Rec - CLIENT PROFILE (6)
Balance sheet shows
Assets and Liabilities
Mr. and Mrs. Williams are a retired couple receiving most of their income from a diversified portfolio of high quality bonds and preferred stock. One of the reasons that life insurance might be a useful addition to their overall planning is that: A)dividends received on a life insurance policy are tax-free. B)upon the death of the insured, the insurance provides liquidity to preserve income-producing assets from having to be liquidated to cover death expenses. C)the premiums can be paid directly from their brokerage account. D)the proceeds of a life insurance policy are free of income tax.
B)upon the death of the insured, the insurance provides liquidity to preserve income-producing assets from having to be liquidated to cover death expenses. Even for those whose estate is not large enough to incur estate tax, life insurance proceeds provide liquidity to cover the expenses incurred at death without having to sell assets out of the portfolio. It is true that the proceeds are free of income tax, but that is not the major reason to own life insurance.
Which sheet does Accumulated depreciation go on
Balance sheet - but only for businesses
John and Jane have a net worth of $20,000 and total assets of $150,000. If their revolving credit and unpaid bills totals $8,000, how much are their total liabilities? A)$122,000. B)$150,000. C)$130,000. D)$138,000.
C)$130,000. The balance sheet formula is assets − liabilities = net worth. Therefore, $150,000 − liabilities = $20,000, where liabilities = $130,000. Did you answer $122,000? That is the amount of the liabilities other than the revolving credit, but that is not what the question is asking for.
Among investor objectives is preservation of capital. Which of the following would be most appropriate for inclusion in the portfolio of this kind of investor? A)U.S. Treasury bonds. B)International funds. C)Blue chip stocks. D)A money market fund.
D)A money market fund. Preservation of capital means no fluctuations. Money market funds are the only logical choice here. True, the treasury bonds do not have default risk, but, because they can have maturities as long as 30 years, they are subject to interest rate risk.
As part of your annual review for clients, you perform a net worth computation. You have computed a specific client's net worth at $500,000. This client calls you and asks what his net worth will be after withdrawing $4,000 from his savings account to pay off credit cards, taking another $5,500 to deposit to his IRA and buying a $25,000 home theater system using store credit. You would respond that the client's net worth is now: A)$466,000.00 B)$491,000.00 C)$475,000.00 D)$500,000.00
D)$500,000.00 Explanation In each case, we have an asset offsetting a liability so there is no change to the net worth. Reference: 15.1 in the License Exam Manual
The longer an individual's investment horizon, the: A)more conservative he should be with the choice of investment products. B)less need there is for a retirement plan. C)less risk he can afford to take. D)more aggressive he can be with the choice of investment products.
D)more aggressive he can be with the choice of investment products. consequently
Salary and wages go on which sheet
Income statement
Defensive Strategy
Minimize risk, preserve capital, and stable income
High yield bonds are
Risky (compared to investment grade)
Which of the following investment companies would be most suitable for an investor concerned about short-term price volatility? A)Index fund. B)Money market fund. C)Growth fund. D)Balanced fund.
B)Money market fund. While not guaranteed, historically, money market funds do not fluctuate in price.
An investment adviser representative offers comprehensive financial planning services for women. Included in the planning are wills, trusts, and life insurance needs. For which of the following clients would term life insurance be most appropriate for meeting their needs? A)The 60-year-old widow of the CEO of a large corporation. B)A 30-year-old mother of twins. C)A 75-year-old who has been married to the same man for 53 years. D)A 35-year-old married to a rock star.
B)A 30-year-old mother of twins. The young mother needs as much low-cost insurance as she can get until the children are on their own.
If a client prefers a mutual fund investing in companies that primarily pay a steady dividend to companies that generate capital appreciation, what type of mutual fund would you recommend? A)An index fund. B)An income fund. C)A government bond fund. D)A growth fund.
B)An income fund. Income funds invest in those companies who tend to be more liberal in their dividend payout, thus enabling the fund to provide income to the investor. Be careful. The question did not ask about a fund that paid regular dividends; it was the portfolio securities that were the dividend payers, and that could not be a bond fund.
One problem facing agent and client alike is determining how much life insurance is necessary to meet future needs. One tool that is useful for making that determination is a: A)statement of beneficiary needs. B)life insurance capital needs analysis. C)premium purchase analysis. D)mortality table.
B)life insurance capital needs analysis. A life insurance capital needs analysis takes into consideration the future needs of the insured and family and then factors in how much needs to be filled in by life insurance.
You are doing an investment plan for a new client, age 55, who plans to retire at age 70. The client is somewhat risk averse and wants to preserve capital while at the same time not falling prey to possible inflation. Which of the following portfolios would probably be most suitable? A)90% high quality bonds; 10% large cap stocks B)90% large cap stocks; 10% high quality bonds C)60% high quality bonds; 30% large cap stocks; 10% cash equivalents D)40% high quality bonds; 60% large cap stocks
C)60% high quality bonds; 30% large cap stocks; 10% cash equivalents Although it is possible to debate this choice (but don't), NASAA would suggest that the bonds and cash offer sufficient capital preservation while this proportion of equities will combat the risk of inflation.
In projecting future cash requirements, one of the tools is a capital needs analysis. When doing one, all of the following would be considered capital needs EXCEPT A)a $100,000 loan for law school with a due date in 10 years B)a home equity loan with a $15,000 balance C)rolling over a 401(k) into an IRA D)a $20,000 loan for undergraduate school with a due date in six years
C)rolling over a 401(k) into an IRA A capital needs analysis attempts to determine money that would be needed in the event of an individual's sudden passing. Included would be any outstanding debt obligations, regardless of when they are due (they will have to be paid off sometime). However, an asset, such as the 401(k), is not a need; it is something that will help meet the need.
A client is risk averse and is planning on retiring in 16 years. As the client's investment adviser, which of the following would you recommend? A)A high-yield bond fund. B)A government bond fund. C)A diversified open-end investment company concentrating in small-cap stocks. D)50% in an S&P 500 index fund; 50% in a portfolio of high quality bonds.
D)50% in an S&P 500 index fund; 50% in a portfolio of high quality bonds. Even though the government bond fund carries less market risk, with a 16-year retirement goal, some inflation protection is necessary. The index fund carries some market risk, but does offer purchasing power protection. The 50/50 mix would seem to be most appropriate.
Which of the following funds would you recommend to a moderate-risk client seeking long-term capital gains who also values professional stock selection? A)An international index fund. B)A small-cap growth fund. C)S&P 500 Index fund. D)A large-cap growth fund.
D)A large-cap growth fund. A large-cap growth fund is the most appropriate choice for a moderate-risk client because large capitalization stocks are generally less volatile than small-cap stocks and provide long-term capital growth. This is a more appropriate choice than the index fund because there is no stock selection there, only investing to parallel the index.
The two general categories of investment objectives are income and capital growth. An investor primarily seeking income would be least interested in which of the following? A)A stock paying a high dividend. B)Interest. C)U.S. treasury bonds. D)Capital gains.
D)Capital gains. Capital gains is an example of capital growth. An investor who is primarily interested in generating income will be less interested in the potential capital gains provided by an investment than its potential interest and dividends.
An investment adviser representative is meeting with a potential advisory client. Among the items of information the IAR needs to obtain in order to develop the proper plan are the prospect's: -anticipated number of years until retirement. -location of current bank and brokerage accounts. -current savings and investments. -college alma mater. A)II and IV. B)I and II. C)III and IV. D)I and III.
D)I and III. Proper investment planning involves saving for retirement and what steps are taken to reach that goal are influenced by the time remaining. Future plans are developed using current assets as the starting point. We don't care where the assets are, just what they are.
Your 30-year-old client has $100,000 to invest and she is willing to assume a moderate amount of risk, but would also like to have $10,000 available for a down payment on a home in six months. Which of the following asset allocation strategies would best suit her situation? A)50% government bond fund, 50% large-cap fund. B)70% high-yield corporate bond fund, 20% growth fund, 10% government bond fund. C)70% large-cap stock fund, 20% balanced fund, 10% money market fund. D)50% large-cap stock fund, 40% municipal bond fund, 10% money market fund.
C)70% large-cap stock fund, 20% balanced fund, 10% money market fund. A high concentration (70%) in large-cap securities for growth and inflation protection is the most appropriate asset allocation for the client profile. The client also has 10% in a money market fund for liquidity purposes (down payment of a house) and the rest in a balanced fund.
Which of the following is generally NOT an appropriate product for retirement planning? A)Mutual funds. B)Bonds. C)Commodities. D)Life insurance.
C)Commodities. Commodities are among the most speculative investments and not generally an element in retirement planning.
A new client wants your recommendation on available investment options. You prepare a client profile which reveals that the investor is 66 years of age, has a low risk tolerance and is in a low tax bracket. The investor's primary objectives are safety and income. Of the following, the most suitable choice would be A)a municipal bond mutual fund investing solely in AAA and AA rated bonds B)large cap common stock C)insured bank certificates of deposit D)a growth and income mutual fund
C)insured bank certificates of deposit Whenever you see "low tax bracket," the answer cannot be municipal bonds. With a low risk tolerance, the only suitable choice for "safe" income would be insured bank CDs.
A client profile is not complete without a family income statement. A typical one would include: dividends. credit card debt. autos. mortgage interest. A)III and IV. B)I and II. C)II and III. D)I and IV.
D)I and IV. Income statements reflect the family's income and expenses, not assets and liabilities. Dividends represent money received and mortgage interest is money paid out. Credit card debt is a liability and autos are assets.
Which of the following investment strategies would be appropriate for an advisory client with a 20-year time horizon before retirement? Holding more stock. Holding less cash. Holding fewer bonds. A)II only. B)I only. C)II and III. D)I, II and III.
D)I, II and III. With a long time horizon before retirement, equity securities such as common stock would offer the highest potential return and cash would be least suitable. Given purchasing power risk, bonds would not provide the returns associated with common stock.
Your client asks for a recommendation for her emergency fund. You would most likely suggest a: A)corporate bond mutual fund because of its high degree of income and liquidity. B)money market mutual fund because of its fixed rate of return. C)diversified common stock mutual fund because of its high degree of liquidity. D)money market mutual fund because of its high degree of liquidity.
D)money market mutual fund because of its high degree of liquidity. The most appropriate vehicle for the emergency fund is the money market mutual fund because of its safety and high degree of liquidity. A money market mutual fund does not have a fixed rate of return. A common stock fund is too volatile and not appropriate for an emergency fund. A bond fund is subject to market volatility.
ABC Fund pays regular dividends, offers a high degree of safety of principal, and appeals especially to investors seeking tax advantages, ABC is a(n) A)corporate bond fund B)money market fund C)aggressive growth fund D)municipal bond fund
D)municipal bond fund Municipal bonds are considered second only to U.S. government securities in terms of safety. Also, interest received from the bonds is generally exempt from federal income tax.
A client has a more than average aversion to risk with a primary investment objective of capital preservation. Given the following choices of portfolio allocations, which would probably be the most suitable for this investor? A)A mix of investment-grade bonds and cash/cash equivalents. B)A preponderance of growth stocks and limited partnership vehicles. C)A mix of high yield bonds and cash/cash equivalents. D)A preponderance of speculative stocks and high-yield bonds.
A)A mix of investment-grade bonds and cash/cash equivalents. An individual with an investment objective of capital preservation should be investing in a mix of investment grade bonds and cash/cash equivalents. Lower risk capital appreciation vehicles, such as large-cap common stock, should also be considered. The other choices noted are too risky for a risk-averse investor.
If a new client has $200,000 to invest and wants to retire in 15 years, which of the following client information is least necessary for an adviser to recommend a suitable investment program? A)Current income and cash flow requirements. B)The amount of income he requires for his retirement years. C)Tolerance toward risk. D)The age of the client.
A)Current income and cash flow requirements. While current income and cash flow requirements are ordinarily important considerations, in this question we are being asked about the investment of a lump sum, not periodic additional investments. The amount of income required will determine the types of investments and how they must be structured in order to achieve the retirement income desired. The client's age is necessary to determine the time horizon. That is, if the client is currently 35 and wishes to retire at age 50, the money will have to last a lot longer than if we are dealing with a 55-year-old who wishes to retire in 15 years at 70. A client's tolerance toward risk is among the most important non-financial considerations in determining investment suitability.
The Jones family has scheduled an initial visit with a financial planner. Mr. Jones has an annual salary of $70,000 and this is their first attempt at financial planning. Which of the following should be the first step taken by the financial planner? A)Establish an emergency fund. B)Set goals and dates for reaching them. C)Pay off credit card debt. D)Determine a reasonable fee for designing the plan.
A)Establish an emergency fund. There are many questions on the exam where you will be forced to choose between two possible answers, only one of which is correct. In many cases, it is strictly a matter of opinion, but only NASAA's opinion counts. This is one of them. Goal setting is important, but the regulators feel that the first step in any plan is making sure that there is a "rainy day" fund. We can argue about that because some will say that a good plan can be used to establish that fund where none has existed before. But, please go with the right choice.
An elderly widow with no independent income wishes to invest the proceeds from her recently deceased husband's life insurance. Which of the following would be the most suitable recommendation? A)High grade corporate bond mutual fund. B)Municipal bonds. C)Call options. D)Oil and gas exploration program that you know is going to strike.
A)High grade corporate bond mutual fund. This customer needs income. Of the answers provided, the bond fund would be the most suitable because it would provide income while maintaining relative safety. While the municipal bonds are probably safer, the benefits of their tax-free income would probably be lost on a client with no independent income.
For a trust account not seeking appreciation, which of the following would be recommended? A)Highly-rated, fixed-income securities. B)Common stock in small, highly profitable companies. C)Large-cap common and preferred stocks. D)Common stock, preferred stock, and debentures.
A)Highly-rated, fixed-income securities. The only choice that is prudent and does not have a goal of appreciation is the purchase of highly rated, fixed-income securities.
When making recommendations to an advisory client, which of the following carry the most weight? The client's risk tolerance. Past performance of the adviser representative's recommendations. The client's investment needs and objectives. The client's previous investment experience with other advisers. A)I and III. B)II and III. C)II and IV. D)I and IV.
A)I and III. Investment objectives and risk tolerance should determine recommendations to an individual advisory client.
Carol is opening an investment account with her agent and will be expected to disclose all of the following items of financial or personal information EXCEPT her: A)educational background. B)annual income. C)investment experience. D)age.
A)educational background. When an agent opens accounts on behalf of a broker-dealer, she is required to ask each applicant to disclose date of birth, and will request annual income, and net worth, as well as investment experience. Disclosure of educational background is not typically sought.
One respect in which an investment adviser differs from an agent for a broker-dealer is that of fiduciary responsibility to the client. Therefore, the IA will have greater concerns about various needs and attitudes of the client when making recommendations. Included in those concerns would be the client's expectation of rewards emotional risk tolerance retirement plan vested balance time horizon A)I, II, III and IV B)II and IV C)I and IV D)I and II
A)I, II, III and IV The client's expectation of rewards is a determining factor in the risk/reward concept. Risk tolerance and time horizon are always major considerations. The vested balance in the client's retirement plan is a critical factor in determining what additional, (if necessary) will be necessary to meet retirement goals.
When performing a capital needs analysis for a client, factors to be considered would include the client's projected earnings the projected inflation rate projected market volatility the client's age A)I, II, and IV B)III and IV C)I and II D)I, II, III, and IV
A)I, II, and IV A capital needs analysis is used to help determine the proper amount of life insurance that will provide for the family's needs in the event of premature death of the primary breadwinner. The agent would factor in the client's projected earnings until retirement and, in order to do that, would need to know the current age. In addition, to be sure to allow for enough to keep up with the rising cost of living, the projected inflation rate is needed. However, market volatility does not impact the analysis because the amount of the selected death benefit will remain constant, regardless of changes to the market.
It is generally accepted that agents and IARs will give greater consideration to which of the following when making recommendations to their senior clients? Age. Life stage. Retirement savings. Tax status. A)II and III. B)III and IV. C)I and IV. D)I and II.
A)II and III. All of these are important suitability considerations for all customers. But, when it comes to seniors, it is felt that life stage (including whether the customer is employed, retired, or nearing retirement) and current retirement savings relate particularly to seniors.
If a widow with no outside source of income and moderate financial resources asked you for investment advice, the most appropriate recommendation(s) would be: new issues of common stocks. growth stocks. speculative issues. income securities. A)IV only. B)II and III. C)II, III and IV. D)I, II and IV.
A)IV only. A customer with no source of income needs an investment portfolio to generate income. Suitable investments would be income securities that pay interest (bonds) or dividend-oriented stocks (preferred stocks and the common stock of public utility companies). Speculative stocks and growth stocks typically pay little or no dividends because any profits generated are being reinvested in the company's growth by the board of directors instead of distributed to the shareholders.
An 80-year-old client who is barely able to afford rent and other living expenses inherits $75,000. What is the most suitable investment objective for this client? A)Income and preservation of capital. B)Inflation protection and income. C)Income and growth. D)Preservation of capital and liquidity.
A)Income and preservation of capital. Preservation of capital and income are the most suitable objectives for an elderly person in this situation. Growth and the associated risk of loss is not a reasonable investment objective at 80 years. With the short life expectancy at 80, inflation protection is not an important consideration.
What is among the most important nonfinancial considerations in determining the suitability of investments for a client? A)Tolerance for risk. B)Client's income needs. C)Assets under management. D)Rate of interest on Treasury bills.
A)Tolerance for risk. A client's risk tolerance is among the most important non-financial considerations when recommending an investment. The risk-free rate or the Treasury bill rate has no reference to the client's investment profile, but it serves as a comparison to evaluate the additional return expected versus additional risk taken. A client's income need is a financial, not a non-financial, consideration, and must be considered when determining the suitability of investments. The amount of assets the client has with the investment adviser representative is a financial, not a nonfinancial, consideration.
Having sufficient funds to pay off a 30-year mortgage on a home with an initial loan amount of $200,000 would be A)a capital need B)an investment constraint C)decreasing term insurance D)taking too much risk for most clients
A)a capital need A capital need is generally for one of three purposes: payoff of a mortgage and other debts, providing education for dependents, and a stream of income for survivors. It is generally shown with a specific dollar amount, and that is the easiest way to recognize that it is not an investment constraint. Decreasing term insurance may be the best way to provide the funds, but that doesn't answer the question.
An investment adviser's client's objective is to save for her child's college education. The child will be going to college in five years. When preparing appropriate recommendations, the IA would look at this five-year time frame as A)an investment constraint B)opportunity cost C)unimportant D)a capital need
A)an investment constraint Investment constraints are those factors which must be considered when planning portfolio recommendations. Included are time horizon (the primary one involved in this case), need for liquidity, tax concerns, and so forth. On this exam, capital need will generally be referring to a capital needs analysis to determine the proper amount of life insurance a client needs.
An investment strategy that is designed to minimize risk and preserve the investor's principal is a(n): A)defensive investment strategy. B)market capitalization investment strategy. C)aggressive investment strategy. D)growth investment strategy.
A)defensive investment strategy. An investment strategy can be either defensive or aggressive. A defensive strategy is one that is intended to minimize risk, preserve capital, and provide a somewhat stable income. An aggressive investment strategy is designed to maximize returns and assume greater risks.
An investor diversifying a corporate bond portfolio does NOT consider: A)domicile of the investor. B)maturity. C)issuer. D)quality.
A)domicile of the investor. Domicile, or geographic location of the investor, is not relevant in diversifying a corporate bond portfolio. For example, it is irrelevant if the client is located in Michigan or New Jersey or any other state; that will have no impact upon the risks facing the issue. This could be a factor for municipal bond investors due to the possibility of avoiding state income tax. A corporate bond portfolio can be diversified by issuer, quality (rating), domicile of the issuer and maturity.
In making suitable investment recommendations, the least significant element would be the client's: A)educational level. B)retirement needs. C)death and disability needs. D)current income.
A)educational level. A client's educational level is not as important as retirement needs, death and disability needs, and current income. However, the agent should take note of the client's educational level to ensure that the client fully understands the investments recommended. Also, a person with a professional educational background may have more employment opportunities and be able to take more risk as a result.
A customer has a financial commitment of $200,000 that will come due in 2 years. In the interim, the customer wishes to invest the $200,000 to maximize income and have the money available for the obligation in 2 years. You should recommend investments in: A)government securities with two year maturities. B)preferred stock purchased in a private placement. C)large-cap stocks. D)municipal bonds purchased at par with 20-year maturities.
A)government securities with two year maturities. The Uniform Securities Act requires that all recommendations to a customer be consistent with that customer's investment objectives and financial situation. This particular customer needs to have principal available in two years and wants to invest for income in the interim. Of the choices listed, only government securities with 2-year maturities meet both criteria.
Insurance agents frequently use a capital needs analysis to help determine the correct amount of life insurance needed by their clients. That analysis would look at all of these EXCEPT: A)market volatility. B)the inflation rate. C)life expectancy. D)future earnings.
A)market volatility. Of these choices, the only one that we cannot in anyway predict is market volatility. We can factor in an estimated inflation rate, project future earnings and look at the mortality tables to obtain life expectancy. But, nothing can project market volatility with any degree of accuracy.
A client with a sizeable estate would probably find it most efficient to pay estate taxes with A)proceeds from a life insurance policy B)proceeds from the liquidation of a tax-deferred retirement plan C)cash D)proceeds from the liquidation of a diversified portfolio
A)proceeds from a life insurance policy In general, people with estates where there is a potentially large estate tax liability, find that the most efficient way to pay those taxes is through a life insurance policy.
An individual's net worth is: A)the difference between the individual's assets and the individual's liabilities. B)another term for discretionary income. C)largely irrelevant in identifying the individual's investment objectives. D)best determined by examining the individual's personal income statement.
A)the difference between the individual's assets and the individual's liabilities. An individual's net worth is the difference between the individual's assets and the individual's liabilities. It is determined from the personal balance sheet rather than the personal income statement. Net worth is relevant in determining an individual's investment objectives.
It would be correct to state that when an investor has a shorter time horizon: A)the need for liquidity is more important. B)the greater the duration. C)the risk level is raised. D)the exposure to inflation risk is increased.
A)the need for liquidity is more important. When the time horizon is short, there is a greater need for access to the funds now. Therefore, liquidity is a major consideration. With a short time horizon, the investor can take less risks (and won't have to because there will be less exposure to inflation risk).
If a 65-year-old woman of substantial means is seeking income and preservation of capital, which of the following should you recommend? A)Aggressive growth fund, mid-cap fund, growth and income fund. B)Government bond fund, corporate bond fund, municipal bond fund. C)Small-cap fund, mid-cap fund, government bond fund. D)Large-cap fund, small-cap fund, government bond fund.
B)Government bond fund, corporate bond fund, municipal bond fund. The most suitable of these choices for a 65-year-old woman seeking income and preservation of capital is a portfolio of a government bond fund, corporate bond fund, and municipal bond fund. Small-cap and mid-cap stock funds contain too much risk or volatility for this client.
What is the most reasonable investment objective for a 40-year-old schoolteacher investing for retirement? A)Liquidity. B)Growth of capital. C)Preservation of capital. D)Growth and income.
B)Growth of capital. At 40 years of age, the client has probably 20 years or more before retirement. With this long-term time horizon, growth of capital would be the most reasonable. The next most reasonable objective is growth and income.
Any recommendations made to customers by a broker-dealer must be suitable for the customer on the basis of an investigation of the customer's: investment objectives. financial status. ability to pay high commissions. desirability as a customer. A)I and III. B)I and II. C)II and IV. D)III and IV.
B)I and II. Recommendations must meet the needs of the customer, not necessarily those of the registered representative or the broker-dealer firm.
Assets that might be found on a family balance sheet include: car loan. gold watch. Keogh plan. salary. A)III and IV. B)II and III. C)I and II. D)I and IV.
B)II and III. An asset is something that is owned. Jewelry is part of the family's assets, as is the value of any retirement plan. A loan is a liability (the car is the asset), and salary represents income.
Your retired 72 year-old client still lives in the home he purchased 35 years ago for $40,000. It is currently valued at $700,000 and there is no mortgage. The client has almost $500,000 in his self-directed IRA rollover account. When determining suitable investments for this client, you would base your recommendations on the fact that: the client is an accredited investor having a net worth in excess of $1 million. a home equity loan could more than double the amount of funds available to invest. as a retiree, any losses suffered cannot be made up from current income. the client's time horizon could be as long as 20 years. A)I and II. B)III and IV. C)I and IV. D)II and III.
B)III and IV. One of the risks facing senior investors who are retired is that, unlike those still employed, loss of principal can be devastating. With today's medical advances, a 72 year-old can be looking at 15 to 20 additional years of life. Therefore, recommendations must be made to maximize the probability of the client's assets lasting that long. Effective with the Dodd-Frank Bill of 2010, this investor is no longer accredited because the value of the primary residence must be excluded from the net worth computation. And, even if he were, eligibility does not equal suitability.
Liquidity risk is the risk that when an investor wishes to dispose of an investment, no one will be willing to buy it, or that a very large purchase or sale would not be possible at the current price. With that in mind, which of the following would likely have the lowest degree of exposure to liquidity risk? A)REITs B)Money market mutual funds C)Investment grade municipal bonds D)RELPs
B)Money market mutual funds RELPs (real estate limited partnerships) would have high liquidity risk because there is generally no secondary market for them. Municipal bonds, even highly rated ones, can have liquidity issues. Even though many REITs are listed on exchanges, there are a growing number of non-traded ones where liquidity can be an issue. However, money market funds with their check-writing privilege, are about as liquid as you can get.
Which of the following types of investments would have the lowest liquidity risk? A)Gold. B)Money-market funds. C)Real estate. D)Preferred stock.
B)Money-market funds. Money market funds offer check-writing privileges permitting their investors to cash out virtually immediately.
A 55-year-old customer in the 18% tax bracket wants to maximize current return with a moderate degree of risk. He has just inherited $25,000 and seeks a bond investment. A suitable bond would have which of the following features? A)Little or no call protection. B)Relatively high rating. C)Rating below Ba but above D. D)Tax-exempt status.
B)Relatively high rating. The investor's tax bracket is not high enough to take advantage of a bond's tax-exempt status, but a bond with a low rating is not suitable because the investor is willing to bear only moderate risk. A bond with call protection and a relatively high rating would meet this customer's needs.
Which of the following is NOT a standard used to determine whether a particular mutual fund is suitable for an individual investor? A)The investor's estimated tolerance for risk and volatility. B)Whether the investment is made directly through the fund itself or through a broker-dealer. C)Components of an investor's current portfolio. D)The amount of time elapsing between the deposit o
B)Whether the investment is made directly through the fund itself or through a broker-dealer. Whether a mutual fund is offered through the issuer or through broker-dealer channels is not a suitability determinant. However, time horizon, risk tolerance, and existing portfolio components help determine investment suitability.
If a client wanted an investment that would eliminate interest risk as to principal, you would recommend A)preferred stock B)a bank insured certificate of deposit C)a 90-day Treasury bill D)TIPS
B)a bank insured certificate of deposit Because bank insured CDs are non-negotiable (we're not discussing the $100k minimum jumbos), there is no market fluctuation caused by changes in interest rates as with marketable securities. If you invest $10,000, you will always get back that $10,000 whenever you cash in the CD, regardless of current interest rates. This is true even when cashing in early. There may be a prepayment penalty, but that is considered separate from interest rate risk. TIPS offer inflation protection and preferred stock is interest rate sensitive in the same manner as a bond. The 90-day T-bill doesn't have much interest rate risk, but, if an investor was to attempt to liquidate the holding prior to maturity and interest rates increased, there could be a loss.
An investment adviser representative meets with a couple who explains that they wish to be able to pay for their daughter's college education. The IAR is told that the child will be starting school in five years. This 5-year time period would be considered A)a capital need B)an investment constraint C)an investment policy statement (IPS) D)a Section 529 Plan
B)an investment constraint Investment constraints are limitations on the ability to make use of particular investments. They can be liquidity, time horizon, tax concerns, legal and regulatory factors, and unique circumstances (ethical objectives or social responsibility considerations). The easiest way to determine if it is a constraint or a capital need is if a dollar amount is stated. When a specific sum is mentioned, it is a capital need. The education may be funded through a Section 529 Plan, and this may be part of the client's IPS, but neither of those answers the question posed.
An investment adviser representative received an investment policy statement from a client that requires "minimum risk to long-term capital invested with sufficient income to meet current obligations" and states, "tax consequences are not relevant". The client is most likely to be a(n): A)large university with a small endowment fund relative to its size. B)endowment fund of a small charitable organization whose monthly expenses and distributions come solely from investment returns. C)young married couple employed as highly compensated investment bankers at major New York City investment banks. D)property and casualty insurance company with an investment-grade rating from S&P.
B)endowment fund of a small charitable organization whose monthly expenses and distributions come solely from investment returns. An endowment fund of a charitable organization, such as a religious institution, would most likely require safety of principal with sufficient income to meet current obligations because a charitable institution is not likely to have current income from revenue-generating activities. In addition, religious institutions are tax exempt so there would be no tax consequences. A young married couple employed as investment bankers would likely have sizable taxable income and would seek capital growth as opposed to capital preservation. Insurance companies are taxable entities whose current obligations are met with current revenue through the sales of policies as well as from investment income.
A 68 year-old client of yours indicates that he is interested in changing the portfolio mix of his IRA to become largely invested in noninvestment grade bonds. You would probably infer from this that the client: A)has recently come into a large inheritance. B)has insufficient retirement savings. C)is now in a lower tax bracket. D)is risk averse.
B)has insufficient retirement savings. Most studies have indicated that seniors with insufficient retirement savings attempt to compensate by being tempted to reach for higher yields to maximize retirement income without full consideration of the increased risk that comes along with the possibility of higher returns.
The needs analysis approach to life insurance planning: A)does not include other assets. B)involves calculating the present value of cash and future income needs of an individual's survivors. C)provides an accurate insurance recommendation that ensures that the survivors' needs will be met. D)is based on a series of generally accepted rules of practice.
B)involves calculating the present value of cash and future income needs of an individual's survivors. The needs analysis approach evaluates the income replacement needs of one's survivors in the event of untimely death.
Years ago, following your advice, a client opened a 529 Plan to save for their son's college education. The child is now about three years from beginning his freshman year. The client, believing that the stock market is currently undervalued, wishes to reallocate the Plan assets so that most of the funds are in a broad stock market index portfolio. At this time, your advice would probably be against this allocation because of: A)liquidity risk. B)market risk. C)interest rate risk. D)business risk.
B)market risk. With this short a time horizon, a portfolio that is largely equities, subjects the account to too much market risk. If the child had been 5 years of age, giving the client a 13 year time horizon, this would have made more sense.
When developing a client profile, it is important to note both the financial and nonfinancial considerations. These can be categorized as those which are objective and those which are subjective. Included in the list of subjective considerations would be A)balance on the home mortgage B)risk tolerance C)the family balance sheet D)cash value of life insurance
B)risk tolerance Subjective considerations are the nonfinancial ones—the ones that can't be expressed in monetary terms. Risk tolerance is one of the key subjective considerations to be evaluated.
A new client inherits $25,000 and wishes to use the money to purchase an 8% municipal general obligation bond selling at an 8.45% yield. The $1 million bond issue, due in 15 years, is rated Baa. All of the following factors would result in your recommending against such a purchase EXCEPT: A)this would be the client's only investment. B)the client is willing to accept a moderate amount of risk. C)the client is in the 18% tax bracket. D)the client's job is not secure.
B)the client is willing to accept a moderate amount of risk. A Baa rating (the lowest investment grade) is consistent with the client's willingness to accept moderate risk which would not be a reason to recommend against this purchase. The client's 18% tax bracket is too low to take full advantage of the bond's tax-exempt feature. This client might be better served by buying similar quality corporate bonds. The bonds would not be very liquid (because only 1,000 bonds were issued). it is only appropriate for a portion of a client's investments to be illiquid depending upon their situation.
It would be correct to state that when an investor has a longer time horizon: A)the need for liquidity is less important. B)the risk level is lowered. C)the exposure to inflation risk is lessened. D)the greater the initial deposit to reach a projected future goal.
B)the risk level is lowered. When the time horizon is long, there is little need for access to the funds now. Therefore, liquidity is a minor consideration. With a long time horizon, the investor can take greater risks (and should because it will be necessary to combat the higher inflation risk).
Charley Dearborn is a CFP who is also registered as an IAR with a federal covered investment adviser. Charley's primary focus is on developing comprehensive financial plans for his clients. After analyzing their financial situation, which of the following individuals would most likely receive a recommendation from Charley to purchase term life insurance? A)A 25-year-old single associate professor at an Ivy League university. B)A 75-year-old widow. C)A 35-year-old physician with 3 children. D)A 60-year-old spouse of a corporate executive.
C)A 35-year-old physician with 3 children. The advantage of term life is that it provides large amounts of protection for a relatively low premium for those under ages 45-50. On the basis of the information given, the 35-year-old physician with three children would appear to have the greatest income replacement needs in the event of premature death. Although it is possible that the spouse of the corporate executive might need extensive life insurance for estate purposes, that need might not arise for many years and, at age 60, term insurance starts to get very expensive.
A client is risk averse and is planning on retiring in 16 years. The client is rolling over $100,000 from his 401(k) plan, all of which is currently invested in his former employer's stock. As the client's investment adviser, which of the following would you recommend? A)Laddering US Treasury bills. B)Keeping the money in the employer's stock. C)AAA rated zero-coupon bonds maturing in 16 years. D)Highly rated preferred stocks paying liberal dividends.
C)AAA rated zero-coupon bonds maturing in 16 years. Because the assets are in a rollover IRA, the "phantom" tax on zero coupon bonds is not an issue here. Being risk averse, the safety of AAA bonds with the guaranteed return of increased principal in 16 years makes this the most appropriate investment. The T-bills will probably not offer as much return and will be subject to continual reinvestment risk. Dividends on preferred stock are not guaranteed, even with a highly rated company, and the current tax advantage offered to dividends is wasted in an IRA. Most would agree that the worst option would be to keep the money in one single stock.
An investment adviser representative prepares a detailed portfolio restructuring for a new client. The client is not impressed with the recommendation and, at least to the IAR, it appears that the rejection is more due to a lack of understanding than a valid dislike. What should be the first step taken by the IAR? A)Go ahead with the recommendation anyway because the client's lack of understanding should not stand in the way of potentially superior results. B)Prepare a new set of recommendations that will hopefully be received more favorably by the client. C)Attempt to educate the client as to what this portfolio is trying to accomplish for the client while at the same time recognizing that the final decision is clearly in the hands of the client. D)Suggest that if the client will not follow the IAR's recommendations, it would be best to engage the services of another firm.
C)Attempt to educate the client as to what this portfolio is trying to accomplish for the client while at the same time recognizing that the final decision is clearly in the hands of the client. Even when the IAR is convinced that the optimal recommendations have been made, the final decision is always that of the client. However, there is nothing in the laws or policies dealing with ethical conduct that prohibit the IAR from attempting to "sell" the client, especially through an educational approach.
An elderly client explains to you that he is risk averse and wishes to find an investment that will provide him with preservation of capital. Which of the following might you recommend? A)An index fund. B)Long-term U.S. Government bonds. C)Bank insured CDs. D)Variable annuities.
C)Bank insured CDs. Preservation of capital is almost always a sign that the client needs CDs. Sure, the U.S. Government bonds will pay back the principal when due, but, with long-term maturities, there will be plenty of interest rate risk that could affect the client if he needs the capital prior to maturity.
An individual has just received a bonus of $12,473 and wishes to generate some income without risking loss of capital. Assuming the client is in a low tax bracket, which of the following would be the most suitable choice? A)Public utility stocks. B)Insured municipal bonds. C)Bank insured CDs. D)Growth stocks.
C)Bank insured CDs. The only choice here with no risk to capital is the bank insured CD. Although the insured municipal bond is guaranteed to repay principal at maturity, the bond will still be subject to interest rate risk and, with the client in a low tax bracket, municipal bonds are generally unsuitable investments.
If an elderly widow with no independent income other than Social Security payments wishes to invest the proceeds from her recently deceased husband's life insurance, which of the following would be the most suitable recommendation? A)Municipal bonds with short-term maturities. B)Oil and gas exploration program that is going to strike. C)High quality dividend paying preferred stocks. D)Purchasing call options.
C)High quality dividend paying preferred stocks. High quality dividend paying preferred stocks will give her a reasonable income without great risk. Options are not income vehicles and are not income producing. Municipal bonds are not generally appropriate for low income clients because there would be little after-tax benefits. Oil and gas programs are speculative and not appropriate.
A customer who seeks to supplement his retirement income and has a high risk tolerance would find which of the following securities most suitable? A)Municipal GOs. B)Treasury receipts. C)High-yield bond funds. D)Investment-grade bond funds.
C)High-yield bond funds. High-yield bonds yield more than investment-grade bonds. Since the client has a high risk tolerance, these bonds are more appropriate than investment-grade bonds that yield less.
When preparing a client profile, it is prudent to investigate the prospect's non-financial considerations. Included would be that client's: attitudes. demographics. experience with investments. values. A)I and III. B)II and IV. C)I, II, III and IV. D)I, II and IV.
C)I, II, III and IV. These are included in the list of non-financial considerations when constructing a client profile. One of the reasons we list demographics is that certain ethnic or religious groups tend to follow patterns different from the society as a whole. The same can be said about some geographic areas.
What would be the time horizon for a 65-year-old client who has just retired? A)It depends on the individual's insurance company's actuarial tables. B)None, as 65 is the age for retirement. C)It depends on the individual's life expectancy. D)It depends on the individual's available assets.
C)It depends on the individual's life expectancy. The time horizon for an individual who has just retired is the balance of expected life.
A client is in the 28% marginal federal income tax bracket, and the 3% state income tax bracket. Which of the following investments would produce the highest after-tax yield for the client? A)Federally backed Treasury note yielding 7%. B)The answer cannot be determined using the information provided. C)Public purpose municipal bond yielding 6%. D)AAA corporate bond yielding 7.75%.
C)Public purpose municipal bond yielding 6%. Since your client is in the 28% tax bracket, he has to earn more than the 6% on a taxable bond for the yield to be equal to, or higher than, the tax-free bond. That number can easily be calculated because 72% of the taxable amount must be equal to or greater than the 6% return (6% ÷ 72% = 8.33%). The 8.33% is higher than the return on the other bonds listed, so the public purpose municipal bond would produce the highest retained return. This would be even more appropriate if the issue was tax exempt in the client's state.
Which of the following items is NOT necessary to establish before helping a client open an investment account? A)Adequate life insurance. B)Emergency fund. C)Zero balance on all credit cards. D)Established short- and long-term investment goals.
C)Zero balance on all credit cards. Although credit card debt may carry a high interest rate, no investment plan should be started without an emergency fund, adequate life insurance, and a set of goals. In fact, it is possible that the client is carrying the balance because of a very low promotional rate.
The three parts of a family balance sheet are: A)income, liabilities, and net worth. B)income, liabilities, and balance. C)assets, liabilities, and net worth. D)assets, expenditures, and balance.
C)assets, liabilities, and net worth. The balance sheet formula is assets − liabilities = net worth.
When making a customer profile, one of the documents created is a balance sheet. Among other items, your client's balance sheet would include: A)interest expense. B)accumulated depreciation. C)assets. D)salary or wages.
C)assets. A balance sheet, whether for an individual, a family, or a business, is a listing of assets and liabilities. Interest expense and salary go on the income statement. Accumulated depreciation is a balance sheet item, but only for a business.
In order to determine the availability of funds for continuous investment, an IAR should prepare a statement of cash flows for her clients. When prepared for the family, this cash flow statement would include all of the following items EXCEPT: A)taxes. B)salary. C)assets. D)expenses.
C)assets. Assets belong on a balance sheet, they are not part of cash flow. Cash flow analysis for a family indicates the extent to which more money is coming in than is going out (or, unfortunately, sometimes the reverse). Salary is a reflection of money in, while expenses and taxes are money going out.
An investment adviser representative (IAR) prepares a comprehensive financial plan for a new client. Part of the plan includes detailed portfolio recommendations. Seeing a negative reaction from the client, it becomes obvious to the IAR that he is dealing with an ignorant person who is filled with many market misconceptions. It would be reasonable for the IAR to: A)drop the client. B)prepare a new portfolio that is more in line with what the customer has indicated he is comfortable with. C)attempt to educate the client to correct those misconceptions, but leave the final decision up to the client. D)tell the client he will make some changes, but keep the original portfolio because that really is in the client's best interest.
C)attempt to educate the client to correct those misconceptions, but leave the final decision up to the client. All decisions are ultimately up to the client, but there is nothing wrong with the IAR attempting to educate the client, especially when it could lead to greater investment success.
A client with 25 years until retirement should invest primarily in: A)private placements. B)bonds. C)common stocks. D)preferred stocks.
C)common stocks. With 25 years until retirement, the customer should invest primarily in stocks. Historically, over long time periods, equity securities have provided the greatest returns.
A 27-year-old client is in the lowest tax bracket and seeks an aggressive long-term growth investment. If his investment adviser representative recommends a high-rated general obligation municipal bond, the IAR has: A)recommended a suitable investment because GOs are good long-term investments. B)made an unsuitable recommendation, since a municipal revenue bond would have been more appropriate. C)made an unsuitable recommendation based on the client's needs and objectives. D)committed no violation because municipal bonds are well suited for the market's volatility.
C)made an unsuitable recommendation based on the client's needs and objectives. In recommending a conservative, tax-exempt investment to this customer, the investment adviser representative has failed to make a suitable recommendation given the client's objectives. Municipal bonds are better suited for individuals in high tax brackets and offer little upside appreciation potential.
A 74 year-old widower has been your client since his early 50s. He is a well-informed investor and has always seemed capable of understanding most investment concepts you have presented. At least twice a year, the two of you meet to evaluate his current financial situation and objectives. In your last meeting, it seemed to you that he was distracted and somewhat forgetful. It would be appropriate for you to do all of the following EXCEPT: A)inform your supervisor of your concerns about his memory loss. B)take detailed notes on future conversations and meetings with him. C)wait to see if there are further causes for concern about his capabilities. D)ask him to invite a friend or family member to accompany him to appointments with you.
C)wait to see if there are further causes for concern about his capabilities. Taking action in advance could help protect you and your firm should a client subsequently indicate that he does not remember having agreed to a recommendation. Taking detailed notes can help verify what has been discussed in conversations or at meetings. Having others present may help to verify what has been discussed and agreed upon.
Which of the following would be the most appropriate portfolio mix for an aggressive investor? A)20% cash equivalents, 30% bonds, and 50% stocks. B)60% cash equivalents, 25% bonds, and 15% stocks. C)30% cash equivalents, 50% bonds, and 20% stocks. D)10% cash equivalents, 20% bonds, and 70% stocks.
D)10% cash equivalents, 20% bonds, and 70% stocks. Assuming that an aggressive investor typically is willing to assume the most risk, it would be logical for him to have the largest allocation in equities.
Which of the following would be appropriate actions when using a model portfolio for a client? Gather information from the client to establish his risk tolerance, time horizon, and investment expectations. Select a portfolio mix that is appropriate for the client based upon his risk tolerance, time horizon, and investment expectations. Place the client's assets into the model portfolio regardless of his comfort level with your recommendation. Periodically review the portfolio to determine if any changes or modifications are necessary. A)I, II, III and IV. B)I, II and III. C)I and II. D)I, II and IV.
D)I, II and IV. Gathering information relating to your client's risk tolerance, time horizon and objectives would all be prudent steps in assisting your clients in the establishment of a model portfolio. It would never be acceptable to place a client into an investment portfolio model that they were uncomfortable with, even if you have determined it to be suitable and appropriate.
Which of the following should be considered by an investment adviser in determining whether a specific investment is suitable for an individual investor? The past performance of the investment. The investor's anticipated time horizon. The amount of remuneration to the broker-dealer and to the agent. The level of the investor's acceptance of risk and volatility. A)II and III. B)I and IV. C)I and III. D)II and IV.
D)II and IV. Time horizon and risk tolerance are essential factors that advisers must consider to determine whether an investment is suitable for a given individual investor. Although past performance is important to know, it cannot be used to indicate future results.
An investor is in a low tax bracket and wishes to invest a moderate sum in an investment that will provide some protection from inflation. Which of the following should you recommend? A)Money market mutual fund B)Municipal unit investment trust C)Ginnie Mae fund D)Mid-cap common stock mutu al fund
D)Mid-cap common stock mutual fund Mid-cap stocks have historically provided good hedges against inflation making them appropriate for an investor seeking long-term growth and inflation protection. There are several key words here to remember for the exam. Whenever you see "low tax bracket," the answer cannot be a municipal bond. Likewise, whenever you see "inflation protection," the answer will be common stock (unless a TIPs is given as a choice).
If an investor has $20,000 to invest, but requires $500 per month to pay for her mother's nursing home care, which of the following funds should you recommend? A)Foreign stock. B)Biotechnology. C)Aggressive growth. D)Money market.
D)Money market. The client's monthly income requirements suggest that the money market fund, the most liquid and safest of the investments, is the most appropriate.
You are an investment adviser representative with the firm of Total Wealth Management Associates, an investment adviser registered in four states. One of your clients approaches you seeking advice on saving for college expenses for his 13-year-old child. In determining the proper course of action, this is an example of a client giving you A)a capital need B)an investment policy statement C)a recommendation D)an investment constraint
D)an investment constraint Once investment objectives have been quantified (in this case, saving for college), the next step is to analyze investment constraints. These are limitations on the ability to make use of specific investments. Some of the most common investment constraints are: time horizon (the one in this case; with about five years until entering college, we must recognized this as a relatively short time horizon), liquidity, tax concerns, and unique circumstances, such as health needs, ethical, or social issues.
An investment adviser has a client who wants to save for college for her child. The child will be entering college in five years. This would be an example of A)tactical asset allocation B)a capital need C)planning too late D)an investment constraint
D)an investment constraint Time constraints include such conditions as liquidity and time horizon, both of which are in play here. It may be true that the client has started too late, but that is not what the exam would be looking for as the correct answer.
All of the following are characteristics typical of a money market fund EXCEPT: A)it is offered as a no-load investment. B)the underlying portfolio consists of short-term debt instruments. C)its net asset value normally remains unchanged. D)it has a high beta and is safest in periods of low market volatility.
D)it has a high beta and is safest in periods of low market volatility. A money market fund has almost no price volatility, since the underlying portfolio consists of low-beta instruments, and the fund is deliberately managed for low beta.