Chartered Financial Analyst (CFA) Practice Exam Level 2

Which type of hedge fund strategy typically focuses on corporate actions like mergers and bankruptcy?

1. Equity

2. Event Driven

3. Relative Value

4. Opportunistic

The correct answer is: Event Driven

The correct answer is Event Driven because this type of hedge fund strategy is designed to profit from events that can cause price movements in securities. Events such as mergers, acquisitions, spin-offs, restructurings, and bankruptcies create opportunities for investors to capitalize on mispricings or uncertainty surrounding these events. In the case of mergers, for instance, hedge funds will often buy shares of the target company and short-sell shares of the acquiring company if they believe that the market has not accurately priced the transaction implications. Similarly, in a bankruptcy scenario, event-driven funds may seek to invest in distressed assets expecting to benefit from asset recoveries or restructurings that the market undervalues. This focus on specific corporate actions distinguishes event-driven strategies from other hedge fund strategies. Options like Equity strategies generally involve long and short positions in stocks but do not specifically target corporate events. Relative Value strategies typically look for pricing inefficiencies between related securities rather than specific events. Opportunistic strategies can encompass a range of opportunities but are broader in scope and not limited to events surrounding corporate actions.