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Ten buy-side interview questions you need to know, with answers

So, you want to work on the buy-side. Good for you. But so does everyone else. You need to differentiate yourself.

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The buy-side is a broad term that covers private equity firms, hedge funds, and asset managers, among others. They’re defined primarily by the fact that they buy securities, such as equities and derivatives and many other categories, as opposed to marketing and selling them as banks (the sell-side) do.

If you want to join this (relatively) illustrious group, the best time to do that is as soon as you can – through your CV, firstly. But if that CV gets you through the door, you face the interview. Which interview questions should you prepare for?

Luckily for you, most buy-side interview questions are typical to the industry as a whole and are easy to prepare for. These are your typical “why this firm, why private equity, etc.” questions. You should already know how to answer these – if you don’t, we have a good guide here.

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There are also questions exclusive to buy-side firms. We've listed these below. We’ve also got an article about hedge fund-specific questions for you here, and private equity-specific questions here.

Without further ado:

1. How does a $10 depreciation affect the three statements?

A $10 depreciation is a non-cash expense, so it doesn’t affect the cash flow statement. It reduces net income – and therefore taxes – on an income statement. And it reduces total assets and equity by $10 on the balance sheet.

2. What KPIs would you do due diligence on when investing in commercial real estate?

This one is harder to answer – there are a lot of potential factors. You’d want to mention occupancy rates, rental income growth, tenant retention rates, capitalization rates, net operating income, property valuation trends, and market vacancy rates, among others.

3. What ratios would you analyze to understand the liquidity, the efficiency and the profitability of a company?

Liquidity : working capital ratio, interest coverage ratio
Efficiency : capital expenditure as % of sales, any cost item as a % of sales
Profitability : gross margin, EBITDA margin

4. Explain the difference between VC and PE.

Venture Capital firms invest in very new companies – often startups – to get them off the ground. Private equity firms invest in usually more established or mature companies to help them grow and/or improve their business practices.

5. Why transition to the buy-side from the sell-side?

This is a complex question to answer. Most people say they want to move from banking to private equity specifically because it's more fun and interesting being an investor than advisor. There's also the pay in private equity, which takes the form of carried interest at senior levels and is taxed as a capital gain instead of as income, but you probably won't want to mention this. Then there's the fact that the hours are perceived to be shorter in private equity than banking, although this may not always be the case. 

The safest answer is probably to point out that you have a completely different set of responsibilities as an investor to someone working in banking, and that these offer more responsibility earlier in your career. 

6. How would you define a balanced portfolio?

A balanced portfolio depends on the investor’s appetite for risk, time horizon, and investment philosophy. In general, however, a balanced portfolio mitigates unnecessary risks and exposures, utilizes a wide variety of asset classes, and invests in a wide variety of industries. 

7. Why are you leaving your current firm?

This also ties into the previous questions. It’s important not to stress your frustrations with your previous company, but to focus on the future. Talk about what the firm you’re applying to does differently and the appeal of the new role.

8. Pitch me a stock.

This is a stalwart of hedge fund interviews; you’ll almost certainly be asked it. You want to prepare one long idea and one short. The first thing to remember and understand is that your interviewer definitely knows more about that industry, and probably that stock, than you. Go in with the mindset of impressing with that mindset, as opposed to imagining yourself the next Bill Ackman, and you’re a step ahead.

Start with some broader trends. For a long pitch, mention why the particular industry is expected to grow over the next few years and the wider market trends that determine this. Hard numbers are always preferred; ideally sourced. Then move onto your chosen company and why it’s undervalued compared to your own growth projections, based on your research (consulting annual reports and, if possible, bank research notes) and your preferred valuation methods, which you should be familiar with from either your sell-side experience or your preparation for technical questions.

9. What are credit spreads, and why do they matter?

Credit spreads are the difference between the yields of two similar financial instruments, such as bonds, and they matter because they define the difference in perceived risk between two investments. One of the bonds in a credit spread is considered risk-free – a category of investment usually reserved for US government-issued treasuries.

For example, if a US government-issued bond had a 5% yield, and a corporation’s bond (with a similar maturity; 10 years, for example) had a 7% yield, this would be a 2% spread. An economic change, such as a change in interest rates, could change these yields to 5.5% and 8%. This would therefore now be a 2.5% spread - the corporate bond investment is now riskier.

Credit spreads matter in assessing the risk (and therefore return) of investing in a particular financial instrument. As a Bank of England paper put it, they offer “compensation for the uncertainty about the probability of default.” Credit spreads are also important markers for the overall health of an economy, as well as specific sectors. A central bank will monitor credit spreads worldwide to inform its base of knowledge in both macroeconomic and microeconomic economic health.

10. How would you build a strategy to consistently win at a Monopoly game?

An interesting Reddit thread about this suggests that the best way to win a game of Monopoly is to try and maximize the amount of houses you own; as there are only a limited number in the box (32), you can quite easily maximize the number you own and strain the amount that other players can put down. Never buy hotels – they do offer more money if they’re landed on, but there are 12 of them in the box, but you sacrifice 4 houses to put each one down.

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AUTHORZeno Toulon
  • Gu
    Guillaume Moisan
    17 May 2018

    Would be great to provide answers as well.

    Here are those I came up with for some of the questions :

    1 - A 5% increase in prices, because it has a greater impact on earnings. A 5% increase in volumes as a result of a new product launch comes with fixed costs associated with the research necessary to design the new product as well as variable costs, which mainly consist in raw materials purchases.

    2 - Cash flow. As long as you can sustainably generate sufficient amounts of cash, not much else really matters. That is especially true if you interview with an LBO fund that would be very focused on debt repayment capacity.

    3 - Depends on the reasons of the dip. If you have good reasons to believe there is a catalyst for a price recovery that will make the stock price go higher than the price before the dip, just hold on to the stock. If the dip is due to new information that strongly affects your initial investment thesis, you should just cut your losses.

    4 - [Too lazy to take a crack at this one].

    5 - A couple examples for each, feel free to add :
    Liquidity : working capital ratio, interest coverage ratio
    Efficiency : capital expenditure as % of sales, any cost item as a % of sales
    Profitability : gross margin, ebitda margin

    6 - For LBO, should demonsrate experience with advanced debt modelling with different tranches of various characteristics as well as experience with detailed operational modelling (detailed revenue build-up, detailed modelling for every cost item)

    7 - Take the second envelope and forfeit the first one. The second envelope has either $50 or $200 in it, which means the average gain realized by forfeiting the first envelope is 250 / 2 = 125, which is greater than 100.

    8 - Typical responses include working more in-depth on projects, more exposure to senior people and management of portfolio companies at a junior level, use of judgement rather than commercial skills due to being a decisionary part rather than an advisor, PE being more "complete" than most sell-side jobs due to exposure to operational, financial, legal, and tax aspects.

    9 - Need to assess price elasticity and current state of supply vs. demand to provide a good answer.

    10 - That's a very personal one.

    11 - [Can't think of anything on this one, especially given it's not necessarily true].

    12 - [No clue].

    13 - P/E being a ratio, it has all the typical flaws of a ratio : the perfect comparable does not exist, it is market-based and markets may not be a reflection of true intrinsic value, etc. More specifically, P/E is highly dependant on financial structure, which may "distort" valuations when comparing companies that have different levels of leverage.

    14 - [No clue, not even sure I fully understand the question].

    15 - That's a very personal one.

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