Free CAIA Level I CAIA Ethical Principles Practice Questions
CAIA ethical principles on the Level I exam cover the eight CAIA ethical principles, fiduciary duty, professionalism, and the client-first mindset applied to alternative investment scenarios. Ethics is tested on both CAIA levels (CAIA Association).
Sample Questions
Question 1
Easy
The Bear Stearns hedge fund failures of 2007 were primarily caused by:
Solution
D is correct.
The Bear Stearns High-Grade Structured Credit Strategies Fund and its Enhanced Leverage counterpart used significant leverage (up to 10:1 in the enhanced fund) to invest heavily in CDOs and other securities backed by subprime mortgages. When subprime defaults rose and these securities lost value, the leveraged losses quickly wiped out the funds' capital.
The Bear Stearns High-Grade Structured Credit Strategies Fund and its Enhanced Leverage counterpart used significant leverage (up to 10:1 in the enhanced fund) to invest heavily in CDOs and other securities backed by subprime mortgages. When subprime defaults rose and these securities lost value, the leveraged losses quickly wiped out the funds' capital.
Question 2
Medium
A key lesson from the Archegos Capital Management collapse for prime brokers is that:
Solution
A is correct.
Archegos held total return swap positions with multiple prime brokers, none of whom had full visibility into the fund's aggregate exposure. When Archegos could not meet margin calls, the coordinated unwinding of positions caused billions in losses across multiple banks. The lesson is that prime brokers need better cross-counterparty exposure aggregation and more rigorous margining for concentrated swap positions.
Archegos held total return swap positions with multiple prime brokers, none of whom had full visibility into the fund's aggregate exposure. When Archegos could not meet margin calls, the coordinated unwinding of positions caused billions in losses across multiple banks. The lesson is that prime brokers need better cross-counterparty exposure aggregation and more rigorous margining for concentrated swap positions.
Question 3
Hard
A pension fund CIO proposes investing $200 million with a hedge fund. During due diligence, the compliance team discovers that a placement agent facilitating the introduction previously served on the pension fund's investment committee and continues to receive consulting fees from the fund. Applying the lessons from both the CalPERS and New York State Common Retirement Fund scandals, the most appropriate course of action is to:
Solution
C is correct.
Both the CalPERS and New York scandals demonstrated that undisclosed conflicts between placement agents and pension fund decision-makers lead to corrupted allocation processes. The ethical response requires full transparency: disclose the dual relationship to the full board, recuse anyone with a conflict from the vote, and independently evaluate the hedge fund's merits. This ensures the investment decision is made on fiduciary grounds rather than influenced by the intermediary's relationships.
Both the CalPERS and New York scandals demonstrated that undisclosed conflicts between placement agents and pension fund decision-makers lead to corrupted allocation processes. The ethical response requires full transparency: disclose the dual relationship to the full board, recuse anyone with a conflict from the vote, and independently evaluate the hedge fund's merits. This ensures the investment decision is made on fiduciary grounds rather than influenced by the intermediary's relationships.