Series 7 Mock Exam 7
A customer bought a 10% interest in a real estate limited partnership by investing $100,000. The partnership buys a $4 million property with the funds, making a down payment of $800,000 and financing the balance with a nonrecourse mortgage of $3.2 million. Subsequently, the partnership cannot meet the mortgage payment; the lender forecloses when the remaining mortgage balance is $3 million, auctioning off the property for $1 million. How much of the investment will the customer recover?
$0. There is a lot more information in this question than necessary. Simply put, the deal went bankrupt—the asset was sold for less than the mortgage. That means the investor's $100,000 is totally lost.
On January 18, your customer sold 500 shares of MNO for a loss of $5 per share. If on March 1 she bought 3 MNO calls, how much of the loss could she declare for tax purposes?
$2,500. Because the purchase of the calls took place more than 30 days after the sale, the transaction is not a wash sale. She may therefore declare the entire $2,500 as a loss.
If XYZ common stock has a $4 dividend, a yield of 4.2%, a price-to-earnings (P/E) ratio of 12, and it is trading at $96, its approximate earnings per share (EPS) is
$8.00. The stock's P/E ratio is price to EPS. Dividing the stock's price by the P/E will give the EPS ($96 / 12 = $8).
A schoolteacher has a 403(b) tax-qualified deferred retirement plan into which she has deposited $100,000 over a 12-year period. At retirement, if the teacher withdraws the total value of the account (now $220,000), how much of the withdrawal will be subject to taxation as ordinary income?
220,000. The retirement plan is qualified, which means that contributions were made with pretax dollars. The teacher must pay taxes on the total value of the account when withdrawn.
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. With the preferred stock currently selling at $75 per share and the common stock at $60 per share, the current yield of the preferred stock is closest to
4%. Current yield on any security, stock or bond, is the annual income (dividend on stock, interest on bond) divided by the current market price per share (or per bond). The math in this question is the dividend of $3 (a 6% $50 par preferred stock is paying an annual dividend of 6% of $50, or $3 per share) divided by the current market price of the preferred stock ($75). The quotient is .04 or 4%. What about the common stock? All of that information is just to distract you. We cannot compute the current yield of the common stock because we do not have any information about its dividend.
The basis of a bond with a 5% nominal yield maturing in twenty years and selling at 85 is approximately
6.22%. A bond's basis is its yield to maturity (YTM). It is not necessary to do the YTM calculation because it could only be one choice. We can easily compute the current yield by dividing the $50 annual interest by the $850 current market price. That is about 5.88%. The YTM must be higher than that because it includes the eventual profit realized when the bond matures at par. There is only one selection that is higher than 5.88%. The calculation would follow our formula of: Annual interest + (discount ÷ number of years to maturity) ÷ (Current market price + par) ÷ 2) Plugging in the numbers, we have: ($50 + [$150 ÷ 20 years]) = ($50 + $7.50) divided by ([$850 + $1,000] ÷ 2]) = $57.50 ÷ ($1,850 ÷ 2) = $57.50 ÷ $925= 6.22%
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
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%.
Which of the following will not affect special memorandum account (SMA)?
A stock dividend on stock held long in the account. The value of the stock dividend received will be offset by the decline in current market value (CMV) of the long position on which the dividend is paid. The account's long CMV will not change; it will just be represented by more shares. There will be no change in the overall CMV, debit balance, or equity, and therefore no change in the SMA. On the other hand, a cash dividend means that new money is coming into the account, which will reduce the debit balance and be credited to SMA so the customer may withdraw the dividend, if desired.
A customer entered an order to sell short 100 shares of ABC. The stock closed on Friday at $48. The stock will trade ex-dividend $0.50 on Monday. At what price can the order be executed at the opening?
Any price. The stock's price is adjusted for the dividend at its opening the next morning. The adjustment in the stock does not limit where the short sale can be executed. The former requirement for short sales on an exchange floor (or Nasdaq) to be made on a plus or zero-plus tick was eliminated in 2008. Therefore, a customer short sale can be executed at any time in the trade sequence.
If an investor purchases a bond anticipation note (BAN) that matures in one year, when will the investor collect the interest?
At maturity. BANs are short-term money market instruments. Interest is paid at maturity.
A municipal bond is offered at a discount. It has a 30-year maturity and is callable in 20 years at par. It is callable in five years at a premium and is puttable in 10 years at par. Which of the following yields would be quoted on this basis?
Bonds that sell at a discount are always quoted as yield to maturity. This is the lowest possible net yield that the investor would make by holding the bonds until the issuer redeems them.
A registered representative of a FINRA member firm specializes in handling business accounts. In which of the following accounts are the business owners subject to double taxation?
C corporations. It is the C corporation whose owners are subject to double taxation. First, the corporation pays income tax on its earnings. Then, any dividends paid from the after-tax income are taxed again, this time to the shareholders.
A registered representative of a member broker-dealer receives a customer order to sell 100 shares of ABC and use the proceeds to purchase 200 shares of MNO. The trades are made on the NYSE and the execution price is $15 per share for the ABC and $7.50 per share for the MNO. In order to avoid a violation of FINRA's 5% markup policy, the member firm should
Consider this to be one single transaction rather than two separate ones when determining the commission to be charged. This is an example of a proceeds transaction. In order to stay within compliance of FINRA's 5% markup policy, the member firm should treat this as a single transaction. We know this BD is acting in an agency capacity because the trade was executed on the NYSE. Therefore, the member firm's charge is commissions rather than markup or markdown. This is not the type of transaction that justifies a higher than normal charge. Indeed, it is the opposite.
Sales made under the provisions of Rule 506(b) of Regulation D must be reported on
Form D. Form D is the form that must be filed electronically with the SEC no later than 15 days after the first sale of securities in the offering. Form U4 is the application for registration you filled out to become associated with your broker-dealer. There is no Form 506; private placements under Rule 506(b) or (c) use Form D.
A customer has been following several investment company quotes in the newspaper. She notices that the GEM Fund has a net asset value (NAV) of $12 and a public offering price (POP) of $12.50, and that the ABC Fund has an NAV of $11.50 and a POP of $10.98. The customer should conclude that
GEM may be an open- or closed-end fund, and ABC is a closed-end fund. The price for open-end funds is determined by adding the sales charge to the NAV. An open-end fund can never have a POP less than its NAV; therefore, ABC cannot be an open-end fund.
Which of the following best describes an intangible drilling cost?
Labor, fuel, or drilling rig rental. Intangible drilling costs are the noncapital costs of putting in a well. They are currently deductible expenses such as fuel, wages, and rent. An intangible drilling cost is one that, after expenditure, has no salvage value.
The holder of a variable annuity receives the largest monthly payments under which of the following payout options?
Life annuity has the largest payout because less risk is assumed by the insurance company; there is no beneficiary in the event the annuitant dies.
A customer has entered an option order with your broker-dealer. At which of the following locations could such an order be executed?
Options orders can be executed on the NYSE, the CBOE, and the Nasdaq PHLX, which offers a hybrid of electronic and on-floor execution availability.
Which of the following regarding a municipal bond broker's broker are true?
Protects customer identity; Has no inventory. Municipal brokers' brokers generally purchase and sell securities on an anonymous basis for institutional clients. They are not in the business of making a market; therefore, they maintain no inventory.
Your investor decides that she would like to open an options account. Which of the following is your responsibility as her registered representative?
Review with the client the risks involved when trading options and determine what types of options trading are appropriate for this client before the first options trade. It is imperative that suitability and risk be addressed with the client before allowing option trading to take place.
The sale of nonexempt securities may take place without an SEC registration if done so in a manner that qualifies for a transactional exemption. An example of this would a sale complying with
Rule 144 of the Securities Act of 1933 regulates the sale of control and restricted securities, stipulating the holding period, quantity limitations, manner of sale, and filing procedures. Unless complying with the rule, control stock and restricted securities may not be sold without registration. Rule 501 defines an accredited investor. Rule 5130 is a FINRA rule dealing with restricted persons in a stock underwriting. Rule 72(t) is an IRS rule dealing with the substantially equal periodic payment exception avoiding the 10% early withdrawal penalty.
Regulation FD covers
the selective disclosure of material nonpublic information by issuers. Regulation FD was enacted to curb the selective disclosure of material nonpublic information by issuers to financial analysts and institutional investors. The rule helps ensure that all investors receive equal access to a company's material disclosures at the same time.
Which of the following statements regarding fixed municipal unit trusts are true?
The trust is not managed; The portfolio cannot be traded. Fixed unit trusts are not managed; the portfolio of securities does not change. As bonds mature or are called, the proceeds are distributed pro rata to the unit holders. These units are redeemable by the issuer or its agent.
The income from all of the following securities is taxable on the federal, state, and local income tax levels except
Treasury bonds. The interest on U.S. government securities (such as Treasury bonds) is exempt from state and local income taxes but not federal income taxes. Dividends (whether reinvested or not), Ginnie Maes, and corporate bonds of all types and/or ratings are taxable on all levels.
Which of the following securities underlies a yield-based option?
Treasury securities. Yield-based interest rate options are based on the yields of Treasury bills, notes, and bonds.
According to Municipal Securities Rulemaking Board (MSRB) rules, can a municipal securities representative give $50 crystal vases to 10 of his favorite clients?
Yes, he is permitted. If each gift meets the $100 annual gift limitation, then they are permitted.
A customer writes 1 XYZ Sep 45 put at 6 and 1 XYZ Sep 35 call at 6 when XYZ is at 40. Before expiration, if XYZ is at 43, and the customer closes her positions at intrinsic value, the customer has
a $200 gain. We first identify the position. This is a short combination. The investor has sold a put and sold a call on the same stock, but at different strike prices. If the prices and expiration dates were the same, it would be a straddle. When the customer begins the position by selling options, the action is an opening sale. That is, the position was opened by selling an option (in this case, two options). The customer collects $1,200 in premiums for writing the options (6 + 6). The question says the positions were closed at the intrinsic value. You close an opening sale with a closing purchase. That is, the customer buys back the option(s) that were sold. In this case, the price is $200 (45 − 43) to close out the put and $800 to close out the call (43 − 35). Determining gain or loss is simply comparing the $1,200 received to the $1,000 paid and that results in a gain of $200. The T-chart looks like this: Debit ($ out) Credit ($ in) $200 (put) $600 (Sep 45 put) $800 (call) $600 (Sep 35 call) $1,000 $1,200
The mutual fund industry is highly regulated. One of the areas regulated is that of making disclosures. An example of that is that mutual funds must provide reports to their shareholders on
a biannual basis. The Investment Company Act of 1940 requires that mutual funds provide their shareholders with reports twice per year (biannually). One of the reports is the annual report with audited financial statements (also filed with the SEC), and the other is the semiannual report. Biennial reporting would be every two years.
A client writes 1 Dec 45 put and buys 1 Dec 60 put. This is
a debit bear spread. This is a debit bear spread, and bears buy puts. The 60 put is worth more than the 45 put because it has a higher strike price.
When a securities professional refers to a bond as a full faith and credit issue, it is
a general obligation bond. General obligation bonds are payable from general funds, including taxes, and are often referred to as backed by the "full faith and credit" of the governmental entity.
A legal opinion that has restrictions placed on it by the municipality's bond counsel is called
a qualified opinion. A qualified opinion is one where the bond counsel to the municipality places certain legal restrictions (qualifications) on the issue that must be disclosed to purchasers. An unqualified opinion has no restrictions.
One of your customers has asked you about trading penny stocks. After discussing the risks, the customer decides to go ahead. The firm sends the individual a copy of the special penny stock risk disclosure document. The firm needs the customer's signed and dated acknowledgment of receipt of the document. Trading in penny stocks may not begin in that account until
at least two business days after sending the statement. It is SEC Rule 15g-2 that requires the firm to wait at least two business days after sending the risk disclosure document before executing the first penny stock trade for a new customer. The $25,000 is the minimum equity in a pattern day trading account.
The IRS requires a municipal bondholder to use straight-line amortization for the purpose of determining the annual
decrease to a premium bond's cost basis. Premiums are amortized; discounts are accreted. For municipal bonds bought at a premium, the bondholder must adjust cost basis annually in such an amount that, if held to maturity, there is no reported capital gain or loss. The amortization is straight line, or the same amount must be amortized each year.
Under ERISA, all of the following retirement plans must set standards for vesting, eligibility, and funding except
deferred compensation plans. Deferred compensation plans are not qualified plans and may be discriminatory. 401(k), profit-sharing, and corporate pension plans must meet set standards for vesting, eligibility, and funding under ERISA.
Under NYSE rules, a not-held order
is good for the day only. Under NYSE rules, a not-held order where a customer gives you authority over the price or timing of the order is good for that day only.
All of the following statements regarding Treasury bills are correct except
most Treasury bill issues are callable. Treasury bills trade at a discount to par and are 4, 13, or 26 weeks in original maturity. (Maximum maturities are subject to change.) They are a direct obligation of the U.S. government and are noncallable.
If municipal securities are offered on an inverted scale, this means
the yields on short-term maturities are higher than the yields on long-term maturities. A normal scale of prices consists of lower yields on short-term maturities and higher yields on longer maturities. An inverted scale is the opposite.
The 5% markup policy applies to all of the following secondary market transactions except
municipal bond transactions. The 5% policy applies to secondary market transactions. The secondary market is where trades are made in outstanding securities between buyers and sellers rather than a new issue. Excluded from the 5% policy are transactions in exempt securities such as municipal and government bonds. The policy applies to nonexempt securities and transactions on an exchange and in the OTC market, and it applies to both agency and principal trades. In the case of a primary offering (new issue) sold by prospectus, the 5% policy does not apply because the underwriting spread and commissions are already stated in the prospectus or other offering document.
A bond resolution would most likely be found in an offering of
municipal bonds. Bond resolutions are most commonly found as part of the offering documents of a municipal bond issue. The bond resolution represents an official action taken by a state or local issuer with regard to the bonds.
Many parents find that opening an UTMA account for their child is not only a good way to accumulate funds for the future but also a good way for the child to gain an appreciation for investing. The account custodian may use principal as well as income generated in the account to pay for all of the following for the child except
new clothes. The Uniform Transfer to Minors Act permits the custodian to use the funds for almost anything that is a benefit to the minor. The primary exceptions are those that most states consider to be the parental obligations of food, clothing, and shelter.
All of the following would flow through as a loss to limited partners except
principal repayment on recourse debt. Principal repayments are not deductible for tax purposes. The interest is deductible.
Filing with FINRA within 10 business days of first use is required for all of the following except
retail communications that promote or recommend a specific real estate investment trust (REIT). Real estate investment trusts (REITs) are not included in FINRA's list of retail communications requiring postfiling.
One of your customers mentions that she heard a friend say that whenever she buys stock, she has her registered representative use the DRS program. When the customer asks you for an explanation, you would reply that the DRS is
the Direct Registration System, where the customer's name as owner is recorded in book-entry form at the issuer or its transfer agent. DRS stands for Direct Registration System. It is a program that began in the mid-1990s as an alternative to "street name" registration for customer securities. Like street name, DRS is based on electronic bookkeeping. In direct registration, a stock is registered in an investor's name, but the company that issued the stock (or its transfer agent) is the one that holds the security in book-entry form, instead of a broker-dealer. All the other choices are made-up distractors.
One of your clients has a margin account with the following balances: long market value $50,000, debit balance $24,000, short market value $40,000, and credit balance $65,000. The account will be at the minimum maintenance level when
the long market value is $32,000 and the short market value is $50,000. When there is a combined (mixed) margin account, the maintenance is computed separately for the long and the short positions. The maintenance level on a long margin account is reached when the equity is only 25% of the market value. To find that level, divide the debit balance by 75% or multiply the debit by 4/3. In a short margin account, the maintenance level is when the equity is 30% of the market value of the short stock. To find that level, divide the credit balance by 130% (or 1.3). The math for our question becomes the debit balance of $24,000 ÷ .75 resulting in a quotient of $32,000. Alternatively, multiplying $24,000 times 4 and then dividing by 3 = $96,000 ÷ 3, or $32,000. Continuing to the short account, the credit balance is $65,000. Dividing that by 130% (or 1.3) results in a quotient of $50,000.
All of the following would increase the SMA in a customer's long margin account except
the receipt of a stock dividend. SMA changes when there is a monetary change to the account. Receiving a stock dividend (or a stock split) does not involve any money or market value change to the account. A cash dividend adds equity to the account. An increase to the market value increases the equity, as does a decrease to the debit balance.
An investor anticipating a rise in interest rates would likely purchase
variable-rate demand obligations or reset bonds. When interest rates increase, the market price of all fixed-income securities declines. In the case of variable-rate or reset bonds, the interest rate on those is adjusted based on the movements of market interest rates. As a result, when interest rates increase, the rate paid by the variable rate security increases as well. This tends to keep the market price stable rather than declining as well as providing increased income to the investor. A callable bond works to the issuer's advantage when interest rates fall but offers no added benefit to an investor when interest rates rise. Corporate or government-issued bonds offer no advantage for an investor anticipating a rise in interest rates because with fixed interest rates, their price will decline.
Last week, your customer's margin account showed SMA of $6,000. As of the close of business yesterday, the margin account client had a long market value of $50,000 and a debit balance of $40,000. This client
will receive a maintenance margin call for $2,500. When the equity in a long margin account falls below 25% of the market value, the customer receives a maintenance margin call for the amount necessary to bring the account back to 25%. A market value of $50,000 requires at least $12,500 in equity. The account currently has only $10,000 in equity ($50,000 minus $40,000). Therefore, a call will go out for a prompt deposit of an additional $2,500. SMA cannot be used to meet a maintenance call, only an initial margin call. Depositing fully paid marginable securities is another option. In our question, it would be enough securities to bring the LMV in the account up to 4/3 times the debit balance. $40,000 × 4/3 = $160,000 ÷ 3 = LMV of $53,333.33. With LMV of $50,000, the additional needed is $3,333.33
A customer of yours expresses an interest in purchasing a deferred variable annuity. After a careful analysis, you have determined that this is a suitable investment for the customer. Under FINRA rules, principal approval of this sale must be obtained
within seven business days of receipt of a complete and correct application package. FINRA Rule 2330 requires a registered principal to review and determine whether to approve a customer's application for a deferred variable annuity before sending the application to the issuing insurance company. This must occur no later than seven business days after the broker-dealer receives a complete and correct application.
