2018 CFA level 2 study note book5 unprotected

Table of Contents
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Getting Started Flyer
Table of Contents
Page List
Book 5: Alternative Investments And Portfolio Management
Readings and Learning Outcome Statements
Private Real Estate Investments
1. LOS 43.a: Classify and describe basic forms of real estate investments.
2. LOS 43.b: Describe the characteristics, the classification, and basic
segments of real estate.
3. LOS 43.c: Explain the role in a portfolio, economic value determinants,
investment characteristics, and principal risks of private real estate.
4. LOS 43.l: Explain the role in a portfolio, the major economic value
determinants, investment characteristics, principal risks, and due diligence
of private real estate debt investment;
5. LOS 43.d: Describe commercial property types, including their distinctive
investment characteristics.
6. LOS 43.e: Compare the income, cost, and sales comparison approaches to
valuing real estate properties.
7. LOS 43.f: Estimate and interpret the inputs (for example, net operating
income, capitalization rate, and discount rate) to the direct capitalization
and discounted cash flow valuation methods.

8. LOS 43.g: Calculate the value of a property using the direct capitalization
and discounted cash flow valuation methods.
9. LOS 43.h: Compare the direct capitalization and discounted cash flow
valuation methods.
10. LOS 43.i: Calculate the value of a property using the cost and sales
comparison approaches.
11. LOS 43.j: Describe due diligence in private equity real estate investment.
12. LOS 43.k: Discuss private equity real estate investment indexes, including
their construction and potential biases.
13. LOS 43.m: Calculate and interpret financial ratios used to analyze and
evaluate private real estate investments.
14. Key Concepts
1. LOS 43.a
2. LOS 43.b
3. LOS 43.c
4. LOS 43.d
5. LOS 43.e
6. LOS 43.f
7. LOS 43.g


8. LOS 43.h
9. LOS 43.i
10. LOS 43.j
11. LOS 43.k
12. LOS 43.l
13. LOS 43.m
15. Concept Checkers
1. Answers – Concept Checkers
7. Publicly Traded Real Estate Securities

1. LOS 44.a: Describe types of publicly traded real estate securities.
2. LOS 44.b: Explain advantages and disadvantages of investing in real estate
through publicly traded securities.
3. LOS 44.c: Explain economic value determinants, investment characteristics,
principal risks, and due diligence considerations for real estate investment
trust (REIT) shares.
4. LOS 44.d: Describe types of REITs.
5. LOS 44.e: Justify the use of net asset value per share (NAVPS) in REIT
valuation and estimate NAVPS based on forecasted cash net operating
income.
6. LOS 44.f: Describe the use of funds from operations (FFO) and adjusted
funds from operations (AFFO) in REIT valuation.
7. LOS 44.g: Compare the net asset value, relative value (price-to-FFO and
price-to-AFFO), and discounted cash flow approaches to REIT valuation.
8. LOS 44.h: Calculate the value of a REIT share using net asset value, price-toFFO and price-to-AFFO, and discounted cash flow approaches.
9. Key Concepts
1. LOS 44.a
2. LOS 44.b
3. LOS 44.c
4. LOS 44.d
5. LOS 44.e
6. LOS 44.f
7. LOS 44.g
8. LOS 44.h
10. Concept Checkers
1. Answers – Concept Checkers
8. Private Equity Valuation
1. LOS 45.a: Explain sources of value creation in private equity.
2. LOS 45.b: Explain how private equity firms align their interests with those
of the managers of portfolio companies.

3. LOS 45.c: Distinguish between the characteristics of buyout and venture
capital investments.
4. LOS 45.d: Describe valuation issues in buyout and venture capital
transactions.


5. LOS 45.e: Explain alternative exit routes in private equity and their impact
on value.
6. LOS 45.f: Explain private equity fund structures, terms, valuation, and due
diligence in the context of an analysis of private equity fund returns.
7. LOS 45.g: Explain risks and costs of investing in private equity.
8. LOS 45.h: Interpret and compare financial performance of private equity
funds from the perspective of an investor.
9. LOS 45.i: Calculate management fees, carried interest, net asset value,
distributed to paid in (DPI), residual value to paid in (RVPI), and total value
to paid in (TVPI) of a private equity fund.
10. LOS 45.j: Calculate pre-money valuation, post-money valuation, ownership
fraction, and price per share applying the venture capital method 1) with
single and multiple financing rounds and 2) in terms of IRR;
11. LOS 45.k: Demonstrate alternative methods to account for risk in venture
capital.
12. Key Concepts
1. LOS 45.a
2. LOS 45.b
3. LOS 45.c
4. LOS 45.d
5. LOS 45.e
6. LOS 45.f
7. LOS 45.g
8. LOS 45.h

9. LOS 45.i
10. LOS 45.j
11. LOS 45.k
13. Concept Checkers
1. Answers – Concept Checkers
9. Commodities and Commodity Derivatives: An Introduction
1. LOS 46.a: Compare characteristics of commodity sectors.
2. LOS 46.b: Compare the life cycle of commodity sectors from production
through trading or consumption.
3. LOS 46.c: Contrast the valuation of commodities with the valuation of
equities and bonds.
4. LOS 46.d: Describe types of participants in commodity futures markets.
5. LOS 46.e: Analyze the relationship between spot prices and expected
future prices in markets in contango and markets in backwardation.
6. LOS 46.f: Compare theories of commodity futures returns.
7. LOS 46.g: Describe, calculate, and interpret the components of total return
for a fully collateralized commodity futures contract.
8. LOS 46.h: Contrast roll return in markets in contango and markets in
backwardation.
9. LOS 46.i: Describe how commodity swaps are used to obtain or modify


exposure to commodities.
10. LOS 46.j: Describe how the construction of commodity indexes affects
index returns.
11. Key Concepts
1. LOS 46.a
2. LOS 46.b
3. LOS 46.c
4. LOS 46.d

5. LOS 46.e
6. LOS 46.f
7. LOS 46.g
8. LOS 46.h
9. LOS 46.i
10. LOS 46.j
12. Concept Checkers
1. Answers – Concept Checkers
10. Self-Test: Alternative Investments
1. Self-Test Answers: Alternative Investments
11. The Portfolio Management Process and the Investment Policy Statement
1. LOS 47.a: Explain the importance of the portfolio perspective.
2. LOS 47.b: Describe the steps of the portfolio management process and the
components of those steps.
3. LOS 47.c: Explain the role of the investment policy statement in the
portfolio management process and describe the elements of an investment
policy statement.
4. LOS 47.d: Explain how capital market expectations and the investment
policy statement help influence the strategic asset allocation decision and
how an investor’s investment time horizon may influence the investor’s
strategic asset allocation.
5. LOS 47.e: Define investment objectives and constraints and explain and
distinguish among the types of investment objectives and constraints.
6. LOS 47.f: Contrast the types of investment time horizons, determine the
time horizon for a particular investor, and evaluate the effects of this time
horizon on portfolio choice.
7. LOS 47.g: Justify ethical conduct as a requirement for managing investment
portfolios.
8. Key Concepts
1. LOS 47.a

2. LOS 47.b
3. LOS 47.c
4. LOS 47.d
5. LOS 47.e
6. LOS 47.f
7. LOS 47.g


9. Concept Checkers
1. Answers – Concept Checkers
10. Challenge Questions
1. Answers – Challenge Questions
12. An Introduction to Multifactor Models
1. LOS 48.a: Describe arbitrage pricing theory (APT), including its underlying
assumptions and its relation to multifactor models.
2. LOS 48.b: Define arbitrage opportunity and determine whether an
arbitrage opportunity exists.
3. LOS 48.c: Calculate the expected return on an asset given an asset’s factor
sensitivities and the factor risk premiums.
4. LOS 48.d: Describe and compare macroeconomic factor models,
fundamental factor models, and statistical factor models.
5. LOS 48.e: Explain sources of active risk and interpret tracking risk and the
information ratio.
6. LOS 48.f: Describe uses of multifactor models and interpret the output of
analyses based on multifactor models.
7. LOS 48.g: Describe the potential benefits for investors in considering
multiple risk dimensions when modeling asset returns.
8. Key Concepts
1. LOS 48.a
2. LOS 48.b

3. LOS 48.c
4. LOS 48.d
5. LOS 48.e
6. LOS 48.f
7. LOS 48.g
9. Concept Checkers
1. Answers – Concept Checkers
13. Measuring and Managing Market Risk
1. LOS 49.a: Explain the use of value at risk (VaR) in measuring portfolio risk.
2. LOS 49.b: Compare the parametric (variance–covariance), historical
simulation, and Monte Carlo simulation methods for estimating VaR.
3. LOS 49.c: Estimate and interpret VaR under the parametric, historical
simulation, and Monte Carlo simulation methods.
4. LOS 49.d: Describe advantages and limitations of VaR.
5. LOS 49.e: Describe extensions of VaR.
6. LOS 49.f: Describe sensitivity risk measures and scenario risk measures and
compare these measures to VaR.
7. LOS 49.g: Demonstrate how equity, fixed-income, and options exposure
measures may be used in measuring and managing market risk and
volatility risk.
8. LOS 49.h: Describe the use of sensitivity risk measures and scenario risk
measures.


X VY

9. LOS 49.i: Describe advantages and limitations of sensitivity risk measures
and scenario risk measures.
10. LOS 49.j: Describe risk measures used by banks, asset managers, pension
funds, and insurers.

11. LOS 49.k: Explain constraints used in managing market risks, including risk
budgeting, position limits, scenario limits, and stop-loss limits.
12. LOS 49.l: Explain how risk measures may be used in capital allocation
decisions.
13. Key Concepts
1. LOS 49.a
2. LOS 49.b
3. LOS 49.c
4. LOS 49.d
5. LOS 49.e
6. LOS 49.f
7. LOS 49.g
8. LOS 49.h
9. LOS 49.i
10. LOS 49.j
11. LOS 49.k
12. LOS 49.l
14. Concept Checkers
1. Answers – Concept Checkers
14. Economics and Investment Markets
1. LOS 50.a: Explain the notion that to affect market values, economic factors
must affect one or more of the following: 1) default-free interest rates
across maturities, 2) the timing and/or magnitude of expected cash flows,
and 3) risk premiums.
2. LOS 50.b: Explain the role of expectations and changes in expectations in
market valuation.
3. LOS 50.c: Explain the relationship between the long-term growth rate of
the economy, the volatility of the growth rate, and the average level of real
short-term interest rates.
4. LOS 50.d: Explain how the phase of the business cycle affects policy and

short-term interest rates, the slope of the term structure of interest rates,
and the relative performance of bonds of differing maturities.
5. LOS 50.e: Describe the factors that affect yield spreads between noninflation-adjusted and inflation-indexed bonds.
6. LOS 50.f: Explain how the phase of the business cycle affects credit spreads
and the performance of credit-sensitive fixed-income instruments.
7. LOS 50.g: Explain how the characteristics of the markets for a company’s
products affect the company’s credit quality.
8. LOS 50.h: Explain how the phase of the business cycle affects short-term
and long-term earnings growth expectations.


9. LOS 50.i: Explain the relationship between the consumption-hedging
properties of equity and the equity risk premium.
10. LOS 50.j: Describe cyclical effects on valuation multiples.
11. LOS 50.k: Describe the implications of the business cycle for a given style
strategy (value, growth, small capitalization, large capitalization).
12. LOS 50.l: Describe how economic analysis is used in sector rotation
strategies.
13. LOS 50.m: Describe the economic factors affecting investment in
commercial real estate.
14. Key Concepts
1. LOS 50.a
2. LOS 50.b
3. LOS 50.c
4. LOS 50.d
5. LOS 50.e
6. LOS 50.f
7. LOS 50.g
8. LOS 50.h
9. LOS 50.i

10. LOS 50.j
11. LOS 50.k
12. LOS 50.l
13. LOS 50.m
15. Concept Checkers
1. Answers – Concept Checkers
15. Analysis of Active Portfolio Management
1. LOS 51.a: Describe how value added by active management is measured.
2. LOS 51.b: Calculate and interpret the information ratio (ex post and ex
ante) and contrast it to the Sharpe ratio.
3. LOS 51.c: State and interpret the fundamental law of active portfolio
management including its component terms—transfer coefficient,
information coefficient, breadth, and active risk (aggressiveness).
4. LOS 51.d: Explain how the information ratio may be useful in investment
manager selection and choosing the level of active portfolio risk.
5. LOS 51.e: Compare active management strategies (including market timing
and security selection) and evaluate strategy changes in terms of the
fundamental law of active management.
6. LOS 51.f: Describe the practical strengths and limitations of the
fundamental law of active management.
7. Key Concepts
1. LOS 51.a
2. LOS 51.b
3. LOS 51.c
4. LOS 51.d


X VY

16.

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5. LOS 51.e
6. LOS 51.f
8. Concept Checkers
1. Answers – Concept Checkers
Algorithmic Trading and High-Frequency Trading
1. LOS 52.a: Define algorithmic trading.
2. LOS 52.b: Distinguish between execution algorithms and high-frequency
trading algorithms.
3. LOS 52.c: Describe types of execution algorithms and high-frequency
trading algorithms.
4. LOS 52.d: Describe market fragmentation and its effects on how trades are
placed.
5. LOS 52.e: Describe the use of technology in risk management and
regulatory oversight.
6. LOS 52.f: Describe issues and concerns related to the impact of algorithmic
and high-frequency trading on securities markets.
7. Key Concepts
1. LOS 52.a
2. LOS 52.b
3. LOS 52.c
4. LOS 52.d
5. LOS 52.e
6. LOS 52.f
8. Concept Checkers
1. Answers – Concept Checkers

Self-Test: Portfolio Management
1. Self-Test Answers: Portfolio Management
Formulas
Copyright


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BOOK 5 – ALTERNATIVE INVESTMENTS AND
PORTFOLIO MANAGEMENT
Readings and Learning Outcome Statements
Study Session 15 – Alternative Investments
Self-Test – Alternative Investments
Study Session 16 – Portfolio Management: Process, Asset Allocation, and Risk
Management
Study Session 17 – Portfolio Management: Economic Analysis, Active Management,
and Trading
Self-Test – Portfolio Management
Formulas


READINGS AND LEARNING OUTCOME STATEMENTS
READINGS
The following material is a review of the Alternative Investments and Portfolio
Management principles designed to address the learning outcome statements set
forth by CFA Institute.

STUDY SESSION 15
Reading Assignments

Alternative Investments and Portfolio Management, CFA Program Curriculum,
Volume 6, Level II (CFA Institute, 2017)
43. Private Real Estate Investments (page 1)
44. Publicly Traded Real Estate Securities (page 34)
45. Private Equity Valuation (page 61)
46. Commodities and Commodity Derivatives: An Introduction (page 109)

STUDY SESSION 16
Reading Assignments
Alternative Investments and Portfolio Management, CFA Program Curriculum,
Volume 6, Level II (CFA Institute, 2017)
47. The Portfolio Management Process and the Investment Policy Statement
(page 129)
48. An Introduction to Multifactor Models (page 144)
49. Measuring and Managing Market Risk (page 167)

STUDY SESSION 17
Reading Assignments
Alternative Investments and Portfolio Management, CFA Program Curriculum,
Volume 6, Level II (CFA Institute, 2017)
50. Economics and Investment Markets (page 186)
51. Analysis of Active Portfolio Management (page 200)
52. Algorithmic Trading and High-Frequency Trading (page 216)


X VY

LEARNING OUTCOME STATEMENTS (LOS)
The CFA Institute Learning Outcome Statements are listed below. These are repeated
in each topic review; however, the order may have been changed in order to get a

better fit with the flow of the review.

STUDY SESSION 15
The topical coverage corresponds with the following CFA Institute assigned
reading:
43. Private Real Estate Investments
The candidate should be able to:
a. classify and describe basic forms of real estate investments. (page 1)
b. describe the characteristics, the classification, and basic segments of real
estate. (page 2)
c. explain the role in a portfolio, economic value determinants, investment
characteristics, and principal risks of private real estate. (page 4)
d. describe commercial property types, including their distinctive investment
characteristics. (page 6)
e. compare the income, cost, and sales comparison approaches to valuing real
estate properties. (page 7)
f. estimate and interpret the inputs (for example, net operating income,
capitalization rate, and discount rate) to the direct capitalization and
discounted cash flow valuation methods. (page 9)
g. calculate the value of a property using the direct capitalization and
discounted cash flow valuation methods. (page 9)
h. compare the direct capitalization and discounted cash flow valuation
methods. (page 17)
i. calculate the value of a property using the cost and sales comparison
approaches. (page 18)
j. describe due diligence in private equity real estate investment. (page 23)
k. discuss private equity real estate investment indexes, including their
construction and potential biases. (page 23)
l. explain the role in a portfolio, the major economic value determinants,
investment characteristics, principal risks, and due diligence of private real

estate debt investment. (page 4)
m. calculate and interpret financial ratios used to analyze and evaluate private
real estate investments. (page 24)


VY

The topical coverage corresponds with the following CFA Institute assigned
reading:
44. Publicly Traded Real Estate Securities
The candidate should be able to:
a. describe types of publicly traded real estate securities. (page 34)
b. explain advantages and disadvantages of investing in real estate through
publicly traded securities. (page 35)
c. explain economic value determinants, investment characteristics, principal
risks, and due diligence considerations for real estate investment trust (REIT)
shares. (page 37)
d. describe types of REITs. (page 39)
e. Justify the use of net asset value per share (NAVPS) in REIT valuation and
estimate NAVPS based on forecasted cash net operating income. (page 43)
f. describe the use of funds from operations (FFO) and adjusted funds from
operations (AFFO) in REIT valuation. (page 46)
g. compare the net asset value, relative value (price-to-FFO and price-to-AFFO),
and discounted cash flow approaches to REIT valuation. (page 47)
h. calculate the value of a REIT share using net asset value, price-to-FFO and
price-to-AFFO, and discounted cash flow approaches. (page 48)
The topical coverage corresponds with the following CFA Institute assigned
reading:
45. Private Equity Valuation
The candidate should be able to:

a. explain sources of value creation in private equity. (page 62)
b. explain how private equity firms align their interests with those of the
managers of portfolio companies. (page 63)
c. distinguish between the characteristics of buyout and venture capital
investments. (page 64)
d. describe valuation issues in buyout and venture capital transactions. (page
68)
e. explain alternative exit routes in private equity and their impact on value.
(page 72)
f. explain private equity fund structures, terms, valuation, and due diligence in
the context of an analysis of private equity fund returns. (page 73)
g. explain risks and costs of investing in private equity. (page 78)
h. Interpret and compare financial performance of private equity funds from
the perspective of an investor. (page 80)


i. calculate management fees, carried interest, net asset value, distributed to
paid in (DPI), residual value to paid in (RVPI), and total value to paid in (TVPI)
of a private equity fund. (page 83)
j. calculate pre-money valuation, post-money valuation, ownership fraction,
and price per share applying the venture capital method 1) with single and
multiple financing rounds and 2) in terms of IRR. (page 85)
k. demonstrate alternative methods to account for risk in venture capital.
(page 90)
The topical coverage corresponds with the following CFA Institute assigned
reading:
46. Commodities and Commodity Derivatives: An Introduction
The candidate should be able to:
a. compare characteristics of commodity sectors. (page 109)
b. compare the life cycle of commodity sectors from production through

trading or consumption. (page 111)
c. contrast the valuation of commodities with the valuation of equities and
bonds. (page 112)
d. describe types of participants in commodity futures markets. (page 113)
e. Analyze the relationship between spot prices and expected future prices in
markets in contango and markets in backwardation. (page 114)
f. compare theories of commodity futures returns. (page 114)
g. describe, calculate, and interpret the components of total return for a fully
collateralized commodity futures contract. (page 116)
h. contrast roll return in markets in contango and markets in backwardation.
(page 117)
i. describe how commodity swaps are used to obtain or modify exposure to
commodities. (page 117)
j. describe how the construction of commodity indexes affects index returns.
(page 119)

STUDY SESSION 16
The topical coverage corresponds with the following CFA Institute assigned
reading:
47. The Portfolio Management Process and the Investment Policy Statement
The candidate should be able to:
a. explain the importance of the portfolio perspective. (page 130)


X VY

b. describe the steps of the portfolio management process and the
components of those steps. (page 130)
c. explain the role of the investment policy statement in the portfolio
management process and describe the elements of an investment policy

statement. (page 131)
d. explain how capital market expectations and the investment policy
statement help influence the strategic asset allocation decision and how an
investor’s investment time horizon may influence the investor’s strategic
asset allocation. (page 131)
e. define investment objectives and constraints and explain and distinguish
among the types of investment objectives and constraints. (page 132)
f. contrast the types of investment time horizons, determine the time horizon
for a particular investor, and evaluate the effects of this time horizon on
portfolio choice. (page 136)
g. Justify ethical conduct as a requirement for managing investment portfolios.
(page 137)
The topical coverage corresponds with the following CFA Institute assigned
reading:
48. An Introduction to Multifactor Models
The candidate should be able to:
a. describe arbitrage pricing theory (APT), including its underlying assumptions
and its relation to multifactor models. (page 144)
b. define arbitrage opportunity and determine whether an arbitrage
opportunity exists. (page 145)
c. calculate the expected return on an asset given an asset’s factor sensitivities
and the factor risk premiums. (page 146)
d. describe and compare macroeconomic factor models, fundamental factor
models, and statistical factor models. (page 148)
e. explain sources of active risk and interpret tracking risk and the information
ratio. (page 153)
f. describe uses of multifactor models and interpret the output of analyses
based on multifactor models. (page 155)
g. describe the potential benefits for investors in considering multiple risk
dimensions when modeling asset returns. (page 160)

The topical coverage corresponds with the following CFA Institute assigned
reading:
49. Measuring and Managing Market Risk
The candidate should be able to:


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a. explain the use of value at risk (VaR) in measuring portfolio risk. (page 167)
b. compare the parametric (variance–covariance), historical simulation, and
Monte Carlo simulation methods for estimating VaR. (page 168)
c. estimate and interpret VaR under the parametric, historical simulation, and
Monte Carlo simulation methods. (page 168)
d. describe advantages and limitations of VaR. (page 171)
e. describe extensions of VaR. (page 172)
f. describe sensitivity risk measures and scenario risk measures and compare
these measures to VaR. (page 173)
g. demonstrate how equity, fixed-income, and options exposure measures may
be used in measuring and managing market risk and volatility risk. (page 173)
h. describe the use of sensitivity risk measures and scenario risk measures.
(page 174)
i. describe advantages and limitations of sensitivity risk measures and scenario
risk measures. (page 176)
j. describe risk measures used by banks, asset managers, pension funds, and
insurers. (page 176)
k. explain constraints used in managing market risks, including risk budgeting,
position limits, scenario limits, and stop-loss limits. (page 178)
l. explain how risk measures may be used in capital allocation decisions. (page
179)

STUDY SESSION 17
The topical coverage corresponds with the following CFA Institute assigned
reading:
50. Economics and Investment Markets
The candidate should be able to:
a. explain the notion that to affect market values, economic factors must affect
one or more of the following: 1) default-free interest rates across maturities,
2) the timing and/or magnitude of expected cash flows, and 3) risk
premiums. (page 186)
b. explain the role of expectations and changes in expectations in market
valuation. (page 186)
c. explain the relationship between the long-term growth rate of the economy,
the volatility of the growth rate, and the average level of real short-term
interest rates. (page 187)
d. explain how the phase of the business cycle affects policy and short-term
interest rates, the slope of the term structure of interest rates, and the


relative performance of bonds of differing maturities. (page 189)
e. describe the factors that affect yield spreads between non-inflation-adjusted
and inflation-indexed bonds. (page 190)
f. explain how the phase of the business cycle affects credit spreads and the
performance of credit-sensitive fixed-income instruments. (page 191)
g. explain how the characteristics of the markets for a company’s products
affect the company’s credit quality. (page 191)
h. explain how the phase of the business cycle affects short-term and longterm earnings growth expectations. (page 192)
i. explain the relationship between the consumption-hedging properties of
equity and the equity risk premium. (page 192)
j. describe cyclical effects on valuation multiples. (page 192)
k. describe the implications of the business cycle for a given style strategy

(value, growth, small capitalization, large capitalization). (page 193)
l. describe how economic analysis is used in sector rotation strategies. (page
193)
m. describe the economic factors affecting investment in commercial real
estate. (page 194)
The topical coverage corresponds with the following CFA Institute assigned
reading:
51. Analysis of Active Portfolio Management
The candidate should be able to:
a. describe how value added by active management is measured. (page 200)
b. calculate and interpret the information ratio (ex post and ex ante) and
contrast it to the Sharpe ratio. (page 203)
c. State and interpret the fundamental law of active portfolio management
including its component terms—transfer coefficient, information coefficient,
breadth, and active risk (aggressiveness). (page 206)
d. explain how the information ratio may be useful in investment manager
selection and choosing the level of active portfolio risk. (page 208)
e. compare active management strategies (including market timing and
security selection) and evaluate strategy changes in terms of the
fundamental law of active management. (page 208)
f. describe the practical strengths and limitations of the fundamental law of
active management. (page 211)
The topical coverage corresponds with the following CFA Institute assigned
reading:
52. Algorithmic Trading and High-Frequency Trading


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The candidate should be able to:

a. define algorithmic trading. (page 216)
b. distinguish between execution algorithms and high-frequency trading
algorithms. (page 216)
c. describe types of execution algorithms and high-frequency trading
algorithms. (page 217)
d. describe market fragmentation and its effects on how trades are placed.
(page 219)
e. describe the use of technology in risk management and regulatory oversight.
(page 220)
f. describe issues and concerns related to the impact of algorithmic and highfrequency trading on securities markets. (page 221)