Title LM01 Alternative Investment Features, Methods, and Structures IFT Notes.pdf ✅

LM01 Alternative Investment Features, Methods, and Structures 2025 Level I Notes © IFT. All rights reserved 1 LM01 Alternative Investment Features, Methods, and Structures 1. Introduction ........................................................................................................................................................... 2 2. Alternative Investment Features ................................................................................................................... 2 3. Alternative Investment Methods ................................................................................................................... 4 4. Alternative Investment Structures ............................................................................................................... 6 Summary ...................................................................................................................................................................... 9 Required disclaimer: IFT is a CFA Institute Prep Provider. Only CFA Institute Prep Providers are permitted to make use of CFA Institute copyrighted materials which are the building blocks of the exam. We are also required to create / use updated materials every year and this is validated by CFA Institute. Our products and services substantially cover the relevant curriculum and exam and this is validated by CFA Institute. In our advertising, any statement about the numbers of questions in our products and services relates to unique, original, proprietary questions. CFA Institute Prep Providers are forbidden from including CFA Institute official mock exam questions or any questions other than the end of reading questions within their products and services. CFA Institute does not endorse, promote, review or warrant the accuracy or quality of the product and services offered by IFT. CFA Institute®, CFA® and “Chartered Financial Analyst®” are trademarks owned by CFA Institute. © Copyright CFA Institute Version 1.0
LM01 Alternative Investment Features, Methods, and Structures 2025 Level I Notes © IFT. All rights reserved 2 1. Introduction This learning module covers:  Features and categories of alternative investments  Methods of investing in alternative investments; the advantages and disadvantages of each method  Investment and compensation structures commonly used in alternative investments Traditional investments refer to long-only positions in stocks, bonds, and cash. All other investments are classified as alternative investments. Alternative investments can be divided into three main categories:  Private capital  Real assets  Hedge funds 2. Alternative Investment Features Why Investors Consider Alternative Investments Since the mid-1990s assets under management in alternative investments have grown significantly. Investors consider alternative investments due to:  The potential for portfolio diversification. Alternative investments have low correlation with traditional asset classes.  The opportunities for enhanced returns. Adding alternative investments can increase the portfolio’s risk-return profile.  The potentially increased income through higher yields. During low-interest rate periods, alternative investments can provide significantly higher yields as compared to traditional investments. Alternative Investments: Features and Categories Some features of alternative investments are same as traditional investments, while some features are significantly different. Features that distinguish alternative investments are:  Need for specialized knowledge: For example, within private equity, you have leveraged buyout and venture capital. There are managers who focus only on leveraged buyouts within private equity.  Relatively low correlation with traditional investments. But correlation may increase during times of financial crisis.  Illiquidity, long investment time horizons, and large capital outlays Due to these features, alternative investments have the following characteristics:  Different investment structures to solve the challenges of direct investment
LM01 Alternative Investment Features, Methods, and Structures 2025 Level I Notes © IFT. All rights reserved 3  Incentive-based fee structure to address information asymmetry between managers and investors.  Performance appraisal challenges Categories of Alternative Investments The main categories of alternative investments are: Private capital Private equity:  Private equity funds invest in the equity of private companies or public companies that want to become private.  They are further divided into o Leveraged buyout funds: Invest in established companies. o Venture capital funds: Invest in startups or early-stage companies. Private debt:  Includes debt provided to private entities.  Forms of private debt include: o Direct lending: private loans with no intermediary. o Mezzanine loans: private subordinated debt. o Venture debt: private loans to startups or early-stage companies. o Distressed debt: private loans to distressed companies, e.g., companies facing bankruptcy. Real Assets Real estate:  Investments in buildings or land either directly or indirectly.  Securitization has broadened the definition of real estate investing and it now includes: o Private commercial real estate equity: e.g., ownership of an office building o Private commercial real estate debt: e.g., directly issued mortgages on commercial property o Public real estate equity: e.g., real estate investment trusts (REITS) o Public real estate debt: e.g., mortgage-backed securities (MBS). Infrastructure:  Investments in capital intensive, long-lived, real assets such as roads, dams, and schools, which are intended for public use and provide essential service.  A common approach to infrastructure investing is a public–private partnership (PPP) in which both the government and investors have a stake.
LM01 Alternative Investment Features, Methods, and Structures 2025 Level I Notes © IFT. All rights reserved 4 Natural Resources: Commodities:  Investment in physical assets such as grains, metals, crude oil, etc.  Commodity investments can be done by either owning physical assets, using derivative products, or investing in business engaged in the exploration and production of physical commodities. Agricultural land (or farmland):  Investments in land used for the cultivation of crops or livestock.  Income can be generated from the growth, harvest and sale of crops or livestock; or by leasing the land back to farmers. Timberland:  Investments in natural forests or managed tree plantations.  The return comes from the sale of trees, wood, and other timber products. Digital Assets:  An umbrella term that covers assets that can be created, stored, and transmitted electronically an have associated ownership or use rights.  E.g., cryptocurrencies and tokens. Hedge funds  They are private investment vehicles that manage portfolios of securities and derivative positions using a variety of strategies.  Some hedge funds aim for absolute returns independent of market performance. 3. Alternative Investment Methods Alternative Investment Methods The three methods of investing in alternative investments are:  Fund investing: The investor contributes capital to a fund, and the fund makes investments on the investors’ behalf, e.g., investments in a PE fund.  Co-investing: The investor can make investments alongside a fund, e.g., investments in a portfolio company of a fund. In co-investing, the investor is able to invest both directly and indirectly in the same assets.  Direct investing: The investor makes a direct investment in a company or project without the use of an intermediary, e.g., direct investments in infrastructure or real estate assets. Exhibit 1 from the curriculum illustrates the three methods of investing in alternative investments: