CAIA Level II flashcards

32 cards. Read the term and the definition here. The deck at the top of this page is optional.

Endowment model

Portfolio construction approach allocating heavily to illiquid alternatives such as private equity and real assets, relying on a long horizon and the illiquidity premium to raise expected return.

Return smoothing bias

Appraisal-based or stale pricing of illiquid assets lowers reported volatility and creates serial correlation, overstating the Sharpe ratio and understating correlation with liquid markets.

Pacing model

A schedule setting annual commitment amounts to private funds so capital calls and distributions keep the allocation near target as total portfolio assets grow over time.

Liability-driven investing

Strategies that hedge a defined benefit plan's liabilities by matching duration, cash flows, or interest rate and inflation sensitivities, aiming to stabilize the funding ratio rather than maximize assets.

Funding ratio

The ratio of a pension plan's assets to the present value of its liabilities; a value below one indicates a deficit requiring contributions or a higher assumed return.

J-curve

Pattern in which early private equity fund returns are negative because of fees and write-downs, before later realizations lift returns; it describes the net cash flow profile to LPs.

Clawback provision

Contractual term requiring a general partner to return excess carried interest to limited partners when later losses reverse earlier profits, ensuring the GP keeps only its agreed share.

Vintage year

The year a private fund makes its first capital call; used to compare funds facing similar market entry conditions and to diversify commitment timing across a program.

Capital call

A drawdown request from a general partner asking limited partners to fund a portion of committed capital, usually on about ten business days' notice; uninvested commitments are dry powder.

Catch-up clause

Provision in a private fund entitling the GP to receive most or all profits after the hurdle rate is met, until the GP's share reaches the agreed carried interest split.

Cap rate

Net operating income divided by property value or price; an unlevered income yield that rises with perceived risk and falls with expected growth in rents and values.

Roll yield

Return from rolling a futures position forward as contracts approach expiry; positive in backwardation when futures trade below spot, and negative in contango.

NCREIF ODCE

Appraisal-based index of core open-end commingled real estate funds; its smoothed valuations lag transaction prices and understate true volatility and market correlations.

Concession infrastructure

Long-dated contractual right to operate an asset such as a toll road or airport, where revenue depends on usage and tariffs are typically set or capped by a public authority.

High-water mark

The peak net asset value on which incentive fees are computed; a manager earns performance fees only on gains above that peak, preventing double charging after a drawdown.

Side pocket

A segregated account inside a hedge fund holding illiquid or hard-to-value positions; fees and redemptions on those assets are deferred until the positions are realized.

Backfill bias

Upward distortion in hedge fund index returns because managers often begin reporting only after a period of strong performance, with earlier results added retroactively.

Trend following

Systematic strategy that goes long markets in uptrends and short in downtrends using moving averages or breakout rules; it is the core approach in managed futures.

Managed futures

Professionally managed portfolios trading futures and forwards, often trend-following, offering diversification and crisis-offset properties relative to traditional equity and bond risk.

Credit spread

Yield premium over a benchmark government curve that compensates investors for expected default loss, recovery uncertainty, illiquidity, and market risk of a corporate or structured bond.

CDO tranche

A slice of a securitization defined by attachment and detachment points; losses are allocated bottom-up so the equity tranche absorbs first losses and senior tranches last.

Prepayment risk

Risk that mortgage borrowers refinance or repay early when rates fall, returning principal at an inopportune time and shortening the effective duration of the mortgage security.

Merton model

Structural credit model treating equity as a call option on firm assets and risky debt as riskless debt minus a put, linking default probability to asset value and volatility.

GIPS composites

Aggregations of discretionary portfolios managed to the same strategy; firms must include all eligible fee-paying portfolios and present composite performance with prescribed disclosures.

Mosaic theory

Permits an analyst to combine public information with non-material nonpublic information to reach an investment conclusion; trading on material nonpublic information remains prohibited.

Soft dollars

Client brokerage commissions used to obtain research or services that benefit the client's account; permissible under Section 28(e) when the research assists investment decision making.

Fiduciary duty

Obligation to act in the client's best interest, placing client interests ahead of the firm's own, encompassing loyalty, prudence, care, and full disclosure of conflicts.

Fair dealing

Standard requiring members to treat all clients equitably when disseminating recommendations, allocating trades, and taking investment action, without favoring select clients.

Tokenization

Representing ownership of assets such as funds, real estate, or private credit as blockchain tokens, potentially improving liquidity, transferability, and fractional ownership for investors.

Transition risk

Climate-related financial risk arising from policy, technology, or consumer shifts toward a low-carbon economy, which can reduce the value of carbon-intensive assets and business models.

Catastrophe bond

Insurance-linked security whose principal is reduced or forgiven if a defined disaster event occurs; investors earn an elevated spread in exchange for bearing event risk.

Interval fund

Closed-end registered fund offering periodic repurchase windows at a set percentage of NAV, giving retail investors exposure to illiquid alternatives without an exchange listing.