R25 alternative investments portfolio management

Reading 25
Alternative Investments Portfolio
Management
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Graphs, charts, tables, examples, and figures are copyright 2014, CFA Institute. Reproduced
and republished with permission from CFA Institute. All rights reserved.


Contents
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Introduction
Alternative Investments: Definitions, Similarities and Contrasts
Real Estate
Private Equity/Venture Capital
Commodity Investments
Hedge Funds
Managed Futures
Distressed Securities

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1. Introduction

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2. Alternative Investments: Definitions, Similarities and
Contrasts
Common Features of Alternative Investments

 informationally less efficient

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Major investors in alternative investments:
High net worth individuals
Institutional investors (some might have restrictions)

Factors:
Illiquidity might be an issue for some investors; others
might benefit from illiquidity premium
Due diligence costs are often high

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1. Tax issues
2. Determining suitability

3. Communication with client
4. Decision risk: risk of changing strategies at point of maximum loss. More likely when:

5. Concentrated equity position of the client in a closely held company

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3. Real Estate
• This segment focuses on equity investments in real estate
• Subsections:
 The Real Estate Market
 Benchmarks and Historical Performance
 Real Estate: Investment Characteristics and Roles

Real estate represents one-third to one-half of the world’s wealth!

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The Real Estate Market

1. Direct ownership in residences, business real estate
and agricultural land
2. Companies engaged in real estate ownership,
development or management

Indirect

3. Real estate investment trusts (REITs)

4. Commingled real estate funds (CREFs)

Publically traded equities representing
investments in real estate
Investors get cash from underlying real estate
Pooled investment in real estate
Open-end and closed-end funds
Access expertise of professional managers
Typically offered by same real estate advisors
sponsoring CREFs

5. Separately managed accounts

Consortium of private companies build
projects for public use… and receive revenue
stream over a contracted period

6. Infrastructure funds

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Benchmarks and Historical Performance

Many benchmarks are appraisal based
Appraisals are infrequent  volatility is understated
Understand whether benchmark represents leveraged or unleveraged investments
Is the benchmark investable or not

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Real Estate: Investment Characteristics and Roles
General Characteristics of real estate investment:
1. Lack of liquidity
2. Large lot sizes
3. High transaction costs
4. Heterogeneity
5. Immobility
6. Relatively low information transparency

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Advantages of direct equity real estate investing

 Inflation hedge
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Disadvantages of direct equity real estate investing

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…

Across different types of real estate: apartments, industrial, office, retail
Across different regions
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4. Private Equity/Venture Capital
• Ownership in a non-publicly-traded company
 Directly or through private equity fund

• Venture Capital vs. Buyout Funds
• Private Investment in Public Company (PIPE)
 Example 5

• Private equity investments require distinct knowledge and
experience
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The Private Equity Market
• The need for venture capital

 Entrepreneurs might not have sufficient capital to grow company
 Entrepreneurs might want to diversify
 Entrepreneurs might seek expertise offered by VC firm

• Issuers of venture capital include
 Formative-stage companies
 Expansion-stage companies

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