Chapter 13 and 14 Quiz

A bond purchased at $900 with a 5% coupon and a 5-year maturity has a current yield of

5.56%

The Investment Company Act of 1940 permits a reduction in sales charge when reaching a breakpoint for

purchasers meeting the definition of any person The term any person specifically excludes an investment club. Groups put together for the purpose of investing together, such as an investment club or clients of an investment adviser, do not qualify. Although there are exceptions, the exam will only consider accounts held for minor children as being included in the definition.

Issuing callable bonds is advantageous to the issuer because it allows the company to

replace a high, fixed-rate issue with a lower issue after the call date Callable bonds allow the company to take advantage of reduced interest rates by calling in high bonds with high interest rates and replacing them with lower ones. The marketplace requires that the company pay a higher coupon rate on callable compared to ones that are not callable. This compensates the investor for taking the risk of a future call. The call price would never be less than the par value.

Under the Investment Company Act of 1940, an investment company may initially retain the services of an investment adviser only with approval of

the majority vote of the outstanding shares and a majority of that portion of the board of directors that is considered noninterested members The investment adviser's contract must be initially approved by a majority vote of the outstanding shares and a majority of the noninterested members of the board of directors. It is renewed annually by either a majority of the board or a majority of the outstanding shares. In addition, as with all contracts, initial and renewal, it requires a majority of the noninterested board members.

An investor reading the open-end investment company section of today's The Wall Street Journal sees that Bull in the Teashop Fund has a NAV of $10.65 and an offering price of $11.15. He knows that he would have received which of the following if his redemption order had been received by the fund prior to yesterday's market close?

$10.65, less redemption fee, if any An investor redeeming his shares will receive the NAV less any redemption fee that may be described in the prospectus. Investors redeeming through the fund are not charged a commission.

12b-1 Fees can be used to...

12b-1 fees may only be used to cover promotional expenses, not fund management expenses. The amount of the fee must be disclosed in the prospectus. Funds that charge 12b-1 fees of more than 0.25% cannot call themselves no-load funds.

the longest initial maturity for a U.S. T-bill

52 weeks As money market instruments, the longest initial maturity of Treasury Bills is 52 weeks. Those bills are auctioned once per month. T-bills of shorter maturities are auctioned weekly. The shortest initial maturity is 4 weeks.

REIT:

A REIT is an indirect form of ownership of real estate. For tax purposes, at least 90% of the REIT's investment income is distributed to investors in the form of a taxable dividend. Unlike DPPs, there is no flow-through of losses.

Unit investment trust

A unit investment trust (UIT) is a type of investment company whose units are sold in the secondary market and is generally unmanaged, or passively managed as the money manager initially selects the securities to be included in the portfolio and then holds those securities until they mature or the UIT terminates.

Jasper Whitlock is considered an affiliated person of the Tahor Clean Energy Mutual Fund. Under the Investment Company Act of 1940, Mr. Whitlock is prohibited from all of the following EXCEPT A) being elected to the fund's board of directors B) buying anything from the fund, except shares of the fund C) selling anything to the fund, except shares of the fund D) borrowing from the fund (money or property)

A)

Current Yield Formula

Annual Interest / Current Market Price

All of the following are true of government agency bonds EXCEPT A) they trade openly B) they are direct obligations of the U.S. government C) older ones have coupons attached, new ones are book entry D) they are considered relatively safe investments

B) they are direct obligations of the U.S. Government The only government agency that is a direct obligation of the U.S. government is the Ginnie Mae security. All of the others are moral obligations.

Which of the following bonds would most likely be exposed to the greatest amount of interest rate risk? A) DEF 6s of 2041 B) JKL 4s of 2020 C) ABC 5s of 2040 D) GHI 7s of 2042

C) ABC 5s of 2040 The bond with the longest duration is generally going to have the greatest exposure to interest rate risk. Because there is very little difference between maturity dates of 2040 through 2042, the bond with the lowest coupon will have the longest duration. The 4s of 2020 have a relatively short duration, even though their coupon is low.

Many fixed-income investors are looking to avoid loss of principal. Which of the following would likely have the lowest degree of exposure to credit risk? A) Baa-rated municipal revenue bond B) Ba-rated corporate mortgage bond C) Aa-rated corporate debenture D) A-rated general obligation municipal bond

D) Aa rated corporate debenture

Of the following bonds, which has the greatest price volatility? A) AA corporate bond with 7 years to maturity B) Zero-coupon bond with 5 years to maturity C) Corporate bond fund D) Zero-coupon bond with 15 years to maturity

D) Zero-coupon bond with 15 years to maturity The longer the duration of a bond, the greater the volatility will be of its market price when interest rates change. Because zero-coupon bonds do not make interest payments but are priced at a deep discount to par value, they are more volatile than coupon-bearing bonds.

Debentures

Debentures are corporate long-term debt securities issued on the general credit of the corporation and are not backed by any specific assets. The term prior lien means there is a secured claim against a specific asset. Preferred stock is not a debt security, and general obligation bonds are municipal, not corporate, securities.

An investor interested in monthly interest income should invest in

GNMA's GNMAs pay monthly interest and principal, treasury bonds pay semiannual interest, utility stocks pay quarterly dividends, and corporate bonds pay semiannual interest.

A prospect has primary investment objectives of current income and safety of principal. During the initial public offering of a closed-end government bond fund, an agent explains to the prospect that the fund invests in U.S. government-backed bonds, which are very safe as to principal, and plans to make monthly distributions. Little could therefore go wrong. Taken as a whole, this representation is

Innacurate Though parts of the agent's presentation are factually accurate, overall, the statements are misleading because the value of the fund is subject to unpredictable change. Closed-end funds can, and often do, trade below their net asset value, thus subjecting the customer's principal to risk.

A client in the 30% tax bracket owns a 5% XYZ, Inc., debenture due to mature shortly. What yield in a municipal will give him the same after-tax return that he now has with his debenture?

The client's tax rate is 30%; 70% of 5% is 3.5%. A nontaxable municipal bond with a 3.5% yield would give the client the same return.

Yankee Bond

Yankee bonds are issued by non-U.S. entities in marketplaces inside of the United States. The bonds are issued in U.S. dollars, meaning these foreign issuers will have currency risk if the dollar drops in value against their local currency.

As defined in the Securities Exchange Act of 1934, the term municipal security would include A) a City of Chicago school district bond B) 50-year bonds issued by the Tennessee Valley Authority C) a U.S. Treasury bill D) a Province of Ontario library construction bond

a City of Chicago school district bond Under federal law, municipal bonds are those issued by any domestic political body or subdivision from the state level on down. Treasury bills and TVA issues are defined as government securities, not municipal securities. Under federal law, Canadian cities (or provinces) are not municipal securities.

Duration is

a measure of bonds volatility with respect to interest rates.

A review of the prospectus of an open-end investment company reveals that its portfolio consists entirely of negotiable CDs, Treasury bills, and commercial paper. This is probably a

a money market fund

A bond, preferred stock, or debenture exchangeable at the option of the holder for common stock of the issuing corporation is

convertible security

yield to maturity formula

current yield + capital gains yield

Managers of bond portfolios who anticipate an increase in interest rates should

decrease the portfolio duration A bond portfolio manager who anticipates periods of rising interest rates should decrease the duration of a bond portfolio to minimize the price decline. Duration is inversely related to changes in market and coupon interest rates.

A method of assessing the value of a fixed-income security by looking at the future expected free cash flow and discounting it to arrive at a present value is known as

discounted cash flow The discounted cash flow, DCF, is used to assess the value of a fixed-income security by looking at the future expected free cash flow and discounting it to arrive at a present value. This is basically nothing more than taking the income payments you are scheduled to receive over a given future period and adjusting that for the time value of money.

Listed REIT vs unlisted REIT

fees and expenses are the only similarity The internal operating costs of a REIT, such as management fees and administrative expenses, have nothing to do with where units of the REIT are traded. One of the major risks inherent in an unlisted REIT is lack of liquidity. As a result, there is a greater stringency when it comes to suitability, and this leads to stronger oversight by the regulators.

Sector Funds

mutual funds that focus on a specific industry or sector, such as technology stocks

Breakpoint:

point at which the dollar amount of shares being purchased qualifies the investor for a lower sales charge The term "breakpoint" refers to the point at which the number of shares being purchased is large enough to qualify the investor for a reduced sales load. FINRA prohibits broker-dealers and their agents from making a mutual fund sale at just below the breakpoint merely to obtain a larger commission.