Chapter 5 - Missed Questions - 72%

According to NASAA's Recordkeeping Requirements For Investment Advisers Model Rule, investment advisers must maintain books and records that include which of the following?

A copy of each advertisement, investment letter and newspaper article that is sent to 2 or more persons. According to NASAA's Model Rule regarding recordkeeping, an investment adviser must keep a file containing each advertisement, investment letter, newspaper article, or other communication distributed to 2 or more persons. Advisers are not required to keep a copy of client's stock certificates, nor a record of each client s profits and losses. If advertisements are sent to 10 or more persons, the adviser is not required to maintain a record of the names and addresses of the recipients. Under the Investment Advisers Act of 1940, the adviser is required to maintain a copy of any advertising sent to 10 or more persons. (89434)

The following persons would be allowed to trade the account of an incapacitated individual, EXCEPT:

A relative named in a living will. A living will is related to medical decisions that may need to be made in the event of an individual's incapacity. All the other choices would allow the individual to trade in the account of an incapacitated person, providing proper documentation is provided. A durable power of attorney gives someone the authority to make financial and healthcare decisions on another's behalf should that person become incapacitated. (62971)

Which of the following employees of an investment adviser are not considered a registered investment adviser representative?

A senior partner. An investment adviser representative (IAR) is considered any person who is associated with an investment adviser and manages client accounts or portfolios, makes investment recommendations, or gives advice about securities. The IAR definition also includes any person who determines the type of investment advice to give to clients, any person who solicits or negotiates the sale of these services, as well as any person who supervises the personnel performing these job functions. The reason that the senior partner is not considered a registered investment adviser representative is that there's no indication that this person has any of the responsibilities of an IAR. (32514)

Mary Smith is setting up an investment advisory business in the town in which she grew up. She has known the mayor of the community since childhood. She places an advertisement in the local newspaper that quotes the mayor saying, "I have known Mary Smith since childhood and we are fortunate to have someone with her expertise and integrity locating her investment advisory business in our community." This advertisement would be:

A violation of the IA Act of 1940 and, therefore, prohibited. A broker-dealer may use testimonials as long as they disclose whether more than a nominal fee was paid for them. An investment adviser may not use testimonials in its advertising. (62843)

Advisers whose advice is limited to U.S. government securities are defined as investment advisers and required to register with:

According to the Investment Advisers Act of 1940, any adviser that limits its advice to U.S. government securities is excluded from the investment adviser definition. However, the Uniform Securities Act does not offer the same exclusion. For that reason, an adviser that provides advice only about U.S. government securities is defined as an investment adviser at the state level and is required to register with the appropriate state Administrator. (89127)

Under NASAA's Statement of Policy on Unethical Business Practices, which of the following statements is TRUE regarding investment advisory fees charged to customers?

Advisers may not charge fees that are unreasonably high in relation to fees charged by other advisers for similar services. Although it is difficult to compare the advisory services provided to clients of different advisers, a general standard of reasonable fees is used to compare fees charged by various advisers. Fees that are obviously out of line with those charged for similar services are considered unethical. (62043)

Which of the following actions by an agent of a broker-dealer is prohibited?

Determining the type of joint account that a client should open. An agent is in the business of representing a broker-dealer in effecting securities transactions for her firm's account and the accounts of others. Providing a general description of the details and characteristics of brokerage products and accounts is acceptable. On the other hand, determining or suggesting the best type of account for a customer to open has legal ramifications and should be provided by an attorney. (89019)

According to SEC Release IA-1092, a fiduciary must:

Disclose all potential conflicts of interest. In Release IA-1092, the SEC reminds investment advisers that they are fiduciaries. A fiduciary is a person who acts on behalf of, and in the interest of, another person. As fiduciaries, an investment adviser must put the client's interests ahead of its own. Not all conflicts can be avoided. If a conflict exists, the IA must inform the client prior to making a recommendation. In this way, a client can make a decision as to whether to execute the transaction/and or accept the advice given. (62555)

Which TWO of the following are considered exempt reporting advisers (ERAs)? 1) Venture capital advisers 2) Private fund advisers with assets under management of less than $150 million 3) Family office advisers 4) Private fund advisers with assets under management exceeding $150 million

I and II Venture capital advisers and private fund advisers with assets under management of less than $150 million are exempt from registration as an adviser with the SEC and/or state Administrator; however, they must still pay fees and report public information via the IARD/FINRA system.

An investment adviser is also registered as a broker-dealer. According to the Investment Advisers Act of 1940, which of the following statements regarding contracts for impersonal advisory services is/are TRUE? 1) These services may be provided orally. 2) These services may contain statistical information as long as the IA expresses no opinions about the statistics. 3)These services may be distributed in writing. 4)These services cannot claim to meet any specific investment goals of any particular investor.

I, II, III, and IV If an investment adviser offers an impersonal advisory service, it may be offered verbally or in written form and may contain statistics. Impersonal advisory service is defined as service that does not purport to meet the objectives or needs of specific individuals or accounts. When an investment adviser also acts in the capacity of a broker-dealer, it must provide its advisory clients with written disclosure. (67745)

According to SEC Release 1092, an attorney is excluded from the definition of an investment adviser in all the following circumstances, EXCEPT: 1) The attorney charges a separate fee for investment advice and offers these services only to existing legal clients 2) The attorney's website indicates that he is available to offer investment advice on any judgments that his clients win 3) The investment advice being offered by the attorney is incidental to his law practice 4) The income that the attorney generates from providing investment advice is less than 1% of his gross income

I, II, and IV only According to SEC Release 1092, lawyers, accountants, teachers, and engineers are excluded from the investment adviser definition, as long as the advice being provided is incidental to their professional activities (Choice III). The advice being provided by the professionals is not considered to be incidental if they charge a separate fee for the investment advice (Choice I) or advertise publicly that they provide investment advisory services (Choice II). Choice (IV) indicates the attorney derives less than 1% of his gross income from investment advice, but there is no dollar amount or percentage of income that is identified as incidental service. If an attorney is involved in the activities that are referenced by choices I, II and IV, he is required to register his business as an investment adviser. (89037)

Which TWO of the following clients may enter into an advisory contract that includes a performance-based fee? 1) A joint account with a net worth of $1,000,000 2) A partner of the investment adviser with annual income of more than $200,000 3) An IRA account with $2,000,000 under management 4) An individual account with $750,000 net worth

II and III Under the Investment Advisers Act of 1940, performance fees are generally prohibited. Exceptions include contracts for clients who have at least $1,000,000 under management with the adviser or who have a net worth in excess of $2,000,000. Performance-based fees may also be charged to a client who is an executive, a partner, or a knowledgeable employee of the adviser. The amount of funds under management is not a factor for these clients. The type of account (individual, joint, or IRA) is also not a factor. (70135)

Bill is an investment adviser representative for an advisory firm that has satellite offices in Florida and California, but its principal office is in New York City. The adviser has assets under management of $63,000,000 and its largest client is the Aquarius SmallCap Growth Mutual Fund. Bill works in the New Jersey office and has clients that reside in Florida, New York, and New Jersey. In which of the following states must Bill register as an investment adviser representative? 1) California 2) New Jersey 3) New York 4) Florida

II only Although Bill's advisory firm has less than $100 million under management, it is an adviser to a registered investment company. For that reason, the firm is considered a federal covered investment adviser and is only required to register with the SEC (i.e., it is exempt from registration at the state level). The IARs of federal covered advisers are required to register with the Administrator in any state in which they maintain an office. In this question, since Bill only maintains a place of business in New Jersey, he is required to register as an IAR in New Jersey. (89124)

According to the Uniform Securities Act, which of the following investment advisory practices is prohibited?

Investment advisory contracts must provide that: +The adviser will not be compensated on the basis of a share of the capital appreciation of the account. +The adviser may not assign client contracts without the consent of the client. +If the adviser is a partnership, clients will be notified of changes in the partnership within a reasonable period. It is perfectly acceptable to refund advisory fees if an advisory contract is terminated and to charge a fee based on the total value of the account ($150,000). There is no requirement to notify clients if three new portfolio managers (who are not partners or owners) are hired by the firm. (62576)

According to the NASAA Custody Requirements for Investment Advisers Model Rule, an investment adviser that intends to send account statements directly to its clients:

Is permitted to do so if the IA is audited by an independent CPA. According to the NASAA Custody Requirements for Investment Advisers Model Rule, an investment adviser that intends to send account statements directly to its clients is permitted to do so if the IA is audited by an independent public accountant. Advisory clients must be provided with account statements on a quarterly (not monthly) basis. (89109)

According to the Investment Advisers Act of 1940, when must an access person submit a transaction report?

No later than 30 days after the end of each calendar quarter. The Investment Advisers Act of 1940 requires an access person of an adviser to report his personal securities transactions by no later than 30 days after the end of each calendar quarter. On the other hand, the Uniform Securities Act requires an adviser to maintain a record of all personal securities transactions by no later than 10 days after the end of the calendar quarter. (88997)

An firm has been hired to be the investment adviser of the Western Vistas family of funds. The fund family is the firm's only advisory client and it currently has $18 million under management. Which of the following statements concerning the adviser's registration is TRUE?

Since it is a federal covered adviser, it must register with the SEC. Investment advisers are ultimately required to be registered at either the federal level with the SEC or at the state level with the state Administrator; there is no requirement for them to register at both levels. Although there are exceptions, the typical basis for determining whether state or federal registration is required is the amount of assets under management (AUM) for the adviser. However, an important exception applies to firms that serve as advisers to registered investment companies. Regardless of the amount of assets under management for the adviser, any adviser of an investment company is considered a federal covered adviser and is only required to register with the SEC. In this question, the Western Vista family of funds is an investment company. (89104)

An investment adviser has begun to experience difficulties in collecting fees from the accounts of clients that do not elect to have the fees deducted directly from their accounts. As a result, the firm has decided to raise its fees and require a larger up-front deposit from all new accounts for the upcoming year. However, to reward its current clients, the adviser has decided to waive the fee increase and will not change the terms of their contracts. For this situation, what is the adviser required to do?

The IA must make all of the necessary changes and promptly file amendments to its Form ADV. In this question, since the contracts of the current clients are not being changed, the adviser is not required to provide them with written notification or obtain their consent. However, changing the fee structure for new clients is considered a material change to the adviser's business and the adviser is required update and promptly file the amended Form ADV. For any change that is considered to be routine, the adviser may be file an amended Form ADV within 90 days of the adviser's fiscal year. (89035)

Which of the following statements is TRUE regarding SEC Release IA-1092?

The Release noted that an individual who provides advice about securities in general may meet the definition of investment adviser. SEC Release IA-1092 was created to provide guidance to the industry on how existing statutes (the Investment Advisers Act of 1940 and the Uniform Securities Act) applied to some of the newer types of advisory services being offered (e.g., wrap accounts, etc.). The Release was not intended to replace either the Investment Advisers Act or the USA. One of the issues that IA-1092 examines is how the ABC test is met by someone who provides general advice about securities investing but does not recommend specific investments. Under the Release, persons who give generalized advice about investing in securities, as a business, and for compensation, are deemed to be investment advisers. (62503)

Under the Investment Advisers Act of 1940, if an individual wants to create her own investment advisory firm, with which authority would she need to file the application?

The Securities and Exchange Commission (SEC) An investment adviser registering under the Investment Advisers Act of 1940 would register with the SEC. In this question, if the advisory firm is required to register in a state, it would do so with an Administrator under the provisions of the Uniform Securities Act. (89655)

Jack is going through a divorce. He has an individual account managed on a discretionary basis by Trust and Worthy Advisers, Inc. The advisory firm receives a subpoena from the attorney for Jack's wife demanding the records for his account. Which of the following statements is TRUE?

The advisory firm must provide the records demanded in the subpoena. It is considered unethical for an investment adviser to disclose the identity, affairs, or investments of any client unless the client consents, or unless the law requires it. Trust and Worthy would be compelled by law to release the records of its client to the attorney. (62896)

An investment adviser manages the portfolio of a mutual fund and is considered to have custody of the assets. Based on this information, the adviser is subject to an annual audit and is required to maintain copies of which of the following records for a minimum of five years?

The fund's audited financial statements Generally, investment advisers are required to maintain records for five years. In this question, the adviser must retain the mutual fund's audited financial statements for five years. Since this adviser is maintaining custody of a mutual fund's assets, it is also required to schedule an annual audit to be conducted by an independent accountant.

A client with a net worth of $2,500,000 has $300,000 in funds managed by an investment adviser. The investment adviser normally charges 1% of the assets under management but will waive the fee if the performance of a client's account does not attain a certain level of capital appreciation. According to the Investment Advisers Act, which of the following statements is TRUE?

This provision is allowed if the client signs the contract. This case is an example of a contingent fee, which generally includes any arrangement in which the adviser's fee depends on attaining a specific level of capital gains or appreciation (or avoiding capital losses or depreciation). The SEC considers contingent fees a type of performance fee, which are generally prohibited in advisory contracts. Exceptions include contracts for clients who have at least $1,000,000 under management with the adviser, or clients who have a net worth in excess of $2,000,000. Since the client has a net worth of $2,500,000, she would qualify for this exception. (70136)

A client of an investment adviser is willing to speculate in order to achieve higher-than-average returns on his portfolio. The adviser wants to enter into transactions that are not permitted under the Investment Advisers Act of 1940. This is acceptable:

Under no circumstances. Any investment advisory contract that attempts to bind any person to transactions that are not permitted under the Act is null and void. Even if the client signs the contract, and the transactions are disclosed, the contract is void. (62686)

Over the past 10 years, an investment adviser has developed a computerized trading algorithm that produces average returns of 30% per year. To recover the costs associated with development, the adviser now plans to charge clients an annual fee equal to 25% of their average balance. An Administrator would consider this fee:

Unreasonable due to the significant amount of the gains being taken as compensation compared to normal fees from other advisers. Performance-based fees are only available for qualified investors. Assessing a fee of 25% of the gains may be considered reasonable, but an asset-based fee of 25% would certainly be considered excessive. Generally, an asset-based fee exceeding 2% is considered excessive. (67696)

An investment adviser's client base is limited to insurance companies. If the adviser has its only office in State A, with whom must it register?

With State A under the Uniform Securities Act, but not with the SEC under the Investment Advisers Act of 1940. In this example, since the investment adviser is dealing exclusively with insurance companies, it is exempt from registration under the Investment Advisers Act of 1940. However, the IA would likely be required to register in State A because it has an office there. (67585)

Under the Investment Advisers Act of 1940, when is a firm's registration required to be renewed?

Within 90 days of the adviser's fiscal year-end. This is a tricky question because federal regulation of IAs is based on fiscal year, while state regulation is based on calendar year. According to the Investment Advisers Act of 1940, IAs are required to renew their registration within 90 days of their fiscal year-end. On the other hand, the Uniform Securities Act requires registration renewal to be completed at the end of the calendar year. (89052)

Howie is both a registered investment adviser and a licensed real estate agent. He recently prepared a financial plan for Bob. In this plan, Howie recommended that Bob increase his life insurance coverage and also consider putting a portion of his portfolio in hard assets, such as real estate. Howie knew of a property called Blackacre that was currently for sale and told Bob about it. Bob eventually purchased Blackacre using Howie as his real estate agent and Howie received a commission for the purchase. Would Howie's commission for selling Blackacre be considered compensation under the Investment Advisers Act?

Yes, Howie's commission for Blackacre would be considered part of his compensation as an investment adviser. SEC Release 1092 states that investment adviser compensation includes "any economic benefit." It can include commissions generated by the sale of nonsecurities products such as insurance or real estate. Thus, Howie's commission for Blackacre would be considered investment adviser compensation within the meaning of the Investment Advisers Act. (62414)