Series 7 Part 2 Units

Benefits of a municipal bond advance refunding include A) a higher rating and greater marketability. B) tax savings. C) a decrease to the issuer's current interest cost. D) a higher rating and lower coupon rate.

A Explanation Advance or prerefunding is refinancing an existing municipal bond issue before its maturity or call date by using money from the sale of a new bond issue. Because the proceeds of the new issue are placed into special U.S. government securities, the rating is automatically at the top. The higher rating increases the marketability. The current bond still exists until the specified call date. As such, the coupon has not changed. There are no taxes to be saved.

European-style foreign currency options can be exercised at any time. only be exercised at expiration. be traded at any time. only be traded at expiration. A) II and III B) I and III C) I and IV D) II and IV

A Explanation All U.S. exchange-listed currency contracts are European-style exercise, which can only be exercised at expiration. However, positions can be closed at any time until expiration.

Municipal bonds—known as dollar bonds—are generally quoted A) as a percentage of par. B) net yield. C) yield to maturity. D) yield to call.

A Explanation Although municipal bonds are usually quoted on a yield basis, actively traded bonds known as dollar bonds are often quoted as a percentage of par (price). The term dollar bond comes from the quote being made in dollars. Remember that a percentage of par value ($1,000) equals a dollar price.

DWQ declares a quarterly cash dividend of $0.20. After the ex-dividend date, what will be the exercise price of a listed DWQ May 25 call option? A) $25.00 B) $24.75 C) $25.25 D) $24.80

A Explanation Because a listed option is not adjusted for a cash dividend, the exercise price of a DWQ May 25 call option remains the same: $25.

If a customer believes the price of ABC is going to fall, which of the following option strategies would be appropriate? Buy calls on ABC. Write calls on ABC. Buy puts on ABC. Write puts on ABC. A) II and III B) I and II C) II and IV D) I and IV

A Explanation Buying puts and writing calls are bearish strategies.

In a rising price environment, which of the following inventory valuation methods will result in the highest reported earnings? A) First in, first out (FIFO) B) Last in, first out (LIFO) C) Average cost D) Straight line

A Explanation FIFO means lower cost inventory is used first in determining the cost of goods sold. This has the effect of inflating earnings. Using LIFO means higher cost inventory is used to determine the cost of goods sold. In a rising price environment, LIFO better matches cost with revenue.

A customer of a member firm has just invested $100,000 into an equipment leasing DPP. Under FINRA rules, the maximum compensation allowable to the firm is A) $10,000. B) $5,000. C) $15,000. D) $2,000.

A Explanation FINRA Rule 2310 limits compensation on the sale of a DPP to 10% of the offering price. That is the largest component of the offering expenses. Those are limited to 15% of the offering. DPPs are not covered by the 5% policy. Therefore, of the $100,000 invested, the business (the equipment leasing program) must receive at least $85,000 ($100,000 minus the maximum offering expenses of $15,000). If this question was about a DPP roll-up, then there is 2% maximum to the member if recommending the client vote in favor of the roll-up.

The following is taken from the S&P Bond Guide: FLB Zr 37 87 87½. What is the coupon rate on this bond? A) 0% B) 8.75% C) 8.70% D) 0.37%

A Explanation FLB is the issuer, Zr means zero coupon, 37 indicates the year of maturity (2037), 87 is the bid price ($870), and 87½ is the asked price ($875).

Your client owns a variable annuity contract with an annual interest rate (AIR) of 4%. In March, the actual net return to the separate account was 8%. If this client is in the payout phase, how would her April payment compare to her March payment? A) It will be higher. B) It will be lower. C) It cannot be determined until the April return is calculated. D) It will stay the same.

A Explanation If the separate account of a variable annuity with an AIR of 4% had actual net earnings of 8% in March, the April payment will be higher than the March payment.

An investor purchases $10,000 worth of Treasury bills on November 27 and holds them until they mature on March 30 of the following year. For purposes of taxation, the interest from those Treasury bills is treated as A) ordinary income subject to federal income tax. B) partially ordinary income and partially capital gain. C) a short-term gain. D) tax-free income.

A Explanation Interest on Treasury bills, notes, and bonds is taxable as ordinary income at the federal level. It is exempt from state and local taxation.

The interest that municipal securities pay is A) federally tax exempt. B) fully taxed. C) not taxed at the state, local, or federal levels. D) exempt from both state and local taxation.

A Explanation Interest paid on securities issued by municipalities is generally exempt from taxation at the federal level. It may also be exempt from state and local taxation if the purchaser resides in the issuing state.

Which of the following actions of XYZ Corporation would raise additional capital? Issue callable preferred stock Declare a stock dividend Make a rights offering Encourage convertible bondholders to convert to common stock A) I and III B) II and III C) I and II D) II and IV

A Explanation Issuing new stock either through an underwriting or a rights offering allows a corporation to raise capital. Stock dividends represent more shares given to existing shareholders, but no money is raised. Conversion results in the exchange of one security for another, and no money is raised.

An investment banking firm has been hired to roll up various partnerships into one master limited partnership. What is the compensation limit for this activity? A) 2% B) 5% C) 8.5% D) 10%

A Explanation Maximum compensation in a limited partnership roll-up is limited to 2%. That amount must be paid to the brokerage firm, whether the partners vote for or against the proposed roll-up.

The ABC Corporation has a long-standing policy of maintaining a dividend payout ratio of 45%. ABC's net income for the year is $12 million, and there are 8 million shares of common stock outstanding. After a 3:2 stock split, the annual dividend per share is A) $0.45. B) $0.675. C) $1.0125. D) $1.50.

A Explanation Take this systematically. A dividend payout ratio of 45% means ABC will distribute 45% of its net income to its common shareholders. Forty-five percent of $12 million is $5,400,000 in dividends. If there were 8 million shares before the split, there are now 12 million (8 times 3/2 = 24 divided by 2 = 12). Divide the amount available for common ($5.4 million) by the number of shares (12 million) to arrive at a dividend per share of $0.45. There is another way to compute this. With net income of $12 million and 8 million shares, the pre-split earnings per share is $1.50 ($12 million divided by 8 million = $1.50). The company pays out 45% of its net income as a dividend. That would be $0.675 ($1.50 times 45%). With the 3/2 split, the number of shares has increased by 150%, meaning that the new dividend will be 2/3 of the previous amount. That computes to the same $0.45 per share.

The Municipal Securities Rulemaking Board (MSRB) is authorized under the Securities Exchange Act of 1934 to make rules about all of the following except A) information provided by municipal issuers. B) the dissemination of price and yield quotes by municipal dealers. C) municipal dealer recordkeeping. D) dealers obtaining fair and reasonable prices for customers.

A Explanation The MSRB governs the practices of underwriting and trading municipal bonds. It does not govern municipal issuers.

Which of the following statements regarding exchange-traded funds (ETFs) are true? The SEC has classified them as mutual funds. The SEC has classified them as a type of open-end fund. They have operating costs and expenses that are higher than most mutual funds. They have operating costs and expenses that are lower than most mutual funds. A) II and IV B) II and III C) I and IV D) I and III

A Explanation The SEC has classified ETFs as a type of open-end fund but not a mutual fund. ETFs traditionally have operating costs and expenses that are lower than most mutual funds because they do not have to purchase and sell holdings within the portfolio to accommodate investors purchasing shares or redeeming shares, as is the case with mutual funds.

The bond placement ratio, as shown in The Bond Buyer, is computed by taking A) the dollar value of new issues sold divided by the dollar value of the new issues offered. B) the number of new issues divided by the 30-day visible supply. C) the number of new issues unsold divided by the number of new issues offered. D) the dollar amount of new issues sold divided by the dollar amount of new issues unsold.

A Explanation The bond placement ratio is the percentage of new municipal bonds offered last week that were sold last week. Although not a term you'll see on the exam, think of this as the success ratio. It reports how well the underwriters did in moving the week's new issues. For example, if $1 billion of bonds were offered during the week, and $700 million were placed (sold), that is a 70% placement ratio.

Which of the following would be of least concern to a registered representative recommending a municipal security to a customer? A) Availability of the security B) Customer's tax status C) Municipal security's rating D) Customer's state of residence

A Explanation The customer's state of residence and tax status are essential when determining suitability of a municipal security. The security's rating is also important because it measures the bond's safety and quality and should align with the customer's risk tolerance. While the availability may pose a challenge for the broker-dealer and could potentially add to the cost of the transaction, it would be of the least concern regarding suitability unless the cost was in some way prohibitive.

An investor placed $5,000 into a 200% leveraged index ETF. During the first period, the index against which the ETF was measured rose by 10%. In the second period, the same index fell by 20%. What is the value of the leveraged ETF investment at the beginning of the third period? A) $3,600 B) $5,600 C) $5,400 D) $4,400

A Explanation The investment value would be $3,600 at the beginning of the third period. In a leverage ETF, the investment result of the portfolio is a multiple of the performance of the index it is measured against. In this question, the ETF value will increase or decrease by 200% (2 times) of the performance of the index. In the first period, the index rose by 10%; therefore, the ETF rose by 20%. The $5,000 investment would have risen to a value of $6,000 ($5,000 times 20% = $1,000 + $5,000). During the second period, the index fell by 20%. The ETF value would have declined by 40% ($6,000 times 40% = $2,400); therefore, the $6,000 investment value would have declined by $2,400 to $3,600.

Which of the following securities carries the highest degree of purchasing power risk? A) Long-term, high-grade bond B) Short-term note C) Blue-chip stock D) Convertible cumulative preferred stock

A Explanation The longer a fixed-income investment is held, the more vulnerable the investor is to purchasing power risk from inflation. Although preferred stock is also a fixed-income investment, convertible preferred will increase in value with the underlying common stock.

A customer holds 10 TRG May 60 calls. The stock splits 3:2. What is the number of contracts, adjusted strike price, and the adjusted number of shares per contract? A) 10 contracts @$40 for 150 shares B) 15 contracts @$60 for 100 shares C) 10 contracts @$60 for 150 shares D) 15 contracts @$40 for 100 shares

A Explanation The number of contracts is not adjusted—there are still 10. However, with a 3:2 split, the number of shares per contract increases to 150. Because the aggregate exercise price must remain the same as before the split ($6,000 per contract), the price per share is reduced to 2/3rds of the original, or $40 per share. We check that by multiplying the new contract size (150) by the new contract price ($40) and the result is the original $6,000 per contract.

A technical analyst notices that the short interest in a particular stock has been steadily rising. The analyst would take this as A) a bullish signal. B) a bearish signal. C) an indication that interest rates are rising. D) a neutral signal.

A Explanation The short interest indicator monitors the number of outstanding shares that have been sold short. Although it seems counterintuitive, as that number increases, it is a bullish sign to the technicians. The key is that those shares will have to be bought at some time to cover the short positions. When that time comes, the demand for the shares will force the stock's price up.

Most mutual funds operate as regulated investment companies. This means that A) they qualify for special tax treatment under Subchapter M of the Internal Revenue Code. B) they register with the SEC under the Investment Company Act of 1940. C) their principal underwriter (sponsor) is a FINRA member. D) they register with the SEC under the Investment Advisers Act of 1940.

A Explanation Triple taxation of investment income can be avoided if the mutual fund qualifies under Subchapter M of the IRC. To avoid taxation under Subchapter M, a fund must distribute at least 90% of its net investment income to shareholders. The fund then pays taxes only on the undistributed amount. This rule applies to management companies (open-end and closed-end) and UITs. That means ETFs are also included. Although not investment companies registered under the Investment Company Act of 1940, REITs can also take advantage of Subchapter M's tax benefits.

Under SEC rules, all of the following information must be on a customer confirmation except A) whether the trade was solicited or unsolicited. B) whether the member acted as agent or principal. C) whether the member is a market maker in the security bought or sold. D) whether the member has a control relationship with the issuer.

A Explanation Under SEC Rule 10b-10, a customer trade confirmation must include whether the member acted as agent or principal, if the member is a market maker in the security, if a control relationship exists between the member and the issuer. Whether the trade was solicited or unsolicited is not a required disclosure (although many firms do disclose this information). Confusing fact: This information must be on the order ticket, but not on the confirmation.

If the ABCD Mutual Fund has a $25,000 breakpoint on its Class A shares where the sales charge decreases from 5% to 4%, which of the following purchases would likely represent a breakpoint sale? A) $18,000 B) $24,000 C) $26,000 D) $32,000

B Explanation A breakpoint sale occurs just below a breakpoint where the customer could realize a reduced sales charge. Selling mutual fund shares to a customer just below a breakpoint (to share in the higher sales charges applicable to those sales) is a rules violation.

A variable-rate municipal bond investment's main advantage is that A) it is noncallable. B) its price should remain relatively stable. C) its interest is exempt from all taxes. D) it is likely to increase in value.

B Explanation A variable-rate bond has no fixed coupon rate. The coupon is tied to a market rate (e.g., T-bond yields) and subject to change at regular intervals. Because the interest paid reflects changes in overall interest rates, the bond price remains relatively close to its par value. Its coupon is always representative of the current market rate. As rates rise, the coupon is adjusted upward. As rates fall, the coupon is adjusted downward.

A municipal finance professional (MFP) is A) a registered representative engaged in the sale of municipal securities to public customers. B) an associate of a broker-dealer engaged in municipal securities representative activities other than retail sales. C) an employee of the Municipal Securities Rulemaking Board (MSRB) responsible for broker-dealer compliance regarding MSRB rules. D) an elected official of a municipality with decision-making responsibilities regarding municipal issues.

B Explanation An MFP is an associate of a broker-dealer engaged in municipal securities representative activities other than retail sales. Those activities can include the solicitation of municipal bond business. MFPs are subject to the MSRB reporting rules regarding gifts to elected officials and political parties (MSRB Rule G-37).

There are four corporate characteristics, more than two of which must not be in evidence for a direct participation program to avoid corporate taxation. Which of the four is virtually impossible to avoid? A) Continuity of life B) Centralized management C) Free transferability of interest D) Limited liability

B Explanation Centralization of management is almost impossible to avoid because the general partner(s) provide the management of the program. Continuity of life is the easiest to avoid because DPPs specify the event or time at which the program will terminate. Free transferability is avoided because most DPPs required the approval of the other limited partners or general partner for an investor's interest to be transferred to a new owner. Although the limited partners have limited liability, the general partner(s) have full personal liability.

FINRA requires a member firm to develop, implement, and monitor anti-money laundering programs designed to achieve compliance the Bank Secrecy Act and related regulations. Which of the following is required of a broker-dealer's anti-money laundering program? A) Updating the program every 36 months B) Designating to FINRA an anti-money laundering compliance officer C) Approval of the firm's AML program by the SEC D) Filing of the firm's AML program with FINRA

B Explanation FINRA's Rule 3130 on anti-money laundering requires members to designate to FINRA an individual or individuals responsible for implementing and monitoring the day-to-day operations and internal controls of the program. The AML program is neither filed with nor approved by the SEC or FINRA. However, when an examiner from either of these bodies pays a surprise visit to the firm, there had better be a well-detailed program available to show. There is no specific schedule for updating. Updating and training of personnel is an ongoing project.

Which of the following projects is most likely to be financed by a general obligation rather than a revenue bond? A) A municipal hospital B) A new high school C) An expansion of an airport D) A public golf course

B Explanation Hospitals, airports, and golf courses all generate revenue and can be financed with revenue bond issues. Schools are financed through general obligation bond sales.

An investor redeems 200 shares of ABC Fund, which has no redemption fee. If the quote is $12.05 bid $13.01 asked, what amount will the investor receive? A) $2,275.50 B) $2,410.00 C) $2,602.00 D) $1,098.00

B Explanation If a mutual fund has no redemption fee, the investor will receive the bid price per share (net asset value) multiplied by the number of shares being redeemed. In this case, the investor would receive $2,410 ($12.05 × 200 shares).

An investor with $5,000 to spend could purchase approximately how many shares of a mutual fund with a net asset value per share of $13.00, a sales charge of $1.00 and an underwriter's concession of $0.20? A) 362 shares B) 357 shares C) 352 shares D) 378 shares

B Explanation Mutual funds sell at NAV plus sales charge. In this case, $13.00 plus $1.00 = $14.00 public offering price (POP). Dividing $5,000 by $14 equals 357 shares. What about the underwriter's concession of $0.20? That is part of the $1.00 sales charge. On each sale, the principal underwriter of the fund earns $0.20 and the selling broker-dealer keeps the other $0.80.

Under SEC Rule 10b-13, a company that is the target of a tender offer must provide its shareholders with a statement indicating acceptance or rejection of the offer within A) 15 business days of the announcement. B) 10 business days of the announcement. C) 20 business days of the announcement. D) 5 business days of the announcement.

B Explanation Once a tender offer is announced, the target company, within 10 business days of the announcement, must provide its shareholders with a statement indicating acceptance or rejection of the offer and the reasons for the position taken.

Disregarding commissions, and investor purchasing $10,000 face amount of Treasury notes at a price of 98.12 would expect to pay A) $981.20. B) $9,837.50. C) $983.75. D) $9,812.00.

B Explanation Please note that the purchase is not for $1,000, but for $10,000. Treasury notes (and bonds) are quoted in 32nds. This quote of 98.12 is 98 12/32 or 98 3/8% of $10,000.

Which of the following is applicable to the Nasdaq PHLX? Regional exchange operated by Nasdaq Offers trading in equity securities and options contracts Completely electronic exchange with no physical trading floor Regional exchange operated by FINRA for the execution of over-the-counter stocks only A) I and III B) I and II C) II and III D) I and IV

B Explanation The Nasdaq PHLX is a regional exchange operated by Nasdaq where equity securities and options contracts are traded both electronically and on the floor.

A customer is short 100 XYZ shares at 26 and long 1 XYZ 30 call at 1. What is the maximum potential loss on the positions? A) Unlimited B) $500 C) $2,500 D) $400

B Explanation The customer has protected his short stock position from loss by purchasing a call. If the market rises, the call is exercised, allowing the customer to buy his stock at the option strike price of 30 to cover the short position. The most the customer can lose is $400 on the stock position (the difference between the option strike price and the stock price) plus the premium paid for the option ($400 + $100 = $500).

A customer shorts 100 XYZ at 51 and buys 1 XYZ Aug 50 call at 4. The stock falls to 45, at which time, the customer closes the options contract at 1 and covers his short position at the current market price for A) a $400 loss. B) a $300 gain. C) a $400 gain. D) a $300 loss.

B Explanation The customer shorted stock at 51 and covered at 45 for a $600 gain, and then he bought a call at 4 and sold it at 1 for a $300 loss. Overall, the gain is $300.

Ten municipal bonds were purchased with 9% nominal yield for settlement on February 1, 2015. The maturity date of the bonds is July 1, 2035. What is the number of days of accrued interest on the 10-bond trade? A) 31 B) 30 C) 29 D) 37

B Explanation The maturity month and day will always match one of the two semiannual coupon dates. Because maturity is July 1, the bond pays interest on January 1 and July 1 of each year. With settlement on February 1, the bond accrued interest from January 1 up to, but not including, settlement (30 days).

Assuming ABC is subject to a 60,000-contract position limit, which of the following customer accounts are in violation of the exchange's position limits? Long 35,000 ABC Jan calls, long 30,000 ABC Jan 08 LEAP calls Long 35,000 ABC Mar calls, long 30,000 ABC Mar puts Long 35,000 ABC Mar calls, short 30,000 ABC Jan 08 LEAP calls Long 35,000 ABC Mar calls, short 30,000 ABC Mar puts A) II and IV B) I and IV C) I and II D) III and IV

B Explanation The maximum limit for ABC is 60,000 contracts on the same side of the market. The upside is long calls and short puts; the down side is long puts and short calls. LEAPs are included in the calculation.

A confirmation sent to a customer must include all of the following except A) the amount of any commission. B) the name of the registered representative handling the account. C) markup or markdown if the member acted as a principal in a Nasdaq security. D) whether the member acted as an agent or principal.

B Explanation There is no requirement to provide identifying information for the registered representative. A customer confirmation must disclose the amount of markup for a principal transaction in a Nasdaq security, whether the member acted in an agency or principal capacity, and the amount of commission if the member acted as an agent.

After an extensive feasibility study on the viability of a new shopping mall, the City of Mount Vernon decided to issue bonds that depend on the earning requirements of the facilities. All of the following statements are true except A) that the city is issuing revenue bonds. B) that the bonds are backed by the full faith and credit of the City of Mount Vernon. C) that rental revenues collected from shop owners within the mall will pay the bonds' debt service. D) that investor risk depends on the specific characteristics of the project.

B Explanation These are revenue bonds that will be paid for by the users of the facility, not the taxing power of the municipality. The issuance of revenue bonds depends on the completion of a proper feasibility study. Such a study projects the revenues and costs associated with a project. If the feasibility study does not show sufficient earnings, then the bonds will not be issued. The risk level depends on the characteristics of each particular project.

A registered representative of a FINRA member firm has developed a LinkedIn friendship with a registered investment adviser. This has resulted in the investment adviser directing transactions for many of their clients to this representative's broker-dealer. The broker-dealer is promoting an all-day seminar with presentations to be delivered by a number of outstanding economists and securities analysts. The seminar location is in a hotel ballroom down the street from the member firm's office. The firm has invited the investment adviser to attend as its guest. That location requires the adviser to fly in the night before and stay at the hotel. As the broker-dealer's guest, which of the following expenses are reimbursable by the broker-dealer without violating the safe harbor provisions of Section 28(e)? A) The registration fees for the seminar plus the hotel room for the night B) The registration fees for the seminar C) The travel expenses, but not the registration fee D) The registration fees for the seminar plus all of the travel expenses

B Explanation Under the safe harbor provisions of Section 28(e) of the Securities Exchange Act of 1934, broker-dealers are permitted to extend seminar invitations to investment advisers with whom they do or hope to do business. The only expense reimbursable by the broker-dealer is the fee to attend the seminar.

Your customer redeemed 200 of her 500 Kapco common shares without designating which shares were redeemed. Which of the following methods does the IRS use to determine which shares she redeemed? A) Identified shares B) First in, first out (FIFO) C) Last in, first out (LIFO) D) Wash sale rules

B Explanation When a customer does not choose a method, the IRS uses FIFO. This will likely result redeeming shares with the lowest cost basis first, which creates a greater taxable gain.

Which of the following statements are true? Build America Bonds (BABs) are tax exempt at all levels. Direct-payment BABs provide the municipal issuer with payments from the U.S. Treasury. BABs are issued by the U.S. Treasury. Tax credit or issuer BABs provide the municipal bondholder with a federal income tax credit. A) II and III B) I and IV C) II and IV D) I and III

C Explanation Created under the Economic Recovery and Reinvestment Act of 2009 to assist in reducing costs to issuing municipalities and to stimulate the economy, BABs are taxable municipal securities. There are two types: direct payment BABs that provide the municipal issuer with payments from the U.S. Treasury and tax credit or issuer BABs that provide the bondholder with a federal income tax credit.

Which of the following are considered sources of debt service for general obligation (GO) bonds? Tolls on roads Real estate taxes Revenue generated by a hospital Liquor license fees A) II and III B) I and IV C) II and IV D) I and III

C Explanation General revenues of the municipality, such as real estate taxes or licensing fees, may be used to pay the debt service on a GO bond. Usage revenue, such as that generated from toll roads or hospitals, would be associated with funding revenue bonds.

Hedge funds are highly regulated. use investment techniques suitable for most investors. are unregulated. use investment techniques most suitable for sophisticated investors. A) II and III B) I and II C) III and IV D) I and IV

C Explanation Hedge funds are unregulated and have aggressively managed portfolios that employ investment techniques such as shorting positions, utilizing derivative products, and trading on margin—all generally considered suitable for sophisticated investors.

IBM sold computers to a Soho retailer and agreed to accept payment of 10 million British pounds in 65 days. In which of the following ways could the company protect the payment against adverse foreign currency fluctuations? A) Buy pound calls B) Buy U.S. dollar calls C) Buy pound puts D) Buy U.S. dollar puts

C Explanation If the company wants to protect its investment, it has to protect against the payment going down in value relative to the cost. To protect against the value of the payment going down in relation to the cost, the company would buy puts on the payment currency. To offset the cost of the puts, the company will also sell calls. The calls will be covered by the ownership of the actual currency. Remember the acronym EPIC: Exporters buy Puts and Importers buy Calls.

Stockholders' preemptive rights include the right to A) purchase Treasury stock. B) serve as an officer on the board of directors. C) maintain proportionate ownership interest in the corporation. D) sell stock back to the issuing corporation.

C Explanation Preemptive rights allow stockholders to maintain their proportionate ownership when the corporation wants to issue more stock. For example, if a stockholder owns 5% of the outstanding stock and the corporation wants to issue more stock, the stockholder has the right to purchase 5% of the new shares.

Your client owns 100 shares of CCC at $25. CCC declares a 25% stock dividend. After the ex-date, what will she own? A) 125 shares at $18.75 B) 100 shares at $25 C) 125 shares at $20 D) 100 shares at $31.25

C Explanation Stock dividends make the number of shares owned increase and the cost per share decrease. The overall value should remain unchanged before and after the adjustment: 125 shares × $20 = $2,500, and 100 shares × $25 = $2,500.

The visible supply may be found in A) the electronic OTC Pink. B) The Wall Street Journal. C) The Bond Buyer. D) the S&P Bond Guide.

C Explanation The Bond Buyer, a daily publication dealing primarily with the new issue municipal market, publishes information on the visible supply—the estimated amount of new municipal bonds to be sold over the coming month.

An investment company registered under the Investment Company Act of 1940 that allows shareholders to sell their shares back to the company at the net asset value per share only at certain specified times is A) a unit investment trust. B) an open-end investment company. C) an interval fund. D) a closed-end investment company.

C Explanation The unique characteristic of an interval fund is that at certain specified intervals, shareholders are able to sell their shares back to the fund at NAV. True, these are closed-end investment companies, but on the exam, you always need to choose the most specific answer. Open-end investment companies (mutual funds) and unit investment trusts (UITs) permit redemption at NAV on a continuous basis, not at specified intervals.

A registered representative notices that a fund he has been recommending to a recalcitrant customer has just declared a $1 per share dividend. Recognizing this as a great opportunity, he calls the client and explains that if a purchase is made within the next week, at the end of the month, the investor will receive a cash dividend of $1 for each share purchased. With a current public offering price of approximately $20 per share, that is a return on investment of 5% in a matter of a couple of weeks. This registered representative is A) offering the client a wonderful opportunity. B) properly showing the return as a percentage of the offering price. C) guilty of violating the practice of selling dividends. D) guilty of guaranteeing a dividend.

C Explanation What the registered representative has not explained is that, upon payment of the dividend, the net asset value of each share will drop by $1.00. That is why the practice of selling dividends is prohibited. There is no problem with stating the dividend of $1 will be paid; that is not guaranteeing anything because the dividend has already been declared. Rate of return on a mutual fund should always be shown as a percentage of the offering price, but that "good deed" does not count when performing a misleading activity.

A bond convertible at $50 is selling at 105% of parity, while the common stock has a current market value of $45. What is the market value of the bond? A) $1,000 B) $900 C) $945 D) $1,045

C Explanation When a bond is convertible at $50, it means the holder can exchange each $1,000 par value bond for the company's common stock at a rate of $50 per share. Dividing $1,000 (always use the par value, not the market value) by $50 results in a conversion rate of 20 shares per bond. With the bond convertible into 20 shares and the market price of each share currently $45, the parity price, the price at which the value of the stock and the bond are the same, is $900, (20 x $45). The question tells us that the bond is selling for 105% of the parity price. That would be $900 x 105% = $945. An alternative method is to recognize that the stock is selling for 10% below its conversion price ($45 is $5 less than $50 and $5 ÷ $50 = 10%). That means the parity price of the bond must be 10% below the par value, or $900 (which is 10% less than $1,000). Once you have the $900, multiply by 105% to arrive at the correct answer of $945.

A registered representative noticed that a stock was approaching its resistance line. This is generally considered A) ambiguous. B) bullish. C) bearish. D) neutral.

C Explanation When a stock is rising in price toward its resistance level, generally sellers will enter the market and prevent it from breaking through. This would therefore be a bearish indicator—that the stock has reached the highest price it will go. While breakouts can occur, they are considered significant events.

A new client, age 25, earning $41,000 annually has saved $20,000 to allocate to an investment portfolio for the first time. The client conveys that while he would like to see some growth, an investment with moderate risk and some downside protection are important objectives for his first time investing. Aligning with the client's investment experience and objectives, which of the following would be the most suitable? A) Money market fund B) Municipal bond fund C) Equities index fund D) Balanced fund

D Explanation A balanced fund, which consists of both equities and debt instruments, not only aligns with the growth objective but also offers some downside protection against falls in market due to the debt portion of its portfolio. Equity index funds move with the markets and offer no downside protection. A money market fund would not align with growth, and a municipal bond fund would have no benefit for an investor in a lower income bracket.

If a customer buys bonds that have already been called, the confirmation must disclose all of the following except A) the redemption price. B) the yield to redemption. C) the redemption date. D) the yield to original maturity.

D Explanation A customer who has purchased a called bond has probably purchased one that has been prerefunded. The yield to original maturity is no longer a factor.

Given the current business climate, an investor believes that a number of industries will be going through a consolidation over the next two to three years. Willing to invest $30,000 in the opportunity to profit if the consolidation occurs, which of the following would be the most suitable recommendation? A) Sector fund B) Corporate bond fund C) Buy call options on select stocks D) Special situation fund

D Explanation A special situation fund can be specific to mergers and acquisitions within a particular industry or among many and would be a suitable choice, given the investor's opinion that consolidation may occur. Sector funds focus on only one industry or area, and corporate bond funds would have no advantages in cases of industry consolidation. Purchasing standard option contracts on select companies would be extremely speculative, and their nine-month life cycle would require that the positions be reinstated over a two- to three-year period, adding to commission costs.

American-style options traded on the Chicago Board Options Exchange are priced higher than European-style options on the same underlying stock, having the same expiration, because A) U.S. investors cannot use European-style options; thus, the demand is much less, leading to lower premiums. B) European-style option positions cannot be traded out of. C) European-style options are not adjusted for stock splits and stock dividends. D) American-style options can be exercised at any time until expiration, while European-style options can be exercised only at expiration.

D Explanation American-style options can be exercised at any time until expiration, while European options can be exercised only at expiration. With all other specifications the same, the American-style option will have the higher premium because it allows the holder broader exercise rights.

A customer is receiving annuitized payments from a variable annuity. The annuitized payments are viewed for tax purposes as A) all return of cost basis and nontaxable. B) earnings only and taxable. C) exempt from taxes. D) part earnings and part cost basis.

D Explanation Annuitized payments from a variable annuity are viewed for tax purposes as part earnings and part cost basis. The earnings are taxable, but the cost basis is returned tax free.

U.S. Treasury bills are issued for all of the following maturities except A) 13 weeks. B) 4 weeks. C) 26 weeks. D) 39 weeks.

D Explanation As of the authoring date of this question, Treasury bills are issued for terms of 4, 8, 13, 26, and 52 weeks. The Treasury auctions the 52-week bill every four weeks and the 4-, 8-, 13-, and 26-week bills every week.

A customer buys an Oct 79.50 foreign currency call on the Australian dollar. The Australian dollar spot price is 89.73, and the option contract size is AUD$10,000. If the option contract is offered at 11, what was the customer's total premium paid for the contract? A) $11,000 B) $10,000 C) $8,973 D) $1,100

D Explanation Currency options are quoted in U.S. cents per dollar, and one point equals $100. A quote of 11.00 is equal to $1,100 per contract.

A representative wishes to execute an order for a customer's discretionary account. The municipal dealer has a control relationship with the issuer of the security to be purchased. Under Municipal Securities Rulemaking Board rules, the representative A) must wait until the firm terminates the control relationship. B) may not execute the order. C) may refer the customer to a firm that has no control relationship. D) must have specific authorization from the customer.

D Explanation Even in a discretionary account, a registered representative may not exercise discretion when a control relationship exists between the issuer and the dealer without first receiving the customer's permission.

The price of DFEC common stock is $32 per share. Your customer owns one DFEC Sep 35 put purchased for a premium of 4. The option A) is 3 points out-of-the-money. B) is 1 point out-of-the-money. C) has no time value. D) is 3 points in-the-money.

D Explanation If an option has intrinsic value, it is in-the-money. Puts are in-the-money when the market price of the underlying asset is below the exercise price. The difference between the 35 strike and the 32 current market value represents 3 points of intrinsic value. Intrinsic value (the in-the-money amount) ignores the premium. However, the fact that the premium exceeds the intrinsic value by one point represents one point of time value.

An investor purchases a 2x leveraged ETF. The index value is $100. On day 1, the index falls by 10% and then on day 2 goes up by 10%. How has this affected the investor's account? A) It is up 1%. B) It is down 1%. C) It is even. D) It is down 4%.

D Explanation If the index drops by 10 points on day 1, it has a 10% loss and a resulting value of 90. Assuming it achieved its stated objective, the leveraged ETF would therefore drop 20% on that day and have an ending value of $80. On day 2, if the index rises 10%, the index value increases to 99. For the ETF, its value for day 2 would rise by 20%, which means the ETF would have a value of $96 (80 × 20% = 16). On both days, the leveraged ETF did exactly what it was supposed to do—it produced daily returns that were two times the daily index returns. But let's look at the results over the two-day period: the index lost 1% (it fell from 100 to 99) while the 2x leveraged ETF lost 4% (it fell from $100 to $96). That means that over the two-day period, the ETF's negative returns were 4 times as much as the two-day return of the index instead of 2 times the return.

For a customer interested in buying an inverse exchange-traded fund (ETF) by tracking the performance of the Standard & Poor's 500 index, which of the following market views would make that purchase most inappropriate? A) Bearish B) Neutral C) Either bullish or bearish D) Bullish

D Explanation Inverse (reverse) 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.

In safety of principal, general obligation municipal bonds are considered second only to A) AAA-rated corporate bonds. B) common stock. C) preferred stock. D) U.S. government and agency bonds.

D Explanation Municipal securities are considered second in safety of principal to only U.S. government and agency issues.

The manager of ABC Municipal Securities is interested in bidding on some general obligation bond issues that will be available in the coming months. Where would the manager find information about these forthcoming issues? A) Electronic Municipal Market Access (EMMA) B) The Washington Post C) Standard & Poor's Bond Guide D) The Bond Buyer

D Explanation Municipalities publish their official notices of sale soliciting bids from interested parties in The Bond Buyer. The notice gives the details of the bonds put up for bid and how to bid on the issue. The Standard & Poor's Bond Guide gives details of outstanding issues and their ratings. The EMMA is an online site primarily for retail nonprofessional investors.

Interest income from all of the following are exempt from state and local taxation except A) FNMA mortgage-backed issues. B) Treasury bonds. C) Treasury bills. D) Series EE savings bonds.

A Explanation As a general rule, the interest income from U.S. government and agency securities is subject to federal taxation only; it is generally exempt from state and local taxation. However, the interest income from mortgage-backed securities is fully taxable.

A customer with an income objective who resides in a state with a high personal income tax might find it best to purchase A) Bonds issued by the U.S. Virgin Islands. B) U.S. Treasury STRIPS. C) Mortgage-backed securities issued by the Government National Mortgage Association (GNMA). D) Corporate bonds with an investment-grade rating.

A Explanation Bond issued by U. S. Territories, such as the Virgin Islands, are triple tax-exempt. That is, investors do not have to pay federal, state, or local income taxes on the interest. GNMA and corporate debt securities are taxable on all levels. Although the Treasury STRIP is exempt from state income tax, as a zero coupon bond, it provides no income.

Freddie Mac does which of the following? Issues pass-through securities Purchases student loans Purchases conventional residential mortgages from financial institutions Issues securities backed directly by the full faith and credit of the U.S. government A) I and III B) II and III C) II and IV D) I and IV

A Explanation Freddie Mac is a publicly owned and traded U.S. government agency that issues pass-through securities based on a pool of conventional residential mortgages purchased from financial institutions. Ginnie Mae is the only U.S. agency that issues securities backed by the full faith and credit of the U.S. government.

Which of the following statements regarding the Government National Mortgage Association (GNMA) is true? A) Private lending institutions approved by GNMA originate eligible loans and sell the mortgage-backed securities to investors. B) GNMA originates loans to home buyers and sells the mortgage-backed securities to private lending institutions. C) GNMA approves residential mortgages for home buyers. D) Lending institutions apply to GNMA for funds to lend to residential home buyers.

A Explanation GNMA is a government-owned corporation that approves private lending institutions, such as banks and mortgage companies, to originate eligible loans, pool them into securities, and sell the GNMA mortgage-backed securities to investors. GNMA does not originate loans, and it does not issue or sell securities.

All of the following debt instruments pay interest semiannually except A) Ginnie Mae pass-through certificates. B) municipal general obligation bonds. C) industrial development bonds. D) municipal revenue bonds.

A Explanation Ginnie Maes pay interest on a monthly basis, not semiannually.

Which of the following statements regarding Treasury bills T-bills are true? The government auctions T-bills at a discount. The difference between the cost of a T-bill and its value at maturity is treated as a capital gain. T-bills have longer maturities than T-notes. The minimum denomination of a T-bill is $100 face amount. A) I and IV B) II and III C) I and III D) II and IV

A Explanation T-bills are sold at a discount and can be purchased in minimum denominations of $100. The difference between the purchase price and the maturity value is taxed as interest income, not as a capital gain. Treasury bills are short-term investments maturing in 1 year or less. T-notes have maturities of 2 to 10 years. T-bonds have maturities of longer than 10 years.

If a customer believes interest rates have peaked, and therefore, wants to buy long-term, fixed-income securities providing semiannual interest payments, you would recommend A) bonds that do not have a call feature. B) premium bonds with low call premiums. C) Treasury STRIPS. D) puttable bonds.

A Explanation The purchase of noncallable bonds provides the investor with a constant flow of semiannual interest income until maturity. Treasury STRIPS do not make regular interest payments.

All of the following statements regarding Treasury bills are correct except A) most Treasury bill issues are callable. B) Treasury bills trade at a discount to par. C) 4-, 13-, and 26-week maturities are typical with the maximum sometimes changing. D) Treasury bills are a direct obligation of the U.S. government.

A Explanation Treasury bills trade at a discount to par and are 4, 13, or 26 weeks in original maturity. (Maximum maturities are subject to change.) They are a direct obligation of the U.S. government and are noncallable.

Which of the following statements regarding U.S. government agency obligations are true? They are direct obligations of the U.S. government. They generally have higher yields than direct U.S. obligations. The Federal National Mortgage Association (FNMA) is a publicly traded corporation. Securities issued by the Government National Mortgage Association (GNMA) trade on the NYSE floor. A) II and III B) I and II C) I and III D) II and IV

A Explanation U.S. government agency debt is an obligation of the issuing agency. This obligation causes agency debt to trade at slightly higher yields that reflect this greater risk. FNMA securities and GNMA pass-through certificates trade over the counter. GNMA is the only agency whose securities are direct U.S. government obligations.

A dealer in U.S. government securities quotes a 5-year Treasury note at 89.12-89.16. In dollars, that represents a spread of A) $0.04. B) $1.25. C) $4.00. D) $0.125.

B $0.125. Explanation Treasury notes and bonds are quoted in fractions of 32nds. The spread between the bid and the ask is 4/32nds. In simpler terms, that is 1/8th. Each point is $10.00, so this 1/8th of $10.00 is equal to $1.25.

A planned amortization class (PAC) collateralized mortgage obligation (CMO) offers A) protection from prepayment risk only. B) protection from both prepayment and extension risk. C) less protection than a targeted amortization class. D) protection from extension risk only.

B Explanation A PAC offers protection from both prepayment and extension risk. This protection is greater than that offered by a targeted amortization class CMO, which protects against prepayment risk only.

Which type of risk is a mortgage-backed security most likely to experience? A) Market risk B) Reinvestment rate risk C) Business or corporate risk D) Exchange rate risk

B Explanation A mortgage-backed security, such as a collateralized mortgage obligation, is most likely to experience reinvestment rate risk. As mortgages are paid off early and refinanced in the event of declining interest rates, the interim cash flows received from the obligation must be reinvested in lower yielding securities. This is the practical effect of prepayment risk.

Because money market instruments are designed to meet the short-term cash needs of issuing institutions, which of the following is not a money market instrument? A) Municipal construction loan note B) Newly issued Treasury notes issued to meet a specific government funding requirement C) Commercial paper issued by the finance corporation of a major automobile manufacturer D) Federal Farm Credit Bank note maturing in one year or less

B Explanation A newly issued Treasury note would have a maturity of 2-10 years and would not be considered a money market instrument. A Federal Farm Credit Bank note maturing in one year or less is a money market instrument, as is commercial paper issued by the finance corporation of a major automobile manufacturer with a maturity of less than one year. Municipal construction loans issued to provide short-term financing for a construction project are money market securities.

A customer purchases five 6.25% U.S. Treasury notes at 98.24. How much will the customer receive on each interest payment date? A) $154.30 B) $156.25 C) $312.50 D) $153.50

B Explanation Although minimum purchase denominations can be less, always use par value ($1,000) for these calculations. A 6.25% bond pays $62.50 annually (6.25% × $1,000 = $62.50). Therefore, a customer purchasing five bonds receives $312.50 each year. Because Treasury notes pay semiannually, each interest payment equals $156.25.

One of the popular mortgage-back issues are those issued by the Government National Mortgage Association (GNMA). One of the reasons for their popularity is the elimination of A) extension risk. B) credit risk. C) prepayment risk. D) interest-rate risk.

B Explanation Among mortgage-back securities, GNMAs have the unique distinction of direct backing of the government. At least for testing purposes, that eliminates credit risk (the U.S. government cannot go bankrupt). Extension risk is the uncertainly that mortgages will not be paid off as quickly as estimated and prepayment risk is just the opposite. Common to virtually all debt securities is interest-rate risk: as interest rates go up, the price of the security goes down.

If an investor purchases a bond anticipation note (BAN) that matures in one year, when will the investor collect the interest? A) Quarterly B) At maturity C) Semiannually D) Monthly

B Explanation BANs are short-term money market instruments. Interest is paid at maturity.

Which of the following statements regarding Government National Mortgage Association (GNMA) securities are true? Interest is subject to federal income tax. Interest is exempt from federal income tax. They are backed by farm mortgages. They are backed by residential mortgages. A) II and III B) I and IV C) II and IV D) I and III

B Explanation GNMA securities are subject to both state and federal income tax and are backed by residential mortgages.

If a customer owns a $10,000 8% U.S. Treasury Bond, and she is in the 28% federal tax bracket and a 2.5% state tax bracket, what amount of tax will she pay on the income received from the bond? A) $80 B) $224 C) $100 D) $20

B Explanation Interest on U.S. Treasury bonds is taxable at the federal level only; $800 of interest taxed at 28% equals $224.

The terminology guaranteed full faith and credit is most applicable to A) interest and principal on a corporate bond. B) interest and principal on a U.S. government-issued bond. C) interest and principal on a municipal revenue bond. D) interest only on a U.S. government-issued bond.

B Explanation Of the choices given, the terminology would be most applicable to both interest and principal on a U.S. government bond. Remember that the U.S. government's guarantee is backed by their authority to tax and print money. While corporate bonds can be backed by the issuer's full faith and credit, the guarantee is only as good as the corporation's ability to pay. Municipal revenue bonds are backed by the expected revenue generated from the project being financed.

The function of the Federal National Mortgage Association (FNMA) is to A) provide financing for government-assisted housing. B) purchase FHA-insured, VA-guaranteed, and conventional mortgages. C) issue conventional mortgages. D) guarantee the timely payment of interest and principal on FHA and VA mortgages.

B Explanation The FNMA buys FHA, VA, and conventional mortgages and uses them to back the issuance of debt securities. FNMA currently issues debentures, mortgage-backed securities, and certificates.

Which of the following is not part of the Federal Farm Credit System? A) The Federal Intermediate Credit Bank B) The Federal Home Loan Banks C) The Bank for Cooperatives D) The Federal Land Banks

B Explanation The Federal Farm Credit Bank system is for farms, not homes.

The income from all of the following securities is taxable on the federal, state, and local income tax levels except A) GNMA certificates. B) Treasury bonds. C) corporate BBB bonds. D) reinvested mutual fund dividends.

B Explanation The interest on U.S. government securities (such as Treasury bonds) is exempt from state and local income taxes but not federal income taxes. Dividends (whether reinvested or not), Ginnie Maes, and corporate bonds of all types and/or ratings are taxable on all levels.

A customer sells 100 shares of ABC at $15 and uses the proceeds to purchase 200 shares of MNO for $7.50. In order to avoid a violation of FINRA's 5% markup policy, the member firm should not charge a commission of more than A) $150. B) $75. C) $15. D) $125.

B Explanation This is an example of a proceeds transaction. In order to stay within compliance of FINRA's 5% markup policy, the member firm should treat this as a single transaction. The most the member firm should charge would be 5% of $1,500 (the principal value of one side of the trade), or $75.

A customer purchases 10 8% Treasury notes at 101-16. What is the dollar amount of this purchase? A) $10,015 B) $10,150 C) $10,812 D) $10,116

B Explanation Though the denomination of the T-notes purchased is not given, always assume par ($1,000) unless told differently in the question. Remember that government notes and bonds are quoted in 32nds. Therefore, a quote of 101-16 means 101 plus 16/32. 101 + 1/2 = $1,015; $1,015 × 10 bonds = $10,150.

United States Treasury notes are intermediate length securities. Treasury notes are not issued with maturities of A) 2 years. B) 4 years. C) 5 years. D) 7 years.

B Explanation U.S. Treasury notes are issued with maturities of 2, 3, 5, 7, and 10 years.

U.S. government securities that are deposited with a trustee against which certificates are sold representing principal payments only on the securities are clipped bonds. stripped bonds. subject to annual taxation on the per-year accreted amount. subject to taxation at maturity. A) II and IV B) II and III C) I and IV D) I and III

B Explanation U.S. government securities that are deposited with a trustee and against which certificates are sold representing principal payments only on the securities are referred to as Treasury STRIPS. These are zero-coupon bonds issued by the U.S. government and are subject to annual taxation on the per-year accreted amount.

The Class B shares of the KAPCO Fund carry a conditional deferred sales charge beginning at 5% and reducing each year after the second by 1% per year until eliminated. An investor making an initial purchase of $10,000 of these shares will pay a sales charge of A) $500.00 B) $0.00 C) $100.00 D) $50.00

B Explanation Unlike Class A shares, there is no front-end load when purchasing Class B shares. All of the money is invested at the net asset value without any sales charge. Should the investor wish to liquidate shares, there is a back-end load until the end of the seventh year, but that has nothing to do with the question.

Each of the following would be disclosed to potential municipal bond buyers in the official statement of a new municipal bond issue except A) the source from which interest and principal will be paid. B) the disclosure that it was prepared by the underwriters. C) the creditworthiness of the issue. D) the issue's purpose.

B Explanation While a broker-dealer acting in an underwriting capacity or in an advisory capacity may assist in preparing the official statement, it is considered to be the responsibility of, and prepared by, the issuer. The official statement identifies the issue's purpose, the source from which the interest and principal will be repaid, information regarding the issuer's financial and economic background, and information relating to the issue's creditworthiness.

Which of the following would best describe working capital? A) The value per share available to shareholders in the event of bankruptcy B) The amount of money a corporation has available to work with if it liquidates its current assets and pays off all of its current liabilities C) A corporation's net worth D) The amount of money available to the corporation that is currently being held in cash or cash equivalent positions

B Explanation Working capital equals current assets minus current liabilities.

A customer buys a 6% Treasury bond, maturing in 10 years, at a price of 91.07. The yield to maturity is A) same as current yield. B) less than nominal yield. C) greater than nominal yield. D) less than current yield.

C Explanation A bond whose price is below par or at a discount has a higher yield to maturity than current yield, which in turn is higher than the nominal yield.

A technical analyst would find which of the following to be a bullish indicator? A) A breakout through the support level B) More odd-lot purchases than sales C) A head and shoulders bottom D) A decrease in the short interest

C Explanation A head and shoulders bottom is a bullish sign to the technician because it indicates that the market has bottomed. From the bottom, the only direction is up. It is an increase to the short interest that is bullish, not a decrease. Because odd-lot traders are generally unsophisticated, the technician believes they are always doing the wrong thing. When they are buying, (more purchases than sales), everyone else should be selling (bearish). The support level is where the stock or index seems to stop declining. It receives buying support. That causes the price to begin to rise. When there is a breakout, it means the stock has fallen below the support level. Falling through the support level is a bearish signal.

Which of the following statements regarding Sallie Mae debentures are true? Interest is generally paid monthly. Interest is generally paid semiannually. Interest is exempt from state and local taxation. Interest is not exempt from state and local taxation. A) I and III B) I and IV C) II and III D) II and IV

C Explanation As a general rule, debentures pay interest every six months. Further, interest on nonmortgage-backed government securities is taxable at the federal level and exempt from state and local taxation.

All of the following statements regarding convertible bonds are true except A) holders receive a fixed interest rate. B) the issuer pays a lower interest rate. C) holders receive a higher interest rate. D) holders may share in the growth of the common stock.

C Explanation Because of the possibility of participating in the growth of the common stock through an increase in the market price of the common, the convertible can be issued with a lower interest rate. The interest rate on a convertible, just as with any other fixed-income security, does not change.

All of the following statements regarding collateralized mortgage obligations (CMOs) are true except A) principal repayments are applied to earlier tranches first. B) interest payments are distributed pro rata when received. C) interest is paid semiannually. D) CMOs are a derivative security.

C Explanation CMO holders are paid interest monthly. As payments are received from the underlying mortgages, interest is paid pro rata to all tranches, but principal repayments are paid to the first tranche until it is retired. Subsequent principal repayments are then applied to the second tranche until it is retired and so on. CMOs are a derivative security because the value of each tranche is derived from the timing of principal repayments to that tranche.

A married couple who files jointly has a $5,000 long-term capital loss with no offsetting capital gains. Regarding the tax treatment of this loss, all of the following statements are true except A) the maximum they can deduct this year is $3,000. B) capital losses can be deducted dollar for dollar against capital gains. C) capital losses can be used to offset capital gains only. D) they can carry forward $2,000 to future years.

C Explanation Capital losses are deducted from ordinary income, and therefore, reduce tax liability. The maximum that individuals or married couples can deduct is $3,000 annually. If the long-term capital loss exceeds the maximum, the excess is carried forward to future years until the loss is exhausted. Under current IRS regulations, $1 in losses results in $1 in deductions.

A customer purchased 10 ABC 9s of 2045 convertible debentures at 99. The debentures are callable at 101. The conversion ratio is 40. Some time later, the debentures are called while the common is trading at $24 and the debenture is trading at 98. Which of the following options would be most beneficial to the customer? A) Convert the bonds and sell the common stock B) Sell the bonds C) Tender the bonds to the corporation D) Wait for a better offer from the corporation

C Explanation First of all, recognize that the investor purchased 10 of the debentures. They have a coupon of 9% and mature in 2045. None of that is relevant to answering the question, but we want to be sure you understand the terminology.The option most beneficial to the investor is tendering the debentures to the corporation for $10,100 (10 time s $1,010). If the debentures were sold on the market, the investor would receive $9,800 (10 times $980). If the debentures were converted into common, the investor would receive 400 common shares (40 shares per debenture times 10) that could be sold for their current price of $24, for a total of $9,600.

Which of the following usually does not pay interest semiannually? A) Treasury notes B) Treasury bonds C) Government National Mortgage Association (GNMA) D) Public utility bonds

C Explanation GNMA pass-through certificates pay principal and interest monthly. The others usually pay interest semiannually.

Which of the following is considered a source of debt service for a city-issued general obligation (GO) bond? A) Tolls on roads B) Sales taxes C) Real estate taxes D) Revenue generated by a hospital

C Explanation General revenues of a city municipality, such as real estate taxes or licensing fees, may be used to pay the debt service on a GO bond. State-issued GO bonds will also include sales taxes as a source of money. Usage revenue, such as that generated from toll roads or hospitals, would be associated with funding revenue bonds.

An investment banker purchasing what is left unsold from a rights offering is engaging in A) firm commitment underwriting. B) all or none underwriting. C) standby underwriting. D) preemptive rights underwriting.

C Explanation In many cases, when a corporation is issuing new shares, existing shareholders receive preemptive or stock rights to buy these new shares to maintain their current proportionate ownership. In the event some of the rights are not used, the standby underwriter agrees to purchase those unsubscribed for shares.

Income from all of the following securities is fully taxable at the federal, state, and local levels except A) reinvested mutual fund dividends. B) Ginnie Maes. C) Treasury bonds. D) corporate bonds.

C Explanation Interest on Treasury bonds is not taxed at the state or local level.

Interest on direct debt issued by the U.S. government is taxable at A) different levels in different states. B) the state level only. C) the federal level and exempt at the state level. D) the federal and state level.

C Explanation Interest on direct debt (T-bills, T-notes, T-bonds, and STRIPS) is taxable by the federal government but not by state or local governments.

One of your clients dies. Upon notification of the death, you should immediately do all of the following except A) cancel all day orders for the account. B) mark the account Deceased until proper documents are received. C) obtain the names of the beneficiaries of the estate for the purpose of notification. D) cancel all good-til-canceled orders for the account.

C Explanation The account's registered representative should cancel all open orders and mark the account Deceased. The firm should not permit any trades until proper documents are received from the estate representative. It is not the responsibility of the firm to contact the decedent's attorney or the beneficiaries.

One of your customers would like to purchase a government agency security for the UTMA account of her daughter. The daughter worked in construction over the summer and would like to use $1,275 of her savings for the purchase. Securities issued by which of these agencies could be purchased for this account? A) Federal Home Loan Mortgage Corporation B) Federal Farm Credit System C) Federal National Mortgage Association D) Student Loan Marketing Association

C Explanation Of this group, the only agency that would be able to sell $1,275 of securities is Fannie Mae. Their securities are available with a minimum denomination of $1,000 and then increments of $1. FHLMC also has the $1,000 initial minimum, but with $1,000 increments. The same numbers apply to the FCS, and Sallie Mae's minimum is $10,000. Another agency that would have met the investor's need is GNMA.

When an investor's account contains penny stocks, A) account statements must be sent weekly. B) the account must maintain minimum equity of $25,000. C) account statements must be sent monthly. D) orders must be approved before being submitted.

C Explanation One of the aspects in which accounts containing penny stocks differ from those that do not is the requirement to send monthly rather than quarterly account statements. As with all other orders, principal approval is done after the execution report is received. The $25,000 minimum equity is for pattern day trader accounts.

Which of the following is a debt instrument that pays no periodic interest? A) Treasury note B) Treasury bond C) STRIPS D) GNMA

C Explanation STRIPS are Treasury bonds with the coupons removed. STRIPS do not make regular interest payments. Instead, they are sold at a deep discount and mature at par value.

A 58-year-old investor owns a single premium deferred variable annuity with a current value of $500,000. The original investment was $150,000 and the contract has a death benefit provision. If this investor wished to exchange this policy for one offered by a competing company, A) the investor would be liable for ordinary income taxes plus the 10% penalty on $350,000. B) the investor would be liable for ordinary income taxes on $350,000. C) using a 1035 exchange would avoid any current taxation. D) the tax-free exchange privilege applies only when the exchange is within the same insurance company.

C Explanation Section 1035 of the Internal Revenue Code permits the exchange of an annuity to another annuity, whether issued by the same or a competing company, with the tax-deferral on earnings continuing. These exchanges can also be made from an insurance policy to an annuity, but not from an annuity to an insurance policy.

Which of the following securities is sold at auction? A) Freddie Macs B) Corporate bonds C) T-bills D) Ginnie Maes

C Explanation T-bills, T-notes, and T-bonds are sold through auction. These auctions award securities to the most competitive bids. Agency securities are sold through selling groups appointed by the agency.

Which of the following securities can generate phantom income? A) Treasury bills B) Treasury notes C) TIPS bonds D) Treasury bonds

C Explanation TIPS bonds adjust the principal value each six months based on the inflation rate. If the inflation rate is positive, the value increases. Those increases are reported as income each year even though the investor does not receive the appreciation until the bonds mature (or are sold).

Pass-through securities are issued by all of these except A) the Government National Mortgage Association. B) the Federal National Mortgage Association. C) the Farm Credit System. D) the Federal Home Loan Mortgage Corporation.

C Explanation The Farm Credit System (FCS) is a national network of lending institutions that provides agricultural financing and credit. The federal FCS issues discount notes, floating rate bonds, and fixed-rate bonds. The maturities range from one day to 30 years. Unlike the mortgage agencies, these are not pass-through investments.

All of the following issue securities under the Federal Farm Credit System except A) the Federal Land Bank. B) the Federal Intermediate Credit Bank. C) the Federal Home Loan Mortgage Corporation. D) Bank for Cooperatives.

C Explanation The Federal Home Loan Mortgage Corporation issues securities backed by residential mortgages. The Farm Credit System is made up of Federal Intermediate Credit Banks, cooperative banks, and Federal Land Banks.

The call provisions of a municipal issue would be detailed most completely in A) the legal opinion. B) the official notice of sale. C) the bond resolution. D) The Bond Buyer.

C Explanation The bond resolution is the document that authorizes the issuance of a municipal bond. The resolution also describes the proposed issue's features and the issuer's responsibilities to its bondholders.

Which of the following would not be found in a municipal revenue bond resolution? A) Reporting requirements regarding revenues collected B) Terms of the rate covenant C) Underwriting agreement D) Conditions of the maintenance covenant

C Explanation The bond resolution, which is also referred to as the bond contract, contains the requirement for the municipality to properly keep the facilities books, reporting requirements regarding revenues collected, conditions of the maintenance covenant, and terms of the rate covenant. The underwriting agreement is between the municipality and underwriters, and it spells out the terms agreed to for the underwriting of a new issue.

A bond you are recommending to a customer has call protection. What does that mean? A) It is the number of years into the issue before the investor may exercise the call privilege. B) The issuer has set up a sinking fund to provide funds for the call. C) It is the number of years into the issue before the issuer may exercise the call privilege. D) The issuer records the phone number of investors and puts it on the do-not-call list.

C Explanation The definition of call protection is the length of time an investor is protected against the issuer exercising the right to call the bonds in. What is the maximum possible call protection? A noncallable bond. In many cases, the issuer sets up a sinking fund to use for the call, but that is not the definition of call protection.

A municipal bond dealer purchased $100,000 of municipal revenue bonds at a 3% yield less 3/8ths. The dealer marks the bond up by ½ point and reoffers them to his customers. The compensation to the firm on each bond is A) $10.00. B) $3.75. C) $5.00. D) $8.75.

C Explanation The price paid for the bonds is irrelevant. The important fact is that the dealer put on a markup of ½ point. That is $5 per bond.

Which of the following is not considered a short-term investment vehicle? A) Repurchase agreements B) Commercial paper C) Treasury bonds D) Negotiable CDs

C Explanation Treasury bonds are long-term investment vehicles having maturities of 10 years or more.

A U.S. Treasury bond is quoted at 103:24. The dollar amount represented by this quote is A) $1,032.40. B) $103.24. C) $1,037.50. D) $1,030.24.

C Explanation Treasury bonds are quoted in fractions of 32nds. In fractions, this translates to 103¾ (24/32). That is $1,030 plus ¾ of $10 ($7.50).

Which of the following securities is an original issue discount obligation? A) Corporate bonds B) GNMA certificates C) 13-week U.S. Treasury bills D) FNMA bonds

C Explanation U.S. Treasury bills are always originally issued at a discount and mature at par, with the investor making the appreciation between the original discounted amount and the par value at maturity. However, this appreciation is treated as interest, not a capital gain.

An investor looking for income with the highest degree of safety would probably choose to purchase A) SLMAs. B) FHLMCs. C) FNMAs. D) GNMAs.

D Explanation All of the choices are U.S. government agencies, but only those issued by the Government National Mortgage Association (GNMA) have the direct backing of the government.

Municipal securities issued by which of the following are triple tax exempt? A) Public authorities B) Hawaii C) New York City D) U.S. territories

D Explanation Federal income taxes are not currently imposed on interest earned from bonds issued by U.S. territories and possessions (e.g., Puerto Rico, Guam, and the U.S. Virgin Islands).

For an investor who needs regular income, a GNMA pass-through certificate would be attractive because A) the security has the direct backing of the U.S. government. B) the income is not taxable on the state or local level. C) each check is for the same amount. D) the investor would receive a monthly check.

D Explanation GMNAs pass through the mortgage payments collected on the pool. Because home mortgages are paid monthly, distributions are made to investors monthly. The fact that GNMAs have the ultimate in security—government backing—does not represent a unique benefit for receiving regular income. Treasury bonds or notes have that backing but only pay interest semiannually. The income from a GNMA is taxable at all levels. Because the mortgage payments, which contain principal as well as interest, include mortgage prepayments, the monthly checks will vary.

An investor interested in monthly interest income should invest in A) Treasury bonds. B) utility company stock. C) corporate bonds. D) Government National Mortgage Associations (GNMAs).

D Explanation GNMAs pay monthly interest and principal, Treasury bonds pay semiannual interest, utility stocks pay quarterly dividends, and corporate bonds pay semiannual interest.

Ginnie Mae pass-throughs will pay back both principal and interest A) quarterly. B) annually. C) semiannually. D) monthly.

D Explanation Ginnie Mae securities are called pass-through certificates because the monthly home mortgage payments, which consist of both principal and interest, pass through to the Ginnie Mae investor monthly.

For both U.S. Treasury notes and Ginnie Maes, A) interest is computed on an actual-day basis. B) interest income is taxed at the federal level only. C) settlement is next business day. D) quotes are as a percentage of par in 32nds.

D Explanation Interest from U.S. T-notes is taxed at the federal level only, while interest on Ginnie Maes is taxed at all levels. GNMA bonds are treated like corporate bonds in many ways. T-notes settle next day, while Ginnie Maes normally settle T+2. Interest on T-notes is computed on an actual-day basis, and Ginnie Mae interest is computed on a 30-day month/360-day year basis. Both Ginnie Maes and T-notes are quoted in 32nds.

Member firms are required to maintain documentation regarding suitable net worth for investors in A) high-yield bonds. B) variable life insurance. C) real estate investment trusts. D) direct participation programs.

D Explanation It is FINRA Rule 2310 on DPP suitability that requires documentation maintained on certain aspects of the client. Among those is that the investor has a net worth sufficient to sustain the risks of the DPP, including loss of investment. Although part of dealing with customers is obtaining a financial profile, including net worth, the other choices here do not have a specific requirement to keep records on how the firm based its suitability for the purchase.

Which of the following agency securities has the strongest backing of timely payment of principal and interest? A) Treasury notes B) FNMA C) FHLMCs D) GNMAs

D Explanation Of the agency securities listed here, the only one that is a direct obligation of the U.S. government is the GNMA. The others are quite safe but are only a moral obligation. Please do not be fooled by the Treasury note - that is not an agency security. This is a perfect example of why it is so important to carefully read the question. This is a perfect example of why it is so important to carefully read the question.

T-bills are quoted A) in 16ths. B) as a percentage of par. C) in 32nds. D) on an annualized discount yield basis.

D Explanation T-bills do not bear interest. T-bills trade and are quoted on an annualized discount yield basis.

A customer owns 10M of 7% U.S. Treasury bonds. He is in the 28% federal tax bracket and the 10% state tax bracket. What is his annual tax liability on these bonds? A) $266 B) $98 C) $70 D) $196

D Explanation The 10M means $10,000. (Remember your Roman numerals? M equals 1,000). His tax liability is as follows: $1,000 times 7% equals $70 annual interest per bond; $70 times 10 equals $700 annual interest, which is taxable only by the federal government; and $700 times 28% equals a $196 tax liability.

Securities issued by private lending institutions approved by which of the following are directly backed by the federal government? A) Federal Intermediate Credit Bank (FICB) B) Federal Home Loan Mortgage Corporation (FHLMC) C) Federal National Mortgage Association (FNMA) D) Government National Mortgage Association (GNMA)

D Explanation The GNMA is a government agency backed by the full faith and credit of the U.S. government. The FNMA and FHLMC are government-sponsored corporations owned by public stockholders. FICB bonds are backed by the banks, not the U.S. government.

An abstract of a municipal securities issue official statement must be maintained on file for how long? A) There is no requirement to file abstracts of official statements. B) 5 years C) 12 months D) 4 years

D Explanation The Municipal Securities Rulemaking Board requires firms to retain abstracts of official statements for four years—the same as all pieces intended to communicate with the public.

Investors wishing to protect the fixed-income portion of their portfolios from inflation risk would find which of the following choices most suitable? A) Cumulative preferred stock B) AAA-rated corporate bonds C) Common stock D) TIPS bonds

D Explanation The Treasury Inflation-Protected Securities bonds (TIPS) are designed to do just that. Each six months, the principal amount of the bond adjusts based on changes to the cost of living. The interest and principal on the corporate bonds is fixed, as is the dividend on the preferred stock. Although common stock is generally the choice for inflation protection, the question is referring to the fixed-income portion of the portfolio, not the equity portion.

A customer buys 200 XYZ at 32, 2 XYZ JUN35 calls at 3, and 1 XYZ JUN 35 put at 6.50. Two months later, the customer purchases 1 XYZ JUN 35 put at 4. Before expiration, with XYZ trading at 37, he sells his stock and closes his calls at 2.10 and his puts at 0.25 for A) a loss of $450. B) a gain of $180. C) a gain of $450. D) a loss of $180.

D Explanation The customer opens four positions with debits to his account: 200 shares at $32 per share equals a debit of $6,400; two calls at $300 each equals $600; one put at $650 equals a debit of 650; and finally, an additional put at $400. The stock position is sold for $37 per share for a credit of $7,400. The calls are closed for 2.10 each (a credit of $420), and the puts are closed for a credit of $25 each.

If an investor keeps $100,000 invested in U.S. Treasury bills at all times during a 10-year period, she is subject to which of the following? Stable principal Unstable principal Stable interest Unstable interest A) I and III B) II and III C) II and IV D) I and IV

D Explanation Treasury bills are purchased at a discount and mature at face value. This feature provides principal stability to investors who own them. The discount on bills is determined by current market interest rates and fluctuates accordingly.

Which of the following statements regarding Treasury receipts is not true? A) Treasury receipts are not backed by the faith and credit of the U.S. government. B) Treasury securities held in trust collateralize the receipts. C) Treasury receipts pay interest at maturity. D) Interest income is taxed at maturity.

D Explanation Unlike Treasury STRIPS, which are issued directly by the U.S. government, Treasury receipts are indirect obligations of the government. Treasury receipts are issued by investment bankers who buy Treasury securities, place them in trust at a bank, and sell separate receipts against the principal and interest payments. Like most zeroes, interest must be accreted and taxed annually even though it is not received until maturity.

A client of your member firm dies. In correct order, you should freeze the account. accept orders from the executor. obtain the death certificate and other legal documents. cancel all open orders. A) III, IV, I, II B) I, IV, III, II C) II, III, IV, I D) IV, I, III, II

D Explanation Upon the death of a client, all open orders must be canceled. The account is then frozen until proper legal documentation is received. Once that has occurred, the executor may begin conducting activity in the account.

If a new customer is preparing to buy his first home within the next year, and his investment objective is aggressive growth, which of the following investments would be most suitable for your customer's portfolio? A) Growth stocks B) High-yield bond fund C) T-bills D) Blue-chip equity fund

c Explanation While his profile indicates aggressive growth, the fact that he will need his funds in a year or less to purchase a home is the major consideration. With such a short time horizon, any equity investment involves too much risk, as does an investment in a high-yield bond fund. Of the choices, T-bills make the most sense.

What option strategy might be used by an investor with a short position in a stock who wishes to generate some income? A) Go long a call on the stock B) Go long a put on the stock C) Write a call on the stock D) Write a put on the stock

D Explanation Normally, investors who are short a stock, buy calls on that stock to protect the upside from unlimited potential loss. This question does not deal with that situation. Although the investor is short stock, the objective here is generating income. Selling (writing) an option is the only way to do that. Of the two choices, writing the put is the more logical. Short sellers of stock have an obligation to buy the stock to cover the short position. Writing the put generates income while also obligating the writer to buy the stock at the strike price if the holder of the option exercises. The stock put to the writer can be used to cover the short stock position, and everything is closed out. If you chose "write a call," a call writer is obligated to sell stock at the exercise price, stock the investor does not own. This investor is already obligated to buy back the stock sold short; why create an obligation to go into the market to buy more. In fact, writing a call would expose this investor to unlimited potential loss on both the short stock position and the uncovered call.

Listed options expire at A) 4:30 pm ET on the Saturday immediately following the third Friday of the expiration month. B) 3:00 pm ET on the third Saturday of the expiration month. C) 4:00 pm ET on the third Friday of the expiration month. D) 11:59 pm ET on the third Friday of the expiration month.

D Explanation Options expire on the third Friday of the expiration month at 11:59 pm ET.

Which of the following activities can occur in the municipal bond secondary market? Bidding on a new issue Retail and institutional transactions Establishing the underwriting spread Trades done by a broker's broker A) I and III B) I and IV C) II and III D) II and IV

D Explanation Sales to retail investors, trading between institutions, trading between dealers, and trading on behalf of other brokers all occur in the municipal secondary market. Bidding on new issues and establishing underwriting spreads have to do with the primary market (new issues).

Which of the following regarding T-bills are true? T-bills trade at a discount to par. T-bills have maturities of 1 to 10 years. Most T-bill issues are callable. T-bills are a direct obligation of the U.S. government. A) I and III B) II and IV C) II and III D) I and IV

D Explanation T-bills trade at a discount to par, are six months or less to maturity, and are a direct obligation of the U.S. government. T-bills are also noncallable.

If stock market indexes, such as the S&P 500 and the Dow Jones Industrial Average, are declining daily, and the number of declining stocks relative to advancing stocks is falling, a technical analyst will conclude that the market is A) overbought. B) unstable. C) becoming volatile. D) oversold.

D Explanation The momentum of the market decline seems to be easing as the number of decliners to advancers is leveling out. It looks like the advance/decline line is moving in a direction away from decliners. A technical analyst would conclude that the market is oversold and approaching a bottom.

Which of the following records must kept for the life of a broker-dealer organized as a corporation? A) Complaint records B) Customer new account forms C) The general ledger D) Minutes of the board of directors' meetings

D Explanation The stock certificate book, articles of incorporation or partnership agreement, and minutes of the directors' meetings are to be kept on file and accessible for the life of the firm. The new account form and the general ledger are six-year records, and the complaint file is the only record with a four-year retention requirement.

An accumulation unit in a variable annuity contract is A) fixed in value until the holder retires. B) none of these. C) an accounting measure used to determine payments to the owner of the variable annuity. D) an accounting measure used to determine the contract owner's interest in the separate account.

D Explanation When money is deposited into the annuity, it is purchasing accumulation units.

Holders of common shares may generally vote on A) whether an administrative assistant should be promoted to management. B) whether a cash dividend is to be declared. C) which member of the board of directors should be chairman. D) whether the company should issue additional preferred stock.

D Explanation Common shareholders must vote to approve the issuance of additional preferred stock because additional preferred shares dilute the common shares' residual assets under a liquidation. Common shareholders do not vote to declare dividends. Board members select the chairman of the board. Shareholders do not get involved in the daily operational activity of the corporation.