Module 1: Fundamental Considerations in the Wealth Management Process

Which of the following is NOT considered a constraint when developing an investment policy statement? A) Time horizon B) Market conditions C) Taxes D) Liquidity needs

B, The correct answer is "market conditions." An investment policy statement is a written document that sets forth a client's objectives and certain limitations on the investment manager. The following are constraints of the investment policy statement: time horizon, liquidity, taxes, laws and regulations, and unique circumstances/preferences. Market conditions are not a constraint when developing an investment policy statement.

In what step of the wealth management process is it necessary to consider an individual's current position in the financial life cycle? A) Gathering client data B) Establishing and defining the client-planner relationship C) Monitoring the plan D) Analyzing and evaluating the client's current financial status

D, The correct answer is "analyzing and evaluating the client's current financial status." In the wealth management process, an individual's current position in the financial life cycle should be considered as part of this step. An advisor should consider the client's financial life cycle phase because this will likely provide help in understanding the client's short-term and long-term financial goals.

A person in the conservation/protection phase of the financial life cycle is likely to have which of the following goals? A) Short-term goals, such as saving for a down payment on a home B) Long-term goals, such as estate planning and preservation of capital C) Short-term goals, such as protection and maintenance of current lifestyle D) Long-term goals, such as investing for retirement

D, The correct answer is "long-term goals, such as investing for retirement." In the accumulation phase of the financial life cycle, individuals have only limited discretionary income and, as a result, they are likely to focus on short-term, cost-of-living goals. In the conservation/protection phase, individuals' financial goals are likely to change to longer-term goals, such as investing to provide for future retirement income. Finally, in the distribution/gifting phase, estate planning and preservation of capital become most important.

One of your clients is interested in a mutual fund as a long-term investment with the possibility of significant capital appreciation. You should recommend A) a growth fund B) an index fund C) an income fund D) a balanced fund

a, A growth mutual fund focuses on stocks that have significant potential for capital appreciation. Such a fund is a long-term investment that may experience volatility over short periods of time and, therefore, should only be used to satisfy long-term financial goals.

Which of the following are steps in the wealth management process? Establishing and defining the client-planner relationship Developing and communicating financial planning recommendations Implementing the recommendations Monitoring the plan A) 1, 2, 3, and 4 B) 2 and 3 C) 1 and 4 D) 1, 2, and 4

a, All of these are steps in the wealth management process. Gathering client data and analyzing and evaluating the client's current financial status are the other steps in the process.

Bonds represent a loan to the issuer from the holder give the bondholder ownership in the issuing corporation are typically issued to raise working capital are subordinated securities to preferred stock A) 1 and 3 B) 2 and 4 C) 1 and 2 D) 3 and 4

a, Bonds are debt securities; as such, they represent loans to the issuer. They are also senior securities, taking precedence over both common and preferred stock in case of bankruptcy, liquidation, or both.

Which of the following represent an equity interest in a company? Corporate bonds Common stock Preferred stock Mortgage bonds A) 2 and 3 B) 1, 3, and 4 C) 1 and 4 D) 2 only

a, Capital expenditure reflects a type of spending or annual expense and is not an appropriate long-term wealth accumulation goal or investment objective.

What is the primary difference between a money market mutual fund and a money market deposit account? A) Money market deposit accounts are federally insured; money market mutual funds are not. B) Money market deposit accounts require a minimum deposit; money market mutual funds do not. C) Money market mutual funds require a minimum deposit; money market deposit accounts do not. D) Money market mutual funds are federally insured; money market deposit accounts are not.

a, The correct answer is "money market deposit accounts are federally insured; money market mutual funds are not." The primary difference between a money market mutual fund and a money market deposit account is that only the latter is federally insured. In addition, an investment company—more specifically, an open-end investment company or mutual fund—typically offers a money market mutual fund, whereas a financial institution such as a bank or savings and loan offers a money market deposit account. Both of them typically require a minimum deposit.

Which of the following are forms of returns provided by an investment in common stock? Dividend payments Capital appreciation Interest payments Mark-to-market A) 1 and 2 B) 2 and 4 C) 1, 3, and 4 D) 1, 2, and 3

a, the correct answer is "1 and 2." The 2 primary forms of returns to an owner-shareholder in common stock are dividend payments and capital appreciation. Investments like savings and bonds pay interest. Mark-to-market is a term associated with futures contracts.

Which of the following is generally considered to be a cash and cash equivalent type of investment vehicle? A) Small company stock B) U.S. Treasury bill C) 10-year certificate of deposit D) U.S. Treasury note

b, A cash and cash equivalent type of investment vehicle is generally equivalent to a money market security. As such, if issued as a debt security, a money market instrument has a maturity of 1 year or less. Only the U.S. Treasury bill satisfies this definition. Growth stocks are long-term investment vehicles.

Earnings typically exceed expenses and individuals are past the midpoint of their working careers during which of the following phases of the financial life cycle? A) Accumulation B) Conservation C) Divestiture D) Spending

b, Owning either common or preferred stock represents an ownership or equity interest in a corporation. The other 2 choices reflect debt instruments, whose holders are classified as lenders rather than equity owners.

All of the following are reasons for analyzing a client's cash flow EXCEPT A) determining whether the client is living within or beyond his means B) providing a snapshot of the client's net worth on any given date C) determining the client's ability to save and invest D) revealing problem areas in the client's spending patterns

b, The Statement of Financial Position provides a snapshot of the client's net worth on any given date.

What is the definition of a money market security in the financial services industry? A) A debt instrument used to raise working capital B) A debt issue with a maturity date of 1 year or less C) An ownership interest in a company D) A source of financing with a maturity of more than 1 year

b, The correct answer is "a debt issue with a maturity date of 1 year or less." In the financial marketplace, a money market security is a debt issue with a maturity date of 1 year or less. This may be contrasted with a capital market security, which serves as a source of financing with a maturity of more than 1 year. A debt instrument used to raise working capital is a bond, and stocks represent ownership interests in a company.

What is the relationship between the price of a bond and a change in market interest rates? A) Parallel B) Inverse C) Conditional D) Similar

b, The correct answer is "inverse." There is an inverse relationship between the price of a bond and the direction of interest rates. As interest rates rise, the market value of bonds decreases; conversely, if interest rates fall, the market value of bonds increases.

Assume that interest rates have been rising over the past several weeks. Therefore, the price of bonds traded in the secondary market has A) increased B) decreased C) done none of these, because bond prices and interest rates are unrelated D) stayed the same

b, When interest rates rise, bond prices fall. Bond prices and the direction of market interest rates have an inverse relationship.

Which of the following would be true of an investor who is interested in a purchase of preferred stock? A) The investor is interested in stocks issued by companies that tend to prosper in a growing economy and tend to do poorly during declining economic conditions. B) The investor is interested in a fixed-income return, such as the payment of a dividend. C) The investor is interested in stocks currently trading at prices that are low, given the issuing company's historical earnings and asset values. D) The investor is interested in stocks expected to experience high rates of growth in operations, earnings, or both.

b, the correct answer is "the investor is interested in a fixed-income return, such as the payment of a dividend." Investors would purchase a preferred stock if they are interested in a fixed-income return (such as the payment of a dividend). Stocks expected to experience high rates of growth in operations, earnings, or both are growth stocks. Value stocks trade at prices that are low, given the issuing company's historical earnings and asset values. Finally, cyclical stocks are issued by companies that tend to prosper in a growing economy and tend to do poorly during declining economic conditions.

Which of the following is NOT considered to be an investment objective? A) Capital preservation B) Total return C) Capital expenditure D) Current income

c, A cash and cash equivalent type of investment vehicle is generally equivalent to a money market security. As such, if issued as a debt security, a money market instrument has a maturity of 1 year or less. Only the U.S. Treasury bill satisfies this definition. Growth stocks are long-term investment vehicles.

The investment policy statement may include a ____________ against which a portfolio or portfolio manager's performance can be measured. A) present value analysis B) milestone C) benchmark D) future reference point

c, One of the advantages of developing an investment policy statement to guide the asset management process is that a benchmark can be provided by which to assess the performance of the portfolio or portfolio manager.

Which of the following statements regarding rights and warrants is/are CORRECT? A long-term investor would prefer a warrant because the time frame for exercise is typically much longer than it is for a shareholder who is issued a right. A long-term investor would prefer a right because the time frame for exercise is typically much longer than it is for a shareholder who is issued a warrant. A warrant is usually issued to existing shareholders, and a right is usually offered to prospective shareholders. A right is usually issued to existing shareholders, and a warrant is usually offered to prospective shareholders. A) 1 and 3 B) 2 and 3 C) 1 and 4 D) 2 and 4

c, The correct answer is "1 and 4." A right is usually issued to existing shareholders to allow them to maintain their proportionate ownership share of the issuing corporation. In contrast, a warrant is usually offered to prospective shareholders as a "sweetener" to a debenture or preferred stock issue to induce a purchase. A long-term investor would prefer a warrant because the time frame for exercise is typically much longer than it is for a shareholder who is issued a right.

Which of the following is NOT a characteristic of a mutual fund? A) Shares may be purchased in full or fractional units, permitting the investor to think in terms of a dollar investment rather than a per-share investment. B) Mutual funds offer an opportunity to diversity and spread investment risk. C) Mutual funds are easily available but require a significant initial investment. D) Mutual funds are always marketable because the issuing company constantly offers and redeems investor shares.

c, The correct answer is "mutual funds are easily available but require a significant initial investment." Mutual funds are available for a low minimum investment. The other statements are characteristics of mutual funds.

What are debentures? A) Low-risk, inflation-indexed, liquid savings vehicles B) A certificate granting the owner the right to purchase stock from the issuer at a specified price C) Marketable securities with principals adjusted by changes in the CPI D) Unsecured notes backed by the general credit of the issuing corporation

d, The correct answer is "unsecured notes backed by the general credit of the issuing corporation." Debentures are unsecured promissory notes backed by the general credit of the issuing corporation. Such debentures can also be subordinated to the claims of the other general creditors of the corporation and paid off after regular unsecured debt in the event of bankruptcy.

Bonds that do NOT make regular interest payments are known as A) U.S. Treasury notes and bonds B) savings bonds C) callable bonds D) zero-coupon bonds

d, The correct answer is "zero-coupon bonds." Bonds that do not make regular interest payments are known as zero-coupon bonds. These types of bonds are frequently issued by the U.S. government (U.S. Treasury bills), municipalities, and corporations. Zero-coupon bonds are issued at a deep discount and mature at their par value.