Alternative Investments - Unit 17

Regarding the use of the term "direct participation programs", when referring to tax-sheltered investments, which of the following is not a DPP? A) Real estate investment trust B) Oil and gas limited partnership C) Equipment leasing limited partnership D) Real estate limited partnership

A) Real estate investment trust DPPs include any form of business that allows for the direct pass-through of tax consequences to participants. REITs do not allow for the pass-through of losses.

A REIT and a direct participation program are similar because they both A) are operated by a centralized management B) pass through losses to investors C) are traded actively in the secondary market D) can be described as a limited partnership

A) are operated by a centralized management Both a REIT and a DPP are run by centralized management. A REIT may not pass through losses to its investors, and it is not a limited partnership. A DPP cannot be easily traded in the secondary market.

A client with limited assets seeking additional income in retirement would probably find which of the following investment choices to be the least suitable? A) Treasury bonds B) ETNs C) Insured bank CDs D) ETFs

B) ETNs The question describes an individual with a low risk tolerance, so the Treasury bonds and CDs would certainly be considered appropriate. Because ETNs are a debt security backed solely by a single issuer while an ETF based on a specific index of debt securities represents a large group of issuers, they are only suitable for those who can understand and take the risks involved.

All of the following would flow through as a loss to limited partners except A) interest payments on partnership debt. B) principal repayment on partnership debt. C) accelerated depreciation. D) depletion.

B) principal repayment on partnership debt. Principal repayments are not an expense for tax purposes. The interest on the debt is an expense and, along with depletion and depreciation expense, does flow through to the limited partners as passive loss.

One type of alternative investment considered to be a pooled investment vehicle is the exchange-traded note. Exchange-traded notes (ETNs) are I. unsecured debt securities II. unsecured equity securities III. issued by financial institutions, such as banks IV. insured by the FDIC A) II and IV B) II and III C) I and III D) I and IV

C) I and III Exchange-traded notes are unsecured debt securities issued by financial institutions, such as banks. Their prices can be impacted by changes in the credit rating of the issuer, and they are not insured by the FDIC.

Being a limited partner in a direct participation program is analogous to being A) a holder of secured corporate debt. B) an agent of a broker-dealer. C) a member of the board of directors of a corporation. D) a holder of common stock in a corporation.

C) a member of the board of directors of a corporation. Limited partners in DPPs are owners of the business in much the same way as common stockholders of a corporation. They assume no management responsibilities simply by virtue of their ownership interest. Similarly, limited partners share the same type of limited liability as corporate shareholders.

Which of the following most accurately identifies a private equity investment in income-producing real estate? A) Investment in a real estate investment trust (REIT) B) Investment in a real estate mutual fund C) Private market mortgage lending by an insurance company D) Direct ownership of real estate properties

D) Direct ownership of real estate properties Real estate investments take four major forms: private equity, publicly-traded equity, private debt, and publicly-traded debt. Private equity investment in real estate refers to direct ownership of real estate properties. Mortgage lending by banks or insurance companies is best described as private debt. Indirect ownership of real estate through equity securities such as REITs is an example of publicly-traded equity.

One of your clients is 10 years away from retirement and is trying to decide what would be a suitable investment for this year's IRA contribution. You would probably NOT recommend A) leveraged ETFs B) target date mutual funds C) conservative growth mutual funds D) broad market ETFs

A) leveraged ETFs Because most leveraged funds reset daily, they are best utilized by investors with a very short time horizon.

Many sophisticated investors have added alternative investments to their portfolios. Benefits in doing so would include A) returns that generally exceed those of traditional stock and bond investments B) greater regulation than traditional investments such as stocks and bonds C) portfolio diversification D) lower expenses than traditional stock and bond investments

C) portfolio diversification Alternative investments, such as limited partnership vehicles and hedge funds, have a tendency to add diversification to a traditional stock and bond portfolio. Many alternative investments have little or no regulation and their expenses are typically high.

One reason for including commodities in an investment portfolio is because they have a high correlation to A) the bond market. B) the stock market. C) the inflation rate. D) the U.S. dollar.

C) the inflation rate. Commodity prices tend to have a high correlation with the inflation rate. As inflation goes up, the value of the dollar generally falls. The relationship is inverse, a characteristic of negative correlation. As inflation increases, interest rates invariably do the same leading to a decrease in bond prices. Stock prices have a random correlation to commodities, generally negative.

In a DPP, a general partner is all of the following except A) one who has limited liability. B) a key executive who makes day-to-day business decisions. C) one who appoints the property manager. D) one who buys and sells the program's property.

A) one who has limited liability. A general partner of a limited partnership is a key executive of the program who purchases and sells the property and/or appoints someone to manage the property. The general partner does not have limited liability. By not allowing the general partner to have limited liability, the program is able to rule out limited liability as a corporate characteristic.

Which of the following is a motivation for creating structured products? Structured products A) reduce costs to issuers. B) improve profits for broker-dealers. C) are less expensive for investors to buy and trade. D) improve market completeness.

D) improve market completeness. Primary motivation for financial structuring is to increase market completeness. What does that mean? As stated in the LEM, structured products are created to meet a specific need for which there is nothing available in the current market. Creating this structured product is said to be "completing the market." Creating structured products is a cost to issuers. Investors pay fees to access structured products in addition to transaction costs. They may, in fact, improve the structuring broker-dealer's profits, but that is not what NASAA will be looking for as an answer.

An investor in a high tax bracket who invested in a DPP should have which of the following characteristics? Need for tax benefits Substantial liquid assets Ability to identify both risks and merits of the program Ability to commit money for a long time A) I and II B) I, II, III, and IV C) II, III, and IV D) II and III

B) I, II, III, and IV An investor in a high tax bracket who invested in a DPP should have which of the following characteristics? Need for tax benefits Substantial liquid assets Ability to identify both risks and merits of the program Ability to commit money for a long time A) I and II B) I, II, III, and IV C) II, III, and IV D) II and III

A number of different pooled investment vehicles are included in the term "alternative investment." One of them, a synthetic investment instrument that has been created to meet a specific need that cannot be met by a standardized financial instrument, is known as A) an inverse fund B) a z-tranche CMO C) an arbitrage D) a structured product

D) 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.

Your client who owns a DPP that generated a $10,000 passive loss for the year could A) deduct $10,000 against capital gains B) only deduct the passive loss against passive income C) deduct $3,000 against ordinary income and carry over the rest D) deduct $10,000 against ordinary income

B) only deduct the passive loss against passive income Passive losses, such as those generated by limited partnership investments (DPPs), are only deductible against passive income.

Lisa Brownard is considering investing in gold. She owns a portfolio of stocks, bonds, and money market securities. Relative to her existing portfolio, the primary benefit of the gold investment is most likely A) gold values are tied to cyclical industries. B) the investment horizon is longer than that of stocks and bonds, balancing the duration of the portfolio. C) low correlation between traditional asset returns and gold. D) gold is a renewable resource, so Brownard can profit from the investment for many years.

C) low correlation between traditional asset returns and gold. The returns on gold and other precious metals exhibit low correlation with stock and bond returns. This is generally cited as the key advantage to investing in hard assets. Cyclicality and a long investment horizon are disadvantages of gold investments. Gold is not a renewable resource.