Zahn Investments

Question 10 XYZ Company's stock closed yesterday with the following data: Closing price $50 Dividend $2 Earnings per share$3 Trading range$50 - $52 What is the stock's current yield? a. 4.0% b. 6.0% c. 66.7% d. 5.8% e. 3.8%

The correct answer is: A $2 ÷ $50 = 4%

Question 10 Which of the following is true? I. A negative correlation coefficient will reduce the portfolio risk.II. A negative correlation coefficient will increase the portfolio risk.III. A negative correlation coefficient will make the beta negative.IV. A negative correlation coefficient will increase the portfolio standard deviation. a. I, III b. II, III c. II, IV d. III, IV e. I

The correct answer is: A A negative correlation will reduce the portfolio beta. The formula for beta includes the correlation coefficient. When it is negative, the beta will be negative.

Question 72 Mr. Roth lives in New York City. His federal tax rate is 32%; the New York State tax rate is 7%; and his New York City tax rate is 2%. If he bought U.S. Treasury bonds with a 6% coupon, what is his after-tax yield? a. 4.08% b. 3.66% c. 8.82% d. 9.83%

The correct answer is: A After-tax yield = Tax-exempt yield = 6% x (1 - .32) = 4.08% Interest on federal bonds (EEs, T-bills, and other Treasuries) is not subject to state and local taxes but is subject to federal taxes. If you use the TEY formula you must refigure using that modification of the after-tax formula.

Question 7 Harry is interested in purchasing just one fund. Which fund do you suggest? a. Global fund b. International fund c. S&P 500 Index fund d. Growth fund

The correct answer is: A Global funds would give Harry the greatest diversification (worldwide plus U.S. issues).

Question 4 Assume that Harry can choose between buying 100 shares of stock at $300 per share or buying a call option ($300 exercise price) for $20. How much can he lose if the stock falls by 25% and the option expires worthless? I. If Harry buys and sells the stock, he will lose $7,500.II. If Harry buys the option and it expires worthless, he will lose $2,000. a. Both I and II b. I c. II d. Neither I nor II

The correct answer is: A If the option expires worthless, the option is considered sold (at expiration) and is treated as a short-term loss. $30,000 x .25 =$7,500. The concept is even more important. He will lose less money with the option purchase (maximum $300). If he buys the stock, the loss is $7,500. The option cost was $20 x 100 = $2,000. Options are always 100 shares.

Question 53 Which of the following is true? a. Closed-end funds can trade at a premium or discount. b. UITs can be purchased on one of the national exchanges. c. Open-end funds are negotiable securities. d. UITs have a limited number of shares when sold.

The correct answer is: A One word makes all the difference in the answer. In Answer A, it is trade. In Answer B, it is national. In Answer C, it is negotiable. In Answer D, it is shares. Changing these words to something else could have made B, C, and D corr

Question 4 Which bond would be the least affected by an interest rate change? a. Short duration bond b. Long maturity bond c. Low coupon bond d. Large duration bond

The correct answer is: A The other bonds would be affected more.

Question 19 Which type of entities would buy preferred stock paying a high dividend? I. Pension plan II. Individual in a 12% bracket III. Regular C corporation with excess funds to invest IV. Spouses in a high 37% tax bracket a. I, II, III b. I, II, IV c. I, II d. II e. II, IV

The correct answer is: A The pension plan would buy for income. The individual would buy because they would pay no tax (dividends in a 12% bracket are subject to 0% tax). Regular C corporation was an answer to a prior question. Test taking: If II and III are correct, the answer has to be A. Answer IV will result in the dividend being taxed at 20% (37% bracket). Answer IV is not a bad answer, but Answers I, II, and III are better because of the tax results.

Question 1 Which of the following is not covered by the indenture agreement? a. Bond quality b. Amount of issue c. Property pledge (if any) d. Call provisions

The correct answer is: A The rating agencies rate the bonds for quality.

Question 29 Jim has asked you (CFP® certificant) to evaluate the following bonds. He is in a 32% marginal tax bracket. On a tax equivalent basis, which of the bonds provides the best return? a. Municipal bond paying 5.6% b. Corporate zero bond paying 8.0% c. Treasury zero bond paying 7.79% d. Corporate bond paying 8.1%

The correct answer is: A The zero's interest is taxable each year. The tax equivalent yield of the municipal bond is 5.6% / 68% = 8.23%.

Question 3 In which situation is the supply of shares limited? a. Closed-end fund b. Open-end fund c. UIT d. No-load balanced mutual fund e. Answers B and D

The correct answer is: A UITs issue units, not shares.

Question 11 Does a covariance of 10 for two stocks have any meaning? a. Yes, the correlation is positive. b. Yes, the correlation is very high. c. No, it is just a number.d. No, only correlation has meaning.

The correct answer is: A Without other data there is no way to pick Answer B. Covariance has a meaning even if just to see that two investments move together or in opposite directions. It is used in the beta formula calculation.

Question 12 An ADR is which of the following? a. An instrument used to affect payment in import-export transactions b. A receipt for shares of a foreign-based corporation c. An instrument that contracts in the futures market for a foreign currency d. A corporation organized under the laws of a foreign country

The correct answer is: B

Question 35 What are the differences between calls and warrants? I. Call options are sold and bought by individuals; warrants are issued by corporations. II. Call options have a limit of 9 months; warrants can have longer maturities than 9 months. III. No new stock is created with a call option; warrants create new stock when exercised. IV. Call option terms are not standardized; warrant terms are standardized. a. All of the above b. I, II, III c. I, II d. II, III, IV e. I, IV

The correct answer is: B

Question 4 Which of the following is not an investment grade bond? a. BBB b. BB c. Aaa d. Aa

The correct answer is: B

Question 48 Harry purchased ten listed bonds (XYZs 8.00s 10/1/30) on July 1, 2022, at a market price of 105 ($10,500). Harry's transaction cost from the trade was $100. He paid his broker $10,800 for the bonds. His broker reported $400 on a Form 1099-INT (for 2022) as taxable interest on the bonds. How much is his taxable interest? a. $0 b. $200 c. $400 d. $800

The correct answer is: B On October 1, 2022, he will be paid $400 (the only semiannual payment for the year to him). Of the $10,800 he paid for the bonds, $10,500 was the cost of the bonds, and $100 was the commission; therefore, $200 was the accrued interest. He has to report $400 on Schedule B (Form 1099-INT) and then subtract $200 as accrued interest. His taxable interest is $200.

Question 10 Company X does a 5:2 split. If the client owns 1,000 shares of company X, how many new shares will be issued? a. 1,000 b. 1,500 c. 2,500 d. 5,000

The correct answer is: B 5/2 x 100 = 5,000/2 - 2,500 However, the client already owns 1,000. He/she will get 1,500 more. rp-(rf+(rm-rf)B) 12-(2+(10-2).85)

Question 26 A client is considering buying bonds but is concerned about rising interest rates due to inflation. What should he look for in the bond indenture? a. Bonds with a sinking fund b. Bonds with a put feature c. Bonds with a call feature d. Bonds with a conversion feature

The correct answer is: B A put bond allows its holder to redeem the issue at specified intervals before maturity and to receive face value. Inflation will drive down the bond value. Inflation will also drive down stock values and make the conversion feature worthless. If you bought a bond paying 5% and now, due to inflation bonds were paying 10%, you would like to redeem your 5% bond and buy a 10% bond, but the value of the 5% bond has gone down.

Question 36 What is not true about no-load funds? a. They have no sales charges. b. They have no management expenses. c. There is a continuous offering and redemption of shares. d. The shares sell at NAV. e. The shares are redeemed at NAV.

The correct answer is: B All funds charge shareholders an expense fee for operating expenses (management fee).

Question 11 Can EE Education bonds be owned by an UTMA account? a. Yes b. No c. Not enough information is known about the parents AGI d. Without the age of the parents there is no answer

The correct answer is: B EE Education bonds can only be owned by a parent or someone older than 24. The UTMA does not qualify. It is owned by the child. UTMAs can own EE bonds, but not EE education bonds.

Question 40 Which investment could provide both leverage and a hedge against inflation? a. Equity mutual fund b. Equity REIT c. Mortgage REIT d. Blind pool

The correct answer is: B Equity REITs can be leveraged. Equity REITs own the properties providing the investor with a hedge against inflation. An equity mutual fund or a mortgage REIT is a poor hedge against inflation. In a truly inflationary time (1981), stocks did poorly. Inflation hit 21%. Inflation is the biggest factor in this question. There is not enough information about the blind pool to use it as an answe

Question 14 David invests $15,000 (U.S. dollars) in Tex Mex Foods (Mexican Exchange) when the exchange rate is 65 pesos to the dollar. Tex Mex increases in value by 15%. If David sells Tex Mex when the exchange rate is 75 pesos to the U.S. dollar, what will he receive in U.S. dollars? a. $14,625 b. $14,950 c. $15,000 d. $17,250

The correct answer is: B Initially invested $15,000 x 65 = 975,000 Pesos + 15% increase in Tex Mex value 146,250 Pesos = 1,121,250 Pesos Convert to U.S. dollars 1,121,250 ÷ 75 = $14,950

Question 9 If point A represents the market, then which point(s) represent(s) overvalued investments? I. A II. B III. C IV. D V. E a. I, II b. III c. IV, V

The correct answer is: B Only point C is overvalued. Points D and E are undervalued.

Question 9 With Regulation T at 50%, your client purchases 100 shares of XYZ at $70 per share and simultaneously purchases an XYZ May 70 put for a premium of $4. What is the minimum amount of cash the client must put up using margin? a. $3,700 b. $3,900 c. $7,000 d. $7,400

The correct answer is: B The 100 shares of stock at $70 are marginable at 50%. Options are not marginable securities. The full amount of the option cost must be paid in cash. 50% of $7,000 plus the put premium of $400 is $3,900.

Question 18 When compared to each other, the geometric mean is always ___________ to the arithmetic mean. a. greater than or equal to b. less than or equal to c. less than d. greater thane. never equal to

The correct answer is: B The easiest way to think about this is to use an example. If you invest $1,000 and it makes 50% in the first year, the geometric and arithmetic mean would be equal (up 50%). If you then lost 50% in the second year, the arithmetic mean would be 0%. This is not accurate when it comes to money. You would have $750, which is a geometric mean of -13.3975% per year (less than 0).

Question 69 Of the following two stocks, which one is more risky? a. Stock 1 with an average or mean of 8% and standard deviation of 10% b. Stock 2 with an average or mean of 4% and a standard deviation of 6%

The correct answer is: B To answer which stock is more risky, we need a relative measure of variability. Stock #1 10% : 8% = 125% Standard deviation divided by the meanStock #2 6% : 4% = 150%

Question 6 What is Mr. King's required rate of return if the Rf (T-bill rate) is 2.5%, his beta is 1.0, and the Rm (market return) is 400 basis points above the T-bill rate? a. 4.5% b. 6.5% c. 9% d. 13%

The correct answer is: B r = Rf + (Rm - Rf)B (The required rate of return) r = 2.5% + (6.5% - 2.5%) 1 = .065 = 6.5% 400 basis points is 4%4% + 2.5% = 6.5%

Question 5 Once created, no new securities are purchased, and portfolio securities are rarely sold. a. Closed-end fund b. Open-end fund c. UIT d. No-load balanced mutual fund e. Answers B and D

The correct answer is: C

Question 23 Mr. Nellie is a nervous investor. He is not sure he should get into the bond market. He is uncertain about when he might need the investment money, possibly sooner than maturity. What should he do? a. Buy bonds with a call feature. b. Buy convertible bonds so he can convert them. c. Buy bonds with a put feature. d. Buy premium bonds.

The correct answer is: C A call feature means the company that issued the bonds to you can force you to sell them back to them. This would not help him since he cannot control when or if that would happen. A put feature means you can force the issuing company to buy the bonds from you. This option he can control and would accomplish his goal.

Question 17 Which of the following is false? a. The smaller a bond coupon, the more volatile the bond's price. b. The term and duration of a bond are equal for zero coupon bonds. c. The smaller the duration, the more volatile the bond's price. d. Matching a bond's duration with the time horizon reduces reinvestment risk.

The correct answer is: C Bonds with smaller durations pay your money back quickly and therefore their price will be less affected by interest rate moves. Although immunization is mainly used to protect against interest rate risk, it also helps reduce reinvestment rate risk. For example, if bonds were purchased with 1 year durations and used for a goal 10 years from now, the bonds would need to be reinvested every year. One bond with a 10 year duration would have much less reinvestment risk.

Question 6 Which of the following statements concerning beta is (are) correct? I. It is a measure of a stock's systematic risk. II. A beta of 2 is 200% more volatile than an average stock. III. Beta is an index of variability. IV. Beta is a measure of total risk. a. I, II, III b. I, II c. I d. II, III, IV

The correct answer is: C A stock with a beta of 2 is 100% more volatile than an average stock.

Question 4 A client is interested in the PCT mutual fund. The beta is less than 1, the R2 is low, the standard deviation is high, and alpha is high. What should you tell the client? a. Alpha is significant. b. Beta is significant. c. The Sharpe calculation is significant. d. The Jensen calculation is significant.

The correct answer is: C Alpha, beta, and Jensen are not significant because of a low R2. Sharpe, which is a function of the standard deviation, is significant.

Question 3 Ms. Thomas (AGI $60,000) had her first child this year and would like to save for her daughter's college education on a tax advantaged basis. After the 2008 stock market decline, Ms. Thomas has become a very conservative investor and she is still concerned about the overall state of the economy. Which option should she pursue for this goal? a. Open an UTMA and invest in EE bonds since they are guaranteed by the U.S. Government. b. Open a 529 college savings plan and invest in a target date fund since it will have a higher return. c. Open a Treasury Direct account and invest in I bonds since this will quell her fears about the economy d. Open an UTMA and invest in TIPS since these are both guaranteed by the government and will help quell her fears about the economy.

The correct answer is: C Answer A is wrong because she will lose the education tax savings by placing the EE bonds in an UTMA. Since she is very conservative, Answer B will probably be too much exposure to the stock market. The interest and inflation adjustments on TIPS will be taxable in the UTMA and may produce kiddie tax. The I bonds are the best answer since she can defer taxes on the growth and be exempt from taxes if the proceeds are used for education.

Question 33 A client wanted to buy a stock at $50 but missed the opportunity. The stock is currently trading at $53. What should he/she do? a. Buy 3 puts at $50 b. Sell 3 puts at $50 c. Buy 3 calls at $50 d. Sell 3 calls at $50

The correct answer is: C Answer B is also true, but the gain is limited to the put premium. The client feels the stock price will rise. He is optimistic. There is a lot less risk of buying a call (intrinsic value $3 per share) than buying the stock at $53.

Question 1 What happens when the yield curve is inverted? a. Long-term rates go down b. Short-term rates go down c. All interest rates go up d. Inflation is decreasing

The correct answer is: C Both long-term rates and short-term rates go up. Short-term rates go up more than long-term rates but the whole curve moves up because inflation is increasing and affecting the short term bonds faster than the long term bonds.

Question 7 Which of the following is true about EE bonds? I. They are marketable investments. II. They are purchased at their face value. III. Investors can declare the interest annually or at redemption. IV. Interest is subject to federal income tax. V. Interest is paid semiannually. a. I, III, IV, V b. I, III, IV c. II, III, IV d. II, V

The correct answer is: C EEs are not marketable investments. They are now purchased at full face value.

Question 17 Which investment below would give you the greatest protection against inflation as the owner of the property? a. A 20 unit apartment complex in the suburbs b. A 15 unit retail strip center in an uptown urban area c. A 200 room hotel by the airport d. A 10 story office building downtown

The correct answer is: C First, only the type of property is important here, not the size or location. To get the answer you have to think about rental agreements. The tenants of office buildings and strip malls sign long term leases (5-10 years). This means you cannot raise the rent for that entire time. You could raise the rent in an apartment every 6-12 months, but in a hotel you could raise the rent every night to keep up with inflation.

Question 4 In general, bonds... I. pay interest at the beginning of the period.II. pay interest at the end of the period.III. are issued at par value.IV. pay semiannual interest. a. I, III b. I, IV c. II, III, IV d. III, IV

The correct answer is: C If you also considered zeros as part of the answer, then there is no answer. All the answers were wrong.

Question 64 An American investor bought 10,000 shares of a Japanese stock when the yen was trading at 120 yen to the dollar. After purchasing the stock, the stock increased in value by 15%. The investor then sold the stock when the yen was 130 to the dollar. What was the investor's return? a. No solution b. -3.84% c. +6.15% d. +8.45%

The correct answer is: C Keep this simple: $1 =120 yen 1 + return x1.15 138 yen 130 yen= $1 138 yen÷ 130=$1.0615 $1.0615 - $1 = .0615 = 6.15%

Question 49 Which of the following investments will not be subject to phantom income taxation? a. Treasury issued STRIP b. CATS c. Original issue tax-exempt OID d. TIPS

The correct answer is: C OID on tax-exempt obligations is not taxable and on a sale or redemption gain attributed to the OID is tax-exempt. This refers only to the original bond issue. Tax-exempts are not subject to phantom income. CATS are no longer issued or traded; be careful picking answers you have never seen before.

Question 16 Mr. and Mrs. Wealthy have a 2 year old son. They want to fund for medical school using EE bonds in an UTMA account. Their tax bracket is always 37% plus additional state income taxes. They plan to gift $10,000 into EEs per year until they have gifted $100,000 into the account. If 10 year Treasury notes yield 2%, how do you feel they should treat the EEs tax-wise? a. Wait until redemption in 20 years and pay the tax at the son's low tax bracket. b. Wait until redemption in 20 years and claim an exemption under the EE education bond exclusion. c. Have the interest taxed each year to the son. d. EE bonds are not subject to tax.

The correct answer is: C The bonds have an option of interest being taxed each year. Currently with the standard deduction and 10% bracket, taxation will be minimal. Even when the entire $100,000 is gifted, there may be minimal taxation. Answer B is incorrect. The money is in an UTMA account. Answer D is incorrect. EEs are subject to federal taxation. Answer A is not a bad answer. Answer C just takes more advantage of the tax law for kiddies. NOTE: 2% is only $2,000 for the year when $100,000 is in the account, which is below the kiddie tax threshold.

Question 2 If a client wanted to purchase a mutual fund that would have the lowest correlation with a U.S. common stock fund, which fund should he/she select? a. Global fund b. International fund c. Gold fund d. Emerging markets fund

The correct answer is: C The correlation coefficient between the U.S. market and an emerging markets fund is around .7 or .8. Gold continues to have a near zero correlation. Emerging markets:Less developed countries Global:World (including U.S.) International:Non-U.S./foreign only

Question 6 If interest rates rise, which of the following would experience the greatest percentage drop in value? a. T-bills b. Treasury notes c. 30-year Treasury bonds d. GNMAs

The correct answer is: C The longer the maturity, the more volatile the price. The longest maturity is T-bonds.

Question 1 Mrs. Blanchard lives in New York City (Manhattan). She is in a 22% federal tax bracket and pays 8% NY state tax and 3% NY city tax. If she purchases Treasury bonds that pay 5%, what is her after-tax rate of return? a. 3.35% b. 3.38% c. 3.9% d. 4.5% e. 5.6%

The correct answer is: C Treasuries are not subject to state or city taxes but are subject to federal tax. 5% (1-.22) = 3.9%

Question 70 A stock with a beta of .60 is only ___% as volatile as an average stock? a. 24 b. 40 c. 48 d. 60 e. 167

The correct answer is: D

Question 71 Harry wants to increase the return on his portfolio and is considering the purchase of one of two bonds of equal credit quality. Bond A is a zero coupon bond selling for $424.60 with a maturity of 8 years. Bond B is selling for $907.00 with a maturity of 7 years with a 10% coupon. Which one should Harry select? a. Bond B because it has a shorter duration b. Bond A because the tax due on interest will be deferred until the bond matures c. Bond A because it's YTM is 11% d. Bond B because it's YTM is 12%

The correct answer is: D Use semiannual/end mode for all bond questions including zeros.Bond A: (424.60 CHS PV)(1,000 FV)(16N) = 5.5% 5.5% x 2 = 11% (HP-12C)Bond B: (907.00 CHS PV)(1,000 FV)(50 PMT)(14N) = 6% 6% x 2 = 12%

Question 16 If a fund has a beta of .85 in relation to the S&P 500, how much would the fund be expected to increase if the S&P 500 increased by 25%? a. 14.25% b. 15% c. 15.75% d. 21.25%

The correct answer is: D .85 x .25 = .2125

Question 14 A 13-unit apartment project costs $700,000. It has 13 two-bedroom apartments renting for $750 per month. Laundry income is $1,000 per year. Vacancy and collection losses are 7% of potential gross income. Operating expenses are $44,250 for this year. Calculate the yearly net operating income (NOI). a. ($19,592) b. $43,672 c. $64,560 d. $65,490 e. $65,560 T

The correct answer is: D 13 two-bedroom renting at $750/month =$9,750 X12 Gross Rental Income=$117,000 Other Income=+ 1,000 Potential Gross Income (PGI)=$118,000 less vacancy and collection (7% PGI)=- 8,260 Effective Gross Income=$109,740 less operating expenses* (total)=- 44,250 Net Operating Income (NOI)=$ 65,490 *Depreciation and debt service are not used to compute NOI.

Question 14 When is a company most likely to issue new bonds? I. When existing bonds are selling at a premium II. When existing bonds are selling at a discount. III. When interest rates are expected to rise. IV. When interest rates have fallen. a. I, III b. II, III c. II, IV d. I, III, IV e. I, IV

The correct answer is: D A company would try to sell bonds before interest rates rise. In Answers I and IV, interest rates have fallen. The company could issue new bonds at the lower interest rates.

Question 13 Which of the following bonds produces the most income per initial cost using an annual coupon? a. 6.5% coupon purchased for $800 b. 7.5% coupon purchased for $850 c. 10% coupon purchased for $1,100 d. 11% coupon purchased for $1,200

The correct answer is: D A.$65 / $800= 8.13% B.$75 / $850= 8.82% C.$100 /$1,100= 9.09% D.$110 /$1,200= 9.17%

Question 4 What can always be purchased at NAV? a. Closed-end fund b. Open-end fund c. UIT d. No-load balanced mutual fund e. Answers B and D

The correct answer is: D Answer D is the best answer since open-end funds could be load or no-load. Also, the word "always" makes Answer D more correct.

Question 13 A client currently owns stocks in various U.S. companies (25-30). The client expresses a desire to diversify his portfolio. Which of the following choices best achieves the greatest diversification and risk reduction by buying more investments? a. Purchase additional bonds from the same companies but with different maturity dates (laddering) b. Buy stocks in 5 more blue chip U.S. companies c. Buy a global fund d. Buy an international fund

The correct answer is: D By buying the international fund, the client improves diversification (low correlation). The global fund has some U.S. stocks. Bonds may have a low correlation, but they have risk. Come back to this question after reviewing duration (use a duration of 10 with a YTM of 4% and an interest change of +1). Somewhat subjective.

Question 66 Which of the following assets are marketable? I. CDs II. Money market fund III. Treasury bond IV. Blue chip stock V. Treasury bill a. I, II, III, IV b. I, II, V c. I, III, IV, V d. III, IV, V

The correct answer is: D CDs, money market accounts, and Treasury bills can be converted into cash without any significant loss (liquid). Treasury bonds, blue chip stocks, and treasury bills are marketable. The CDs are not brokered CDs.

Question 11 Raul is 48 and has been approached by a broker selling an Equity Index Annuity. He is attracted to the product because it seems to guarantee his principal on the downside and give him stock market returns the upside. You know these products come with high fees and restrictions. What would be the best alternative to show him if his time horizon is 10 to 15 years? a. How to use protective puts as insurance against stock market declines b. A standard diversified growth portfolio (70% stocks, 20% bonds, 5% cash) c. A portfolio of 60% global stocks and 40% 7% T-bonds guaranteed by the U.S. government d. A portfolio of 60% global stocks and 40% T-notes guaranteed by the U.S. government with a 1% coupon

The correct answer is: D He can guarantee his principle in 10-15 years with the T-notes and anything he makes in stocks will just be extra. T-bonds are volatile and have 30 year time horizon. Answer B will not ensure a return of principle. Most people are attracted to Equity Index Annuities because they have lost money in growth portfolios. Answer A is tough to pick without knowing if he can even trade options.

Question 12 Which of the following is false about I bonds? I. Series I bonds earn interest up to 30 years. II. Series I bonds accrue earnings based on both a fixed rate of return and the annual inflation rate. III. The special tax benefits available for education savings with Series EE bonds also apply to Series I bonds if owned in a UTMA. IV. The difference between the purchase price and the redemption value is taxable interest (redeemed or matures). a. All of the above b. I, II c. I, II, III d. II, III e. III, IV

The correct answer is: D I bond earnings are based on both a fixed rate of return and the semiannual inflation rate. I bonds are taxed the same way EEs are taxed. Like EE bonds, the I bonds only earn interest for up to 30 years. They, like EE bonds, do not qualify for Educational Bond Status if owned in a UTMA.

Question 63 Mrs. Jackson, age 65, just inherited a $500,000 IRA from her deceased husband. She states that she needs approximately $50,000 a year to maintain her lifestyle. In addition, her Social Security benefits will increase to $1,200 per month. How do you recommend she invest the $500,000 IRA if she considers herself conservative? a. A balanced portfolio of stocks and bonds b. A growth mutual fund c. An FDIC insured account earning 6% (5 year CD) d. A 30-year treasury bond paying 7% (current yield)

The correct answer is: D She is conservative; therefore, Answer D is better than Answers A or B. It says approximately. The bond generates $35,000 of income per year without invading principle. Considering that plus the $14,400 from SS is approximately $50,000 (close enough). She needs the income now. She probably has a 25-30 year life expectancy. Inflation is NOT an issue in the question. Answer C will have potentially significant reinvestment risk at maturity (5 years) and falls too short of her income objective. The FDIC account would only be insured for $250,000 under current law. Can she take RMDs? Yes, she may have to take them. $500,000 divided by 27.4 is only $18,248.18. But, she is going to withdraw $35,000 of bond interest. There should be no RMD problem for many years.

Question 16 What bond would be the most affected by an interest rate change? a. Short duration bond b. Short maturity bond c. High coupon bond d. Large duration bond

The correct answer is: D The other three bonds would be least affected. Notice it does not ask which would be least affected. The question asked about most affected.

Question 22 Z Corporation had excess funds in a bank account (non-interest bearing). The funds will be needed in one year for capital improvements. What would be appropriate? a. Purchase a blue chip common stock for capital gains. b. Purchase a preferred stock (paying 4%) for the dividends exclusion. c. Purchase a balanced mutual fund for dividends and capital gains. d. Purchase a T-bill for risk-free interest. e. Purchase a T-bond for risk-free interest.

The correct answer is: D The time element of one year makes all the other answers too risky or speculative. This again is a suitability question (time element).

Question 20 Allan is a conservative investor with a financial goal of sending his son to college approximately 7 years from now. He wants to reduce the interest rate and reinvestment rate risk and is considering purchasing of one of the following three bonds: Bond 1: AA rated, 7 year maturity, 5.60 duration, 8% coupon, selling for $995 Bond 2: AAA rated, 9 year maturity, 6.57 duration, 9% coupon, selling for $1,200 Bond 3: AA rated, zero coupon, 7 year maturity, selling for $500 Comparable debt currently is yielding 8.5%. Which bond should Allan purchase and why? a. Bond 3 because it is selling for a greater discount than Bond 1 and Bond 2. b. Bond 1 because its maturity matches the goal time frame. c. Bond 2 because its duration most closely matches the goal time frame. d. Bond 3 because its duration matches the goal time frame.

The correct answer is: D The zero's maturity equals its duration.

Question 1 What type of option offers the potential to make the highest profit for your client? SHOW ANSWER a. Writing a covered put b. Writing a covered call c. Writing a naked put d. Writing a naked calle. Buying a call

The correct answer is: E The upside of a call is unlimited. Answer A is not a bad answer because the stock's upside is unlimited, but to calculate the net profit of these positions (the short put and long stock), we must reduce the amount of gain by the original cost of the stock less the put premium income (see example below). For Answer E, the only offsetting cost is the call's premium. The call premium is almost certainly lower than the cost of the stock (assuming the stock and call were purchased at the same time). Answer E is the best answer because of the unlimited profit potential. EXAMPLE: If a client buys a naked call (100 shares) on a stock for $1,000 when the stock is $400 per share and it goes to $500, then the client makes $100 x 100 shares = $10,000 for a $1,000 investment. In Answer A if bought the shares $40,000 sold for $50,000 and the option ($1,000), then the client would have made $9,000. Cost is $40,000 (shares) + $1,000 (option).

Question 18 An elderly client wants to avoid interest rate risk but needs her investment cash-flow to keep pace with inflation. She prefers not to spend down her principal. You advise your client to invest in which of the following? a. Laddered CDs b. Individual utility stocks c. Balanced fund (40% blue-chip stocks/60% intermediate bonds) d. Split annuity [fixed immediate annuity (distributing immediately) and deferred variable annuity growing until immediate is paid out] e. C and D

The correct answer is: E CD returns will not keep pace with inflation. Utility stocks may lose value. Utilities and CDs would be a good choice but is not a choice in this question. The immediate annuity is eventually exhausted, but the deferred annuity's growth should replace the value of the depleted immediate annuity. The immediate payment is offset by the deferred annuity growing. The fund may help offset inflation. Either Answer or D by itself may not be enough to completely answer the question. This is a subjective question/answer. Remember these are for practice.

Question 62 Mr. Thomas is going to start a 529 plan for his grandson, age 7. Which investment choice would be most suitable? a. Growth fund b. S&P Index fund c. GNMA fund d. Emerging markets fund e. Target date fund

The correct answer is: E This is a tough, subjective answer. Growth and S&P Index funds are too similar. It is hard to say that one is better. That is why both were eliminated. If you answered growth or S&P, you are not completely wrong. Emerging markets seems too aggressive. GNMA might also be a good answer. A target date fund seems like the best answer. The target date fund resets the time frame.

Question 18 Which of the following is true? a. The smaller the coupon, the greater the relative price fluctuation. b. The longer the term to maturity, the less the relative price fluctuation. c. The lower the market interest rate, the less the relative price fluctuation. T

he correct answer is: A The key word here is relative; this is an exercise in percentages, not actual dollar. Longer bonds will move more in dollars than short term bonds, but short term bonds will have a greater percentage change. For example, take one year 5% bond. It is worth $1,000 plus $50 interest, totaling $1050 back to you. Let's also look at a 10 year 5% bond. It is worth $1000 plus $500 of interest, totaling $1500 back to you. If interest rates move .25% let's say the short term bond changes in price by $10. This would be about a 1% change in the total value of $1050 it should have paid you. Let's say the longer term bond moves in price by $13. The dollar amount of change is bigger, but $13 is only about a .8% of the $1500 total value. The shorter bond is moving by fewer dollars, but a higher percentage. That means its relative price change is higher.

In order to qualify for the education interest exclusion, for EE bonds

the taxpayer generally must be the parent. The grandparent can take the exclusion only if the grandchild is the grandparent's dependent (cannot make that assumption). At a 37% federal tax bracket, his income exceeds the EE phaseout. The bond's interest is subject to federal but not state and local taxes.