Chartered Alternative Investment Analyst (CAIA) Hedge Funds and Managed Futures Syllabus

Hedge Funds and Managed Futures syllabus — full chapter and topic list

Expand any chapter to see its topics and sub-topics. This is the whole examinable outline for Hedge Funds and Managed Futures in Chartered Alternative Investment Analyst (CAIA), not a summary of it.

1. 1

   Structure, Fees, and Economics of Hedge Funds

   3 topics

   • Hedge fund organizational structure
     • Master-feeder and side-by-side structures
     • Onshore versus offshore vehicles
     • Service providers: prime brokers, administrators, auditors
   • Fee structures and incentive alignment
     • Management and incentive fees
     • Hurdle rates and high-water marks
     • Clawbacks and crystallization
   • Liquidity and investor protections
     • Lock-ups, gates, and notice periods
     • Side pockets and redemption suspensions
2. 2

   Equity and Event-Driven Strategies

   3 topics

   • Long/short equity
     • Net and gross exposure management
     • Market-neutral and quantitative equity
   • Event-driven strategies
     • Merger and risk arbitrage
     • Distressed securities and restructuring
     • Activist investing
   • Special situations
     • Spin-offs and capital structure events
     • Holding company and stub trades
3. 3

   Relative Value and Macro Strategies

   3 topics

   • Relative value arbitrage
     • Convertible bond arbitrage
     • Fixed-income and volatility arbitrage
     • Statistical arbitrage
   • Global macro strategies
     • Discretionary versus systematic macro
     • Currency, rates, and thematic positioning
   • Risk and return drivers of arbitrage
     • Leverage and basis risk
     • Liquidity spirals and crowding
4. 4

   Managed Futures and CTAs

   3 topics

   • Managed futures fundamentals
     • Commodity trading advisors (CTAs)
     • Trend-following versus non-trend strategies
   • Systematic trading systems
     • Time-series versus cross-sectional momentum
     • Signal generation and position sizing
   • Performance characteristics
     • Crisis alpha and convexity
     • Drawdowns and whipsaw risk
5. 5

   Hedge Fund Replication, Funds of Funds, and Due Diligence

   3 topics

   • Funds of hedge funds
     • Multi-manager diversification benefits
     • Double layer of fees
   • Hedge fund replication
     • Factor-based and rules-based replication
     • Liquid alternatives
   • Operational and investment due diligence
     • Operational risk and fraud red flags
     • Track record and style analysis

Hedge Funds and Managed Futures flashcards for Chartered Alternative Investment Analyst (CAIA)

24 of 51 cards from the Hedge Funds and Managed Futures deck — real questions with worked answers.

1. What is the typical legal structure of a U.S. domestic hedge fund and why is it used?

   A limited partnership (LP) where the manager acts as general partner (GP) and investors are limited partners (LPs). It provides pass-through (flow-through) taxation, avoiding entity-level tax, and limits LP liability to their invested capital.

2. In a master-feeder hedge fund structure, what is the role of the master fund and the feeder funds?

   Feeder funds collect capital from different investor types (e.g., a U.S. taxable feeder and an offshore feeder for tax-exempt/non-U.S. investors) and invest it all into a single master fund, where all trading occurs. This centralizes portfolio management while accommodating different tax/regulatory needs.

3. Why do offshore hedge funds (e.g., Cayman Islands) appeal to tax-exempt U.S. investors and non-U.S. investors?

   Offshore corporations avoid Unrelated Business Taxable Income (UBTI) for tax-exempt investors (e.g., pensions, endowments) that can arise from leverage in a domestic LP, and they provide tax neutrality for non-U.S. investors who do not want U.S. tax filing obligations.

4. What is the difference between the general partner and the investment manager in a hedge fund?

   The general partner (GP) is the entity with legal control and unlimited liability for the fund partnership; the investment manager (often a separate but affiliated entity) is contracted to make investment decisions and receives the management/incentive fees. Separating them limits liability and provides organizational flexibility.

5. State the classic '2 and 20' hedge fund fee structure.

   A management fee of 2% of assets under management (AUM) charged annually regardless of performance, plus an incentive (performance) fee of 20% of the fund's profits.

6. What is a hurdle rate in a hedge fund fee structure, and what is the difference between a hard and soft hurdle?

   A hurdle rate is a minimum return that must be earned before the incentive fee applies. With a hard hurdle, the incentive fee is charged only on returns above the hurdle; with a soft hurdle, once the hurdle is exceeded the fee is charged on the entire return (from zero).

7. What is a high-water mark (HWM) and what problem does it solve?

   A high-water mark is the highest cumulative NAV on which an incentive fee has previously been paid. The manager earns incentive fees only on new profits above that level, preventing investors from paying performance fees twice for recovering the same losses.

8. How does a clawback provision affect hedge fund/private fund incentive fees?

   A clawback requires the manager to return previously paid incentive fees if later losses or final results show the fees were overpaid relative to cumulative performance, aligning manager pay with the investor's overall (lifetime) return.

9. Why is the incentive fee considered analogous to a call option, and how can this misalign incentives?

   The incentive fee pays the manager a share of the upside but imposes no symmetric penalty for losses, giving payoff convexity like a long call option. This can incentivize excessive risk-taking, because higher volatility increases the option's value to the manager.

10. What does a management fee's 'asset-gathering' incentive create as a potential conflict?

    Because the management fee is a percentage of AUM, managers may be motivated to grow assets beyond the strategy's capacity (capacity constraints), which can dilute returns and shift the manager's focus from performance to asset accumulation.

11. What is a hedge fund lock-up period?

    A minimum length of time (commonly 1 year) after an initial investment during which an investor cannot redeem capital. It lets the manager invest in less liquid positions without facing redemptions.

12. Differentiate a 'hard' lock-up from a 'soft' lock-up.

    A hard lock-up prohibits redemptions entirely during the period. A soft lock-up permits early redemption but charges a redemption fee (e.g., 2-5%), typically paid back into the fund for remaining investors.

13. What is a hedge fund redemption notice period and how does it differ from redemption frequency?

    The notice period is the advance written notice (e.g., 30-90 days) an investor must give before redeeming. Redemption frequency is how often redemptions are allowed (e.g., monthly, quarterly, annually). Both manage liquidity for the manager.

14. What is a hedge fund gate provision?

    A gate limits the total amount that can be redeemed from the fund on a given redemption date, either as a percentage of fund NAV (fund-level gate) or of an investor's holdings (investor-level gate), preventing forced asset fire-sales during heavy redemptions.

15. What is a side pocket in a hedge fund?

    A separate account holding illiquid or hard-to-value assets. Investors at the time of the side pocket's creation participate in those assets; the holdings cannot be redeemed until they are realized or revalued, isolating them from the liquid portfolio.

16. What is a hedge fund side letter and what concern does it raise?

    A side letter is a private agreement granting specific investors preferential terms (e.g., lower fees, better liquidity, enhanced transparency). It raises fairness/conflict concerns because it can disadvantage other LPs, especially via preferential redemption rights.

17. Define the long/short equity hedge fund strategy.

    A strategy that holds long positions in equities expected to rise and short positions in equities expected to fall, profiting from relative performance while partially hedging market risk. It is the most common hedge fund strategy.

18. What is the difference between gross exposure and net exposure in a long/short equity fund?

    Gross exposure = (long % + short %) of capital, measuring total market involvement and leverage. Net exposure = (long % − short %), measuring directional market exposure (beta). A fund 100% long / 60% short has 160% gross and 40% net exposure.

19. What distinguishes a market-neutral equity strategy from a typical long/short equity fund?

    A market-neutral fund deliberately maintains net exposure (and often beta and sector/factor exposures) near zero, aiming to isolate stock-selection (alpha) and eliminate broad market direction risk; a typical long/short fund usually keeps a positive (long-biased) net exposure.

20. What is the 'short rebate' and why does it matter to a long/short manager?

    When a manager shorts a stock, the short-sale proceeds are held as collateral and earn interest; the short rebate is the portion of that interest returned to the short seller after a stock-loan fee. For hard-to-borrow (special) stocks, the rebate shrinks or becomes negative, raising shorting costs.

21. Define event-driven hedge fund strategies in general.

    Strategies that seek to profit from price movements caused by specific corporate events such as mergers, acquisitions, bankruptcies, restructurings, spin-offs, or recapitalizations, where the outcome depends largely on event resolution rather than market direction.

22. Describe merger (risk) arbitrage and the classic trade in a cash deal vs. a stock deal.

    Merger arbitrage profits from the spread between a target's market price and the deal price. In a cash deal, the arbitrageur buys the target's shares. In a stock-for-stock deal, the arbitrageur buys the target and shorts the acquirer in the deal's exchange ratio to capture the spread while hedging acquirer price moves.

23. What is the main risk in merger arbitrage, and what return profile does it resemble?

    The main risk is deal break (the merger failing), which causes the target price to collapse. The payoff resembles writing a put option / selling insurance: small steady gains most of the time, with occasional large losses, producing negatively skewed returns.

24. What is distressed securities investing?

    Investing in the debt or equity of companies that are in or near bankruptcy or financial distress, often at deep discounts, to profit from a successful restructuring, reorganization, or liquidation. Returns hinge on legal/restructuring outcomes and recovery values.

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