Free CAIA Level II Due Diligence and Selecting Managers Practice Questions
Due diligence and manager selection on CAIA Level II covers fund selection frameworks, performance persistence analysis, operational due diligence processes, fraud case studies, compliance review, and fund documentation (PPMs, LPAs, side letters).
Which of the following statements about quantitative due diligence is most accurate?
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Correct Answer: C
Solution
C is correct. Quantitative due diligence involves analyzing the statistical properties of a fund's return stream, including return distribution, Sharpe ratio, drawdowns, correlation to benchmarks, and other risk-adjusted metrics, to assess whether the performance record is consistent with the stated strategy.
Question 2
Medium
A use-of-name clause in a side letter would most directly restrict which of the following GP behaviors?
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Correct Answer: D
Solution
D is correct. A use-of-name clause prohibits the GP from identifying or referencing the LP—by name, logo, or affiliation—in fundraising materials, investor presentations, press releases, or reference lists without the LP's explicit prior consent. This is particularly important for institutional investors with reputational or regulatory sensitivities.
Question 3
Hard
Volatility of volatility (vol-of-vol) is most directly relevant to which of the following due diligence scenarios?
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Correct Answer: B
Solution
B is correct. Volatility of volatility refers to the variability of volatility itself — that is, how much realized volatility fluctuates over time. This is directly relevant to funds that have short volatility or short variance exposures (selling variance swaps, VIX futures, or variance options). A fund that sells variance at a fixed strike profits when realized variance is low and stable, but suffers convex losses when realized variance spikes unexpectedly. High vol-of-vol means there is a significant probability of a volatility regime shift that moves far beyond the level implied by historical averages. In due diligence, assessing a short-vol manager's exposure to vol-of-vol — and whether their risk models account for regime changes — is essential to understanding the true tail risk of the strategy.
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