Final 6

A customer owns a portfolio that holds 500 shares of ABC stock common stock and 500 shares of DEF preferred stock. If ABC stock rises in value by 1 point and DEF stock falls in value by 1 point, the portfolio's value will change by: A. $0 B. $500 C. $1,000 D. $1,500

A. $0 Each point movement for a stock (either common or preferred) represents a price change of $1. Note, in contrast, that each point movement for a bond represents a price change of $10. Each ABC share went up by 1 point for a gain of $500. Each DEF share went down by 1 point for a loss of $500. The net change in the value of the portfolio is zero.

When an investment banker acts as underwriter for a new issue of securities, how does the issuer compensate the banker? A. From the spread between the price the investment banker paid for the new securities and the price at which the banker markets the securities B. From the spread between the selling group's bid and ask prices C. From the fees paid by the issuer to the SEC for registering the issue D. From the commission charged on sales of stock

A. From the spread between the price the investment banker paid for the new securities and the price at which the banker markets the securities The compensation that the underwriter earns is the "spread." For example, a stock issue might be priced by the underwriters at a POP (Public Offering Price) of $30. The proceeds to the issuer are negotiated by the underwriter and the issuer to be $28 per share. The difference of $2 per share is the underwriter's spread. Any customer buys at the POP of $30. There are no additional commissions added to the price, nor can the customer be sold the new issue at a discount to the $30 POP.

Which statements are TRUE regarding the Federal Telephone Consumer Protection Act of 1991? I Unsolicited calls cannot be made before 8:00 AM, nor after 9:00 PM, local time II Solicited calls cannot be made before 8:00 AM, nor after 9:00 PM, local time III If the caller states that he or she does not wish to receive calls, then the person must be placed on a "Do Not Call" list. IV If the caller states that he or she does not wish to receive calls, then the person must be referred to a supervisor A. I and III B. I and IV C. II and III D. II and IV

A. I and III The Federal Telephone Consumer Protection Act of 1991 requires that unsolicited calls cannot be made before 8:00 AM, nor after 9:00 PM, local time. The Act says nothing about solicited calls. If the customer states that he or she wishes to be placed on a "Do Not Call" list, do it!

All of the following statements are TRUE regarding the use of instant messaging (IMs) with clients EXCEPT: A. Industry rules do not apply to the use of instant messages B. A designated supervisor must review and approve instant messages C. The firm must retain instant messages for at least 3 years D. The firm may prohibit the sending of instant messages with clients

A. Industry rules do not apply to the use of instant messages Communications with the public rules cover the use of instant messages. If the firm permits their use, the firm must review, approve, and retain instant messages. The only realistic way for a firm to allow IMs is if the firm implements an electronic communications compliance program, in which case prior approval of each IM by a principal is not required. If such a program is not in place, then each IM would need to be approved by a principal before being sent out.

All of the following statements about warrants are true EXCEPT: A. at issuance, warrants have intrinsic value B. warrant valuation is directly influenced by the valuation of the company's common stock C. warrant valuation reflects the life of the instrument D. warrant valuation reflects market expectations for future earnings of the company

A. at issuance, warrants have intrinsic value At issuance, warrants typically have exercise prices well above the current market price of the common stock, so they have no intrinsic value and are "out of the money." They only have value if the price of the common stock rises above the exercise price of the warrant. The other statements are true. Once the stock price rises above the warrant exercise price, the warrant's value will directly track the changes in the stock's value. Because common stock value is based on expectations of future earnings, this will affect warrant valuation as well. Finally, warrants have a life of 5 years, and the longer the remaining life of the warrant, the more time there is for the stock's price to rise, so warrants with a long remaining life are more valuable.

A registered representative has systematically traded for customers without regard to their financial needs. The representative effected these trades solely to generate extra commission income. Under FINRA Rules, this practice is: A. churning and is a violation B. front running and is a violation C. permitted if the customer approved of the transactions in advance D. permitted if the principal approves the trades

A. churning and is a violation The question defines "churning," which is the prohibited practice of recommending and effecting trades for customers solely to generate commission income and without regard to suitability. Front running is a different rule violation. A front running violation occurs when a representative receives a very large order that will have market impact, typically from an institutional customer. Prior to entering the order, the representative enters an order for that security in his or her personal account. Then the representative enters the large institutional order, which makes the market price move and gives the representative a profit in his or her personal account. Thus, the representative is "front running" the customer order.

FINRA member firms must be: A. domestic broker-dealers B. foreign broker-dealers C. domestic banks D. foreign banks

A. domestic broker-dealers

Many years ago, Joe used an inheritance to buy a single premium deferred variable annuity. The value of the annuity has increased from $100,000 to $300,000. What is Joe's cost basis? A. $0 B. $100,000 C. $200,000 D. $300,000

B. $100,000 The premiums paid into the separate account for a non-qualified variable annuity are not deductible. These are "post-tax" dollars and represent the customer's cost basis in the contract. Thus, Joe's cost basis is $100,000. Both earnings and capital gains in the separate account are reinvested during the accumulation phase and build tax deferred until payout. These are "pre-tax" dollars. Because the account is now worth $300,000, the build-up portion is $200,000 - the accumulated earnings above the cost basis At payout, only the portion of each payment attributable to the "build-up" (pre-tax dollars of $200,000) is now taxable at ordinary income tax rates. The cost basis (premiums paid into the contract of $100,000) is a tax-free return of capital invested (since these are post-tax dollars).

What is the nominal yield of a corporate bond with a 10% coupon selling for $960.00? A. 9.6% B. 10.0% C. 10.4% D. 14.0%

B. 10.0% Nominal yield is the coupon rate fixed to the bond at the time of issuance, based on a $1,000 par value. A 10% coupon is a 10% nominal yield. This bond is now trading at a discount, so its current yield will be higher than the nominal yield.

Which of the following is FALSE about forward pricing? A. Mutual fund purchases and redemptions occur based on forward pricing B. Clients know the exact dollar amount of the redemption when they request it C. The mutual fund share price calculation occurs based on the next close of the New York Stock Exchange D. The client receives redemption proceeds based on the next calculated NAV

B. Clients know the exact dollar amount of the redemption when they request it With forward pricing, the fund processes purchase and redemption transactions at the next calculated price, which is computed at the close of the NYSE each business day (4:00 PM ET). Thus, the client will not know the exact amount of the redemption proceeds or number of shares purchased at the time of entering the order to redeem or buy shares. The price will only be known immediately after the NYSE closes that business day.

For a conservative investor who seeks an investment in stock that is low risk, which of the following mutual funds would be most appropriate? A. Growth fund B. Growth and income fund C. Aggressive growth fund D. U.S. Government bond fund

B. Growth and income fund A growth and income fund invests in "blue chip" equity securities that will provide a regular dividend and long term growth. This is a more conservative investment than a growth fund or aggressive growth fund, where the companies pay no or little dividends and have higher potential growth rates, along with higher risk. A U.S. Government bond fund invests in bonds and not stock, so it is not the correct answer.

Which statements are true about management fees? I The typical management fee for an index fund is .10% of annual net assets II The typical management fee for an index fund is .50% of annual net assets III The typical management fee for a growth fund is .10% of annual net assets IV The typical management fee for a growth fund is .50% of annual net assets A. I and III B. I and IV C. II and III D. II and IV

B. I and IV The typical advisory fee for an actively managed mutual fund, such as a growth fund, is .50% of assets (50 basis points) annually. The typical fee for a passively managed fund such as an index fund is .10% of assets (10 basis points) annually. Index funds charge much lower management fees because their managers only have to match the fund composition to that of the benchmark index, and these managers get much lower pay than "active" managers.

Which of the following is NOT a rule governing employee loans from 401(k) plan accounts? A. The maximum borrowing limit is 50% of the employee's vested account balance, not to exceed $50,000 B. If the account balance is $20,000 or less, 100% of the account value can be borrowed C. The loan must be repaid in 5 years unless it is used to purchase a principal residence D. The plan must charge a fair market rate of interest on the loan

B. If the account balance is $20,000 or less, 100% of the account value can be borrowed If an employee's 401(k) account balance is $20,000 or less, the employee may borrow 100% of the account balance, not to exceed $10,000 (not $20,000). If the account balance is over $20,000, the employee may borrow 50% of the account balance, not to exceed $50,000. The employee must generally repay the loan generally in 5 years and must pay a fair market interest rate.

Which of the following securities would have the lowest credit risk? A. Income bonds B. Mortgage bonds C. Collateral trust certificates D. Equipment trust certificates

B. Mortgage bonds Mortgage bonds have the lowest credit risk because the security of a mortgage on real property owned by the company backs them

What is the cost basis of mutual fund shares received as an inheritance? A. Public offering price on the date of death B. NAV on the date of death C. Public offering price on the date of purchase D. NAV on the date of purchase

B. NAV on the date of death For shares inherited from a decedent, the cost basis is the net asset value on the date of death. Upon death, the basis "steps-up" to the current market value per share. The estate will pay federal estate tax on the net asset value at the time of death. This includes any appreciation on the shares while they were held by the decedent. As of the date of inheritance, the holding period automatically becomes long term (regardless of how long the deceased person actually held the shares). When the beneficiary sells those shares, any resulting gain or loss is automatically long term.

All of the following statements concerning cost basis for federal income tax purposes are correct EXCEPT: A. reinvested dividends increase an owner's cost basis in mutual fund shares B. a beneficiary will have a carryover basis in inherited mutual fund shares C. for a purchaser, cost basis includes the purchase price inclusive of any sales charges for mutual fund shares D. a return of capital will reduce the owner's cost basis in mutual fund shares

B. a beneficiary will have a carryover basis in inherited mutual fund shares Reinvested dividends increase the owner's cost basis in mutual fund shares. A beneficiary does not have a carryover basis in inherited mutual fund shares; rather, the beneficiary uses the date-of-death value as the cost basis. This is called a "stepped up" basis. For a purchaser of mutual fund shares, the cost basis includes the purchase price inclusive of the sales charge. A return of capital is considered to be a return of original investment and reduces the owner's cost basis in mutual fund shares.

All of the following would be found on a client's personal balance sheet EXCEPT: A. real estate owned B. living expenses C. savings accounts D. mortgage on real estate

B. living expenses A mortgage is a secured liability of an individual; savings account balances are an asset; and real estate owned is an asset. All would appear on an individual's balance sheet (since the balance sheet formula is all assets - all liabilities = net worth). On the other hand, living expenses would show on one's income statement (all income - all expenses) - not on the balance sheet.

All of the following statements are TRUE concerning restrictions on extending credit to customers EXCEPT: A. customers may not purchase mutual fund shares on margin B. owners of mutual fund shares may not use them for collateral in a margin account C. a broker-dealer may not extend credit on new issue equity securities D. a broker-dealer may extend credit on mutual fund shares a customer has held for more than 30 days

B. owners of mutual fund shares may not use them for collateral in a margin account Regulation T prohibits the purchase of new equity issues on margin - these must be fully paid. New issues are not marginable until they have "seasoned" in the market for 30 days. At that point, if they are exchange or NASDAQ listed, they become marginable. Mutual funds are "new issues" sold under a prospectus, so they must be paid in full. However, once held in the account for 30 days, they do become marginable. Thus, at this point, they could be used as collateral for a margin loan.

A school teacher has a non-qualified variable annuity in which he has invested $8,000. The plan is currently worth $14,000. The teacher decides to surrender and take a partial withdrawal of $8,000. What is the tax treatment? A. The withdrawal is considered to be a return of capital, therefore it is not taxed B. Since the cost basis in the account is "0," the entire withdrawal will be taxed as capital gain C. $2,000 of the withdrawal will be considered to be a return of capital; the balance will be taxed as ordinary income D. Since the cost basis in the account is "0," the entire distribution will be taxed as ordinary income

C. $2,000 of the withdrawal will be considered to be a return of capital; the balance will be taxed as ordinary income All contributions to non-qualified variable annuities are not deductible and are made with "after-tax dollars." The customer has a cost basis of $8,000 in the account. The account is now worth $14,000, so there is $6,000 of never-taxed build-up in the account. Distributions are taxed on a LIFO basis. Of the $8,000 distributed, the first $6,000 is considered to be taxable build-up; and the remaining $2,000 is a non-taxable return of capital.

Which of the following is NOT TRUE regarding supplemental distributions? A. A fund makes a supplemental distribution to avoid paying additional taxes on undistributed income B. A supplemental distribution may not be more than 10 percent of the capital gains distributed that year C. A fund must distribute at least 90 percent of capital gain net income to avoid additional taxes D. The potential excise tax rate is 4 percent

C. A fund must distribute at least 90 percent of capital gain net income to avoid additional taxes Under the tax code, if a fund does not distribute at least 98 percent of capital gains each year, it is subject to a 4 percent excise tax. The supplemental distribution may not exceed 10 percent of the total capital gain distribution for that year.

With a variable annuity, the insurer takes the risk that expenses for administration will not be more than it expected. What is the charge the insurer makes for taking this risk? A. Investment management fee B. Administrative expense fee C. Expense risk charge D. Mortality risk charge

C. Expense risk charge The expense risk charge compensates the insurer for the expenses that it incurs for administering the contract, and these are capped to a maximum percentage. If the expenses exceed this percentage, then the insurance company is responsible for the excess charges; not the purchaser of the annuity.

Which statement about load funds that charge 12b-1 fees is FALSE? A. Financial media identify funds charging these fees with a "p" symbol B. These funds typically impose contingent deferred sales charges C. Funds that have adopted 12b-1 plans may not charge management fees D. Funds may charge 12b-1 fees for advertising and marketing of their shares

C. Funds that have adopted 12b-1 plans may not charge management fees The "p" designation in financial media identifies a fund that charges 12b-1 fees ("p" stands for "plan" as in 12b-1 plan). 12b-1 fees are fees for distribution of fund shares (marketing and advertising fees). Typically, shares that have 12b-1 fees also have a contingent deferred sales charge, which is a redemption fee that decreases over time. A fund adopts these fees to encourage long term investment and to discourage early redemption by its shareholders. All mutual funds charge management fees.

Which of the following are provisions of the Insider Trading Act of 1988? I The maximum civil penalty for "controlling persons" is three times the profit received or loss avoided or $1,000,000, whichever is greater II Any fines are payable to the U.S. Treasury III A bounty of up to 10% may be paid to any person that provides information leading to a conviction IV The maximum jail sentence that may be imposed for persons that violate the insider trading rules is 5 years A. I and II only B. III and IV only C. I, II, and III only D. I, II, III, and IV

C. I, II, and III only The Insider Trading Act of 1988 sets a maximum civil penalty of 3 times the profit achieved or loss avoided or $1,000,000, whichever is greater, for insider trading violations by either an individual or a "controlling person." The "controlling person" provision is directed at broker-dealers who have employees that can receive inside information from the employer. Not only is an employee that trades on the inside information held liable, but the employer that "controls" the employee can be held liable as well. This forces broker-dealer employers to put "Chinese Walls" in place to stop the flow of inside information. Criminal penalties can be imposed for willful violations. For the individual that effected the trades based on inside information, these are fines of up to $5,000,000 and jail time of up to 20 years (not 5 years). The criminal penalty for willful violations by controlling persons is set at a steep $25,000,000. There is no "jail" for controlling persons since a company can't be put in jail. Any fines are paid to the U.S. Treasury. The Act also allows payment of a bounty to an informant, not to exceed 10% of monies recovered.

Fund that impose the maximum 12b-1 fee: I are considered no-load funds II are considered to be load funds III can charge sales and promotional fees to shareholders in addition to the sales load IV cannot charge sales and promotional fees to shareholders in addition to the sales load A. I and III B. I and IV C. II and III D. II and IV

C. II and III 12b-1 funds are permitted to charge to existing shareholders cost of soliciting new investment to the fund. A fund is permitted to charge up to 1/4 of 1% in 12b-1 fees and be "no load." The maximum permitted annual 12b-1 fee is .75% of annual net assets. Sales loads are an up-front deduction, taken out before money is invested into the fund. These are not part of annual 12b-1 charges.

Which of the following statements concerning the underwriter for a mutual fund is correct? A. The underwriter functions as a dealer buying shares from the fund for its own account B. The underwriter is paid a fee that is a percentage of the fund's average net assets C. The underwriter prepares sales literature and has the exclusive right to buy shares from the fund D. The underwriter is hired by the sponsor to hold the fund's assets in safekeeping

C. The underwriter prepares sales literature and has the exclusive right to buy shares from the fund The fund underwriter is a FINRA registered broker-dealer that provides wholesale distribution of shares for the mutual fund. Sometimes called a fund wholesaler, the purpose of the underwriter is to market the shares of the fund. The fund underwriter buys shares from the fund only when a customer places an order - it cannot buy fund shares for its own account as a dealer and cannot stockpile fund shares. To market the fund's shares, the underwriter signs up a selling group of FINRA member firms and prepares marketing material and sales literature. As compensation for services performed, the underwriter receives a portion of the sales charge called a "selling concession." The custodian is hired by the sponsor to hold the fund's assets in safekeeping. The investment adviser is paid a fee based on a percentage of average annual net assets.

If an unsolicited facsimile is sent to a potential client, all of the following information must be included EXCEPT the: A. identity of sender B. time, place and address from which sent C. date and number of sheets D. phone number from which sent

C. date and number of sheets Unsolicited phone calls, even by fax, come under the Federal Telephone Consumer Protection Act of 1991. This Act requires that the caller identify his name, the firm name, and phone number or address from which the communication is being sent. There is no legal requirement to give the date and number of sheets on a fax transmission (though this is commonly done).

If a customer requests in writing and no specific reason is given, that customer's mail can be held for a maximum of: A. one month B. two months C. three months D. six months

C. three months FINRA does not allow a customer's mail to be held unless the customer requests in writing. As long as the request does not exceed 3 months, no other information is needed. However, if the customer wants the mail held for more than 3 months, then a valid reason must be given in the request, such as safety or security concerns.

All of the following statements concerning preferred stock are correct EXCEPT: A. dividends on preferred stock are not a legal obligation of the corporation B. for common stockholders to receive any dividend, preferred stockholders must receive the full amount of their dividend C. when a corporation has earnings, it may pay preferred dividends without the need for a vote of directors D. preferred stock is an equity security like common stock

C. when a corporation has earnings, it may pay preferred dividends without the need for a vote of directors The board of directors must vote to declare dividends on both preferred and common stock. If the board does not vote to declare a dividend on preferred stock, it must also omit the common stock dividend for that year. The corporation cannot declare a dividend on common stock in a year in which it omits the preferred stock dividend.

Which statements are true regarding ETFs (Exchange Traded Funds)? I ETFs are available on broad-based stock indexes II ETFs are available on narrow-based stock indexes III ETFs are available on international stock indexes IV ETFs are available on bond indexes A. I and III only B. II and IV only C. I, II, III D. I, II, III, IV

D. I, II, III, IV ETFs have been increasing in popularity as compared to traditional mutual funds because of their low cost (low expense ratios); ease of buying and selling like any other stock; and tax efficiency (no mandatory annual long term capital gain distributions). ETFs are now available based on sector indexes; narrow-based stock indexes; broad based stock indexes; bond indexes and international stock indexes.

A mutual fund receives all of its income from interest payments on bonds that pay on January 1st and July 1st. The fund may distribute dividends based upon this income: A. only once per year B. two times per year, within 30 days of the bond interest payment dates C. only at the end of each calendar quarter D. as often as the fund wishes

D. as often as the fund wishes Funds pay dividends according to the schedule detailed in their prospectuses. The schedule varies by fund. Most income funds pay dividends monthly, as do money market funds. Other funds pay quarterly, semi-annually or annually.

All of the following are true statements about managed wrap accounts EXCEPT: A. a single annual fee is charged for account maintenance B. no separate commission charges are imposed for each transaction performed in the account C. no separate charges are imposed for safekeeping of securities in the account D. no options transactions are permitted in the account

D. no options transactions are permitted in the account Wrap accounts are a type of customer account, where all services performed by the broker are "wrapped" into a single account; and a single annual fee based as a percentage of assets under management is charged. There is no commission charge for each transaction performed in such an account nor are charges imposed for safekeeping of securities. All services are covered in the single "wrap" fee. There is no prohibition on performing options transactions in such accounts.

Under FINRA rules, the maximum sales charge that can be imposed when a customer purchases a variable annuity is: A. 5% of the amount invested B. 8 1/2% of Net Asset Value C. 8 1/2% of the amount invested D. not set by FINRA, but must be fair and reasonable

D. not set by FINRA, but must be fair and reasonable FINRA does not set sales charges for variable annuities. FINRA only sets maximum sales charges for mutual fund purchases (which are set at a maximum of 8 1/2% of the amount invested). However, FINRA does state that all charges must be "fair and reasonable."

ABC Corporation issues rights to current shareowners for a new issue of ABC common stock. The underwriter agrees to purchase any remaining shares after current shareowners exercise their rights to purchase the issue. This type of underwriting is a: A. mini-maxi underwriting B. best efforts underwriting C. all-or-none underwriting D. stand-by underwriting

D. stand-by underwriting A stand-by underwriting occurs when an issuer attempts to sell more shares directly to its existing shareholders via a rights offering. If all of the shareholders subscribe, then the issuer successfully marketed its shares without needing an underwriter. However, as a back-up, the issuer will have an underwriter stand-by on a firm commitment basis to pick up any unsubscribed shares in the rights offering. The underwriter will then resell these shares to the public.

For a qualified retirement plan contribution to be deductible from that year's tax return, the contribution must be made by no later than: A. April 15th of that year B. December 31st of that year C. April 15th of following year D. the date the tax return is filed

D. the date the tax return is filed Contributions to qualified retirement plans (other than IRAs) must be made no later than the date the tax return is filed (even if it is filed with an extension). On the other hand, IRA contributions must be made no later than April 15th of the year after the tax year for which the deduction is claimed.