Ch 7 & 8
Criminal Penalty for willfully violating an order or provision of USA
$5,000 fine, 3yrs in prison or both.
a purchaser has a right of action in a civil court when:
- offer or sale done by unregistered BD or agent. -security misrepresented -sales literature violated -seller made untrue statement or omitted a material fact.
IA advertising may not:
- refer to testimonials -cannot cherry pick certain profitable recommendations - represent that a graph can be used by itself w/o disclosing limits. - advertise that something is free if it is not entirely true
NASAA's Statement of Policy on Unethical Business Practices provides that the entering into, or renewal of, an investment advisory contract would need to include disclosure of:
-All fees and services provided -The term of the contract -A formula for computing the advisory fee -The amount of prepaid fees to be returned in the event of an early termination of the contract -The fact that no assignment of the contract will be made without the consent of the client -Whether the contract grants discretionary power to the adviser -The fee for managing equity securities may be higher than for fixed-income securities
Powers of State Administrator
-Inspectorial power -Subpoena witnesses: no one is excused from responding to a subpoena. -cease and desist order: demanded to halt activity -injunctions: after cease and desist, admin may bring action in competent court by requesting a injunction or restraining order. -Cancellations of registration -
Enforcement Powers of SEC
-administer oaths -subpoena witnesses -gather evidence -require production of records. -suspend trading in a specified security for up to 10days - power to suspend all trading on an exchange for up to 90days
Those who may be sued for making an untrue statement or material omission in a registration statement are:
-every person who signed the registration statement -every director or partner of the issuer -every underwriter. -every accountant, engineer, appraiser or similar.
Accredited Investor
-individual income of more than $200,000 per year, or a joint $300,000, -$1mm net worth -partner, director or officer of issuer
Administrators role in registration:
-must always consider the public's best interest when rendering decisions or making amendments. - may grants, limit, or deny a registration -suspend, revoke, or bar a registrant from association of a BD or IA.
Under the Uniform Securities Act, an Administrator may deny registration to an agent because of findings that indicate the agent had been convicted of a felony within the past:
10 years
Publicly distributed, written materials are defined as any written materials distributed to:
35 or more persons who pay for the materials
Under the Uniform Securities Act, the statute of limitations for criminal violations of the Act is:
5 years
TopJob Advisers has discretionary authority over client funds. The firm does not take custody of client securities or cash assets. TopJob: -Must prepare a balance sheet that must be filed with the Administrator -Must prepare an audited balance sheet that must be filed with the Administrator -Is not required to prepare a balance sheet unless the majority of the firm's clients are qualified pension plans -Is not required to prepare a balance sheet, but its books are subject to spot checks by the Administrator, provided 72 hours' notice is given
A registered investment adviser that has discretionary authority over client funds or securities, but does not take custody, is required to file a balance sheet with the Administrator. There is no requirement for the balance sheet to be audited
Statutory qualification is:
A statutory disqualification is the denial of an applicant for registration based on the past transgressions of the applicant, including violations of any securities or commodities law.
Sec 204 of USA
Administrator may deny, suspend, revoke, cancel or withdraw the registration of any registrant that has been the subject of a foreign securities regulator's disciplinary action within the past five years.
Soft Dollar Arrangements
Agreements between IA and BD. Use services of BD though more expensive for additional service that may benefit the client No advertising, travel expenses, fees, salaries,
Under the Investment Advisers Act, all of the following statements are TRUE concerning agency cross transactions, EXCEPT: -The transaction must be conducted on an exchange -The client must give written consent and such consent can be withdrawn at any time -A written confirmation may be sent no later than the completion of the transaction -The adviser may not recommend the transaction to both buyer and seller
All the statements listed are true except choice (a), which states that the transaction must be conducted on an exchange.
agency cross transaction
An agency cross transaction is one in which the adviser acts as broker for both sides of the trade.
An IA that has been given the authority to direct the trades in a client's brokerage account opens an account for the client with a broker-dealer. The broker-dealer offers the IA an incentive of additional compensation tied to the volume of transactions executed in the account. Due to the potential incentive, what action must the IA take? -No action is required since including incentives is an acceptable practice -It must contact the client and let him choose his own broker-dealer -It must disclose any incentives earned and the number of trades effected annually -Prior to offering any advice, it must disclose all compensation and incentives to the client
An investment adviser must disclose all potential conflicts of interest to a client. Once a conflict of interest has been disclosed, the client must provide written consent for the IA to proceed. There is no requirement for an IA to disclose the total number of trades in the account. Ultimately, receiving compensation based on the volume of trades effected creates an incentive for the IA to execute an excessive and unnecessary number of trades for its clients.
Under the Uniform Securities Act, what information is NOT disclosed in an investment advisory contract? -Any other states in which the investment adviser is registered -The manner in which the advisory fee will be computed -A provision disallowing the investment adviser to assign the contract to another party without client consent -A provision prohibiting the investment adviser from being compensated based on a share of capital gains
Answer - a) The investment advisory contract must disclose the manner in which the adviser will be compensated. The contract must also include a statement that the adviser may not assign the contract to another party unless the client consents and may not be compensated based on a share of capital gains.
According to NASAA's Statement of Policy on Unethical Business Practices, what information is required to be included in the renewal of an investment advisory contract? -The investment advisory fee -A statement that no assignment of the contract will be made by the investment adviser without the consent of the client -A statement regarding the amount of prepaid fees that must be returned if the contract is terminated -The educational background of each IAR I and II only I, II, and III only I, II, and IV only I, II, III, and IV
Answer - b) NASAA's Statement of Policy on Unethical Business Practices states that the renewal of an investment advisory contract must include the disclosure of all fees and services provided, the method for computing the advisory fee, the amount of prepaid fees to be returned in the event of an early termination of the contract, and the fact that no assignment of the contract will be made without the client's consent.
When meeting with a potential customer for the very first time, which of the following would be a reasonable course of action? -Prior to the meeting, informing the client to bring additional financial information. -If necessary, an IAR may inform the client that he may not know the answer to one of her questions, but will find out and respond within a reasonable period. -Inform the client that she needs to increase her risk tolerance to obtain her goals. -Discuss the customer's current financial situation and her goals for retirement. I and II only I, II, and III only I, II, and IV only I, II, III, and IV
Answer - c) When meeting with a potential customer, it would not be reasonable to tell her that she needs to change her risk tolerance. A client may increase the future value of a portfolio by saving more money or by allowing her money to compound over a longer period. It is often considered inappropriate to encourage a client to assume risk beyond her comfort level.
When can books and records be inspected by an administrator?
Books and records of any broker-dealer registered with the state Administrator may be inspected at any time (surprise) by the state Administrator.
According to NASAA's Statement of Policy on Unethical Business Practices, all of the following information must be disclosed in an investment advisory contract, EXCEPT: -Whether the contract grants the adviser discretionary authority over the client's account -Whether the contract may be assigned to another registered investment adviser without the client's consent -The amount of prepaid fees that will be returned if the contract is terminated -The method(s) by which the adviser's fees will be calculated
Choice (b) is not true since the contract may not be assigned without the consent of the client.
Fiduciary Duty
Duty to... -be loyal -inquire -give suitable advice -obtain best execution
Under NASAA an IA can charge different fees to different clients if:
Fees are reasonable based on industry standards and are disclosed.
If securities were sold in violation then the purchaser has the right to recover:
Full purchase price + interest + court costs - income received from security = purchasers recovery amount
Under the Securities Act of 1933, which securities may have their registration denied or revoked by the Administrator?
Generally, states are not permitted to revoke an exemption that has been granted under the Securities Act of 1933. However, nonprofit securities, exchange-listed securities, and investment contracts for employee-benefits plans may be denied registration by the state Administrator.
What must and IAR do to send an advertisement to a potential customer?
IAR must first get advertisement preapproved and kept on file for a minimum of 5 years.
A broker-dealer has been selling unregistered, nonexempt securities in nonexempt transactions without the permission of the state securities Administrator. What action would the state Administrator most likely take? -Require the broker-dealer to offer letters of rescission -Bring an action in criminal court against the broker-dealer -Sue the broker-dealer in civil court -There is no violation and, therefore, no action will be taken by the Administrator
In the absence of fraud, there is a violation if securities are illegally offered in a particular state when they should have been registered. The Administrator would most likely require the broker-dealer to offer a letter of rescission whereby the broker-dealer must offer to repurchase the securities at their original cost plus interest.
Performance Based Fees
Investment Advisers Act of 1940 -qualified clients: $1mm AUM or $2mm net worth -mutual funds -non us residents -knowledgeable Individuals associated with an IA
When can an IA disclose someones identity?
It is considered unethical for an investment adviser to disclose the identity, affairs, or investments of any client unless the client consents, or unless the law requires it.
Uniform prudent Investor Act (UPIA)
Modern Portfolio Theory- emphasis of a trade off of risk and reward. Prudence applies to the entire portfolio. Need for diversification.
An investment adviser representative (IAR) who works for a federal covered investment adviser has engaged in trading that was considered excessive in regard to both the size and frequency of the trades. According to NASAA's model rule, who is responsible in this situation?
NASAA's Model Rule on Unethical Business Practices applies to all investment advisers and investment adviser representatives. Even though a firm may be a federal covered adviser, it does not receive a safe harbor from the antifraud provisions of the Uniform Securities Act.
Civil Liabilities Statute of Limitations
No person may sue under civil liabilities section of the USA more than -3 years after the occurrence of violation or -2 years from discovering the violation. Federal- one year of discovery and w/in three years of occurrence.
Prudent man rule
Obligated to do what is best for the client they represent based on be objectives of the clients. Main objective should be preservaion of capital
An admin has jurisdiction over
Offer originated in, or directed to and received in admins state.
What is a sale? What is an offer?
Offer- a solicitation to sell. Sale- acceptance of a successful offer
Criminal Penalties (SEC)
Penalty- $10,000 fine, 5 years imprisonment, or both.
Criminal Penalties and Statute of Limitations (State Admin)
Penalty- $5,000 fine, 3 years in prison or both. No prison if person is able to prove he had no prior knowledge. Statue of Limitation- five years after alleged violation
Prudent Man Rule [Traditional] vs Uniform Prudent Investors Act (UPIA) [Modern]
Prudent Man - Obligated to do what is best for the clients based on the objectives of the client. Main objective should be preservation of capital UPIA - emphasis of trade-off of risk and reward. prudence to entire portfolio. diversification.
Sales Literature vs Communications
Sales Literature - BD Communications - Advisers
Investment Advisory Contracts
State Law - requires IA contracts Federal Law - not required yet a most will put in writing as a matter
Under the Uniform Securities Act, the Administrator is NOT authorized to: -Issue subpoenas on behalf of other Administrators -Issue injunctions -Issue orders to deny, suspend, or revoke a registration without prior notice, the opportunity for a hearing, and written findings of fact or law -Compel the presentation of books and records
The Administrator is not able to issue injunctions. Only a court of competent jurisdiction may issue an injunction. The Administrator may subpoena books, records, testimony, and work in conjunction with other regulators to help them enforce the laws within their states.
Which of the following statements is TRUE regarding the state securities Administrator? -The Administrator may issue an injunction against a registered agent of a broker-dealer -The Administrator may issue a cease-and-desist order to an agent of a broker-dealer without a hearing -For due cause, the Administrator, may enjoin, or legally block, an agent's ability to conduct business in a particular state -The Administrator may arrest any registered employee of a broker-dealer
The Administrator may issue a cease-and-desist order to an entity under its jurisdiction. Under the Uniform Securities Act, the state Administrator does not have the authority to issue an injunction or an enjoining order, nor may the Administrator arrest anyone or send him to jail. These orders must come strictly from a judge or court of law.
For what reasons may an Administrator disqualify someone from registration?
The Administrator may only cite reasons found in state law to disqualify a person from registration (i.e., a felony conviction, violation of commodities laws, misleading statements, etc.). The law does not make reference to anything about methods of analysis for advisers, except that it is a disclosure item.
What should an administrators first action be after receiving a complaint?
The Administrator would first investigate the complaint before taking any action.
The Securities Exchange Act of 1934 regulates:
Under the Securities Exchange Act of 1934, the SEC was given the power to regulate: -broker-dealers -stock exchanges -transfer agents -self-regulatory organizations such as the NYSE and FINRA.
According to the Investment Advisers Act of 1940, when is an investment adviser required to provide a balance sheet to its clients?
Under the provisions of the Investment Advisers Act of 1940 (federal), an investment adviser must provide clients with its balance sheet if it requires the prepayment of a fee in excess of $1,200, six months or more in advance of the service. For questions regarding the requirement to send a balance sheet, it is important to identify whether it is referencing state or federal law. At the state level, a balance sheet is provided for collecting/soliciting a prepaid fee of greater than $500, and also for maintaining custody or discretionary control of clients' assets. However, at the federal level, a balance sheet is provided only if the adviser is collecting/soliciting a prepaid fee of greater than $1,200. (67751)
Principal Trade
When an IA buys/sells securities for its own account at its own risk.
Assessable stock
a class of stock in which the issuing company is allowed to demand additional funds from existing stockholders. giving an assessable stock with out disclosing the ramifications of accepting the security is illegal.
Criminal Penalty for willfully violating a rule or regulation of SEC:
fine of $10,000, imprisonment for up to 5 years, or both.
How many days after notification of postponement or suspension will a hearing be scheduled for the applicant? appeal?
hearing- within 15days of a written request. appeal- must be filed with a state court within 60 days.
From who can an IA borrow money from?
permitted only if a person/business is in the of lending money. According to the NASAA Statement of Policy on Dishonest and Unethical Business Practices, an IA may borrow money from a client if the client is in the business of lending money or securities. In buying on margin, the broker-dealer is lending money to the IA, which is permissible.
How do you know if something is considered advertising?
the key is the intended audience. if the advisory communication is meant to reach MORE THAN ONE PERSON, it is advertising.
Letter of Rescission
used when a registered person realized that he has effected an illegal sale. letter represents and offer to buy back security, plus interest, minus income received from security. Client has 30days to respond.
