LOS p: Identify and explain the style classification of a hedge fund, given a description of its investment strategy.

Q1. A hedge fund that focuses on earning returns from mergers, spin-offs, and takeovers would be most accurately placed in which style category?

A)   Equity market neutral.

B)   Merger arbitrage.

C)   Hedged equity.

Q2. A hedge fund that takes positions in convertible bonds or convertible preferred stock and then takes other positions in the underlying stock would be most accurately placed in the style category:

A)   equity market neutral.

B)   convertible arbitrage.

C)   distressed securities.

Q3. William Jones, CFA, has a client who wants to invest in a hedge fund that has the strategy of investing in equities and has among its goals the elimination of systematic risk. Jones has found two funds that he thinks are well run: the Marius Fund that uses an equity market neutral strategy and the Hera Fund that uses a hedged equity strategy. Given the client’s stated preferences, Jones should recommend:

A)   either fund.

B)   the Marius Fund only.

C)   the Hera Fund only.

LOS p: Identify and explain the style classification of a hedge fund, given a description of its investment strategy. fficeffice" />

Q1. A hedge fund that focuses on earning returns from mergers, spin-offs, and takeovers would be most accurately placed in which style category?

A)   Equity market neutral.

B)   Merger arbitrage.

C)   Hedged equity.

Correct answer is B)         

Merger arbitrage focuses on returns from mergers, spin-offs, takeovers, etc... For example, if company X announces it will acquire company Y, the manager might buy shares in Y and short X.

Q2. A hedge fund that takes positions in convertible bonds or convertible preferred stock and then takes other positions in the underlying stock would be most accurately placed in the style category:

A)   equity market neutral.

B)   convertible arbitrage.

C)   distressed securities.

Correct answer is B)         

Convertible arbitrage usually takes positions in convertible bonds or preferred stock as well as warrants, etc..., and then takes other positions in the underlying stock.

Q3. William Jones, CFA, has a client who wants to invest in a hedge fund that has the strategy of investing in equities and has among its goals the elimination of systematic risk. Jones has found two funds that he thinks are well run: the Marius Fund that uses an equity market neutral strategy and the Hera Fund that uses a hedged equity strategy. Given the client’s stated preferences, Jones should recommend:

A)   either fund.

B)   the Marius Fund only.

C)   the Hera Fund only.

Correct answer is B)

Equity market neutral is usually the attempt to exploit price discrepancies through long and short positions. This strategy also has the goal of the systematic risks canceling because of the long and short positions. Hedged equity strategies take long and short positions in under and overvalued securities, respectively, like equity market neutral strategies. The difference is that hedged equity strategies do not focus on balancing the positions to eliminate systematic risks.

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