Q Bank Unit 15
Which of the following best describes the investment characteristics of a high-quality long-term municipal bond? A) High inflation risk; low default risk. B) Low inflation risk; high market risk. C) Low inflation risk; low default risk. D) High inflation risk; high market risk.
Answer: A A longer-term bond will be subject to more inflation risk. Since the quality of the bond is high, the level of default risk should be low.
If a customer attempts to place an order for municipal securities that the registered representative deems completely unsuitable for the customer, the registered representative: A) may execute the order and mark the order ticket as "unsolicited". B) may execute the order on a not-held basis. C) must obtain the permission of a municipal securities principal before executing the order. D) must refuse to execute the order.
Answer: A A registered representative may enter any unsolicited order from a customer despite the fact that the representative believes the trade to be unsuitable for the customer. The representative must mark the order ticket "unsolicited".
Rank the following from the safest to the most risky. AAA-rated corporate bonds. Blue-chip stocks. U.S. government securities. Tech stocks. A) III, I, II, IV. B) II, III, IV, I. C) I, III, IV, II. D) III, II, I, IV.
Answer: A It should be obvious that U.S. government securities would be first and tech stocks last. As for options II and III, stocks will fluctuate more in price than highly rated corporate bonds.
Which of the following investments carries the least market risk? A) Savings accounts. B) Treasury bills. C) Treasury bonds. D) Common stock.
Answer: A Savings accounts carry no market risk, which, by definition, is the risk that an investor will experience losses due to day-to-day fluctuations in the prices of securities bought and sold in the market.
Which type of risk is a mortgage-backed security most likely to experience? A) Business or corporate risk. B) Reinvestment rate risk. C) Market risk. D) Exchange rate risk.
Answer: B A mortgage-backed security, such as a collateralized mortgage obligation (CMO), is most likely to experience reinvestment rate risk. As mortgages are paid off early and refinanced in the event of declining interest rates, the interim cash flows received from the obligation must be reinvested in lower yielding securities. This is the practical effect of prepayment risk
A registered representative sits down with a new customer to complete the customer account form. During this time the customer expresses being comfortable with some risk to his initial investment in exchange for potentially higher returns. After the registered representative explains that the willingness to accept some risk may allow the account to keep pace with inflation but that it also means the account could lose value, the customer acknowledges that he understands. This customer's risk tolerance would best be defined as A) moderate aggressive B) moderate C) conservative D) aggressive
Answer: B An investment risk tolerance in which the customer is willing to accept some risk to the initial principal sum invested and the potential loss of the funds in exchange for the opportunity to earn higher returns is best defined as moderate.
John purchased stock of a company in the business of manufacturing yachts. Two years ago his securities had lost most of their value as a result of a congressionally imposed luxury tax on purchases of more than $30,000. John's investment in the yacht-building business suffered a loss due to: A) volatility. B) regulatory (legislative) risk. C) interest rate risk. D) business risk.
Answer: B John's investment in the yacht-building business suffered a loss as a result of regulatory (legislative) risk. In other words, the rules of the game (i.e., tax treatment) changed after John purchased the security.
Most rating services rate which of the following? A) Marketability. B) Durability. C) Quality. D) Reinvestment risk.
Answer: C The rating services are concerned with quality, which is defined as the ability of the issuer or guarantor to pay (default risk).
ABC stock has a beta of 1.2. If the OEX index increases by 6%, ABC would be expected to: A) increase by 6.0%. B) decrease by 7.2%. C) decrease by 6.0%. D) increase by 7.2%.
Answer: D A stock with a beta of 1.2 is 20% more volatile than the market in general. Therefore, if the market rises, ABC can be expected to rise by 20% more than the market. Conversely, if the market falls, stocks with a beta of more than 1 can be expected to fall more than the market falls.
Reinvestment risk is the chance that, after purchasing a bond, interest rates: A) rise. B) remain stable. C) become volatile. D) fall.
Answer: D Reinvestment risk is the danger that after purchasing a bond, interest rates will fall. This means that the fixed interest payments received over the remaining life of the bond will be reinvested at lower rates. The good news is that the price of the bond has probably risen due to falling rates.
Traders in stock index options are exposed to: A) credit risk. B) call risk. C) redemption risk. D) systematic risk.
Answer: D Systematic risk is the possibility that an overall decline in the market will cause a loss in an investment. Index options investors are exposed to the risk that market movement will cause the option positions to move adversely.
Which of the following provides a measurement of the volatility of a particular stock or portfolio as compared to the volatility of the market as a whole? A) Alpha. B) Delta. C) Duration. D) Beta.
Answer: D The beta value is an index that measures the volatility of a stock's or portfolio's movement as compared to the movement of the market as a whole. By definition, the beta of the market is equal to 1.0.
Diversification helps protect against which of the following types of risk? A) Nonsystematic. B) Systematic. C) Market. D) Inflation.
Answer: A Diversification reduces nonsystematic risk, which is associated with the decline of an individual security's value. Systematic risk, such as market risk, affects all securities and therefore is not eliminated by diversification.
If a registered representative wishes to open a joint account with his brother, who is a client of his, which of the following rules would NOT apply? A) The sharing in profits and losses in the account must be proportional to each party's investment in the account. B) The representative's principal must approve the opening of the account. C) Transactions in the account must meet suitability criteria based on the investment objectives noted on the new account form. D) The account may be opened as either tenants in common or as joint tenants with rights of survivorship.
Answer: A If a registered representative is opening a joint account with an immediate family member, the sharing of profits and losses need not be proportional to each party's investment in the account.
Mr. and Mrs. Smith, both nearing retirement, want to reallocate $200,000 of their $500,000 portfolio of blue-chip stocks to an investment that would add to their monthly income after retirement. Of the possible investment choices below, which would be the most suitable recommendation given their investment objective? A) GNMA securities B) High-yield corporate bonds C) Preferred shares of stock D) Exchange-traded notes
Answer: A Of the answer choices given, only Ginnie Mae (GNMA) securities would offer monthly income. Additionally, GNMAs are backed by the US government, which adds to their suitability for this couple nearing retirement. None of the remaining answer choices offer monthly income, and 2 of them (high-yield corporate bonds and exchange-traded notes) have unique risk associated with them, making them unsuitable for those near or in retirement.
If a registered representative owns a vacation home and wants to rent it out during the summer, which of the following statements is TRUE? A) No notification is required. B) Prior notification must be made to the member firm under the rules on private securities transactions. C) Prior notification must be made to the member firm under the rules on outside affiliations. D) No notification is required, provided the vacation home is located in the state where the member firm has its principal office.
Answer: A Rental income is passive income. Passive investments are excluded from the notification requirements of the outside affiliations rule. Similarly, renting a vacation home is not a private securities transaction.
If a customer is concerned about interest rate risk, which of the following securities is least appropriate? A) 10-year corporate bonds. B) 25-year municipal bonds. C) Treasury bills. D) 5-year corporate bonds.
Answer: B Interest rate risk is the danger that interest rates will rise and adversely affect a bond's price. This risk is greatest for long-term bonds; short-term debt securities are affected the least if interest rates change.
The term "churning" refers to: A) repeatedly purchasing stock in order to keep the price up. B) purchasing calls on a particular stock for your own account before entering a large customer order for the stock. C) entering more transactions than necessary, solely for the purpose of generating commissions. D) repeatedly selling a stock short in order to prevent a price rise.
Answer: C Unnecessary transactions entered into for the purpose of generating commissions constitute churning. A charge of churning can result from both excessive number and excessive size of transactions.
Mr. Smith, a 60-year-old conservative investor, is planning to retire next year and would like to roll over his 401(k) assets to your firm. In recommending the appropriate asset mix for these funds, your advice would be to place: A) 100% of the assets in a money-market fund. B) 50% of the assets in various corporate bond funds with the balance in a money-market fund. C) 100% of the assets in a fixed annuity. D) 80% of the assets in various fixed income funds with the balance in equities and equity funds.
Answer: D Even a conservative investor needs some exposure to equities to hedge against inflation. Your best advice is to provide both income (80%) and growth potential (20%).
The risk of a bond decreasing in value during periods of inflation is known as: A) credit risk. B) reinvestment risk. C) marketability risk. D) interest rate risk.
Answer: D Interest rate risk is the possibility that interest rates might rise, causing bond prices to fall. Periods of inflation are accompanied by rising interest rates.
Which of the following are likely to have a low beta? A) Technology stocks. B) Aerospace stocks. C) Software stocks. D) Public utility stocks.
Answer: D Public utility stocks tend to have low betas as do other defensive stocks. Technology, aerospace, and software stocks tend to have high betas.
If a registered representative purchases a limited partnership unit without providing prior written notice to his employing firm, the representative: A) has violated FINRA's rule prohibiting outside business activities. B) must have his firm's written approval before receiving any distributions. C) has violated FINRA's rule against interpositioning. D) is in compliance with FINRA rules because the partnership is a passive investment.
Answer: D The prohibitions against outside business activities do not apply to a passive investment. Holding a limited partnership interest does not entitle the representative to actively manage the partnership; thus, the representative is not in violation.
If a registered representative perceives that unethical trading practices are occurring at his firm or another firm, the RR can report this information to A) the FINRA regulatory tip line in Washington DC B) the Investor Complaint Center operated by FINRA C) the Director of Arbitration of FINRA D) the FBI
Answer: A FINRA operates a regulatory tip line that allows industry insiders to file information relating to rules violations.
Which of the following investments is most suitable for an investor seeking monthly income? A) Money-market mutual fund. B) Zero-coupon bond. C) Growth stock. D) Mutual fund investing in small-cap issues.
Answer: A The money-market mutual fund is the most suitable investment for an investor seeking monthly income. The other securities offer higher long-term growth potential, but they are not designed to provide monthly income.
Under FINRA rules, the annual limit for gifts received from customers or other firms is: A) $250. B) $100. C) $25. D) $50.
Answer: B The annual gift limit is $100. This limit applies to gifts given to, or received from, either your customers or employees of other member firms.
Which of the following securities carries the highest degree of purchasing power risk? A) Convertible cumulative preferred stock. B) Long-term, high-grade bond. C) Short-term note. D) Blue-chip stock.
Answer: B The longer a fixed-income investment is held, the more vulnerable the investor is to purchasing power risk from inflation. Although preferred stock is also a fixed-income investment, convertible preferred will increase in value with the underlying common stock.
Which of the following types of risk CANNOT be eliminated through diversification under the modern portfolio theory? A) Business risk. B) Liquidity risk. C) Systemic risk. D) Interest rate risk.
Answer: C Market risk, sometimes referred to as systemic or systematic risk, cannot be diversified away. The risk of investing in a single industry or sector can be diversified away by investing in several industries with returns not correlated to each other. A general downturn in the market, however, cannot be eliminated through diversification.
A change in which of the following should be indicated in a customer's file? Name. Educational degrees held. Investment objectives. Professional society memberships. A) I and II. B) II and IV. C) III and IV. D) I and III.
Answer: D All primary information, such as name, address, and Social Security number, and all information that could affect recommendations or a customer's financial situation must be noted immediately in the file. Educational degrees and society memberships do not affect investment recommendations.
Which of the following activities are a registered representative's responsibilities? Determining the suitability of various investments for individual customers. Describing the characteristics and benefits of various securities products. Offering tax advice and assisting customers in completing tax returns. Personally holding a customer's securities for a future transaction. A) I and II. B) I and III. C) II and IV. D) III and IV.
Answer: A A registered representative, in addition to entering orders, is primarily responsible for determining investments' suitability and for explaining different investments to prospective investors.
A customer's order to buy 500 shares of QRS at 60 is executed when the registered representative reports the trade execution to the customer. One hour later, the customer notices that QRS is down 2 points and he informs the representative that he no longer wants the stock, nor is he planning to pay for it. The representative should tell the customer that: A) the customer owns the stock and must submit payment. B) the customer may sell the stock at the purchase price in the open market. C) the firm will repurchase the securities from the customer for the price paid. D) the representative will personally repurchase the securities from the customer for the price paid.
Answer: A The customer has entered into a contract to purchase a security as soon as the buy order is executed, and must pay regardless of any subsequent change in the market price. The firm and the representative are prohibited from offering to repurchase the securities at the original price.
A 27-year-old client is in the lowest tax bracket and seeks an aggressive long-term growth investment. If his investment adviser representative recommends a high-rated general obligation municipal bond, the IAR has: A) made an unsuitable recommendation, since a municipal revenue bond would have been more appropriate. B) made an unsuitable recommendation based on the client's needs and objectives. C) recommended a suitable investment because GOs are good long-term investments. D) committed no violation because municipal bonds are well suited for the market's volatility.
Answer: B In recommending a conservative, tax-exempt investment to this customer, the investment adviser representative has failed to make a suitable recommendation given the client's objectives. Municipal bonds are better suited for individuals in high tax brackets and offer little upside appreciation potential.
Your customer's portfolio consists of 40% long-term government bonds, 20% preferred stock, and 40% common shares of utility companies. Which of the following may have the single largest impact on the entire portfolio? A) Foreign currency fluctuations B) Interest rate movements C) Corporate earnings D) Oil and gas price movements
Answer: B Of the four answer choices, interest rate movement is the most likely to impact each of the portfolio components. Interest rates and bond prices have an inverse relationship, and their movement often determines whether investors might seek out investment alternatives with higher returns, such as dividend paying utilities and fixed dividend preferred shares.
An investor's portfolio has a beta coefficient of .85. If the overall market declined by 10% over the course of a year, the portfolio's value has likely: A) increased by 10.85%. B) decreased by 11.76%. C) decreased by 8.5%. D) increased by 8.5%.
Answer: C A beta coefficient of .85 means that the portfolio is considered to be .85 times as volatile as the overall market. Therefore, if the market declines by 10%, the portfolio with a beta of .85 is likely to decline by only 8.5% (.10 × .85).
Which of the following statements is NOT true? A) Beta is a volatility measure of a security compared with the overall market. B) A stock with a beta of .8 will move 20% less than the market. C) Beta is a measure of a security's deviation from its historical average returns. D) A stock with a beta of 1.2 will move 20% more than the market.
Answer: C A measure of a security's deviation from its historical average returns is the security's standard deviation. Beta measures a security's volatility in relation to the overall market. Stocks with a beta greater than 1 are more volatile than the market and stocks with a beta less than 1 are less volatile than the market.
The ABCD Corporation has a beta coefficient of 1.25. Your client's portfolio contains $20,000 of ABCD. After a rise in the overall market of 10%, we would expect the value of this client's ABCD to: A) increase by $5,000. B) decrease by 25%. C) increase by $2,500. D) increase by $2,000.
Answer: C 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. Since the market has increased by 10%, this stock should increase by 12.5% or $2,500 (10% × 1.25 × $20,000 = $2,500).
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. A) I and IV. B) II and IV. C) II and III. D) I and III.
Answer: C Systematic risk, which affects all investments, cannot be diversified away. Nonsystematic risk, or company risk, can.
All of the following are true concerning a market's beta EXCEPT: A) it is by definition equal to 1. B) it shows that if a stock's beta is 1.2 and the market moves by 5%, the stock would move by 6%. C) it provides a measurement of a range that the market may move in any given day. D) it serves as a benchmark for measuring the relative volatility of a stock or portfolio against the movement of the market itself.
Answer: C The beta is a benchmark and does not indicate anything about market movement as a whole. It only measures the movement of a particular security or portfolio as compared to the movement of the entire market.
A registered representative is aware of 3 limited partnerships that might be suitable recommendations for a number of accounts within the firm's client base. Which account classifications would they be least suitable for? A) A trust account B) A corporate account C) An institutional account D) A UTMA account
Answer: D A direct participation partnership (DPP) would be least suitable for a minor's custodial account (UTMA). Limited partnerships are generally not liquid and it is unlikely that a custodial account would be in a position to benefit from any tax advantages the partnership might offer.
A bond's duration is: A) identical to its maturity for an interest-bearing bond. B) an indication of a bond's yield that ignores its price volatility. C) expressed as a percentage. D) longer for a 10-year bond with a 5% coupon than it is for a 10-year bond with a 10% coupon.
Answer: D Duration measures a bond's price volatility by weighting the length of time it takes for a bond's cash flow to pay for itself. If two bonds with differing coupon rates have identical maturities, the one with the lower coupon has the longer duration. The cash flow from an interest-bearing bond makes its duration shorter than its maturity. Bonds with longer duration carry greater price volatility. Duration is expressed in years (time) rather than in percentage.
An investor diversifying a corporate bond portfolio does NOT consider: A) domicile of the investor. B) issuer. C) quality. D) maturity.
Answer: A Domicile, or geographic location of the investor, is not relevant in diversifying a corporate bond portfolio. For example, it is irrelevant if GM the client is located in Michigan or New Jersey. This could be a factor for municipal bond investors due to the possibility of avoiding state income tax. A corporate bond portfolio can be diversified by issuer, quality (rating), domicile of the issuer and maturity.
A wealthy client owns a large percentage of a thinly traded common stock. When this client wants to sell a major portion of his securities, he will immediately face: A) marketability risk. B) market risk. C) interest rate risk. D) credit risk.
Answer: A It is difficult to sell a large block of securities in a thinly traded stock without a substantial discount to market price. This is known as liquidity or marketability risk.
All of the following activities in a customer's mutual fund account may be considered a violation of the Conduct Rules EXCEPT: A) switching of Class A shares between fund families. B) short-term trading in mutual fund shares. C) granting of discretionary authority to a new registered representative. D) excessive activity in the customer's account.
Answer: C Mutual funds are considered a long-term investment. Thus, switching Class A shares of funds, short-term trading of funds, and excessive activity in a customer's account very likely indicate that the registered representative is churning. There is nothing unlawful about granting discretionary authority to a new registered representative.
A new customer asks you to offer recommendations of investments that would provide current income. You would include in your list: government and agency securities. real estate investment trusts (REITs). exploratory oil and gas direct participation programs. new IPO issues. A) I and II. B) I and IV. C) II and III. D) III and IV.
Answer: A Corporate bonds, municipal bonds, government and agency securities, income-oriented mutual funds, some stocks (including utilities and REITs), money market funds, and annuities are among the investments that can contribute current income through dividend or interest payments.
Which of the following bonds is most affected by interest rate risk? A) 7.6s of '31 yielding 7.2%. B) 7s of '22 yielding 7%. C) 7.5s of '24 yielding 7.2%. D) 7.8s of '27 yielding 7.3%.
Answer: A Interest rate risk is the loss in value due to a rise in interest rates. Since there is little difference in coupon rates, the bond with the longest maturity (highest duration) will experience the greatest fall in a rising interest rate market.
When a FINRA member places a third party between it and the best available market, it is a violation known as: A) interpositioning. B) backing away. C) commingling. D) locking markets.
Answer: A This is the definition of the term "interpositioning". A member's obligations to his customer are generally not fulfilled when he channels transactions through another broker/dealer or some person in a similar position, unless he can show that, by doing so, he reduced the costs of the transactions to the customer.
Regarding the topic of outside business activity for associated persons of a FINRA member firm, which of the following statement is NOT TRUE? A) Member firms must grant permission in writing prior to any outside business activity on the part of the associated person. B) An associated person cannot work for any business other than his member firm without his employing broker/dealer's knowledge. C) A passive investment such as the purchase of a limited partnership unit, is not considered an outside business activity. D) Prior written notice must be provided to the member before any outside business activity may occur.
Answer: A While the member firm has the right to reject or restrict any outside business affiliations if a conflict of interest exists, their prior written approval is not required before the business activity can begin.
A customer would diversify his portfolio geographically to avoid which of the following risks? Adverse economic conditions in a particular region. Legislative changes by a state. Decreasing bond prices. Decreasing stock prices. A) III and IV. B) I and II. C) I and IV. D) II and III.
Answer: B Geographic diversification can be used to avoid such risks as economic declines in various regions and changes in legislation at the state level.
Your clients, Mr. and Mrs. Smith, tell you that they have their daughter's wedding to pay for. She will be married in 9 months, and Mr. and Mrs. Smith are anticipating a number of wedding-related expenses between now and then. Of the following choices, which recommendation for the $25,000 they have set aside for the wedding would be the most suitable? A) Utility stock mutual fund B) Money market fund C) A single large-cap dividend paying stock D) An immediate annuity
Answer: B Given the short-term time frame and the requirement to be able to utilize some of the money set aside between now and the wedding date, liquidity and access would be most important. Therefore, of these choices, the money market fund would be the most suitable. An annuity or mutual fund are long-term investment vehicles, and a single stock would expose the money set aside to too much market risk or price fluctuation in relation to when withdraws would need to be made
A couple in their early 30s has been married for 4 years, their disposable income is relatively high, and they are planning to buy a condominium. If they need a safe place to invest their down payment for about 6 months, which of the following mutual funds is the most suitable for these customers? A) XYZ Investment-Grade Bond Fund. B) LMN Cash Reserves Money Market Fund. C) ATF Capital Appreciation Fund. D) ABC Growth & Income Fund.
Answer: B These customers are preparing to make a major purchase within the next few months, so they require a highly liquid investment to keep their money safe for a short amount of time. The money market fund best matches this objective.
A customer's portfolio has a beta coefficient of 1.1. If the overall market increases by 10%, the portfolio's value is likely to: A) decrease by 10%. B) decrease by 11%. C) increase by 11%. D) increase by 10%.
Answer: C A beta of 1.1 means the portfolio is considered to be 1.1 times more volatile than the overall market. If the market is up 10%, the portfolio with a beta of 1.1 is likely to be up 11%.
A customer wants to buy ABC bonds, and as his representative, you have advised him that the trade is unsuitable. If he decides to go ahead with the purchase, you must: A) execute the trade only if the customer has previous trading experience in similar securities. B) not execute the trade. C) execute the trade specifically as the customer has directed you to do but mark it unsolicited. D) execute the trade if FINRA approves.
Answer: C If a customer wishes to purchase a security that the registered representative feels is unsuitable, the trade may be executed if the customer specifically directs it. The ticket should be marked unsolicited.
Which of the following statements regarding nonsystematic risk are TRUE? It is the risk that an individual stock will not perform well. It is the same as market risk. Diversification reduces it. Diversification does not reduce it. A) II and III. B) II and IV. C) I and III. D) I and IV.
Answer: C Nonsystematic risk is company risk, the risk that an individual investment will perform poorly. Diversification can reduce most nonsystematic risks.
If a new customer is preparing to buy his first home within the next year, and his investment objective is aggressive growth, which of the following investments would be most suitable for your customer's portfolio? A) Growth stocks. B) High-yield bond fund. C) T-bills. D) Blue-chip equity fund.
Answer: C While his profile indicates aggressive growth, the fact that he will need his funds in a year or less to purchase a home is the major consideration. With such a short time horizon, any equity investment involves too much risk, as does an investment in a high-yield bond fund. Of the choices, T-bills make the most sense.
Under the 1934 Securities Exchange Act, all of the following are likely to qualify under the SEC's safe harbor rule regarding soft dollar arrangements EXCEPT A) a broker/dealer providing seminars to assist in the analysis of securities in exchange for directing transactions to the broker/dealer B) a broker/dealer providing software to assist in the analysis of securities in exchange for directing transactions to the broker/dealer C) a broker/dealer providing research reports to the advisor in exchange for directing transactions to the broker/dealer D) a broker/dealer providing office furniture and computers in exchange for commissionable trades being directed to the broker/dealer
Answer: D A broker/dealer providing office furniture, telephone lines, or computer equipment to any advisor or financial institution in exchange for directed commissionable transactions to the broker/dealer would generally not fall under the SEC's safe harbor rule regarding soft dollar arrangements.
Credit risk involves: A) fluctuations in overall interest rates. B) danger of not being able to sell the investment at a fair market price. C) inflationary risks. D) possibility of issuer default.
Answer: D Credit risk is the danger of losing all or part of the invested principal as the result of the issuer's failure.
In recommending securities to customers, a FINRA member firm must do which of the following? Guarantee that future performance will match or exceed past performance. Have a suitable basis for recommendations. Disclose or offer to disclose supporting documentation. Offer to reimburse execution costs associated with recommendations. A) I and III. B) I and IV. C) II and IV. D) II and III.
Answer: D Under the Conduct Rules, a FINRA member firm recommending securities to customers must not make future performance or reimbursement guarantees, must have a suitable basis for its recommendation, and must disclose or offer to disclose supporting documentation.
All of the following require prior notification by a registered representative to his broker/dealer EXCEPT A) when he takes a part-time job during the holiday season to earn extra money B) when he is invited to sit on the board of directors of a local business C) when he assists in the private distribution of securities for a non-profit organization D) when he volunteers on the telephones for a fund-raising campaign for the local college
Answer: D Volunteer fund raising for the local college, since it is not a business or securities activity, would not require prior notification of his broker/dealer.
In a rising market, which of the following is least volatile? A) A stock with a beta of 0.5. B) A stock with a beta of 2.0. C) A stock with an alpha of 2.0. D) A stock with an alpha of 0.5.
Answer: A Beta is a measure of a stock's volatility relative to the overall market, as measured by the S&P 500. A stock with a beta of 2.0 will move twice as fast as the overall market, while a stock with a beta of 0.5 will move half as fast as the overall market.
If a customer, while out of town, receives a margin call for securities purchased a day earlier, which of the following actions would be appropriate? The customer overnights a personal check to cover the call. The broker servicing the account writes a personal check to cover the call. The brokerage firm transfers the position to its trading account until the customer returns. The customer uses a wire transfer of funds to cover the call. A) I and IV. B) I and III. C) II and III. D) II and IV.
Answer: A Personal checks as well as wire transfers can be used to meet the call, but a broker may never loan money to a customer. Furthermore, the brokerage firm may never transfer a customer's position to its proprietary trading account pending the customer's return to satisfy a customer's margin call.
A portfolio manager using index options is trying to reduce which of the following types of risks? A) Selection. B) Systematic. C) Financial. D) Purchasing power.
Answer: B Systematic risk (sometimes called systemic risk) refers to the impact the overall market has on an equity portfolio's value. Index options help insure portfolios against systematic risk. The purchase of index puts to protect a portfolio is termed portfolio insurance.
Which of the following investments is least appropriate for a client who is primarily concerned with liquidity? A) Municipal bond mutual funds. B) Bank savings accounts. C) Direct participation programs. D) Preferred stock.
Answer: C DPPs or limited partnerships are illiquid investments because there is generally no secondary market.
A registered representative employed by a broker dealer must notify the employer in writing and be permitted by the employer to do all of the following EXCEPT A) serve as an officer of another business organization B) own an interest in any other organization engaged in the securities business C) own a small financial interest in a publicly traded retail company D) take an evening job as a bartender
Answer: C Registered representatives must notify their employer in writing and be permitted to engage in any other business, serving as an officer or director of another business organization, or own any interests in a privately held financial services company. Publicly held shares do not require consent provided there is no control relationship (defined as 10% or more ownership).
A convertible corporate bond with an 8% coupon yielding 7.1% is available, but may be called some time this year. Which feature of this bond would probably be least attractive to your client? A) Coupon yield. B) Current yield. C) Near-term call. D) Convertibility.
Answer: C The near-term call would mean that no matter how attractive the bond's other features, the client may not have very long to enjoy them.
Duration would be the greatest for which of the following bonds? A) 5.5% coupon, maturing in 5 years. B) 6% coupon, maturing in 10 years. C) 6% coupon, maturing in 5 years. D) 5.5% coupon, maturing in 10 years
Answer: D Duration measures the time in years it takes for a bond to pay for itself. Duration is greatest for bonds with lower coupons and bonds with longer maturities.
A registered representative (RR) at a FINRA member broker/dealer has a brother who is a Certified Public Accountant (CPA), operating his own accounting firm. The 2 brothers decide that they will pay one another for business referrals in the form of a flat fee each time one of them refers a client to the other. For the FINRA member RR, this arrangement is A) prohibited because finder's fees are disallowed amongst financial firms under the anti-money laundering provisions of the Bank Secrecy Act B) allowed because the fee is a flat one and, therefore, not connected to the amount of business the referred customer might do C) allowed so long as the fee is agreed upon in writing before either of them refers a client to the other D) prohibited because FINRA rules do not allow cash or non-cash payment for customer referrals to anyone who is not a FINRA member
Answer: D FINRA rules do not allow cash or non-cash payment for customer referrals to anyone who is not a FINRA member. The prohibition regarding referrals or finder's fees includes payments made in connection with locating, introducing, or referring brokerage account customers to the member firm or registered representative.
When comparing investment alternatives, all of the following must be considered EXCEPT: A) state of incorporation of the companies. B) relative time period of returns on investment. C) differences in risk exposure between the two companies. D) relative after-tax returns, when appropriate.
Answer: A The state of incorporation is generally not a relevant factor when comparing investments.
A foreign company made a private offering dealing with currency transactions and promised a 20% minimum return. A registered representative referred several of his customers to the company and received a $100 referral fee for each customer but no commissions. Because the representative did not execute any transactions, he did not inform his broker/dealer of the referrals. If the investment turned out to be fraudulent, which of the following statements are TRUE? The registered representative may be guilty of assisting in the perpetration of fraud. The investors will also be held liable for the fraud. The investors are victims rather than perpetrators. Because the registered representative did no transactions, he cannot be held liable for the fraud. A) III and IV. B) I and III. C) I and IV. D) II and IV.
Answer: B It is the registered representative's responsibility to perform due diligence on any investments he recommends to customers, even referrals. Because of his referrals, he could be found guilty in the perpetration of fraud.
When interest rates are changing, an investor might expect which of the following to be the most volatile? A) Corporate bond with 20 years to maturity. B) Treasury STRIPS with 20 years to maturity. C) Treasury bill with 5 months to maturity. D) Treasury note with 5 years to maturity.
Answer: B When interest rates are changing, bonds with more years remaining to maturity will have greater volatility. Because zero-coupon bonds, such as treasury receipts and STRIPS, do not make interest payments but are priced at a deep discount to par value, they are more volatile than coupon-bearing bonds.
A registered representative's recommendations to a customer: A) must be reviewed by a principal whether or not they result in a trade. B) are not covered by FINRA rules. C) must match the customer's risk tolerance and investment objectives. D) must be approved in advance by a principal.
Answer: C Recommendations made to a customer must be suitable for that customer. Individual recommendations do not require advance approval or review by a principal, though the resulting trade, if one occurs, must be reviewed by a principal.
A registered representative with ABC Securities has recently become aware of a new variable annuity. As tax time is approaching, the representative decides to recommend the variable annuity to all of his customers as an attractive addition to their portfolios. The representative should: recommend the variable annuity to all of his clients because the tax advantage almost always results in a greater return. recommend the variable annuity to those clients whose needs and objectives match the investment. recommend the variable annuity to all of his clients because of the performance potential of the subaccounts. not recommend the investment to all of his clients in spite of the tax advantages and additional features. A) I and IV. B) II and III. C) II and IV. D) I and III.
Answer: C Recommendations may be made only when it is suitable for the customer's needs. Therefore, he would not recommend the variable annuity to all of his clients despite the tax advantages.
Your customer, a new investor, 24 years of age, earns $35,000 per year and has saved $10,000 to invest. She would like to purchase her first home in approximately 5 years. Which of the following would be the least suitable recommendation given her objective? A) Large-cap equity fund B) Preferred stocks C) Tax-free municipal bonds D) A balanced fund
Answer: C This new investor is not yet at an income level where the tax-free benefits of municipal bonds would be of great benefit. In addition, municipal bonds would have lower yields than other debt securities and would not be as likely to add to the growth needed to achieve her goal. Given her investment objective, each of the other choices would be more suitable regarding potential growth.
A customer buys 100 shares of RFTQ at $10 per share. Several months later, the stock is trading at 4.60 - 5, at which time the registered representative offers to buy back the stock from the customer for his own account at $9 per share. This action is: A) permitted because it allows the customer to sell at a price higher than the current market. B) permitted with the written permission of a principal. C) prohibited because it violates the Uniform Practice Code. D) prohibited because FINRA rules do not allow registered representatives to guarantee customers against loss.
Answer: D A representative may never guarantee a customer against a loss. This is specified in the Conduct Rules, not the Uniform Practice Code.
The risk that time value may erode the premium of an equity option even while the underlying issuer remains financially sound is an example of: A) capital risk. B) interest rate risk. C) reinvestment risk. D) currency risk.
Answer: A Capital risk is generally associated with equity instruments, such as common stock, and equity-related derivatives, such as options. It is the risk that invested dollars can be lost as the result of circumstances unrelated to an issuer's financial strength.
Under FINRA rules, a registered representative is permitted to borrow money from a customer: A) if written notification is given to the firm and the representative receives written approval. B) without restriction. C) if written notification is given to the firm. D) under no circumstances.
Answer: A Firms are not required to permit lending arrangements between registered representatives and their customers. If they do, they must have procedures in place to monitor such arrangements. If permitted by the firm, the arrangement must fall into one of five permissible categories: the customer is a member of the representative's immediate family; the customer is in the business of lending money; the customer and the representative are both registered with the same firm; the arrangement is based on a personal relationship outside of the customer/representative relationship; or the arrangement is based on a business relationship outside of the customer/representative relationship. If permitted by the firm, the representative must advise the firm in writing of the proposed borrowing, and receive written permission.
A registered representative knows that a large block trade to buy shares of XYZ stock for one of his institutional accounts will be executed shortly. The RR enters small orders to buy 100 shares of XYZ for each of his retail discretionary accounts prior to the block trade. This action is: A) a violation known as front-running. B) a violation known as marking the market. C) a violation known as capping. D) allowed.
Answer: A Having knowledge that is not public knowledge of an orders pending execution and placing orders before it occurs, so as to benefit in price movement after it is executed, is a violation known as front-running.
When making recommendations to an advisory client, which of the following carry the most weight? The client's risk tolerance. Past performance of the adviser representative's recommendations. The client's investment needs and objectives. The client's previous investment experience with other advisers. A) I and III. B) I and IV. C) II and III. D) II and IV.
Answer: A Investment objectives and risk tolerance should determine recommendations to an individual advisory client.
Your customer, age 29, makes $42,000 annually and has $10,000 to invest. Although he has never invested before, he wants to invest in something exciting. Which of the following should you suggest? A) Your customer should provide more information before you can make a suitable recommendation. B) An aggressive growth fund because the customer is young and has many investing years ahead. C) A growth and income fund because the customer has never invested before. D) A balanced fund because when the stock market is declining the bond market will perform well
Answer: A It is necessary to get more information about this customer and his definitions of an exciting investment opportunity before making any recommendations. A suitability and risk-tolerance analysis should be performed before a recommendation is made.
In constructing a profile for your customer, you wish to assemble information on both financial and nonfinancial investment considerations that affect your customer. Which of the following qualify as financial investment considerations? Your customer's tolerance of various forms of risk. Your customer's dependants and their ages. Your customer's liquid net worth. Your customer's monthly credit card payments. A) III and IV. B) I and II. C) I and III. D) II and IV.
Answer: A Liquid net worth and expenses such as credit card payments involve concrete sums of money and cash flow and thus, are financial. Number of dependants and risk tolerance should be considered regarding suitability and making appropriate recommendations but they are nonfinancial considerations.
A municipal securities registered representative may be allowed to share in a customer's account if which of the following is TRUE? He shares in the losses as well as the profits. The sharing is proportionate to his investment in the account. The customer is also a municipal securities registered representative. The customer is employed by the same municipal securities dealer. A) I and II. B) II and III. C) II and IV. D) III and IV.
Answer: A MSRB rules specifically prohibit an associated person of a municipal securities dealer from sharing in a customer's account unless the sharing is in direct proportion to the associated person's investment in that account. Sharing in losses as well as profits is also a requirement but is not sufficient if the proportionate sharing test is not met. The proportionate test does not apply if there is an immediate family relationship between the two account holders.
Regarding research reports delivered to a member firm's clients, which of the following statements is CORRECT? A) A member firm may present, and base recommendations on, reports and analysis prepared by another member firm when its source is disclosed. B) A member firm may never base a recommendation on reports or analysis prepared by another member firm. C) A member firm may never present reports or analysis prepared by another member firm. D) A member firm need not disclose that a report or analysis was prepared by another member firm.
Answer: A Member firms are prohibited from presenting research reports or analysis prepared by other sources to clients unless that source is disclosed. Members also may make recommendations based on reports or analysis prepared by other members as long as the report or analysis is not represented as the firm's own.
Your client, age 62, single and just retired with no mortgage, currently owns some growth stocks and AAA rated corporate bonds. He would like to diversify in a way that might add to his current income in order to supplement his pension plan distributions. He tells you he is financially comfortable and willing to accept moderate risk. Of the following choices, which would be the most suitable recommendation for this individual? A) Equity income fund B) Corporate bonds with non-investment grade ratings and higher yields C) Selling naked call options to generate income D) New property direct participation real estate program (DPP)
Answer: A Of these choices, an equity income fund would be the most appropriate. These funds seek current income through dividend-paying stocks and generally have a secondary objective of moderate growth. None of the remaining choices would align with the client's moderate risk criteria.
Your client is interested in a direct participation program (DPP) limited partnership. Which of the following two are most likely to factor into a discussion on suitability of such an investment? Beta. Liquidity. Duration. Age. A) II and IV. B) I and III. C) I and IV. D) II and III.
Answer: A The key here is to recognize that with DPPs, the customer's age is a relevant consideration in determining suitability. DPPs are long-term and illiquid. For example, it is unlikely that DPPs would be suitable for a customer near retirement age, regardless of the customer's financial situation. Beta, having to do with measuring an investment's volatility as related to the overall market, and duration having to with bonds are not factors that would be associated with DPPs
After knowing a customer for a short time a registered representative (RR) is able to discern that the customer's primary investment objective is to preserve his initial principal investment with minimal or no risk. The customer is aware of and comfortable knowing that the account value is not likely to generate current income or returns that will keep pace with inflation. The RR best characterizes the customer's investment profile as A) conservative B) moderate C) moderate conservative D) moderate aggressive
Answer: A This investor's objective and risk tolerance can only align with a conservative profile.
Your next-door neighbor approaches you with a proposed security offering, knowing that you are a registered representative with a large, affluent client base. If he asks you to present this investment opportunity to your clients, you must tell him that: A) you must first show the offering to your broker/dealer and receive permission to proceed with it. B) you may make recommendations on the offering only after you have done a due diligence determination. C) you will present the offering to your clients only after you have established that it is either registered or exempt from registration requirements. D) you will present the offering only to those clients whose investment objectives make it a suitable purchase for them.
Answer: A You must receive permission from your broker/dealer before you sell or offer for sale any security to your clients. To avoid a charge of selling away, you must also see to it that any sales that result are carried on your broker/dealer's books.
Changing any of the following characteristics of the stocks and bonds in an investor's portfolio would likely add diversification EXCEPT the: A) types of securities. B) securities' relative prices. C) issuer's geographic location. D) industries in which she is investing.
Answer: B Portfolio diversification is rarely achieved by price alone. Geographic diversification disburses risk if growth rates vary in separate parts of the country. Diversifying holdings among industries helps as different economic situations affect some industries more than others. Diversifying types of securities helps as bonds react differently from stocks and real estate to changing economic situations.
Your broker/dealer provides occasional research reports to an institutional trading desk in exchange for that institution doing executions for its various fund portfolios through your broker. This is known as A) front running B) soft dollar arrangement C) customer portfolio margining (CPM) D) churning
Answer: B Soft dollar arrangements are ones in which a broker/dealer may provide products or services to an advisor or fiduciary in general, in exchange for that advisor directing brokerage transactions to the broker/dealer for execution.
An investor owns 3 types of municipal bonds: (1) AA-rated City of New York 8% GOs due 2013; (2) AA-rated Ohio Turnpike Authority 7.9% revenue bond due 2012; and (3) AA-rated University of California 7.8% revenue bond due 2013. What type of diversification does this represent? A) Price. B) Geographic. C) Quality. D) Maturity.
Answer: B The bonds are from different issuers from around the country and therefore offer geographic diversification. The prices of the bonds will be similar as a result of the similar quality, coupon, and maturity features.
As a registered representative, if you are assigned to an existing account that was previously handled by another registered representative who has since left your firm, which of the following actions should you take first? A) Require the customer to sign a trading authorization, naming you as the party with authority. B) Verify the account information. C) Suggest the customer buy one of the stocks that you are currently recommending. D) Liquidate the portfolio for immediate reinvestment in stocks you are currently recommending.
Answer: B The first action to take would be to verify and update the customer's information in order to make suitable investment recommendations.
Regarding a bonds duration, which measures the time it takes for a bond to pay for itself which of the following statements is TRUE? A) For interest bearing bonds duration is greater than the bonds maturity B) Interest bearing bonds have no measurable bond duration C) A zero coupon bonds duration is equal to its maturity D) A zero coupon bonds duration is less than the bonds maturity
Answer: C A zero coupon bonds duration is equal to its maturity. For interest bearing bonds duration is less than the bond's maturity.
If a registered representative wants to share in the profit or loss of a customer's account, all of the following statements are true EXCEPT: A) sharing is permitted only in proportion to the capital contributed by each party. B) sharing is permitted without regard to the proportion contributed if there is an immediate family relationship between the parties. C) FINRA must be notified in writing. D) the account must be approved by a principal.
Answer: C All accounts must be approved by a principal, but FINRA is never notified regarding the opening of accounts. In a joint account involving a customer and a registered representative, profit and loss must be shared in proportion to the capital contributed by each party. The proportionate test does not apply if there is an immediate family relationship between the two.
A registered representative is interviewing a new customer, age 27. The customer wants to list capital appreciation as the primary investment objective for the account and is willing to take a moderate degree of risk at this time in his life. The customer also notes concern about inflation and how it will impact his portfolio over time. Which of the following investments is the most suitable recommendation? A) Municipal debt securities B) Long-term government bonds C) Equities such as common and preferred stock D) Corporate debt securities
Answer: C Equities would be the most appropriate investment given the customer's age, capital appreciation investment objective and willingness to accept moderate risk. The remaining answer choices, while each has varying risk characteristics, are not likely to meet the capital appreciation objective.
If a customer is in a low federal income tax bracket and his main investment objective is current income, which of the following securities should the agent recommend? A) City of Milwaukee GO bond. B) Zero-coupon bond. C) Investment-grade corporate bond. D) U.S. government bond.
Answer: C If an investor is in a low-tax bracket any benefit from receiving tax-free municipal bond interest is diminished, making municipal bonds a less suitable investment. Zero-coupon bonds pay no interest until maturity and therefore are not suitable for someone seeking current income. To maximize income, the best recommendation of the choices listed is the corporate bond which offers a higher yield than a government bond with a similar maturity.
A married couple in their early 40s is willing to accept some risk and wants to keep pace with inflation. Which of the following investment choices would be most suitable for them? A) Exchange-traded notes (ETNs) B) Municipal bonds C) A diversified common stock portfolio D) A government bond portfolio
Answer: C Of the choices given, and considering the couple's willingness to accept some risk, common stock would be the most likely to keep pace with inflation. Though generally safer, government bonds and municipal bonds would not likely have yields high enough to achieve the objective. Exchange-traded notes (ETNs) are a more complicated investment and carry credit risk as well.
A member firm wants to give a gift to a registered representative of another member firm. Which of the following would be applicable to the gift? A) This is permitted only if the gift does not exceed $100 and the recipient registered representative's employer consents. B) This is permitted only if the gift does not exceed $100 and FINRA's approval is obtained. C) This is permitted only if the gift does not exceed $100. D) This is permitted only if the gift does not exceed $150.
Answer: C The Conduct Rules place restrictions on the gift-giving activities of registered personnel. Specifically, an employee of one member firm may give gifts up to $100 every 12 months to a registered representative of another member firm. This is designed to prevent employees of different broker/dealers from working together in a way that would be detrimental to the investing public. Notification to or approval by FINRA or the receiving registered representative's firm is not required.
If a client is moderately risk-averse and has an investment objective of capital preservation, what types and allocation of investments would you recommend for this customer? A) A preponderance of speculative stocks and high-yield bonds. B) A mix of high yield bonds and cash/cash equivalents. C) A preponderance of growth stocks and limited partnership vehicles. D) A mix of investment-grade bonds and cash/cash equivalents.
Answer: D An individual with an investment objective of capital preservation should be investing in a mix of investment grade bonds and cash/cash equivalents. Lower risk capital appreciation vehicles, such as large-cap common stock, should also be considered. The other choices noted are too risky for a risk-averse investor.
If your customer is pursuing an aggressive stock buying strategy, which of the following is most suitable for him? A) ABC stock with a beta coefficient of 1.0. B) DEF stock with a beta coefficient of .93. C) Convertible bonds of a mid-cap company. D) GHI stock with a beta coefficient of 1.20.
Answer: D Beta coefficients greater than 1.0 signify that the stock will fluctuate more than the market as a whole. In general, the higher the beta is, the greater the risk. Such risk-taking is appropriate for investors who seek aggressive stock-buying strategies and have both the financial ability and the temperament to withstand downturns in the market.
Which of the following statements best describes the term "churning"? A) Purchasing the same security in more than one customer account at a time. B) Manipulation of market prices by a firm. C) Making false or misleading statements to a customer for the purpose of inducing the customer to purchase or sell a security. D) Trading in a customer's account considered excessive, and for which no discernible investment purpose is detected.
Answer: D Churning is excessive trading for a particular customer's circumstances or exceeding what would normally be considered suitable. This is equally true for both discretionary and nondiscretionary accounts.
A single investor, age 26, wants to begin a long-term saving plan for retirement by opening an IRA with your broker/dealer. Comfortable with mutual funds, an appropriate asset allocation/mix would be A) 50% equity funds, 50% bond funds B) 40% equity funds, 60% bond funds C) 10% equity funds, 90% bond funds D) 80% equity funds, 20% bond funds
Answer: D Long-term investors, such as those saving for retirement, would seek growth of capital as an objective over the safety associated with debt securities. An investor age 26 is far enough away from retirement to accommodate a growth objective and the greater risk associated with equities over debt. It would be suitable to initially allocate a high percentage of the portfolio to equities.
Under the Conduct Rules and the concept of "fair dealing" with customers which of the following is NOT prohibited? A) Short-term trading of mutual fund positions. B) Recommendations to hold existing positions that no longer align with the customers investment objectives. C) Discretionary account transactions that are beyond the customer's financial means. D) Short sales of securities in investment accounts.
Answer: D The Conduct Rules would not prohibit short sales in an investment account unless those transactions did not meet the investor's investment objectives or were not within the investor's financial means. Each of the remaining answer choices would violate the concept of fair dealing with customers under the Conduct Rules and are therefore prohibited.
A registered representative wishes to lend money to a customer. Under which of the following circumstances would written notice to the broker/dealer be required? The customer is the RRs' spouse. The RR and the customer have been close friends since high school. The customer is the RRs' mother. He and the customer have a business relationship outside the firm that necessitates occasional lending between them. A) I and III. B) I and IV. C) II and III. D) II and IV.
Answer: D Written notice to the broker/dealer would be required for a loan from the RR to a friend or someone with whom he has a business relationship. It is not required for loans to immediate family members such as spouses or parents.
