Explanation:
Option C is the correct answer because it accurately describes key due diligence criteria for evaluating a hedge fund's risk management process:
Why other options are incorrect:
The due diligence process should focus on understanding the fund's overall risk management framework, including how they identify, measure, monitor, and manage various risks, particularly those specific to their strategy and leverage profile.
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A due diligence specialist is evaluating the risk management process of a hedge fund in which his company is considering making an investment. Which of the following statements best describes criteria used for such an evaluation?
A
Because of the overwhelming importance of tail risk, the company should not invest in the fund unless it fully accounts for fat tail using extreme value theory at the 99.99% level when estimating VaR.
B
Today's best practices in risk management require that a fund employ independent risk service providers and that these service providers play important roles in risk-related decisions.
C
When considering a leveraged fund, the specialist should assess how the fund estimates risks related to leverage, including funding liquidity risks during periods of market stress.
D
It is crucial to assess the fund's valuation policy, and in general if more than 10% of asset prices are based on model prices or broker quotes, the specialist should recommend against investment in the fund regardless of other information available about the fund.