S7 Mock Exam 7 (Part 1)

If a customer buys 1 ABC Jan 50 call at 2 and 1 ABC Jan 50 put at 4 when ABC is at 49, the customer must deposit A) $600. B) $200. C) $400. D) $500.

A) $600. The customer purchased a straddle and must pay the full cost of both options ($200 + $400 = $600 total premium). LO 16.d

A technical analyst would consider which of the following indicators to be bullish? A) An increase to the short interest B) A head and shoulders top formation C) A stock trading below its 50-day moving average D) A stock reaching its resistance level

A) An increase to the short interest Although it seems counterintuitive, as the number of outstanding shares sold short increases, technical analysts consider that to be a bullish sign. One day, those short positions will have to be covered and that high demand for the stock will push the price up. When a stock reaches its resistance level, it is going to make a retreat (bearish). It is only when there is a breakout above the resistance that the feeling is bullish. A head and shoulders top indicates that the market has reached a top. Which direction does one go from the top? Down (bearish). Trading below a moving average is a bearish indicator. LO 13.e

In a functional allocation oil and gas program, which of the following statements are true? I. The general partner picks up all tangible drilling costs. II. The general partner picks up all intangible drilling costs. III. The limited partners pick up all tangible drilling costs. IV. The limited partners pick up all intangible drilling costs.

A) I and IV In a functional allocation program, the general partner picks up all tangible drilling costs, while the limited partners pick up all intangible drilling costs. As intangible drilling costs are deductible as they are incurred, this type of program benefits the limited partners. Tangible drilling costs, however, are deductible pro rata over the estimated life of the well. LO 11.f

Which of the following statements is true? A) Institutional communications do not require prior principal review if associated persons receive training in the firm's procedures governing institutional communications. B) Institutional communications material always requires prior principal approval. C) All retail communications require submission to the FINRA Department of Advertising. D) All retail communications require prior principal approval.

A) Institutional communications do not require prior principal review if associated persons receive training in the firm's procedures governing institutional communications. Member firms have a choice of procedures to follow when it comes to institutional communications. Review prior to use is the preferred option for many firms. The alternative is proper training of associated persons as to the firm's procedures governing institutional communications, documentation of such education and training, and surveillance and follow-up to ensure that such procedures are implemented and adhered to. Evidence that these supervisory procedures have been implemented and carried out must be maintained and made available to FINRA upon request. Not all retail communications must be filed with FINRA and not all retail communications must have prior principal approval. For example, any retail communication that does not make any financial or investment recommendation or otherwise promote a product or service of the member does not require prior principal approval or filing with FINRA LO 19.a

A customer is long 650 shares of DEF stock trading at $32 per share in a margin account, and the debit balance in the account is $9,200. If DEF pays a 10% stock dividend, what will the effect be on the customer's account? A) The equity will remain the same. B) The debit balance will be reduced. C) The market value will increase. D) The equity will increase.

A) The equity will remain the same. Even though the investor receives more shares, the price per share falls; there is no effect on the market value of the customer's holdings. LO 16.d

An investor purchases investment company shares paying an ask price that is a 5% premium to the company's net asset value (NAV). Two years later, the investor liquidates the position at a bid price that is 10% below the NAV. This investment was in A) a closed-end investment company B) an open-end investment company C) a face amount certificate (FAC) D) a unit investment trust (UIT)

A) a closed-end investment company Pricing of closed-end investment company shares is based on supply and demand. That is because they trade in the secondary markets. Therefore, the investor's buying price and selling price could be a premium or discount to the net asset value per share (NAV). All the other investments here are redeemable at the NAV. As a consequence, the ask price would not be a discount to the NAV nor could the redemption price (the bid) be at a discount to the net asset value. LO 8.c

The IRS will generally consider a direct participation program to be an abusive tax shelter unless the program can show a profit motive. A popular method of measuring the economic viability of a DPP is A) cash flow analysis. B) passive loss analysis. C) the ratio of gains to losses. D) income to debt analysis.

A) cash flow analysis. On the exam, there are two accepted measures of the economic viability of a DPP. Those are cash flow analysis and internal rate of return (IRR). Cash flow analysis compares the income to the expenses, not the debt. LO 11.g

If a member firm suspects exploitation in the account of a specified adult, proceeds from sales may be put on temporary hold A) for a maximum of 55 business days. B) for a maximum of 55 calendar days. C) until the need for the hold ends. D) for one month.

A) for a maximum of 55 business days. FINRA Rule 2165 permits a member that reasonably believes that financial exploitation has occurred, is occurring, has been attempted, or will be attempted to place a temporary hold on the disbursement of funds or securities from the account of a specified adult customer. The maximum length of the hold is 55 business days. Do we expect the exam will ask you to choose between 55 business and 55 calendar days? No, that is not FINRA's style, but we do want you to know the correct count. LO 1.d

The writer of an equity call option who is assigned A) must deliver stock within two business days. B) can enter a closing transaction on the day the exercise notice is received. C) must deliver stock within one business day. D) can enter a closing transaction any time before exercise settlement.

A) must deliver stock within two business days. If exercised, the assigned call writer must deliver the underlying stock within two business days (regular way settlement for equity transactions). LO 10.b

A bond convertible at $50 is selling at 105% of parity, while the common stock has a current market value of $45. What is the market value of the bond? A) $1,045 B) $945 C) $1,000 D) $900

B) $945 When a bond is convertible at $50, it means the holder can exchange each $1,000 par value bond for the company's common stock at a rate of $50 per share. Dividing $1,000 (always use the par value, not the market value) by $50 results in a conversion rate of 20 shares per bond. With the bond convertible into 20 shares and the market price of each share currently $45, the parity price, the price at which the value of the stock and the bond are the same, is $900, (20 x $45). The question tells us that the bond is selling for 105% of the parity price. That would be $900 x 105% = $945. An alternative method is to recognize that the stock is selling for 10% below its conversion price ($45 is $5 less than $50 and $5 ÷ $50 = 10%). That means the parity price of the bond must be 10% below the par value, or $900 (which is 10% less than $1,000). Once you have the $900, multiply by 105% to arrive at the correct answer of $945. LO 5.d

FINRA Rule 2310 defines a direct participation program as "a program which provides for flow-through tax consequences regardless of the structure of the legal entity or vehicle for distribution including, but not limited to, oil and gas programs, real estate programs, agricultural programs, cattle programs, condominium securities, Subchapter S corporate offerings and all other programs of a similar nature, regardless of the industry represented by the program, or any combination thereof." The rule places limits on the overall expenses and amount of broker-dealer compensation considered fair and reasonable. That limit is A) 2% of the gross proceeds. B) 15% of the gross proceeds. C) 5% of the gross proceeds. D) 10% of the gross proceeds.

B) 15% of the gross proceeds. If the organization and offering expenses exceed 15% of the gross proceeds, FINRA considers that too high. The 10% limitation is on the amount of compensation received by a member firm for selling interests in the DPP. The 2% is the maximum charge in a DPP rollup if the firm wishes to solicit votes from the limited partners. The 5% is the FINRA markup policy and that does not apply to DPPs. LO 11.h

If a married couple establishes a joint tenants with right of survivorship (JTWROS) account with a balance of $1 million and the wife dies, what is the husband's estate tax liability? A) He pays federal and state taxes on $500,000. B) He pays no estate tax. C) He pays federal taxes only on $500,000. D) He pays federal and state taxes on the entire balance.

B) He pays no estate tax. Establishing a JTWROS account allows for the transfer of assets to the survivor upon death. The surviving spouse is not taxed on assets transferred in this manner because under current tax law, there is an unlimited marital deduction. LO 13.h

Which of the following are likely to have a low beta? A) Aerospace stocks B) Public utility stocks C) Software stocks D) Technology stocks

B) Public utility stocks Public utility stocks tend to have low betas, as do other defensive stocks. Technology, aerospace, and software stocks tend to have high betas. LO 13.b

Which of the following securities can generate phantom income? A) Treasury bills B) TIPS bonds C) Treasury bonds D) Treasury notes

B) TIPS bonds TIPS bonds adjust the principal value each six months based on the inflation rate. If the inflation rate is positive, the value increases. Those increases are reported as income each year even though the investor does not receive the appreciation until the bonds mature (or are sold). LO 7.a

Five years ago, the ABCD mutual fund bought 200,000 shares of Comet Industries at an average price of $42.25. After a series of accounting scandals, the shares are now trading at $6. If the fund decides to sell its shares, what will be the impact of the sale of Comet shares on the net asset value (NAV) of the ABCD fund? A) The NAV will fall B) The NAV will not change C) This depends on whether the fund can claim a tax loss on the sale D) The NAV will rise

B) The NAV will not change Portfolio holdings in a mutual fund are marked to the market each day. Therefore, the NAV of the fund already reflects the current value of each security in its portfolio, including Comet Industries. When the fund sells the position, the value of the stock is replaced by an equivalent amount of cash, so NAV does not change. LO 8.c

Parker has been a client of Enigma Mathematical Portfolio Modeling (EMPM), a FINRA member broker-dealer, for 10 years. Parker has decided that it is time to move the account to a new firm, Turing Technical Analytics, (TTA). Which of the following statements accurately reflects the requirements when using the ACATS system? A) The transfer initiation form (TIF) is sent to the carrying firm by the receiving firm. B) The transfer initiation form (TIF) is sent to ACATS by the receiving firm. C) The transfer initiation form (TIF) is sent to ACATS by the customer. D) The transfer initiation form (TIF) is sent to ACATS by the carrying firm.

B) The transfer initiation form (TIF) is sent to ACATS by the receiving firm. When a customer wishes to transfer an account from one member firm to another, the customer's signature is required on the TIF. That TIF is then sent to ACATS by the receiving firm (the one who will be getting the new account—Turing Technical Analytics (TTA). LO 15.d

Which of the following investments is likely to have the least reinvestment risk to interest? A) High-yield bonds B) Zero-coupon bonds C) U.S Treasury bonds D) Double-barreled bonds

B) Zero-coupon bonds Reinvestment risk to interest is the uncertainty that periodic payments from an investment, such as bond interest, can be reinvested at the same rate as investment is currently paying without increasing the risk. Because the zero-coupon bond makes no periodic interest payments, there is nothing to reinvest. It makes no difference how high the coupon yield is or how secure the interest payments are, the investor never knows what current market interest rates will be when the semiannual checks arrive. LO 14.a

An order confirmed for the entire underwriting syndicate's benefit is called A) a net designated order. B) a group net order. C) a market order. D) a member at the takedown order.

B) a group net order. A municipal group net order is credited to syndicate members according to their percentage participation in the account. This order type is given priority over designated or member takedown orders (but not over presale orders). The normal order of priority is presale orders, group or syndicate orders, designated orders, and member orders. LO 20.b

An investor sells one DEF Nov 65 put for 4 and buys one DEF Nov 70 put for 8. This position is known as A) a horizontal spread. B) a vertical spread. C) a diagonal spread. D) a bull spread.

B) a vertical spread. A spread is the simultaneous purchase of one option and sale of another option of the same class. A call spread is a long call and a short call. A put spread is a long put and a short put. A price spread or vertical spread is one that has different strike prices but the same expiration date. In this question, we have a long put and as short put, both expiring in November but with different strike prices. This is a bear spread because the long option is the one with the higher strike price. A spread is bullish when the option purchased (long) has the lower strike price and the one sold (short) has the higher strike price. We remember that with the letters BLSH (buy low, sell high). LO 10.e

An offering of a new issue is being made under the provisions of Regulation D of the Securities Act of 1933. The filing of a Form D must be made A) by the underwriter no later than 15 calendar days after the date of first sale of securities in the offering. B) by the issuer no later than 15 calendar days after the date of first sale of securities in the offering. C) no later than 15 business days after the date of the first sale of securities in the offering. D) by the purchaser no later than 15 calendar days after the date of purchase of securities in the offering.

B) by the issuer no later than 15 calendar days after the date of first sale of securities in the offering. This is the form used by the issuer to report sales to the SEC of a transaction exempted under Regulation D. We doubt that you would have to choose between 15 calendar days and 15 business days, but you will have to know who does the filing.

All of the following are minimum requirements for listing on the NYSE except A) number of shareholders. B) earnings per share. C) market value of publicly held shares. D) number of publicly held shares.

B) earnings per share. While the numerical values are not tested, it is important to know that there is no minimum earnings per share requirement. However, there is a minimum earnings requirement. LO 16.e

One of the key roles of a registered representative is matching a securities recommendation to a customer's risk tolerance. All of the following statements correctly explain investment risk except A) a stock's total risk level is a combination of market risk and diversifiable risk. B) systematic risk can be reduced or eliminated by effective portfolio diversification. C) the beta coefficient measures an individual stock's relative variability to returns of the broad market. D) investors expect to earn a higher rate of return for assuming a higher level of risk.

B) systematic risk can be reduced or eliminated by effective portfolio diversification. It is unsystematic (diversifiable) risk not systematic risk that may be effectively managed through portfolio diversification. The total risk of a security is the combination of its systematic and nonsystematic risk. The more a stock's beta increases above 1.0, the greater the variability of the returns when compared to those of the overall market. A beta below 1.0 indicates less variability. The risk/reward relationship is well known in many arenas: if you take greater risks, you expect greater rewards and vice versa. LO 14.a

All of the following statements regarding industrial revenue bonds (IRBs) are true except A) they can be issued by municipalities to build facilities that will be owned by the municipality but leased to a local corporation. B) the credit rating of the bonds is dependent on the credit rating of the municipality. C) they can be issued by municipalities to provide local industries with funds for expansion. D) interest is paid from rental payments received from corporations that have leased the property or equipment from the municipality.

B) the credit rating of the bonds is dependent on the credit rating of the municipality. The debt service for IRBs is derived from the lease payments made by the leasing corporation to the issuing municipality. Therefore, the credit rating of the bonds is dependent on the credit worthiness of the leasing corporation, not the issuing municipality. LO 6.b

A customer purchases $10,000 worth of stock in a regular way trade in a cash account on Monday, May 15. To avoid violating Regulation T, how much must the customer deposit, and when must the deposit be made? A) $5,000 no later than Wednesday, May 17 B) $5,000 no later than Friday, May 19 C) $10,000 no later than Friday, May 19 D) $10,000 no later than Wednesday May 17

C) $10,000 no later than Friday, May 19 There are two questions in one. The first deals with the amount to be paid when making a purchase in a cash account. As opposed to margin accounts, where borrowing is permitted, purchases in a cash account must be paid in full. In this question, that would be the full $10,000. The second part deals with Regulation T's rule on the final time for payment. The required payment must be made no later than the second business day after the settlement date (S+2). The trade was made for regular way settlement which is the second business day after the trade date (T+2). With the settlement date being Wednesday, May 17 and the Regulation T date being S+2 (two days later), the deposit of the full $10,000 is due no later than Friday, May 19. Whenever a trade in stock is made regular way, the Reg T date can be figured as T+4. LO 16.d

Which of the following securities is considered the most junior? A) Mortgage bond B) Prior lien preferred stock C) Common stock D) Debenture

C) Common stock In the event of a company's bankruptcy, common stock owners have the lowest priority in claims against corporate earnings and assets. This identifies common stock as the most junior security. LO 3.b

Investors placing zero-coupon bonds in their portfolios are most likely to be looking to provide I. accumulation of capital. II. current income. III. protection against reinvestment risk. IV. tax deferral.

C) I and III only Zero-coupon bonds are always purchased at a discount because they pay no interest. At maturity, the bondholders receive the maturity value. That represents the initial investment plus interest. Therefore, the investors are receiving more capital than invested (capital accumulation). Zero-coupon securities avoid reinvestment risk because there are no periodic interest payments to be reinvested. When you purchase one of these securities, the quoted yield to maturity is exactly what you will earn if you hold it to the end. With no interest payments, there is no current income. There is no tax deferral with a zero. In fact, unless it is a zero coupon municipal bond, there is phantom income; income not currently received but currently taxable. LO 5.a

Your broker-dealer acts as a prime broker for ABC Fund. In this arrangement, your broker-dealer is likely providing which of the following services? I. Execution of all transactions for the fund portfolio II. Clearing services III. Lending for trades done on margin IV. Ensuring that all exchange trading rules are complied with

C) II and III The prime broker would supply clearing services and lending services for a marginable transaction, as well as back-office support such as cash management, account statements, and transaction processing. Actual executions and abiding by all exchange rules when transactions occur is the responsibility of the executing broker-dealers. LO 1.b

You have a client who is about to retire and wants to rearrange his portfolio to have predictable income. Which of the following would not be a good investment vehicle? A) U.S. Treasury note B) AA-rated debenture C) Income bonds D) AA-rated IDB

C) Income bonds Income bonds, also known as adjustment bonds, are issued when a company is reorganizing and coming out of bankruptcy. Income bonds pay interest only if the company has enough income to meet the interest payment. As a result, these bonds normally trade flat without accrued interest. Therefore, they are not suitable for customers seeking income. LO 5.a

Which of the following securities underlies a yield-based option? A) Income bonds B) Revenue bonds C) Treasury securities D) Debentures

C) Treasury securities Yield-based interest rate options are based on the yields of Treasury bills, notes, and bonds. LO 10.g

The primary purpose for creating ERISA was to A) promote a retirement fund for government employees. B) establish a means for self-employed persons to provide for their own retirement. C) protect employees from the mishandling of retirement funds by corporations and unions. D) provide all employees, both government and nongovernment, with an additional source of retirement income in the event that the Social Security system defaults.

C) protect employees from the mishandling of retirement funds by corporations and unions. ERISA was created to protect the retirement funds of union members and employees of large corporations. ERISA guidelines state that all qualified retirement plans must be in writing, segregate funds from corporate or union assets, make prudent investments, report to participants annually, and not be discriminatory. All of these activities are audited under ERISA. LO 1.i

A fundamental analyst is reviewing GEMCO's financial statements. The company has a current ratio of 4:1, a price-to-earnings (P/E) ratio of 12:1, $10 million in 5% debentures, and net income after preferred dividends of $4 million. If the current market price of GEMCO stock is $60 and the company pays dividends at a rate of $0.75 quarterly, the dividend payout ratio is A) 5%. B) 40%. C) 20%. D) 60%.

D) 60%. As with many computational problems, there is some unnecessary information given. The current ratio is irrelevant, and so is the information on the debentures. What is needed is the amount available to pay the common so that we can compare that to the amount actually paid. We see that $0.75 in quarterly dividends are paid. That is equal to $3 per year. The next key is determining the earnings. With a market price of $60 per share and a price-to-earnings ratio of 12:1, the earnings per share must be $5. The dividend payout ratio should be thought of as "dividends paid out of earnings made." The dividends paid are $3; the earnings made are $5. That is a 3 to 5 ratio, or, as usually expressed in percentage form, 60%. LO 13.d

You have a 45-year-old client whose traditional IRA contributions are at the maximum. The client would like to provide a larger cushion for retirement and asks for your advice. After reviewing the client's goals, you realize that a $25,000 single premium deferred variable annuity purchase would be the ideal solution. When approaching the client with this recommendation, the client tells you that cash of that magnitude is not readily available. Which of the following would you recommend? A) Purchase the deferred variable annuity on margin B) Open a Roth IRA to double the amount of allowable IRA contributions C) Take a home equity loan to fund the deposit D) Begin a periodic payment deferred annuity program

D) Begin a periodic payment deferred annuity program In this case, if the client cannot supply the funds for the single premium annuity, but in all other respects, the product is suitable, then a period payment program would work. FINRA specifically warns about using mortgage equity (a home equity loan) to fund a deferred variable annuity. Although one can have both types of IRA, the annual maximum cannot exceed the current (2020) level of $6,000 total between them. Variable annuities are not marginable securities. LO 9.e

Which of the following debt securities does not have a fixed maturity date? A) General obligation bond B) Treasury STRIPS C) Subordinated debenture D) Collateralized mortgage obligation (CMO)

D) Collateralized mortgage obligation (CMO) CMOs are mortgage-backed securities. Because mortgages are often paid off ahead of the scheduled maturity, the exact maturity date of a CMO is uncertain. LO 12.d

Which of the following statements regarding prepayment of CMOs are ordinarily true? I. If interest rates fall, prepayments increase. II. If interest rates rise, prepayments increase. III. If interest rates fall, prepayments decrease. IV. If interest rates rise, prepayments decrease.

D) I and IV When interest rates fall, homeowners often refinance their homes to take advantage of lower interest rates, resulting in the existing mortgages being paid off early. Also, homeowners tend to sell their homes to upgrade to larger homes when mortgage interest rates (and monthly payments) are low. When interest rates rise, homeowners do not usually refinance, and housing turnover is reduced. LO 12.d

All U.S. exchange-listed foreign currency options I. are settled in the underlying foreign currency. II. are settled in cash (U.S. dollars). III. expire on the third Friday of the expiration month. IV. expire every Friday of each month.

D) II and III U.S. exchange-listed currency options are settled in cash (U.S. dollars) and expire on the third Friday of the expiration month, just like equity options do. LO 10.g

If an agent is assigned to an account previously handled by an agent who has since left the firm, which of the following actions should the agent take first? A) Liquidate the portfolio for immediate reinvestment in stocks the firm is currently recommending. B) Suggest the customer buy one of the stocks the firm is currently recommending. C) Require the customer to sign a trading authorization naming the agent as the party with authority. D) Verify the account information.

D) Verify the account information. The agent must verify and update client information before recommending trades. Without knowledge of the client's needs and financial profile, the agent cannot make suitable recommendations. LO 2.c

One of the differences between a traditional IRA and a Roth IRA is A) traditional IRAs have higher annual contribution levels. B) both allow for tax-free withdrawals in retirement. C) traditional IRAs offer tax-deferred growth while a Roth does not. D) deductible contributions are possible with a traditional IRA, but not with a Roth IRA.

D) deductible contributions are possible with a traditional IRA, but not with a Roth IRA. There are two key differences between a traditional IRA and a Roth IRA. One of those is that the traditional IRA allows for tax-deductible contributions (with certain restrictions), while the Roth IRA does not. Both offer tax-deferred growth and the same annual contribution limits. Remember, though, that although the maximum dollar limit is the same, those holding both types cannot exceed the single IRA limit. The other key difference is that only the Roth IRA allows for tax-free withdrawals when meeting the specific requirements. All deductible contributions to a traditional IRA, as well as all deferred earnings, are taxable at withdrawal. LO 1.g

Nickelplate Manufacturing Corporation (NMC) is capitalized with 1 million shares of a 6% $50 par callable preferred stock and 10 million shares of $1 par common stock. NMC has not paid any dividends at all for the past five quarters. The current quarter's earnings are excellent and the company would like to pay a dividend to its common shareholders. Doing so would require A) paying the preferred shareholders a dividend of $4.50 per share. B) an affirmative vote of the common shareholders. C) paying the preferred shareholders a dividend of $3.75 per share. D) paying the preferred shareholders a dividend of $0.75 per share.

D) paying the preferred shareholders a dividend of $0.75 per share. A corporation cannot pay a dividend to its common shareholders without satisfying the dividend requirements of any outstanding preferred stock. NMC has a 6% $50 par preferred. The annual dividend requirement (if declared) is $3 per share. That is $0.75 per quarter. On the exam, all dividends are paid quarterly unless stated otherwise. Once that dividend is paid to the preferred, the declared dividend can be paid to the common. But, the question tells us that NMC has not paid preferred dividends for more than one year (five quarters). What about those skipped dividends? This preferred stock is callable, not cumulative. Be careful to read the question. Shareholders do not vote on cash dividend payments. That decision is made by the company's board of directors. LO 3.e

The call provisions of a municipal issue would be detailed most completely in A) The Bond Buyer. B) the official notice of sale. C) the legal opinion. D) the bond resolution.

D) the bond resolution. The bond resolution is the document that authorizes the issuance of a municipal bond. The resolution also describes the proposed issue's features and the issuer's responsibilities to its bondholders. LO 6.b

Interest on direct debt issued by the U.S. government is taxable at A) the federal and state level. B) the state level only. C) different levels in different states. D) the federal level and exempt at the state level.

D) the federal level and exempt at the state level. Interest on direct debt (T-bills, T-notes, T-bonds, and STRIPS) is taxable by the federal government but not by state or local governments. LO 7.e