Digital asset risk, return and diversification — MCQs

Solstice Pension Plan is reviewing several hedge fund allocations. The investment committee accepts leverage and short selling but wants to understand the economic exposures, strategy-specific risks, fee calculations, and limitations of reported performance. The first manager operates an equity long/short strategy. At the measurement date, long equity positions equal 100% of net asset value and short equity positions equal 80% of net asset value. Cash collateral and financing positions are excluded from the exposure calculation. The manager claims that the portfolio's relatively low directional market exposure means the strategy uses little leverage. A Solstice analyst notes that gross exposure, rather than net exposure alone, is relevant when assessing the scale of positions and sensitivity to security-specific losses. The second manager conducts merger arbitrage. It purchases shares of a target company after a cash acquisition has been publicly announced. The target trades below the announced acquisition price because shareholders must approve the transaction and competition regulators have begun a detailed review. The manager will profit if the transaction closes on the announced terms within the expected period. The committee asks which risk is most directly associated with this position rather than with convertible arbitrage or managed-futures strategies. The third fund charges a 20% annual incentive fee subject to a high-water mark, with no hurdle rate and no management fee. At the beginning of the prior year, the fund's net asset value was USD 104 million, which was also its high-water mark. The fund declined to USD 101 million by the end of that year, so no incentive fee was paid. During the current year, before any incentive fee, net asset value increased from USD 101 million to USD 106 million. There were no subscriptions, redemptions, or distributions during either year. Solstice also reviews an industry database used to support expected-return estimates. Funds report voluntarily. The database provider removes a fund's complete historical record when the fund stops reporting or ceases operations. It does not add returns earned before a manager enters the database. Separately, some funds hold illiquid securities, but the committee is asked to assess only the bias caused by the provider's removal policy. Solstice is concerned that the resulting index may overstate the returns available to an investor who selected funds at the beginning of the historical period.

Northbridge Private Capital Fund is a closed-end fund approaching the end of its fourth year. An institutional investor asks analyst Elena Park to review the fund's annual performance, the classification of one private debt holding, and the year-end valuation of an early-stage equity investment. All cash flows in the performance review occur at the year-end date unless otherwise specified, and the investor makes no subscriptions or withdrawals during the year. The fund reports both gross performance before management fees and carried interest and net performance after all fund-level fees. Its limited partnership agreement specifies an annual management fee based on beginning NAV rather than committed capital. Carried interest is assessed annually under the terms in Exhibit 2. The hard hurdle means the general partner receives no carried interest on the portion of profit required to provide the investor with the stated hurdle return, and there is no provision allowing the manager to catch up on that excluded portion. Park also reviews the fund's cumulative cash-flow multiples. She notes that distributions to paid-in capital measure realised proceeds returned to investors relative to contributed capital. Residual value to paid-in capital measures unrealised value relative to contributed capital, while total value to paid-in capital combines cumulative distributions and residual value. She is instructed to calculate each multiple directly from the relevant values rather than annualise it. One portfolio holding is a privately negotiated loan issued by an established middle-market company. The loan ranks below the company's revolving credit facility in liquidation priority. In addition to a contractual cash coupon, part of its interest accrues to principal, and the fund received warrants when the loan was originated. Management describes the position as having characteristics of both debt and equity but asks Park to assign it to the most appropriate private debt category. The fund also owns an equity interest in a technology company that has not yet generated revenue. One month before year-end, the company issued the same class of shares to a new, unrelated institutional investor following commercial negotiations. The fund has determined that the transaction was orderly and arm's length. No significant operational milestone, financing event, change in comparable-company valuations, or broad market disruption occurred between the transaction date and year-end. Park must select a primary valuation reference consistent with these facts while avoiding models that require stable dividends or established positive cash flow.

An endowment buys and directly operates farmland rather than using agricultural futures. Its return is most likely driven by:

A manager seeks a natural-resource investment whose harvest may be deferred when output prices are temporarily unfavorable. The most appropriate investment is:

A timber investment's total return is decomposed into biological growth, timber-price appreciation, and land-value change. Of these three components, which is typically the primary driver of the volatility of timber investment returns?

A fully collateralised long commodity futures position is initiated at 102 and settled at 105 three months later. Collateral earns 0.50%. The calculated total return is closest to: