Series 7 Exam 3
An investor buys a DEF April 35 put at 3 and simultaneously writes a DEF April 30 put at 1. The maximum that the investor can lose on this position is:
$200 This is a debit spread. The investor paid $200 more for the option purchased than he received for the option sold. If both options expire, he will lose the entire $200, which is his maximum potential loss.
The minimum equity requirement for a pattern day trader is:
$25,000, which must be deposited before the client may continue day trading The minimum equity requirement for a pattern day trader is $25,000. This amount must be deposited in the account before the customer may continue day trading and must be maintained in the customer's account at all times. Day-trading buying power is limited to four times the trader's maintenance margin excess, determined as of the close of the previous day.
A customer owns an AMF October 30 call option. If AMF should split 2 for 1, the customer will own:
2 AMF October 15 calls each for 100 shares When a stock splits 2 for 1 (an even split), the number of contracts increases and the strike price is reduced proportionately. The number of shares representing each listed option remains at 100 shares. The customer will now have 2 calls for 100 shares each at the adjusted strike price of $15 or 2 AMF October 15 calls for 100 shares each of AMF. Listed options are adjusted for stock splits, stock dividends, and rights offerings, but are not adjusted for cash dividends.
A new municipal bond issue has a dated date of January 1 and pays interest each April 1 and Oct. 1. An investor purchased bonds from the issuer with a Thursday, January 31 settlement date. How many days of accrued interest does the investor owe?
30 Accrued interest on a new municipal issue is calculated from the dated date up to, but not including the settlement date. Since the investor's settlement date was January 31, he owes accrued interest from January 1 to January 30 (30 days). The buyer of a new issue must pay the issuer interest that accrues between the dated date and the settlement date, in addition to the principal amount purchased.
According to industry rules, how long should investors wait between 1035 exchanges of variable contracts?
36 months Exchanges of variable contract assets must be scrutinized for both frequency and suitability. The relevant look-back period is typically 36 months.
An investor purchases a 20-year 5.30% bond at par value that will yield 5.75% if called at the first call date in five years. The yield to maturity on the bond is:
5.30% The bond has a coupon rate (nominal yield) of 5.30%. If the bond is purchased at its par value and is not called, but held to maturity, the bond's yield will be the same as the coupon rate, which is 5.30%.
A bond on which a call notice has been issued is purchased by a customer. Which yield must be disclosed on the confirmation?
The yield to call When bonds are called, the yield to call must be disclosed on the confirmation. If a call notice has not been issued, the lower of the yield to call or the yield to maturity must be disclosed.
An equity security that is distributed under the provisions of Regulation S may be resold in U.S. markets:
After a one-year waiting period is satisfied Before a security that is sold under the provisions of Regulation S may be resold in the U.S., there is a distribution compliance period (waiting period) that must be satisfied. For debt securities, the waiting period is 40 days, but for equity securities (as referenced in this question), the waiting period is one year. However, if an overseas investor acquires securities through a Regulation S offering, she may immediately sell the securities overseas through a designated offshore securities market.
In order to be eligible for portfolio margin, a client must:
Be approved for uncovered writing A portfolio margin client must be approved for uncovered writing. There are no specific financial standards nor is there an experience level that must be met. If a customer wants to trade unlisted derivatives, the customer must maintain equity of at least $5,000,000 at all times.
A customer is willing to accept a partial execution on an order to buy up to 800 shares of XYZ stock at 30. If the client does not want the unexecuted portion to be left open, this order should be entered as:
Buy 800 XYZ at 30 IOC An immediate-or-cancel (IOC) order must be executed immediately but does not need to be executed in its entirety. Part of the order may be executed. The unexecuted portion of a day order or a GTC order is placed on the designated market maker's book. A not-held (NH) order gives the floor broker discretion as to when to execute the order.
Which of the following choices will eliminate a short position in a listed option?
Closing purchase If an investor has an open short position that he wishes to liquidate, he will do so through a closing purchase. The following table indicates the different opening and closing transactions. Opening Purchase- Establishes a long position Opening Sale-Establishes a short position Closing Purchase-Liquidates an existing short position Closing Sale-Liquidates an existing long position
Confirmations on regular-way transactions must be sent to customers no later than the:
Completion of the transaction SEC Rule 10b-10 requires that confirmations on regular-way transactions be sent to customers at, or prior to, the completion of the transaction. This is usually, but not always, the settlement date.
The marketability of a municipal bond would NOT be affected by the:
Dated date The dated date of a municipal bond is the date that interest begins to accrue and will not affect its marketability. The marketability of a municipal bond will be affected by the rating it received by either Moody's or Standard and Poor's. The marketability of a municipal bond will also be affected by the block size. A block is considered to be a large quantity of municipal bonds (minimum of $100,000 par value). The maturity of the bond will also affect the marketability of the bond. The closer the bond is to maturity, the more liquid it becomes.
Which of the following statements is NOT a characteristic of an electronic communication network (ECN)?
ECNs act as market makers Electronic communication networks allow market participants to display quotes and execute transactions. These participants are referred to as subscribers and pay a fee to the ECN to trade electronically through the system. ECNs allow subscribers to trade after-hours, and to quote and trade without disclosing their names (anonymously). ECNs act in an agency capacity and will not buy or sell for their own account as with a market maker.
During annuitization, a variable annuity owner will receive payments that are based on a:
Fixed number of annuity units During annuitization (payout), a variable annuity owner will receive payments that are based on a fixed number of annuity units. However, the annuity owner's payments will vary due to the fluctuations in the value of the annuity units. Annuity unit values fluctuate based on the performance of the securities in the separate account.
Which of the following statements is TRUE concerning the reporting of riskless principal and net basis transactions?
For riskless principal transactions, the broker-dealer is required to disclose the amount of markup to the customer. A riskless principal transaction is a trade in which a broker-dealer executes a customer's order that it's holding by buying (or selling) a security and then simultaneously selling (or buying) that security for the customer at the same price (plus a markup, which must be disclosed to the customer). A securities transaction for a riskless principal trade is reported under a single report. A net basis transaction involves a broker-dealer filling a customer's order that it's holding by buying (or selling) a security at one price and selling (or buying) that security for a customer at a different price. (Only the net price is disclosed to the customer.) A net basis trade requires two separate reports. There are specific consent requirements for a broker-dealer to engage in net basis trading with customers. Customer consent varies depending on whether the customer is institutional or retail
Which TWO of the following statements are TRUE concerning bank-qualified municipal bonds? I. To qualify, the municipality may only issue up to $10,000,000 annually II. To qualify, the municipality must issue more than $10,000,000 annually III. Commercial banks are not permitted to purchase this type of security IV. Commercial banks are permitted to purchase this type of security
I and IV Bank-qualified bonds are issued by small municipalities and, to qualify, a municipality may only issue up to $10,000,000 annually. This is done to encourage commercial banks to invest in locally issued municipal securities. Commercial banks that purchase this type of security are permitted to deduct 80% of the interest cost paid to depositors on the funds used to purchase the bonds.
Which of the following choices is NOT a factor in secondary-market municipal joint accounts?
They require a good faith deposit A good faith deposit is a sum of money given to the issuer of a new municipal bond issue along with a syndicate's bid and is not a factor in secondary-market transactions. A secondary-market joint account exists when two or more dealers form an account to jointly offer a block of bonds in the secondary market. As with a new issue, there may be an order period as well as a takedown (member's discount). MSRB rules prohibit members of the account from offering the bonds at different prices.
Which TWO of the following choices are characteristics of reverse convertible securities? I. They are short-term securities II. They are usually long-term securities III. The investor is guaranteed to receive his original principal back at maturity IV. The investor may receive less than the value of his original principal back at maturity
I and IV Reverse convertible securities are short-term notes issued by banks and broker-dealers that usually pay a coupon rate above prevailing market rates. They are considered structured products because, in addition to the coupon rate, the investor may be required to purchase shares of an underlying asset at a fixed price. The underlying asset may be an equity security unrelated to the issuer, or a basket of stock, or an index. The issuer agrees to pay this higher coupon rate since it has an option to sell a security to the investor if the price of the security falls below a specified value known as the knock-in level. If the price of the underlying asset stays above the knock-in level, the investor will receive the high coupon and the full return of his principal. If the underlying asset falls below the knock-in level, the investor will be obligated to purchase shares of the underlying asset at a fixed price. The price of this asset may have depreciated below the knock-in level and the investor may receive substantially less than the original principal.
Which of the following shares would be paid a dividend if the common stock were paid a dividend? I. Cumulative preferred II. Convertible preferred III. Participating preferred
I, II, and III Dividends on preferred stocks must be paid prior to any common stock dividends. In this question, you are told that dividends were already paid to common stockholders. Therefore, all preferred stockholders must have been paid a dividend. Convertible preferred stock is convertible into common stock at a specified price; participating preferred stock gives the holder the right to participate in any extra dividends that are paid to common stockholders; and the holder of cumulative preferred stock will be entitled to any dividends that have been omitted prior to a current dividend payment.
Which TWO of the following choices are methods of underwriting municipal securities? I. Standby II. Negotiated III. Competitive IV. Fill-or-kill
II and III A municipal issuer will choose an underwriter either through a negotiated offering or competitive bidding process. A standby underwriting is associated with a rights offering of common stock. Fill-or-kill is a type of order placed to buy or sell a security in the secondary market. It is not a type of underwriting.
Which TWO of the following securities are typically sold at a discount? I. TIPS II. Treasury bills III. Bankers' acceptances IV. Collateralized mortgage obligations
II and III Treasury bills and bankers' acceptances are typically sold at a discount. The amount of interest is based on the difference between the purchase price and the face value.
Which TWO of the following statements concerning convertible bonds are TRUE? I. Coupon rates are usually higher than nonconvertible bonds of the same issuer II. Convertible bondholders are considered creditors of the corporation III. Convertible bonds are usually issued by companies with strong credit ratings IV. It is possible that a convertible bond will sell at a price based solely on its inherent value as a bond
II and IV Convertible bondholders are considered creditors of a corporation and provide investors with the ability to convert their bonds into shares of common stock of the same issuer at a set price (conversion price). This feature links these types of bonds to the equity markets and the price of a convertible bond is affected by the price of the underlying stock. However, if the price of the underlying stock declines to the point where there is no advantage to the conversion feature, the bond may sell at a price based on its inherent value as a bond, disregarding the convertible feature. Moreover, convertible bonds are issued by companies with weaker credit ratings and allow the issuer to sell debt at a lower cost. Since the conversion feature is a benefit to the bondholder, convertible bonds will have a lower coupon than similar nonconvertible bonds.
Which TWO of the following statements are TRUE regarding the Code of Arbitration? I. If a public customer is involved, all arbitrators must come from outsides the securities industry II. Arbitration decisions are binding and may not be appealed III. Rule violations will be settled between FINRA and a registered representative by arbitration IV. Arbitration is more cost-effective than litigating the matter in court
II and IV Disputes among members must be submitted to arbitration. However, if a dispute involves a customer, the customer may not be forced into arbitration. If a public customer does go to arbitration, a majority of arbitrators must come from outside the securities industry. All arbitration decisions are binding. Rule violations will be settled between FINRA and a registered representative through the Code of Procedure, not arbitration. Arbitration is usually chosen over litigation because arbitration is less costly.
A company currently has $125,000,000 of 3 1/4% convertible bonds. The company is going to offer bondholders $125,000,000 of 3 1/4% nonconvertible bonds plus cash of $15,000,000 for the convertible bonds. How will this transaction, if successful, affect the company's financial status?
It will reduce the cash position and the potential dilutive effect on the common stock The effect of the transaction will be to reduce the cash position and the potential dilutive effect on the common stock. The company is paying out cash and is also issuing nonconvertible bonds in place of convertible bonds (which could have been converted into common stock). This will reduce the cash position and the potential dilutive effect on the common stock
An investor is short 2,000 XYZ calls. In determining position limits, which of the following choices will be totaled with the short calls?
Long XYZ puts The position limit rule regulates the maximum number of option contracts an investor may have, per security, on one side of the market. Buying puts (the right to sell) and selling calls (an obligation to sell) represent the short side of the market. Buying calls (the right to buy) and selling puts (an obligation to buy) represent the long side of the market.
According to industry rules, all of the following are requirements for firms executing net basis trades, EXCEPT:
Noninstitutional customers must sign a blanket consent letter to permit dealers to act in a net basis capacity Written consent must be obtained from noninstitutional customers on an order-by-order basis, prior to conducting a net basis trade. For institutional customers, the firm may obtain oral or written consent prior to each net basis transaction, or depend on a negative consent letter.
When a margin requirement is designed to consider that the risk of one position is offset by another position, i.e., having a long S&P 400 position offset by a short S&P 100 position, this approach to calculating a margin requirement is considered:
Portfolio-based Portfolio margin produces significantly lower margin requirements than strategy-based margin, affording an investor greater leverage. In a strategy-based margin account, directly hedged positions such as long stock and long puts are considered separately. In portfolio management these hedges are considered as well as the interrelationship between existing positions. For example, a client could be long an S&P 500 index option and short S&P 500 futures. These positions would be viewed as interrelated. Using a portfolio-based rationale, margin allows a broker-dealer to align the amount of margin money required to be maintained in the account to the risk of the portfolio as a whole. This approach considers simulated market activity and considers offsetting positions in an account that are positively correlated. Portfolio margining examines the net risk to the entire portfolio.
Which of the following terms is associated with the process of a customer instructing his bank to deliver securities against payment by the clearing firm?
Receipt versus Payment (RVP) DVP (Delivery versus Payment) and COD (Cash on Delivery) are general acronyms used to describe a relationship in which a customer uses a bank to settle trades with executing firms. The firm delivers securities against the bank payment and pays against the bank delivery of securities. When discussing a given transaction, a DVP occurs when the dealer delivers securities to the bank in return for a cash payment from the bank. An RVP (Receipt versus Payment) occurs when the dealer receives securities from the bank and makes a cash payment to the bank. The transaction described in the question is an example of an RVP transaction in which the customer's bank is delivering securities in return for payment by the broker-dealer. It is important to remember that customers (usually institutions) set up brokerage accounts and place orders at these firms. However, trades settle through custodian banks designated by the customers. The broker-dealer will contact the bank, which will send payment or receive securities on behalf of the customers. The broker-dealer will not hold the customer funds or securities.
Money put aside on a municipal revenue issue for the betterment and improvement of the facility is placed in the:
Renewal and replacement fund The renewal and replacement fund holds monies put aside for the improvement of the facility.
A customer buys $10,000 worth of stock in a cash account. Two business days after the transaction settles, the customer calls the broker and tells the broker he does not have sufficient funds to pay for the stock. The brokerage firm will:
Sell him out and freeze the account according to Regulation T of the FRB According to Regulation T of the Federal Reserve Board, the brokerage firm must sell out the securities in the account and freeze the account for 90 days.
A technical analyst does NOT review:
The price-earnings ratio of the Dow Jones stocks The price-earnings ratio of the Dow Jones stocks is an indicator that a fundamental analyst will examine. A technical analyst will review the advance-decline theory, short interest, and the trendline theory.
When purchasing a new issue of stock in a cash account, when must payment be made under Reg. T?
Two business days after the settlement date Regulation T states that payment for a new issue in a cash account is due within two business days following the settlement date of the transaction. When buying shares of a new issue, an investor will receive a when-issued confirmation. Payment is due two business days following the date that the securities are ready for delivery.
As a retirement vehicle, which of the following choices would probably provide the greatest protection of purchasing power?
Variable annuities Variable annuities, theoretically, provide the greatest protection against loss of purchasing power. The payout is based on the securities (mostly equity securities) in the separate account, which historically have increased in inflationary periods. This provides for a larger cash payout to offset the effects of inflation. The other choices given have a fixed payout and do not offer protection against the loss of purchasing power in inflationary periods.
A Form 3 must be filed:
Within 10 days of becoming a director A person must file Form 3 with the SEC within 10 days of becoming an insider. An insider is defined as any director or officer of a corporation or any person with beneficial ownership of more than 10% of issuer's equity securities. Form 4 must be filed within two business days of the date on which an insider changes his ownership position (i.e., buys or sells).
A municipal bond is currently trading at 92 and is callable in 10 years at par. What is the effective yield that must be disclosed on a customer's confirmation?
Yield to maturity The MSRB regulates the yield that must be disclosed on a client's confirmation. The yield disclosed is the lower of the yield to maturity or yield to call. In other words, the yield to worst. If a bond is callable and trading at a discount, the lower of the two would be the yield to maturity.
