Kingpin804

To avoid most SEC regulations, hedge funds organized in the United States typically operate within all of the following guidelines EXCEPT hedge:

A) funds may accept a maximum number of investors.

B) fund investments by individuals are limited to a maximum of $500,000.

C) fund managers are prohibited from advertising or marketing the fund.

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Hedge funds organized under section 3(c) (7) of the Investment Company Act may not advertise, must limit the number of investors to 500, and may only accept “qualified” investors, as defined by the Act. Hedge funds investments are not subject to a maximum amount.

Kingpin804

Managers of hedge funds are typically compensated by:

A) an incentive fee, paid only if performance exceeds a “high water mark”.

B) a management fee, based on the net change in value of the assets during the year.

C) a base management fee, based on the value of assets under management, plus an incentive fee, based on profits.

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Typical arrangements pay the manager a base fee, usually around 1% of assets, plus an incentive fee proportional to profits.

Kingpin804

Hedge funds operating in the United States that abide by certain guidelines:

A) can utilize certain hedging strategies.

B) may advertise to “accredited” investors.

C) gain exemption from most SEC regulations.

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Hedge funds may not engage in advertising of any kind. Hedge funds may or may not utilize hedging strategies. The main reason for hedge funds to organize under section 3(c)(1) is to gain exemption from most SEC regulations.

Kingpin804

Hedge funds are usually classified by the media and hedge fund databases according to their:

A) past performance.

B) legal structure.

C) investment strategy.

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The past performance of a hedge fund and legal structure are typically not criteria used in classifying hedge funds. Hedge funds are usually classified investment strategy, although the system is somewhat subjective and there is substantial overlap between categories.

Kingpin804

Which of the following statements regarding hedge funds is least accurate?

A) Global macro funds make bets on the direction of a market, currency or interest rate.

B) Long/short funds have a net market neutral position.

C) Market-neutral hedge funds may have long and/or short positions.

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Long/short funds, by definition, are not market-neutral and usually maintain a net positive or net negative market exposure.

Kingpin804

An investor is considering investing in a venture capital project that will have a large payoff at exit, which is estimated to occur in four years. The investor realizes that the risk of failure is high, given the following estimated probabilities:

Year	1	2	3	4
Failure Probability	0.30	0.28	0.28	0.25

The probability that the project will survive to the end of the fourth year is:

A) 25.00%.

B) 27.22%.

C) 27.75%.

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The probability is calculated as: (1 − 0.30) × (1 − 0.28) × (1 − 0.28) × (1 − 0.25) = 0.2722 or 27.22%

Kingpin804

Which of the following statements regarding venture capital theory is CORRECT?

A) The probability of failure for a venture capital project will diminish over time.

B) The net present value of a venture capital project that fails is zero.

C) A venture capital project’s expected NPV is a probability-weighted average of the two possible outcomes: success and failure.

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The net present value of a venture capital project that fails is almost certainly less than zero. The probability of failure may or may not diminish over time, depending on the project. The expected NPV is a probability-weighted average of the two possible outcomes: success or failure.

Kingpin804

A portfolio manager is analyzing a $2,000,000 venture capital investment. If the project succeeds until the end of the sixth year, the net present value (NPV) of the project is $6,587,000. The project has a 32.69 percent probability of surviving to the end of the sixth year. The expected NPV of the project is:

A) $807,090.

B) $6,587,000.

C) $2,153,290.

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The project’s expected NPV is a probability-weighted average of the two possible outcomes: $6,587,000 if it is successful or the loss of the initial $2,000,000 investment if it fails. The expected NPV for the project is: (0.3269 × 6,587,000) + (0.6731 × -$2,000,000) = $807,090

Kingpin804

Which of the following statements regarding venture capital investing is NOT correct?

A) The success of venture capital projects is dependent upon market entrance and exit strategies.

B) Valuation of venture capital projects is difficult due to the unique qualities of each project.

C) Investors in venture capital projects typically require a short-term investment horizon.

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Valuation of venture capital investments is difficult because of the uniqueness of each project in addition to a lack of historical risk and return data. Venture capital investors generally do not know what other competing projects or ideas may hamper their success. Market entrance and exit strategies are critical to the success of a venture capital project. Venture capital investors know upfront they are investing in an illiquid asset with a long time horizon.

Kingpin804

Which of the following is NOT among the three most important factors in valuing a venture capital investment?

A) Timing of exit.

B) Liquidity.

C) Expected payoff at exit.

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Illiquidity is a characteristic common to all venture capital investments, but is difficult to quantify valuing an investment. The timing and amount of the expected payoff at exit, adjusted for the probability of failure, are the three most important factors in the valuation of venture capital opportunities.