Incorrect Questions
Which of the following is TRUE regarding option contracts that expire weekly? A) They tend to have lower premiums than standard contracts or long-term equity anticipation (LEAP) contracts. B) They are issued every week of every month. C) They can only be traded for a single day. D) They expire on Mondays.
A Weekly contracts or "weeklies" tend to have lower premiums than other types of contracts due to the short period of time between when they are issued and when they expire (1 week). They can be traded anytime during their week-long life cycle, expire on Fridays, and are issued each week of the month except the week that standardized contracts would be expiring.
An investor who is long TCB stock for 6 months buys 1 call on TCB. If the call expires in 8 months and the investor sells the stock 3 months after the call expires, what does he realize on the stock? A) Long-term gain or loss. B) Short-term gain or long-term loss. C) Long-term gain or short-term loss. D) Short-term gain or loss.
A. The purchase of a call has no effect on a long stock position's holding period. The call only allows more stock to be purchased; it does not allow the stock to be sold. The investor held the stock for 17 months, exceeding the holding period required for long-term capital gains treatment (more than 1 year).
Whether funds should be allocated to support the debt service on a moral obligation bond in default is usually determined by the: A) state legislature. B) courts. C) state governor. D) trustee.
A. Legislation authorizing the issuance of moral obligation securities usually grants the state legislature the authority to apportion money to support debt service payments on such securities but does not legally require the legislature to do so. This is called legislative apportionment.
The securities of KLC Corporation are listed on a national exchange. Which of the following details must it provide in regular reports? A) The firm's financial status. B)Proposed changes in the duties of the board of directors. C) Proposed changes in the organization of the workforce. D) Total domestic market share of each of its products.
A. Publicly traded issuers must report their financial status to the SEC annually on Form 10K and quarterly on Form 10Q. The SEC has no interest in the company's organization or market share.
A customer has realized a capital gain from the sale of a municipal bond. To reduce his tax liability, the capital gain can be offset against a capital loss in which of the following investments? GOs Equity securities. Corporate bonds. Collateralized mortgage obligation.
All Any capital loss will offset a capital gain.
All of the following documentation is necessary for a publicly subscribed limited partnership EXCEPT: A) Certificate of Limited Partnership. B) cash flow analysis. C) partnership agreement. D) subscription agreement.
B The certificate gives public information about the partnership and is filed in the home state. The partnership agreement spells out the roles of the general and limited partners. The subscription agreement is the instrument by which the limited partners invest.
If a customer buys $28,000 of ABC stock in April of 1999 and at year end, the stock is worth $23,000, how much may the customer deduct on his 1999 tax return? A) $3,000. B) $0. C) $2,000. D) $5,000.
B Until the customer realizes the loss by selling, there is no tax deduction.
If a customer purchases a new issue of stock from a syndicate member, the customer will pay the public offering price: A) plus a commission. B) with no mark-up or commission. C) plus the spread. D) plus a mark-up.
B. New issues are sold at the public offering price without a commission or mark-up. In the secondary market, securities are traded on an agency basis (commission) or on a principal basis (mark-up or mark-down).
A registered municipal bond salesperson at your firm has obtained discretionary power for the account of a physician in Gloucester County, New Jersey. The customer is conservative, avoids investment risk, and seeks principal with long-term growth potential. Given the following choices, the salesperson would most appropriately invest the customer's money in: A) high-yield municipal bonds rated BB. B) New Jersey Turnpike revenue bonds rated Aa. C) Delaware Wetlands Developments municipal bonds rated Aa. D) Michigan Upper Peninsula revenue bonds rated AA .
B. The Michigan revenue bonds, the sub-investment grade municipal bonds, and the Delaware municipal bonds have possible state disadvantages or are less than investment grade.
A general partner is considered to have a conflict of interest with the business of a limited partnership if he: A) loans money to the business. B) borrows money from the business. C) acts as agent for the business. D) manages the business.
B. The general partner manages the business and acts as agent for the business. The general partner may loan money to the partnership at a reasonable rate of interest, but may not borrow from the partnership.
All of the following will be included on a confirmation for noncallable municipal bonds purchased on a yield basis EXCEPT: A) dollar price. B) par value. C) taxable equivalent yield. D) yield to maturity
C
John Chance purchased a DMF May 90 call and simultaneously sold a DMF Jun 80 call. Which of the following best describes John's position? A) A short spread. B) A long spread. C) A bull spread. D) A bear spread.
D This investor has established a net credit diagonal call spread. He bought the lower premium call (higher strike and earliest expiry) and sold the higher premium call (lower strike and longest expiry). He hopes the spread will narrow to zero (if the market falls below 80 and both calls expire worthless) so he can keep all of the premiums. He is a bear and so is the spread.
A couple's home has an assessed value of $40,000 and a market value of $100,000. What will the tax be if a rate of 5 mills is used? A) 500. B) 2000. C) 5000. D) 200.
D. Real property tax is based on the assessed value assigned to the property by the municipality's tax assessor (in this case, $40,000). Property tax rates use the mill as a base unit. One mill = $1 of tax per year for each $1,000 of assessed value. Five mills would equal $5 for each $1,000 of assessed value. Because there are 40 thousands, 40 × $5 = $200 in annual tax. A shortcut method is: take the assessed value, remove the last three 0s, and multiply by the number of mills of tax ($40 × 5 mills = $200).
A customer enters an order to sell 100 TCB at 49 stop limit. Prior to the order, TCB was trading at 49.25. Subsequent trades are reported on the Tape as follows: TCB 48.75, 48.85, 49, 49.25 Which trade triggered the order? A) 49. B) 48.85. C) 49.25. D) 48.75.
D. This is an order where the stop price and limit price (Stop, Limit) are the same. A sell stop limit order is triggered (elected) by the first trade that is at, or below the stop price. It is subsequently executed at a price at, or better than the limit price.
The practice of placing clients who trade infrequently in fee-based accounts is identified by the SEC as
Reverse churning
Which of the following is applicable to the NASDAQ OMX PHLX? I. Regional exchange operated by Nasdaq II. Offers trading in equity securities and options contracts III. Is a completely electronic exchange with no physical trading floor IV. Regional exchange operated by FINRA for the execution of OTC stocks only A) I and IV B) I and II C) II and III D) I and III
The OMX PHLX is a regional exchange operated by Nasdaq where equity securities and options contracts are traded both electronically and on floor.
Your client purchases 100 shares of XYZ common stock at $50 and sells two XYZ Oct 55 calls for a premium of $2 each. This investor's maximum potential loss is: A) unlimited. B) 600. C) 4600. D) 4800.
A. This is a ratio write. The client is writing more calls than he has stock to cover. The first call is covered by the 100 shares of stock owned, but the second call is uncovered, or naked. A short naked call has unlimited loss exposure.
A customer has the following municipal bonds in his portfolio: A-rated, New York State GO 6½, 6-1-12 Baa-rated, M.T.A. (NY) 7½, 7-1-16 Aaa-rated, Buffalo, NY 5%, 2-1-20 The portfolio is diversified in all of the following EXCEPT by: A) geography. B) purpose. C) issuer. D) rating.
A. While the issuers, ratings, coupons, and purposes are different for all three bonds, they were all issued within the same state
Market interest rates have been rising, which means that the price of bonds traded in the secondary market has: A) decreased. B) not changed because only new bond prices are impacted by changes in interest rates not the price of bonds already trading in the secondary market. C) not changed because bond prices are not affected by interest rates. D) increased.
A. When interest rates rise, bond prices fall.
An investor purchasing long-term AAA rated bonds should be concerned most with: A) marketability risk. B) inflation risk. C) no risk. D) reinvestment risk.
B. The major risk assumed by any investor in long-term high-quality bonds is inflation or purchasing power risk. AAA rated debt securities are likely to earn a lower rate of return, which over a longer period of time might not keep up with the rate of inflation.
If a customer who has granted a durable power of attorney to her son dies, which of the following statements regarding the power of attorney is TRUE? A) It remains in effect only if the son is the sole heir to the estate. B) It is canceled on the death of either principal. C) It remains in effect until the executor of the estate cancels it. D) It remains in effect until the son cancels it.
B. When the customer or her son dies, the power of attorney also expires. However, a durable power of attorney will survive a declaration of mental incompetence and is useful in those cases where a parent suffers from dementia.
If a customer wishes to buy 1 XYZ option and sell another XYZ option, but he is not willing to spend more than $300, which of the following orders should be entered? A) A straddle order. B) A spread order. C) 2 stop orders. D) 2 limit orders.
B. A spread involves the simultaneous purchase and sale of different option contracts of the same type. A spread incurs a gain or loss depending on what happens to the difference in the premiums between the two contracts. Because this investor wants to limit his risk to $300, he would buy the spread at a net debit of $300 or less (this is one order, not two).
How much would SMA's price increase if a customer bought $22,000 worth of marginable stock in the existing margin account and fully paid for the transaction? A) 5500. B) 11000. C) 22000. D) 0.
B. Assuming the customer paid for the securities in full, he would generate $11,000 in SMA. Because the customer need pay only half of the securities' value ($11,000), the additional cash paid ($11,000) would be considered a nonrequired cash deposit and be credited to SMA. Another way to view the transaction is the customer has fully paid securities with a loan value of 50%, or $11,000.
Which of the following would NOT be a valid use of the partnership democracy? A) Consenting to an action of a general partner that is contrary to the agreement of limited partnership. B) Deciding which partnership assets should be liquidated to pay creditors. C) Removing the general partner. D) Consenting to a legal judgment against the partnership.
B. Deciding which partnership assets should be liquidated to pay creditors involves limited partners in the active management of partnership affairs. This would result in their being treated as general partners with respect to liability, and possible loss of limited partner status.
If an investor wants to do a tax swap, he could reasonably expect to pay more money if he buys bonds with a: A) lower coupon and similar rating. B) lower coupon and lower rating. C) higher coupon and similar rating. D) higher coupon and lower rating.
C An investor will pay more for a higher coupon with the same rating. A higher coupon translates into a higher price.
The overnight repo interest rate is usually lower than bank rates and just below or comparable to the: A) T-bill rate. B) discount rate. C) Fed funds rate. D) prime rate.
C From a duration standpoint, usually overnight, the repo rate is closest to the Fed funds rate, which is also overnight.
Your customer tells you that she sees the exchange rate for the British pound in the spot market is listed at 148.47. What do you tell her when she asks you what this means? A) One pound equals 14.847 U.S. cents. B) $1 equals 1.4847 pounds. C) One pound equals $1.4847. D) $1 equals 14.847 pounds.
C. The exchange rate refers to U.S. cents per British pound; 148.47 equals $1.4847.
All of the following are characteristics of Treasury receipts EXCEPT: A) the certificates may represent either the principal or the interest portion of the securities that were deposited with a trustee. B) they are zero-coupon bonds. C) accumulated interest is not subject to federal taxation. D) they are stripped bonds..
C. Treasury receipts are zero-coupon instruments, which are purchased at a discount and mature at face value. Although interest is not paid annually on receipts, investors receive a 1099 Original Issue Discount (OID) that reports the amount of interest imputed for that year. This interest must be reported to the IRS as taxable income.
Establishing short positions is typical for all of the following EXCEPT: A) listed stock. B) preferred stock. C) municipal bonds. D) OTC common stock.
C. Even though there is no regulation that prohibits short sales of municipal bonds, this is rarely done. To short a security, it must be borrowed and later covered. The general illiquidity of the municipal market makes this difficult.
For which of the following would the net revenue to debt service ratio be applicable? A) GO bonds. B) School bonds. C) Hospital bonds. D) Tax anticipation notes.
C. This is the Coverage ratio. Because revenue bonds are only backed by funds generated by a specific source, it is important that net revenues exceed debt service requirements. Hospitals are often built with the proceeds of revenue bond issues.
An investor sells short 100 shares at 50 and sells a 50 put at 5. If the put is exercised when the stock is trading at 45, the investor realizes: A) a gain of $1,000. B) a gain of $1,500. C) a gain of $500. D) neither a gain nor a loss.
C. When the short put is exercised, the investor buys stock at $50 that she can use to cover the $50 short sale. The investor realizes no gain or loss on the stock, but she collected $500 in premiums for a gain of $500.
For the purpose of reporting sales to the IRS, which method available to investors by the IRS offers the most flexibility in anticipation of the investor's year-end tax needs? A) None offer any flexibility in anticipation of year-end tax needs B) First in, first out (FIFO) C) Average cost basis D) Share identification
D. Share identification is the most flexible of the three methods. The investor keeps track of the cost of each share purchased and specifies which shares to sell based on his anticipated year-end tax needs. For investors, the idea is to minimize tax liability if able by limiting gains or maximizing loses in anticipation of what one's year-end tax liability might be.
One of your clients owns 2 different 6% corporate bonds maturing in 15 years. The first bond is callable in 5 years, while the second has 10 years of call protection. If interest rates begin to fall, which bond is likely to show a greater change in price? A) Both will increase by the same amount. B) Both will decrease by the same amount. C) Bond with the 5-year call. D) Bond with the 10-year call.
D. As interest rates fall, the investor benefits from having the highest interest rate for as long as possible. The price change will not be the same for both bonds. The greater the call protection, the more likely a bond will appreciate if rates fall.
Market interest rates have risen steadily over the past several months. The market price of which 2 of the following shares would probably reflect the biggest impact of this change? I. Growth stock. II. Money market mutual fund. III. Preferred stock. IV. Public utility stock.
III and IV Stocks that are interest rate sensitive will reflect the impact of a change to market interest rates more than others. Preferred stock with its fixed dividend and utility stocks with their high degree of debt leverage are considered interest rate sensitive. The yield of the money market fund will change, but the price is fixed at $1 per share.
The current yield of a callable bond selling at a premium is calculated
as a percentage of market value...Current yield for any security is always computed on the basis of the current market value
Which of the following will NOT affect SMA? A) A long sale at a profit. B) A deposit of cash into the account by the customer. C) A stock dividend on stock held long in the account. D) A cash dividend on stock held long in the account.
c
All of the following securities are exempt from the Trust Indenture Act of 1939 EXCEPT: A) preferred stock. B) municipal bonds. C) debentures. D) Treasury bonds.
c The Trust Indenture Act regulates new corporate debt issues, including debentures.
Customer A and Customer B each have an open account in a mutual fund that charges a front-end load. Customer A has decided to receive all distributions in cash, while Customer B automatically reinvests all distributions. How do their decisions affect their investments? I. Receiving cash distributions may reduce Customer A's proportional interest in the fund. II. Customer A may use the cash distributions to purchase shares later at NAV. III. Customer B's reinvestments purchase additional shares at NAV rather than at the offering price. IV.Due to compounding, Customer B's principal will be at greater risk. A) I and III. B) II and IV. C) II and III. D) I and IV.
A. If the customer elects to receive distributions in cash while other investors purchase shares through reinvestment, his proportional interest in the fund will decline. The option to have distributions automatically reinvested allows those purchases to be made at NAV but a purchase made later would be made at the POP like any other new purchase.
The interest on Series EE bonds is received by the holder of the bond: A) upon redemption. B) quarterly. C) monthly. D) annually.
A. Series EE bonds are designed for individual investors, sold at face value, and redeemed at an amount that includes the interest income which is calculated and accrues every six months.
The 5% markup policy applies to all of the following EXCEPT: A) municipal bond transactions. B) agency transactions on an exchange. C) principal transactions in the OTC market. D) agency transactions in non-exempt unlisted securities.
A. The 5% policy does not apply to exempt securities transactions such as municipal bond trades The policy applies to nonexempt securities and transactions on an exchange and in the OTC market, and it applies to both agency and principal trades.
Which of the following most quickly reflects changes in FRB policy? A) The discount rate. B) The prime rate. C) The call money rate. D) The CD rate.
A. The FRB has direct control of the discount rate. If the FRB changes policy, the discount rate is the key indicator.
If a book author receives royalty payments from a publisher, the payments will be taxable as which of the following types of income? A) Earned income. B) The payments are not taxable. C) Passive income. D) Portfolio income.
A. The author received royalties as a result of an active trade or business, therefore the payments are considered earned income.
Which of the following interest rates is NOT market driven? A) Discount rate. B) Broker call loan rate. C) Prime rate. D) Federal funds rate.
A. The discount rate is set by vote of the Federal Reserve Board. The remaining interest rates are directly or indirectly set by their markets.
The City of Podunk has an outstanding 25-year maturity issue that is callable in 7 years. It has prerefunded the issue and established an escrow account containing the proper government securities with face amounts and maturities approximating the call provisions of the original issue. In quoting the original issue, which of the following must be used? A) Yield-to-call. B) Yield-to-maturity. C) The lower of the yield-to-call or the yield-to-maturity. D) Current yield.
A. When a bond issue is prerefunded, the issuer is going to redeem the bond on the first call date. The yield must be quoted to call.
Interest paid on I bonds is: A) Exempt at the federal level only. B) Exempt from state and local taxation. C) Exempt at all levels. D) Taxable at all levels.
B. Interest paid on I bonds is exempt from state and local taxes but is taxable at the federal level. Although, federal income taxes can be deferred for up to 30 years or until the bonds are redeemed, whichever comes first.
A bond with 25 years to maturity, 7% coupon, quoted on a 6.25% basis is callable in 10 years at 103, 15 years at 102, and 20 years at par. On the customer's confirmation, the dollar price quoted must be based on: A) 15 years to call. B) 10 years to call. C) 20 years to call. D) 25 years to maturity.
B. This is a premium bond. With premiums, the YTC will be lower than the YTM. The question becomes which call date should be used. As a rule of thumb, always use the near term (first) in-whole call date.
A customer writes 1 ABC Jan 65 put at 6 and 1 ABC Jan 55 call at 7 when ABC is trading at 60. This position will be profitable if, at expiration, ABC is I. above 68 II. at 60 III. below 52 IV. between 52 and 68 A) I and II. B) II and IV. C) II and III. D) I and III.
B. This is a short combination where both contracts are in-the-money. Short combinations are like short straddles, except the strike prices and/or the expirations are different. The breakeven points are computed by adding the combined premiums to the strike price of the call (strike price + premium) and subtracting the combined premiums from the strike price of the put (strike price − premium). The breakeven points, therefore, are 52 (65 − 13) and 68 (55 + 13). With a short combination, the investor makes money if the stock stays inside the breakeven points.
If your customer bought an original-issue discount bond from the Mt. Vernon Port Authority, how is the discount on this bond taxed? A) As capital gains. B) Accreted during the life of the bond and not taxed. C) Amortized during the life of the bond and not taxed. D) As ordinary income.
B. Under IRS rules, an owner of an original-issue municipal discount bond must adjust the bond's cost basis by accreting the discount over the life of the bond. The accretion is not taxed
Information found in the Bond Buyer would include all of the following EXCEPT A) REVDEX B) the 30-day visible supply C) secondary market volume D) the placement ratio
C The Bond Buyer is a source of information for new (primary market) municipal bond issues. It contains REVDEX, an index for revenue bonds as well as GO bond indexes. Additionally it includes the 30-day visible supply and the placement ratio.
A DMF convertible bond (convertible into 25 shares) has increased 20% above par in market value. Which of the following would you expect the price of the DMF's common stock to be? A) $42.00. B) $32.00. C) $48.00. D) $40.00.
C. $1,000 (par) + 20% = $1,200 / 25 shares = $48. Alternatively, ordinarily it is the 20% increase in the value of the common stock that has caused the bond to increase 20% in value. $1,000 / 25 shares = $40 + 20% = $48.
Which of the following describes when debt is used to acquire a firm? A) Hostile takeover. B) Spin-off. C) Leveraged buyout (LBO). D) Takeover arbitrage.
C. Financial leverage is a company's ability to use long-term debt to increase its return on equity. Acquiring another firm using debt is one way a company might attempt to do this. Using debt in this way is known as a leveraged buyout.
Under FINRA rules, a registered representative is permitted to borrow money from a customer: A) under no circumstances. B) without restriction. C) if written notification is given to the firm and the representative receives written approval. D) if written notification is given to the firm.
C. Firms are not required to permit lending arrangements between registered representatives and their customers. If they do, they must have procedures in place to monitor such arrangements. If permitted by the firm, the arrangement must fall into one of five permissible categories: the customer is a member of the representative's immediate family; the customer is in the business of lending money; the customer and the representative are both registered with the same firm; the arrangement is based on a personal relationship outside of the customer/representative relationship; or the arrangement is based on a business relationship outside of the customer/representative relationship. If permitted by the firm, the representative must advise the firm in writing of the proposed borrowing, and receive written permission.
To be exempt under Regulation D of the Securities Act of 1933, the sale of securities must be limited with respect to the number of: A) broker/dealers who offer the securities. B) shares issued. C) nonaccredited investors to whom the security is sold. D) agents authorized to sell the security.
C. Regulation D provides a private placement exemption for securities that are sold to no more than 35 nonaccredited investors. There is no limit to the number of shares that can be issued nor the number of accredited investors who may purchase the shares.
Which of the following is a debt instrument that pays no periodic interest? A) GNMA. B) Treasury bond. C) STRIPS. D) Treasury note.
C. STRIPS are Treasury bonds with the coupons removed. STRIPS do not make regular interest payments. Instead, they are sold at a deep discount and mature at par value.
Market timing is normally associated with which of the following portfolio management styles? A) Modern portfolio theory. B) Strategic asset allocation. C) Tactical asset allocation. D) Passive management
C. Tactical asset allocation, which attempts to capitalize on short-term market swings, is a market timing strategy.
All research reports issued by a member firm must disclose certain information. Regarding those disclosures, all of the following statements are true EXCEPT A) the price at the time the original recommendation was made must be disclosed B) any control relationship with the issuer must be disclosed C) whether the member firm has any position in the security must be disclosed D) the name of the member firm providing the recommendation must be disclosed
C. The source of the recommendation, the security's price, and that the member firm is a market maker in the security, as well as if a control relationship exists between the member and the company being recommended, must be disclosed in the research report. However, only positions in the issuers securities of 1% or more need be disclosed.
An investor and his father own 20% and 10%, respectively, of a corporation's outstanding shares, and the father wants to sell his holding. According to Rule 144, which of the following statements are TRUE? I. He must file Form 144 to sell the shares. II. He does not have to file Form 144 to sell the shares. III. He is considered an affiliated person. IV. He is not considered an affiliated person. A) II and IV. B) I and IV. C) II and III. D) I and III.
D. Under Rule 144, an affiliate is a person in a control relationship with an issuer. Because the investors own at least 10% of the stock, they are control persons under Rule 144 and must sell in compliance with the rule.
When XYZ stock trades at 40 and an XYZ Oct 35 call trades at 5, which of the following statements is TRUE? A) The option's time value equals its intrinsic value. B) The option is at the money. C) The option is out-of-the-money. D) The option is at parity.
D. An option is at parity when its premium equals its intrinsic value. A call option has intrinsic value when the stock is trading above the call's strike price. In this example, the stock is at 40 and the call's strike price is 35, so the option is in the money by 5 points. The option is said to be trading at parity and there is no time value because the option's premium is 5.
Bondholders may not take action against the corporation if it fails to make interest payments for: A) convertible bonds. B) subordinated debentures. C) debentures. D) income bonds.
D. Income bonds pay interest only if earnings are sufficient and declared by the board of directors. This is not true of any of the other fixed-income securities listed (debentures, subordinated debentures, or convertible bonds).
A customer buys a newly issued municipal zero-coupon original issue discount bond for 85. If the bond is held until maturity, the tax consequence: A) cannot be calculated from the information given. B) is $150 loss. C) is $150 gain. D) is $0.
D. Municipal original issue discount bonds must be accreted. At maturity, the entire discount will have been accreted, and the cost basis will be equal to the par value. No gain or loss will occur at maturity.
The placement ratio, as shown in the "Bond Buyer", is: A) bonds sold/bonds unsold. B) bonds issued/bonds sold. C) bonds issued/bonds unsold. D) bonds sold/bonds issued.
D. The placement ratio is a measure of investor demand for new issue municipal bonds. It is computed by dividing the amount of bonds sold each week by the amount issued that week.
If an investor buys a Jan 30 XYZ call for 4 and sells a Jan 35 call for 2, to become profitable, the spread between the prices of the two options must: A) remain the same. B) narrow. C) fluctuate. D) widen.
D. This is a debit spread. A debit spread is profitable when the difference between the premiums widens. A debit spread is closed as a credit and, to be profitable, the credit must be larger than the opening debit.
If a customer buys 200 XYZ at 58 and writes 5 XYZ Jan 60 calls at 2, maximum potential loss is: A) 1400 B) 10600 C) 12600 D) unlimited.
D. This is an example of ratio writing. Short calls are covered by long stock, but in this example it would take 500 shares of stock to cover the 5 calls written. Because there are actually 3 uncovered calls, the maximum loss is unlimited.
An inverted yield curve is the result of: A) investors moving from debt instruments to equity instruments. B) investors moving from equities to debt instruments. C) investors buying short-term bonds and selling long-term bonds. D) investors buying long-term bonds and selling short-term bonds.
D. When investors believe that interest rates may decline soon, they seek to lock in the current rate of return by buying long-term bonds. Increased demand increases the price and causes the yields on long-term debt instruments to fall. In addition, selling short-term bonds depresses prices, causing yields to rise. As a result, the yield curve takes on a negative slope. Short-term yields are then higher than long-term yields, which is the definition of an inverted curve.
