhaustive quality control check that helps focus attention on poor processes

413. Goal of ERM = comprehensive and optimally allocate risk to most profitable areas whle considering diversification/correlation of risks.

Place Responsibility on senior management, risk takers seperate from risk reporters, well trained staff, appropriate tech and timely reporting to decision makers, important to anticipate divergence of risk takers incentive with firm.

414. Capital allocation has dual objective of capital preservation and profit maximization

Nominal limits are easy to understand and calc but shouldn’t be used on a standalone basis

VAR Limit - can be supplement or alternative to nominal. Allocates based upon exposure. Only as accurate as VAR. Difficult to calculate and understand

Max Loss Limit - always crucial to have this in supplement to any process

Internal Capital Requirements - Uses 1% VAR, takes into account VAR diversification. Used firm-wide for liquidity purposes

Regulator Requirements - have to use.

415. Mega Cap Buyout - takes public company private. Middle Market Buyout - buys private then exits

416. Private Equity typically LP or LLC for limited liability benefit. 7 - 10 years with option to extend for 5. High illiquidity and must maintain cash for capital calls. Used as a return enhancer not a diversifier as returns linked to IPOs which are linked to market prices. LLC is best if you have a small knowledgable group of investors because it allows them to have more control.

Add Value in 3 ways - restructure operations/improve mgmt, buy company at discount to intrinsic value, increase/restructure leverage.

Raised money via private placement to wealth investors only which are likely to be pensions, endowments, foundation, family office

Have high due dilligence costs

TVPI = RVIP + DPI

Composite Market Value = PIC * RVPI

% of PIC returned to investors = DPI

Committed Capital = PIC / PIC Multiple

Use Since Inception IRR to compare PE Performance (vintage year matters if performance < 5 years)

417. AUM weighting of hedge fund index will cause index to take on characteristics of best performers as their values will increase and they will become higher weights. Also new money chases past performance causing AUM to increase as well. Can use equal weight to correct this bias but it comes at a cost of investability

418.Survivorship bias largest for currency / hedged equity hedge funds. This can be reduced via due dilligence or by using a FOF (but will get additional fee layer with FOF)

419. PE Distressed Debt has - Market Risk, J-Factor Risk (Judge), Liquidity Risk, Event Risk

If you have a high risk tolerance & long term horizon there is relatively low risk in long run with good opportunity for positive active returns due to segmentation (restrictions other investors have) and due to small sell side coverage.

Large negative Skew and Excess Kurtosis.

Long Reorganized Equity = Orphan Equity.

Long the bond short the stock = Distressed Debt Arbitrage. Does well if goes bankrupt as the stock will decline to 0 but bond will be worth something. Does well if doesn’t go into bankruptcy as there will still be little chance stock will earn a profit anytime soon but bond will improve in price as there won’t be any default or partial default.

420. Seed Stage / Startup Stage and Stage 1 are forming the idea, forming the product and starting production. Typically entered into by a VC or Angel investor. Called the “Formative Stage”

Stage 2 and Mezzanine typically done with VC or Strategic Partners (large corporations who engage in corporate venturing)

#67

421. 6 Factors to consider with clients for alternatives - Tax issues, suitability, illiquidity, decision risk (risk they will panic and want to sell at worst time), communication with client, concentration in other stocks

422 50 Delta Option = ATM Call -50 Delta Option = ATM Put

25 Delta Option = OTM Call -25 Delta Option = OTM Put

75 Delta Option = ITM Call -75 Delta Option = ITM Put

423. Use currency swaps to take advantage of fact that domestic banks give domestic borrowers better rates because they are more familiar with them.

424. Dual currency bond = principal in domestic currency, coupon payments in foreign currency. Useful if corp generates enough foreign revenue to be able to pay coupons but not to pay the principal.

Equivalent to domestic bond + swap with no notional exchange

425. Structured notes are created to help investors get around constraints. Are bonds that are linked to equity indexes or are levered

426. Discretionary Trust = Creditor Protection

Fixed Trust = No creditor protection

427. Foreign Banks became QIS to protect non-us customer confidentiality

4 28. If rainfall is correlated with corn prices : Rainfall may influence corn prices but corn prices obviously do not influence rainfall. If looking at factors that influence rainfall corn prices would be considered exogenous.

429. If an investor perceives their wealth to be large relative to their needs they will have more risk willingness

430. Only asset manager firms can claim compliance with GIPS.

431. 3 Differences of Private Equity vs. Public Equitiy - Deal structure negotiated with manager and investors, can access internal projections, board participation by investors.

432. Cram Down - when a judge overrules a dissenting class of creditors invalidating the priority rule. The objecting creditors must receive property of equal value OR anyone below them (junior) gets nothing

433. New Value Exception - Retain equity interest in banktruptcy by new capital contribution.

434. Due Dilligence for Alternatives - Opportunity, Process, Org, People, Terms/Structure, Service Providers, Documents, Write up

#68

That’s all I have besides GIPS and Asset Manager Code. If you have any points I missed somewhere, carefully look over (Control + F) and make sure I didn’t already talk about it. Then add them.

If I made a mistake/typo or you don’t agree. Question it here and I will make the fix.

If there’s something major I missed PLEASE INCLUDE IT

#69

GIPS CHART - MUST HAVE

  1. Port Return (include ITD if less than 5 years, if have 11 years performance must include 10 years, cannot annualize anything less than a year)

  2. Bench Return

  3. Annualized ex post 3 year stddev (start 2011)

  4. % Firm Assets or both Composite assets and total firm assets

  5. of Ports in composite (if greater than 5)

  6. Internal Dispersion Figures (if greater than 5)

GIPS CHART - MAY NEED IF

  1. % non fee pay (if non fee pay)

  2. % carveouts (if any 2006 - 2009)

  3. % bundled/wrap fee (if used)

GIPS DISCLOSE - MUST HAVE

  1. Composite Description, creation date (NOT BOILERPLATE)

  2. Benchmark Description

  3. Firm Description

  4. Availability of Full composite list, valuation policies, policy for calc return, policy for prep compliant report

  5. Fee Schedule

  6. Currency

  7. Gross/Net Fees

  8. Internal Dispersion Metric Used

GIPS DISCLOSE - MAY NEED

  1. Composite Redefinition, date and reason

  2. Firm Redefinition, date and reason

  3. If valuation used unobservable input or differed from GIPS heirarchy

  4. Cash allocation policy (if carveouts used)

  5. Signficant employee turnover (if applicable)

  6. If believe ex post stddev is not adequate why do u feel that way also include second ex post risk metric IN ADDITION NOT REPLACING.

  7. If Subadvisor use what their expertise is and periods you used them

  8. Components of bundled fee (if any)

  9. Details of withholding tax (if a global equity strategy)

  10. Extent and use of leverage if material and KEY risk factors that would help investor understand NOT BOILERPLATE

  11. If the Composite name changed (don’t need reason)

  12. If laws conflict the nature of the conflict (must comply with the local law)

  13. Availability of verification report (if verified)

  14. If significant cash flow policy, then what it is.

#70

Adam

Thanx for the effort ,

Just wondering if u have updated any typos pointed out by people here

#71

GIPS NOTES

  1. Must be asset weighted composites (begin of month or method that incorp cash flows) valued at least monthly after 2010 or on date of large external cash flows. Definition of large is per composite. 2001 - 2010 was just monthly

  2. Cannot link simulated (but can provide as supplementary info)

  3. Must keep records to back calcs

  4. Custody Fee = Mgmt expense

  5. Gross of fees must be after actual trading expenses if you can’t get the actual ones then gross must be net the bundled portion that includes the actual. Cannot use estimated. Additionally if gross is net of anything other than actual trading expenses must disclose

  6. Can link pre 2000 noncompliant but must disclose

  7. Trade Date Accounting (not settlement). Accrual Accounting for bonds (not cash). Fair Value to value (not market).

  8. If large external cash flow comes in can either do separate subaccount or exclude account from composite on month end PRIOR TO INFLOW and put back in a timely manner (as defined by policy)

  9. Nondiscretionary included in total firm assets but not in any composite. Discretionary fee paying must be in at least 1 composite and should be in every composite for which they meet the definition of.

  10. Cannot say in a general presentation calculated in accordance with GIPS unless reporting individual performance in one on one meeting to client

  11. No partial verification cannot just verify a composite.

  12. Must include cash in total returns no matter what

  13. Definition of discretion in policy and consistent application

  14. Must obey firms policy

  15. No carveout after Jan 1 2010.

  16. Discontinued composites kept for 5 years.

  17. Cannot remove historical performance from a composite. Can only change prospectively

  18. Non-Fee paying discretionary MAY be included in composite but must disclose %

  19. Core GIPS Principle: A. Adhere to law, B. Properly Define Firm, C. Provide compliant presentation to all prospects. D. Ensure not false or misleading

  20. If you get the call that client has died on July 11th and instructed to stop trading, must show performance through end of June (last full period)

  21. Definition of firm is ultimately determined by how the firm holds itself out to clients. Must have autonomous processes and decision makers

  22. Policies - discretion definition, error correction policies, methods for valuing investments, definition of large cash flow, firm definition, inclusion of new acct policies, significant cash flow policies, etc.

#72

Yes all corrections have been made

#73

Thanks dude - Also do cover equity stragies - portable alpha/ a;pha beta seperatio etc.

#74

GIPS Reccomended:

  1. Should be veriried

  2. Adopt broadest meaning of firm

  3. provide presentations to clients for any composite client is included in annually

  4. Value port on all cash flows regardles sof size

  5. 3rd party valuations (dont change just to look better)

  6. accrue mgmt fees for net of fees

  7. Accrue reclaimable withholding

  8. Disclose if composite contains proprietary asset

  9. New cash flows in temporary account preferred

  10. do not present a composite that has a minimum value if you know client can’t meet the minimum

  11. list other firms within parent company

  12. disclose key assumptions used to value port, any changes to processes/calc methods

  13. Key differences between strategy and bench disclosed

  14. gross and net of fees should not be reduced for admin expenses (firm cant control this?)

  15. Present cumulative composite returns for all periods as well as annualized.

  16. present equal weighted mean and median returns

  17. Update composites quarterly

  18. Present additional post risk measures

  19. present compliant returns for all periods

  20. Rotate appraisers 3 - 5 years

#75

Exclusion from Real Estate

REIT, MBS, Private Debt/Comm Loans/Resid Loans (with no equity participation)

Exclusion from Private Equity

Open ended/evergreen funds

Real estate Required

  1. Valued quarter end

  2. External value every year or at least every 3 years if client agrees by pro appraiser

  3. Gross return after all transaction costs

  4. Separate income and capital return

  5. show components

  6. description of discretion

  7. Methods and frequency of valuation

  8. Period of noncompliance

  9. SI-IRR using quarterly cash flows disclose frequency

  10. Composite vintage year and vintage definition (year of first draw or year when commit capital closed)

  11. Liquidation date and net of fees SI IRR through liquidation date

  12. SI IRR of bench which must have same vintage year

  13. Present Cum. Committ capital

  14. RVPI, DPI, TVPI, PIC Multiple, SI distributions, SI PIC

Private Equity

1. valued annually at fair value

  1. SI-IRR daily cash flows

  2. (all real estate crap)

  3. frequency of cash flows prior to 2011

  4. Indexes used in calculating public market equiv bench

  5. gross and net SI IRR through liquidation

  6. PE Fund of Funds (closed end) must provide SI IRR of underly funds aggregated by vintage year

  7. PE Fund of Funds (closed end) must give % in direct investments and % in fund vehicles

SMA

  1. Not applicable to UMA, supplement ordinary GIPS

  2. Include all SMAs for same mandate cant split out by manager.

  3. Must present performance net of entire wrap fee (your own + SMA fee)

  4. Cannot just show a managers GIPS to clients/prospects because then it wont be net of the entire wrap fee. If you are the SMA manager and are giving it to investment firm using you you must write “ONLY FOR USE OF NAMED SPONSOR” on the report so it can’t be given to clients/prospects

  5. Must disclose contingent fees.

GIPS ADVERTISING

If going to more than one relationship then advertising

Must include the following 3 things:

  1. X Claims compliance with Global Investment Performance Standards

  2. Info on how to obtain compliant presentation and composite list

  3. Definition of Firm

IF ALSO INCLUDING PERFORMANCE THEN YOU MUST ALSO INCLUDE:

  1. composite description

  2. Gross/net

  3. Currency

  4. Period of noncompliance

  5. Benchmark description

  6. Benchmark performance for matching periods

  7. Leverage/derivatives/short use if material

  8. Everything must match compliant presntation

  9. Either: 1, 3, 5 yr annualized through most recent period OR YTD, 1Yr, 3yr, 5yr OR YTD + 5 calendar years. If less than 5 years then also ITD performance

VERIFICATION DOES NOT GUARANTEE ACCURACY IT IS ONLY USED TO BOLSTER CREDIBILITY OF CLAIM OF COMPLIANCE. MUST VERIFY WHOLE FIRM. MINIMUM VERIFICATION PERIOD OF 1 YEAR. CANT STATE YOU ARE VERIFIED UNLESS A REPORT HAS BEEN ISSUED. VERIFIER SHOULDN"T ISSUE A REPORT IF THEY KNOW YOU ARE NOT IN COMPLIANCE. THEY USE A SAMPLING OF ACCOUNTS TO ASSESS DISCRETIONARY, COMPOSITE INCLUSION, AND APPLYING POLICY CONSISTENTLY

#76

ASSET MANAGER CODE (THINGS THAT ARE IN ADDITION TO NORMAL CODE AND STANDARDS)

Required:

  1. Compliance officer

  2. Have policies and procedures that uphold code

  3. Keep records (generic)

  4. Arrange a 3rd party (independent) review of port info to ensure accuracy (compliance counts)

  5. Hire qualified staff to make and monitor decisions

  6. Establish continuity plan (generic) based upon size and scale

  7. Firmwide risk management process (generic) that measures and manages risk

  8. You are liable for any outsourced work but you can outsource work per the code.

  9. Must disclose the following:

A. Disciplinary actions/warnings (regulators or current employer)

B. Conflicts of interest

C. Invest Process (lock up, risk factors, leverage/derivatives)

D. Mgmt fee, components, fee schedule

E. Amount of soft dollars & how they benefit client

F. regular and timely performance (generic)

G. Valuation methods

H. Proxy vote and trade allocation policies

I. Audit results

J. Personell changes

K. Risk mgmt policies

#77

Bro can u mail a pdf/word doc ?

#78

Recommended Asset manager Code

  1. Quarterly performance within 30 days of quarter end

  2. Keep records 7 years in absence of regulations

  3. Update IPS annually or if circumstances dictate sooner. (role and responsibilites of manager and bench included in IPS)

  4. Disclose estimated fee & Details along with average actual fees & other contingent fees charged to existing clients.

  5. Gift/Entertainment policy where gifts over a certain value are refused

  6. Can temporarily deviate from mandate but client msut agree to flexibility in advance AND must disclose event to client during normal reporting

  7. Consider clients outside assets

  8. Preapproval process for IPO/Private participation

  9. Provide written acknowledgment that client directed trades may limit best execution

  10. Any permanent change in style or change in investment process must be adequately disclosed to client IN ADVANCE OF CHANGE

  11. Privacy policy for client info

  12. No short term performance comp arrangements

  13. Continously challeng risk models and describe to clients

  14. Disclose valuation methods in a meaningful way

  15. Regular disclosure of specific risk info regarding strategies and what metrics they can expect to receive at a product level

  16. Disclosures on how client can obtain info on how their proxy vote was cast, systems to monitor outsourcing of proxy voting, guidance on whether additional action warranted if company management is voted against. Guidelines for regular reviews of proxy issues.

#79

Adam has good notes, but honestly most of that is way too detailed and new to me at this point. If the cfa tests based on those 450+ bullet points, the pass rate will be 10% or less. At this point I’m just making sure I got the basics down and not going to spend time figuring out a gullwing spread is or whatever.

#80

No, I don’t have one and am not making one. Copy and paste the posts to word, should be pretty easy to do. If you do it for yourself upload it online and share the link I’m sure everyone else will appreciate it