S7 Mock 4 Exam (Part 3)

Which of the following are not defined as securities? A) Fixed annuities B) Closed-end investment companies C) Variable annuities D) Preferred stocks

A) Fixed annuities Fixed annuities are not included in the long list of items that are defined as a security, primarily because the element of risk is not included. LO 9.a

Arbitration and mediation are two services provided by FINRA to settle disputes between members. Regarding these services, which of the following statements are not true? I. Mediation is mandatory; arbitration is not. II. Arbitration always results in a binding decision; mediation may not. III. If arbitration is unsuccessful, the dispute moves on to mediation. IV. A mediator in a dispute may not serve as an arbitrator in the same dispute.

A) I and III Arbitration is mandatory in disputes between members. If mediation takes place and is not successful, the dispute moves on to arbitration. The person who served as mediator may not be an arbitrator in the same dispute. LO 18.c

Customer A and Customer B both have an open account in a mutual fund that charges a front-end load. Customer A has decided to receive all distributions in cash, while Customer B automatically reinvests all distributions. How do their decisions affect their investments? I. Receiving cash distributions may reduce Customer A's proportional interest in the fund. II. Customer A may use the cash distributions to purchase shares later at net asset value (NAV). III. Customer B's reinvestments purchase additional shares at NAV rather than at the offering price. IV. Due to compounding, Customer B's principal will be at greater risk.

A) I and III If the customer elects to receive distributions in cash while other investors purchase shares through reinvestment, the customer's proportional interest in the fund will decline. The option to have distributions automatically reinvested allows those purchases to be made at NAV, but a purchase made later would be made at the public offering price like any other new purchase. LO 8.f

If an investor sells 1 AMF Apr 50 put for 2.50 and buys 1 AMF May 60 put for 7.75, the investor has profit when I. the spread narrows. II. the spread widens. III. both puts are exercised. IV. both puts expire.

A) II and III The investor created a debit spread, which is profitable when both sides are exercised or the spread widens. Conversely, credit spreads are profitable when both sides expire or the spread narrows. LO 10.e

Your customer wishes to invest in a security that will pay a specific level of dividends, but may also receive additional dividend amounts, should the underlying company have outstanding performance. Which of the following securities would best match this customer's objectives? A) Participating preferred stock B) Cumulative preferred stock C) Convertible preferred stock D) Class A common stock

A) Participating preferred stock Participating preferred stock provides a stated dividend amount (as a percentage of par value) plus the opportunity to receive additional dividends, based on predetermined conditions, such as the profitability level of the underlying company. Although the convertible stock offers the possibility of capital appreciation due to its linkage to the common stock, that has no effect on the dividend. LO 3.e

A legal opinion that has restrictions placed on it by the municipality's bond counsel is called A) a qualified opinion. B) a restricted opinion. C) an unqualified opinion. D) a contingent opinion.

A) a qualified opinion. A qualified opinion is one where the bond counsel to the municipality places certain legal restrictions (qualifications) on the issue that must be disclosed to purchasers. An unqualified opinion has no restrictions. LO 6.a

A mutual fund can use the term, "no-load" as long as A) any 12b-1 charge does not exceed .25%. B) any 12b-1 charge does not exceed 1.00%. C) there is no 12b-1 charge. D) any 12b-1 charge does not exceed .75%.

A) any 12b-1 charge does not exceed .25%. Mutual fund can call themselves no-load as long as they do not have a 12b-1 charge that exceeds .25%. In addition, there cannot be any front-end load. LO 8.d

In the case of a real estate direct participation limited partnership program, non-recourse financing will A) increase a limited partner's original cost basis. B) have no effect on a limited partner's original cost basis. C) decrease a limited partner's original cost basis. D) be added to a limited partner's sales proceeds at the time the partnership is dissolved.

A) increase a limited partner's original cost basis. For real estate limited partnerships, non-recourse loans are included in the limited partner's cost basis. In this way, the loans increase the partner's original cost basis by the amount of the partner's debt liability for the loan. LO 11.f

One form of debt security attractive to many high net worth investors is the collateralized mortgage obligation (CMO). A CMO is a pool of mortgages structured into maturity classes called A) tranches. B) terms. C) serials. D) series.

A) tranches. The maturity classes on a CMO are called tranches (the French word for slice). A CMO pays principal and interest from the mortgage pool monthly; however, it repays principal to only one tranche at a time. Series bonds, bonds with a serial maturity, and term bonds are most commonly found in municipal securities. LO 12.d

An investor has an established margin account with a short market value (SMV) of $4,000 and a credit balance of $6,750, with Regulation T at 50%. How much excess equity does the investor have in the account? A) $1,500 B) $750 C) $2,750 D) $2,000

B) $750 The Regulation T requirement and equity must be calculated before excess equity can be determined. The Regulation T requirement is 50% of the SMV of $4,000 ($2,000). Equity is calculated by subtracting the SMV of $4,000 from the credit balance of $6,750 ($2,750). Excess equity is calculated by subtracting the Regulation T requirement of $2,000 from the equity of $2,750 ($750). LO 16.d

One of your customers calls and asks you about a security with an S&P rating of SP-2. The customer is most likely asking about which of the following? A) A municipal bond B) A municipal note C) Your firm's privacy notice D) Commercial paper

B) A municipal note The three major rating services each have their own rating system for short-term municipal debt (notes). In the case of Standard and Poor's, the ratings are SP-1, SP-2, and SP-3 in declining order of quality. Regulation S-P (with the hyphen between the S and P) deals with privacy notices. Although it is unlikely to be tested, commercial paper is rated A-1, A-2, A-3, and then into the "Bs." LO 4.f

An investor buys an ABC Oct 60 call for 4 points. What is the investor's maximum gain, maximum loss, and breakeven point? A) Maximum loss = $400; maximum profit is unlimited; breakeven point is $56. B) Maximum loss = $400; maximum profit is unlimited; breakeven point = $64. C) Maximum loss is unlimited; maximum profit is $400; breakeven point is $56. D) Maximum loss is unlimited; maximum profit is $400; breakeven point is $64.

B) Maximum loss = $400; maximum profit is unlimited; breakeven point = $64. The maximum loss is the amount paid for the option, $400. A call makes money when the stock price rises (call-up) and there is theoretically no upper price limit. Breakeven follows the call-up rule. You add the premium to the strike and that is $4 plus $60, which = $64. LO 10.h

When determining position limits for listed options contracts and LEAPS contracts on the same side of the market, which of the following statements is true? A) The contracts are added to increase the position limits. B) The contracts must be aggregated. C) The contracts do not have position limits. D) The contracts are considered separately.

B) The contracts must be aggregated. LEAPS and listed options on the same side of the market, on the same underlying security, must be aggregated and remain within position limits. LO 10.j

A schoolteacher has a 403(b) tax-qualified deferred retirement plan into which she has deposited $100,000 over a 12-year period. At retirement, if the teacher withdraws the total value of the account (now $220,000), how much of the withdrawal will be subject to taxation as ordinary income? A) $120,000 B) $0 C) $220,000 D) $100,000

C) $220,000 The retirement plan is qualified, which means that contributions were made with pretax dollars. The teacher must pay taxes on the total value of the account when withdrawn. LO 1.h

One of your customers has been regularly investing into the shares of an aggressive growth fund. The investor has a long time horizon and does not expect to touch the account for a number of years. In the event of an emergency, federal law would require redemption proceeds forwarded within A) 4 business days (S+2). B) 30 calendar days. C) 7 days. D) 2 business days (T+2).

C) 7 days. One of the provisions of the Investment Company Act is that redemption requests must be honored within 7 days. LO 8.i

Last week, your customer's margin account showed SMA of $5,000. As of the close of business yesterday, the margin account client had a long market value of $50,000 and a debit balance of $45,000. This client now has A) SMA of $2,500 and buying power of $5,000. B) SMA of $5,000 and buying power of $0.00. C) SMA of $0.00 and buying power of $0.00. D) SMA of $5,000 and buying power of $10,000.

C) SMA of $0.00 and buying power of $0.00. Did you catch the trick here? During the past week, the long market value has dropped to the point where this client is subject to a maintenance call. With only $5,000 of equity ($50,000 minus $45,000) and LMV of $50,000, the equity is only 10% of the LMV, well below the 25% minimum. When a margin account goes below the minimum maintenance level, the SMA is wiped out. This is the only exception to the "use it or lose it" rule because once the account is at the point where the investor must contribute additional funds, there is nothing that can be borrowed; your "line of credit," so to speak, no longer exists. LO 16.d

One of your customers notices that the short interest on the NYSE is high. When she asks you for an interpretation, you should tell her that this signals A) a period of stability in the market. B) a period of volatility in the market. C) a bullish market. D) a bearish market.

C) a bullish market. Even though short interest represents the number of shares sold short, many investors consider it a bullish indicator when this number is high. Each share that has been sold short must be replaced (covered) at some point. To replace the stock shorted, an investor must go into the market to buy that stock. When all of those short sellers have to buy back stock they shorted, it puts upward pressure on the prices of those stocks. LO 13.e

An investment company registered under the Investment Company Act of 1940, whose specific purpose is to aid in the promotion and development of small businesses, is A) a venture capital fund. B) a growth mutual fund. C) a business development company. D) a private equity fund.

C) a business development company. Business development companies (BDCs) were created in 1980 by an act of Congress. Their purpose is aiding small businesses. As you can tell, they are appropriately named. Although private equity funds and venture capital funds may do that, neither of them are registered investment companies under the Investment Company Act of 1940. LO 8.b

A direct participation program shows the following operations results: Revenues: $3 million Operating expense: $1 million Interest expense: $200,000 Management fees: $200,000 Depreciation: $3 million The profit or loss for the year is A) a profit of $2.7 million. B) a profit of $1.6 million. C) a loss of $1.4 million. D) a loss of $3 million.

C) a loss of $1.4 million. LO 11.g

A municipality has pre-refunded its bond issue maturing in five years. This would mean all of the following except A) greater marketability. B) the bonds will be called in more than 90 days. C) a reduction to the coupon rate. D) a higher rating.

C) a reduction to the coupon rate. The current bond still exists until the specified call date. As such, the coupon has not changed. Advance or pre-refunding 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. If the refunding is done in 90 days or less, it is called current refunding. LO 6.d

If a customer gives his broker-dealer an order to sell his stock if it falls to or below 69 and will not accept a price below 69, the order is A) a buy limit order. B) a stop order. C) a stop limit order. D) a sell limit order.

C) a stop limit order. When an order is entered this way, the client has specified that it should not be triggered until the stock is at or below 69, a stop order. Because the client will not accept an execution below 69, it is a stop limit order. LO 16.a

An individual who invests in an undeveloped land limited partnership would be most interested in A) depletion. B) depreciation. C) appreciation. D) operating expense deductions.

C) appreciation. Investors seek appreciation when investing in undeveloped land limited partnerships. LO 11.e

A registered representative of a member broker-dealer receives a customer order to sell 100 shares of ABC and use the proceeds to purchase 200 shares of MNO. The trades are made on the NYSE and the execution price is $15 per share for the ABC and $7.50 per share for the MNO. In order to avoid a violation of FINRA's 5% markup policy, the member firm should A) consider this to be one single transaction rather than two separate ones when determining the markup to be charged. B) give advance notice to the customer that the commissions might be slightly higher than normal due to the extra work involved in the two transactions. C) consider this to be one single transaction rather than two separate ones when determining the commission to be charged. D) consider this to be one single transaction rather than two separate ones when determining the markup and markdown to be charged.

C) consider this to be one single transaction rather than two separate ones when determining the commission to be charged. 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. We know this BD is acting in an agency capacity because the trade was executed on the NYSE. Therefore, the member firm's charge is commissions rather than markup or markdown. This is not the type of transaction that justifies a higher than normal charge. Indeed, it is the opposite. LO 13.g

Communications with the public include all of the following except A) independently prepared reprints forwarded to your firm's customers. B) television appearances by an officer of the firm. C) informational material on a new mutual fund intended for sales personnel. D) institutional sales material.

C) informational material on a new mutual fund intended for sales personnel. Material intended for internal use only is not considered a communication with the public. LO 19.a

If a customer does not pay for equity securities purchased within two business days of the regular way settlement date, the broker-dealer may request a time extension from A) FINRA. B) the Philadelphia Stock Exchange. C) its designated examining authority. D) the Chicago Stock Exchange.

C) its designated examining authority. A time extension may be requested from the broker-dealer's designated examining authority, which could be FINRA or one of the exchanges. LO 16.d

The risk that is associated with changes to federal, state, and local laws is A) sovereign risk. B) political risk. C) legislative risk. D) reinvestment risk.

C) legislative risk. Legislative risk occurs when laws change at the federal, state, and local levels. Some companies can benefit from law changes and others can suffer. Political risk is when the political climate of a country changes dramatically. It usually refers to foreign countries but can also occur in the United States. Reinvestment risk is present when a fixed-income investment is refunded or matures in times of decreased interest rates. That means the money has to be reinvested at greater investment risk to get the same rate of return. Sovereign risk is inherent in the bonds of foreign governments and is essentially the default risk associated with the foreign bond. LO 14.a

The ABC Insurance Company is advertising its variable annuity product as "ABC Lifetime Income—income generated from mutual fund returns." This advertisement is A) permitted. B) prohibited because it doesn't reference an annuity. C) prohibited because it implies returns from mutual funds. D) permitted as long as there's no guarantee.

C) prohibited because it implies returns from mutual funds. Variable contracts or their underlying accounts cannot be advertised as mutual funds. Proprietary terms can be used instead of words such as "annuity." LO 19.e

If an investor opens a new margin account and sells short 100 shares of COD at 87.25, with Regulation T at 50%, what is the investor's required deposit? A) $2,617.50. B) $2,181.25. C) $8,725.00. D) $4,362.50.

D) $4,362.50. The required deposit is calculated by multiplying the market value of $8,725 by the Regulation T requirement of 50% ($4,362.50). LO 16.d

All of the following municipal bonds are callable at par. Which confirmation will show yield to call? A) 6.5%, 7% basis, maturing 2034 B) 6.5%, 7% basis, maturing 2030 C) 5.5%, at par, maturing 2034 D) 5.5%, 5% basis, maturing 2030

D) 5.5%, 5% basis, maturing 2030 Bond confirmations must disclose the lower of the yield to maturity or yield to call. On a premium bond, the yield to call is the lower of the two. LO 15.a

Which items would change if a company buys equipment for cash? I. The working capital II. The total assets III. The total liabilities IV. The shareholders' equity

D) I only The general balance sheet formula is assets equals liabilities plus shareholders' equity. A purchase of equipment for cash would affect working capital by reducing current assets. However, it would not affect total assets because it is an exchange of one asset (cash) for another asset of equal value (equipment). Because no loan was needed, it affects neither total liabilities nor equity. LO 13.d

When conducting a discussion with a client about the merits of investing in a direct participation program, all of the following could be tax advantages except I. accelerated depreciation. II. depletion allowances. III. recapture of depreciation. IV. tangible drilling expenses.

D) III and IV Depreciation is the deduction against income representing the cost recovery of certain fixed assets. When one of those assets is sold for more than the straight-line depreciated value, the excess is recaptured as ordinary income. Only intangible drilling expenses benefit the limited partner. LO 11.g

Rank the following from first to last in order of payment at liquidation of a corporation. I. General creditors II. Preferred stock III. Subordinated debentures IV. Accrued taxes

D) IV, I, III, II The complete order of liquidation is as follows: secured debt, debentures and general creditors, subordinated debentures, preferred stock, common stock. LO 5.b

Last week one of your customers placed a good-til-canceled order to sell 200 shares of ABC with an 18 stop when the stock was trading at $18.85. It is now the ex-date for a $0.55 dividend and the order has not yet been executed. What has happened to your customer's stop order? A) It is canceled. B) It is increased to $18.55. C) It remains at $18. D) It is reduced to $17.45.

D) It is reduced to $17.45. Unless the customer has given DNR (do not reduce) instructions, open buy limit orders and open sell stop orders are reduced on the ex-dividend date by the amount of the dividend. LO 16.a

Which of the following would protect a short May 50 call? A) Long Apr 55 call B) Long Apr 45 call C) Long Jun 55 call D) Long Jun 45 call

D) Long Jun 45 call For a long call to cover a short call, it must have the same or lower strike price and the same or longer expiration. This ensures that the investor may purchase the stock without financial loss and deliver it at 50 if the short call is exercised. LO 10.h

Which of the following acts requires full and fair disclosure of all material information about nonexempt securities and debt securities offered to the public for the first time? A) Securities Exchange Act of 1934 B) Trust Indenture Act of 1939 C) Securities Investor Protection Act of 1970 D) Securities Act of 1933

D) Securities Act of 1933 The Securities Act of 1933 regulates new issues of nonexempt securities sold to the public. LO 20.c

A customer would like to set aside some money for his grandson's college education in an IRA account. Which of the following regarding a Coverdell Education Savings Account (ESA) is true? A) The customer may make annual contributions until the grandson graduates from college. B) The customer may take a deduction for the amount contributed. C) The maximum contribution permitted is $3,000 annually. D) The funds must be distributed by the time the grandchild reaches age 30 unless they are rolled over.

D) The funds must be distributed by the time the grandchild reaches age 30 unless they are rolled over. The maximum annual contribution to an ESA is $2,000. Contributions are not deductible and must cease when the beneficiary reaches age 18. Any unused balance must be rolled over or distributed by the time the beneficiary reaches age 30. Amounts not used for one child may be rolled over tax free to the account of another child of the same family only once during any 12-month period. LO 1.g

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

D) Treasury bonds. Interest on Treasury bonds is not taxed at the state or local level. LO 7.e

All of the following may be used to verify a customer's identity except A) a valid passport. B) a current drivers license. C) a valid military ID card. D) a certified birth certificate.

D) a certified birth certificate. Verifying a customer's identity requires presentation of at least one government-issued document with a photograph. Your birth certificate may have had a photo of you as a newborn, but that certainly will not suffice to identify you today. LO 1.d

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

D) a higher rating and greater marketability. Advance or pre-refunding 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. LO 6.d

One of your customers owns 100 shares of GTS common stock. The purchase was made two years ago at a price of $51 per share. GTS has recently declared a 3:2 stock split. At the customer's request, as soon as the new shares are in the account, you sell them and $2,000 from the proceeds of the sale is credited to the customer's account. Based on this information, the tax impact of this transaction is A) a short-term capital gain of $300. B) a long-term capital loss of $1,400. C) a long-term capital loss of $1,333 and a short-term capital loss of $667. D) a long-term capital gain of $300.

D) a long-term capital gain of $300. Immediately after the stock split, the total investment of the initial position remains unchanged at $5,100 (100 shares at $51 per share). After the stock split, the customer owns 150 shares (3/2 times 100 = 150 shares). Therefore, the adjusted cost basis per share is $34 ($5,100 divided by 150 shares). Those 50 shares were sold for $2,000 and have a cost basis of $1,700 ($34 times 50). That is a profit of $300. Alternatively, you could say that 50 shares sold for $2,000 represents a selling price of $40 per share ($2,000 divided by 50 shares), which is a $6 per-share profit ($40 minus the $34 cost basis). Fifty shares times $6 equals a profit of $300. The gain is long-term because the holding period of securities received through a stock split (or stock dividend) is that of the original purchase. If you have to guess, or are running out of time, when you see two identical numbers with the only difference being short- or long-term gain, in almost all questions, one of those two is the correct answer. Now you have a 50% change of guessing correctly and, if you remember that the holding period always begins with the initial purchase, then the odds are 100% in your favor. LO 3.i

According to Municipal Securities Rulemaking Board (MSRB) rules, if a municipal securities broker-dealer receives an advisory fee from an issuer, it must notify, in writing, any of its customers purchasing bonds issued by that municipality of A) a negative outlook from Standard & Poor's. B) the placement ratio. C) all of these. D) any advisory relationship existing between itself and the issuing municipality.

D) any advisory relationship existing between itself and the issuing municipality. MSRB rules require that if a broker-dealer has an advisory relationship with a municipality, that relationship must be disclosed to any of the broker-dealer's clients who are buying bonds issued by the municipality. LO 6.h

If a customer sells $5,000 worth of stock in a restricted margin account, the special memorandum account (SMA) will be A) debited by $5,000. B) debited by $2,500. C) credited by $5,000. D) credited by $2,500.

D) credited by $2,500. When securities are sold in a restricted account, 50% of the proceeds are credited to SMA. In other words, the customer is permitted to remove 50% of the proceeds from the account, but the balance must remain in the account to reduce the debit balance. LO 16.d

The provisions of the Securities Act of 1933 include all of the following except A) regulation of offerings of new securities. B) prohibition of fraud in the sale of new securities. C) the requirement that an issuer provide full and fair disclosure about an offering. D) regulation of the secondary market.

D) regulation of the secondary market. The Securities Act of 1933 regulates new issues of corporate securities sold to the public and is designed to prevent fraud in the sale of newly issued securities. Trading and the secondary markets are regulated under the Securities Exchange Act of 1934. LO 20.c

You are asked to read the prospectus for a new issue of preferred stock for a client. You would expect the prospectus to include A) the FINRA disclaimer statement on the front cover. B) the legal opinion. C) the date the registration statement was filed with appropriate regulatory body. D) the effective date and stated dividend rate.

D) the effective date and stated dividend rate. The prospectus for a preferred stock will include the effective date and dividend information. Remember, preferred stock carries a fixed dividend stated either as a percentage of par or a stated dollar amount. It is the SEC disclaimer that is on the front cover and it is the effective date, not the date of filing that is shown. A legal opinion does not apply to stock. LO 20.c

A $50,000 20-year 7% municipal bond with semi-annual M/S coupon payments is issued on March 1, 2020. The full price for a trade of this bond, with a 7% yield to maturity to settle on June 30, 2020, is closest to A) $51,147.22. B) $51,166.67. C) $51,156.94. D) $52,313.89.

The full price of a bond includes the accrued interest. First, we calculate the number of days of accrued interest. Because this is a municipal bond, each month has 30 days. Accrued interest is always paid up to, but not including, the settlement date. That means 30 days each for March, April, and May (90 days). Because we do not pay accrued interest for June 30, (on settlement date, the new owner is entitled to the entire six months of interest), there are 29 more days, giving us a total of 119 days. You can set it up like this: 6/30 minus 3/01 = 3 months, 29 days = 119 days. The next step is computing the amount of accrued interest in dollars and cents. With a coupon of 7% and semi-annual payments, each payment is 3.5% of the $50,000 par value. That is $1,750 each six months. We are going to solve for 119/180 days' worth of accrued interest. With the test center calculator, multiply $1,750 times 119 and divide the product by 180. The result is accrued interest of $1,156.94. Alternatively, you could find the interest for each day by dividing the semiannual interest of $1,750 by 180 days = $9.72222 per day. Multiply that times 119 days and the product is $1,156.94. Finally, when a bond with a 7% coupon has a yield to maturity of 7%, that tells us the bond is selling at par. All we need to do now is add the accrued interest to the $50,000 par value to arrive at $51,156.94. LO 6.e