Alternative Investment Performance and Returns Flashcards
Sources of risk for Alt. Investments
- Timing of cash flows
- Leverage by fund managers
- No obversable market prices
- Complex financial structure
Life cycle of Alt. Investments
1) Capital commitment: Identifying investments and making capital calls (negative returns)
2) Capital deployment: Managers involve themselves in targets (negative)
3) Capital distribution: Generation of cash flows commence (positive & accelerating)
J-curve effect
Negative returns in commitment
Increasing in capital deployment
Maximum returns in distribution
Variability of cash flows make IRR the best way to measure investment performance
Money multiple
Total capital returned + Remaining asset value / Total capital paid over investment life
Use of leverage
Leveraged return = r(V0+Vb) - (rb * Vb) = Lev. portfolio return - interest costs
Fair value heirarchy
Assumptions on which fair value of investment is measured
1) Assets have active market prices readily available
2) Can be valued on indirectly observable inputs
3) Requires unobservable inputs to establish fair value
Redemptions for Alt. Investments
More negative the fund returns, more likely they will want to redeem
Lockup period
Period where LPs cannot request redemption or incur fees for redemptions
Notice period
Amount of time fund has to fulfill redemption request
Redemption fees
Offsets costs when fund managers redeem shares
Founder class shares
Shares for which there are lower fees / greater liquidity if they were invested early on
Either-or fees
Pay the maximum between two types of fees (management fee / incentive fee)
Survivorship bias
Stronger for hedge funds because 25% of hedge funds fail in first three years
Backfill bias
Managers only select successful funds for index inclusion
Fees for GPs
mV1 + max[0, p(V1-V0)]
m = management fee
p = performance fee
V0 = beginning of period assets
V1 = end of period dassets
