Series 7 Midterm

100 basis points equals: A. .01% B. .1% C. 1% D. 10%

1%

A customer buys 1 ABC Jan 50 Call and sells 1 ABC Nov 50 Call. This is a: A. calendar debit spread B. calendar credit spread C. vertical debit spread D. vertical credit spread

A.

Which statements are TRUE about option contracts? I Long calls go "in the money" when the market price rises above the strike price II Long calls go "in the money" when the market price falls below the strike price III Short calls go "in the money" when the market price rises above the strike price IV Short calls go "in the money" when the market price falls below the strike price A. I and III B. I and IV C. II and III D. II and IV

A. A call is in the money when the market price is above the strike price REGARDLESS of the position. This question is not asking if you are making a profit. Same thing with a put. Puts go in the money REGARDLESS if you are long or short on the position.

Which of the following create a straddle? I Long 1 ABC Jan 50 Call Long 1 ABC Apr 50 Put II Short 1 ABC Jan 50 Call Short 1 ABC Jan 50 Put III Short 1 ABC Jan 50 Call Long 1 ABC Jan 50 Put IV Short 1 ABC Jan 50 Call Short 1 ABC Jan 60 Put A. II only B. I and III C. II and IV D. III and IV

A. A straddle is the purchase of a call and a put; or the sale of a call and a put; on the same underlying security with the same strike price and expiration.

A customer sells 1 XMI Dec 530 Put @ 8 when the index is at 529.00. The customer is exercised when the index closes at 525.00. The writer is obligated to: A. deliver cash B. receive cash C. deliver stock D. receive stock

A. If an index option is exercised, the writer is obligated to pay the holder the "in the money" amount in cash the next business day.

A customer buys 100 shares of ABC at $50 and buys 1 ABC Jan 50 Put @ $5. This position results in a profit when the market: I rises II falls III is stable A. I only B. II only C. I and III D. II and III

A. If the market falls, the customer will exercise his put which he purchased for a premium of $5. He bought the stock at $50 and bought the right to sell the shares at $50. The loss would be the $5 per share ($500 total) premium paid. If the market remains stable, the put expires "at the money" and the customer loses the $500 premium. If the market rises, the long put expires "out the money." However, the stock can be sold at the higher market price creating a profit. The maximum potential gain comes from the stock position and is unlimited - the put would expire and the stock could be sold at the higher market price. The maximum potential loss is $500 - the premium paid in this case. Breakeven is at $55 - the customer has paid $5 in premiums and $50 per share for the stock, for a total outlay of $55 per share. The stock must be sold for this amount to breakeven.

In which of the following choices are both the stock and options positions on different sides of the market? I Long Call / Short Stock II Short Call / Long Stock III Long Put / Short Stock IV Short Put / Long Stock A. I and II B. II and III C. II and IV D. I and III

A. Long Calls are profitable in bull markets; short stock positions are profitable in a bear market. Short Calls are profitable in a stable or falling market; long stock positions are profitable in a rising market. Long Puts and short stock positions are profitable as the market drops. Short Puts and long stock positions are profitable as the market rises.

Which statement is TRUE about bond price changes that result from interest rate movements? A. Short term bond prices move slower than long term bond prices B. Long term bond prices move slower than short term bond prices C. Both short term and long term prices move at equivalent rates D. No relationship exists between short term and long term bond price movements

A. Long term bond prices are more volatile than short term bond prices as interest rates move. Thus, short term bond prices are more stable (move more slowly) as interest rates change compared to long maturities.

Which securities will trade with accrued interest? A. Negotiable Certificates of Deposit B. Treasury Bills C. Banker's Acceptances D. Treasury Receipts

A. Negotiable CDs that mature in 1 year or less are issued at par and mature with accrued interest. Those issued for longer periods pay interest semi-annually and trade with accrued interest. The other choices are all original issue discount obligations, which trade flat.

Information about the municipal secondary market can be obtained from all of the following EXCEPT: A. Daily Bond Buyer B. Bloomberg C. Munifacts D. EMMA

A. The Daily Bond Buyer gives information about the municipal primary market (new issues) - it is a newspaper for brokers and banks that want to buy new issue municipal bonds from issuers. Munifacts is a newswire service run by the Bond Buyer that mainly announces new issue offerings by syndicates, but also includes some general news items that can affect the secondary market. Bloomberg posts dealer offerings of bonds in the secondary market. EMMA is the MSRB's retail oriented website for municipal investors (EMMA stands for Electronic Municipal Market Access). It includes "RTRS" - the Real Time Reporting System, which reports municipal bond trades occurring in the secondary market.

Dividends are paid to the holders of which of the following? I ADRs II Rights III Treasury Stock IV Warrants A. I only B. I and II C. II and III D. I, II, III, IV

A. 1 only ADRs - American Depositary Receipts - receive dividends. The bank that issues the receipts against foreign securities "passes through" dividends paid on the stock to the receipt holders. Warrants and rights do not receive dividends nor are there dividends paid on Treasury shares which have been repurchased by the issuer.

A customer wishes to maximize liquidity and minimize interest rate risk. The best recommendation is: A: short term maturities B: long term maturities C: callable bonds D: non callable bonds

A: short term bond do not fluctuate much in value, also the most liquid.

The following trade comes across the tape: Which statement is TRUE? A. 2,500 shares traded at 18.50 B. 25 round lots of 10 shares traded at 18.50 C. 2,500 shares were sold short at 18.50 D. 2,500 shares were stopped at 18.50

B.

The definition of Treasury stock is: A. authorized shares minus issued shares B. issued shares minus outstanding shares C. authorized shares minus outstanding shares D. capital in excess of par value minus par value

B. If a company has the same number of issued shares as the number of shares outstanding, then no shares have been repurchased for the company's Treasury. However, if the company repurchases shares, the number of outstanding shares decreases. Thus, the definition of Treasury stock is issued shares minus outstanding shares.

An investor seeking a high level of income and a moderate level of risk would buy: A. common stock B. mortgage bonds C. income bonds D. convertible bonds

B. Mortgage bonds pay interest semi-annually and are backed by a mortgage on real property - so these bonds are secure. Convertible bonds pay lower interest rates because of the value of the conversion feature and are not as suitable for a person seeking a high level of current income. Income bonds are unsuitable since they pay only if the company has sufficient earnings. Common stock is unsuitable since the dividend decision is discretionary on the part of the Board of Directors.

If a customer decides to exercise his option contract, which of the following statements are TRUE? I The customer notifies the brokerage firm II The customer notifies the O.C.C. III The O.C.C. selects a short position to be exercised on a first-in, first-out basis IV The O.C.C. selects a short position to be exercised on a random order basis A. I and III B. I and IV C. II and III D. II and IV

B. I and IV

BAN

Bond anticipation note. Used to pull forward funds that will be collected from a later bond sale

If a customer buys a fully-paid security that is enrolled in DTC's DRS system, the customer will receive a(n): A. physical certificate B. escrow receipt C. statement of ownership D. depository receipt

C.

A customer owns a convertible subordinated debenture, convertible into common at $25 per share. The bond is currently trading at par. If the bond's market price increases by 20%, the conversion ratio will be: A. 25:1 B. 32:1 C. 40:1 D. 48:1

C. 1000/25=40:1

Covered call writing is an appropriate strategy in a: A. declining market B. rising market C. stable market D. fluctuating market

C. A covered call writer owns the underlying stock position. The customer sells the call contract to generate extra income from the stock during periods when the market is expected to be stable. If the customer expects the market to rise, he or she would not write the call against the stock position because the stock will be "called away" in a rising market. If the customer expects the market to fall, he or she would sell the stock or buy a put as a hedge.

Which municipal bond is MOST likely to have a mandatory sinking fund provision in the Trust Indenture? A. Tax Anticipation Notes B. Water District Bonds C. Dormitory Revenue Bonds D. School District Bonds

C. A mandatory sinking fund requirement would be used for a risky bond issue, where a purchaser needs additional assurance that the funds will be available to service the debt. Of the issues listed, a Dormitory Revenue Bond is the most risky, since the revenue depends on students renting out the dorm.

In riskless principal transaction, the dealer: I buys a security into inventory in advance of filling a customer order to buy that security II buys a security into inventory after receiving a customer order to buy that security III charges a mark-up to the customer IV does not charge a mark-up to the customer A. I and III B. I and IV C. II and III D. II and IV

C. A riskless principal or simultaneous transaction occurs when a dealer receives a buy order from a customer and then purchases the stock into inventory and resells it to the customer. The dealer wasn't holding the security when the order was received, so there is no "risk" to the dealer of falling prices giving the dealer an inventory loss. The dealer has no risk in the transaction and the mark-up charged must be disclosed to each customer.

All of the following terms are synonymous EXCEPT: A. agent B. broker C. dealer D. middleman

C. An agent is a broker who is middleman in a transaction, earning a commission. A dealer is a market maker, who is a principal in a transaction, earning a mark-up or mark-down.

To receive a dividend, the holder of a call contract may exercise the contract on all of the following days EXCEPT: A. three business days prior to record date B. three business days prior to ex date C. one business day prior to record date D. one business day prior to ex date

C. Ex date is 2 days prior to Record date Record date=settlement date

Interest income from which of the following bond issues is SUBJECT to State and Local tax? I Issues of territories purchased by residents of that territory II Issues of territories purchased by non-residents of that territory III Issues of states purchased by residents of that state IV Issues of states purchased by non-residents of that state A. I and II only B. III and IV only C. IV only D. I, II, III, IV

C. Interest income received from bonds issued by territories or possessions such as Puerto Rico, Guam and the Virgin islands, is exempt from Federal, State and Local tax, no matter where the purchaser lives. Interest income from State issues is always exempt from Federal income tax, but is only exempt from State and Local tax if purchased by a resident of that State.

Which of the following measures would be evaluated when analyzing a General Obligation Bond? I Debt to assessed valuation ratio II Debt per capita ratio III Tax collection ratio IV Debt service coverage ratio A. I and II only B. III and IV only C. I, II, III D. I, II, III, IV

C. The debt service coverage ratio is used for revenue bond analysis - not G.O. bond analysis. The debt service coverage ratio is Net Revenues From the Facility / Debt Service Requirements. G.O. bonds are paid off from property tax collections, not collected revenues. Therefore, the relevant measures for G.O. bond analysis are Debt / Assessed Valuation of Property; Debt / Population; and Taxes Collected / Taxes Assessed.

A municipality would use general obligation bonds to finance all of the following EXCEPT the: A. addition to an existing school building B. construction of a new town hall C. construction of an industrial park D. addition of traffic lights to main intersections

C. The proceeds of general obligation bonds are used by municipalities to provide services to the general population - including the building and improvement of schools, police and fire department structures, and general municipal buildings. These bonds are serviced from general tax collections. Revenue bonds are used where there is a specific revenue source that can be pledged to bondholders to service the debt. Toll roads; toll bridges and tunnels; industrial parks where rents paid are the revenue source; water and sewer systems where separate water and sewer charges are imposed; are all typically built with revenue bond issues.

Which of the following are risks that should be disclosed to customers when recommending the purchase of a CD sold through a brokerage firm? I There is a substantial penalty for early withdrawal of funds II If interest rates have risen after issuance and the CD is sold prior to maturity, the investor may experience a loss of principal III The secondary market is limited, so that sale prior to maturity can incur higher than normal transaction costs IV Brokered CDs do not qualify for FDIC insurance coverage if the issuing bank should fail

C. There is no penalty for early withdrawal of funds on brokered CDs - however the amount of interest earned will be pro-rated over the shorter life of the deposit. If interest rates rise after issuance, the value of the CD in the secondary market will fall (though not by much, since this is a short maturity). Most of these instruments are held to maturity, so the secondary market is very limited. Finally, brokered CDs qualify for FDIC insurance as long as the CD is titled in the customer's name.

Four revenue bonds have the same maturity. Which of the following will cost the greatest amount? A. 7 1/4% bond quoted on a 7.25 basis B. 7% bond quoted on a 7.25 basis C. 7% bond quoted on a 6.75 basis D. 6 3/4% bond quoted on a 7.00 basis

C. This choice is the only one where the nominal yield is higher than the basis. To lower the effective yield (basis) on the bond, the price must rise - this is the only premium bond of the 4 choices given. The other choices are either priced at par; or at a discount.

Which is NOT a good delivery for a 225 share trade of stock? A. Two 100 share certificates and one 25 share certificate B. Three 75 share certificates C. Four 50 share certificates and one 25 share certificate D. Nine 25 share certificates

C. To be a good delivery, certificates must be in round multiples of 100 shares on one certificate or must be delivered in certificates that add up to 100 share units. If there is an odd lot (a portion of the order that is less than 100 shares), it can be delivered in any form. Certificates of 75 shares each are not good because 75 + 75 = 150. A round lot of 100 shares cannot be created from these units. The other choices either allow for the creation of 100 share units; or are in multiples of 100 on 1 certificate; with the odd lot being delivered as a separate unit.

Which of the following does not trade 'flat'? A. Treasury Bills B. Treasury STRIPS C. Treasury Bonds D. Treasury Receipts

C. Treasury Bills are short term original issue discount obligations, with the discount earned being the "interest". Treasury Receipts and Treasury STRIPS are essentially zero-coupon obligations. Because all of these obligations do not make periodic interest payments, they trade "flat" - that is, without accrued interest. Treasury Bonds pay interest semi-annually, so they trade with accrued interest.

Which statements are always TRUE about Treasury Bonds? I Treasury Bonds are traded in 32nds II Treasury Bonds are quoted at a discount to par value III Treasury Bonds are issued in either bearer or registered form IV Treasury Bonds have minimum maturity of more than 10 years A. I and II only B. II and IV only C. I and IV only D. I, III and IV

C. Treasury Notes have maturities of 10 years or less. Treasury Bonds have maturities that are greater than 10 years - currently they are issued with 30 year maturities. Both are quoted on a percentage of par basis in 32nds. All Treasury issues are available only in book entry form. There are no bearer or registered issues.

During periods when the yield curve is inverted, which statements are TRUE? I Debt defaults are probably at historically high levels II Issuers are likely to sell non-callable bonds III Debt investors expect that interest rates will fall in the future IV Debt investors expect that economic activity will decline

C. When the yield curve is inverted, short term rates are higher than long term rates. This typically occurs when the Federal Reserve pursues a "tight money" policy to slow the economy. The tightening of credit raises interest rates overall, slows economic activity, and thus business defaults increase. Long term rates remain lower than short term rates since investors do not expect the tightening to last far into the future. During periods when the yield curve is inverted, interest rates on all maturities tend to shift upwards, with short term rates rising the most. During these periods of high interest rates, issuers are likely to sell callable issues (not non-callable ones). If interest rates decrease in the future (as expected), the issuer can call in the old debt and refinance at lower current interest rates.

All of the following are true about both bonds and preferred stock EXCEPT: A. Both bonds and preferred stock are' Senior Securities' over common stock in dissolution B. Both bonds and preferred stock can be convertible C. Payment to both bondholders and preferred stockholders are subject to approval of the Board of Directors D. Both bonds and preferred stock have a stated fixed payment rate

C. Both bonds and preferred stock are "Senior" securities over common; both bonds and preferred stock can be convertible; and both have a fixed payout rate. Payments to bondholders are a legal obligation of the issuer. They are not a discretionary decision on the part of the Board of Directors, as is the decision to pay a dividend to preferred and common shareholders.

Which of the following are terms associated with preferred stock? I Convertible II Callable III Cumulative IV Redeemable A. I and II B. III and IV C. I, II, III D. I, II, III, IV

C. I II III Preferred stock is not a redeemable security - it is a negotiable security. The stock cannot be redeemed with the issuer - an investor who wishes to liquidate must sell the stock in the market. Preferred stock can be callable, cumulative, and convertible.

Execution of a trade routed to an ECN is: I guaranteed since the ECN is a market maker in the security II not guaranteed since the ECN executes trades solely by matching customer orders III subject to the "best execution" rule IV not subject to the "best execution" rule A. I and III B. I and IV C. II and III D. II and IV

C.II and III ECNs - Electronic Communications Networks - do not act as dealers - only as agents, earning a fee on each successful transaction. Thus, there is no assurance that an order placed on an ECN will be filled. All orders sent by broker-dealers to any public marketplace are subject to the "best execution rule" - that is, the broker-dealer can only direct the order to the market posting the best price at that moment. If a number of markets are posting the same "best" price, then the broker-dealer can choose any of those markets to get the order - and can use "payment for order flow" as a deciding factor in the order routing.

A corporation is making a tender offer for all of its common shares. Which of the following customers CANNOT tender the shares? Customer A: long 100 shares of ABC in a custodian account Customer B: who is long 100 shares of ABC in a cash account Customer C: who is long 200 and short 100 shares of ABC in a margin account Customer D: who is long 100 shares and short 200 shares of ABC in a margin account.

Customer D -under the 'short tender' rule tendering shares for a customer who has a 'net' short position. Tenders are permitted only to customers who have a 'net' long position.

Revenue bonds may be called for all the following reasons EXCEPT: A. the facility has been destroyed by fire B. homeowners have prepaid their mortgages C. interest rates have fallen D. the issuer has reached a statutory debt limit

D.

Which statements are TRUE regarding Treasury Bills? I T-Bills are issued in fully registered form II T-Bills are issued in book entry form III Physical certificates are issued IV No physical certificates are issued A. I and III B. I and IV C. II and III D. II and IV

D.

A municipal bond dealer quotes 10 year 3 1/2% Revenue bonds at 97 1/4 - 98. The dealer's spread per $1,000 is: I $ .75 II $7.50 III 7.5 basis points IV 75 basis points A. I and III B. I and IV C. II and III D. II and IV

D. 98-97.25=.75 1000*.0075=$7.5 7.5=75 basis points

If ABC is at a market price of $50, which of the following positions will be profitable? A. Long 1 ABC Jan 60 Call @ $5; Long 1 ABC Jan 60 Put @ $5 B. Short 1 ABC Jan 60 Call @ $5; Short 1 ABC Jan 60 Put @ $5 C. Long 1 ABC Jan 50 Call @ $5; Long 1 ABC Jan 50 Put @ $5 D. Short 1 ABC Jan 50 Call @ $5; Short 1 ABC Jan 50 Put @ $5

D. Choice A is a long 60 straddle. If the market goes to $50, the put is 10 points "in the money," while the call is 10 points "out the money" and will expire. The 10 point profit on the put exactly offsets the total 10 point premium paid - this is breakeven. Choice B is a short 60 straddle. If the market goes to $50, the put is 10 points "in the money," while the call is 10 points "out the money" and will expire. The 10 point loss on the put exactly offsets the total 10 point premium received - this is breakeven. Choice C is a long 50 straddle. If the market stays at $50, both the call and the put expire "at the money" and the holder loses the premiums paid. Choice D is a short 50 straddle. If the market stays at $50, both the call and the put expire "at the money" and the writer gains the premiums received.

All of the following statements are true regarding Government National Mortgage Association pass-through certificates EXCEPT: A. GNMA securities are guaranteed by the U.S. Government B. Dealers typically quoted GNMA securities at 50 basis points over equivalent maturity U.S. Government Bonds C. Credit risk for GNMAs is the same as for equivalent maturity U.S. Government Bonds D. Reinvestment risk for GNMAs is the same as for equivalent maturity U.S. Government Bonds

D. GNMA securities are guaranteed by the U.S. Government. Dealers typically quote agency securities, including Ginnie Maes, on a basis point differential to equivalent maturing U.S. Governments. Reinvestment risk is greater for Ginnie Maes than for U.S. Governments. If the mortgages backing a Ginnie Mae Pass Through Certificate are prepaid (if interest rates have dropped), the certificate holder receives payments that are a return of principal, and that, when reinvested at lower current rates, produce a lower return (this is reinvestment risk). There is little reinvestment risk with U.S. Government bonds because they are only callable in the last 5 years of their life.

In a period of falling interest rates, a bond dealer would engage in all of the following activities EXCEPT: A. raise prices in interdealer quote publications such as Bloomberg for municipal bonds B. place "request for bids" in services such as Bloomberg on appreciated positions where the dealer has no current interest C. bid for bonds to cover previously established short positions D. buy put options on debt instruments to hedge existing short positions

D. In a period of falling interest rates, bond prices will be rising. Therefore, a dealer would raise his quoted prices in Bloomberg. If the dealer has appreciated bonds that he wishes to sell, he can place "Requests for Bids" for those bonds in Bloomberg. The dealer may bid (buy) bonds that he has previously sold short to limit losses due to rising prices. To hedge existing short positions against rising prices, the dealer would buy call options, not put options. Put options are used to hedge existing long positions from falling prices.

All of the following would be considered to be opening options transactions EXCEPT: A. assuming a long ABC Dec 50 call position B. assuming a short ABC Dec 50 call position C. going long an ABC Dec 50 put as an initial option transaction D. going long an ABC Dec 50 put after going short an ABC Dec 50 put

D. Key word AFTER

A customer places an order with a registered representative to sell 5,000,000 shares of ABC stock (NYSE listed) "at the market." The registered representative should: A. submit the order B. contact the Specialist/DMM on the trading floor C. contact a Third Market Maker D. contact the firm's large block trading desk

D. Order is too large to be handled in the regular order flow. Only takes limit orders up to 3,000,000

Which statements are TRUE about CMBs? I CMBs are sold at par II CMBs are sold at a discount to par III CMBs are sold at a regular weekly auction IV CMBs are sold on an "as needed" basis A. I and III B. I and IV C. II and III D. II and IV

D. Shortest-term US government security with maturities as short as 5 days in $100 minimums. Only sold to meet unexpected cash shortfalls so they are not apart of the regular auction cycle.

A buy stop order is executed: I in falling markets II in rising markets III at the price specified IV at the market price A. I and III B. I and IV C. II and III D. II and IV

D. Used to stop a loss on a short stock position, once the market price hits the buy stop order it is 'elected' and then will be executed at the next available market price

All of the following should be considered when constructing a diversified municipal bond portfolio EXCEPT: A. geographical location of the issuers B. revenue sources backing each issue C. credit ratings of each issue D. denomination of bonds in the portfolio

D. When constructing a diversified municipal bond portfolio, one is trying to diversify away as much risk as possible. It would be logical to make sure that the portfolio is geographically diversified since having too great a concentration in one state or region is unwise if the local economy goes bad. A mix of credit ratings also helps to diversify the portfolio. Lower credit rated bonds give higher yields and make sense in a large portfolio, as long as the concentration is not too great. A mix of revenue sources also helps diversify away risk. The denominations of the bonds in the portfolio have no bearing on the risks inherent in those bonds.

Which of the following orders has priority during trading on the Chicago Board Options Exchange? A. stop limit order B. limit order C. stop order D. spread order

D. spread order This rule helps spread orders be completed since both 'legs' of the order must be filled to complete the position.

A NMS stock is quoted at 30.50 bid; 35.75 ask. Which quotes can be accepted by an SRO for this stock? I: 30.55 Bid II: 30.555 Bid III: 30.65 Ask IV: 30.655 Ask

I and III Rule 612 of Regulation NMS does not allow sub-penny quotes or orders to be entered for NMS stocks.

TAN

Tax anticipation note. Used to pull forward funds that will be collected as taxes at a later date

What does it mean for a bond to trade 'flat'?

a bond trading w/ out accrued interest. Bonds that are in default, income bonds and zero coupon bonds all trade 'flat'

TRAN

combo of a RAN and a TAN

Bonds are most likely to be refunded by the issue if they have ____ interest rates rates and ____ call premiums

high interest rates, low call premiums

IO tranches payments are ____ in early years and ____

larger smaller

Network C tape

records NASDAQ-listed issues regardless of where trade took place

Network B tape

records NYSE-MKT (AMEX) and regional exchange listed issue regardless of where trade took place

Network A tape

records trades of NYSE-listed issues regardless of where trade took place

RAN

revenue anticipation note. Used to pull forward revenues that are exped to be received by the municipality in the coming months.

A 'double barreled' bond is a _____

revenue issue that is also back by a g.o. issue ex: hospital revenue bond backed by ad valorem taxes

Under Regulation SHO each ____ order must be marked _____ or _____. Places limits on ______ short sales of equity securities.

sell order long sale or short sale naked- prohibits 'naked' short selling ( selling short with no intention to deliver the sales on settlement)

PO tranches payments are ____ in the early years and ____ in the later years

smaller larger

Trading 'flat' means

w/out accrued interest