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CFA Level II Updated
How is contingent consideration (earnouts) accounted for in business combinations?
Contingent consideration (earnouts) is measured at fair value at acquisition date and included in total consideration. Subsequently, liability-classified earnouts are remeasured to fair value through P&L; equity-classified are not remeasured...
How is private company stock valued for fair value reporting?
Private stock valuation blends market, income, and cost approaches with calibration to recent financings. Always Level 3 due to significant unobservable inputs requiring full disclosure.
How does shareholder activism affect target company valuations?
Shareholder activism typically generates a 5-10% initial pop and 10-15% two-year abnormal returns, but outcomes depend on activist quality and demand merit.
What are fallen angel bonds and why do they often outperform?
Fallen angels are bonds that were investment grade at issuance but have been downgraded to high yield. They outperform for technical and fundamental reasons.
When should I use polynomial regression to capture curvature in the data?
Polynomial regression is useful when you have clear evidence of nonlinearity and a theoretical reason for the curvature.
When should I add interaction terms to my regression in practice?
Add interactions when theory or domain knowledge predicts that the effect of one variable depends on another. Do not add them mechanically as a data-mining exercise.
What is the fundamental approach to credit analysis?
Fundamental credit analysis follows 8 steps: industry, competitive position, management, financials, leverage/coverage, liquidity, structure, scenarios. For Silvercrest Logistics: #5 trucking player, 3.2x leverage, clean structure → Ba2/BB rating...
When should I use a debit spread instead of buying a single option?
A debit spread caps both risk and reward, making it cheaper than a naked call when you have a specific price target and want to reduce vega.
What is a credit spread and how is it different from selling naked options?
A credit spread defines maximum loss with a protective long option, drastically reducing margin and tail risk versus selling naked options.
Why is own credit risk on liabilities reported in OCI rather than P&L?
OCI treatment of own-credit avoids the paradox of P&L gains when credit deteriorates. Measure via residual method or CDS-based approximation; special exception exists if OCI creates new mismatch.
How does the resource-based view (RBV) identify sustainable competitive advantage?
VRIO tests whether a resource is Valuable, Rare, Inimitable, and Organizationally embedded. Inimitability comes from historical accident, causal ambiguity, social complexity, or legal protection...
What is Porter's 'stuck in the middle' problem and how do I spot it?
'Stuck in the middle' describes a firm that fails to commit to cost leadership or differentiation and underperforms both. Symptoms: gross margin below differentiators but costs above cost leaders, medium loyalty, weak ROIC...
What are the main methods for estimating a factor model?
Three main approaches: time-series regression (macro factors observable), cross-sectional regression (characteristics observable), and statistical factor models (PCA or ML)...
What is empirical duration and how does it differ from analytical duration?
Empirical duration is the negative slope from regressing bond returns on yield changes. Captures credit and liquidity effects that analytical duration misses.
Why does decomposing ROE into operating spread and financial spread matter?
Alpha (RNOA 16% + small leverage) vs Beta (RNOA 10% + heavy leverage) both yield 18% ROE but Alpha is sustainable and Beta is fragile — a 3pt RNOA drop cuts Beta's ROE by 4.8pts vs Alpha's 3pts. Decomposition reveals quality.
How do I identify derivatives embedded in host contracts?
An embedded derivative is a contractual provision that causes some or all of the cash flows of a host...
How is hedge ineffectiveness measured and reported?
Hedge ineffectiveness is the difference between the change in the derivative's fair value...
What are the main motivations for mergers and acquisitions?
M&A motivations fall into categories — synergy, growth, market power, capability acquisition, tax, unlocking hidden value, diversification.
What is the change of numeraire technique in derivatives pricing?
Change of numeraire is a Girsanov-powered technique that lets you price derivatives using any tradeable asset as reference.
What is the swap measure and how is it used for swaptions?
The swap measure uses the swap annuity A(t) as numeraire. Under this measure, the forward swap rate becomes a martingale.
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