INVESTMENT VEHICLES

Which statements are TRUE about variable annuity contracts?

- Prior to annuitization, a separate account investment is most similar to a MF investment - After annuitization, a separate account investment is most similar to pension payments.

Under which of the following choices would a universal life insurance policy operate as term insurance?

A. The policy's cash value is approximately one-half the death benefit B. The policy owner pays a cash premium equal to the required mortality and expense charges and has no cash value C. The policy owner requests the insurer to pay the policy's $500 level premium by reducing the policy's $2,500 cash value D. The policy's cash value increased by less than the $500 annual premium

To hedge an adverse currency move, a currency trader that is long the currency could:

Buy Currency Puts and Sell Forward Contracts: If a currency trader is long the currency, the risk is that price of the currency will drop. The purchase of put options (right to sell at a fixed price) will protect from a downward market move. The sale of a forward contract will also protect the trader, since the currency is then "presold" at a fixed price.

Buying a put on a stock position held long is a suitable strategy when the market is expected to:

FALL SHARPLY

Which statements are TRUE about variable annuity contracts?

I. Prior to annuitization, a separate account investment is most similar to a mutual fund investment II. Prior to annuitization, a separate account investment is most similar to pension payments III. After annuitization, a separate account investment is most similar to a mutual fund investment IV. After annuitization, a separate account investment is most similar to pension payments

A customer has a young disabled child with multiple sclerosis and wishes to invest enough money to provide $5,000 a month in perpetuity to pay for ongoing medical expenses. Upon the death of the disabled individual, the principal amount will be left to a charity searching for a cure for the disease. Assuming that the principal can be invested at a 6% annual rate of return, the required principal amount is:

5000 * 12/.06 = $1M

A customer has a young disabled child with multiple sclerosis and wishes to invest enough money to provide $5,000 a month in perpetuity to pay for ongoing medical expenses. Upon the death of the disabled individual, the principal amount will be left to a charity searching for a cure for the disease. Assuming that the principal can be invested at a 6% annual rate of return, the required principal amount is: $1,000,000

A perpetuity is a "perpetual payment" - so it is an annuity that goes on forever. If $1,000,000 is invested at 6%, it gives annual income of 6% of $1,000,000 = $60,000 without eating into the principal amount. $60,000 annual income / 12 months = $5,000 month income. The best way to deal with this type of question is to take 6% of the principal amount given in each choice to get the annual income and divide it by 12 months a year.

A variable annuity contract shows an AIR in its prospectus of 5%. The performance of the separate account during the first month is actually 8% on an annualized basis; in the second period, the account performance is 6% on an annualized basis. The separate account's performance in the third month is 6% as well. A person who has annuitized his or her contract can expect that the:

A. first, second, and third payments will be the same B. first payment will be the largest; the second payment will be lower; and the third payment will be the lowest C. second payment will be larger than the first or third payments D. third payment will be the largest; the second payment will be lower; and the first payment will be the lowest - ANSWER. Here is an example of how the assumed interest rate works relative to the actual performance of the separate account in determining the monthly annuity payment. (This example shows the annual return applied to the monthly payment for simplicity. In actuality, the return would be 1/12th of the amount shown.) Month 1: Assumed monthly payment $100. (based on account earning 5% AIR) Assumed interest rate 5%; Actual interest rate 8% Since the actual performance was 8%, the excess is 3% over the 5% AIR. The first month's payment is increased by this excess and is now $100 + $3 = $103. This becomes the base for the next month's computation. Month 2: Assumed monthly payment $103. (based on account earning 5% AIR) Assumed interest rate 5%; Actual interest rate 6% Since the actual performance was 6%, the excess is 1% over the 5% AIR. The second month's payment is now $103 + $1 = $104. This becomes the base for the next month's computation. Month 3 Assumed monthly payment $104. (based on account earning 5% AIR) Assumed interest rate 5%; Actual interest rate 6% Since the actual performance was 6%, the excess is 1% over the 5% AIR The third month's payment is now $104 + $1 = $105. This becomes the base for the next month's computation. To summarize, as long as the actual return exceeds the AIR, the payment amount will increase. If the actual return equals the AIR, the payment amount stays the same. If the actual return is less than the AIR, the payment amount will decrease.

All of the following statements concerning universal life insurance are correct EXCEPT the:

A. policy owner can skip some premium payments after cash value builds B. cash value is invested in the insurer's general account C. cash value increases at a fixed and guaranteed rate of return D. policy owner can use cash value to increase the death benefit

All of the following statements concerning universal life insurance are correct EXCEPT the:

A. policy owner can skip some premium payments after cash value builds B. cash value is invested in the insurer's general account C. cash value increases at a fixed and guaranteed rate of return - ANSWER D. policy owner can use cash value to increase the death benefit With a universal life policy, any cash value is invested in the insurer's general account, and the policy owner's account is credited for the interest income earned on the general account. This rate of return can vary from year to year. The policy owner can use cash value to increase the death benefit or to skip some premium payments

A customer invests $100,000 in an Equity Indexed Annuity contract tied to the Standard and Poor's 500 Index. The contract has a 90% participation rate; a 15% cap and a 3% floor. Interest is credited to the contract under the annual reset method and is compounded annually. The performance of the Standard and Poor's Index over the next 3 years is: Year 1: + 20% Year 2: - 5% Year 3: - 10%

At the end of year 3, the customer will have a principal balance of approximately: A. $100,000 B. $105,000 C. $122,000-ANSWER D. $125,000 The first year increase in the index of 20% with a 90% participation means that 18% would be credited to the account - however, because of the 15% cap, this is the first year credit, so the $100,000 balance is worth $115,000 after the first year. Because of the 3% floor, even though the index fell in each of the next 2 years, the account value increases to $115,000 x 1.03 = $118,450 at the end of year 2; and $118,450 x 1.03 = $122,004 at the end of year 3

A customer invests $100,000 in an Equity Indexed Annuity contract tied to the Standard and Poor's 500 Index. The contract has a 90% participation rate; a 15% cap and a 3% floor. Interest is credited to the contract under the annual reset method and is compounded annually. The performance of the Standard and Poor's Index over the next 3 years is: Year 1: + 10% Year 2: - 5% Year 3: - 10%

At the end of year 3, the customer will have a principal balance of approximately: A. $95,000 B. $100,000 C. $116,000 - ANSWER D. $121,000 The first year increase in the index of 10% with a 90% participation means that 9% would be credited to the account. The 15% cap is irrelevant. Thus, at the end of the first year, the $100,000 balance is worth $109,000. Because of the 3% floor, even though the index fell in each of the next 2 years, the account value increases to $109,000 x 1.03 = $112,270 at the end of year 2; and $112,270 x 1.03 = $115,638 at the end of year 3.

A customer invests $100,000 in an Equity Indexed Annuity contract tied to the Standard and Poor's 500 Index. The contract has a 90% participation rate; a 15% cap and a 0% floor. Interest is credited to the contract under the annual reset method using the simple interest method. The performance of the Standard and Poor's Index over the next 3 years is: Year 1: + 20% Year 2: - 4.5% Year 3: + 10%

At the end of year 3, the customer will have a principal balance of: A. $120,000 B. $124,000-ANSWER C. $128,000 D. $132,000 The first year increase in the index of 20% with a 90% participation means that 18% would be credited to the account - however, because of the 15% cap, this is the first year credit of $15,000. ($100,000 principal x .15) Under the simple interest method, the second year interest credit is still based on the $100,000 principal amount (there is no "interest on interest" as is the case with compound interest) and because of the 0% floor, there will be no credit. Under the simple interest method, the third year interest credit is still based on the $100,000 principal amount (there is no "interest on interest" as is the case with compound interest) and because of the 90% participation, 90% of the 10% index increase, or 9% will be credited. The credit will be $9,000. ($100,000 principal x .09). Thus, the principal value after year 3 will be $100,000 + $15,000 + $0 + $9,000 = $124,000.

All of the following statements concerning universal life insurance are correct EXCEPT the:

Cash value increases at a fixed and guaranteed rate of return. With a universal life policy, any cash value is invested in the insurer's general account, and the policy owner's account is credited for the interest income earned on the general account. This rate of return can vary from year to year. The policy owner can use cash value to increase the death benefit or to skip some premium payments.

With a variable annuity, the insurer takes the risk that expenses for administration will not be more than it expected. What is the charge the insurer makes for taking this risk?

EXPENSE RISK CHARGE: THE expense risk charge compensates the insurer for the expenses that it incurs for administering the contract, and these are capped to a maximum percentage. If the expenses exceed this percentage, then the insurance company is responsible for the excess charges; not the purchaser of the annuity.

Which of the following are major tax benefits of real estate limited partnerships? ALL ARE BENEFITS

I The real estate can be depreciated, even if its market value is increasing II Non-recourse financing is included in the basis III Interest on loans is fully deductible IV Long term capital gains may be achieved when the real estate is sold - The major tax benefits of real estate programs include all of the choices. Once property is ready for occupancy, it can be depreciated over a straight line basis over a 27½ year life (for residential property). Each year, a depreciation deduction is allowed, even if the market value of the property is rising. Non-recourse mortgage financing is included in the basis (real estate is exempt from the "at risk" rule) and increases overall deductions available to the partner. Interest on the mortgage is fully deductible. Finally, when the property is sold, there is the possibility of having a long term capital gain

A customer who is short stock will buy a call to:

Protect a short stock position from a rising market

An insurance policy that promises to pay a named beneficiary a specified amount of money only if the insured dies within a certain limited time is a

TERM INSURANCE - is the most basic type of insurance policy that, for a fixed premium, promises to pay the beneficiary a specified amount if the insured dies during the term of the policy. After the term is over, the insured can renew for a new term, usually at a higher premium because the insured has aged during the term of the last policy.

Under which of the following circumstances would a universal life insurance policy operate as term insurance?

The policy owner pays a cash premium equal to the required mortality and expense charges and has no cash value - Universal life combines elements of term life and whole life policies. The premium is broken down into an insurance element (the term component) and a savings element that is invested in the insurance company's general account (savings component). A universal life policy operates as term insurance when the policy owner pays a premium amount equal to the required mortality and expense charges (these are charges to cover the insurer's basic cost of providing the policy). There is no cash value buildup, so what the policy is providing is de facto term insurance for the face amount of coverage.

An investment adviser manages the portfolio of a client on a discretionary basis. The customer's objective is conservation of principal and income. Under prudent investor standards, which statement is TRUE about the use of options in the portfolio?

The use of options strategies is only suitable if the strategies are limited to the sale of covered options: Covered call writing is the most popular retail income strategy in a flat market, and is appropriate for conservative investors that are looking for extra income. The customer sells calls against stock that is already owned, getting premium income. If the stock stays flat, the calls expire and the customer keeps the premium. If the stock rises, the calls are exercised and the stock is called away at no loss to the customer. If the market falls, the calls expire and the customer loses on the stock (which he would have lost on anyway!).