Unit 5 - Series 65
A client wishing to invest in precious metals could consider each of the following except A) lead. B) gold. C) platinum. D) silver.
A) lead. Explanation Although it has always been the alchemist's dream to convert lead into gold, until that becomes a reality, lead is not considered a precious metal.
Which of the following is not a feature of owning a limited partnership? A) An investment managed by others B) Tax-free income C) Flow-through of income and expenses of a business to the individual limited partner D) Legislative risk
B) Tax-free income Explanation The income from limited partnerships is not tax exempt. An investor, however, may use a tax loss from a partnership to offset the income from another passive investment. In limited partnerships, the investor enjoys the advantages and disadvantages of owning a business without actually having actually manage one. Limited partnerships are vulnerable to legislative changes that adversely impact ownership of such investments.
Which of the following would not be considered an agricultural commodity? A) Aluminum B) Coffee C) Soybeans D) Oats
A) Aluminum Explanation Aluminum is traded as an industrial commodity; all of the others are agricultural.
Investing in commodities could involve investing in any of these except A) consumer durables. B) agricultural items. C) animals. D) industrial metals.
A) consumer durables. Explanation Commodity contracts are not available on consumer durables such as refrigerators and washing machines. They are available on agricultural items, such as corn, wheat, and soybeans. Likewise, investing in animal items such as cattle and pork bellies is possible. Finally, industrial items—primarily metals such as lead, zinc, and aluminum—are popular investments.
The price of which of the following commodities is most likely to be impacted by weather? A) Lead B) Orange juice C) Livestock D) Gold
B) Orange juice Explanation If you ever saw the movie Trading Places with Eddie Murphy and Dan Aykroyd, you would certainly know that weather can have a major impact on the orange crop. Metals are not affected by heat, cold, rain, or snow. Years ago, before heated/air-conditioned barns and other protective devices, livestock would freeze in a bad winter, but that is no longer much of an issue.
In general, an investor wishing to gain economic exposure to commodities would find it easiest to do so by A) buying the commodity directly. B) investing in forwards contracts. C) growing the commodity. D) investing in futures contracts.
D) investing in futures contracts. Explanation It is generally agreed that using commodity futures is the easiest and most common way to gain economic exposure to commodities. Forwards are more commonly used by producers or users because, unlike futures, most forwards contracts result in the delivery of the actual commodity. Only about 1% of all futures contract positions involve the delivery of the underlying commodity.
A high-net-worth client of yours invested $250,000 into an oil and gas limited partnership drilling program for which she received a 10% interest in the project. Unfortunately, after two years of drilling without success, the project was foreclosed with outstanding debt of $4 million. Your client is liable to the partnership's creditors for A) $250,000. B) $0. C) $400,000. D) $150,000.
B) $0. Explanation One of the benefits of being a limited partner is that the most you can lose is your investment. Just as it would for a stockholder in a corporation, the concept of limited liability applies. You can lose your entire investment, but you have no liability for debts of the business. This question describes a direct participation program (DPP) that has gone bankrupt (liabilities exceed the assets) and wants to know the share of the $4 million in outstanding debt that is the responsibility of this investor. Even though she owns 10% of the partnership, as a limited partner, she has no liability for any of that debt.
In a limited partnership program, which partners manage the partnership's day-to-day operations and incur unlimited personal liability for the partnership's debts? A) The general partners B) Both the general partners and the limited partners C) The limited partners D) Neither the general partners nor the limited partners
A) The general partners Explanation In a limited partnership, the general partners manage the day-to-day operations and incur unlimited personal liability. Limited partners invest money in the partnership and have no liability beyond the amount invested, including commitments made but as of yet unpaid. They are denied a voice in the management of the partnership because having a voice in management could cause them to lose their limited liability status.
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) A limited partnership in rental real estate B) NYSE-listed preferred stock C) A money market mutual fund D) U.S. Treasury notes
A) A limited partnership in rental real estate Explanation The key is meeting both needs—marketability and income; each of the choices supplies both except the limited partnership. The client could expect income from a direct participation program (DPP) investing in rental real estate, but the liquidity would be missing.
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? A) Bullish B) Bullish or bearish C) Neutral D) Bearish
A) Bullish Explanation 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.
A client was reading an offering document for an oil and gas drilling limited partnership program and noticed that one of the features was flow-through benefits. How would you explain this? A) Investors in the program are assured of a steady flow of income if the drilling is successful. B) Rather than being a separate taxable entity, the program's income or losses pass-through directly to the investors. C) Once the program has paid taxes on its income, the entire remaining balance passes-through to the investors. D) Losses generated by the program pass-through to the investor and may be deducted in full against ordinary income.
B) Rather than being a separate taxable entity, the program's income or losses pass-through directly to the investors. Explanation The philosophy behind flow-through is that any income or losses generated by a program of this type (a direct participation program or DPP) flow directly to the investors; there is no tax at the entity level. If there are losses, they may be deducted only against passive income (e.g., income from other partnerships). No assurances can ever be given.
Flow-through is one of the features of A) REITs. B) direct participation plans. C) open-end investment companies. D) variable annuities.
B) direct participation plans. Explanation Flow-through is the term commonly used to describe that any income or loss generated by a direct participation program flows through to the owner(s). In the case of a real estate investment trust (REIT), the only thing that passes through is income or gains, never losses.
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) ETNs are equity securities because they trade on exchanges. C) ETNs are issued by financial institutions; therefore, I should be concerned about the credit worthiness of the issuer. D) 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 financial institutions; therefore, I should be concerned about the credit worthiness of the issuer. Explanation The only accurate statement is the one expressing that ETNs are issued by financial institutions and, therefore, the credit worthiness of the issuer should be a concerning factor. ETNs are debt instruments, not equity instruments. ETNs have a final payment at maturity based on the return of a single stock, a basket of stocks, or an equity index. Although ETF prices fluctuate based on the value of the securities within the fund portfolio throughout the trading day, they are priced by supply and demand, like all exchange-traded products. They are not forward priced like open-end mutual fund shares are.
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) the funds attempt to return a multiple of the return of a benchmark index they are tracking, perhaps two or three times. B) some leveraged funds are exchange-traded products. C) these funds sometimes use derivatives products to achieve their stated goals. D) there are no unusual risks associated with these funds other than those one would incur with any index tracking fund.
D) there are no unusual risks associated with these funds other than those one would incur with any index tracking fund. Explanation Because the fund's objective is to achieve returns that are a multiple of the returns of the benchmark index, the result could be a multiple of any loss incurred by the benchmark index as well. In addition, because these funds utilize derivatives products to achieve their stated objectives, they may not be suitable for anyone who derivatives products are not suitable for, given the additional risks associated with those products.
