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CFA Level II Updated
How do the BSM Greeks (delta, gamma, vega, theta, rho) measure option sensitivity, and which matters most?
The BSM Greeks measure option sensitivity to underlying price (delta), rate of delta change (gamma), volatility (vega), time decay (theta), and interest rates (rho). Together they provide a complete risk profile of any option position.
When should I use forward P/E versus trailing P/E in comparable analysis?
Forward P/E is generally preferred because valuation is inherently forward-looking, and it captures expected earnings changes. Use trailing P/E when analyst coverage is unavailable, forecasts are unreliable, or for historical screening and cycle analysis.
How is contingent consideration remeasured after a business combination and where do changes hit?
Contingent consideration classified as a liability must be remeasured to fair value each reporting period, with changes recognized in the income statement. If classified as equity, no remeasurement occurs.
How does the 'riding the yield curve' strategy work, and when does it fail?
Riding the yield curve involves buying a bond with a longer maturity than your horizon and profiting as it rolls down to a lower yield over time. The strategy works when the yield curve is upward-sloping and remains unchanged, generating capital gains beyond coupon income. It fails if the curve flattens, shifts up, or if the expectations hypothesis holds.
Why is EV/EBITDA often preferred over P/E for comparing companies, and what are the major pitfalls?
EV/EBITDA is preferred over P/E because it is capital-structure-neutral, accounting-policy-neutral, and almost always produces a usable number. The biggest pitfall is that it ignores capex intensity, so two companies with the same EV/EBITDA can have vastly different free cash flow profiles.
What are the journal entries for the equity method of accounting for investments?
The equity method records the initial investment at cost, then adjusts the carrying value upward for the investor's share of income, downward for dividends received, and downward for amortization of excess purchase price allocated to identifiable assets. Goodwill embedded in the investment is not amortized but is tested for impairment.
How do you invest in commodities and what is roll yield? I keep seeing terms like contango and backwardation.
Commodity futures returns consist of spot return, roll yield, and collateral yield. Contango (futures above spot) creates negative roll yield, while backwardation (futures below spot) creates positive roll yield that enhances returns.
What are the '4 Vs' of big data and what challenges do they create for investment analysis?
The 4 Vs of big data — volume, velocity, variety, and veracity — describe both the characteristics and challenges of working with alternative data in investment analysis. Each V creates specific processing, integration, and reliability problems.
Why do companies choose share repurchases over dividends, and what signal does each send?
Share repurchases and dividends both return cash to shareholders, but buybacks offer greater tax efficiency, flexibility, and a stronger undervaluation signal. However, they can also be used to manipulate EPS and may not always create value.
What are the main types of exotic options and when would you use each one?
Exotic options modify one or more features of standard options to address specific hedging or speculative needs. The main types include barrier options, Asian options, lookback options, and digital options, each solving different practical problems.
How do you account for subsidiaries in hyperinflationary economies?
Hyperinflation occurs when cumulative three-year inflation approaches 100%. Under IFRS, subsidiaries in hyperinflationary economies first restate their statements for inflation (IAS 29), then translate at the current rate. Under US GAAP, the temporal method is used directly.
What are the key differences in pension expense reporting between IFRS and US GAAP?
The key differences lie in how each framework handles the return on plan assets and actuarial gains/losses. IFRS uses a single net interest rate, while US GAAP separates interest cost and expected return. Actuarial items never recycle from OCI under IFRS but are amortized via the corridor approach under US GAAP.
Why do companies do reverse stock splits and what does it signal?
Reverse splits consolidate shares to raise per-share price. Motivations include exchange listing compliance ($1 minimum), institutional accessibility ($5 penny stock rules), reduced short pressure, and pre-merger cleanup. Generally a negative signal — reverse-splitters underperform by 20-40% over 3 years...
What is pecking order theory and why do firms prefer internal funds?
Pecking order: information asymmetry makes equity costly to issue, so firms prefer internal funds, then debt, then equity. Explains negative profitability-leverage relation and infrequent equity issuance.
When should I use Poisson regression and how do I interpret it?
Poisson regression models count data using Poisson distribution with log link. Coefficients are interpreted as log rate ratios; key assumption is equidispersion...
What is the Capital Market Line and how does it differ from the CAL?
The CML is the specific CAL drawn from rf through the market portfolio. It has the steepest possible slope and represents all efficient portfolios when a risk-free asset exists...
What is cointegration and how is it used in pairs trading?
Cointegration: non-stationary series with a stationary linear combination, implying long-run equilibrium. Used in pairs trading via Engle-Granger or Johansen tests.
How does the augmented Dickey-Fuller (ADF) test work?
ADF test checks for unit root. Null is non-stationary; reject when t-stat on lagged level is more negative than critical value. Difference non-stationary series until stationary.
Why is the inverted yield curve considered a recession indicator?
The yield curve inverts when short-term yields exceed long-term yields...
What is a butterfly trade on the yield curve?
A butterfly trade positions across three maturities to profit from changes in curve curvature...
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