21. Alternative Investments: Strategies And Performance

Strategies and Performance

Chapter Overview

In this chapter, you will learn about a variety of alternative investment strategies and performance measurement tools. It will cover the comprehensive due diligence process required for these investments and finish with a brief discussion about the suitability of alternative strategies for different investor groups.

Learning Objectives

Upon completing this chapter, you will be able to:

1. Explain how the various types of alternative investment strategies work, including those in the relative value, event-driven, and directional strategy classifications.
2. Identify the strategies most likely to be used in alternative mutual funds.
3. Discuss risk measures and risk-adjusted return measures pertinent to alternative strategy fund investments.
4. Detail benchmarking methods for assessing alternative investment performance.
5. Describe the due diligence process when contemplating investment in an alternative strategy fund.
6. Identify investor groups for whom liquid alternative investments might be most suitable.

Key Terms

Key terms are defined in the Glossary and appear in bold text throughout the chapter.

• absolute risk
• convertible arbitrage strategy
• directional strategies
• distressed security strategy
• emerging markets alternative funds
• equity market-neutral strategy
• event-driven strategies
• fixed-income arbitrage strategy
• global macro strategy
• high-yield bond strategy
• kurtosis
• maximum drawdown
• merger strategy
• relative value strategies
• risk arbitrage strategy
• short bias strategy
• skew
• time to recovery

Chapter Outline

1. Introduction to Alternative Investment Strategies

   • Describe various alternative investment strategies.
   • Strategies within relative value, event-driven, and directional categories.

2. Use of Strategies in Alternative Mutual Funds

   • Highlight alternative strategies in mutual funds portfolios.

3. Risk and Performance Measurement

   • Risk measures
   • Risk-adjusted return measures
   • Performance metrics

4. Benchmarking of Performance

   • Standard benchmarks
   • Customized benchmarks

5. Due Diligence Process

   • Steps to conducting thorough due diligence.

6. Suitability of Alternative Strategies

   • Identify appropriate investor groups for liquid alternative strategies.

Detailed Content Analysis

1. Introduction to Alternative Investment Strategies

• Relative Value Strategies: Positions may exploit pricing inefficiencies.

  • Convertible Arbitrage: Shorting securities while being long on their convertible counterparts.

• Event-Driven Strategies: Profiteering from company-specific events.

  • Merger Arbitrage: Take advantage of the price difference before, during, and after mergers.
  • Distressed Debt: Investing in companies nearing default due to underperformance.

• Directional Strategies: Predict movements of the market or sector.

  • Long/Short Equity: Balancing long positions with short positions to mitigate risk.
  • Short Bias: Predominantly hold short positions betting against assets.
  • Global Macro: Capitalizing on expected macroeconomic trends and geopolitical events.

2. Use of Strategies in Alternative Mutual Funds

• Identify which strategies are care likely to be observed within mutual funds.
• Describe how these funds optimize returns and minimize risks.

3. Risk and Performance Measurement

• Performance metric relevance, such as the Sharpe Ratio
  $$ (Sharpe\ Ratio = \frac{R_{p} - R_{f}}{\sigma_{p}}) $$
  where
  • $R_{p}$ is the return of the portfolio.
  • $R_{f}$ is the risk-free rate.
  • $\sigma_{p}$ is the standard deviation of the portfolio’s excess return.
• Risk measures such as Maximum Drawdown and Time to Recovery.

4. Benchmarking of Performance

• Use standard indices designed for alternative strategies.
• Option to create customized benchmarks specific to certain investment characteristics.

5. Due Diligence Process

• Essential for investment funds to evaluate performance metrics, fund management, compliance, and operational capabilities.
• Elements like historical performance and strategy sustainability play crucial roles.

6. Suitability of Alternative Strategies

• Describing investor risk tolerance and investment goals
• Liquid alternatives being recommended for retail investors seeking exposure to alternative investments without the lock-up periods.
  • Investor Groups: Low to moderate-risk tolerance willing to explore non-conventional investments.

Frequently Asked Questions

1. What is an absolute risk?

   • Absolute risk is the unmitigated risk level inherent in a security or investment portfolio.

2. How can an investor benefit from a merger strategy?

   • Investors benefit by capitalizing on the expected price changes due to company mergers, acquisition scenarios, or buyouts.

3. What benchmarks are commonly used for alternative investments?

   • Often used benchmarks include HFRX Global Hedge Fund Index and custom indices related to specific strategies.

Charts and Diagrams

Mermaid Sample Graph for Performance Metrics Evaluation Workflow

      graph LR
	    A[Investment Analysis] --> B[Risk Assessment]
	    B --> C[Performance Metrics]
	    C --> D[Benchmark Evaluation]
	    D --> E[Fund Due Diligence]

Glossary & Definitions

• Absolute Risk: The non-diversifiable threat potential of an investment.
• Kurtosis: Measure of the

In this section

• 21.1 Introduction
  In this chapter of the Canadian Securities Course certification exam preparation guide, we delve into the various investment strategies employed by alternative strategy managers, performance measures, and the essential due diligence process.
• 21.2 Alternative Investment Strategies
  Explore the various types of alternative investment strategies, including relative value, event-driven, and directional strategies, and understand the preferred strategies for alternative mutual funds.
  • 21.2.1 Relative Value Strategies
    Comprehensive guide to understanding relative value strategies including equity market-neutral strategies, convertible arbitrage, and fixed-income arbitrage. Key concepts, examples, FAQs, and detailed methodologies are explored for effective trading.
  • 21.2.2 Event-driven Strategies
    A comprehensive guide detailing event-driven strategies including merger (risk arbitrage) strategies, high-yield bond strategies, and distressed securities strategies. Learn how these unique corporate structures can generate profit through strategic investments.
  • 21.2.3 Directional Strategies
    In-depth exploration of directional investment strategies including long/short equity, global macro, emerging markets, dedicated short bias, and managed futures strategies. This chapter covers essential concepts, examples, mathematical calculations, and advantages and considerations.
  • 21.2.4 Multi-strategy Funds
    Understand the concept, benefits, and risks of multi-strategy funds in the context of Canadian securities. Explore the differences between multi-strategy funds and fund-of-funds, including diversification benefits and management fee considerations.
  • 21.2.5 Leveraged ETF Strategy
    Comprehensive guide on Leveraged ETF Strategy including investment strategies, risk measures, due diligence, and suitability for investors.