Simulated Exam Questions Chapter 18-24

Question #51 of 130 Question ID: 1180340 A margin account that contains both long and short stock positions is known as A) a long/short margin account B) an opposition margin account C) a hedged margin account D) a mixed margin account

D) a mixed margin account Explanation When a margin account contains both long and short positions, it is known as a mixed or combined margin account. U22LO2

Question #121 of 130 Question ID: 1263564 Proponents of the efficient market hypothesis believe that A) time horizon is one of the most important investment constraints. B) careful stock selection can produce positive alpha without increasing risk. C) active portfolio management will generally produce better results than passive management. D) markets operate efficiently and stock prices instantly reflect all available information.

D) markets operate efficiently and stock prices instantly reflect all available information. Explanation Because, in an efficient market, all participants are privy to the same information, price fluctuations are unpredictable and respond immediately to genuinely new information. As a result, efficient markets do not allow investors to earn above average returns (positive alpha) without accepting additional risks. Therefore, active management will not produce better results than simply indexing. Although time horizon is an investment constraint, that statement has nothing to do with this question. U20LO10

Question #68 of 130 Question ID: 1180404 Which of the following transactions on the NYSE in ABC common stock would meet the minimum size requirement to be considered a block trade? A) $100,000 total market value B) 10,000 shares C) 200,000 shares D) 100,000 shares

B) 10,000 shares Explanation A block trade is defined as at least 10,000 shares of stock or a trade with a total market value of at least $200,000. U22LO6

Question #39 of 130 Question ID: 1180195 The capital asset pricing model (CAPM) is used by many to assess the expected return of a security. If the current risk-free rate is 3%, the current return on the market is 10%, and a particular stock's beta is 1.4 with a standard deviation of 2.2, the expected return would be A) 17.0% B) 12.8% C) 9.8% D) 14.0%

B) 12.8% Explanation The formula for this computation is as follows: 10% (the return on the market is a beta of 1.0) minus the risk-free rate of 3%, or 7%. Then, multiply that by the beta of this stock (1.4) to arrive at 9.8%. That is, the stock should return 9.8% above the risk-free rate of 3%, or 12.8%. The standard deviation is not relevant to this computation. U20LO9

Question #67 of 130 Question ID: 1263678 Which of the following employer-sponsored plans allows coverage to discriminate in favor of key employees? A) 403(b) plan B) 457 plan C) 401(k) plan D) Defined benefit pension plan

B) 457 plan Explanation Because the 457 plan is technically non-qualified, it does not come under the non-discrimination rules of ERISA. U24LO2

Question #41 of 130 Question ID: 1180351 Stock prices in the over-the-counter market are determined by A) a competitive bid B) negotiation C) an auction D) the 5% markup policy

B) negotiation The 5% markup policy is a FINRA policy regulating commissions and markups, not prices. The OTC market is considered to be a negotiated market in contrast to a stock exchange, which is an auction market. U22LO3

Question #38 of 130 Question ID: 1263456 An investment adviser registered in 4 states would be permitted to enter into an advisory contract with all of the following prospective clients except A) a single parent. B) a charitable foundation. C) a registered investment company. D) a university endowment fund.

C) a registered investment company. Explanation This is a bit sneaky. In order for an investment adviser to enter into an advisory contract with an investment company, the adviser must be SEC registered (federal covered). Federal covered investment advisers are never registered in any states. U18LO1

Question #32 of 130 Question ID: 1180139 An investment strategy where a higher price is paid for a stock based on expected returns is A) dollar cost averaging B) return on investment. C) growth investing D) futures investing

C) growth investing Explanation A growth investor purchases shares that have exhibited faster-than-average gains in earnings over the past few years that is likely to continue to show high levels of margin. Over the long run, growth stocks tend to outperform the market but are riskier than most other stocks and generally pay little or no dividend. U20LO5

Question #27 of 130 Question ID: 1180421 If GHI currently has earnings of $3 and pays an annual dividend of $1.75 and GHI's market price is $35, the current yield is A) 3% B) 5% C) 1.75% D) 8.6%

B) 5% Explanation The current yield is calculated by dividing the annual dividend by the current market value ($1.75 ÷ $35 = 5%). U23LO1

Question #126 of 130 Question ID: 1179886 Which of the following actions should be taken by an agent when a client decides to open an options account? A) Review with the client the risks involved when trading options before the first options trade B) Assure that an options agreement has been signed prior to the first trade taking place C) Obtain approval from the designated options supervisor to open the account no later than 1 business day after the first options trade D) Provide an options disclosure document no later than 15 days after the first trade

A) Review with the client the risks involved when trading options before the first options trade Explanation It is imperative that suitability and risk be addressed with the client before allowing option trading to take place. The ODD must be delivered no later than with account opening, and the options agreement must be returned no later than 15 days after the account opening. An options account must be approved by a designated supervisor prior to any trading takes place in the account. U18LO2

Question #93 of 130 Question ID: 1180478 When an analyst takes a stock's actual return minus the risk-free return and divides that remainder by the stock's standard deviation, the result is A) the Sharpe ratio. B) the expected return. C) the alpha. D) the beta.

A) the Sharpe ratio Explanation The Sharpe ratio for a stock is computed as follows: (actual return minus the risk-free rate) divided by the stock's standard deviation. You might see this expressed as: (r − RF) ÷ sd. This gives us the risk-adjusted return and the higher the Sharpe ratio, the better the investment is performing compared with the risk being taken. In the formula, the risk-free rate used is the 91-day T bill. U23LO2

Question #110 of 130 Question ID: 1180035 An investment adviser representative meets with a couple who explains that they wish to be able to pay for their daughter's college education. The IAR is told that the child will be starting school in 5 years. This 5-year time period would be considered A) an investment policy statement (IPS) B) an investment constraint C) the present value needed D) a capital need

B) an investment constraint Explanation Investment constraints are limitations on the ability to make use of particular investments. They can be liquidity, time horizon, tax concerns, legal and regulatory factors, and unique circumstances (ethical objectives or social responsibility considerations). The easiest way to determine if it is a constraint or a capital need is if a dollar amount is stated. When a specific sum is mentioned, it is a capital need. The IAR might use a present value computation to determine the amount to be deposited,, and this may be part of the client's IPS, but neither of those answers the question posed. U19LO5

Question #45 of 130 Question ID: 1180483 Dan is the owner of a mutual fund that returned him a before-tax return of 15% last year. Inflation is running at an annual rate of 3%, and Dan is in a 27% marginal income tax bracket. What has been Dan's approximate inflation-adjusted after-tax return on the fund over the course of the last year (rounded to the nearest 2 decimal points)? A) 12.00% B) 8.76% C) 7.95% D) 10.95%

C) 7.95% Explanation First, compute Dan's after-tax rate of return of 10.95% as follows: .15 × (1 − .27), or .73 = .1095. Then, compute Dan's inflation-adjusted, or real, rate of return by subtracting the 3% inflation rate from his 10.95% after-tax return. U23LO2

Question #102 of 130 Question ID: 1180229 A corporation sponsors a defined benefit pension plan. The assets of the plan are invested in a diversified portfolio of large-cap stocks. Which of the following options positions would be most appropriate if the corporation wished to protect their ability to meet their obligations to employees? A) Buy S&P 500 index calls B) Sell S&P 500 index puts C) Buy S&P 500 index puts D) Sell S&P 500 index calls

C) Buy S&P 500 index puts Explanation In a defined benefit plan, the corporation is assuming the investment risk. Regardless of the security, the best way to protect a long position is to buy a put, either on that security or on an index with a close correlation. In this case, with a portfolio of large-cap stocks, the S&P 500 index would seem to be the appropriate option to use. U20LO12

Question #35 of 130 Question ID: 1440197 Which of the following statements about diversification through asset class allocation are true? I. Diversification involves investing a portfolio in at least 20 different securities of the same asset class II. Diversification is a way to reduce unsystematic risk in a portfolio. III. Diversification is a defensive investment strategy. A) I and III B) I, II, and III C) II and III D) I and II

C) II and III Explanation Diversification through asset class allocation is the popular investment strategy of investing in several different classes of investments. It is designed to lower the unsystematic risk in a portfolio. The opposite of diversification, through asset allocation is the aggressive strategy of concentrating the portfolio in a single asset class, even when spread out over a large number of issues. U20LO2

Question #106 of 130 Question ID: 1180681 A participant in an ERISA qualified retirement plan is studying the investment policy statement (IPS) prepared by the plan's fiduciary. The contents of the IPS would not include A) determination for meeting future cash flow needs B) investment philosophy including asset allocation style C) specific security selection D) methods for monitoring procedures and performance

C) specific security selection Explanation One thing that could never be in an IPS is a listing of the securities that will be purchased in the future. Types of securities, yes, but not the specific ones. U24LO5

Question #63 of 130 Question ID: 1263721 One of your clients, a couple in their early 30s, asks you to recommend a plan to save for their newborn child's education. They are only able to contribute $1,800 per year. Which of the following would most likely be the best fit for their situation? A) Equity index annuity B) Section 529 plan C) UTMA D) Coverdell ESA

D) Coverdell ESA Explanation The key to this choice is the contribution level. The Coverdell ESA has a maximum annual limit of $2,000 and offers tax-free growth. Why not the Section 529 plan? Invariably, that will be the correct choice when the question involves higher contribution amounts or tax benefits on a state level. When the couple can only contribute $1,800 per year, it seems logical to assume that they are in a low tax bracket where those benefits would be of minimal value. Money in an UTMA tends to lower financial aid for higher education. The annuity would not be suitable for anyone wishing to use the funds prior to age 59½. U24LO7

Question #28 of 130 Question ID: 1180112 Which of the following portfolio management styles would most likely incur the highest transaction costs? A) Buy and hold B) Indexing C) Strategic asset allocation D) Tactical asset allocation

D) Tactical asset allocation Explanation A tactical allocation strategy calls for active trading of a portfolio and will likely incur the highest transaction costs. Passive styles, such as buy and hold and index, have relatively low transaction costs. U20LO3

Question #105 of 130 Question ID: 1179890 Although all new accounts must be approved by a designated supervisor before any trading activity may take place, there is one type of account that must be approved by a specially qualified supervisor. That would be A) an IRA B) a discretionary account C) a margin account D) an options account

D) an options account Explanation Because trading options (puts and calls) generally involves a higher degree of risk than stocks, bonds, or mutual funds, a designated supervisory person with knowledge about options must approve the account opening. U18LO2