Exam 1 Missed Questions
A customer receives a cash dividend of $1,000 in his margin account. How much of the dividend will be credited to the special memorandum account (SMA)?
$1,000 Cash dividends and interest are considered nonrequired deposits to a margin account and are credited in full to SMA. Once credited to SMA, 100% of the deposit could be withdrawn unless doing so would create a margin call.
A customer buys 200 ABC at 76 and simultaneously writes 2 ABC Mar 80 calls at 2. If the stock rises to 83, and the customer is assigned on the short calls, the customer has a gain of
$1,200. The customer bought 200 shares at 76 and was forced to sell those shares at 80 for a gain of $800. In addition, the customer received $400 for writing the calls, so the overall gain is $1,200. The price of 83 is irrelevant. It only explains why the customer was exercised (the 80 calls are in the money). Breakeven for covered call writing is the cost of stock (76) less premiums (2). The breakeven point is 74, and the customer sold at 80 (6 points × 200 shares = $1,200).
An investor redeems 200 shares of ABC Fund, which has no redemption fee. If the quote is $12.05 bid $13.01 asked, what amount will the investor receive?
$2,410.00 If a mutual fund has no redemption fee, the investor will receive the bid price per share (net asset value) multiplied by the number of shares being redeemed. In this case, the investor would receive $2,410 ($12.05 × 200 shares).
A couple's home has an assessed value of $40,000 and a market value of $100,000. What will the tax be if a rate of 5 mills is used?
$200 Real property tax is based on the assessed value assigned to the property by the municipality's tax assessor (in this case, $40,000). Property tax rates use the mill as a base unit. One mill equals $1 of tax per year for each $1,000 of assessed value. Five mills would equal $5 for each $1,000 of assessed value. Because there are 40 thousands, 40 × $5 equals $200 in annual tax. A shortcut method is as follows: take the assessed value, remove the last three 0s, and multiply by the number of mills of tax ($40 × 5 mills = $200).
An investor placed $5,000 into a 200% leveraged index ETF. During the first period, the index against which the ETF was measured rose by 10%. In the second period, the same index fell by 20%. What is the value of the leveraged ETF investment at the beginning of the third period?
$3,600 The investment value would be $3,600 at the beginning of the third period. In a leverage ETF, the investment result of the portfolio is a multiple of the performance of the index it is measured against. In this question, the ETF value will increase or decrease by 200% (2 times) of the performance of the index. In the first period, the index rose by 10%; therefore, the ETF rose by 20%. The $5,000 investment would have risen to a value of $6,000 ($5,000 times 20% = $1,000 + $5,000). During the second period, the index fell by 20%. The ETF value would have declined by 40% ($6,000 times 40% = $2,400); therefore, the $6,000 investment value would have declined by $2,400 to $3,600.
A 7% convertible debenture is selling at 101, and it is convertible into the common stock of the same corporation at $25. The common stock is currently trading at $23. What is the parity price of the debenture?
$920 To determine the parity price of the bond, first find the number of shares the debenture is convertible into (conversion ratio) by dividing par value by the conversion price ($1,000 / $25 = 40 shares). Next, multiply the current price of the common by the conversion ratio. The result is the parity price of the bond (40 shares × $23 = $920).
Your client writes 2 ABC Nov 220 calls at 5 and buys 200 shares of ABC common stock at $220 in his margin account. What is the breakeven point for the client's position?
215 The breakeven point for covered call writing is the cost of stock purchased less the premium (220 − 5). Breakeven is the same if it is one covered call, or 1,000.
Trading in expiring options series concludes the same day as expiration at
4:00 pm ET. The last time an option can be traded (bought or sold) is 4:00 pm ET on the third Friday of the expiration month (the expiration date). Don't confuse that with the latest time an exercise notice may be submitted. That time is 5:30 pm ET on the expiration date. Think conceptually: you must own an option before you can exercise it. If you buy an option at the last possible time (4:00 pm), you have 1 1/2 hours (up to 5:30 pm) to submit the notice to exercise it. Finally, the official expiration time is 11:59 pm ET or 10:59 pm CT on the expiration date.
AJ&J Treasury bond with a 5% coupon having a maturity date of July 1, 2039, is purchased in a transaction for cash on February 24. What is the number of days of accrued interest shown on the trade confirmation?
54 A bond begins accruing interest on the prior interest payment date (January 1) and accrues up to, but not including, the settlement date (February 24). Did you notice that this was a transaction for cash? That means the settlement date is the same day as the trade (February 24). Normally, Treasury securities settle T+1. If this was a regular-way trade, the accrued interest would be 55 days because settlement would have been February 25. Be careful reading the question; it is easy to skip over critical information. Because accrued interest on government bonds is computed actual days, actual year, 31 days for January plus 23 days for February, it equals 54 days.
Advertising relating to municipal securities must be approved by which of the following?
A general securities principal or municipal securities principal According to MSRB rules, advertising (communications with the public) must be approved by either a municipal securities principal or a general securities principal.
An inverted head and shoulders formation would mean which of the following to a chartist?
A reversal of a downtrend To chartists, head and shoulders formations indicate the reversal of market trends. An inverted formation would forecast the reversal of a downtrend. A head and shoulder's top formation would forecast the reversal of an uptrend.
A customer seeks a significant long-term investment in the Ajax Fund, a growth-oriented mutual fund. To take advantage of breakpoints applicable to large investments, the customer should purchase
Class A shares. For initial purchases, breakpoints are only available if the customer purchases Class A shares, which are sold with a front-end load deducted from the initial investment. A substantial purchase can often reduce the sales charge to zero. Class B and Class C shares are sold with annual 12b-1 fees, as well as a contingent-deferred sales charge. Class D shares are sold with a level sales load plus a redemption fee.
Which of the following statements are true? Systematic risk can be diversified away. Systematic risk cannot be diversified away. Nonsystematic risk can be diversified away. Nonsystematic risk cannot be diversified away.
II and III Systematic risk, which affects all investments, cannot be diversified away. Nonsystematic risk, or company risk, can.
The over-the-counter (OTC) market could be characterized as what type of market?
Dealer The OTC market is a dealer market.
A legal opinion evaluates which of the following features of a municipal issue? Marketability Legality Tax-exempt status Economic feasibility
II and III A legal opinion rendered by bond counsel deals with the tax-exempt status of the proposed issue and its legality. The marketability of the new issue of bonds is dealt with by the syndicate. Economic feasibility relates to revenue bond issues and is performed by independent consultants.
If a customer buys 5 ABC Jan 40 puts and writes 5 ABC Jan 45 puts, which of the following statements are true? The customer profits if the spread widens. The customer profits if the spread narrows. The customer is a bull. The customer is a bear.
II and III Because a put is a right to sell, the premium on the 45 puts is higher than that of the 40 puts. The customer is writing the put with the higher premium, so this is a credit spread, and the bullish investor will profit at expiration if the difference between the two premiums narrows as the contracts lose value.
A customer, long 100 shares of QRS at 62.50, writes 1 QRS Sep 65 call at 1.50. If the call is exercised, which two statements are true? The gain is $250. The gain is $400. For tax purposes, cost basis per share is $62.50. For tax purposes, cost basis per share is $61.
II and III The customer has paid $62.50 for the stock and has received 1.50 for the call. If the Sep 65 call is exercised, the customer will receive 65 for the sale of the stock. After exercise, the total received is $66.50 ($1.50 + $65). $66.50 received minus $62.50 paid equals four points profit ($400). If a covered call writer is exercised, the cost basis for tax purposes is the purchase price of the stock. Sales proceeds for tax purposes are 66.50 per share (strike price plus premium).
Which of the following statements are true? Build America Bonds (BABs) are tax exempt at all levels. Direct-payment BABs provide the municipal issuer with payments from the U.S. Treasury. BABs are issued by the U.S. Treasury. Tax credit or issuer BABs provide the municipal bondholder with a federal income tax credit.
II and IV Created under the Economic Recovery and Reinvestment Act of 2009 to assist in reducing costs to issuing municipalities and to stimulate the economy, BABs are taxable municipal securities. There are two types: direct payment BABs that provide the municipal issuer with payments from the U.S. Treasury and tax credit or issuer BABs that provide the bondholder with a federal income tax credit.
An investor purchases a 2x leveraged ETF. The index value is $100. On day 1, the index falls by 10% and then on day 2 goes up by 10%. How has this affected the investor's account?
It is down 4%. If the index drops by 10 points on day 1, it has a 10% loss and a resulting value of 90. Assuming it achieved its stated objective, the leveraged ETF would therefore drop 20% on that day and have an ending value of $80. On day 2, if the index rises 10%, the index value increases to 99. For the ETF, its value for day 2 would rise by 20%, which means the ETF would have a value of $96 (80 × 20% = 16). On both days, the leveraged ETF did exactly what it was supposed to do—it produced daily returns that were two times the daily index returns. But let's look at the results over the two-day period: the index lost 1% (it fell from 100 to 99) while the 2x leveraged ETF lost 4% (it fell from $100 to $96). That means that over the two-day period, the ETF's negative returns were 4 times as much as the two-day return of the index instead of 2 times the return.
In addition to their tax advantages, municipal bonds are often purchased for their safety. Your client wishing to purchase municipal bonds with the utmost in safety should buy
New Housing Authority bonds. NHAs, sometimes called Public Housing Authority or PHA bonds, have the backing of the federal government. As such, they are the safest of all municipal securities.
An investor purchases 100 shares of a bond ETF at a price of $50 per share on September 5, 2019. On November 1, 2019, and February 1, 2020, the fund distributes a $0.50 per share dividend. On May 11, 2020, the investor sells all the shares at $57 per share. What are the 2020 tax consequences of the sale?
Short-term capital gain of $700 Taxation of the sale of an ETF is similar to that of a mutual fund. The question asks about the tax consequences of the sale, so we ignore the dividend distributions. Buying at $50 per share in September and selling at $57 per share the next May is a $700 capital gain over a period of less than one year.
Which of the following is not a correct statement in respect to the at-risk provisions when investing in a direct participation program (DPP)?
The at-risk provisions do not apply to oil and gas exploration programs. The first thing to notice is that the question is looking for the false (not correct) statement. The at-risk provisions (you can only deduct what you can lose) apply to all DPPs. That makes the statement "The at-risk provisions do not apply to oil and gas exploration programs" a false one and, therefore, the correct answer choice. The most an investor can lose is the capital contributed (and committed for) as well as any share of the liabilities the investor is responsible for, such as in the case of recourse loans. Real estate has one unique feature in that nonrecourse financing is part of the investor's tax basis. In the event the taxpayer has more passive losses than passive income, the excess losses can be carried over indefinitely until used up.
A corporation has an outstanding issue of 8% convertible debentures with a conversion price of $25. The bond indenture contains an antidilutive clause guaranteeing the debt holders the right to maintain proportionate equity conversion in the corporation. If the company pays a 10% stock dividend to its common shareholders, how will that affect the debenture holders?
The bonds will now be convertible at approximately 22.73. The antidilutive provision means the debenture holders will be able to convert into an equivalent share value as before. With a conversion price of $25, the bond is convertible into 40 shares ($1,000 ÷ $25). After the 10% stock dividend, they should be able to have 10% more shares, or 44 shares. That means the conversion price must be reduced. Divide $1,000 by 44 shares and the result is $22.73. Remember, anytime there is a stock dividend, prices go down.
Under the Uniform Transfer to Minors Act (UTMA), how can stock subscription rights be handled in a custodial account?
The custodian can exercise or sell the rights as he deems prudent. One thing that is never considered prudent is to let the rights expire. Even if the custodian does not believe adding more of the stock to the account is proper, there is a value to the rights, and the best interest of the minor is served by turning those rights into cash. Custodians in these accounts are able to sell or exercise the right, regardless of any relationship existing between them and the donor.
A customer owns shares in ACME Income Fund and decides to exchange them for shares in ACME Growth Fund within the same family of funds. Which of the following statements is true?
The exchange is a taxable event. The IRS deems an exchange to be a sale and repurchase of shares. On any sale of securities, capital gains or losses are realized; as such, exchanges are a taxable event.
An investor purchased a corporate bond with a 6% coupon at a net price of 101. The bond had accrued interest for 45 days. Which of the following statements regarding the confirmation of this trade is correct?
The total amount due on the purchaser's confirmation will appear as $1,017.50. Accrued interest is always added to the price of a bond. When you buy the bond, you pay that accrued interest, and when you sell a bond, you receive that accrued interest. The principal value is 101, or $1,010. Forty-five days of accrued interest is ⅛ of a 360-day year, or ¼ of a 180-day semiannual interest payment. With a 6% coupon, the bond pays $30 every 6 months. One quarter of that is $7.50 so the total cost to the purchaser is the $1,010 plus the $7.50, or $1,017.50.
If a customer buys a municipal bond at 110, maturing in eight years, but sells the bond six years later at 103½, the customer will have
a $10 per bond gain. Municipal bonds that are purchased at a premium must be amortized. This bond has a premium of $100, which over eight years, amounts to $12.50 per year. The cost basis of the bond at the time of the sale is $1,100 − (6 × $12.50), or $1,025. If the bond is sold for $1,035, the customer has a gain of $10 per bond.
Nancy is a 55-year-old tenured world history professor at the local state university. She has been participating in the school's 403(b) tax-sheltered annuity (TSA) program for a number of years. Her current account balance is $386,000, which is more than twice the amount of her pre-tax contributions. Nancy is taking a sabbatical for the year and plans to travel the world to visit many of the places she teaches about. To help pay for the trip, she plans to withdraw $60,000 from her account. If she is in the 24% tax bracket, the effect of this withdrawal will be
a tax liability of $20,400. The question tells us that her contributions were all tax-deductible (because her account is a TSA). That means her cost basis, for tax purposes, is zero. Every dollar withdrawn is subject to income tax, and, because Nancy has not yet attained age 59½, the 10% penalty applies. The math is $60,000 times 34% (the 24% plus 10%), and that equals $20,400.
It is not uncommon for one company to attempt to take over another by acquiring a significant percentage of its voting shares. This is called
a tender offer. The SEC defines tender offer as "an active and widespread solicitation by a company or third party (often called the bidder or offeror) to purchase a substantial percentage of the company's securities. Bidders may conduct tender offers to acquire equity (common stock) in a particular company or debt issued by the company."
If a new joint tenants with right of survivorship account is opened, all of the following statements are true except
checks may be drawn in the name of either party. While either party may enter an order, any money or securities delivered out of the account must be in the names of both owners.
A customer must present a signed representation letter stating that he is not a restricted purchaser before buying a new issue of
common stock. New issues of common stock may not be sold at the public offering price to any account in which a restricted person has a beneficial interest. Before buying an IPO, a customer must present a representation letter stating he is not a restricted person.
All of the following statements regarding 529 plans are true except
contributions are made with pretax dollars at the federal level. Contributions are made with after-tax dollars. Withdrawals are tax free at the federal level if used for qualified higher education expenses.
Using a Rule 415 shelf registration, an issuer registered 40 million shares of common stock with the SEC. The registration is effective
for the following two years unless the issuer qualifies as a well-known seasoned issuer (WKSI), where it is three years. There is no need to file a new registration with the Securities and Exchange Commission if the issuer meets the two- or three-year requirement, whichever applies. Beyond these times, a new registration statement would be necessary.
The ABCD Corporation has a beta coefficient of 1.25. Your client's portfolio contains $20,000 worth of ABCD common stock. After a rise in the overall market of 10%, we would expect the value of this client's ABCD common stock to
increase by $2,500. A stock with a beta coefficient of 1.25 could be expected to rise in value at a rate 25% greater than the overall market. Because the market has increased by 10%, this stock should increase by 12.5% or $2,500 (10% × 1.25 × $20,000 = $2,500).
In determining a violation of position limits, short calls are aggregated with
long puts. Position limits are measured by the number of contracts on the same side of the market. Long calls and short puts are on the bull side, and short calls and long puts are on the bear side.
The ABC Insurance Company is advertising its variable annuity product as "ABC Lifetime Income—income generated from mutual fund returns." This advertisement is
prohibited because it implies returns from mutual funds. Variable contracts or their underlying accounts cannot be advertised as mutual funds. Proprietary terms can be used instead of words such as "annuity."
One of the benefits of adding a sinking fund provision to a municipal bond issue is that the bond will generally
receive a higher rating. Adding a sinking fund provision to a bond issue invariably results in a higher rating for the security. The fact that money is put aside to repay the principal on a regular basis offers greater safety. A higher rating results in a lower coupon, not a higher one. After all, the higher the rating, the lower the risk, and that means the issuer is able to borrow at a lower cost. Although the sinking fund itself does not change the maturity date, having a sinking fund enables the issuer to use partial calls to redeem the bond ahead of the final maturity date. A sinking fund has nothing to do with tax treatment.
A registered representative has been doing some research on his own. He would like to share the information with some of his clients and sends an email to 15 of them. He also has some prospects he's been working on and sends the email to 12 of them during the same week. Under the FINRA rule on communications with the public, this would be considered
retail communication. FINRA defines a retail communication as "any written (including electronic) communication that is distributed or made available to more than 25 retail investors within any 30-calendar-day period." It is important to understand that retail investors includes current and prospective customers. Because this report will be sent to 27 within the 30-calendar-day period, it fits the definition. Like virtually all retail communications, principal approval is necessary before it is used. Is this an electronic communication? Yes it is, but the exam will want the more specific response—retail communication.
Regressive taxes would include
sales tax. A regressive tax is one that is flat regardless of the amount being taxed. Sales tax is probably the most common of those. Certain excise taxes, such as fuel tax, are also regressive because the percentage of tax levied is level. Progressive taxes are those where the tax rate increases as the taxable amount increases. The most familiar is personal income tax. Gift and estate taxes are also progressive.
When assets are pooled into financial instruments such as collateralized mortgage obligations (CMOs) to better facilitate selling them to the general public, the process is known as
securitization. Asset-backed securities represent a pool of assets that were combined into a financial instrument such as a CMO for the purpose of better facilitating sales to the general investing public. The process of pooling assets into a single financial instrument for this purpose is known as securitization.
Your broker-dealer is not self-clearing, but instead, is an introducing broker-dealer. Therefore, all extension requests made to your broker-dealers self-regulatory organization (SRO) on behalf of customers would be made by
the broker-dealer's clearing agent. While extension requests are granted on behalf of customers, the request to the SRO cannot come directly from the customer or anyone representing him. For self-clearing broker-dealers, the extension request will come from the broker-dealer. However, for introducing firms that do not clear their own trades, the request comes from the clearing agent.
A qualified legal opinion issued for a municipal bond underwriting means that
the legal opinion is qualified with restrictions and conditions. The word qualified describes the legal opinion, not the attorney (or bond counsel) who issued it. A qualified legal opinion is one in which the bond counsel expresses reservations about conditions that may affect the bond's status. An unqualified legal opinion is rendered without restriction or condition.
The underwriting of most corporate issues is done on a negotiated basis. The investment banker who negotiates with the issuer on a firm commitment underwriting is known as
the syndicate manager. When a syndicate is formed, it is the responsibility of the syndicate manager to negotiate with the issuer and keep the syndicate records of the underwriting. You might also see this position referred to as the managing underwriter or the lead underwriter.
Under Regulation T, action by the broker-dealer is not required when
the total amount of the transaction does not exceed $1,000. Regulation T permits a broker-dealer to disregard any amounts due less than $1,000.
SEC rules require that customers be given a copy of the risk disclosure document before their first transaction in a penny stock. The member firm must receive a signed and dated acknowledgment from the customer that the document has been received. In addition to obtaining the client's signature, the SEC requires the firm to wait at least
two business days after sending the statement before executing the first trade. It is SEC Rule 15g-2 that requires the firm wait at least two business days after sending the risk disclosure document before executing the first penny stock trade for a new customer.
If a customer buys 1 ABC Jan 50 call at 2 and 1 ABC Jan 50 put at 4 when ABC is at 49, the maximum potential gain is
unlimited. Maximum gain in a long straddle is unlimited if the market moves up. If the market moves to zero, the gain is $4,400 (50 − 6 = 44).
Last week, your customer's margin account showed SMA of $6,000. As of the close of business yesterday, the margin account client had a long market value of $50,000 and a debit balance of $40,000. This client
will receive a maintenance margin call for $2,500. When the equity in a long margin account falls below 25% of the market value, the customer receives a maintenance margin call for the amount necessary to bring the account back to 25%. A market value of $50,000 requires at least $12,500 in equity. The account currently has only $10,000 in equity ($50,000 minus $40,000). Therefore, a call will go out for a prompt deposit of an additional $2,500. SMA cannot be used to meet a maintenance call, only an initial margin call. Depositing fully paid marginable securities is another option. In our question, it would be enough securities to bring the LMV in the account up to 4/3 times the debit balance. $40,000 × 4/3 = $160,000 ÷ 3 = LMV of $53,333.33. With LMV of $50,000, the additional needed is $3,333.33
Your FINRA member firm takes 100 GO bonds from a municipal bond dealer out-firm for one hour. This means that
your firm controls the bonds for one hour. A municipal securities dealer may quote a bond price that is firm for a certain time. This is called an out-firm with recall quote. Generally, these quotes are firm for an hour (or half hour) with a five-minute recall period. During this time, the municipal dealer cannot offer those bonds to anyone else—they are under the control of your firm.
