Practice Exam
Form ADV-E A) is only used by those advisers not subject to an annual surprise examination B) must be completed by investment advisers that have custody of client funds or securities C) may be used to amend any information included in an investment adviser's registration statement (e.g., business address) D) is used to claim an exemption from registration
B Form ADV-E is the form used by advisers for advisers that have custody of client funds or securities in order to be in compliance with SEC rule 206(4)-2 or similar state rules.
The following numbers (in %) represent the returns from an investment fund over the past seven years: 2014: 13%, 2015: 11%, 2016: 2%, 2017: 6%, 2018: 5%, 2019: 8%, 2020: 6%. Using the range measure would indicate that the seven-year returns from the fund had a mid-range of A) 4%. B) 7.5%. C) 11%. D) 2%.
B The midrange of any group of numbers occurs between the highest and lowest in the group. In this example, the highest number is 13% and the lowest is 2%. The number in the middle of those two is 7.5%. That is slightly higher than the mean (the average of the returns).
An investment of $5,000 made 16 years ago is now worth $20,000. Using the Rule of 72, the approximate compounded annual rate of return is A) 18%. B) 9.0%. C) 4.5%. D) 25%.
B This investment has quadrupled in 16 years. Using the Rule of 72, we know how to compute the rate of return when an investment doubles. This one has doubled every 8 years. Dividing 72 by 8 years gives us an approximate rate of 9%.
One of your customers has inherited $100,000 of Kemach Farm Products, Inc. (KFPI), guaranteed bonds. Being wary of the term guaranteed, you are asked for its meaning in this context. You would explain A) the interest and final principal payment on this bond are guaranteed by KFPI. B) the interest and final principal payment on this bond are guaranteed by someone other than the issuer. C) bondholders may redeem their bonds at the face value at any time prior to maturity. D) the interest payments on this bond are guaranteed to increase to keep pace with inflation.
B a guaranteed security as one whose interest and principal (if a debt security) and dividends (if an equity security) are guaranteed by someone other than the issuer.
A corporation offering securities registered under the Securities Act of 1933 may make which of the following statements? A) The SEC has passed on the adequacy of the information in our prospectus. B) The SEC has passed on the merits of these securities as an investment. C) The SEC has declared this prospectus effective. D) The SEC has endorsed our securities for sale to the public.
C "The SEC has declared this prospectus effective." When a security registers with the SEC, the date that sales may commence is known as the effective date. The SEC neither approves nor disapproves an issue, nor does it pass on the accuracy or adequacy (completeness) of the information presented in a prospectus.
Under rules of the SEC, any institutional investment manager that exercises investment discretion over an equity portfolio with a market value of $100 million or more in certain securities on the last trading day in any of the preceding 12 months must file A) a Form ADV-E. B) a Form 112. C) a Form 13F. D) a Form 13D.
C institutional investment managers with market value of 100 million or more must fill out Form 13F Form ADV-E is used for the independent examination of an IA who maintains custody.
In order to comply with the safe harbor requirements of Section 404(c) of ERISA, the trustee of a 401(k) plan must I offer plan participants at least three different investment alternatives II ensure that plan participants are insulated from control over their portfolios III allow plan participants to change their investment options no less frequently than quarterly IV permit immediate vesting of employer contributions. A) I and IV B) II and III C) I and III D) II and IV
C plan participants must have the ability to select from *at least three* different investments and are allowed to make selection changes no less frequently than *quarterly*.
Assume you own KAPCO Stock Fund that returned 14% over the past five years, during which the stock market returned 12%. This fund has a beta of 1.1 and the risk-free rate of return is 4%. What is the fund's alpha? A) +9.1 B) +2.0 C) +6.0 D) +1.2
D 14 − [4 + (12 − 4) 1.1] = 14 − [4 + 8.8] = 14 − 12.8 = 1.2. This positive result indicates that the fund manager outperformed the market by 1.2% on a risk adjusted basis.
An investment adviser whose primary business is the rendering of investment advice providing investment supervisory services is entitled to use the term: A) pension consultant. B) investment counsel. C) financial planner. D) senior adviser.
B The term investment counsel may only be used by those advisers whose primary function is the rendering of investment advice with individual continuous monitoring of the accounts.
Rank the following bonds in order of shortest to longest duration. I ABC 8s of 2035. II DEF 9s of 2034. III GHI 5s of 2036. IV JKL zeros of 2033. A) IV, II, I, III. B) II, I, III, IV. C) IV, III, I, II. D) III, I, II, IV.
B There is an inverse relationship between a bond's coupon rate and its duration. A higher coupon will pay the investor back through cash flow at a faster rate. Therefore, a zero-coupon bond with no cash flow has a duration equal to its maturity.
Performance guarantees are prohibited under state and federal regulations. Which of the following is an example of a performance guarantee offered by a broker-dealer? A) Our firm is so confident that this recommendation will perform as predicted that it has purchased 1,000 shares for the firm's investment account. B) Our firm's research department has set a 12-month price target on this recommendation of $50 per share. C) Our firm is so confident that this recommendation will perform as predicted that it has established an escrow account with the Administrator to protect investors against loss. D)Our firm is so confident that this recommendation will perform as predicted that it will buy this security back from any customer at the prevailing market price.
C The classic performance guarantee states that the customer cannot lose money. That is prohibited. "...established an escrow account with the Administrator to protect investors against loss." is NOT allowed Buying shares of a recommended security is simply a case of the firm putting its money where its mouth is. There is nothing wrong with setting a price target; nothing is guaranteed. Buying back a security at the prevailing market price (the price on the day the customer wishes to sell) does not guarantee against loss.
Among the major stock averages and indexes, only one is price-weighted. That would be A) the Russell 2000 Index. B) the Standard and Poor's 500 Composite Index. C) the Wilshire 5000 Total Market Index. D) the Dow Jones Industrial Average.
D Price weighted = DowJones
Under the provisions of Regulation S-P, a person who has an investment advisory contract with a registered investment adviser is known as A) a cohort B) a client C) a consumer D) a customer
D Regulation S-P uses two terms: customer and consumer. The *customer* is one with an ongoing relationship, such as would be the case with an advisory contract. - Customer is more personal than consumer A consumer is basically a one-shot deal.
Which of the following items does NOT fall within the Section 28(e) safe harbor? A) Proprietary research reports analyzing the performance of a specific industry B) Software used to analyze client's portfolios C) Research reports prepared by a third party other than the broker-dealer D) Software used to simplify the investment adviser's preparation of its tax returns
D Research reports, whether prepared by the firm or by a third party, fall within the safe harbor provisions of Section 28(e). Software used to analyze securities is also permissible since that benefits the client. Tax preparation software benefits the adviser, but NOT the client. so it is NOT allowed
********Registration with the state as an investment adviser would be required for a person with an office in this state who: A) manages the portfolio of the KPF Balanced Fund, a registered open-end investment company with $22 million in net assets. B) serves as a pension consultant to the XYZ Employees Retirement Plan, covering 1,200 employees with total assets of $278 million. C) manages $13 million in assets for 4 clients. D) only gives advice on securities issued by or guaranteed by the government of the United States.
********C Under the NSMIA, as amended by Dodd-Frank, investment advisers with less than $100 million in assets under management must register with the states. If the adviser manages a registered investment company, the adviser must be federal covered. If the person serves as a pension consultant with more than $200 million in assets, the person has the option of registering with the SEC or the states. A person whose sole advice deals with U.S. government securities is excluded from the federal definition of investment adviser and, therefore, under the NSMIA, is considered a federal covered adviser.
****The Investment Advisers Act of 1940 excludes from the definition of "investment adviser" persons whose advice: I relates solely to municipal issues. II relates solely to issues issued by or guaranteed by the U.S. Treasury. III is solely incidental to their professional practice as an aeronautical engineer. IV is limited to insurance companies only. A) I, II, and IV. B) II and III. C) I, II, III, and IV. D) III and IV.
****B Among the exclusions from the definition of" investment adviser "under both state and federal regulations is the case where certain professionals, including engineers, render the advice in a manner solely incidental to the practice of their professions. Unique to the federal law is the exclusion granted to those persons whose advice deals exclusively with federal government issued or guaranteed issues. *Advice to solely insurance companies qualifies one for an exemption from registration, but does NOT exclude the person from the definition of IA.*
****Under federal law, all of the following investment advisers are exempt from registration EXCEPT A) foreign private advisers meeting several requirements such as having no place of business in the United States and less than $25 million in assets under management B) advisers whose only clients are banks whose deposits are insured by the FDIC C) advisers solely to private funds with less than $150 million in assets under management in the United States D) advisers solely to venture capital funds
****B Federal law exempts investment advisers whose only clients are insurance companies but NOT banks. Why banks are not included in the list is anyone's guess, but they are not. The other three choices all refer to different categories of the private fund exemption.
*****Serendipity Asset Planning (SAP) is a covered investment adviser doing business in 48 states. Alicia Adams is an IAR with SAP and splits her time between an office in state X and state Z. Adams has retail clients as follows: - 10 clients in state W - 30 clients in state X - 65 clients in state Y - 4 clients in state Z Adams would have to register as an IAR in A) states X and Y. B) states X and Z. C)states W, X, and Y. D)states W and Z.
****B when employed by a covered adviser, the only time that state registration is required is when the individual functioning as an IAR has a place of business in the state. Had this been an IAR with a state-registered adviser, registration in all of the states would have been required (the de minimis exemption would not apply to state Z because the IAR has a place of business there).
***Under the Uniform Securities Act, which of the following would NOT be considered an exempt transaction? A) An executor liquidates the estate's portfolio. B) An agent sells U.S. treasury bonds to an individual client. C) The sale of an unregistered nonexempt security to an individual client at that client's request. D) The sale of ABCD common stock, listed on the OTC Bulletin Board, to an insurance company.
***B Even though the bonds are an *exempt security*, the sale to an individual client is not an exempt transaction. Sales to institutions, or sales by fiduciaries, or *unsolicited transactions are all exempt.*
If a portfolio manager wished to reduce inflation risk, which of the following would be most appropriate to add to the portfolio? A) Tangible assets B) Annuities C) Preferred stock D) AAA bonds
A Tangible assets, such as real estate, precious metals, and other commodities, tend to keep pace with inflation. Fixed-dollar investments do not. NOT preferred stock...
You have a 45-year-old client wishing to save for retirement. The client does not have a great deal of investment sophistication and inquires about the risks you have exposed him to by placing the majority of his portfolio in listed common stocks. You would respond that one risk he should not concern himself with is A) liquidity risk B) business risk C) systematic risk D) inflation risk
A A portfolio of listed common stocks will have little to no liquidity risk, as listed shares are easily traded. Even though common stock tends to offer protection against inflation, there is no assurance that the portfolio will keep pace with the rising cost of living.
Which of the following is required to effectuate annual renewal of the registration of an investment adviser representative affiliated with a federal covered adviser? A) State licensing fee B) Form U-4 C) Renewal notice to the SEC D) Consent to service of process
A All investment adviser representatives are registered with the states, not the SEC. Renewal requires the payment of the annual renewal registration or licensing fee. The consent to service of process is a permanent document submitted with the initial application for registration.
Ways in which a Section 529 plan differs from a Coverdell ESA include I tax-free distributions when the funds are used for qualifying educational expenses. II higher contribution limits III no earnings limitations IV contributions that may be made by someone other than a parent or legal guardian A) II and III B) II and IV C) I and IV D) I and II
A Higher contribution limits. Unlike the ESA where there is a ceiling on the earnings for a contributor, there is no limit for someone setting up a 529. Both Section 529 plans and Coverdell ESAs enjoy tax-free distributions, and plans may be established by almost anyone.
Under federal law, the brochure rule requires: A) delivery of a brochure, or summary of material changes, to all clients within 120 days of the end of the adviser's fiscal year. B) concurrent delivery of the Form ADV Part 1A. C) delivery no later than 48 hours before entering into an investment advisory contract. D) delivery no later than 5 business days after the formalizing of the advisory.
A The brochure, or a summary of material changes, must be delivered to clients on an annual basis. It must be delivered not later than the entering into the agreement. The ADV Part 2A and 2B may be used as the brochure.
A client of yours purchased a periodic payment variable annuity 10 years ago. Each month, the client invested $200 and then died suddenly when the account contained 1,355 accumulation units with a value of $16.23 each. Which of the following statements is CORRECT? I The beneficiary will receive 21,991.65. II The beneficiary will receive $24,000. III There is no income tax liability on the part of the beneficiary. IV If the beneficiary is younger than 59½, there is a 10% tax penalty on any distribution. A) II and III. B) I and III. C) I and IV. D) II and IV.
A The death benefit provides that the investor, or his heirs, will never receive less than the amount invested. In this case, since $24,000 was the investment, even though the current value is less, the beneficiary will receive that higher amount. Because the proceeds did not exceed the cost, there is no income tax liability. Had the account performed such that the death proceeds would have greater than the cost, there would have been ordinary income tax due on the excess, but, in no event would the beneficiary be liable for the 10% since that is waived in the case of death.
One method used by some analysts to estimate the future value of a stock is the dividend growth model. This model would probably be most useful in the case of A) a large-cap stock B) a preferred stock C) a small-cap stock D) a AAA corporate bond
A The dividend growth model is a method to value the *common stock* of a company on the basis of assumed constant growth of dividends in the future. Therefore, it can only be applied to a corporation whose dividends might be expected to increase. It is far more likely that a large-cap stock will be paying dividends than a small-cap. Bonds don't pay any dividends, and in any event, their interest, just like the dividends on preferred stock, is fixed; there is no growth possible.
The GHIJ Corporation has a 3% convertible debenture outstanding with a conversion price of $40. The bond's current market price is 126. The most probable reason for this is A) the current market price of the GHIJ common stock is approximately $50 per share B) the current market price of the GHIJ common stock is approximately $35 per share C) GHIJ's earnings have risen since the debenture was issued D) interest rates have risen since the debenture was issued
A With a conversion price of $40, the bond is convertible into 25 shares. Convertible securities generally sell at a slight premium to their parity price which, at $1,260, would be $50.40 per share. 1000/40= 25 shares 1,260/25= $50.4
NASAA's Statement of Policy on Dishonest or Unethical Business Practices of Broker-Dealers and Agents states that it is unethical for an agent registered with a broker-dealer to I personally lend money to the broker-dealer firm with which the agent is registered. II personally lend money to a bank that is a client of the broker-dealer firm with which the agent is registered. III split commissions with an agent registered with a broker-dealer that is under common control. IV borrow money from a mortgage broker who is a client of the agent. A) I and IV. B) II and IV. C) I and III. D) II and III.
B An agent would not be permitted to lend money to a client that is a bank because loans may only be made by entities in the lending business, (agents are not). Agents may only borrow from clients who are lending entities and a mortgage broker does not lend money; the broker arranges the loan, but does not act as a principal. However, there is no problem with an agent lending money to the broker-dealer with which one is affiliated and splitting commissions with properly registered personnel of the same or affiliated broker-dealers is permitted.
Which of the following actions are prohibited under the NASAA Model Rule on Unethical Business Practices of Investment Advisers, Investment Adviser Representatives, and Federal Covered Advisers? A) Determining the price and time of execution of customer orders without written discretionary authority. B) Claiming that advisory fees are negotiable, but maintaining a fixed fee schedule. C) Depositing securities in lieu of a required surety bond. D) Notifying the Administrator that the adviser intends to maintain custody of customer securities.
B If an adviser states that fees are negotiable but charges his fixed rates, that would be an unfair business practice. Time and price are not considered discretion. Cash or securities may be deposited with the Administrator instead of posting a surety bond
In which one of these business entities does the term "member" refer to the owners? A) S corporation. B) Limited liability company. C) Limited partnership. D) Sole proprietorship. ------------------------------------------ Three sisters are interested in forming a business together. They have three initial concerns: 1. Maximizing their benefits from the fact that the business is not expected to earn money for at least the first two years; 2. Making sure that the business will be able to continue in the event that one or two of the sisters dies; and 3. Minimizing their personal liability for the obligations of the business. On the basis of the sister's concerns, which form of business is appropriate for the situation? A) C corporation. B) General partnership. C) Limited partnership. D) LLC.
B Owners of LLCs are called members. ----------------------------------- D The limited liability company (LLC) will allow losses to flow through to the sisters, continue in the event one or two sisters should die, and have the same type of liability protection as offered by a C corporation.
As defined in the Uniform Securities Act, in which of the following cases would an investment adviser NOT be considered to be maintaining custody? A) The investment adviser has direct control over the client's securities B)The investment adviser receives a check made payable to the IA and returns it within 3 business days C) The investment adviser has indirect control over the client's securities D) The investment adviser keeps client securities in street name
B There are 3 cases that would not be custody revolving around the 3-business-day rule. They are as follows: 1. Receiving a check made payable to a 3rd party and forwarding that to the 3rd party within 3 business days 2. Receiving a check made payable to the IA and returning it within 3 business days 3. Receiving securities from a client and returning them within 3 business days If the IA has direct or indirect control over any client assets, that would be custody. Holding securities in street name is direct control. Discretion is not custody because the IA doesn't have any physical control, only the ability to make buy-and-sell decisions in the account.
Mr. Peabody Fawcett and his sister, Ms. Gwenyth Paige-Newberry open a brokerage account at your firm with an initial deposit of $11 million. The account is opened as tenancy in common (TIC) with Peabody owning 40% and Gwenyth the balance. Several years later, Peabody is fatally injured while playing polo. As a result A) the account will be frozen until the results of the probate court are released B) 40% of the value of the account will be transferred to an estate account in his name and 60% will be transferred into an individual account in her name C) Mr. Fawcett's share will be transferred to his sister and an individual account will be opened in her name D) the account will be frozen until receiving instructions from the executor of Mr. Fawcett's account
B With an account opened as tenancy in common (TIC), in the event that one party dies, their portion of the assets will be transferred to an estate account and distributed according to will; *the surviving party's assets remain undistributed and will be transferred into an individual account.*
An investment adviser representative has constructed a portfolio for a client that is 20% U.S. government bonds, 20% corporate bonds, 20% preferred stock, 15% common stock in public utilities, 10% in cash and 15% in small cap stocks. From this, you could safely assume that the client's investment objective is: A) growth with income. B) capital appreciation. C) income. D) preservation of principal.
C 85% of this portfolio is generating income. The only appreciation or growth is coming from the small cap stocks, but they are too small a percentage to be significant. However, with 50% of the portfolio in equities (20% preferred, 15% utilities and 15% small caps) one could not expect preservation of capital to be primary.
Section 401(b) of the Uniform Securities Act defines an agent as an individual who represents a broker-dealer or an issuer in effecting or attempting to effect purchases or sales of securities. However, the term agent would not include an individual: A) employed by a broker-dealer selling securities on behalf of an issuer. B) employed by the investment banking firm engaged to underwrite a new issue of nonexempt securities. C) employed by an issuer to research industry trends. D) representing a non-exempt issuer in the sale of the issuer's securities in a non-exempt transaction.
C Employees of issuers who are not involved with the sale or purchase of their employer's securities are never agents. When individuals represent an issuer in the sale of its securities, they are agents, unless it is one of a small group of exempt securities (e.g. US and Canadian government or municipal securities), or the transaction is exempt. On the other hand, there is almost no case where an individual active in the securities business of a broker-dealer is not an agent.
The antifraud provisions of the Uniform Securities Act would apply to all of the following except A) newsletter publishers who do not give advice to subscribers on the subscriber's specific investment situation. B) persons availing themselves of the de minimis exemption. C) an individual employed by a registered broker-dealer whose sole function is selling commodity futures contracts. D) a broker-dealer registered pursuant to the limited registration option available to Canadian broker-dealers and their agents.
C The Uniform Securities Act's antifraud provisions deal with securities; commodities are NOT a security. Even if one is exempt from registration due to meeting the de minimis exemption, or is excluded from the definition of investment adviser under the publisher's exclusion, the antifraud provisions still apply. The same is true for those Canadian securities professionals who do business in the United States by using the limited registration option available to them.
Initial and renewal contracts between investment advisers and their clients must be in writing when the contract is under the jurisdiction of I the Securities Exchange Act of 1934 II the Investment Company Act of 1940 III the Investment Advisers Act of 1940 IV the Uniform Securities Act A) I and III B) II, III, and IV C) II and IV D) I, II, and III
C The requirement for written advisory contracts is found in both the Investment Company Act of 1940 for those advising registered investment companies and the Uniform Securities Act for state-registered advisers.
If the administrator of a corporate 401(k) plan ensures that a wide variety of investment alternatives are available to employees along with the ability for the employees to monitor their accounts and make frequent changes as needed, ERISA: A) might find the administrator to be shirking his fiduciary responsibility. B) removes the requirement for "top-heavy" testing. C) shifts the responsibility for account performance to the employee. D) removes the requirement for the plan to provide employees with quarterly reports.
C shifts the responsibility for account performance to the employee. Under Section 404(c) of ERISA, when the employees have adequate control of their own investments and sufficient alternatives, the responsibility for account performance is shifted from the administrator to the employee.
One of the purposes of filing the annual updating amendment to the Form ADV Part 1A is to A) disclose the amount and location of securities or funds of clients that are being held by the adviser or a qualified custodian B) provide updated information on those associated persons who are in charge of giving investment advice C) ensure that full disclosure has been made in the adviser's brochure D) verify that the investment adviser still qualifies for SEC registration
D In order to maintain SEC registration, an investment adviser must maintain assets under management of no less than $90 million. The annual updating amendment is used to disclose this information.
Which of the following statements regarding agent registration under the Uniform Securities Act is TRUE? A) The Administrator may request the agent furnish a statement of assets and liabilities. B) The Administrator may initiate a disciplinary action within two years of an agent's withdrawal of registration. C) If, before the effective date of the registration, the Administrator requires amendments to the application, the registration will be considered to have first been filed as of the original filing date. D) In the absence of any action by the Administrator, the effective date of a registration is noon of the 30th day after the filing of a complete application.
D Normally, registration of persons becomes effective at noon of the 30th day following filing. If the Administrator requires the filing of amendments, the clock starts over again with the filing of those amendments, not the original filing date. Agents do not have financial requirements the Administrator has a maximum of *one* year after termination to initiate any actions.
An individual is currently registered as an agent with a broker-dealer. The firm recently began offering wrap fee programs to select clients. If the agent would like to offer these wrap fee programs through the firm, all of the following statements are correct EXCEPT A) the agent would now come under a greater fiduciary responsibility B) the agent would have to become registered as an investment adviser representative C) the broker-dealer would have to be registered as an investment adviser D) the agent would have to become registered as an investment adviser
D Once the broker-dealer decides to offer wrap fee programs, it is no longer excluded from the definition of an investment adviser and would become required to register on either the state or federal level. In order to offer these programs to clients, the agent would now have to become an IAR of the advisory firm and, as such, would now carry the additional fiduciary responsibility incurred in the advisory business. The agent (individual) would NOT have to register as an investment advisor (company)
Wynifred is an investment adviser representative for an SEC-registered investment adviser. She lives in State X and receives a letter from a former boyfriend requesting a contribution to the friend's political campaign for governor of State X. As it happens, Wynifred's firm provides advisory services to State X's employee retirement fund and Wynifred actively solicits business from other state agencies. Which of the following actions would be permitted to Wynifred under the SEC's pay-to-play rule without causing any concerns to her firm? A) Donating a maximum of $250 to the campaign B) Donating a maximum of $150 to the campaign C) Sending a letter to the friend indicating that the rules would not permit her to contribute to the campaign D) Donating a maximum of $350 to the campaign
D Wynifred's solicitation activities define her as a covered employee. The rule allows covered employees to make contributions of up to $350 per official or candidate per election in which they can vote, or $150 for other elections. Because the friend is running for governor in a state in which Wynifred can vote, the upper limit applies.
