SSV9X - 0969149105 Book 4: Fixed Income, Derivatives, and Alternative Investments SchweserNotes™ 2022 Level I CFA® SSV9X - 0969149105 SCHWESERNOTES™ 2022 LEVEL I CFA® BOOK 4: FIXED INCOME, DERIVATIVES, AND ALTERNATIVE INVESTMENTS ©2021 Kaplan, Inc All rights reserved Published in 2021 by Kaplan, Inc Printed in the United States of America ISBN: 978-1-0788-1605-2 These materials may not be copied without written permission from the author The unauthorized duplication of these notes is a violation of global copyright laws and the CFA Institute Code of Ethics Your assistance in pursuing potential violators of this law is greatly appreciated Required CFA Institute disclaimer: “CFA Institute does not endorse, promote, or warrant the accuracy or quality of the products or services offered by Kaplan Schweser CFA® and Chartered Financial Analyst® are trademarks owned by CFA Institute.” Certain materials contained within this text are the copyrighted property of CFA Institute The following is the copyright disclosure for these materials: “Copyright, 2021, CFA Institute Reproduced and republished from 2022 Learning Outcome Statements, Level I, II, and III questions from CFA® Program Materials, CFA Institute Standards of Professional Conduct, and CFA Institute’s Global Investment Performance Standards with permission from CFA Institute All Rights Reserved.” Disclaimer: The SchweserNotes should be used in conjunction with the original readings as set forth by CFA Institute in their 2022 Level I CFA Study Guide The information contained in these Notes covers topics contained in the readings referenced by CFA Institute and is believed to be accurate However, their accuracy cannot be guaranteed nor is any warranty conveyed as to your ultimate exam success The authors of the referenced readings have not endorsed or sponsored these Notes SSV9X - 0969149105 CONTENTS Learning Outcome Statements (LOS) STUDY SESSION 13—Fixed Income (1) READING 39 Fixed-Income Securities: De ining Elements Exam Focus Module 39.1: Bond Indentures, Regulation, and Taxation Module 39.2: Bond Cash Flows and Contingencies Key Concepts Answer Key for Module Quizzes READING 40 Fixed-Income Markets: Issuance, Trading, and Funding Exam Focus Module 40.1: Types of Bonds and Issuers Module 40.2: Corporate Debt and Funding Alternatives Key Concepts Answer Key for Module Quizzes READING 41 Introduction to Fixed-Income Valuation Exam Focus Module 41.1: Bond Valuation and Yield to Maturity Module 41.2: Spot Rates and Accrued Interest Module 41.3: Yield Measures Module 41.4: Yield Curves Module 41.5: Yield Spreads Key Concepts Answer Key for Module Quizzes READING 42 Introduction to Asset-Backed Securities Exam Focus Module 42.1: Structure of Mortgage-Backed Securities Module 42.2: Prepayment Risk and Non-Mortgage-Backed ABS Key Concepts Answer Key for Module Quizzes STUDY SESSION 14—Fixed Income (2) READING 43 Understanding Fixed-Income Risk and Return SSV9X - 0969149105 Exam Focus Module 43.1: Sources of Returns, Duration Module 43.2: Interest Rate Risk and Money Duration Module 43.3: Convexity and Yield Volatility Key Concepts Answer Key for Module Quizzes READING 44 Fundamentals of Credit Analysis Exam Focus Module 44.1: Credit Risk and Bond Ratings Module 44.2: Evaluating Credit Quality Key Concepts Answer Key for Module Quizzes STUDY SESSION 15—Derivatives READING 45 Derivative Markets and Instruments Exam Focus Module 45.1: Forwards and Futures Module 45.2: Swaps and Options Key Concepts Answer Key for Module Quizzes READING 46 Basics of Derivative Pricing and Valuation Exam Focus Module 46.1: Forwards and Futures Valuation Module 46.2: Forward Rate Agreements and Swap Valuation Module 46.3: Option Valuation and Put-Call Parity Module 46.4: Binomial Model for Option Values Key Concepts Answer Key for Module Quizzes STUDY SESSION 16—Alternative Investments READING 47 Introduction to Alternative Investments Exam Focus Module 47.1: Alternative Investment Structures Module 47.2: Hedge Funds Module 47.3: Private Capital Module 47.4: Natural Resources, Real Estate, and Infrastructure Module 47.5: Performance Appraisal and Return Calculations Key Concepts Answer Key for Module Quizzes SSV9X - 0969149105 Topic Quiz Appendix Formulas Index SSV9X - 0969149105 LEARNING OUTCOME STATEMENTS (LOS) STUDY SESSION 13 The topical coverage corresponds with the following CFA Institute assigned reading: 39 Fixed-Income Securities: Defining Elements The candidate should be able to: a describe basic features of a ixed-income security b describe content of a bond indenture c compare af irmative and negative covenants and identify examples of each d describe how legal, regulatory, and tax considerations affect the issuance and trading of ixed-income securities e describe how cash lows of ixed-income securities are structured f describe contingency provisions affecting the timing and/or nature of cash lows of ixed-income securities and whether such provisions bene it the borrower or the lender The topical coverage corresponds with the following CFA Institute assigned reading: 40 Fixed-Income Markets: Issuance, Trading, and Funding The candidate should be able to: a describe classi ications of global ixed-income markets b describe the use of interbank offered rates as reference rates in loating-rate debt c describe mechanisms available for issuing bonds in primary markets d describe secondary markets for bonds e describe securities issued by sovereign governments f describe securities issued by non-sovereign governments, quasi-government entities, and supranational agencies g describe types of debt issued by corporations h describe structured inancial instruments i describe short-term funding alternatives available to banks j describe repurchase agreements (repos) and the risks associated with them The topical coverage corresponds with the following CFA Institute assigned reading: 41 Introduction to Fixed-Income Valuation The candidate should be able to: a calculate a bond’s price given a market discount rate b identify the relationships among a bond’s price, coupon rate, maturity, and market discount rate (yield-to-maturity) c de ine spot rates and calculate the price of a bond using spot rates d describe and calculate the lat price, accrued interest, and the full price of a bond e describe matrix pricing f calculate annual yield on a bond for varying compounding periods in a year g calculate and interpret yield measures for ixed-rate bonds and loating-rate notes h calculate and interpret yield measures for money market instruments i de ine and compare the spot curve, yield curve on coupon bonds, par curve, and forward curve j de ine forward rates and calculate spot rates from forward rates, forward rates from spot rates, and the price of a bond using forward rates SSV9X - 0969149105 k compare, calculate, and interpret yield spread measures The topical coverage corresponds with the following CFA Institute assigned reading: 42 Introduction to Asset-Backed Securities The candidate should be able to: a explain bene its of securitization for economies and inancial markets b describe securitization, including the parties involved in the process and the roles they play c describe typical structures of securitizations, including credit tranching and time tranching d describe types and characteristics of residential mortgage loans that are typically securitized e describe types and characteristics of residential mortgage-backed securities, including mortgage pass-through securities and collateralized mortgage obligations, and explain the cash lows and risks for each type f de ine prepayment risk and describe the prepayment risk of mortgage-backed securities g describe characteristics and risks of commercial mortgage-backed securities h describe types and characteristics of non-mortgage asset-backed securities, including the cash lows and risks of each type i describe collateralized debt obligations, including their cash lows and risks j describe characteristics and risks of covered bonds and how they differ from other asset-backed securities STUDY SESSION 14 The topical coverage corresponds with the following CFA Institute assigned reading: 43 Understanding Fixed-Income Risk and Return The candidate should be able to: a calculate and interpret the sources of return from investing in a ixed-rate bond b de ine, calculate, and interpret Macaulay, modi ied, and effective durations c explain why effective duration is the most appropriate measure of interest rate risk for bonds with embedded options d de ine key rate duration and describe the use of key rate durations in measuring the sensitivity of bonds to changes in the shape of the benchmark yield curve e explain how a bond’s maturity, coupon, and yield level affect its interest rate risk f calculate the duration of a portfolio and explain the limitations of portfolio duration g calculate and interpret the money duration of a bond and price value of a basis point (PVBP) h calculate and interpret approximate convexity and compare approximate and effective convexity i calculate the percentage price change of a bond for a speci ied change in yield, given the bond’s approximate duration and convexity j describe how the term structure of yield volatility affects the interest rate risk of a bond k describe the relationships among a bond’s holding period return, its duration, and the investment horizon l explain how changes in credit spread and liquidity affect yield-to-maturity of a bond and how duration and convexity can be used to estimate the price effect of the SSV9X - 0969149105 changes m describe the difference between empirical duration and analytical duration The topical coverage corresponds with the following CFA Institute assigned reading: 44 Fundamentals of Credit Analysis The candidate should be able to: a describe credit risk and credit-related risks affecting corporate bonds b describe default probability and loss severity as components of credit risk c describe seniority rankings of corporate debt and explain the potential violation of the priority of claims in a bankruptcy proceeding d compare and contrast corporate issuer credit ratings and issue credit ratings and describe the rating agency practice of “notching.” e explain risks in relying on ratings from credit rating agencies f explain the four Cs (Capacity, Collateral, Covenants, and Character) of traditional credit analysis g calculate and interpret inancial ratios used in credit analysis h evaluate the credit quality of a corporate bond issuer and a bond of that issuer, given key inancial ratios of the issuer and the industry i describe macroeconomic, market, and issuer-speci ic factors that in luence the level and volatility of yield spreads j explain special considerations when evaluating the credit of high-yield, sovereign, and non-sovereign government debt issuers and issues STUDY SESSION 15 The topical coverage corresponds with the following CFA Institute assigned reading: 45 Derivative Markets and Instruments The candidate should be able to: a de ine a derivative and distinguish between exchange-traded and over-the-counter derivatives b contrast forward commitments with contingent claims c de ine forward contracts, futures contracts, options (calls and puts), swaps, and credit derivatives and compare their basic characteristics d determine the value at expiration and pro it from a long or a short position in a call or put option e describe purposes of, and controversies related to, derivative markets f explain arbitrage and the role it plays in determining prices and promoting market ef iciency The topical coverage corresponds with the following CFA Institute assigned reading: 46 Basics of Derivative Pricing and Valuation The candidate should be able to: a explain how the concepts of arbitrage, replication, and risk neutrality are used in pricing derivatives b explain the difference between value and price of forward and futures contracts c calculate a forward price of an asset with zero, positive, or negative net cost of carry d explain how the value and price of a forward contract are determined at expiration, during the life of the contract, and at initiation SSV9X - 0969149105 e describe monetary and nonmonetary bene its and costs associated with holding the underlying asset and explain how they affect the value and price of a forward contract f de ine a forward rate agreement and describe its uses g explain why forward and futures prices differ h explain how swap contracts are similar to but different from a series of forward contracts i explain the difference between value and price of swaps j explain the exercise value, time value, and moneyness of an option k identify the factors that determine the value of an option and explain how each factor affects the value of an option l explain put–call parity for European options m explain put–call–forward parity for European options n explain how the value of an option is determined using a one-period binomial model o explain under which circumstances the values of European and American options differ STUDY SESSION 16 The topical coverage corresponds with the following CFA Institute assigned reading: 47 Introduction to Alternative Investments The candidate should be able to: a describe types and categories of alternative investments b describe characteristics of direct investment, co-investment, and fund investment methods for alternative investments c describe investment and compensation structures commonly used in alternative investments d explain investment characteristics of hedge funds e explain investment characteristics of private capital f explain investment characteristics of natural resources g explain investment characteristics of real estate h explain investment characteristics of infrastructure i describe issues in performance appraisal of alternative investments j calculate and interpret returns of alternative investments on both before-fee and after-fee bases SSV9X - 0969149105 .. .Book 4: Fixed Income, Derivatives, and Alternative Investments SchweserNotes? ?? 2022 Level I CFA? ? SSV9X - 0969 149 105 SCHWESERNOTES? ?? 2022 LEVEL I CFA? ? BOOK 4: FIXED INCOME, DERIVATIVES, AND... Disclaimer: The SchweserNotes should be used in conjunction with the original readings as set forth by CFA Institute in their 2022 Level I CFA Study Guide The information contained in these Notes covers topics contained in the readings referenced by CFA Institute and is believed to be... considerations affect the issuance and trading of ixed-income securities e describe how cash lows of ixed-income securities are structured f describe contingency provisions affecting the timing