Series 7 - Mastery Exam III #1

A customer buys 100M of a newly issued municipal bond in the primary market at 90. The bond has 20 years to maturity. If the bond is held to maturity, the customer will have: A no taxable gain or loss B a $1,000 capital gain C a $10,000 capital gain D a $100,000 capital gain

The best answer is A. The customer is buying a new issue of bonds at a discount. The discount on original issue discount bonds must be accreted. Every year, a portion of the discount is "earned" and is taxed as interest income. In this case, since municipal issues are exempt from Federal income tax, no tax is due. As the bond is accreted, its basis is increased yearly by the accretion amount. At maturity, the bond's cost basis has been accreted to par. Since it is redeemed at par, there is no capital gain or loss at maturity.

Which of the following formations are bullish? I Saucer II Head and Shoulders III Inverted Saucer IV Inverted Head and Shoulders A. I and III B. I and IV C. II and III D. II and IV

The best answer is B. A saucer formation, and an inverted head and shoulders formation, show a market that is bottoming out, and hence are bullish. Both an inverted saucer formation, and a head and shoulders top formation show a market that is "topping out" and hence are bearish.

The "Monetary Environment" is a reflection of all of the following EXCEPT: A money supply levels B stock price levels C monetary policy D fiscal policy

The best answer is B. The "Monetary Environment" is a reflection of whether credit is easy or tight, as shown by interest rate levels, money supply levels, and current economic policies of the Government - that is, fiscal policy.

Which of the following is NOT a liability on a company's balance sheet? A Deferred Taxes Due B Unfunded Pension Amounts C Capitalized Interest D Subordinated notes

The best answer is C. Capitalized interest is an asset that is part of the cost of building. Any interest paid during the construction period cannot be deducted - rather, it is capitalized into the total cost of the building shown as an asset on the company's balance sheet. Deferred taxes due are a liability that occurs when a company uses accelerated depreciation for its tax return, but straight line depreciation for its book financial reporting. The accelerated depreciation deductions reduce the amount of taxes due in the early years; but these taxes must be paid in the later years - so they are shown as a liability due in later years. Unfunded pension amounts are payments owed into the company pension plan to fund expected retirement benefits. These are a liability. Subordinated notes are a liability that has a lower claim in a liquidation than other debt issued by that company.

All of the following options orders to sell calls are permitted EXCEPT a(n): A individual selling naked calls in a discretionary account B investment company selling calls against securities in its portfolio C corporation selling calls against its underlying stock D custodian selling calls against securities in a custodial account

The best answer is C. Issuers are prohibited from selling call options against their underlying stock. If they were exercised, they could simply issue more shares to deliver on the exercise notice, diluting existing stockholders' equity. Furthermore, the issuance of the new shares would require a registration with the SEC. Thus, issuers are prohibited from selling calls against their own stock. There is no prohibition on investment companies selling calls against stocks held in their portfolios - this is a very popular strategy for enhancing income. Custodians can also sell covered calls against securities held in the custodial account to increase income. In a discretionary account, all orders are permitted as long as a written power of attorney is received from the customer and the trades are suitable for the account.

In 2021, a person gives a $100,000 gift to a neighbor. How much of the gift is taxable? A 0 B $15,000 C $85,000 D $100,000

The best answer is C. If a gift is given to anyone other than a spouse (in this case a neighbor), the first $15,000 is excluded from gift tax in 2021. On any amount above this, the donor must pay gift tax. Since this was a $100,000 gift, $85,000 is subject to gift tax. Also note that the amount excluded from tax is indexed for inflation annually.

A customer owns 1,000 shares of XYZZ stock, purchased at $40 per share. The stock is now at $45, and the customer has become extremely bearish on the company. The client asks her representative for an "aggressive recommendation." The client should be told to: A sell 10 XYZZ 45 Call Contracts B buy 10 XYZZ 45 Put Contracts C sell 1,000 shares of XYZZ and buy 10 XYZZ Put Contracts D sell 10 XYZZ 45 Put Contracts

The best answer is C. The customer purchased the stock at $40 and it is now trading at $45. If the customer has turned bearish on the stock, sell the position, taking the $5 per share profit. Since the customer wants an "aggressive recommendation to profit from the expected price decline, buy puts.

A customer sells 1 ABC Jan 50 Call @ $4 when the market price of ABC is $51. The stock then moves to $58 and the customer is assigned. The tax consequence upon exercise is a: A capital loss of $400 B capital gain of $400 C sales proceeds of $5,400 D cost basis of $5,400

The best answer is C. When a call option is exercised by the holder, the Options Clearing Corporation "assigns" the contract to any one of the individuals or firms that sold that option on a random basis. The customer's sales proceeds is the sale price of the stock ($50) plus the premium received ($4) = $54. Notice that this is the same as the breakeven. No taxable event occurs until the stock is bought.

Fines assessed for convictions involving violations of insider trading laws are paid to the: A Department of Justice B Securities and Exchange Commission C Securities Investor Protection Corporation D Department of Treasury

The best answer is D. Fines assessed for insider trading convictions are paid to the Department of Treasury. The fines are not paid to the SEC. If they were, then the SEC might be tempted to "go crazy" prosecuting insider trading cases to pump up its operating budget (raises for everyone!)

CAPM helps investors by: A. selecting stocks with the highest expected return based on the investor's tolerance for risk B. selecting stocks with the lowest expected risk based on the investor's desired return C. measuring incremental return on an investment per unit of incremental risk assumed D. measuring incremental risk on an investment per unit of incremental return assumed

The best answer is A. CAPM is the Capital Asset Pricing Model. It finds the investments that give the greatest expected return based on the level of risk assumed. The CAPM Formula is: Expected Return of An Investment = Risk-Free Rate of Return + Risk Premium* (*Risk Premium is: Beta x Expected Market Return) Note that the key to answering the question is that CAPM finds the "expected return," which is the wording of Choice A.

Which bond offering is required to have a trust indenture under the Trust Indenture Act of 1939? A. Mortgage bond B. Lease rental bond C. School district bond D. Treasury bond

The best answer is A. Corporate bond offerings over $50,000,000 must have a trust indenture under the Trust Indenture Act of 1939. Mortgage bonds are corporate bonds, typically issued by utilities. Municipal bonds such as lease rental bonds and school district bonds are exempt, as are U.S. Government issues.

Which of the following securities is NOT exempt from the Securities Act of 1933? A Industrial Company issues B Benevolent Association issues C Small Business Investment Company issues D Common Carrier issues

The best answer is A. Industrial companies are not exempt from the Securities Act of 1933. Common carriers, small business investment companies, and benevolent associations are all exempt.

Customers A, B, C and D have their portfolio assets allocated as follows: A B C D Money Markets 15% 5% 5% 0% Treasury Bonds 40% 10% 20% 20% Speculative Bonds 10% 30% 10% 30% Blue Chip Equities 15% 15% 20% 10% Small Cap. Equities 10% 10% 30% 5% Emerging Markets 10% 20% 10% 30% REITs 0% 10% 5% 5% Which customer's portfolio is MOST susceptible to interest rate risk? A. Customer A B. Customer B C. Customer C D. Customer D

The best answer is A. Interest rate risk is the risk that rising market interest rates will force bond values to fall. Long term and low coupon bonds are most susceptible to this risk. Thus, Customer A, who has the greatest percentage of assets in Treasury Bonds - which are long term fixed income securities - is most exposed to this risk.

To make a public offering of a Direct Participation Program, which statements are TRUE? I The offering must be registered with the SEC II The offering does not have to be registered with the SEC III The offering is subject to regulation by FINRA IV The offering is not subject to regulation by FINRA A I and III B I and IV C II and III D II and IV

The best answer is A. Public offerings of direct participation programs are "non-exempt" offerings under the Securities Act of 1933, and must be registered. FINRA oversees and regulates the offering of these securities.

Which statement is TRUE regarding Commercial Paper? A Commercial Paper may be sold without a prospectus B Commercial Paper must be sold with a prospectus C Commercial Paper must be sold with an Official Statement D Commercial Paper must be sold with an Offering Memorandum

The best answer is A. Since Commercial Paper is an exempt security under the Securities Act of 1933, it may be sold without a prospectus. The prospectus is the disclosure document for new issues that are not exempt from registration. The Official Statement is the disclosure document for municipal bonds (which are an exempt issue). An Offering Memorandum is the disclosure document for a private placement - which is a security sold in an exempt transaction.

A change in each of the following is a coincident economic indicator EXCEPT: A. Money Supply as measured by M-2 B. Personal income levels C. Index of industrial production D. Employment levels

The best answer is A. The money supply level as measured by M-2 is a leading economic indicator, since if the money supply is rising, there is easy credit, encouraging spending. Personal income levels, the index of industrial production, and employment levels all show current activity and are coincident indicators.

A customer in New Jersey calls a registered representative (agent) in New York and inquires about buying common stock. The customer wishes to place the order. Which statements are TRUE? I The agent must be registered in the State of New York to accept the order II The agent must be registered in the State of New Jersey to accept the order III The agent is not required to be registered in the State of New York to accept the order IV The agent is not required to be registered in the State of New Jersey to accept the order A I and II B III and IV C I and IV D II and III

The best answer is A. This question gets at a fine point of State law. Under State law, there is an "unsolicited transaction exemption" that gives an exemption from State registration to any security involved in an unsolicited transaction. However, it does NOT give an exemption from registration to the agent involved in the transaction! Because the agent is resident in New York, he or she must register there. Because the agent is dealing with a customer in New Jersey, the agent must be registered in New Jersey as well!

Value investors: A seek to find investments that are undervalued by the market B determine the value of a security through fundamental analysis C invest in securities included in the Value Line Index D make their investment decision based upon the market performance of the security

The best answer is A. Value investors believe that the market is not completely efficient at pricing securities and that undervalued securities can be found in the marketplace. Once the market realizes the true worth of these undervalued companies, their prices should rise at a greater rate than the general market.

Under Rule 10b-5-1, pre-arranged trading plans by insiders are: I permitted only if the provisions cannot be altered during the plan's life II permitted only if the provisions can be altered during the plan's life III given a safe harbor to officers and directors against an "insider trading" prosecution if the plan is followed IV given a right of rescission for any trades that are deemed to be a violation of the insider trading rules A I and III B I and IV C II and III D II and IV

The best answer is A. We all know that insiders are prohibited from trading based on material non-public information. In 2000, the SEC issued a "safe-harbor" rule that permits statutory insiders (officers, directors and 10% shareholders) to set up a written plan for trading that company's securities. Such a written plan specifies the future date with amount on which securities are to be bought and sold; or specifies the algorithm to be used for determining the amount and date of future purchases or sales. Once the plan is in force, the "insider" cannot have any further influence on trades effected under the plan. As long as the insider adheres to such a written trading plan, that person is given a "safe harbor" from being accused of using "inside information" as the basis for the trades that occur based on adhering to the plan.

A 6 1/2%, 10-year corporate bond is priced to yield 6%. For an investor in the 28% tax bracket, the equivalent tax free yield is: A 4.32% B 4.68% C 8.33% D 9.07%

The best answer is A. The formula for the equivalent tax free yield is: Equivalent Tax-Free Yield = Taxable Yield x (100% - Tax Bracket %) Taxable Yield = 6% Tax Bracket = 28% Thus, the equivalent tax free yield is = 6% (100% - 28%) = 6% x .72 = 4.32%. Remember that the interest income from municipal bonds is exempt from Federal income tax; whereas the interest income from corporate bonds is subject to Federal income tax. Thus, the corporate yield (taxable) must be equalized to the tax free municipal yield.

A client, age 67, owns his own home free and clear. The customer has an annual income of $25,000, mainly from social security and interest on funds held in a bank savings account. The customer has never invested and is told by his nephew that the technology company that he works for is coming out with a hot new product that will really increase the company's stock price. The BEST recommendation to be made to this client is to: A. do nothing B. only invest enough of his savings account in the technology company's stock so that his reduced income still covers his bills as they come due C. take out a mortgage on his fully paid house and use the proceeds to make the investment in the technology company and then pay off the mortgage from the profits on the investment D. liquidate the entire savings account and use the proceeds to make the technology company investment because the customer can still live on this social security

The best answer is A. This customer is age 67 and has very little income and no other liquid assets. He cannot afford to lose a bunch of money and he should do nothing!

A U.S. investor has realized a $4,000 capital gain on Kingdom of Norway bonds. Which statement is TRUE regarding the taxation of the gain? A. The gain is 100% taxable within the United States at U.S. tax rates B. The gain is 100% taxable within Norway at Norwegian tax rates C. The gain is 100% taxable within the United States at Norwegian tax rates D. The gain is not taxed in the United States

The best answer is A. U.S. holders of foreign securities are subject to Federal (and State) taxation on these holdings. Both the interest income is taxable in the U.S., and any capital gains on these holdings are taxable in the U.S. as well. This is the same treatment as for corporate obligations.

A customer who is retired wants to select an investment that is liquid, marketable, and that provides regular income. The BEST choice would be to recommend: A Treasury Bills B Treasury Notes C Preferred Stock D Certificates of Deposit

The best answer is B. Certificates of Deposit are non-negotiable - they are non-marketable, so this does not meet the client's needs. Preferred stock is marketable, but not as marketable as Treasury securities, making Treasury securities the better choice. So we are left with either a T-Bill or a T-Note. Treasury notes pay interest semi-annually; while Treasury Bills do not provide a regular income stream, so a T-Note is the better choice. (One could argue that buying T-Bills at a discount and letting them mature at par and then rolling over the original investment amount into a new T-Bill purchase will also provide an income stream, but this requires continuous reinvestment on the part of the customer. Buying a T-Note is a completely passive investment in terms of the customer's needs.)

Under FINRA rules, a barrier must be put in place between a member firm's: A institutional sales department and its retail sales department B institutional communications distribution list and its retail communications distribution list C institutional trading desk and its retail trading desk D compliance department and its research department

The best answer is B. If an institutional communication is distributed to any number of retail clients, it is considered to be a "retail communication." This means that instead of being subject to "post use review and approval," it must be approved by a principal prior to distribution. FINRA states that each member firm must have policies and procedures in place "reasonably designed to prevent institutional communications from being forwarded to retail investors." Regarding information barriers for purposes of stopping "insider trading," the firm's investment banking department must be walled off from the other departments of the firm, such as research and trading; and research must be walled off from investment banking and trading. Compliance oversees all firm activities and is not walled off from anything!

Which of the following statement(s) is (are) TRUE regarding options advertising that is not accompanied by the Options Disclosure Document? I It must be approved prior to use by the designated Registered Options Principal II It must be filed prior to use with the exchange III The use of recommendations, or of past or projected performance, is permitted A I only B I and II C II and III D I, II, III

The best answer is B. Options advertising must always be approved by the designated Registered Options Principal (the main office compliance ROP) prior to first use. The BOM (Branch Office Manager) cannot approve options advertising. Any options communication that includes a recommendation; that shows past performance; or that makes a performance projection; must be accompanied or preceded by the ODD. Since this advertisement is not accompanied by the ODD, these are all prohibited. Finally, any options communication with the public that is NOT accompanied or preceded by the ODD must be filed with the Exchange at least 10 days in advance of use. Translated, this means that options advertising must be filed with the Exchange, but options sales literature is not required to be filed.

A director of a publicly held company wants to sell 5,000 registered shares of that company's stock at $8 per share that she has held for 3 months. Does the Form 144 filing requirement apply to this sale? A. Yes, because any sale of shares by a director requires the filing of a Form 144 B. No, because the shares are being sold under a "de minimis" exemption C. Yes, because she has not held the shares for 6 months D. No, because the shares are not restricted

The best answer is B. Rule 144 includes a "de minimis" exemption, permitting the sale every 3 months of 5,000 shares or less, worth $50,000 or less, without having to file a Form 144. The transfer agent is authorized by the SEC to transfer the shares without a copy of the Form 144. Because this sale is 5,000 shares @ $8 = $40,000, it can be done under this exemption. Rule 144 applies to the public resale of restricted (unregistered private placement) stock and to the sale of registered control shares. Control shares are registered shares owned by a key officer or director. These do not have to complete the 6 month holding period requirement because they are registered, but to sell them, the officer must file a Form 144 Notice of Sale and is subject to the rule's volume restrictions.

A registered representative has managed the account of her client for over 10 years. The client recommends her mother to the registered representative as a potential client. Mom, age 65, has just moved out of her house into a smaller condominium, and has netted a $200,000 profit from doing this. The client tells the representative that her mother should invest conservatively. When the representative reaches out to the mother, she tells her that she is retired and that her current pension, plus social security that will be received in a few years, will give her more income than she needs. She wants to invest the $200,000 for growth, with the intention of leaving that money to her grandchildren when she dies. What would be the best recommendation? A Zero-coupon bonds B Aggressive growth fund C Intermediate term bond fund D Corporate income fund

The best answer is B. Since it is the mother's money and the mother's account, the investment objective to be followed is that of the mother - she wants the money invested for growth, with that investment going to her grandchildren when she dies. The investments that provide growth are equities, and an aggressive growth fund would invest more heavily in technology and emerging industries. That is fine for long-term investing, with an investment time horizon that is actually determined by the grandchildren's needs after the grandmother dies. Choices C and D are fixed income funds - they do not offer growth. Zero coupon bonds are not a bad choice but the "imputed income" is taxable each year, even though no money is received from the issuer until maturity. These are really only suitable for retirement accounts, where the holding vehicle is tax deferred. That is not the case with this investment account.

Which statements are TRUE? I Strategic portfolio management is the determination of the asset allocation percentages among different asset classes in the portfolio II Strategic portfolio management is the determination of the permitted variance within each asset allocation percentage assigned to a specific asset class III Tactical portfolio management is the determination of the asset allocation percentages among different asset classes in the portfolio IV Tactical portfolio management is the determination of the permitted variance within each asset allocation percentage assigned to a specific asset class A. I and III B. I and IV C II and III D II and IV

The best answer is B. Strategic portfolio management is the determination of the percentage allocation to be given to each asset class - for example a portfolio might be strategically allocated as follows: Money Market Instruments 10% Corporate Bonds 30% Large Cap Equities 50% Small Cap Equities 10% Tactical asset management is the permitted variance within each allocation percentage. For example, Large Cap equities are allocated 50%, but the manager may be tactically allowed to lower this percentage to, say, 40% or raise it to 60%. Thus, if the manager believes that Large Cap equities will under-perform the market, he or she can lower the allocation to 40%; and if the manager believes that they will outperform the market, he or she can raise the allocation to 60%. This gives the manager some ability to "time the market" when conditions are overbought or oversold.

What would NOT be disclosed in the Offering Memorandum prepared for an Equipment Leasing Limited Partnership that has a life of 7 years? A. The assets to be acquired by the partnership B. The partnership's performance over the preceding 7 years C. The partnership's projected returns over the upcoming 7 years D. The name and industry background of the general partner in the venture

The best answer is B. The Offering Memorandum is the disclosure document that is given to potential investors. It describes the business of the partnership, the management of the partnership, the assets to be purchased by the partnership, the minimum investment amount, fees paid to the underwriter, etc. It also includes an important section that gives a projection of the revenues and expenses, along with the annual cash flow, that the partnership expects to generate. This is evaluated to find the "cross-over" point in the partnership - the point where the partnership "crosses over" from generating losses to actually generating income.

The largest component of the Standard and Poor's 500 Average is the: A. utilities B. technology C. Consumer staples D. industrials

The best answer is B. The S&P 500 Index was "recategorized" about 15 years ago into different sectors to allow the creation of "Sector SPDRs" - index funds based on these sectors. The new breakdown, by approximate size, is: Technology 24% Financials 15% Healthcare 14% Consumer Discretionary 12% Industrials 10% Consumer Staples 9% Energy 6% Utilities 3%

An investor has a long-term investment time horizon, no liquidity needs and is very risk averse. Your main concern when making a recommendation to this client is: A. preservation of capital B. safety of principal C. continuing income D. adequate yield

The best answer is B. This client has no liquidity needs, so Choices C and D - continuing income and adequate yield, are not concerns. So it comes down to whether the main concern is preservation of capital or safety of principal. Preservation of capital is a concern for client who has no buffer if investment values decline. Such a client cannot afford to lose any money and should only be recommended CDs and money market funds as an investment. Because this client has "no liquidity needs," he or she is not in this situation. Safety of principal is the better answer as a "concern." This type of client doesn't want his or her principal put at risk - he or she is just averse to taking on risk, but can afford to do so. Such a client could be recommended CDs, money market funds, short term bonds and laddered bond portfolios.

Which of the following are violations of FINRA rules? I Recommending the purchase of put options to protect a stock position from a downwards market move II Sharing in the profits and losses of a customer's account III Selling exempted securities to a customer with a written agreement to buy back the securities at a later date IV Orally guaranteeing to buy back customer securities at a preset price A I and III B II and IV C I, II, IV D I, II, III, IV

The best answer is B. A registered representative cannot guarantee a customer's account against loss nor share in the account unless he or she opens a joint account with the customer; contributes capital proportional to any sharing agreement; and obtains the approval of a principal for the account. Selling exempted securities such as U.S. Governments with a written agreement to buy them back at a later date is a "repurchase" agreement, and is allowed (however, such repurchase agreements are typically for very large amounts, and are entered into by U.S. Government securities dealers). Recommending the purchase of a put option to protect against a downwards market move is perfectly acceptable, since that is what the option will do, and thus does not violate FINRA rules.

Accelerated depreciation deductions: I increase reported income in later years II decrease reported income in later years III increase reported expenses in later years IV decrease reported expenses in later years A I and III B I and IV C II and III D II and IV

The best answer is B. Accelerated depreciation deductions, when compared to straight-line depreciation deductions, are "front loaded." The depreciation deduction is higher in earlier years; but the deduction is lower in later years (as compared to straight line depreciation). Because there are higher deductions in the earlier years, this will reduce reported income in those years; while the lower deductions in later years will increase reported income for those years.

A registered representative at a member firm only deals in stocks and other equity investments. The registered representative helps an associate at that firm negotiate an underwriting of municipal bonds with a municipal issuer official that he knows very well from other business dealings. He does this as a 1-time event and is paid a finder's fee for his help. Which statement is TRUE? A. Because this was a 1-time event, the registered representative is not considered to be a Municipal Finance Professional and is not subject to the political contribution rule B. The registered representative is considered to be a Municipal Finance Professional and is subject to the political contribution rule C. Any registered representative at a member firm is defined as Municipal Finance Professional and is subject to the political contribution rule D. Any registered representative at a member firm is excluded from the definition of a Municipal Finance Professional and is exempt from the political contribution rule

The best answer is B. An "MFP" - a Municipal Finance Professional - is an associated person who solicits business from municipal issuers, renders financial advisory services to municipal issuers, or who performs research or writes reports on municipal issues. Because the representative was paid a finder's fee for helping get the municipal underwriting business from the issuer, that registered representative is defined as an MFP and comes under the $250 political contribution limit.

A municipal dealer places an order for $100,000 of new issue G.O. bonds, M '35 with the syndicate manager. The bonds will be placed in an "accumulation account" for a unit investment trust being established by the syndicate member. Which statement(s) is (are) TRUE? I The syndicate member must disclose to the manager that the bonds are being purchased for an accumulation account II The manager will disclose the order to the other syndicate members when the syndicate account is closed III The order will be treated as a "syndicate" order by the manager A I only B I and II C II and III D I, II, III

The best answer is B. An order placed with the syndicate by a member for an "accumulation account" being managed by that member is unusual in that the bonds are not being sold to the general public. They really are being retained by a syndicate member for his own use. The syndicate member must disclose this to the manager when the order is placed; the manager will disclose any of these orders that have been filled to the other syndicate members when the account is closed; and the manager will fill these orders last- meaning they get priority after pre-sale, group (syndicate), and designated orders. They are treated as member takedown orders, and if there is sufficient interest in the issue, would not be filled because of the other orders with higher priority.

What portfolio construction is most appropriate for a retired school teacher who is age 60? A 100% common stocks B 40% common stock / 60% bonds C 60% common stock / 40% bonds D 100% bonds

The best answer is B. As one gets older, portfolio composition should shift to "safer" assets that generate reliable income. The general rule is to take "100 minus the investor's age" to get the appropriate investment portion to be held in stocks. Since this investor is age 60, this gives 40% of the portfolio holding in stocks; with the remaining 60% of the holding in bonds. Note that a 100% bond holding is not appropriate because people are living much longer and they need the "extra return" that is provided by stocks that can grow in value, on top of the somewhat lower fixed return provided by bonds.

Net tangible asset value of common stock is synonymous with which of the following? A Stated Value B Book Value C Par Value D Market Value

The best answer is B. Book value of a company is synonymous with Net tangible asset value - which is all assets minus intangibles and minus all liabilities. Net Tangible Asset Value = All Assets - (All Liabilities + intangibles) It is a measure of liquidation value of the company.

A customer, age 69, has never invested in securities. She is retired with no dependents, living on a fixed pension of $35,000 per year. She has a savings account with $160,000 and her home is fully paid. She desires to supplement her retirement income, assuming minimal risk. The BEST recommendation would be for the customer to invest $100,000 of her cash savings into a(n): A variable annuity contract B CMO planned amortization class tranche C SPDR D income (adjustment) bond

The best answer is B. CMO planned amortization classes give a good yield that is 50 or so basis points higher than equivalent maturity Treasuries and are extremely safe. These meet the customer's objective of additional income with low risk. Since this customer is only earning $35,000 per year, she is in a low tax bracket - making tax-deferred variable annuities unattractive. SPDRs - Standard and Poor's 500 Depository Receipts are an exchange traded fund that consists of equities - which don't provide much income. Income bonds only pay interest if the corporation has enough "income" - so these are not appropriate either.

Which of the following is (are) taxable in the year of receipt? I Interest earned from investments II Cash dividends from investments III Stock dividends from investments IV Stock splits on investments A. I only B. I and II C. III and IV D. I, II, III, IV

The best answer is B. Cash dividends and interest are taxable each year (unless the interest is exempt). Stock dividends and stock splits are treated as a "return of capital." The cost basis of the shares is reduced proportionately and the number of shares is increased for the stock dividend or stock split.

Which of the following are included in the taxable income of a corporation? I Dividends received from foreign investments II Gain on the sale of a capital asset III Proceeds received from an initial public offering IV Refunds of tax overpayments A II only B I and II C I and III D I, II, III, IV

The best answer is B. Dividends received from any investments (domestic or foreign), and gains on any asset held for investment are taxable. Please note, however, that part of dividends received by corporate investors are subject to an exclusion from tax. The proceeds received by a corporation from issuing debt or stock are not taxable (Are you taxed on the amount borrowed if you take out a loan to buy a car or house? NO.) Refunds of tax overpayments are not taxable, since they are not income.

During prolonged periods of economic recession, interest rates can be expected to: A increase B decrease C remain stable D move independently of the economic cycle

The best answer is B. During prolonged periods of recession, interest rates drop. This occurs because the Federal Reserve loosens credit to get the economy moving again; and because demand for loans falls as business activity drops.

Enforcement of MSRB rules for bank dealers is performed by all of the following EXCEPT the: A Office of Comptroller of Currency B Municipal Securities Rulemaking Board C Federal Reserve Board D Federal Deposit Insurance Corporation

The best answer is B. Enforcement of MSRB rules for bank dealers that are not registered as broker-dealers with FINRA is performed by the bank regulatory bodies - the Office of Comptroller of Currency; the Federal Reserve; and the Federal Deposit Insurance Corporation. Note that the MSRB writes rules for municipal market participants; but cannot enforce its own rules. It relies on the existing enforcement network for this.

A high P/E stock would be a suitable investment for which of the following investors? A. A recent college graduate who is currently renting an apartment and who wishes to buy a house in 5 to 10 years B. A recently retired client who has a comfortable level of income from her pension, does not need additional income and is looking for aggressive investing C. A young married couple with 3 children ages 10, 12, and 14, who have minimal savings but wish to start putting away money to pay for their kids' college education D. A middle-aged single man who was just diagnosed with a disabling medical condition that will likely require him to need nursing care for his remaining lifespan that is not covered by his medical insurance

The best answer is B. High P/E stocks are risky. These are high growth stocks that typically pay minimal dividends, and which are expected to grow rapidly in the future. If their growth starts to slow, the price of these stocks can fall dramatically - a risk that should not be assumed in Choices A, C, and D. In Choice B, the customer has plenty of income and wants to take on risk - so a high P/E stock recommendation meets her objective.

If a new issue municipal bond is purchased at a discount, which statement is TRUE? A The basis of the bond stays the same throughout the life of the bond B The basis of the bond increases proportionately throughout the life of the bond C The basis of the bond decreases proportionately throughout the life of the bond D The basis of the bond changes in response to market interest rate movements

The best answer is B. If a customer buys a new issue municipal bond at a discount, the discount must be accreted. Every year, a portion of the discount is "earned." As the bond is accreted, its cost basis is increased proportionately every year by the accretion amount. At maturity, the bond's cost basis has been accreted to par.

All of the following are included in the 10 leading economic indicators EXCEPT: A Building Permits B Index of Industrial Production C Standard and Poor's 500 Index D Initial Unemployment Claims

The best answer is B. Leading economic indicators include building permit levels (since the buildings will be built in the coming months), the Standard and Poor's 500 index (as stock prices rise, people feel richer and spend more), and initial unemployment claims (high levels indicate future production cutbacks). The index of industrial production is a coincident indicator since it shows current production levels.

A customer has a $1,000,000 portfolio that is invested in the following: $200,000 Blue Chip Stocks $200,000 Technology Stocks $200,000 Long Term Investment Grade Bonds $200,000 High Yield Bonds $200,000 REITs The portfolio is LEAST susceptible to: A interest rate risk B political risk C market risk D default risk

The best answer is B. Notice that the portfolio has no foreign stocks and only has US stocks. Thus, the portfolio is least susceptible to political risk. Foreign stocks have political risk - e.g., you have bought stocks in companies based in Russia, and the Russian government decides to nationalize some of your stock holdings! U.S. stock holdings do not have political risk. This portfolio has interest rate risk because it holds long term bonds. It has market risk because it holds stocks. And it has a good deal of default risk because it holds high yield (junk) bonds.

NYSE MARKET DIARY Yesterday Prev. Day Advanced 1677 827 Declined 863 1757 Unchanged 455 388 Total Issues 2995 2972 New Highs 31 13 New Lows 11 78 The ratio of advances to declines that occurred yesterday is: A. 1 : 2 B. 2 : 1 C. 3 : 2 D. 7 : 2

The best answer is B. Notice that the question specifies "yesterday" and NOT "Pre. Day" 1,677 issues advanced against 863 issues declined, for a ratio of advances to declines of 1.94, which is rounded to a 2:1 ratio. This is a bullish sign.

Investing in a manner that will emulate the performance of the S&P 500 Index as closely as possible is an example of: A active management B passive management C fundamental analysis D technical analysis

The best answer is B. Passive asset management is simply matching a portfolio composition to a recognized index. This is also called benchmarking. The intent is to earn the return of the index, with the theory being that no one can outperform the market over a long period of time. In contrast, active asset management employs a manager to actively decide what to buy and what to sell to produce a superior return. Active management is more expensive than passive management.

A director of a publicly held company wants to sell 5,000 registered shares of that company's stock at $8 per share that she has held for 3 months. Does the Form 144 filing requirement apply to this sale? A Yes, because any sale of shares by a director requires the filing of a Form 144 B No, because the shares are being sold under a "de minimis" exemption C Yes, because she has not held the shares for 6 months D No, because the shares are not restricted

The best answer is B. Rule 144 includes a "de minimis" exemption, permitting the sale every 3 months of 5,000 shares or less, worth $50,000 or less, without having to file a Form 144. The transfer agent is authorized by the SEC to transfer the shares without a copy of the Form 144. Because this sale is 5,000 shares @ $8 = $40,000, it can be done under this exemption. Rule 144 applies to the public resale of restricted (unregistered private placement) stock and to the sale of registered control shares. Control shares are registered shares owned by a key officer or director. These do not have to complete the 6 month holding period requirement because they are registered, but to sell them, the officer must file a Form 144 Notice of Sale and is subject to the rule's volume restrictions.

The Vice-President of ACME Corporation, an NYSE listed firm, places an order to buy 10,000 shares of ACME common at the market. 3 months later, ACME stock's price has increased by 20% and the officer places an order to sell. Which statements are TRUE? I The sale of the stock is subject to Rule 144 II The stock cannot be sold unless it has been held, fully paid, for 6 months III The sale is prohibited until a "waiver of liability" has been obtained from the issuer IV The officer must forfeit the profit on the sale A I and II only B I and IV only C II and III only D I, II, III, IV

The best answer is B. Since the seller is an officer of that company, he is a control person under Rule 144, and any sales must conform with the Rule. Rule 144 requires that restricted shares be held for 6 months, fully paid, before being sold. Since these shares are registered, they are not "restricted" and the 6-month holding period requirement does not apply. There is no requirement for a "waiver of liability" from the issuer. Since the officer did not hold the appreciated securities for at least 6 months, he or she has a "short swing" profit that must be paid back to the issuer under the Securities Exchange Act of 1934 "Insider" rules

Capital Asset Pricing Theory is used to identify investments that give the: A lowest expected level of return for the level of risk assumed B highest expected level of return for the level of risk assumed C lowest beta coefficient as companies are added to the portfolio D highest beta coefficient as companies are added to the portfolio

The best answer is B. The Capital Asset Pricing Model is a methodology for finding the most efficient investments - those that give the greatest return for the amount of risk assumed. The model identifies the most efficient investments as those that give a rate of return equal to the "risk-free" rate of return (the rate of return for investments only having systematic risk) plus a premium for any non-systematic risk inherent in the investment.

The Dow Jones Transportations Average consists of which of the following? A. 15 stocks B. 20 stocks C. 30 stocks D. 65 stocks

The best answer is B. The Dow Jones Averages consists of 65 stocks - 30 industrials, 20 transportations and 15 utilities. Thus, the Dow Jones Transportations Average has 20 stocks.

The Regulatory Element component of the "Continuing Education" requirement must be completed: I on the registrant's 2nd anniversary of registration II on the registrant's 3rd anniversary of registration III every 2 years after the initial review IV every 3 years after the initial review A I and III B I and IV C II and III D II and IV

The best answer is B. The Regulatory Element of the Continuing Education requirement must be completed by registered persons on their 2nd anniversary of registration and every 3rd year thereafter. This involves completing a computerized "training experience" that covers relevant rules and regulations.

The ultimate authority for determining the amount of the discount that must be accreted on municipal market discount bonds is (the): A MSRB - Municipal Securities Rulemaking Board B IRS - Internal Revenue Service C SEC - Securities and Exchange Commission D FINRA - Financial Industry Regulatory Authority

The best answer is B. The final determination of the amount of discount that must be accreted on any (municipal, corporate, and Government) original issue discount bond is made by the Internal Revenue Service.

A registered representative is considering prospecting a wealthy family member to see if she will open a brokerage account at his firm. The registered representative checks the National Do-Not-Call List and finds the family member there. The registered representative checks the firm's Do-Not-Call list and does not find the family member there. Which statement is TRUE? A This prospect cannot be called by the registered representative B This prospect can be called by the registered representative C This prospect can only be called by the registered representative between the hours of 8:00 AM and 9:00 PM D This prospect can only be called by the registered representative with written approval of the #24 General Principal

The best answer is B. There are 3 exceptions provided for cold calls to individuals that are on the National Do-Not-Call list. These are the: 1. Established Business Relationship (EBR) Exception; 2. Prior Express Written Consent Exception; and 3. Personal Relationship With The Associated Person Exception. Because this prospect is a family member, she comes under the "personal relationship" exemption, as long as she is not on the firm's Do-Not-Call list - which is the case here. Note that if the family member were on the firm's Do-Not-Call list, then she could not be solicited.

A retired married customer, age 73, has a portfolio that is invested in Blue Chip stocks and Treasury bonds that provides current income. The customer is concerned that he is paying a very high Federal and State combined income tax rate. An appropriate recommendation for this customer would be to diversify part of his portfolio into an investment in: A tax-qualified annuities B municipal bonds C securities held in offshore accounts D short-term promissory notes

The best answer is B. This customer is concerned about paying a high Federal income tax rate and a high State income tax rate. By purchasing municipal bonds of his State of residence, the income from those bonds would be free of Federal, State and Local income taxes. This customer is too old to be able to contribute to tax-qualified retirement plans (the cut-off is age 72), making Choice A incorrect. Note that the customer could buy a non-tax qualified annuity, but the income from the annuity would be taxable anyway. The income from securities held in offshore accounts must still be reported on the customer's U.S. tax return and taxes paid in the U.S. on that income. Finally, the income from promissory notes is fully taxable at the Federal and State levels.

Interest income from all of the following municipal issues would likely be included as a tax preference item in the Alternative Minimum Tax computation EXCEPT: A Private Purpose Bonds B School District Bonds C Industrial Revenue Bonds D Redevelopment Bonds

The best answer is B. The interest income from non-essential private use municipal bond issues is included as a "tax preference" item in the Alternative Minimum Tax. Both School District Bonds and Public Housing bonds are considered to be "essential public uses" and are not subject to AMT. Industrial Revenue Bond issues are used to finance construction of plants for corporate lessors and are "private use." Redevelopment bond issues are used to finance rehabilitation of plant and offices, typically for corporate use, and also are considered to be "private purpose."

An officer of a listed company calls his registered representative and tells him to buy a large block of that stock. Prior to placing the order to buy, the registered representative calls ten of his customers and tells them to buy that company's stock. Which statement is TRUE? A This action is permitted under SEC rules B This action is a violation of the insider trading rules C This action is an ethical business practice D This action is beneficial to the customer, and thus is allowed

The best answer is B. When the registered representative received the buy order from the officer, he is obligated to execute that order before acting on the information he has received. Once the order is executed, it is public information. At this point, he can trade for himself or his customers, and he is no longer considered to be an "insider." In effect, the registered representative is "front running" the officer by telling his other customers to buy before placing the officer's buy order. This is a violation of the Securities Exchange Act Rule 10b-5.

Two years ago, a customer purchased 1,000 shares of ABC stock at $45 per share. The stock has appreciated in value and is currently worth $60,000. The company announces that it is spinning off a subsidiary, DEF, to its shareholders. The value of the new company being spun off equals 5% of the old company. The customer will have: A $45,000 cost basis in ABC; $0 cost basis in DEF B $42,750 cost basis in ABC; $2,250 cost basis in DEF C $60,000 cost basis in ABC; $0 cost basis in DEF D $57,000 cost basis in ABC; $3,000 cost basis in DEF

The best answer is B. The aggregate cost basis does not change in a spin-off. The original investment in ABC stock had a cost basis of $45,000. The 5% spin off means that 5% of this value is now attributed to the newly spun-off DEF shares = $2,250. The remaining value of the ABC shares is $45,000 - $2,250 = $42,750. The current market value has nothing to do with cost basis.

A self-employed individual makes $200,000 per year. To which type of retirement plan can the maximum contribution be made? A. Traditional IRA B. Roth IRA C. SEP IRA D. SIMPLE IRA

The best answer is C. A SEP (Simplified Employee Pension) IRA is usually set up by small business because it simplifies all of the recordkeeping associated with retirement plans (though there actually no limit of the size of the company to open up a SEP IRA). Contribution amounts made by the employer cannot exceed 25% (statutory rate; effective rate is 20%) of the employee's income, up to a maximum of $58,000 in 2021. SIMPLE IRAs also are relatively "simple" for a business to set up, but they only allow a maximum contribution of $13,500 (in 2021). So the SEP IRA is better. In contrast, the maximum contribution to either a Traditional or Roth IRA in 2021 is $6,000 (plus an extra $1,000 catch-up contribution for individuals age 50 or older). Also note that because this individual is a high-earner, he or she cannot open a Roth IRA.

A customer calls her registered representative and says the following: "I'm looking for a safe investment for $100,000 that I have, that will give me a moderate level of income. I have 2 children, ages 12 and 13, and I will need to use these monies to pay for their college education, starting in 5 years." All of the following recommendations would be suitable EXCEPT: A Treasury bond mutual fund B Treasury bonds with 5, 6, 7, 8, and 9 year maturities C GNMA pass-through certificates with 5, 6, 7, 8, and 9 year maturities D FNMA debentures with 5, 6, 7, 8, and 9 year maturities

The best answer is C. GNMA pass-through certificates represent an ownership interest in a pool of underlying mortgages. Each month, the mortgage payments made into the pool are "passed through" to the certificate holders. If interest rates drop, then the homeowners in the pool will refinance their mortgages and prepay their old higher rate mortgages. These prepayments are passed through to the certificate holders, who are paid off much earlier than expected. If these payments are reinvested, since interest rates have fallen, the overall rate of return falls, and the anticipated monies needed to fund the college education will not be available. Prepayment risk does not exist with conventional debt securities.

Which SEC rule gives an exemption to offerings of no more than $50 million within a 12 month time frame? A. Rule 144 B. Rule 144A C. Regulation A D. Regulation D

The best answer is C. Regulation A is intended to make it easier for start-up companies to raise capital. It gives an exemption from full registration for offerings of up to $50 million within a 12 month period. The rule is split into Tier 1 and Tier 2. Tier 1 offerings, up to a maximum amount of $20 million, are given the easiest registration method and do not require audited financial statements. Tier 2 offerings allow a maximum of $50 million to be raised, but require audited financial statements. Tier 2 issues are also called Regulation A+ issues and can be exchange listed. Form 1-A is filed with the SEC to claim the exemption. It gives disclosure about the issue and a "20 day review period" must be completed before the issue can be sold. Disclosure to investors is made through an Offering Circular rather than a Prospectus.

Which SEC rule gives an exemption to offerings of no more than $50 million within a 12 month time frame? A. Rule 144 B. Rule 144A C. Regulation A D. Regulation D

The best answer is C. Regulation A is intended to make it easier for start-up companies to raise capital. It gives an exemption from full registration for offerings of up to $50 million within a 12 month period. The rule is split into Tier 1 and Tier 2. Tier 1 offerings, up to a maximum amount of $20 million, are given the easiest registration method and do not require audited financial statements. Tier 2 offerings allow a maximum of $50 million to be raised, but require audited financial statements. Tier 2 issues are also called Regulation A+ issues and can be exchange listed. Form 1-A is filed with the SEC to claim the exemption. It gives disclosure about the issue and a "20 day review period" must be completed before the issue can be sold. Disclosure to investors is made through an Offering Circular rather than a Prospectus.

ABC corporation has 18,000,000 shares outstanding. An officer of ABC wishes to sell ABC stock on November 15th under Rule 144. The prior weeks' trading volumes are: Week Ending Volume Nov. 12th 175,000 shares Nov. 5th 185,000 shares Oct. 30th 180,000 shares Oct. 23rd 170,000 shares Oct. 16th 205,000 shares If the Form 144 is filed on November 15th, the maximum sale is: A 175,000 shares B 177,500 shares C 180,000 shares D 185,000 shares

The best answer is C. Rule 144 limits public sales of restricted shares to the greater of 1% of the outstanding shares; or the weekly average of the prior 4 weeks' trading volume. 1% of outstanding shares = 1% of 18,000,000 = 180,000 shares OR: 175,000 + 185,000 + 180,000 + 170,000 = 710,000 / 4 weeks = 177,500 shares The greater amount, 180,000 shares, can be sold during the next 90 days.

A client account shows the following activity: Purch Date Position Price 1/20/2021 200 ABC $42 1/22/2021 300 XYZ $38 1/29/2021 400 DEF $57 Sale Date Position Price 3/21/2021 100 XYZ $72 3/24/2021 200 DEF $55 As of the current date, the market value of ABC is $50 per share; XYZ is at $48 per share and DEF is at $56 per share. Based on this activity, as of the current date, the customer has a: A. realized gain of $3,000 and an unrealized gain of $7,400 B. realized gain of $7,400 and an unrealized gain of $3,000 C. realized gain of $3,000 and an unrealized gain of $3,400 D. realized gain of $3,400 and an unrealized gain of $3,000

The best answer is C. The customer bought 200 shares of ABC at $42 and still holds the position. Since ABC is now valued at $50, there is an $8 per share unrealized gain x 200 shares = $1,600 unrealized gain on ABC. The customer bought 300 shares of XYZ at $38 per share. Then the customer sold 100 XYZ shares at $72, for a $34 per share realized gain x 100 shares = $3,400 realized gain on XYZ. The remaining 200 shares of XYZ are now valued at $48 per share, for a $10 per share unrealized gain x 200 shares = $2,000 unrealized gain on XYZ. The customer bought 400 shares of DEF at $57 per share. Then the customer sold 200 DEF shares at $55, for a $2 per share realized loss x 200 shares = $400 realized loss. The remaining 200 DEF shares are now valued at $56 per share, for a $1 unrealized loss per share x 200 shares = -$200 unrealized loss on DEF. The total realized gain or loss is: $3,400 realized gain on ABC - $400 realized loss on DEF = $3,000 net realized gain. The total unrealized gain or loss is: $1,600 unrealized gain on ABC + $2,000 unrealized gain or XYZ - $200 unrealized loss of DEF = $3,400 unrealized gain.

Rule 105 of Regulation M, covering transactions that occur in the secondary market during the 20-day cooling off period for "add on" securities offerings, requires that any short sales of the issue that occur: A. 5 business days prior to the effective date be effected on an upbid B. 20 business days prior to the effective date be effected on an upbid C. 5 business days prior to the effective date cannot be covered by purchasing the issue from the syndicate D. 20 business days prior to the effective date cannot be covered by purchasing the issue from the syndicate

The best answer is C. SEC Regulation M (Rules 101-105) covers secondary market activities related to registered public offerings, and addresses such items as prohibitions or limits on syndicate members buying the stock in the secondary market during the 20-day cooling off period (this is for add-on offerings); stabilization rules (because stabilizing bids are placed in the secondary market); and also, under Rule 105, addresses a rather nasty market manipulation that occurred in secondary offerings. Prior to the adoption of this rule, a common trading practice was for overly aggressive independent traders to short that stock in the market - pushing the price down during the 20-day cooling off period. The fall in the market price would force the underwriters to lower the Public Offering Price of the issue. Thus, when registration became effective, the independent trading firms could buy the issue from the underwriters at the lower P.O.P., cover their short positions, and have a nice profit. The problem was, however, that this activity was clearly manipulative. The SEC took a dim view of this activity, and under Rule 105, prohibits broker-dealers from purchasing shares of stock from the underwriters at the offering price to cover short positions established within 5 business days of the effective date.

All of the following securities are exempt from the registration provisions of the Securities Act of 1933 EXCEPT: A. U.S. Government bonds B. Government National Mortgage Association Pass Through certificates C. Collateral Trust certificate D. General Obligation bonds

The best answer is C. Securities that are exempt from the registration provisions of the Securities Act of 1933 are principally governmental debt issues, including U.S. Government debt, U.S. Government agency debt, such as Ginnie Mae debt, and municipal debt such as general obligation bonds. Collateral trust certificates are issued by corporations, where the stock of a subsidiary is put up as collateral for the bond issue. This is a non-exempt security.

Which statement is TRUE about capital gains taxes? A gain on a security held over: A 6 months is taxed at a lower rate than a gain on a security held over 3 months B 9 months is taxed at a lower rate than a gain on a security held over 6 months C 12 months is taxed at a lower rate than a gain on a security held over 9 months D 15 months is taxed at a lower rate than a gain on a security held over 12 months

The best answer is C. The maximum tax rate on short term capital gains (a gain on an asset held 12 months or less) is 37% (the maximum individual tax rate). For assets held over 12 months, the maximum tax rate drops to 15%. (Note that this rate is raised to 20% for taxpayers in the highest tax bracket.)

A 68-year old new customer has investment objectives of preservation of capital and income in retirement. The customer has a low risk tolerance and is in the 35% marginal federal tax bracket and is in the 10% state tax bracket. Which investment recommendation would be most suitable for this client? A Investment grade corporate bonds with long maturities B Preferred stocks of blue chip companies C Pre-refunded general obligation bonds D General obligation bonds that have been escrowed to maturity

The best answer is C. This customer with a low risk tolerance is looking for preservation of capital and income in retirement. While long-term investment grade corporate bonds will give interest income, they are also highly susceptible to interest rate risk - if market interest rates go up, long time bond prices fall faster than short term bond prices - so this does not meet the customer's other objective of preservation of capital. Preferred stocks of blue chip companies will also provide dividend income that will be taxed at a preferential rate (15%) for this customer in a high federal tax bracket. However, preferred stock has no stated maturity, so it will pay for as long as the company is in business. This is the longest maturity, and as a fixed income security, it is subject to the highest level of interest rate risk. So this also does not meet the customer's objective of preservation of capital. Tax-free municipal bonds would be suitable for a customer is such a high tax bracket. Pre-refunded municipal bonds have been escrowed by the issuer with Treasury or Agency securities to be retired at the near-term call date. These are the safest municipal bonds (AAA rated) and also the shortest maturity of the choices offered. This meets the customer's 2 objectives - income and safety or principal, because the bond's life has been shortened to the nearest call date. In contrast, a municipal bond that has been escrowed to maturity with Treasury or Agency securities is safe (AAA rated), but it will be redeemed at maturity, not at an earlier call date. It will have a higher level of interest rate risk than a pre-refunded bond.

A customer has invested $200,000 in a CMO. In the first year, the customer receives $30,000 of payments, which consist of $20,000 of interest and $10,000 of principal. Which statement is TRUE? A. All $30,000 received is not taxable B. All $30,000 received is taxable C. The $10,000 of principal is not taxable and the $20,000 of interest is taxable D. The $10,000 of principal is taxable and the $20,000 of interest is not taxable

The best answer is C. A CMO (Collateralized Mortgage Obligation) passes-through the monthly mortgage payments to the certificate holders. The monthly mortgage payment is a combined payment of principal and interest, and the principal received reduces the outstanding principal (debt) amount. Only the interest component received is taxable; the principal component is a return of original investment.

Under IRS rules, if a customer selling shares of stock wishes to use specific identification instead of FIFO for cost basis reporting, the broker-dealer effecting the trade must be notified of this no later than: A Trade Date B Confirmation Date C Settlement Date D Statement Date

The best answer is C. If a customer says nothing at the time of a stock sale, IRS rules requires that FIFO be used to determine which shares are sold. If the customer wishes to use specific identification instead, this must be chosen by the customer no later than settlement date.

Which of the following statements are TRUE regarding electronic communications sent by registered representatives at member firms that have a communications compliance program in place? I Registered representatives must be trained by the firm about what content is permitted in such communications II Registered representative communications must be supervised and reviewed by the member firm III Registered representative communications must be approved in advance by the member firm IV Registered representative communications may only be sent from a location supervised by the member firm A I and II only B III and IV only C I, II, IV D I, II, III, IV

The best answer is C. If a member firm has a communications compliance program in place, registered representatives are permitted to send e-mail to customers without submitting these for pre-use review and approval. In such a program, the firm is obligated to educate its registered representatives as to what is permissible in electronic communications; and must have procedures in place to audit and review these communications. Please note that the audit and review requirements not only apply to outgoing electronic communications; but also apply to incoming electronic communications as well. Such an audit program can only cover locations supervised by the firm, so registered representatives are only permitted to send electronic communications to customers from supervised locations.

Which of the following statements are TRUE about listed securities? I Under Regulation T, all listed securities are marginable II Listed securities are subject to Regulation SHO III Listed securities trade in the Second Market IV Listed companies must be registered with, and report their results to, the SEC A. I and II only B. II and III only C. I, II, IV D. I, II, III, IV

The best answer is C. Listed securities (those listed on an exchange) are marginable under Regulation T. Under the Exchange Act of 1934, Regulation SHO requires that before any equity security (either listed or unlisted) can be sold short, the member firm must affirmatively determine that the security can be borrowed and delivered on settlement. This is called the "locate" requirement. Listed securities trade in the first (exchanges), third (OTC trading of exchange listed securities) and fourth (direct trades between institutions via ECNs) markets. The second market is trading of unlisted securities over-the-counter. These are OTCBB and Pink Sheet issues. Listed companies must register with, and report their results to, the SEC.

All of the following securities are exempt from the registration provisions of the Securities Act of 1933 EXCEPT: A. U.S. Government bonds B. Government National Mortgage Association Pass Through certificates C. Collateral Trust certificate D. General Obligation bonds

The best answer is C. Securities that are exempt from the registration provisions of the Securities Act of 1933 are principally governmental debt issues, including U.S. Government debt, U.S. Government agency debt, such as Ginnie Mae debt, and municipal debt such as general obligation bonds. Collateral trust certificates are issued by corporations, where the stock of a subsidiary is put up as collateral for the bond issue. This is a non-exempt security.

The provisions of the Penny Stock Rule, which require the pre-qualifying of a new customer before a "penny" stock can be sold to that individual, only apply to the recommendations of: A NYSE securities B NASDAQ securities C OTCBB securities D AMEX securities

The best answer is C. The "penny stock rule" (Rules 15g-1 through 15g-6) requires that new customers who receive a recommendation and purchase non-exchange listed securities (meaning OTCBB or Pink Sheet issues) priced under $5 per share sign and return a suitability statement before sale can be confirmed. This rule is intended to stop "boiler room" high pressure phone sales of speculative penny stocks.

A non-MFP (non-Municipal Finance Professional) contributes $300 to an elected official's campaign in which he is not entitled to vote. Which statement is TRUE about this? A. This action will result in a 2-year ban on the municipal broker-dealer conducting municipal securities business with that issuer because the amount exceeded $250 B. This action will result in a 2-year ban on the municipal broker-dealer conducting municipal securities business with that issuer because the individual was not entitled to vote C. This action will not result in a 2-year ban on the municipal broker-dealer conducting municipal securities business with that issuer because the MSRB rule only applies to MFPs D. This action will not result in a 2-year ban on the municipal broker-dealer conducting municipal securities business with that issuer because the amount involved is under the "de minimis" exemption

The best answer is C. The MSRB political contribution rule only applies to contributions made to elected officials' campaigns by "MFPs" - Municipal Finance Professionals. MFPs are registered individuals in municipal finance departments and their supervisors. If a non-MFP, such as a typical registered representative, gives a political contribution of any amount to an elected official's campaign in which he or she is, or is not, entitled to vote, this will not trigger a ban!

Which of the following statements are TRUE regarding the Official Statement? I The Official Statement is required by the Securities Act of 1933 for all new municipal issues II The Official Statement is requested by underwriters to satisfy SEC due diligence requirements and the disclosure requirements of new issue purchasers III The Official Statement is required to be delivered to customers at, or prior to settlement, if available IV The Official Statement is required to be delivered only to those customers who request one in writing A. I and III B. I and IV C. II and III D. II and IV

The best answer is C. The Official Statement for a new municipal issue is not required under the Securities Act of 1933 since municipal issues are exempt, nor is it required by the MSRB, since the MSRB has no regulatory authority over municipal issuers. It is requested by underwriters to help them perform due diligence on the offering (as required by the SEC) and also to help sell the issue. The MSRB states that if the Official Statement is available, it must be given to purchasers at, or prior to, settlement of sale.

A general obligation bond is purchased in the secondary market at a discount and is held to maturity. The holder elects not to accrete the bond discount for tax purposes. Which statements are TRUE? I The interest income is subject to Federal income tax II The interest income is not subject to Federal income tax III The discount is taxed as interest income IV The discount is not taxed A I and III B I and IV C II and III D II and IV

The best answer is C. The interest income received from investments in "public purpose" municipal bonds is exempt from Federal income tax. However, the market discount on such bonds is taxable as interest income received. This is nothing more than a "tax grab" by the Federal government - the idea being that wealthy people buy municipal bonds, so if there is a way that they can be taxed without jeopardizing their basic Federal income tax-free status, why not? The holder can either accrete the discount annually as taxable interest income earned and adjust the cost basis of the bond upwards by this amount; or can wait until the bond is sold or matures to report the accumulated "earned" discount as taxable interest income at that point (this is the better choice from a tax standpoint).

An investor originally invested $10,000 in a mutual fund. Over the course of two years, the fund distributed $200 of dividends and $150 of capital gains, which have been automatically reinvested in additional shares. The fund is now worth $17,500 and the customer wishes to liquidate his holding. What is the aggregate cost basis of the mutual fund holding? A $10,000 B $10,200 C $10,350 D $17,500

The best answer is C. The investor's cost basis of the shares is the original purchase price plus all reinvested dividends and capital gains. This makes sense, since every year that the fund distributes dividends and capital gains, both must be included on that year's income tax return. Since the monies have already been taxed, the cost basis will include all reinvested distributions (so that there is no double taxation). The investor's cost basis is $10,350.

Under Regulation M, which statements are TRUE regarding stabilizing bids entered by market makers? I Stabilizing bids can only be maintained for 5 consecutive business days II There is no time limitation on the period that a stabilizing bid can be maintained III A stabilizing bid cannot be placed unless a "Notice of Stabilization" is included in the prospectus IV A stabilizing bid cannot be placed unless an "Official Notice of Sale" is placed in the prospectus A. I and III B. I and IV C. II and III D. II and IV

The best answer is C. There is no time limitation on the period that a stabilizing bid can be maintained under Regulation M. However, stabilization must cease when the syndicate is broken by the manager. A "Notice of Stabilization" must be included in the prospectus (on the inside front cover) that details the fact that the manager can start and stop stabilizing at any time and that when stabilization stops, the price of the issue may drop. An Official Notice of Sale is used to solicit competitive bids for municipal new issues and has nothing to do with stabilization.

Client A's portfolio consists of the following: Equities: 85% Fixed Income: 10% Cash: 5% The breakdown of these holdings is: Equities 35% DEFF Total Market Index Fund 30% 2,100 shares of ABCD 25% 3,100 shares of XYZZ 10% PDQQ International Small Cap Growth Fund Fixed Income: 75% Investment Grade 25% Speculative Cash: 100% Money Market Fund Client A is 55 years old, single with no children. He is beginning to think about retirement and wishes to modify his portfolio so that he can start receiving an assured income stream starting at age 65. Which recommendation would be the BEST choice to meet the customer's changed investment objective? A. The ABCD and XYZZ stock holdings should be liquidated in full immediately, with the proceeds invested in 10 year income bonds of companies in special situations B. The DEFF Total Market Index Fund holding should be liquidated in full immediately, with the proceeds invested in 10-30 year Treasury bonds C. The customer should set minimum and maximum threshold prices at which the ABCD and XYZZ stock positions are to be liquidated; and if this occurs, the proceeds should be invested in 10-30 year maturity Treasuries D. The customer should liquidate the ABCD and XYZZ stock holding to purchase 10, 15 and 20 years STRIPs that will mature in even installments

The best answer is C. This customer's portfolio is 85% invested in stocks and only 15% invested in bonds and cash. Since he is looking for income 10 years from now, more of the portfolio mix must be allocated to bond investments. Immediate liquidation of some of the stock investments might cause the customer to sell at a loss; or to miss out on potential stock gains that he or she anticipates. Setting minimum and maximum threshold prices to begin liquidating the stock investments, and reallocating the proceeds to safe income generating bond investments, is the best way to meet the customer's income objective.

In January, 20XX a customer buys 100 shares of ABC stock at $50 per share and pays a $2 commission per share. The customer receives $1 in cash dividends during the year. The customer's cost basis in the stock is: A $49 per share B $50 per share C $52 per share D $53 per share

The best answer is C. When the stock is purchased, any commission paid is not deductible - it is part of the cost basis of the shares. Thus, the cost basis for tax purposes is $50 + $2 commission = $52 per share. The $1 dividend received is included in taxable income for this year, and is not part of the stock's cost basis.

Which of the following individuals is an "accredited" investor under Regulation D? I Person with an annual income of $200,000 this year and for the preceding 2 years II Person with a Net Worth of $200,000 this year and for the preceding 2 years III An institution making the investment IV An officer of the issuer making the investment A I and II only B III and IV only C I, III, IV D I, II, III, IV

The best answer is C. To be an accredited investor under Regulation D, a person must either: earn $200,000 per year ($300,000 for a married couple); have a net worth of $1,000,000 (exclusive of residence); be an officer or director of the issuer; or be an institution buying the issue. Otherwise, the person counts towards the 35 non-accredited investor limit.

Which statement is TRUE about insurance coverage on customer brokerage accounts maintained at banks registered solely as municipal securities dealers? A Insurance coverage is provided solely by the Federal Deposit Insurance Corporation(FDIC) B Insurance coverage is provided solely by the Securities Investors Protection Corporation(SIPC) C Insurance coverage is provided by both the FDIC and by the SIPC D No insurance protection is offered on customer municipal accounts maintained at bank broker-dealers

The best answer is D. Insurance coverage for customer accounts at any broker-dealer that must be registered under the Securities Exchange Act of 1934 is provided by SIPC - Securities Investor Protection Corporation. However, dealers who solely handle exempt securities are not required to be SIPC members. Therefore, customer accounts at firms that deal solely in U.S. Government securities, are not covered by SIPC. Similarly, customer accounts at banks who are municipal securities dealers, are also not required to be covered under SIPC. Please note that if a bank dealer were to handle non-exempt securities, then it would have to register under the Securities Exchange Act of 1934 as a broker-dealer, and thus, would be obligated to be an SIPC member as well. The FDIC - Federal Deposit Insurance Corporation - does not insure brokerage accounts, that is securities positions held at banks. It only insures bank accounts (deposits) maintained by customers at banks.

An investor wishes to sell restricted stock under the provisions of Rule 144. The company has 30,000,000 shares outstanding. The Form 144 is filed on Monday, September 28th. The previous weeks' trading volumes are: Week Ending Volume Aug 30th 260,000 shares Sept 6th 300,000 shares Sept 13th 280,000 shares Sept 20th 310,000 shares Sept 27th 330,000 shares Assuming that all other requirements of the rule are met, the maximum permitted sale amount is: A 275,000 shares B 295,000 shares C 300,000 shares D 305,000 shares

The best answer is D. Rule 144 permits the sale of the greater of 1% of the shares outstanding or the weekly average of the preceding 4 weeks' trading volume. 1% of 30,000,000 shares = 300,000 shares. The weekly average of the preceding 4 weeks' trading volume is: Week Ending Volume Sept 6th 300,000 shares Sept 13th 280,000 shares Sept 20th 310,000 shares Sept 27th 330,000 shares 1,220,000 shares / 4 = 305,000 shares The greater amount, 305,000 shares, can be sold during the next 90 days.

If the rate of inflation as measured by the Consumer Price Index rises greatly, then which of the following is likely to happen? I Interest rates will fall II Interest rates will rise III Stocks become a more attractive investment IV Money market instruments become a more attractive investment A I and III B I and IV C II and III D II and IV

The best answer is D. A rising inflation rate is a "lose-lose" situation for both the stock and long term bond markets. If the inflation rate rises, then interest rates are likely to rise, with short term rates rising more than long term rates (the yield curve "flattens" as the Fed tightens credit to tame inflation, with short term rates rising more than long term rates). If interest rates rise, then long term bond prices will fall fastest, and long bondholders will have large losses on their positions. Furthermore, during periods of inflation, corporate earnings tend to fall, because companies are not able to keep raising prices at the same pace as their costs rise. This lowered earnings outlook depresses stock prices. Thus, both stock and long bond prices tend to fall in inflationary periods. Instead, during these periods of high inflation, investors "flee to safety" - they abandon the stock and long term bond markets, and put money in short term money market instruments, which offer safety and relatively high interest rates during inflationary periods; and they also put money into real estate and other "hard" assets that tend to keep pace with inflation.

All of the following are bond portfolio construction methods designed to reduce interest rate risk EXCEPT: A. Ladder B. Bullet C. Barbell D. Balloon

The best answer is D. Bullets, Bond Ladders, and Barbells are portfolio constructions that are used to limit interest rate risk. A bullet portfolio construction only has a single maturity, typically in an intermediate range of around 10 years. The way that interest rate risk is offset here is that all of the investment is not made at one time - rather, the investment is made in installments at fixed intervals. If market interest rates rise, new investment will be made at higher rates, offsetting any loss on the already purchased bonds. The idea behind a bond ladder is to spread bond maturities in a portfolio over fixed intervals, typically 10 maturities in intervals of 2 years each. A typical ladder might have 10 maturities ranging from 2 to 20 years, with an average maturity of around 10 years. Because of this broad diversification by maturity, a rise in interest rates will not impact the portfolio as negatively as compared to a bullet or barbell portfolio construction. If interest rates rise, the loss on the longer term bonds in the portfolio is offset by the fact that shorter term bonds are maturing soon and the proceeds can be reinvested at higher rates. A barbell portfolio only has 2 maturities - a very short term and a very long term - say 2 years and 20 years, for an average life around 10 years (actually 11 years here, but we are simplifying things). The longer term bonds give a higher yield but have higher interest rate risk. This risk is offset by the fact that the 2 year bonds will mature soon and the proceeds can be reinvested at higher rates. The big risk here is that long rates rise sharply as compared to short rates (a steepening of the yield curve). In this scenario, the loss on the long term bonds will be much greater than the fact that the short term bond proceeds can be reinvested in 2 years at somewhat higher rates. A balloon is a type of bond issue structure, where most of the bonds mature as a "balloon" at a long term maturity date. It is not a type of bond portfolio construction.

Which of the following is NOT required to be disclosed when a brokerage firm makes a securities recommendation? A. Whether the firm is an investment banker for that issuer B. Whether the firm is a market maker in that issuer's securities C. Whether the firm's officers own that issuer's securities D. Whether the issuer's employees own that issuer's securities

The best answer is D. If a recommendation is made, the brokerage firm must disclose if it: -has managed or co-managed any equity securities offering of that issuer within the past 12 months; -has received compensation from investment banking services from that issuer in the past 12 months; -expects to receive or intends to seek investment banking compensation from that issuer in the next 3 months; -is an investment banking services client of the firm; or -is a market maker in the issuer's stock. Also, the brokerage firm must disclose if it or its affiliates own(s) the issuer's securities (including options). It is normal and expected for the issuer's employees to own that issuer's securities - there is no conflict of interest.

Under the Regulation D private placement rule, advertising of offerings is: A prohibited B permitted only if the offering is made to a maximum of 35 non-accredited investors C permitted only if the offering is made to a maximum of 35 accredited investors D permitted only if the offering is made to accredited investors, without any numerical limit

The best answer is D. A Regulation D offering is a "private placement." It can be sold to a maximum of 35 non-accredited investors and to an unlimited number of accredited investors. General advertising is prohibited, since this is a "private offering." However, a private placement that will only be offered to accredited investors is permitted to be advertised - as long as the advertisement states that the offering is only available to accredited investors.

Which statements are TRUE about defensive stocks that are included in a portfolio allocation model? Defensive stocks have: I higher expected returns than other equities included in the portfolio II lower expected returns than other equities included in the portfolio III higher standard deviations (risk) than other equities included in the portfolio IV lower standard deviations (risk) than other equities included in the portfolio A I and III B I and IV C II and III D II and IV

The best answer is D. Defensive stocks are minimally affected by the business cycle, with classic defensive stocks being food and pharmaceuticals (in bad times, people must still eat, and must still take prescription drugs for their illnesses or suffer the consequences!) Because their earnings stream is so stable, defensive stocks have lower risk (as measured by variability of returns - AKA standard deviation) than other equity securities. Because of their lower risk, their returns are correspondingly lower as well.

The BEST investment during a period of high inflation is: A Common Stock B Preferred Stock C 30-Year Bonds D Money Market Instruments

The best answer is D. In an inflationary period, interest rates will rise dramatically, because the Fed will start tightening credit to get inflation under control. As interest rates rise, both preferred stock and long-term bond prices drop dramatically. Equity securities' prices drop as well, because companies are not able to increases their prices as fast as their costs are rising, so earnings suffer. Money market instruments, on the other hand, do well when short term rates are rising - because they give an increasing rate of return.

Which of the following statements are TRUE regarding the tax status of limited partnerships? I Partnerships are taxable entities II Partnerships are not taxable entities III Tax liability exists at the partnership level IV Tax liability exists at the partner level A. I and III B. I and IV C. II and III D. II and IV

The best answer is D. Partnerships are not taxable entities; all items of income and loss "flow through" to the tax returns of the partners. Tax liability only exists at the partner level - not at the partnership level.

A customer who earns $80,000 per year is 35 years old, married to a non-working spouse, has a 5-year-old child, has no retirement savings and does not have a will. This customer receives $250,000 in a single stock as an inheritance from her deceased aunt. What is the first thing that the customer should do? A Set up an IRA account to begin to fund her retirement B Establish a will C Pay any capital gains tax due on the stock position, if this cannot be avoided D Diversify the stock position, because it should not be in a single stock holding

The best answer is D. What is concerning about this customer is 2 things - the fact that she does not have a will and the fact that her only investment holding is now $250,000 in a single stock position, which if the stock tanks, will result in a big loss. The first thing to do is to diversify the stock holding, to reduce the risk of loss of capital. This is more immediate than establishing a will, which usually takes some thought, lawyer's advice and a bit of time. There will be no capital gains tax on the stock position, since securities are inherited at the market value as of the date of death with no tax due by the recipient. If there was any appreciation in the stock until the date of death, that position's value is included in the estate and estate tax may be due - but this is paid by the estate.

A customer buys 1 ABC Oct 50 Call @ $3 and exercises the contract. What is the cost basis for tax purposes? A $3 B $47 C $50 D $53

The best answer is D. When a call contract is exercised, the customer is buying the stock. The customer establishes a cost basis equal to all monies paid for the stock - $50 per share strike price plus $3 per share paid in premiums equals a $53 per share cost basis. Notice that the basis is the same as the breakeven.

A customer switches from a growth fund to an income fund within the same "family of funds." Which statement is TRUE? A No tax liability is incurred because this is treated as a "wash sale" B No tax liability is incurred because this is treated as a "like kind exchange" of assets C Tax must be paid on any amount by which the Net Asset Value of the new fund exceeds the old fund's Net Asset Value D The sale results in a "taxable event" on which tax on any gain is due, and the purchase establishes a new cost basis

The best answer is D. When the shares of one fund are sold, unless the monies are reinvested in the same fund, (resulting in a non-taxable "like-kind" exchange), capital gains tax is due on the sale proceeds versus the cost basis in the shares. The purchase of the new (different) shares results in a new cost basis.

A customer buys an equity LEAP contract on the first day that the option starts trading. If the contract expires "out the money," the customer will have a: A short term capital gain B short term capital loss C long term capital gain D long term capital loss

The best answer is D. Equity LEAPs are Long Term Equity AnticiPation options with lives of 28 months. Thus, a purchaser who buys a LEAP when it first starts trading, must have held the contract for over 1 year when it expires - thus, the holder has a long term capital loss.

An elderly investor has a short-term investment time horizon, is very concerned about loss of liquidity and is very risk averse. Your main concern when making a recommendation to this client is: A preservation of capital B safety of principal C growth of principal D tax benefit

The best answer is A. Preservation of capital is a concern for client who has no buffer if investment values decline. Such a client cannot afford to lose any money and should only be recommended CDs and money market funds as an investment. Because this client has " liquidity needs," he or she is in this situation. Safety of principal a concern for a client doesn't want his or her principal put at risk - he or she is just averse to taking on risk, but can afford to do so. Such a client could be recommended CDs, money market funds, short term bonds and laddered bond portfolios.

A prospective options customer must receive which of the following at, or before, the time that sales literature that includes recommendations is sent to the client? I Options Disclosure Document II Options Agreement III Broker-dealer financial statement A I only B II only C I and II D I, II, III

The best answer is A. A customer who receives any options communication that makes a recommendation; shows past performance; or includes a performance projection; must get the latest Options Disclosure Document (ODD) at or prior to the receipt of the material. There is no requirement to give the customer a new account form or a broker-dealer financial statement.

Which of the following investment portfolios is LEAST liquid? A. An aggressive growth fund B. A U.S. Government securities fund C. A money market fund D. An income fund

The best answer is A. Aggressive growth stocks are usually too small to be NYSE listed; they might be found on NASDAQ, which has lower listing standards than the NYSE; or on the OTCBB - the Over-the-Counter Bulletin Board - which has no listing standards. The OTCBB is a much less liquid market than NASDAQ; and NASDAQ's liquidity is not as good as the NYSE's. Thus, aggressive growth stocks would be the least liquid securities of the choices offered. Government securities and money market securities are actively traded and are extremely liquid. Income funds are composed of high yielding preferred stocks and bonds. These are more liquid than aggressive growth stocks, though not as liquid as NYSE listed issues.

A couple has a joint net worth of $12,000,000. If one dies in 2021, the taxable amount of the estate is: A $0 B $300,000 C $11,700,000 D $12,000,000

The best answer is A. An unlimited marital exclusion applies to spouses when 1 party dies. Thus, if a husband dies, no estate taxes are paid at that point by the surviving spouse. When that person dies, the estate is subject to tax, with an estate tax exclusion on the first $10,000,000, adjusted for inflation annually. For 2021, the adjusted exclusion amount is $11,700,000.