9.10 - Antifraud Provisions of the USA
Answer: C Transmitting an order is a clerical function and we don't put that on the order ticket. A typical ticket will include: the account for which the trade is being made, the registered individual placing the order for the client, time stamps for entering and execution (or cancellation), execution price, and terms and conditions of the order (market, limit, etc.).
Answer: A Charging an unreasonable commission (or markup or markdown) is a prohibited practice, but it is not considered fraud. It would be fraudulent to make inaccurate statements regarding the amount of commission being charged, such as, when acting as a principal, telling the customer that there was no commission being charged when, in fact, there is a markup or markdown built into the price.
If an agent recommends the purchase of a technology company with an impressive growth record, but fails to inform the client that the company's technology will become obsolete pending the approval of a competitor's patent, the agent has: A) not violated the Uniform Securities Act because no untrue statements were made. B) committed a prohibited business practice by selling an unsuitable investment. C) violated the Uniform Securities Act. D) not committed a prohibited business practice.
Answer: C The agent has violated the Uniform Securities Act by fraudulently omitting material information in the sale of a security.
In discussing investment ideas with a new, income-oriented customer, an agent explains to the customer that unlike a government bond, which pays interest semiannually, this fund invests in government bonds, will produce income monthly, and has the potential to provide a greater return as interest rates decline and the prices of the bonds in the portfolio increase. This representation by the agent is: A) accurate and complete. B) FALSE. C) inaccurate but not misleading. D) accurate but misleading.
Answer: D The representative's statements are technically accurate but misleading. The fund may pay dividends monthly, and, if interest rates decline, the bonds in the portfolio may increase in value. However, if bonds are sold and the funds are subsequently reinvested at a lower interest rate, the investor's income may decline. If interest rates increase, the bonds in the portfolio would most likely decline in value.
Bryan, an agent registered with a broker/dealer, buys 1,000 shares of XYZ Corp. in his own account. In recommending XYZ Corp. to his customers, Bryan informs them that he believes in the company so much that he put his own money in the stock. This practice is: A) an illegitimate sales tactic. B) only unethical if Bryan sells his shares after informing his clients of his intention to do so. C) only unethical if investors lose money in the investment. D) not an unethical sales practice.
Answer: D This practice is ethical providing it is accurate and not employed in a coercive manner. It would be expected that when Bryan decides to sell his position, he would not do so prior to notifying his clients with a position in that stock. Otherwise, this would be an ethical problem.
Thomas Smith, a registered agent of XYZ Broker/Dealer, believed that his client's security was overvalued. If Smith exaggerated the amount by which the security was overpriced to protect the client from a downturn in the price of the security, each of the following statements is true EXCEPT: A) Smith provided investment advice while acting in a sales capacity, which is a prohibited practice. B) Smith acted in a dishonest and unethical manner. C) Smith made an untrue statement in connection with the sale of a security. D) Smith engaged in fraud in connection with the sale of a security.
Answer: A Smith acted in a dishonest and unethical manner, made an untrue statement in connection with the sale of a security, and engaged in fraud in connection with the sale of a security. The advice to sell the securities was good investment advice, but the sales method was fraudulent.
Which of the following sales would be exempt from the antifraud provisions of the Uniform Securities Act? A) Sale of an index annuity. B) Sale of an exempt security. C) Sale of a nonexempt security. D) Sale of an exempt security in an exempt transaction. Click for Answer and Explanation
Answer: A The antifraud statutes of the USA apply only to securities. Index annuities are not a security. However, the sale would be subject to the anti-fraud provisions of the state insurance code.
The head of research for your firm has just prepared a very positive report on DEF Industries, Inc. The report will be placed on the firm's Website later today, and copies will be mailed to clients for whom the security is deemed appropriate. Tonight this analyst will be appearing on CNBC and will be describing why he has issued this strong buy recommendation. As an investment adviser representative, you would: A) be required to send your clients to the firm's Website before making any comments regarding this security. B) be permitted to contact your clients with this recommendation right now. C) be permitted to contact your clients with this recommendation tomorrow. D) not be permitted to contact your clients until it was determined that the report was general public knowledge.
Answer: B A firm's internal research is not considered inside information. Clients may be contacted as soon as the IAR has access to the report. What is prohibited would be for the IAR to purchase this stock personally before release of the report and then contact clients.
Under the Uniform Securities Act, all of the following are prohibited in a sale EXCEPT: A) an agreement by the agent to repurchase the security from the customer for the same price at a future date. B) a statement by the agent that the security will be listed on an exchange within a year after the company announced its intention to do so. C) telling a client that he is trading commission free when, in actuality, your firm is acting as a principal and placing a mark-up on his trades. D) telling a client that her stock is a sure candidate for a takeover bid.
Answer: B An agent cannot guarantee to buy back the securities at the same price, cannot claim there are no transaction costs when the firm charges a mark-up, and cannot make exaggerated statements relating to future activity in a security. However, the agent may state that the company intends to list its shares on an exchange if this is a fact.
With regard to the Uniform Securities Act, which of the following statements regarding the omission of a material fact by an agent is NOT true? A) It is a violation even if the client failed to make a transaction. B) It is not a violation if the security is exempt from registration under the Uniform Securities Act. C) It is a violation because it is a unethical or fraudulent practice. D) It is a violation even if material facts were unknowingly omitted.
Answer: B Deliberate omission of material facts is a fraudulent practice under the Uniform Securities Act, whether securities are exempt or nonexempt or even if the transaction was exempt. If done unknowingly, then it is a unethical business practice (fraud requires deliberate action) and is still a violation.
In cases of fraudulent sales practices or advice with respect to securities, state securities Administrators may: not take enforcement action against federal covered investment advisers. take enforcement action against federal covered investment advisers. not take enforcement action against state registered investment advisers. take enforcement action against state registered investment advisers. A) I and III. B) II and IV. C) I and IV. D) II and III.
Answer: B State securities Administrators have jurisdiction over any securities transaction or investment advice that involves fraud, whether or not the person involved is a federal covered investment adviser. If it involves a security, there are no exemptions from the Uniform Securities Act for fraud.
An agent tells his customer that a corporation has graduated to the level of quality acceptable for trading on the New York Stock Exchange and, therefore, has less market risk. If he recommends the stock to the customer based on the exchange's listing requirements, the agent has acted: A) unlawfully because the NYSE listing requirements are not a matter of public knowledge. B) unlawfully, because listing on the New York Stock Exchange does not reduce the client's loss exposure and, therefore, the agent misled his client. C) lawfully, because the New York Stock Exchange requires that the companies it lists are substantially capitalized. D) lawfully, because returns were not guaranteed.
Answer: B The New York Stock Exchange listing requirements are quantitative rather than qualitative. Exchange listing does not indicate the level of risk associated with owning a stock. The agent is acting unlawfully if he indicates that NYSE listing is indicative of a security's quality. An agent may not indicate that a security graduated to the level of quality acceptable for trading on the New York Stock Exchange, even if the agent indicates that returns are not guaranteed. Information regarding listing requirements is widely disseminated.
Which of the following is (are) unethical business practices if conducted by a broker/dealer? Acting as agent for both buyer and seller on a transaction. Conducting transactions that do not result in the transfer of ownership between buyers and sellers. Trading securities between house accounts and customer accounts to create trading volume or the appearance of interest in a security. Engaging in trades between other broker/dealers to increase or decrease the price of securities A) I and II. B) III and IV. C) II, III and IV. D) I only.
Answer: C A broker/dealer may act as agent for both buyer and seller in a transaction. All the other activities represent market manipulation and are therefore unethical practices.
Which of the following is an improper activity under the Uniform Securities Act? A) An investment adviser charges a customer a fee for advice leading to the sale of a security, receives a commission on the sale, and discloses the amount of the commission to the customer. B) An investment adviser collects a commission on the sale of insurance products that he recommended, disclosing that a commission would be earned. C) A dealer charges commissions for securities it sells from its inventory and discloses the amount of the commission to the customer. D) An investment adviser charges two customers two different fees for a similar service.
Answer: C Dealers who act as principals in transactions charge markups, not commissions. The adviser can charge customers different fees for similar services without violating the Uniform Securities Act.
Fraud would include the willful omission of: A) a material fact, but only one that might be pertinent to making an investment decision. B) the public offering price in a preliminary prospectus. C) any material fact. D) any fact.
Answer: C In order for the action to be fraud, it must be willful. But, not all willful acts are fraudulent depending on what is and is not a material fact. Material facts are those that a potential investor uses to make an investment decision. Nonmaterial facts may be omitted as they don't affect the selection process. If they are not pertinent, they are not material. The preliminary prospectus (red herring), does not include the public offering price so there is nothing being omitted.
Jack, a registered investment adviser will take the Certified Financial Planner Examination when it is offered in 2 months. He is currently enrolled in an educational program to prepare for the exam. He has just run out of business cards. Because he is confident that he will pass the exam through diligent study, Jack begins to use new business cards with the letters CFP following his name. This would be: A) permissible because designations are not licenses. B) prohibited as a conflict of fundamentals. C) prohibited as an exaggerated claim. D) permissible because Jack is enrolled in an appropriate education program.
Answer: C Indicating that an adviser holds a recognized financial services credential, when that is not so, is an example of an exaggerated claim and prohibited.
If a person who is not an agent or broker/dealer makes a false statement of material fact in connection with the sale of a security, that person: A) has not violated the Uniform Securities Act if the sale was made to an institutional account. B) will probably be arrested by the Administrator. C) has violated the antifraud provisions of the Uniform Securities Act. D) is not covered by the Uniform Securities Act.
Answer: C The Uniform Securities Act makes it illegal for any person to commit a fraudulent act in connection with the sale or offer for sale of a security, not just agents and broker/dealers. The Administrator does not have the power to arrest anyone. He may bring the case to the attention of the Attorney General of the State who can issue a warrant for the arrest.
Walt and Bryan are old friends who are agents with different broker/dealers. Bryan attends one of Walt's investment seminars and, at a prearranged point in the presentation, stands up and exclaims that his rich brother-in-law wisely purchased the same investment. This action is: A) a dubious sales practice but not strictly prohibited. B) only problematic if someone invests in the product and loses money. C) a deliberate attempt to mislead and deceive investors. D) a legitimate sales tactic known as priming the pump.
Answer: C This tactic is a deliberate attempt to mislead investors, get them to invest, and is expressly prohibited.
A securities trade is made. Under normal circumstances, all of the following would be noted on the order ticket EXCEPT: A) the account number. B) the registered agent who accepted the order. C) the name of the individual who transmitted the order. D) the time stamp of the time of order submission.
Answer: C Transmitting an order is a clerical function and we don't put that on the order ticket. A typical ticket will include: the account for which the trade is being made, the registered individual placing the order for the client, time stamps for entering and execution (or cancellation), execution price, and terms and conditions of the order (market, limit, etc.).
Pat Conway, a risk-averse investor, has never invested money outside of bank instruments. Recognizing Pat's conservative nature, his agent recommends Treasury notes, pointing out that federal government-backed securities are riskless securities. In the above situation, the agent has acted: A) lawfully, because Treasury notes are suitable for a risk-averse customer. B) lawfully, because Treasury notes carry no risk of principal default. C) unlawfully, because Treasury notes are unsuitable for a risk-averse customer. D) unlawfully, because the agent failed to disclose that the customer retains interest rate risk.
Answer: D Although Treasury securities (such as T-notes) issued by the federal government do not carry default risk, the customer who buys them retains interest rate risk because the value of the notes will fall if interest rates rise. The agent has acted unlawfully in not disclosing this to the customer.
Under the Uniform Securities Act, which of the following would constitute a fraudulent practice in connection with a sale or offer of securities? Susan tells a client that she is good friends with the CFO of a listed company and has the "inside track" on what is going on. Susan has never met the CFO. John makes a material misstatement during a sale, but the sale is not made. Joe omits material facts while making an offer, but the client makes money on the securities. Harold, who is excluded from the definition of investment adviser, omits material facts during an offer. A) I and III. B) II and IV. C) III and IV. D) I, II, III and IV.
Answer: D Failure to state material facts that are known to the agent or adviser and which would make other statements not misleading is fraudulent. Securities professionals may not be deliberately selective of which material facts to present to clients or prospective clients. In recommending the purchase or sale of a security, misleading or untrue statements of material facts include inaccurate market quotations; incorrect statements of earnings or projected earnings; inaccurate statements of commissions, mark-up, mark-down, or other charges; implying approval by the SEC or state Administrator; using rumors or inside information to induce transactions; indicating approval of a security by any regulatory body; or failure to describe important facts or risks.
In which of the following situations did an agent commit fraud? A) A client claims an agent sold him unsuitable securities. B) On review of his files, an agent discovered he had sold a nonexempt, unregistered security. C) An agent sold an excellent growth company to a client by omitting immaterial information, so as not to distract the client from purchasing a suitable security. D) An agent knowingly sold a nonexempt, nonregistered security to a client who could well afford the risk involved.
Answer: D Fraud requires the intent to deceive. The agent knowingly deceived the client by selling unregistered securities, therefore committing a securities fraud. An agent is not required to provide all information, only material information.
Which of the following statements regarding brokerage and advisory activities under the USA are TRUE? It is not unlawful for an adviser or broker to employ any device, scheme, or artifice to defraud in the sales of securities to institutional investors because the USA is designed to protect individual investors. Under the USA, it is unlawful for an investment adviser to deceive a person when not providing advice to that person. Sanctions for both advisers and brokers include administrative proceedings, judicial injunctions, and civil and criminal prosecutions. It is unlawful for any person, whether technically defined as an investment adviser or not, to deceive another person for compensation as to the value of securities.
Answer: D Sanctions for violations are administrative proceedings, judicial injunctions, and civil and criminal prosecutions. It is also true that any individual, whether technically defined as an adviser or not, may not deceive another person when providing investment advice if he is compensated for providing the advice.
