Series 65, Unit 5: Alternative Investments

Do DPPs pay dividends?

No, all income is passed through to investors.

What are some benefits to investing in DPPs?

- an investment managed by others; - flow-through of income and certain expenses - limited liability

DPPs are merely an investment in the business (like RELPs)

A different way to invest (rather than traditional stocks/bonds)

In discussing a direct participation program with your customer, rank the following items in order of importance from most to least:

Potential for economic gain Tax write-offs Liquidity and marketability

One of your clients approaches you and is looking for an investment that will provide ready marketability and income. Which of the following would be the least appropriate recommendation? A. limited partnership in rental real estate B. US Treasury notes C. money market mutual fund D. NYSE-listed preferred stock

A. limited partnership in rental real estate

In general, an investor wishing to gain economic exposure to commodities would find it easiest to do so by: a. Investing in forwards contracts b. investing in futures contracts c. growing the commodity d. Buying the commodity directly

B. investing in futures contracts

What is the main risk of a structured product?

Credit & liquidity risk

What are the considerations that a person should take into account when choosing to invest in a DPP?

1. if it is economically viable 2. if the investor can make use of the potential tax benefits; 3. if the GP(s) has (have) demonstrated management ability and expertise in running similar programs; 4. if the program's objectives match the investor's objectives and do so within a time frame that meets the investor's needs; 5. if the start-up costs and projected revenues are in line with the start-up costs and revenues of similar ventures.

Your customer is interested in a leveraged fund and makes the following statements about leveraged funds to you. All of the statements regarding leveraged funds are true except: A. There are no unusual risks associated with these funds other than those one would incur with any index tracking fund B. Some leveraged funds are exchange traded products. C. These funds sometimes use derivative products to achieve their goals D. The funds attempt to return a multiple of the return of a benchmark index they are tracking, perhaps two or three times.

A

What is a structured product?

Structured products are created as a tool to meet the issuer's debt financing needs when they will result in a lower cost than a standardized financial instrument available in the market place.

What do limited partners sign when they choose to invest in a DPP?

a subscription agreement (includes the investor's net worth, annual income, and grants power of attorney to the GP to act as agent)

A type of pooled investment that is also an alternative investment is...

an ETN (exchange traded note) or ELN (equity linked note)

Are DPPs considered liquid or illiquid?

illiquid (even those publicly traded)

Any income received by a partner in a DPP is considered...

passive and the same is true for losses

What are the risks to investing in a DPP?

- Liquidity Risk - Legislative Risk - Risk of Audit - Depreciation Recapture

Benefits of investing in commodities:

- Potential hedge against inflation. - Diversification because commodities are generally not correlated with stock market returns. - Potential returns

Risks to investing in commodities:

- Principal Risk. Commodity prices can be extremely volatile. - Because commodities represent a global investment, in addition to the risks of the commodities themselves, there is also the vast array or risks that one faces when investing in foreign markets. - High leverage can work against the investor in a down market. - Lack of Income

Although it is widely agreed that adding precious metals to a portfolio can potentially increase returns, doing so is not without risk. Risks that investors face with this asset class include

- larger spreads when buying & selling (compared to equity) - lack of income - storage cost

An investor is reading a report that industrial demand for copper is expected to double in the next 5 years. This might lead the investor to: A. buy corn futures. B. sell copper futures. C. invest in several copper mining companies. D. modify the investor's portfolio to take a larger cash position.

C

(T/F) Commodity returns are generally associated with the stock market returns.

False

What is one potential tax ramification of investing in a DPP?

You are more likely to get audited

For a customer interested in buying an inverse exchange-traded fund (ETF) tracking the performance of the Standard & Poor's 500 Index, which of the following market views would make that purchase most inappropriate?

Bullish. Inverse (short) ETFs are designed to deliver returns that are opposite of the benchmark index they are tracking. Therefore, buying an inverse ETF that tracks the S&P 500 Index at a time when the market outlook is bullish would be most inappropriate. If the index rises with the anticipated bullish market, the fund that delivers returns that are the opposite of the index would fall in value.

Your customer is asking if either exchange-traded funds (ETFs) or exchange-traded notes (ETNs) might be suitable investments for his portfolio. The customer makes several statements regarding his understanding of the products, but only one of them is accurate. Which is it? A. ETFS have a fixed coupon rate that I should expect to realize when they mature. B. If I want to sell my shares of an ETF, I have to wait until the next price is calculated to value the portfolio of securities. C. ETNs are issued by corporations, so I should be concerned about the credit worthiness of the issuer. D. ETNs are equity securities because they trade on exchanges.

C.

(T/F) Both leveraged and inverse index funds (leveraged or not) can be traded on an exchange.

True. When they are, they are known as exchange-traded funds (ETFs). If the shares are exchange traded, they are priced by supply and demand, can be purchased on margin, and are bought and sold throughout the trading day, like all exchange-traded products

Leveraged and inverse ETFs use _______________________ to achieve their goals.

options & other derivatives

FINRA warns investors that most leveraged and inverse ETFs "reset" daily, meaning that they are designed to achieve their stated objectives on a daily basis. Their performance over longer periods of time—over weeks or months or years—can differ significantly from the performance (or inverse of the performance) of their underlying index or benchmark during the same period of time. Therefore, in most cases, these would not be suitable investments for buy and hold investors or those with other than a very short time horizon.

True

One of the ways that investing in a real estate limited partnership (RELP) differs from investing in a REIT is that

the DPP is a pass-through vehicle for both income & loss, while the REIT does not pass through losses (historically sold as tax shelters)