Series 7-Part 2
reclamation
when a BD, after accepting securities as good delivery later discovers that the certificates were not in good deliverable form
A municipal bond in default is in good delivery form if 1. past-due and current coupons are attached. 2. the bond is insured. 3. subsequently due coupons are attached. 4. the issuer files a default guarantee letter with the Municipal Securities Rulemaking Board.
1 & 3 To be in good delivery form, a municipal bond must be accompanied by all unpaid coupons: past due, currently due, and subsequently due. Insurance or letters of guarantee do not constitute good delivery. LO 17.c
What type of historical information is required on a form U4? 1. 5 year residency 2. 10 year residency 3. 5 year employment 4. 10 year employment
1 & 4 1. 5 year residency 4. 10 year employment
Arbitration Thresholds: $50,000 or less
1 arbitrator
Arbitration Thresholds: $50,000-$100,000
1 arbitrator unless both parties agree to 3
A registered representative of a FINRA member firm has been found guilty of a trade practice violation. If desired, the Code of Procedure requires the individual to file an appeal within A) 45 days after receiving the decision. B) 30 days after receiving the decision. C) 60 days after receiving the decision. D) 25 days after receiving the decision.
D) 25 days after receiving the decision. Under the Code of Procedure, appeals must be filed with the NAC within 25 days after receiving the decision. LO 18.c
A customer gives you a limit order to buy 500 shares of XYZ at 30. You erroneously buy 1,000 shares at 29. The customer is entitled to A) 1,000 shares at 29. B) 1,000 shares at 30. C) 500 shares at 30. D) 500 shares at 29.
D) 500 shares at 29. The customer is entitled to 500 shares at 29. A buy limit order may be executed at the limit price or better (lower). If the firm buys more shares than indicated on the order ticket, the customer cannot be held responsible. LO 18.d
Code of Procedure (COP)
FINRA's formal procedure for handling trade practice complaints involving violations of the Conduct Rules.
For each violation of FINRA or MSRB rules, FINRA may impose which of the following sanctions? Fines Censure Restitution Expulsion
Fines Censure Expulsion Restitution is not one of the sanctions that may be imposed by FINRA. However, that could be imposed by a court. LO 18.d
seller's option contracts
customers who want to sell securities but know they cannot deliver the physical securities in time for regular way settlement -lets a customer lock in a selling price for securities without having to make delivery on the second business day
good deliverable form
describes the physical condition of, signatures on, attachment too, and denomination of the certificates involved in a securities transaction -must be accompanied with a properly executed uniform delivery ticket
if a party does not like the result of the arbitration decision they can
do nothing, once decision is made no appeals can be made
if an alteration or correction has been made to an assignment, a
full explanation of the change signed by the person who executed the correction must be attached
Don't Know Notice
in a interdealer trade, each side electronically submits its version of the transaction to the Automated Confirmation Transaction System. If one side does not recognize the other side's details of the transaction it will electronically DK the trade
Stock or bond power
legal document from a securities certificate that investors can use to transfer or assign ownership to another person used for safety and convenience for signatures
legal opinion: muni securities
must be printed on or attached to the bond as evidence of the bond's validity
*regular way-T bills, T notes, T bonds
next business day
*regular way-when trading options
next business day
*regular way-when trading or exercising nonequity options
next business day
300 share sale, would 4 75 share certificates be a good delivery?
no
*Seller's option settlement
no sooner than T+3
*cash settlement
same day
customer confirmations are sent no later than the
settlement date
Broker to broker confirmations must be sent no later than
the business day following the trade date -T+1
*Regarding municipal spreads, 1 point=
$10
A corporation issues stock to the public at $20/share. It is done through a firm commitment and the syndicate's managers fee is $0.25/share. The underwriting fee is $0.40/share and the selling concession is $0.50/share. The issuer will receive
$18.85
SIMPLE catch-up plan
$3000 for age 50 years & over
As part of the due diligence process, investment bankers must:
- Examine the use of the proceeds - Perform financial analysis and feasibility studies - Determine the company's stability - Determine whether the risk is reasonable
Reallowance
- the portion of the takedown thats available for firms that aren't part of the syndicate or selling group
sales literature for an investment company that contains performance data, avg. total return must show return for these years:
-1 year -5 year -10 year (longer periods-shown in 5 year period) (shorter periods-life of the fund)
Exempt transactions under the Securities Act of 1933
-Regulation A+:small and medium corporate offering -Regulation D: Private placement -Regulation S: offer and sales made outside of the US by US issuers -Rule 147: securities offered and sold exclusively intrastate
Mini-Max Offering
-a best efforts underwriting with a floor and a ceiling on a dollar amount of securities that the issuer is willing to sell. -once floor is met, the underwriter can expand the offering up to the maximum (ceiling) -frequently found in limited partnership program offerings and funds collected must be held in escrow pending final disposition of underwritings
Split offering
-a combination of a primary and a secondary offering -the corporation issues a portion of the stock offered, and existing shareholders offer the balance
Group Net Order for syndicate
-a group order is placed after the bid is awarded -entered to receive priority for customers -takedown is deposited in the syndicate account, and upon completion of the underwriting, is split among all syndicate members according to participation
selling group typically contains
-a statement that the manager acts for all of the underwriters -the amount of securities each selling group member will be allotted and the tentative POP at which the securities will be sold -the portion of the underwriting spread to be received on sales made by selling -provisions as to how and when payments for shares is to be made to the managing underwriter -legal provisions limiting each selling group member's liability in conjunction with the underwriting
Selling Group
-act as agents with no commitment to buy the securities -help the underwriting syndicate distribute the securities -*have no financial liability -*act as agents because they have no commitment to buy securities
An investment bank's functions may include
-advising corporations on the best ways to raise long-term capital -raising capital for issuers by distributing new securities -buying securities from issuers and reselling them to the public -distributing large blocks of stock to the public and to institutions -helping issuers comply with securities laws
the requirement to have a principal approve retail communication does not apply if at the time a a member intends to distribute it
-another member has it filed it with FINRA's advertising dept. and has received a letter from the dept. stating that it appears to be consistent with applicable standards -the member using it in reliance upon the letter has not materially altered it and will use it in a manner that is consistent with the conditions with applicable standards -if its a post to an interactive electronic forum
SEC Rule 501: Accredited Investors
-bank, insurance company or registered investment company -an employee bene plan, insurance company or registered investment advisor makes the investment decisions or if the plan has total assets in excess of $5M -charitable organization, corporation or partnership with assets exceeding $5M -directors, executive officers, and GPs of the issuer -any natural person whose net worth or joint worth with a spouse excluding the net equity in his primary residence exceeds $1M at the time of his purchase -any natural person who had income in excess of $200k in the last 2 years or w/ spouse $300k and will have a expectation of meeting the same value as before in the current year -entities made up of accredited investors
institutional investors
-banks -FINRA member firm or RR -savings & loan -insurance company -RIA -registered investment company -any entity with over $50M -gov. entity -employee benefit plan that has over 100+ participants -person acting solely on behalf of an institutional investor
tier 2 must be qualified investors and there are 2 ways to invest:
-be an accredited investor as defined in rule 501 of Regulation D -Limit the investment to a maximum of the greater of 10% of the investor's net worth or 10% of the investors's net income per offering. Tier 1 has no investment limits.
required disclosures of investment company ranking
-cannot imply that a IC is the best performer if it not actually the best performer -the name of the category -name of the ranking entity -criteria on which the ranking is based -the fact that past performance is no guarantee of future results -a ranking based on total return must be accompanied by rankings based on total return for 1 yr, 5 yr, or 10 yr or since inception
The following are exempt from the securities act of 1933
-commercial paper-maturity less than 270 days -banker's acceptances-maturity less than 270 days -securities acquired in private placements-regulation D
bond mutual fund volatility rating includes of
-credit quality of the fund's individual portfolio holdings -market price volatility of the portfolio -interest rate risk -prepayment risk -currency risk
required disclosures of bond mutual fund volatility ratings
-date of the current ratings -link to website that includes methodology used statement that there is no standard method to determine ratings -description of the types of risk the rating measures -statement that there's no guarantee the fund will cont. to have the same rating
Official Notice of Sale
-date, time, & place of the sale -name and description of issuer -type of bond -bidding restrictions -interest payment dates -dated date and first coupon payment date -maturity structure -call provisions (if any) -denominations and registration provisions -expenses to be borne by purchaser or issuer -paying agent or trustee -name of firm (bond counsel) providing the legal opinion -details of delivery -issuers rights of rejection of all bids -criteria for awarding the issue -issuers obligation to prepare the final OS and deliver copies to successful bidder
syndicate agreement/syndicate letter
-describes the participants' responsibilities (particularly for any shares that remain unsold at the underwriting syndicate's termination)and allocation of syndicate profits, if any. -designates the syndicate manager to act on behalf of the syndicate members.
the prospectus must include
-description of the offering -the offering price -selling discount -use of proceeds -description of the underwriting but not the actual contract -a statement of the possibility that the issue's price may not be stabilized -history of the business -risks to the purchasers -a description of management -material financial information -SEC disclaimer
to ensure the investing public receives objective information from the media and publications, FINRA requires the following:
-firms must clearly explain their rating systems -analysts' compensation may not be tied to the firm's investment banking revenues -must disclose if they or anyone in their household have financial interest in the subject security & if their employer firms owner 1% or more of any class of subject company's equity securities at the close of the previous month -must disclose if the firm has received fees for investment banking services within the last 12 mo. form the subject of the report or will be receiving fees within the next 3 mo. -IA or BD may not present to client research report, analyses or recco prepared by other persons or firms w/o disclosing the fact that the advisor or BD did not prepare them
Options advertising is limited to
-general description of the sect being offered and its issuer the OCC -description of the nature and functions of the options markets -name and address of the person at the member firm placing the advertisement from whom the current OCC disclosure booklet may be obtained
variables that are considered when pricing new issues
-indications of interest -P/E ratios of similar companies -price that the syndicate will accept -company's debt ratio -company's dividend record (if applicable) -prices of similar companies -prevailing market conditions
underwriting manager aka syndicate manager
-investment banker who negotiates with the issuer is known as the underwriting manager -may be more than one manager
Trust Indenture Act of 1939 applies to corporate bonds with the following characteristics:
-issue SIE of more than $50M within 12mo -maturity of 9mo or more -offered intrastate
Any retail communication concerning CMOs
-may not compare CMOs to any other investment vehicle -must disclose if applicable, that a government agency backing applies only to the face value of the CMO and not any premium paid -must disclose that a CMOs yield and average life will fluctuate depending on the prepayment rate and changes in interest rates
Filing with FINRA at least 10 business days before the use of any retail communication is required for
-new member for 1 year starting on the day it's FINRA membership became effective -retail communications concerning registered investment companies that include a custom ranking -retail commissions concerning options if the ODD has not been previously delivered
Official statement includes of
-offering terms -summary statement -purpose of the issue -description of the basic legal docs -security backing the bonds -description of the bonds -description of the issuer -construction program -project feasibility statement -any regulatory matters -tax status -any accompanying legal proceedings -any appropriate appendices -any credit enhancements
Rule 147 Intrastate Offerings
-offerings that take place in entirely one state are exempt from registration when: >the issuer has its principal office and receives at least 80% of its income in the state >at least 80% of the issuer's assets are located within the state >at least 80% of the offering proceeds are used within the state >at least 80% of the offering proceeds are used within the state >all purchasers are residents of the state
performance reporting rules (3)
-representations implying that future gain or income may be inferred from or predicted based on previous performance -portrayals of past performance that implies gains/income realized in the past would be repeated in the future -failure to disclose if a sales load or any other nonrecurring fee is charged
*terms that are synonymous with private placement stock
-restricted stock (because it must be held for 6mo.) -unregistered stock (no registration on file with the SEC) -letter stock (investor agreed to terms by signing an investment letter) -legend stock (bear a restrictive legend on the certificate)
Filing with FINRA within 10 business days if first use is required for
-retail communication that promote or recommend a specific registered investment companies -retail communications concerning DPP -if a member has filed a draft version or storyboard of a tv or video communication pursuant to a filing requirement then they must also file the final filmed version within 10 business days
general advertising includes information about
-securities investment that offer -the nature of an investment companies -services offered in connection with the described securities -explanations of the various types of investment companies -descriptions of exchanges and reinvestment privileges -where the public can write or call for further information
To avoid registration under Regulation S
-the offer and sale must be made in an offshore transaction -there can be no directed selling efforts in the US in connection with the offering
Spinning
-the practice of allocating highly sought after IPO shares to individuals who are in a position to direct securities business to the firm
the amount of the spread varies by issue and can be influenced by the following:
-type of commitment-firm commitment earns a larger spread than a best efforts agreement because of the risks the underwriter assumes -security's marketability-a better rated bond has a smaller spread than a speculative stock -issuer's business -offering size-in a large offering, underwriter may spread costs over a large number of shares thus the per share cost may be lower
Exempt Issuers under the Securities Act of 1933
-us government -us municipalities and territories -nonprofit religious, educational and charitable organizations -banks and savings and loans -public utilities and common carriers whose activities are regulated as to rates and other items by a state or federal regulatory body
Net Interest Cost (NIC)
-used for comparing bids and awarding the bond issue -combines the amount of proceeds the issuer received with the total coupon interest it pays
approval for electronic communication
-website preapproval of a principal is req. -electronic bulletin board-use of online interactive forum by a registered rep must be approved by a principal although each post does not require principal approval -general advertising-preapproval is req. -emails and instant messaging-approval req. are based on how they are defined
If a registered representative gave her retail customers copies of sales literature for a variable annuity she was recommending and promised to send the prospectus soon, which of the following statements are true? 1. She should not have distributed sales literature without the prospectus. 2. It was okay to distribute the sales literature and send the prospectus later to those who were interested. 3. She should not have recommended a specific variable annuity without having the prospectus available. 4. Because she only answered questions about the investment, she was not required to provide a prospectus.
1 & 3 A prospectus must precede or accompany any solicitation, including distribution of sales literature to retail customers. LO 20.c
A member of the investment banking department of ABC Securities is explaining some of the advantages and disadvantages of rights and warrants to the board of directors of XYZ Corporation. Which of the following statements could he make? 1. The exercise prices of stock rights are usually below current market value (CMV) of the underlying security at time of issue. 2. The exercise prices of warrants are usually above CMV of the underlying security at time of issue. 3. Both rights and warrants may trade in the secondary market and may have prices that include a speculative (time) value. 4. Warrants are often issued attached to a bond issue to reduce the interest costs to the issuer.
1, 2, 3, & 4 All are true statements. The exercise prices of stock rights are usually below CMV of the underlying security at the time of issue. The exercise prices of warrants are usually above CMV of the underlying security at the time of issue. Both rights and warrants may trade in the secondary market and have prices that include a speculative (time) value. Warrants are often issued attached to a bond issue to reduce the interest costs to the issuer. LO 3.f
Restricted Persons (FINRA Rule 5130)
1. Member Firms or Other Broker Dealers 2. Broker Dealer Personnel a) Any officer, director, general partner, associated person, or employee of a member or any other broker/dealer and their immediate family b) any agent of a member or any other broker/dealer and their immediate families or one who is supported by an immediate family member 3. Finders and Fiduciaries and immediate families (attorneys, accountants, consultants) 4. Portfolio Managers and immediate families
Allocation Priorities for syndicates
1. Presale Order - Entered before date that the syndicate wins the bid. Means that a customer is willing to place an order without knowing the final price or whether the syndicate will win the bid. 2. Group Net Order - Placed after bid is awarded. Syndicate member wants a customer's order to receive priority 3. Designated Orders - Next highest priority order. Usually from institutions that wish to allocate takedown to certain syndicate members 4. Member & Member-Related Orders - Lowest priority order. Member firm enters order for it's own inventory (such as Unit Investment Trust (UIT)) Pro Golfers Don't Miss (Presale, Group, Designated, Member)
sales literature is materially misleading if it
1. contains an untrue statement of a material fact 2. omit to state a material fact necessary to make a statement not misleading
An investor in a limited partnership generating passive losses can offset these against 1. passive income from other partnerships. 2. rental income from direct investments in real estate. 3. dividends received from listed securities. 4. capital gains from the sale of unlisted securities.
1. passive income from other partnerships. 2. rental income from direct investments in real estate. Passive losses can be deducted from passive income and income from certain real estate investments; it cannot be deducted from active or portfolio (investment) income. LO 11.f
what are the filing req. for any retail communications involving option contracts?
10 day prefiling
Within ____ business days of the sale date, the syndicate manager must send a written summary of how orders were allocated to the other syndicate members
2
*regular way-US government agency
2 business days
An investor purchases zero-coupon bonds issued by the U.S. Treasury due to mature in 18 years at $100,000. Which of the following might describe the primary reason for selecting that investment vehicle? 1. The investor is 65 years old and needs the reliability of current income. 2. The investor is 45 years old and has purchased these in an IRA rollover account and wants the assurance of funds for retirement. 3. The investor is 30 years old and has a newborn child and wishes to assure funds for a college education. 4. The investor is 20 years old, has just received an inheritance, and wishes to shelter income for as long as possible.
2. The investor is 45 years old and has purchased these in an IRA rollover account and wants the assurance of funds for retirement. 3. The investor is 30 years old and has a newborn child and wishes to assure funds for a college education. Zero-coupon bonds maturing in 18 years would assure the 45-year-old of the face value at age 63. Being in an IRA, there would be no current taxation, and upon maturity, if desired, the funds could be distributed without the 10% penalty. Zero-coupon bonds are one way to guarantee funds for college education. However, with no current income, they would not be suitable for the 65-year-old and would not offer any tax shelter to the 20-year-old. LO 5.a
When the SEC reviews the registration statement and looks for sufficiency of information this is known as the
20 day cooling off period
After an issuer files a registration statement with the SEC what begins?
20 day cooling off period starts
The cooling off period lasts
20 days
If someone requests a statement of additional information, the firm must send a copy within ____ business days
3 business days
An investor wishes to purchase a new issue municipal bond. Which of the following terms describe the form of the bond? 1. Bearer 2. Registered as to principal only 3. Fully registered 4. Book entry
3. Fully registered 4. Book entry All new municipal bonds are issued either in fully registered or book entry form. LO 17.c
When is the settlement of syndicate?
30 calendar days after the issuer delivers the securities to the syndicate. Maximum length of time for the syndicate is 30 calendar days from the time the issuer delivers the securities to the syndicate
any changes made on a U4 must be made within
30 days after member becomes aware
Individuals buying securities in a regulation A+ offering must receive a final offering circular at least
48 hours before confirmation of the sale
statue of limitations for arbitration
6 years or more has passed since the time of event the claim will not be eligible
*purchasers of an intrastate issue may not resell the stock to any resident of another state for at least
6mo after the purchase
Official Statement (OS)
A document concerning a municipal issue that must be provided to every buyer. The document is prepared by the underwriter from information provided by the issuer; typically included are the offering terms, descriptions of the bonds and the issuer, the underwriting spread, fees received by brokers, initial offering price, and tax status.
All-or-none underwriting (AON)
A form of best efforts underwriting in which the underwriter agrees that if it is unable to sell all the shares, the issuer will cancel the offering. This type of agreement may be used when the issuer requires a mini- mum amount of capital to be raised; if the minimum is not reached, the securities sold and the money raised are returned.
Which of the following statements describe the conduit theory of taxation? A fund is not taxed on earnings it distributes, provided distributions equal 90% or more of net investment income. Earnings distributed by a regulated investment company are taxed three times. Dividends and interest are passed through to the investor without the fund being taxed. Dividends and interest accumulate tax free to the shareholder.
A fund is not taxed on earnings it distributes, provided distributions equal 90% or more of net investment income. Dividends and interest are passed through to the investor without the fund being taxed. Under the conduit, or pipeline, theory of taxation, a fund is liable for taxes only on the income retained, provided it distributes at least 90% of its net investment income. The investor benefits because the income is only taxed twice (at the corporate level and at the individual level) and avoids taxation at the fund level. There is no tax-free accumulation for the shareholder. LO 8.f
Syndicate
A group of underwriters formed to purchase/underwrite a new issue of municipal securities from the issuer and offer it for resale to the general public
Due Diligence Meeting
A meeting at which an issuing corporation's officials and representatives of the underwriting group present information on and answer questions about a pending issue of securities. The meeting is held for the benefit of brokers, securities analysts, and institutional investors.
Which of the following statements regarding municipal securities quotations are true? A quotation can be an indication of interest. A quotation cannot be an indication of interest. A quotation can be a one-sided request for a bid or offer (bids wanted and offers wanted). A quotation cannot be a one-sided request for a bid or offer (bids wanted and offers wanted).
A quotation can be an indication of interest. A quotation can be a one-sided request for a bid or offer (bids wanted and offers wanted). Municipal Securities Rulemaking Board rules pertaining to quotations cover all bona fide bids and offers, including one-sided requests for bids wanted and offers wanted, which are considered indications of interest. LO 6.a
In a new margin account, a customer sells short 1,000 shares of ABC at $15 per share and makes the required Regulation T deposit. If the stock drops to $12 per share, what is the equity in the account? A) $10,500 B) $15,000 C) $12,000 D) $18,000
A) $10,500 Remember, the equity in a short margin account is the credit balance minus the short market value (SMV). In this case, the credit balance is the total of the sale price plus the 50% Regulation T deposit. That is $15,000 plus $7,500, or $22,500. With the SMV down to $12,000, the equity becomes $22,500 minus $12,000, or $10,500. Alternatively, you can start with the initial equity of $7,500 (the 50% Regulation T deposit) and add the $3,000 gain from the drop in price of the short stock. You get the same $10,500 equity. LO 16.d
If a customer subscribes to a $20,000 public limited partnership interest, which of the following is the maximum underwriting compensation that may be charged? A) $2,000 B) $1,850 C) $18,000 D) $4,000
A) $2,000 The FINRA rules for limited partnership offerings limit underwriting compensation to 10% of the total money raised. (Ten percent of $20,000 is $2,000.) LO 11.h
An investor redeems 200 shares of ABC Fund, which has no redemption fee. If the quote is $12.05 bid $13.01 asked, what amount will the investor receive? A) $2,410.00 B) $2,275.50 C) $2,602.00 D) $1,098.00
A) $2,410.00 If a mutual fund has no redemption fee, the investor will receive the bid price per share (net asset value) multiplied by the number of shares being redeemed. In this case, the investor would receive $2,410 ($12.05 × 200 shares). LO 8.c
A margin account customer buys 100 shares of HEX at $70 and writes a HEX Oct 70 call for a premium of 8. What must he deposit? (Regulation T is 50%.) A) $2,700 B) $4,500 C) $2,000 D) $3,700
A) $2,700 The normal call would be 50% of $7,000, or $3,500. In this example, subtract the premium of $800 that the customer received. (Remember, in a covered call situation, no margin is required for the call.) LO 16.d
Your 65-year-old client owns a nonqualified variable annuity. He originally invested $29,000 four years ago, and it now has a value of $39,000. If your client, who is in the 28% tax bracket, makes a lump-sum withdrawal of $15,000, what tax liability results from the withdrawal? A) $2,800 B) $4,200 C) $3,800 D) $0
A) $2,800 This annuity is nonqualified, which means the client has paid for it with after-tax dollars and has a basis equal to the original $29,000 investment. Consequently, the client pays taxes only on the growth portion of the withdrawal ($10,000). The tax on this is $2,800 ($10,000 × 28%). Because the client is older than age 59½, she does not pay 10% premature distribution penalty tax. LO 9.d
On January 1, an investor buys 1 FLB Apr 50 call at 4 and 1 FLB Apr 50 put at 2.50. If both options expire unexercised, what are the tax consequences for the investor? A) $400 loss on the call, $250 loss on the put B) $400 gain on the call, $250 gain on the put C) $150 net capital loss D) $150 net capital gain
A) $400 loss on the call, $250 loss on the put In a straddle, the options are treated separately for tax purposes. The investor has a $400 capital loss on the call and a $250 capital loss on the put. Both are short-term losses. LO 10.i
If an investor sells 1 TCB Jan 50 put at 7 on July 15, 2019, and the put expires unexercised, what are the tax consequences? A) $700 short-term capital gain reportable for tax year 2020 B) $700 short-term capital gain reportable for tax year 2019 C) $700 ordinary income reportable for tax year 2020 D) $700 ordinary income reportable for tax year 2019
A) $700 short-term capital gain reportable for tax year 2020 For tax purposes, any premiums earned are recognized at the expiration date. In this case, the January contract sold in July 2019 will expire in January 2020. Options writers always have short-term gains or losses. LO 10.i
A customer is long 1 XYZ Jan 50 put. To create a bull put spread, the customer must sell a Jan A) 55 put. B) 50 put. C) 50 call. D) 45 put.
A) 55 put. In any spread, put or call, if the customer is buying the lower strike price, the spread is bullish. Therefore, to create a bull put spread, the customer (who is long the 50 put) must sell a put with a higher strike price. A bull put spread is also called a short put spread. LO 10.e
From the viewpoint of a fundamental analyst, which of the following has little, if any, significance? A) A company's stock reaching new highs or lows B) A company's CEO resigning C) A company reporting higher or lower earnings D) A company reporting higher or lower sales
A) A company's stock reaching new highs or lows A fundamental analyst looks at the company's internals. That includes management changes, earnings or sales reports, but not anything to do with the trading of the company's stock. That is the purview of the technical analyst. LO 13.e
Which of the following forms of written communication must a principal approve before use? A) A letter sent this month to 50 prospective customers offering advice about a stock B) A letter to a customer confirming an annual account review appointment C) An interoffice memorandum D) A preliminary prospectus
A) A letter sent this month to 50 prospective customers offering advice about a stock Letters sent to more than 25 retail investors within any 30-calendar-day period are considered retail communication and must be approved by a principal before use. Letters sent to fewer than 26 retail investors within a 30-calendar-day period are considered correspondence, which does not need prior approval but is subject to subsequent review. LO 19.c
Which of the following refers to the primary market for municipal securities? A) A notice of sale B) A sale from inventory C) A broker's broker D) The Real-Time Transaction Reporting System (RTRS)
A) A notice of sale A notice of sale is published to provide syndicates with information on proposed new (primary market) issues. When bond dealers sell inventory, they are acting as principals in the secondary market. RTRS is the reporting system for secondary market trades. A broker's broker executes trades in municipal securities for or on behalf of another MSRB member firm. Transactions by a broker's broker could be in both the primary and secondary markets.t LO 20.d
If an investor purchases a bond anticipation note (BAN) that matures in one year, when will the investor collect the interest? A) At maturity B) Semiannually C) Monthly D) Quarterly
A) At maturity BANs are short-term money market instruments. Interest is paid at maturity. LO 6.b
A registered representative makes several statements to a customer considering an investment under Regulation D. Which of the following is not accurate? A) At no time can more than 20 nonaccredited investors participate in the purchase of shares. B) A special inscription or legend on the stock certificate indicates that its transfer is restricted. C) If the offering is advertised, all purchasers must be accredited. D) Investors agree to terms by signing an investment letter.
A) At no time can more than 20 nonaccredited investors participate in the purchase of shares. A maximum of 35 nonaccredited investors may participate in the purchase of securities offered under a Regulation D exempt offering. LO 20.e
If all other factors are equal, an investor would expect which type of preferred stock to pay the highest stated dividend rate? A) Callable B) Straight C) Cumulative D) Convertible
A) Callable When the stock is called, dividend payments are no longer made. With callable preferred stock, to compensate for that possibility, the issuer pays a higher dividend than with straight preferred. Cumulative and convertible preferred have positive characteristics that would justify a lower fixed dividend than straight. LO 3.e
Which of the following secures an industrial revenue bond (IDR)? A) Corporate net lease payments B) Trustee guarantees C) Municipal taxes D) State taxes
A) Corporate net lease payments Corporate net leases back up IDRs, which means the credit of the bond is as good as the credit of the corporation that signs the net lease. LO 6.b
All of the following statements regarding the Federal National Mortgage Association (FNMA) are true except A) FNMA is owned by the U.S. government. B) FNMA pass-through certificates are not guaranteed by the U.S. government. C) interest on FNMA certificates is taxable at all levels. D) FNMA is a publicly held corporation.
A) FNMA is owned by the U.S. government. FNMA is a publicly held corporation. The interest income on all mortgage-backed securities is fully taxable. Though a government agency, FNMA pass-through certificates are not guaranteed by the U.S. government. The only U.S. agency whose securities are considered direct obligations of the U.S. government is the Government National Mortgage Association. LO 7.c
Designating a beneficiary with a transfer on death (TOD) provision may be done in which of the following accounts? A) Individual account and joint tenants with right of survivorship (JTWROS) B) Individual account, joint tenants with right of survivorship (JTWROS), and joint tenants in common (TIC) C) Individual account only D) Individual account and joint tenants in common (TIC)
A) Individual account and joint tenants with right of survivorship (JTWROS) The TOD designation is limited to the individual account and the JTWROS account. LO 1.b
Which of the following risks would least impact collateralized mortgage obligation (CMO) investors? A) Liquidity risk B) Rate risk C) Prepayment risk D) Extended maturity risk
A) Liquidity risk CMO investors are always subject to rate risk, which includes maturity and prepayment risk. Because CMOs trade over the counter, they are fairly liquid, allowing investors to purchase or sell them easily at fair market value. LO 12.d
Which of the following is always affected by a change in the market value of securities in a long margin account? A) Maintenance requirement B) Credit balance C) Special memorandum account (SMA) D) Debit balance Explanation
A) Maintenance requirement SMA is only affected if the current market value (CMV) increases. In terms of dollars, the maintenance requirement will continuously fluctuate with the market value because it is a percentage of the CMV. LO 16.d
An investor opens the following positions: Sell short 100 shares of ROC @90; sell 1 ROC May 90 put @3. What is the customer's maximum gain, maximum loss, and breakeven point? A) Maximum gain is $300; maximum loss is unlimited; breakeven point is $93. B) Maximum gain is $9,300; maximum loss is unlimited; breakeven point is $93. C) Maximum gain is $300; maximum loss is $8,700; breakeven point is $87. D) Maximum gain is $8,700; maximum loss is $300; breakeven point is $87.
A) Maximum gain is $300; maximum loss is unlimited; breakeven point is $93. The first step is to identify the position. This is a short sale of stock and a sale of a put option. The sale of the put provides some income and offers protection only to the extent of the premium. Short sellers want the stock's price to decline. They lose when it rises. The investor has received $9,300 ($9,000 from the sale of the stock and $300 from the sale of the option). That makes the breakeven point $93 per share. Once the price of the ROC stock goes above that, the investor loses money. Because there is no limit as to how high the stock's price can go, the maximum loss is unlimited. If, on the other hand, the stock's price declines into the 80s or lower, the owner of the 90 put will exercise and our investor will pay $9,000 to purchase the stock. That stock will be used to cover the short sale. That means the investor sold the stock (short) at $90 and bought it back at $90 for no gain. At that point, the investor's only profit is the $300 from the premium on the sale of the put. Why doesn't the breakeven follow the "put-down" rule? That rule applies when the only positions are options. Once there is a long or short stock position along with an option position, it is the stock controlling the breakeven. LO 10.h
An investor opens the following positions: Buy 100 shares of SSG @48; write 1 SSG Dec 50 call @3¾. What is the customer's maximum gain, maximum loss, and breakeven point? A) Maximum gain is $575; maximum loss is $4,425; breakeven point is $44.25. B) Maximum gain is $575; maximum loss is $4,425; breakeven point is $51.75. C) Maximum gain is $4,425; maximum loss is $575; breakeven point is $51.75. D) Maximum gain is $4,425; maximum loss is $575; breakeven point is $44.25.
A) Maximum gain is $575; maximum loss is $4,425; breakeven point is $44.25. The first step is to identify the position. This is long stock with a short call (i.e., a covered call position). Breakeven is the customer's net cost. The price of the stock ($48) minus the premium ($3.75) received equals the $44.25 per share breakeven point. The strategy is to generate some income with a little protection against a decline in the price of the SSG stock. The premium income plus the excess of the strike price over the purchase price of the stock is the most this client can make. If the stock's price should rise well above the strike price of $50 per share, the short call will be exercised and the customer will deliver the stock purchased at $48 and receive $50. Regardless of how high the stock price rises, this customer can never make more than the $2 difference plus the 3¾ premium ($5.75 × 100 shares). If the stock's price should decline, the call will expire unexercised. That 3¾-point premium protects the long stock, but only for those 3¾ points. Once the market price falls below $44.25 (the breakeven point), it is all a loss for the customer down to a maximum $4,425 if the price drops to zero. Why doesn't the breakeven follow the "call-up" rule? That rule applies when the only positions are options. Once there is a long or short stock position along with an option position, it is the stock controlling the breakeven. LO 10.h
in addition to their tax advantages, municipal bonds are often purchased for their safety. Your client wishing to purchase municipal bonds with the utmost in safety should buy A) New Housing Authority bonds. B) double-barreled bonds. C) general obligation bonds. D) moral obligation bonds.
A) New Housing Authority bonds. NHAs, sometimes called Public Housing Authority or PHA bonds, have the backing of the federal government. As such, they are the safest of all municipal securities. LO 6.b
A customer purchases a municipal bond in the secondary market at 84, and he holds the bond to maturity. Because the customer must accrete the discount, what are the tax consequences at maturity? A) No capital gain or loss B) Capital gain of $160 C) Capital loss of $16 D) Capital gain of $16
A) No capital gain or loss When a municipal bond is purchased in the secondary market at a discount, the discount must be accreted for cost-basis purposes. Note that the accretion on a discount municipal bond purchased in the secondary market is taxable as ordinary income. At maturity, the customer's cost basis has been accreted to par. Therefore, there is no reported gain or loss on redemption. LO 6.e
A registered representative executes the following trades for an options account: Buy 1 FLB Apr 40 call at 9 Sell 1 FLB Apr 45 call at 4 Are these suitable trades? A) No, because the customer cannot make a profit on these trades. B) It depends on the customer's investment objectives. C) It is impossible to tell. D) Yes, because the trades will result in a small profit.
A) No, because the customer cannot make a profit on these trades. These trades are not suitable because the customer will not make a profit. In any price spread, the net debit represents maximum loss; in this case, the net debit is five points, or $500. Maximum loss added to maximum gain will always equal the difference between the strike prices. In this example, the difference between the strike price is five points; therefore, the maximum gain is zero. LO 10.e
All of the following statements regarding planned amortization class (PAC) collateralized mortgage obligations are true except A) PACs have higher yields than comparable TACs. B) PACs have companion tranches. C) PACs have a more certain maturity date than comparable TACs. D) PACs have a lower-than-average prepayment risk.
A) PACs have higher yields than comparable TACs. Explanation PACs have two companion tranches: one to absorb prepayments and one to buffer against extension risk. Because there is less risk and a more certain maturity date, PACs tend to have lower yields than comparable TACs. LO 12.d
One of your wealthier clients invests $100,000 into a real estate limited partnership (RELP) investing in shopping centers. During the first three years, the partnership makes no distributions. The Schedule K-1s received over that period total passive losses of $50,000. The client then invests $75,000 into an exploratory oil and gas DPP. Six months later, the program strikes the largest pool of oil in the United States. The K-1 for that partnership declares $500,000 of reportable income for the year. Which of the following statements is true? A) Passive losses may be carried over indefinitely, so the $50,000 can be used to offset the passive income generated by the new program. B) The $50,000 may be claimed, but because it was generated over a three-year period, one-third of the amount may be used for the three forward years. C) The carryover loss can be added to the $75,000 cost basis of the new program, with the difference between the $500,000 income and the $125,000 cost being treated as capital gain. D) Passive losses may only be used against passive income in the year of occurrence, so the entire $500,000 is taxable this year.
A) Passive losses may be carried over indefinitely, so the $50,000 can be used to offset the passive income generated by the new program. This is an example of a question that contains far more information than is necessary. The simple answer is that passive losses may be used against passive income. There is no time limitation—there just has to be passive income. LO 11.f
What is the following position? Buy 1 QRS May 40 call Sell 1 QRS May 50 call A) Price spread B) Time spread C) Combination D) Diagonal spread
A) Price spread A price spread is composed of a long and short option of the same type with the same expiration but different strike prices. A price spread is also termed a vertical spread. LO 10.e
Which of the following statements regarding the Government National Mortgage Association (GNMA) is true? A) Private lending institutions approved by GNMA originate eligible loans and sell the mortgage-backed securities to investors. B) Lending institutions apply to GNMA for funds to lend to residential home buyers. C) GNMA approves residential mortgages for home buyers. D) GNMA originates loans to home buyers and sells the mortgage-backed securities to private lending institutions.
A) Private lending institutions approved by GNMA originate eligible loans and sell the mortgage-backed securities to investors. GNMA is a government-owned corporation that approves private lending institutions, such as banks and mortgage companies, to originate eligible loans, pool them into securities, and sell the GNMA mortgage-backed securities to investors. GNMA does not originate loans, and it does not issue or sell securities. LO 7.c
All of the following might be used to measure the marketability of a new municipal general obligation issue except A) Revdex. B) S&P's ratings. C) placement ratio. D) visible supply.
A) Revdex. Revdex is an index of yields on 25 revenue bonds with 30-year maturities that are traded in the secondary market. LO 13.f
The Investment Company Act of 1940 has two types of management investment companies—the closed-end and the open-end. Which of the following is a significant difference between the two? A) The closed-end company generally has a one-time offer of shares, while the open-end company's offer of shares is continuous. B) Closed-end companies will never sell below net asset value per share, while open-end companies might if there are net redemptions. C) The closed-end investment company's portfolio can contain common stock, preferred stock, and bonds, while the open-end is limited to common stock only. D) The closed-end investment company is generally more attractive for those investing small amounts.
A) The closed-end company generally has a one-time offer of shares, while the open-end company's offer of shares is continuous.
An investor owns a convertible debenture with a conversion price of $10. If a 10% stock dividend is paid on the company's common stock, which of the following is true? A) The conversion price will be adjusted to $9.09. B) The investor will receive 10 shares of the common stock. C) The investor will receive 1 share of the common stock. D) The conversion price will be adjusted to $11.00.
A) The conversion price will be adjusted to $9.09. You can assume that any convertible security on the exam will have an anti-dilutive provision. That means that a stock dividend or stock split will not cause the investor's conversion privilege to be diminished. With a conversion price of $10, the investor was able to convert into 100 shares ($1,000 divided by $10). After the 10% stock dividend, the investor must be able to convert into 10% more shares (110 shares). To get 110 shares from a $1,000 principal, the price must be reduced. The computation is $1,000 divided by 110. That equals $9.09 per share. LO 5.c
What are the tax consequences an investor incurs when exercising the conversion privilege within a family of funds? A) The investor treats the exchange as a sale and new purchase. B) There are no tax consequences, as long as this is done through a Section 1035 exchange. C) There are no tax consequences if completed within 60 days. D) There are no tax consequences because the funds are all part of one family.
A) The investor treats the exchange as a sale and new purchase. When exchanging one fund for another in the same fund family, the exchange is done at NAV. This avoids any sales charges. The IRS considers this as the sale of the old fund (capital gain or loss applies) and the purchase of the new fund. That begins a new cost basis and holding period. The Section 1035 exchange allowing investors to move from one investment to another without current tax consequences is applicable only to insurance products. LO 8.i
A retired customer was unhappy with the low yields paid by her CDs. In their first meeting, her registered representative recommended Class B shares of a long-term government bond fund, emphasized the safety of government bonds, and provided her with a prospectus. After signing a statement saying she had read and understood the prospectus, the customer invested all of her money in the fund. A year later, interest rates rose, and the value of the fund declined. Having assumed the fund was government guaranteed, she was upset and became increasingly so when she learned that the deferred sales charge could cause her to lose additional money if she were to redeem her shares. Which of the following statements is true? A) The representative should have fully explained the features, charges, price fluctuations, and other characteristics of a bond fund before having the customer make such a substantial investment commitment. B) Because the fund invests in government bonds, it is government guaranteed and is therefore just as safe as a CD. C) Because her money was originally in a single investment, it was suitable to move her funds into another single investment. D) Because no one can predict interest rate moves, and the customer had read the prospectus, the bond fund was an appropriate investment.
A) The representative should have fully explained the features, charges, price fluctuations, and other characteristics of a bond fund before having the customer make such a substantial investment commitment. This customer is used to low-risk investments. The prospectus must not only be supplied, but the risks must be fully explained as well. LO 20.c
Which of the following best describes a growth investment? A) The value of the investment increases over time. B) Both principal and accumulating interest and dividends increase over time. C) Investment appreciation is tax deferred. D) Only interest and dividends are reinvested.
A) The value of the investment increases over time. Growth refers to an increase in an investment's value over time. Interest and dividends are income. LO 13.d
Which of the following would not be found in a municipal revenue bond resolution? A) Underwriting agreement B) Conditions of the maintenance covenant C) Reporting requirements regarding revenues collected D) Terms of the rate covenant
A) Underwriting agreement The bond resolution, which is also referred to as the bond contract, contains the requirement for the municipality to properly keep the facilities books, reporting requirements regarding revenues collected, conditions of the maintenance covenant, and terms of the rate covenant. The underwriting agreement is between the municipality and underwriters, and it spells out the terms agreed to for the underwriting of a new issue. LO 6.b
If the Swiss franc is trading at 0.69, and a customer buys 1 Sep SF 70 put and writes 1 Sep SF 65 put, this position is A) a bear spread. B) a bull spread. C) a calendar spread. D) a diagonal spread.
A) a bear spread. The 70 put is dominant because it will have a higher premium than the 65 put. Buying puts is bearish; this is a debit put spread. LO 10.g
Benefits of a municipal bond advance refunding include A) a higher rating and greater marketability. B) a higher rating and lower coupon rate. C) a decrease to the issuer's current interest cost. D) tax savings.
A) a higher rating and greater marketability. Advance or prerefunding is refinancing an existing municipal bond issue before its maturity or call date by using money from the sale of a new bond issue. Because the proceeds of the new issue are placed into special U.S. government securities, the rating is automatically at the top. The higher rating increases the marketability. The current bond still exists until the specified call date. As such, the coupon has not changed. There are no taxes to be saved. LO 6.d
An official statement has a dated date of March 1, but the first interest payment is October 15. This most likely reflects A) a long coupon. B) a misprint in the official statement. C) a when-issued transaction. D) a normal payment cycle on the bond of 7.5 months.
A) a long coupon. In many cases, the dated date of a new issue, (the first date from which interest begins to accrue), is not the same as one of the semiannual interest payment dates. In this question, those semiannual dates are April and October 15. With a dated date of March 1, the first interest payment will not be made until October 15. That is a period of 7½ months and is why it is a long coupon (longer than 6 months). LO 6.e
The effect of using the first in, first out (FIFO) method for a sale of some of the securities that were purchased separately during a period of rising prices will be A) an increase in the taxable profits of the investor. B) a decrease in the tax liabilities of the investor. C) a decrease in the profits of the investor. D) an increase in the cost basis of the securities.
A) an increase in the taxable profits of the investor. FIFO is an inventory accounting term used to standardize the determination of which items are sold first. In this case, if different purchases are made of the same stock, and the per-share price is higher each time, then if a portion (but not the entire inventory) is sold at one price, the taxable gain will be maximized. If last in, first out were used, the taxable gain would be minimized, and the lower cost basis securities would remain in the portfolio. LO 13.h
An investment adviser who switches among investment classes based upon anticipated market changes is using a technique known as A) asset allocation. B) indexing. C) value investing. D) dollar cost averaging.
A) asset allocation. A money management strategy that switches among asset classes based upon anticipated market moves is asset allocation. Indexing is a passive strategy that makes no attempt to anticipate market moves. An index strategy reflects an underlying index, with the adviser keeping securities in the portfolio in proportion to their weight in the underlying index. Value investing seeks to actively invest in securities that are selling at a discount to their book value and out of favor with the market. Dollar cost averaging is a method of acquiring shares at a lower average cost over time and is not an investment style. LO 14.a
As the price of the volatility market index (VIX) rises, investors should expect A) call and put option premiums to rise. B) call and put option premiums to fall. C) a decrease in call premiums only. D) a decrease in put premiums only.
A) call and put option premiums to rise. The VIX is a measure of investor expectations regarding market volatility. If the VIX is rising, this reflects an expectation of an increase in market volatility. More market volatility will generally cause all options premiums—both puts and calls—to increase to some extent. LO 10.g
A married couple who files jointly has a $5,000 long-term capital loss with no offsetting capital gains. Regarding the tax treatment of this loss, all of the following statements are true except A) capital losses can be used to offset capital gains only. B) the maximum they can deduct this year is $3,000. C) capital losses can be deducted dollar for dollar against capital gains. D) they can carry forward $2,000 to future years.
A) capital losses can be used to offset capital gains only. Capital losses are deducted from ordinary income, and therefore, reduce tax liability. The maximum that individuals or married couples can deduct is $3,000 annually. If the long-term capital loss exceeds the maximum, the excess is carried forward to future years until the loss is exhausted. Under current IRS regulations, $1 in losses results in $1 in deductions. LO 3.i
An individual purchases a single premium deferred variable annuity. There will be income tax ramifications in all of the following situations except A) during the accumulation period. B) during the payout period. C) death prior to annuitization. D) surrender of the contract.
A) during the accumulation period. One of the features of annuities, fixed and variable, is that there are no taxes during the accumulation phase. However, anytime money comes out of the account, whether when annuitized, surrendered voluntarily, or not (as in death), any earnings are subject to taxation. LO 9.d
In a single day, a customer purchases 15 ACM Sep 50 puts at 6 and 15 ACM Sep 50 calls at 1. The customer would profit from the positions if ACM traded A) either below $43 or above $57. B) between $38 and $52. C) between $43 and $57. D) either below $38 or above $52.
A) either below $43 or above $57. The customer paid $6 for the Sep 50 puts and $1 for the Sep 50 calls. A long straddle is profitable on the call side if the price rises above the strike price plus the combined premiums paid ($57). On the put side, it is profitable if the price falls below the strike price minus the combined premiums paid ($43). LO 10.h
In a discussion with one of your customers, the topic of alternative debt instruments is brought up. It seems that the customer was competing in a duplicate bridge tournament in town and one of the other competitors mentioned that they have been obtaining higher income returns from ELNs. When the customer asks you for the meaning of that abbreviation, you would reply A) equity-linked notes. B) exchange-linked notes. C) equity-leveraged notes. D) exchange-leveraged notes.
A) equity-linked notes. An ELN is an equity-linked note. That is a strange name for a debt product. The equity refers to the specific stock, a basket of stocks, or an equity index upon which the return is based. Therefore, the return is not fixed and can be higher or lower than anticipated depending on the selected equity's performance. There are foreign exchange-linked notes where the performance is based on currency rates, but that is unlikely to ever be a topic covered on the exam. There are no such products as exchange or equity-leveraged notes. LO 4.g
Variable-rate municipal bonds are subject to all of the following risks except A) interest rate. B) market. C) liquidity. D) default.
A) interest rate. A variable-rate bond is one whose coupon is adjusted periodically (semiannually or annually) to reflect current interest rates. Therefore, if rates rise and force prices down, the coupon on a variable-rate bond will be adjusted upward, thereby tending to keep the bond's price at or near par. Therefore, no interest rate risk is associated with these bonds. However, if rates fall, the coupon will be adjusted downward, keeping the bond's price at or around par. Normally, a fall in rates will force prices up, but not with variable-rate bonds. LO 6.b
The Securities and Exchange Commission regulates all of the following except A) intrastate securities offerings. B) investment adviser and client relationships. C) the secondary market. D) initial public stock offerings.
A) intrastate securities offerings. The Securities and Exchange Commission was created by the Securities Exchange Act of 1934 as a federal commission with the power to enforce the Securities Act of 1933 and all subsequent federal securities acts. If a security is being offered in a single state and solely to residents of that state, it will generally qualify for the Rule 147 exemption from registration. However, it will likely have to register in that state before the offering may take place. LO 20.e
In a discretionary account where the investment objective is preservation of capital with moderate income, all of the following practices are unsuitable except A) maintaining a fixed asset allocation mix, which includes some underperforming sectors. B) marking order tickets solicited or unsolicited when discretion is used. C) marking the investment objective on the new account form as high risk. D) frequent and profitable short-term trading in volatile stocks.
A) maintaining a fixed asset allocation mix, which includes some underperforming sectors. In some test questions, the best way to select the correct choice is when three of the four options are clearly wrong. This is an example of that case. Preservation of capital is certainly not a high-risk objective and does not call for frequent trading in any stock, volatile or not. Orders in a discretionary account are not considered unsolicited (the client is not the one placing the orders). Allocating the portfolio to fixed-income assets (bonds and preferred stock) would seem to be the most appropriate step to take. LO 2.g
Every transaction made by a registered representative for a customer's account A) must be reviewed by a principal of a FINRA member firm. B) is subject to FINRA approval. C) must be based on a written order from the customer. D) is subject to cancellation by either party.
A) must be reviewed by a principal of a FINRA member firm A) must be reviewed by a principal of a FINRA member firm
Stock prices in the over-the-counter (OTC) market are determined by A) negotiation. B) an auction. C) the 5% markup policy. D) a competitive bid.
A) negotiation. The OTC market is considered to be a negotiated market in contrast to a stock exchange, which is an auction market. The 5% markup policy regulates commissions and markup, not prices. Competitive bids are a type of underwriting agreement for new issues. LO 3.h
A registered representative reproduced a research report prepared by an independent research analyst on his broker-dealer's letterhead, with no mention of the party who prepared the report. If this literature is forwarded to a select group of clients only, the registered representative's action is A) not allowed. B) allowed. C) allowed only if the research report has been filed with FINRA. D) allowed with the written approval of a principal of the broker-dealer.
A) not allowed. A broker-dealer is prohibited from presenting to a client research reports, analysis, or recommendations prepared by other persons or firms without disclosing that they were prepared by a third party. LO 19.b
FINRA rules require broker-dealers to conduct anti-money laundering training A) on an ongoing basis. B) annually. C) quarterly. D) biannually.
A) on an ongoing basis. Rather than set a fixed schedule, FINRA rules require that anti-money laundering training be conducted on an ongoing basis. LO 15.f
All of the following would flow through as a loss to limited partners except A) principal repayment on recourse debt. B) interest payments on recourse debt. C) depletion. D) accelerated depreciation.
A) principal repayment on recourse debt. Principal repayments are not deductible for tax purposes. The interest is deductible. LO 11.f
Regulation BI calls for broker-dealers and their associated persons to meet a care obligation when making a recommendation to a retail customer. In describing the nature of the care, the rule requires that those making recommendations adhere to all of these except A) reasonable prudence. B) reasonable diligence. C) reasonable care. D) reasonable skill.
A) reasonable prudence. In the original rule proposal, the SEC had four care requirements, including prudence. After careful consideration of comments received, it "concluded that its inclusion creates legal uncertainty and confusion, and it is redundant of what we intended in requiring a broker-dealer to exercise diligence, care, and skill, and its removal does not change the requirements under the Care Obligation. Accordingly, the Care Obligation requires broker-dealers to ''exercise reasonable diligence, care, and skill'' to meet the three components of the Care Obligation." **This question deals with material not covered in your LEM, but it relates to recent rule changes and/or student feedback. LO 2.f
An investor opens a long position in one XYZ Nov 140 put @7. Disregarding any commissions, if the option is exercised, on settlement date the investor A) receives $14,000. B) receives $700. C) must pay $14,000. D) must pay $700.
A) receives $14,000. When an investor takes a long position in an option, it means that the investor has purchased the option. When a put is exercised, the holder must deliver the stock on settlement date. At that time, proceeds representing the strike price ($140) for 100 shares ($14,000) are received. LO 10.a
All the following retail communications must be prefiled with FINRA except A) retail communications concerning public DPPs. B) retail communications concerning investment companies with custom ratings. C) retail communications concerning the member firm's opening for business last month. D) retail communications concerning options without previously providing an ODD.
A) retail communications concerning public DPPs. Retail communications concerning public DPPs do not need to be prefiled. Retail communications for all new member firms, concerning investment companies with custom ratings or options without previously providing an ODD must be prefiled with FINRA. New member firms, defined as being in their first year of business, must file retail communications with FINRA 10 business days in advance of use. LO 19.e
Depletion allowances in oil and gas programs are based on the amount of oil A) sold. B) lost to shrinkage. C) extracted. D) in reserve.
A) sold. Depletion allowances are allowed to compensate for a mineral resource, which is considered accomplished when it is sold. LO 11.f
Interest received on a California general obligation bond purchased by a San Francisco resident is exempt from A) state and federal income taxes. B) state income tax only. C) capital gains taxes only. D) federal income tax only.
A) state and federal income taxes. A municipal bond is generally exempt from federal and state income taxes in the state in which it was issued. The exemption, or lack thereof, applies to interest, not capital gains. LO 6.f
State and local government securities (SLGS) are purchased by A) state and local governments. B) commercial banks. C) institutions. D) accredited investors.
A) state and local governments. SLGS securities are purchased by municipal issuers that are subject to IRS yield restrictions when they invest the proceeds of a prerefunding. The monies placed in escrow are invested in SLGS, which are government securities whose interest rates are arranged to comply with IRS restrictions. LO 6.b
Due to a sudden drop in earnings, the board of directors of Amalgamated Metal Industries (AMI) has voted to suspend all dividend payments this year. This would have the least effect on holders of AMI's A) subordinated debentures. B) callable preferred stock. C) senior claim preferred stock. D) cumulative preferred stock.
A) subordinated debentures. Regardless of the level of seniority of a preferred stock, it comes behind any debt security. More importantly, interest on a debenture, subordinated or not, is a contractual obligation. Unlike the dividends on stock, the decision to pay or not to pay interest is not an optional one. Failure to pay interest on a debt security can lead to foreclosure and bankruptcy proceedings. LO 5.a
Cash dividends from real estate investment trusts (REITs) are A) taxed as ordinary income. B) not taxed. C) taxed at a maximum rate for qualified dividends. D) taxed as long-term capital gains.
A) taxed as ordinary income. Cash dividends from REITs are taxed as ordinary income. A maximum rate for qualified dividends, which applies to qualified common stock dividends, does not apply to dividends from REITs. LO 11.b
After an extensive feasibility study on the viability of a new shopping mall, the City of Mount Vernon decided to issue bonds that depend on the earning requirements of the facilities. All of the following statements are true except A) that the bonds are backed by the full faith and credit of the City of Mount Vernon. B) that investor risk depends on the specific characteristics of the project. C) that rental revenues collected from shop owners within the mall will pay the bonds' debt service. D) that the city is issuing revenue bonds. Explanation
A) that the bonds are backed by the full faith and credit of the City of Mount Vernon. these are revenue bonds that will be paid for by the users of the facility, not the taxing power of the municipality. The issuance of revenue bonds depends on the completion of a proper feasibility study. Such a study projects the revenues and costs associated with a project. If the feasibility study does not show sufficient earnings, then the bonds will not be issued. The risk level depends on the characteristics of each particular project. LO 6.b
A customer purchases a municipal bond that has been advance refunded. It will be called at 102 four years from now. On the confirmation, the yield that must be stated is the yield to A) the 102 call. B) maturity or yield to call, whichever is lower. C) maturity. D) maturity or yield to call, whichever is higher.
A) the 102 call. Municipal Securities Rulemaking Board rules require that when a call date has been fixed by a prerefunding, the resulting yield to call must be reflected on the confirmation. Because of the prerefunding, this bond issue will be called at the call date. There is no uncertainty surrounding this event; therefore, it is appropriate to price the bond to the call date. The original maturity on the bond has no further significance. LO 6.h
A municipal bond underwriter looking in The Bond Buyer would recognize the percentage of new issues sold versus new issues offered for sale the prior week as A) the acceptance or placement ratio. B) the visible supply. C) the revenue bond index. D) the general obligation (GO) index.
A) the acceptance or placement ratio. The placement ratio, also known as the acceptance ratio, is compiled weekly and reflects the municipal bonds sold divided by the municipal bonds offered in the previous week. LO 20.d
A new client turns in the new account form. While reviewing the information on the form, the registered representative handling the account notices that the space for listing the Social Security number is blank. Under the provisions of the USA PATRIOT Act of 2001, A) the account can be opened if the client has already applied for a number. B) the account can be opened if the client assures you that an application will be filed. C) the account cannot be opened until the number has been received. D) the account can be opened without the number if at least two pieces of government ID are presented.
A) the account can be opened if the client has already applied for a number. The customer identification program (CIP), a part of the USA PATRIOT Act of 2001, requires a Social Security or tax identification number included on the new account form. The firm can open the account if the number has been applied for. In this instance, the firm must obtain the number within a reasonable period and the account card must be marked applied for. LO 1.d
On Wednesday, April 22, 2020, your customer purchased a block of City Y 4% Recreation Authority term revenue bonds quoted at 22. The bond's stated interest payment dates are J/J 1. After receiving the confirmation, the customer called you and asked why there was no additional cost for accrued interest. The most likely reason for that is A) the bonds are trading flat. B) the accrued interest is paid by the seller. C) there was a mistake on the confirmation and it will be rectified shortly. D) the trade settled on an interest payment date.
A) the bonds are trading flat. Bonds trading without accrued interest are trading flat. Every bond trades flat twice a year: when the bond settles on an interest payment date. However, that is not the case here because this trade would settle on April 24 and interest payment dates are January and July 1. The price is a hint. A 4% bond selling at 22% of par indicates that this bond is likely in default of interest and that is why it is trading flat. LO 6.e
A provision permitting the syndicate members participating in a firm commitment offering to engage in short selling on an IPO is A) the green shoe option. B) an exemption from the margin rules regarding IPOs. C) the market-out clause. D) the stabilizing clause.
A) the green shoe option. A green shoe clause, negotiated with and agreed to by the issuer, allows the syndicate to sell up to 15% more shares than initially registered within 30 days of the IPO beginning to trade. Because the underwriters do not own those additional shares, they are, in reality, selling them short. However, because the issuer has agreed to issue the additional shares, the syndicate does not have the risk normally associated with selling short. In the case of a stock offering, when demand is considerably lower than supply for a new issue (the opposite of the conditions using the green shoe option), the price in the aftermarket is likely to fall. Under these circumstances, the underwriter can stabilize the security by bidding for shares in the open market. These bids may be placed at or just below the public offering price. The managing underwriter can enter or appoint a syndicate member to enter stabilizing bids for the security until the end of the offering period. In a firm commitment underwriting, the underwriter assumes substantial financial risk for the underwriting. To limit its risks, a market-out clause in the underwriting agreement specifies conditions under which the commitment is cancelable. An example of such an event would be the sudden death of the company president. **This question deals with material not covered in your LEM, but it relates to recent rule changes and/or student feedback. LO 20.c
The underwriting agreement is signed by A) the issuer and the managing underwriter. B) the issuer and the SEC. C) the managing underwriter and the syndicate members. D) the selling group members and the syndicate members.
A) the issuer and the managing underwriter. The underwriting manager represents all underwriting members, and on behalf of the underwriting group, signs the underwriting agreement with the issuer. The agreement among underwriters is the document signed by the managing underwriter and all syndicate members. The selling group members have no formal agreement to be signed with the underwriters. LO 20.b
An investor in an equipment-leasing direct participation program (DPP) using straight-line depreciation would probably not be concerned about A) the likelihood of recapture. B) legislative risk. C) the quality of the management. D) liquidity risk.
A) the likelihood of recapture. Recapture of deductions is a concern when accelerated, but not when straight-line depreciation is used. In any business, there is always concern about the quality of the management. By and large, DPPs are not liquid investments, so an investor needing a quick sale may have problems. The nature of DPPs tends to make them more sensitive to legislative risk than most other securities. LO 11.g
All of the following statements regarding municipal revenue bonds are true except A) the maturity of the revenue bond will usually exceed the useful life of the facility being built. B) no debt limitation is set by the issuing municipality. C) revenue bonds can be issued by inter- or intrastate authorities. D) the interest and principal are paid from revenue received from the facility.
A) the maturity of the revenue bond will usually exceed the useful life of the facility being built. Revenue bonds are usually structured so their maturity is shorter than that of the facility they were issued to build. LO 6.b
Municipal bonds are not normally sold short because A) the municipal bond market is illiquid. B) the transaction is expensive to execute. C) short sales are prohibited by Municipal Securities Rulemaking Board rules. D) short sales are prohibited by municipal statute.
A) the municipal bond market is illiquid. While there is no law or industry rule prohibiting short sale of municipal bonds, it is not a common practice. To short a security, it must be borrowed, and because most municipal securities are thinly traded, it is often difficult to locate the specific issue needed to cover the short position. LO 16.c
An option confirmation must include all of the following except A) the positions market attitude (bullish or bearish). B) the strike price. C) the number of contracts and premium. D) the type of option and commission.
A) the positions market attitude (bullish or bearish). An option transaction's confirmation must completely recap the essential elements of the trade, including the number of contracts traded, the description of the security traded (type of option and strike price), the price of the security traded (premium), and any commission charges. The positions market attitude (bullish or bearish) is not included on the confirmation. LO 10.a
Gifts exceeding $100 may be given by a registered representative to A) the registered representative's unregistered sales assistant. B) a customer of the representative. C) a treasurer for an issuer of municipal securities. D) a registered representative of another member firm.
A) the registered representative's unregistered sales assistant. There are no restrictions on giving gifts to colleagues employed by the same firm—registered or not. Registration would be required to split commissions, but not for making a gift. LO 8.j
The primary difference between an underwriting syndicate member and a selling group member in a firm commitment underwriting is that A) the syndicate assumes liability for unsold shares, while the selling group does not. B) the securities offered by each differs within the offering. C) the size of a syndicate member firm will always be larger than a selling group member firm. D) the price per share paid by the public is more if purchasing new shares from a selling group member.
A) the syndicate assumes liability for unsold shares, while the selling group does not. The underwriting syndicate makes a financial commitment in a firm underwriting to bring a new issue to market and take liability for unsold shares. A member of a selling group only agrees to provide a sales service for a certain number of shares in exchange for a commission on shares it sells. It has no responsibility for any unsold shares. The securities offered are identical, and the public offering price is the same. Both large and small firms can be either syndicate members or selling group members. LO 20.b
The primary difference between an underwriting syndicate member and a selling group member in a firm commitment underwriting is that A) the syndicate member assumes liability for unsold shares and the selling group member does not. B) the size of a syndicate member firm will always be larger than a selling group member firm. C) the securities offered by each differs within the offering. D) the price per share paid by the public (POP) is more if purchasing new shares from a selling group member.
A) the syndicate member assumes liability for unsold shares and the selling group member does not. The underwriting syndicate makes a financial commitment in a firm underwriting to bring a new issue to market and to take liability for unsold shares. A member of a selling group only agrees to provide a sales service for a certain number of shares in exchange for a commission on the shares it sells. It has no responsibility for any unsold shares. The securities offered are identical, and the public offering price is the same. Both large and small firms can be either syndicate members or selling group members. LO 20.b
The legal contract stating the issuer's obligation to pay back a specific amount of money on a specific date to its bondholders is best described as A) the trust indenture. B) the official statement. C) the official notice of sale. D) the prospectus.
A) the trust indenture. A trust indenture delineates the covenants or promises made by an issuer to its bondholders. Those would include the amount of the debt, the maturity date, and the rate of interest. A trustee would also be identified in the indenture who would act on behalf of the bondholders in the event of default on any of the indenture's provisions. LO 4.a
A buy stop order may be used for all of the following except A) to protect a profit in a long position. B) to protect a profit in a short position. C) to acquire a long position as a stock breaks through resistance. D) to protect against loss in a short position.
A) to protect a profit in a long position. Buying can only protect short positions, not long positions. LO 16.a
There are risks inherent in any investment. One risk that index ETFs have that should be used to guide the investor's selection decision is A) tracking risk. B) regulatory risk. C) market risk. D) tax risk.
A) tracking risk. Any investment that attempts to track an index or other benchmark needs to be evaluated in terms of its tracking error. That is, how close does the performance of the portfolio, in our question the EFT, match up to that of the index? This tracking error or risk will, over the long run, cause the performance of ETFs tracking the same index to have differing results. Because the portfolios are essentially the same, the market risk of all ETFs tracking the same index will be the same. That should be true of the tax and regulatory concerns as well. All things being equal, an investor should want the ETF that has the least tracking error. LO 8.i
A customer is long 100 XYZ currently trading at $40 per share. To generate income, the customer writes 2 XYZ Aug 40 calls at 4 for a maximum loss potential of A) unlimited. B) $3,600. C) $3,200. D) $4,000.
A) unlimited. This is an example of ratio writing where a customer writes more calls than he has stock to cover. Because only one of the calls is covered, the other is uncovered, and loss potential is unlimited. LO 10.d
All of the following investment strategies offer either fully or partially tax-deductible contributions to individuals who meet eligibility requirements except A) variable annuities. B) IRAs. C) defined contribution plans. D) Keogh plans.
A) variable annuities. Contributions to a nonqualified variable annuity are not tax deductible. Contributions to an IRA may be tax deductible, depending on the individual's earnings and participation in a company-sponsored qualified retirement plan. LO 9.d
Holders of common shares may generally vote on A) whether the company should issue additional preferred stock. B) whether an administrative assistant should be promoted to management. C) whether a cash dividend is to be declared. D) which member of the board of directors should be chairman.
A) whether the company should issue additional preferred stock. Common shareholders must vote to approve the issuance of additional preferred stock because additional preferred shares dilute the common shares' residual assets under a liquidation. Common shareholders do not vote to declare dividends. Board members select the chairman of the board. Shareholders do not get involved in the daily operational activity of the corporation. LO 3.c
A member firm may commingle the securities of two or more customers A) with the customers' written permission. B) under no circumstances. C) with FINRA's written permission. D) with the SEC's written permission.
A) with the customers' written permission. A member may commingle a customer's securities with those of other customers only if all of the customers involved have given their written consent. LO 16.d
If an investor interested primarily in speculation does not expect the price of DWQ stock to change, she will A) write an uncovered straddle. B) buy a straddle. C) write a straddle and short the stock. D) write a straddle and buy stock.
A) write an uncovered straddle. An investor who expects prices to remain stable writes an uncovered straddle (short straddle). In selling the put and call at the same terms, the writer collects double premiums. Both expire if the price remains stable, but if the price moves, one side loses money. Short straddles carry unlimited loss potential because of the uncovered call. LO 10.f
All of the following concerning collateralized mortgage obligations (CMOs) are true except A) z-tranche CMOs carry the lowest prepayment risk. B) CMOs are not backed by the federal government. C) most CMOs are backed by government agency pass-through securities held in a trust account. D) CMOs can be purchased and sold over-the-counter (OTC).
A) z-tranche CMOs carry the lowest prepayment risk. Note that the question is asking for the false statement. The z-tranche is last in line when it comes to payouts. If prepayments occur at a rate faster than expected, this tranche suffers disproportionately more than the others. Even though CMOs generally are backed by pass-through securities from government agencies and government-sponsored corporations, they do not carry any type of government guarantee. CMOs are traded over the counter rather than listed on the exchanges. LO 12.d
An investment banker is a member commits to $500,000 of bonds out of a total offering of $5M in an undivided syndicate and sells $300,000 of the bonds. Of the total offering, $1M of the bonds are unsold. What is the syndicate member's remaining liability? A. $100k B. $200k C. $300k D. $500k
A. $100k the firm's original commitment was for 10% of the issue. Therefore, the liability is for 10% of the unsold portion. With $1M unsold, 10% is $100,000
Sales made under the provisions of rule 506b of regulation D must be reported on A. Form D B. Form U4 C. Form 506 D. Form 13F
A. Form D Must be filed electronically with the SEC after 15 days after the first sale of securities in the offering
if a firm wanted to promote securities as an investment medium but does not refer to any specific security it would likely use which of the following? A. General advertising B. independent generic research report C. generic website report D. public correspondence
A. General advertising
An IPO is always A. an issuer transaction B. a nonissuer transaction C. a treasury stock D. follow on offering
A. an issuer transaction
All of the following are true statements EXCEPT A. before the filing of the registration statement, the SEC will set up a cooling-off period to ensure all registration requirements have been fully met B. the front of every prospectus must contain the SEC disclaimer C. the preliminary prospectus may be used to gather indications of interest D. the Securities Act of 1933 required nonexempt issuers of new securities to file registration with the SEC
A. before the filing of the registration statement, the SEC will set up a cooling-off period to ensure all registration requirements have been fully met BEFORE cooling off period begins after filing for regitration
The total takedown is made up of ____________ + _____________.
Additional takedown + concession.
Restricted stock held by an affiliate can be sold
After 6mo hold with volume restrictions after
Shelf Registration (Rule 415)
Allows the flexibility of selling on delayed or continuous basis for up to 3 years for well1known issuers, 2 years for non-well-known
Spoofing
An investor entering orders to purchase or sell stock but cancelling the orders before they are executed
ABD will be using a Regulation A+ to offer $8M of its common stock in its home state and 3 other states. For the offering to be cleared for sale by the SEC, ABC must file
An offering circular
Presale Order for syndicate
An order communicated to a syndicate Manager before formation of the underwriting bid of A new municipal bond issue. If the syndicate wins the bid, the order takes the highest priority when orders are filled.
Member order for syndicate
An order given to a municipal syndicate in which a single member receives credit for the sale. Typically the last type of order to be filled by the syndicate
Designated Order for syndicate
An order given to a municipal syndicate that designates one or more members to receive credit for the sale. The order is generally from an institutional investor
Independently Prepared Reprint (IPR)
Any article reprint that meets certain standards designed to ensure that the reprint was issued by an independent publisher and was not materially altered by the member to make it consistent with applicable regulatory standards or to correct factual errors
*retail investor
Any person -- other than an institutional investor -- regardless of whether the person has an account with the firm is considered a retail investor
To be an offshore transaction, offers and sales cannot be made to
Any person or state in the US
institutional communication
Any written (or electronic) communication that is distributed or made available only to institutional investors
Retail Communication
Any written communication distributed or made available to more than 25 retail investors in a 30 day period -telemarketing -storyboard of a tv or video ad -Hard copy or electronic formats -Contains all components of advertising and sales literature -Must be approved by a registered principal prior to first use -Chat room posts that do not promote the business or provide investment advice are exempt -Generic advertising is exempt -Maintained by firm for 3 years -If new firm registered with Central Registration Depository for less than 12 months, must file all retail communication with FINRA 10 days prior to first use unless previously filed with no material changes -Firms registered > 12 months file 10 days after first use -Investment companies, ETF sponsors, and variable annuities filed 10 days prior to first use -FINRA may require all 10 days prior if firm is making misleading statements
Hypothetical illustrations
Assumed rates of returns may be used to demonstrate the performance of variable life policies
A client invests $100,000 in a tax shelter as a limited partner, giving him a 10% interest in the program. However, the general partners cannot meet the program's expenses. A mortgage balance of $3 million remains, and the property of the program is liquidated for $1 million. How much does the investor get back from his original investment? A) $33,000 B) $0 C) $10,000 D) $100,000
B) $0 The limited partner will not receive any return of his investment. In a failed program, the partnership's creditors are paid first with any sale proceeds—before the limited partners receive any money. Because the limited partners had not signed a recourse agreement, even though the partnership still owes $2 million on the mortgage, the limited partners are not liable for any money beyond their original investments. LO 11.c
In a new margin account, a customer sells short 1,000 shares of ABC at $15 per share and makes the required Regulation T deposit. If the stock drops to $12 per share, what is the equity in the account? A) $15,000 B) $10,500 C) $12,000 D) $18,000
B) $10,500 Remember, the equity in a short margin account is the credit balance minus the short market value (SMV). In this case, the credit balance is the total of the sale price plus the 50% Regulation T deposit. That is $15,000 plus $7,500, or $22,500. With the SMV down to $12,000, the equity becomes $22,500 minus $12,000, or $10,500. Alternatively, you can start with the initial equity of $7,500 (the 50% Regulation T deposit) and add the $3,000 gain from the drop in price of the short stock. You get the same $10,500 equity. LO 16.d
A customer owns 10M of 7% U.S. Treasury bonds. He is in the 28% federal tax bracket and the 10% state tax bracket. What is his annual tax liability on these bonds? A) $98 B) $196 C) $266 D) $70
B) $196 The 10M means $10,000. (Remember your Roman numerals? M equals 1,000). His tax liability is as follows: $1,000 times 7% equals $70 annual interest per bond; $70 times 10 equals $700 annual interest, which is taxable only by the federal government; and $700 times 28% equals a $196 tax liability. LO 7.e
In a margin account, if a client purchases $15,000 of LMN preferred shares, $15,000 of money market mutual fund shares, and $2,500 of call options, what is the Regulation T call? A) $17,500 B) $25,000 C) $16,250 D) $32,500
B) $25,000 The amounts that must be deposited are as follows: $7,500 for the preferred shares, $15,000 for the mutual fund, and $2,500 for the options. Mutual fund shares cannot be hypothecated for 30 days, and option purchases are never marginable. LO 16.d
In a margin account, your customer's long market value is $22,000. The debit balance is $8,000. If the customer enters an order to purchase $12,000 of stock, the margin call will be A) $0.00. B) $3,000. C) $4,000. D) $6,000.
B) $3,000. We determine the excess equity in this account by comparing the equity in the account with the Reg. T requirement. With a LMV of $22,000, Reg. T requires 50% equity, or $11,000. This account has equity of $14,000 ($22,000 minus the $8,000 debit balance). That is how we note the excess equity is $3,000 ($14,000 minus $11,000). Unless stated otherwise, that $3,000 will be journaled to SMA. The margin required on a new $12,000 purchase is $6,000, so this customer would need to deposit an additional $3,000 on top of the SMA. Alternatively, after this purchase, the LMV will be $34,000. Regulation T would require 50% of that, or $17,000. The account already has $14,000 of equity, so only $3,000 additional would be required. Yet another way is that $3,000 of SMA has a buying power of $6,000 of stock. The remaining $6,000 from the $12,000 purchase would require a cash deposit of $3,000. LO 16.d
An investor redeems 300 shares in ACE Fund. When the investor bought the shares at $12, the net asset value (NAV) was $11.08. If the current public offering price is $12.50, and the NAV is $11.80, the investor receives A) $3,324. B) $3,540. C) $3,750. D) $3,600.
B) $3,540. The key to this question is recognizing that the Ace Fund is a mutual fund rather than a closed-end fund. There are two clues. The first is the third word in the question, redeems. It is the open-end investment company (mutual fund) that redeems shares; there is no redemption with closed-end funds. The second clue is that the public offering price is stated. Only new issues have a POP. As a mutual fund, shares are redeemed at NAV. If the investor redeems 300 shares at an NAV of $11.80, he receives $3,540 (300 × $11.80). LO 8.c
If a customer buys 1 FLB Oct 50 call at 3 and she exercises the option to buy 100 shares when the market is at 60, what is the cost basis of the 100 shares? A) $6,300 B) $5,300 C) $5,000 D) $6,000
B) $5,300 The cost basis of the 100 shares is the total amount the investor spent to acquire them. She paid $300 to purchase the call option. When she exercised the call, she purchased 100 shares of FLB at $50 per share for $5,000, so the cost basis is $5,300. LO 10.i
A syndicate won the bid for a general obligation bond of $1 million issued by a city. The syndicate has received the following orders: $500,000 net designated, $500,000 presale, and $1 million member at takedown. The orders would be filled as A) $500,000 presale, $250,000 net designated, $250,000 to members. B) $500,000 presale, $500,000 net designated, none to members. C) none to presale, none to net designated, $1 million to members. D) $250,000 presale, $500,000 net designated, $250,000 to members.
B) $500,000 presale, $500,000 net designated, none to members. Municipal syndicate customs dictate that presale orders have first priority, with group orders, net designated orders, and member orders following in that order. LO 20.b
If 1 OEX 375 call is purchased at 3.25 and exercised when the S&P 100 closes at 381, the writer delivers which of the following to the holder? A) $600 in stocks B) $600 cash C) $381 in securities D) $325 cash
B) $600 cash Explanation Index options settle in cash. Physical delivery does not occur. The call buyer receives cash equal to the difference between the strike price and the index closing value on the day the option is exercised. LO 10.g
XYZ Corporation is preparing a registration statement for a new issue consisting of 300,000 new shares and 200,000 existing shares held by officers. The offering price is $30 per share, and the spread taken by the underwriters is $2 per share. After the offering is complete, XYZ will receive A) $15,000,000. B) $8,400,000. C) $9,000,000. D) $14,000,000.
B) $8,400,000. XYZ Corporation will receive $28 per share for each of the 300,000 new shares being issued ($30 per share price less the $2 spread). The proceeds from the 200,000 shares sold by the officers will benefit the officers themselves, not XYZ Corporation. LO 20.b
XYZ Corporation is preparing a registration statement for a new issue consisting of 300,000 new shares and 200,000 existing shares held by officers. The offering price is $30 per share, and the spread taken by the underwriters is $2 per share. After the offering is complete, XYZ will receive A) $9,000,000. B) $8,400,000. C) $14,000,000. D) $15,000,000.
B) $8,400,000. XYZ Corporation will receive $28 per share for each of the 300,000 new shares being issued ($30 per share price less the $2 spread). The proceeds from the 200,000 shares sold by the officers will benefit the officers themselves, not XYZ Corporation. LO 20.b
A customer buys XYZ stock at $60 per share. The stock is currently trading at a 10:1 price-to-earnings (P/E) ratio. The firm declares a 3:1 stock split. What will the P/E ratio be after the split if earnings remain unchanged? A) 5:1 B) 10:1 C) 12:1 D) 3:1
B) 10:1 If earnings remain unchanged, the P/E ratio remains the same: 10:1. Earnings are currently $6 per share ($60 / 10). After a 3:1 split, each share will be valued at $20. If earnings are unchanged, the same $6 of earnings is now applicable to three shares, or $2 per share. Price divided by earnings equals P/E ratio ($20 / $2 = 10:1 P/E ratio). LO 13.d
Which of the following securities is an original issue discount obligation? A) GNMA certificates B) 13-week U.S. Treasury bills C) Corporate bonds D) FNMA bonds
B) 13-week U.S. Treasury bills U.S. Treasury bills are always originally issued at a discount and mature at par, with the investor making the appreciation between the original discounted amount and the par value at maturity. However, this appreciation is treated as interest, not a capital gain. LO 7.b
ALFA Enterprises pays a quarterly dividend of $0.15 and has earnings per share of $2.40. What is the dividend payout ratio? A) 6.25% B) 25.00% C) 14.40% D) 30.00%
B) 25.00% Earnings per share are typically calculated for a year, so the annual dividend of $0.60 ($0.15 × 4) is divided by $2.40 to calculate what percentage of earnings is paid as a dividend—or rather, the dividend payout ratio (0.60 / 2.40 = 25%). LO 13.d
A municipal revenue bond indenture contains a net revenue pledge. The following are reported for the year: $30 million of gross revenues, $18 million of operating expenses, $4 million of interest expenses, and $2 million of principal repayment. What is the debt service coverage ratio? A) 5:1 B) 2:1 C) 3:1 D) 9:1
B) 2:1 Under a net revenue pledge, bondholders are paid from net revenue, which equals gross revenue minus operating and maintenance expenses. In this example, net revenue is $12 million ($30 million − $18 million). Debt service is the combination of interest and principal repayment. Here, debt service is $6 million ($4 million + $2 million). To compute the debt service ratio, divide net revenue by debt service: $12 million divided by $6 million equals a ratio of 2:1. LO 6.c
A stock pays a $0.50 quarterly dividend. The company had earnings per share last year of $10. The company's dividend retention ratio is A) 5%. B) 80%. C) 10%. D) 20%.
B) 80%. The dividend retention ratio is the reciprocal of the dividend payout ratio. If the company pays a $2 dividend on earnings of $10, it pays out 20% of the earnings available to common shareholders in the form of the dividend. That means it retains 80% of the available monies. LO 13.d
To fill a customer buy order for 800 WXYZ shares, your firm requests a quote from a market maker for 800 shares. The response is "bid 15, ask 15.25." If the order is placed, the market maker must sell A) 100 shares at $15.25 per share. B) 800 shares at $15.25 per share. C) 800 shares at $15 per share. D) 800 shares at no more than $15 per share.
B) 800 shares at $15.25 per share. A market maker is responsible for honoring a firm quote. If no size is requested by the inquiring trader, a quote is firm for 100 shares. In this example, the trader requested an 800-share quote, so the market maker is responsible for selling eight round lots of 100 shares at the ask price of $15.25 per share. LO 16.b
Regarding a summary section and a statement of additional information (SAI) for management investment companies, which of the following is true? A) Both must be included in the prospectus of a management company. B) A statement of additional information need not be included in the prospectus of a management company. C) Neither are required to be in the prospectus of a mutual fund. D) A summary section need not be included in the prospectus of a mutual fund.
B) A statement of additional information need not be included in the prospectus of a management company. Explanation A statement of additional information (SAI) need not be in a prospectus. It must be available for investors in open- and closed-end investment companies. It consists of information that is not necessarily needed to make an informed purchase decision but is still useful to the investor. The SEC, however, mandates that enhanced disclosure in the form of a summary section be included in the prospectus of open-end investment companies (mutual funds). It must be written in plain language, and the SEC mandates which items must be addressed in the summary and in what order. LO 20.c
Which of the following accounts allow ownership of real estate? A) A margin account B) An UTMA account C) A cash account D) An UGMA account
B) An UTMA account One of the primary differences between UTMA and UGMA is the investment flexibility. Real property can be transferred into an UTMA, while no such provision exists with UGMA. Brokerage accounts, cash or margin, are used to trade securities. Real estate is not a security (REITs and RELPs are, but that is not direct ownership of the real estate). There is nothing to stop an investor from depositing fully paid-for marginable securities into a margin account and using the margin loan to purchase real estate. However, that purchase is done outside of the margin account. LO 1.b
One of your customers has made periodic purchases of shares of the Castel Growth Fund over the past several years. The customer has decided to take a profit and sell some of those shares. When the investor's tax return is prepared for the year in which the sale of those shares occurs, it is necessary to establish a cost basis of the shares sold. Which of the following methods is available for mutual funds, that is not available for determining the cost basis of stock? A) Share identification B) Average cost basis C) Dollar cost averaging D) FIFO
B) Average cost basis The Internal Revenue Service allows using the average cost basis to determine the cost basis of redeemed mutual fund shares. Investors cannot use this method when selling shares of any security other than a mutual fund. The other methods of determining cost basis are FIFO and share identification. FIFO is the default method used by the IRS if an investor fails to choose. Share identification can frequently result in a lower tax bill, especially if the security was purchased at different intervals at varying prices. LO 13.h
Which of the following instruments is essentially a letter of credit? A) Negotiable CDs B) Bankers' acceptances C) Margin loans D) Commercial paper
B) Bankers' acceptances A letter of credit (LOC) is a commitment, usually made by a commercial bank, to honor demands for payment of a debt upon compliance with conditions and/or the occurrence of certain events specified under the terms of the letter of credit. Those in the import/export business use these LOCs in the form of bankers' acceptances. **This question deals with material not covered in your LEM, but it relates to recent rule changes and/or student feedback. LO 4.c
An investor sold 100 shares of MAS short when the stock was trading at 21. If MAS is now trading at 16, and the investor wants to protect her gain, which of the following orders should she place? A) Sell stop at $16.25 B) Buy stop at $16.10 C) Sell limit at $16 D) Buy limit at $16
B) Buy stop at $16.10 A buy stop order is used to buy in a short position at a higher price (when the market moves up). To protect the gain, a buy stop order would be placed just above where the stock is currently trading. In this case with the stock trading at 16, a buy stop of 16.10 is the best choice. LO 16.a
If industrial development bonds are called because of condemnation, this would be covered under which of the following clauses in the bond indenture? A) Refunding B) Catastrophe C) Refinancing D) Defeasance
B) Catastrophe Condemnation is considered a catastrophe and only applies to revenue bonds. LO 6.b
Under the rules on communication with the public, review of which of the following by a principal may take place either before or after distribution? A) Advertising in a newspaper B) Correspondence to 25 or fewer retail investors within any 30-calendar-day period C) Seminar scripts D) Independently prepared reprints
B) Correspondence to 25 or fewer retail investors within any 30-calendar-day period A principal may review correspondence before or after its distribution as long as it is limited to no more than 25 retail investors during any 30-calendar-day period. The other choices require principal approval rather than just review before first use. LO 19.c
Which of the following risk factors would be least important to disclose in recommending collateralized mortgage obligation (CMO) securities to public customers? A) Interest rate risk B) Credit risk C) Prepayment risk D) Extended payment risk
B) Credit risk Most CMOs offered to the public are backed by mortgages held by government-sponsored corporations like Fannie Mae, Ginnie Mae, Freddie Mac, et cetera. Credit risk would be a minimal consideration. The other risks are inherent to mortgage-backed securities. LO 12.d
Which of the following is least likely to be a risk concern to an investor in an oil and gas DPP? A) Lack of liquidity B) Deductions for intangible drilling costs C) Risk of an IRS audit D) Legislative risk
B) Deductions for intangible drilling costs The deductions for intangible drilling costs are a benefit rather than a risk. If the choice said excess intangible drilling costs, then the investor might be subject to the alternative minimum tax (AMT). On the exam, you can count on DPPs having liquidity risk. It is generally believed that tax returns showing ownership of a DPP have a greater audit risk. Because one of the features of a DPP is the tax treatment, a potential change to the tax laws by the Congress constitutes legislative risk. LO 11.g
An employee of a firm registers to open an account at another member firm. Under FINRA rules, all of the following statements are true except A) the employee must receive prior written permission from the employing member firm. B) FINRA must receive duplicate statements and confirmations for each transaction. C) the employing member firm must receive duplicate statements and confirmations if requested in writing. D) the employing member firm must be notified, in writing, of the intent to open the account.
B) FINRA must receive duplicate statements and confirmations for each transaction. Under FINRA rules, the employing member must be notified, in writing, of the prospective account and must give prior written approval before the account can be opened. It must be provided with duplicate statements and confirmations only if it makes a written request. There is no requirement that FINRA be either notified or provided with duplicate statements and confirmations. LO 1.d
In most cases, FINRA's recordkeeping requirements follow SEC Rule 17a-4. One notable exception is records of written customer complaints where A) FINRA requires four years and the SEC six years. B) FINRA requires four years and the SEC three years. C) FINRA requires six years and the SEC three years. D) FINRA requires three years and the SEC two years.
B) FINRA requires four years and the SEC three years. FINRA, as a self-regulatory organization, can make rules more but never less stringent than the federal law. This is one of the few examples. LO 18.b
If the holder of a call tenders an exercise notice after the ex-dividend date for a cash dividend, which of the following statements is true? A) He is entitled to the dividend only if he sells the underlying stock. B) He is not entitled to the dividend. C) He must pay the dividend to the writer. D) He is entitled to the dividend.
B) He is not entitled to the dividend. If the holder of a call exercises before the ex-date, the trade settles on or before the record date, and he is on record for the dividend. If the holder exercises on or after the ex-date, the trade settles after the record date, and he is neither on record for the dividend nor entitled to it. LO 10.b
If general interest rates increase, the interest income of an open-end bond fund will do which of the following? A) Cannot be determined from the information given B) Increase C) Remain unchanged D) Decrease
B) Increase What does a bond fund invest in? Bonds. One of the features of an open-end company (mutual fund) is the continuous issuance of new shares. The question states that interest rates are increasing. As that new money is received, the fund's manager will be able to invest in bonds offering that higher return. This will cause the income of the fund to increase. It is not part of the question, but the increase in interest rates will likely lead to the NAV of the fund decreasing (as interest rates go up, the price of the bonds in the fund's portfolio will go down). LO 8.c
An investor opens the following options position: Sell 1 RIF Sep 70 call @ 6; sell 1 RIF Sep 70 put @1. What is the investor's maximum gain, maximum loss, and breakeven point? A) Maximum gain is $700; maximum loss is unlimited; breakeven point is $70. B) Maximum gain is $700; maximum loss is unlimited; breakeven points are $63 and $77. C) Maximum gain is unlimited; maximum loss is $700, breakeven point is $70. D) Maximum gain is $700; maximum loss is $6,300, breakeven points are $63 and $77.
B) Maximum gain is $700; maximum loss is unlimited; breakeven points are $63 and $77. The first step is to identify the position. This is a short straddle—a short put and a short call with identical terms. That means we are going to have two breakeven points. The maximum loss is unlimited because one of the positions is an uncovered call. The maximum profit is the premiums (credit) received of $700. Breakeven points follow the call-up and put-down rule. That is, add the premiums of $7 to the strike price of the call ($7 + $70 = $77) and subtract the premiums of $7 from the strike price of the put ($70 ‒- $7 = $63). Please note: In any options question, short positions are always uncovered (naked) unless something in the question indicates they are covered. LO 10.h
TCB Corporation wants to offer $75 million worth of common stock solely to residents of its home state. The issue will not be registered at the federal level. What type of registration will TCB use to register with the state? A) Notice filing B) Qualification C) Regulation D D) Coordination
B) Qualification If the registration is just with one state, the registration will be done through qualification. Qualification means that the state will collect all the information and decide whether or not to clear the offering for sale in the state. LO 20.c
An investor purchased 100 shares of AMNZ stock five years ago at $200 per share. With AMNZ currently selling at a price in excess of $1,000 per share, the investor would like to generate some income. Which of the following strategies would you recommend? A) Buy an AMNZ call B) Sell an AMNZ call C) Buy an AMNZ put D) Sell an AMNZ put
B) Sell an AMNZ call The only way to generate income is to sell something. Because the investor already owns 100 shares of AMNZ, selling a put is probably not the right suggestion. If the stock price goes down, the put will be exercised and the investor will have to buy 100 shares of the stock at the strike price. Selling the call while owning the underlying stock makes this a covered call. It provides income from the premium and offers some downside protection. If the stock goes up, the option will likely be exercised and the investor will have to deliver the stock purchased years ago. This will result in a long-term capital gain equal to the difference between the investor's cost ($200) and the proceeds received (the strike price plus the premium). LO 10.a
If an officer of a bank wants to purchase new issues, which of the following statements is true? A) She may not purchase a new issue unless the amount she wishes to purchase is considered small in relation to the total offering. B) She may not purchase a new issue because she is considered a restricted person. C) She may purchase a new issue because anyone is allowed to purchase new issues. D) She may purchase a new issue because no banking rules prohibit it.
B) She may not purchase a new issue because she is considered a restricted person. Under the rules regarding the purchase of new issues, bank officers would be characterized as restricted persons. They may not, therefore, purchase new issues. LO 20.f
Which of the following is not part of the Federal Farm Credit System? A) The Bank for Cooperatives B) The Federal Home Loan Banks C) The Federal Intermediate Credit Bank D) The Federal Land Banks
B) The Federal Home Loan Banks The Federal Farm Credit Bank system is for farms, not homes. LO 7.c
Under the Uniform Transfer to Minors Act (UTMA), how can stock subscription rights be handled in a custodial account? A) The rights can be exercised or sold only if the custodian is also the donor. B) The custodian can exercise or sell the rights as he deems prudent. C) The custodian can exercise, sell, or allow the rights to expire as he deems prudent. D) The custodian cannot exercise rights; they can only be sold.
B) The custodian can exercise or sell the rights as he deems prudent One thing that is never considered prudent is to let the rights expire. Even if the custodian does not believe adding more of the stock to the account is proper, there is a value to the rights, and the best interest of the minor is served by turning those rights into cash. Custodians in these accounts are able to sell or exercise the right, regardless of any relationship existing between them and the donor. LO 1.b
A letter of intent for a mutual fund does not contain which of the following provisions? A) The letter can be backdated 90 days to include a previous deposit. B) The fund can halt redemption during the time the letter of intent is in effect. C) The time limit is 13 months. D) The fund will keep some of the initially issued shares in an escrow account to ensure payment of the full sales load.
B) The fund can halt redemption during the time the letter of intent is in effect. A letter of intent is not binding on the client in any way. Should the client decide to liquidate the account before completing the letter, the company will reduce the redemption by the amount of shares held in escrow. LO 8.d
A municipal bond dealer is making a bona fide quote. Which of the following statements regarding such a quote is true? A) The quote need not be one that the dealer is prepared to act upon (buy or sell). B) The quote must have a reasonable relationship to fair market value. C) The quote cannot represent an offer to sell bonds that the dealer does not currently own. D) The quote may not take into consideration any anticipated market movement.
B) The quote must have a reasonable relationship to fair market value. A bona fide quote must have a reasonable relationship to fair market value and can be made in consideration of any anticipated market movement. A bona fide quote is one the dealer is prepared to buy or sell on, as opposed to a workable, nominal, or subject quote. On the offer side of a bona fide quote, a dealer may make an offer to sell bonds that it does not hold in its own inventory, but it must know where to obtain the bonds if they are needed to complete the transaction. LO 6.a
In the underwriting of a new municipal GO bond issue, who would earn the selling concession? A) A selling group member B) The syndicate manager C) A member of the syndicate D) The registered representative who actually sold the bonds
B) The syndicate manager When a selling group member is part of the underwriting, their compensation is the selling concession. The manager earns the management fee. The syndicate members earn the takedown. LO 20.b
Convertible debentures offer which of the following benefits to investors? A) Highest priority in the event of dissolution B) The upside potential of a common stockholder with less downside risk C) A higher coupon rate than comparable non-convertible debt D) Forced conversion when the underlying stock price increases
B) The upside potential of a common stockholder with less downside risk If the price of the underlying stock increases, the holder of the debenture can exercise the conversion privilege and capture that growth. Unlike the stock, as a debt security, the regular periodic interest payments tend to provide a floor below which the price of the debenture will not fall. In exchange for this benefit, the coupon rate is lower than a comparable non-convertible security. Many of these convertibles have a call feature. If the price of the stock rises, the issuer may decide to call it in and the investor's best option is to convert. This is known as forced conversion and forces the investor in a debt security to own an equity security. Debentures have a lower priority in dissolution than secured bonds. LO 5.c
Danielle is the CFO of the XYZ Manufacturing Company. XYZ's shares are listed on the NYSE. She purchased shares of XYZ common stock through her registered representative of a FINRA member firm 165 days ago and, wishing to add on to her home, sells the stock and realizes a $50,000 profit. Under SEC rules, how will this transaction be treated? A) Because the shares were purchased in the open market, she gets to keep the profit. B) This is considered a short-swing profit and it must inure to the benefit of the issuer. C) This is a violation of the rules on insider trading and could result in fines and/or imprisonment. D) The sale will be reversed and she will have her initial investment returned to her.
B) This is considered a short-swing profit and it must inure to the benefit of the issuer. The first point to understand is that this question has nothing to do with Rule 144 concerning the sale of control or restricted stock. It relates to another SEC rule that also deals with control stock, but for a different purpose. As an executive officer, Danielle is subject to the short-swing profits rule involving the sale of control stock. When control stock is sold prior to a six-month holding period, any profits are defined as short-swing profits and must be disgorged to the issuer. The phrase "inure to the benefit" refers to the profits being returned to the issuer. LO 20.e
When does pension payment liability affect the credit rating of a municipality? A) When funds are invested presently to meet future pension needs B) When funds needed to make payments exceed funds available C) Never D) When the return on funds invested to meet future needs exceeds anticipated payments
B) When funds needed to make payments exceed funds available The credit rating for a municipality's debt would be adversely affected if funds needed to make payments exceeded funds available. This is an unfunded pension liability and can result if monies set aside to make future payments are not enough or if poor investment decisions deplete the funds. LO 6.d
You are analyzing a company's financial statements, including the balance sheet. You are specifically focusing on the company's liquidity, using the formula current assets minus current liabilities. What liquidity calculation are you using? A) Quick asset ratio B) Working capital C) Current ratio D) Acid-test ratio
B) Working capital You are calculating working capital (current assets − current liabilities). There are three liquidity calculations using the balance sheet. They are as follows: Working capital = current assets − current liabilities Current ratio = current assets / current liabilities Quick asset ratio (acid-test ratio) = (current assets − inventory) / current liabilities LO 13.d
Which of the following transactions would not be subject to the 5% markup policy? A) Your firm agrees to do an agency cross-transaction between two of your clients. Each client has been charged a commission. B) Your client enters trades to purchase two different mutual funds in the same fund family. The combined purchases do not qualify for any breakpoints. The client is charged a sales charge of 6.5%. C) A client enters an order to purchase one share of a stock to be put in the name of her grandchild. You charge the client the minimum commission for your firm ($45) even though the stock is currently trading at $26 per share. D) A client sells shares of an over-the-counter stock and uses the proceeds to purchase shares from your firm's inventory account.
B) Your client enters trades to purchase two different mutual funds in the same fund family. The combined purchases do not qualify for any breakpoints. The client is charged a sales charge of 6.5%. Transactions in securities that are sold by a prospectus are not subject to the 5% markup policy. A mutual fund will disclose its cost to the client in the prospectus and is therefore not subject to the rule. Five percent is a guideline, and markups can exceed it. LO 3.j
An investor buys 2 RST 40 calls and pays a premium of 4 each. He also buys 2 RST 40 puts and pays a premium of 2.50 each. When purchased, RST is trading at $40.75. On the expiration date, RST is trading at $32.50, and the investor closes his positions for intrinsic value. Excluding commission, the investor realizes A) a $200 loss. B) a $200 profit. C) a $100 profit. D) a $100 loss.
B) a $200 profit. The cost of opening these two straddles is $1,300. On the expiration date, the puts are worth $750 each, for a total of $1,500, giving the investor a $200 profit. The calls will expire worthless. Alternatively, the breakeven points for this long straddle are 33.50 and 46.50 (add the combined premiums of 6.50 to the call strike and subtract combined premiums from the put strike). The investor profits in a long straddle when the stock moves outside the breakeven points. As the stock is at 32.50, the customer makes 1 point (33.50 − 32.50) on each straddle, resulting in a $200 profit. LO 10.h
A quotation on a municipal security between dealers is assumed to be A) a workable quote. B) a bona fide quote. C) an indication of interest. D) a nominal quote.
B) a bona fide quote. Municipal bond quotations between dealers are required to be bona fide, or firm, quotes. They are required to be fair and reasonably related to the current market. LO 6.a
If a customer with an unrealized gain on a short stock position wishes to protect her profit, she should enter A) a sell stop order. B) a buy stop order. C) a sell limit order. D) a buy limit order.
B) a buy stop order. A buy stop order can be placed above the current market to protect the short stock position. If the stock trades at or above the stop price, the order is elected and becomes a market order to buy the stock, which will be used to cover the short position. LO 16.a
An investor sells short 100 shares at 50 and sells a 50 put at 5. If the put is exercised when the stock is trading at 45, the investor realizes A) a gain of $1,000. B) a gain of $500. C) a gain of $1,500. D) neither a gain nor a loss.
B) a gain of $500. When the short put is exercised, the investor buys stock at $50 that she can use to cover the $50 short sale. The investor realizes no gain or loss on the stock, but she collected $500 in premiums, for a gain of $500. LO 10.d
A New York Stock Exchange designated market maker is employed by A) the SEC. B) a member of the exchange. C) the OCC. D) the NYSE.
B) a member of the exchange. Designated market makers are employed by firms which must be exchange members. LO 17.b
if ABC Fund pays regular dividends, offers a high degree of safety of principal, and appeals especially to investors seeking tax advantages, ABC is A) an aggressive growth fund. B) a municipal bond fund. C) a money market fund. D) a corporate bond fund.
B) a municipal bond fund. Municipal bonds are considered second only to U.S. government securities in terms of safety. Also, interest received from the bonds is generally exempt from federal income tax. LO 8.g
When a broker-dealer makes a market, it is acting as A) a broker. B) a principal. C) an agent. D) an underwriter.
B) a principal. Making markets is a principal activity. The broker-dealer stands ready, willing, and able to buy or sell securities for its own account. A dealer acts as a principal when it owns the securities it trades. When the broker-dealer is not acting for its own account, it acts as a broker or an agent. LO 17.b
An investor purchases a municipal bond at par for $10,000 on February 15, 1997. On August 15, 1997, if the investor sells the bond for $10,500, for tax purposes, the $500 profit is recognized as A) a long-term capital gain. B) a short-term capital gain. C) interest income. D) a tax-free capital gain.
B) a short-term capital gain. When municipal bonds are purchased at par and subsequently sold at a higher price, the resulting profit is taxed as a capital gain. Only interest income from municipal bonds is exempt from taxation. This gain is not classified as long-term because the investor did not hold the bond for more than one year. LO 6.f
All of the following would be indications of a deteriorating credit situation except A) an increase in tax delinquencies. B) an increase in municipal assessed valuations. C) an increase in the per capita debt. D) an increase in personal bankruptcies.
B) an increase in municipal assessed valuations. An increase in assessed property values would theoretically mean an increase in taxes collected, thus increasing a municipality's credit standing. LO 6.b
An investment company registered with the SEC under the Investment Company Act of 1940 that allows investors to sell their shares back to the company at net asset value on a quarterly basis is A) an open-end fund. B) an interval fund. C) a closed-end fund. D) a unit investment trust.
B) an interval fund. The unique feature of interval funds is that at certain intervals, which may be anything from monthly to annually, investors are allowed to sell a portion of their shares back to the fund at net asset value (NAV). In the case of open-end funds and UITs, shareholders can redeem their holdings at NAV at all times, not just specified intervals. Aren't interval funds closed-end investment companies? Yes they are, but as covered many times in the course, when there are two choices that could be true statements, the correct answer is the one that more specifically answers the question. Use this logic: Are all interval funds closed-end funds? Yes. Are all closed-end funds, interval funds? No. That makes interval fund the best choice. LO 8.b
An investor buys an ABC May 45 put at 4.25 when the stock is trading at $43. The put is in the money when the stock is A) below 40.75. B) below 45. C) below 38.75. D) above 47.25.
B) below 45. A put is in the money when the underlying stock trades below the exercise price of the put. The put is in the money by two points. LO 10.c
In performing their natural job functions, all of the following may act in a principal capacity in a transaction with customers except A) broker-dealers. B) branch managers of FINRA member firms. C) designated market makers (DMM) on the NYSE. D) OTC market makers.
B) branch managers of FINRA member firms. When acting as a principal in a transaction, you are buying for or selling from inventory. Although branch managers of member firms are generally required to be registered as principals, that is different from acting in a principal capacity in a transaction. DMMs facilitate trading on the floor of the NYSE. Doing that sometimes requires them to buy or sell as principals. OTC market makers, by definition, act as principals. The term broker-dealer means that the firm can act either as a broker or a dealer. There are a number of words used in this exam than can have multiple meanings. Principal is one of those. LO 16.b
If your client expected short-term interest rates to fall, you might recommend that the client A) buy a Treasury bond yield-based put. B) buy a Treasury bill yield-based put. C) write a Treasury bill yield-based call. D) buy a Treasury bill yield-based call.
B) buy a Treasury bill yield-based put. The key to debt options is that the investor is betting on the movement of interest rates, not the price of the security. As with any other investment based on downward movement (put down), the strategy called for here is buying a U.S. Treasury bill put option. Why not the Treasury bond put? Because the question refers to short-term rates and Treasury bonds are a play on long-term ones. LO 10.g
A highly leveraged company has the smallest percentage of its total capitalization in A) preferred stock. B) common stock. C) long-term debt. D) short-term debt.
B) common stock. Common stock, which represents ownership, would account for the smallest amount of capitalization of a highly leveraged company. Highly leveraged companies have the largest amount of their capitalization in debt instruments. Preferred stock, although an equity, is more like a debt instrument because of the stated dividend rate. LO 13.d
All of the following information is included in a municipal bond resolution except A) any call provisions that allow the issuer to redeem the bonds before their scheduled maturity. B) compensation paid to the underwriters. C) an authorization to sell the securities. D) restrictive covenants that are binding on the issuer.
B) compensation paid to the underwriters. The bond resolution is the document in which the issuer authorizes the issuance of municipal securities. Among other things, the resolution describes the characteristics of the proposed issue and the issuer's duties to the bondholders. Compensation paid to the underwriters would be found in the official statement. LO 6.b
A registered representative of a FINRA member firm uses her personal smartphone to send a client a text message about a security in the client's portfolio. This practice is A) a personal message and does not come under the FINRA rules on communications with the public. B) considered an electronic communication and must be reviewed by a principal. C) not permitted under FINRA rules; all electronic communications must be on company-owned devices. D) considered a retail communication and must have principal approval.
B) considered an electronic communication and must be reviewed by a principal. Although many member firms do not permit use of personal devices, that is a firm's decision, not a FINRA rule. When permitted, a single message like this is considered correspondence delivered electronically. As with all correspondence, review by a principal is required. This review may be on a pre- or post-use basis. A text message sent to more than 25 persons within a 30-day period becomes retail communication. LO 19.a
Your client currently holds XYZ stock in her portfolio. You notice that the put-call ratio for options trading on XYZ stock has been increasing over the past several days. The increase in the ratio would indicate that A) for the underlying XYZ stock, straddles are being purchased. B) for the underlying XYZ stock, more puts than calls are being traded. C) for the underlying XYZ stock, more calls than puts are being traded. D) investors are becoming more and more bullish on XYZ stock.
B) for the underlying XYZ stock, more puts than calls are being traded. The ratio is a measure of puts traded to calls traded and is calculated by dividing the number of traded puts by the number of traded calls (puts / calls). As the ratio increases, it reflects that more puts than calls are being traded and is therefore a more bearish indicator of investor sentiment. LO 10.d
A covered call could be written to A) protect a short stock position. B) improve the return on a portfolio. C) purchase future securities. D) lock in a profit.
B) improve the return on a portfolio. Writing a call will not necessarily lock in the profit. In the form of increased cash flow, it will improve the return on the portfolio. LO 10.d
A corporation buys back its stock on the open market for all of the following reasons except A) to use it for future acquisitions. B) it reduce interest charges. C) it increase earnings per share. D) to use it for stock options.
B) it reduce interest charges. The repurchase of common stock does not reduce interest payments; however, it does reduce total dividends paid. LO 13.d
An investor has purchased a number of securities, including municipal bonds on margin. The margin interest paid to borrow the funds to purchase the municipal bonds is A) only deductible if the investor has investment income. B) not deductible. C) partially deductible. D) fully deductible.
B) not deductible. Interest received from municipal bonds is tax exempt, and therefore, the government does not allow margin interest paid to purchase them to be used as a deduction on one's income tax return. LO 16.d
A customer asks her registered representative to exercise discretion over her account. To do so, the representative must do each of the following except A) have a principal initial each order promptly, which may be before or after execution. B) obtain approval from FINRA. C) obtain evidence of written acceptance of the account by a registered principal of the firm. D) obtain written authorization from the customer.
B) obtain approval from FINRA. The requirements for a discretionary account include a written authorization from the customer, a written acceptance by a principal of the firm, and close supervision of each transaction to ensure suitable transactions in light of the customer's objectives and financial situation. No approval from FINRA is required. LO 2.g
Compared with selling short, it would not be correct to state that buying a put option A) requires a smaller capital commitment. B) offers a high potential profit. C) has a lower loss potential. D) does not require meeting the locate requirement for short sales.
B) offers a high potential profit. In both cases, the investor profits when the price of the underlying asset declines. The maximum profit is when the price of the asset reaches zero. That makes the maximum profit on the long put equal to the strike price minus the premium. Because there is no cost in selling short (the margin deposit requires a capital commitment, but is the investor's money), the maximum profit is the entire decline to zero. For exam purposes, we disregard commissions. Buying a put requires a smaller capital commitment than does shorting the stock and has a lower loss potential (the premium only) because selling short involves unlimited risk. When selling stock short on an exchange, the shares to be borrowed must be located before the sale. This is not a requirement when buying a put. LO 10.d
The ABC Insurance Company is advertising its variable annuity product as "ABC Lifetime Income—income generated from mutual fund returns." This advertisement is A) prohibited because it doesn't reference an annuity. B) prohibited because it implies returns from mutual funds. C) permitted as long as there's no guarantee. D) permitted.
B) prohibited because it implies returns from mutual funds. Variable contracts or their underlying accounts cannot be advertised as mutual funds. Proprietary terms can be used instead of words such as "annuity." LO 19.e
Depreciation expense is a deduction for investors in all of the following except A) movie production limited partnerships. B) real estate investment trusts (REITs). C) real estate limited partnerships (RELPs). D) equipment leasing limited partnerships.
B) real estate investment trusts (REITs). REITs are not flow-through vehicles. That tax treatment is available to limited partnership investments. If the REIT owns depreciable property, it will take the deduction, but not the investor. LO 11.b
One of the benefits of adding a sinking fund provision to a municipal bond issue is that the bond will generally A) receive more favorable tax treatment. B) receive a higher rating. C) carry a higher coupon. D) have a longer maturity.
B) receive a higher rating. Adding a sinking fund provision to a bond issue invariably results in a higher rating for the security. The fact that money is put aside to repay the principal on a regular basis offers greater safety. A higher rating results in a lower coupon, not a higher one. After all, the higher the rating, the lower the risk, and that means the issuer is able to borrow at a lower cost. Although the sinking fund itself does not change the maturity date, having a sinking fund enables the issuer to use partial calls to redeem the bond ahead of the final maturity date. A sinking fund has nothing to do with tax treatment. LO 6.a
Reasons why a corporation might engage in a stock buy-back program would include all of these except A) increasing earnings per share. B) reducing annual interest expense. C) having stock available for future acquisitions. D) using the stock for employee stock options.
B) reducing annual interest expense. There is no interest expense with stock. When a company buys back its stock, it becomes treasury stock. That stock is no longer outstanding. Buying back the stock should cause the earnings per share to increase (there are now fewer shares outstanding). Many times one company will acquire another one by paying for the purchase with its treasury stock rather than cash. Many companies offer employees ownership opportunities through employee stock options. This is a way to ensure that the company has enough stock to meet the needs. LO 3.a
Popular Investment Securities, a FINRA member firm, produces short videos describing the general characteristics of different types of securities. Periodically, an interstitial appears during the video. Under FINRA's rules on communications with the public, A) as long as the presentation is strictly generic, filing with FINRA is not required. B) the appearance of the interstitial defines the video as retail communication requiring filing. C) interstitials may not be used in public communication without the consent of the viewer. D) video presentations of any kind must be filed with FINRA within 10 days after first use.
B) the appearance of the interstitial defines the video as retail communication requiring filing. Probably the best example of an interstitial is the pop-up ad. Sometimes it is a full-page ad causing the viewer to see the advertisement before being able to see the rest of the content. Without the interstitial, a generic video describing general characteristics of a type of security would not require filing. But, once that advertisement pops up, it is now retail communication and must be filed. LO 19.c
The trust indenture of a revenue bond includes a statement explaining rates will be maintained at a level sufficient to cover the debt service and operating expenses. This statement would be found in that part of the indenture dealing with A) the official statement. B) the bond covenants. C) the flow of funds. D) the feasibility study.
B) the bond covenants. The trust indenture of a bond contains the protective bond covenants. Within the bond covenants can be found the rate covenant, which is a statement explaining that rates or user fees will be maintained at a level sufficient to cover the debt service and operating expenses for the bond issue. LO 6.b
The SEC has just declared the registration of XYZ Corporation's IPO effective for sale. If XYZ wanted to run a tombstone ad, it would not include A) the public offering price. B) the dated date. C) the name of the lead underwriter. D) the type of security.
B) the dated date. A tombstone ad for a stock offering, published on or after the effective date, will always include the effective date. It will not include the dated date. That is only relevant to bonds and represents the date from which interest begins to accrue. How did we know this was not a debt issue? An IPO can only be of stock. That is, a company can only "go public" once and that is with the issuance of stock. LO 20.c
All of the following statements regarding a limited partnership subscription agreement are true except A) the general partner endorses the subscription agreement, signifying that a limited partner is acceptable. B) the general partner's signature grants the limited partners power of attorney to conduct the partnership's affairs. C) the investor's registered representative must verify that the investor has provided accurate information. D) the investor's signature indicates that she has read the offering document.
B) the general partner's signature grants the limited partners power of attorney to conduct the partnership's affairs. A limited partner's signature on the subscription agreement grants the general partner power of attorney to conduct the partnership's affairs. The subscription agreement for a limited partnership is deemed accepted when the general partner signs the subscription agreement. LO 11.c
In a margin account, the broker-dealer lends money to the customer to assist in the purchase of a marginable security. Instead of delivering the security to the purchaser, the broker-dealer holds it as collateral for the loan. The form signed by the customer agreeing to this is A) the credit agreement. B) the hypothecation agreement. C) the loan consent agreement. D) the stock pledge agreement.
B) the hypothecation agreement. There are three special margin account agreement forms. The hypothecation agreement is the one in which the customer agrees to allow the broker-dealer to keep the securities purchased as collateral for the margin loan. The credit agreement contains the terms of the loan, such as interest to be charged, and the loan consent agreement is an optional form agreeing to let the broker-dealer lend out those securities. LO 2.g
In determining the suitability of an investor to invest in direct participation programs, the registered representative should evaluate each of the following except A) the current and future tax needs of the investor. B) the investor's ability to borrow the required amount that will make up the initial investment. C) the investor's financial ability to lose the entire investment. D) the investor's ability to commit the funds for a lengthy period.
B) the investor's ability to borrow the required amount that will make up the initial investment. If the investor needs to borrow the funds for the initial investment, investing in DPPs is not suitable. There is no evaluation necessary. Each of the other points is an important determinant as to whether or not an investor could be a suitable candidate for DPP investing. LO 11.h
If a prospectus for a variable life insurance product contains hypothetical projections of returns, A) they must reflect returns for the past 1-, 5-, and 10-year periods. B) the maximum return permitted is 12%, and there must be an illustration showing a 0% return as well. C) they may be used to demonstrate why this is an investment product. D) the issuer could be liable for civil action.
B) the maximum return permitted is 12%, and there must be an illustration showing a 0% return as well. In discussions of variable life insurance with customers, projections of hypothetical returns may be used. This is to demonstrate how the program really works and the risks involved if the projections are not met. The maximum allowable hypothetical rate of return is 12%, and there must also be a projection shown assuming a 0% return. Variable life insurance must not be sold as an investment product. It must always be emphasized that the policy should be purchased to meet an insurance need. LO 19.e
A generic ad for an investment company placed by a broker-dealer would contain A) both the name of the investment company and the name of the broker-dealer. B) the name of the broker-dealer, but not the name of the investment company. C) neither the name of the investment company nor the name of the broker-dealer. D) the name of the investment company, but not the name of the broker-dealer.
B) the name of the broker-dealer, but not the name of the investment company. Generic advertising of investment companies presents a nonspecific introduction to investment company shares. A specific fund or investment company is not mentioned in generic advertising, but the broker-dealer who is placing the ad must be named. LO 19.b
In early April, a customer buys 1 XYZ Oct 60 call for 9 and sells 1 XYZ Jul 70 call for 4. Before the calls expire, the customer may realize a pretax profit if A) the spread narrows to less than $5. B) the spread widens to more than $5. C) the price of XYZ stays the same. D) the price of XYZ decreases.
B) the spread widens to more than $5. This is a debit spread of $5 (net debit). Debit spreads are profitable if the spread widens between the premiums. LO 10.e
In a firm commitment underwriting of a municipal bond issue, when the syndicate manager makes the sale, the compensation is A) the manager's fee. B) the spread. C) the selling concession. D) the total takedown.
B) the spread. The only party in an underwriting who makes the entire spread is the syndicate manager (or managers if jointly managed). The manager's fee is what the manager makes on sales by everyone else. When a syndicate member makes a sale, the compensation is the total takedown. When a selling group member makes a sale, the compensation is the selling concession. LO 20.b
In an undivided syndicate, liability for unsold securities rests with A) the issuer. B) the syndicate members on a pro rata basis. C) the syndicate manager. D) the syndicate members that failed to sell their allotment.
B) the syndicate members on a pro rata basis. In an undivided (Eastern) account, liability for unsold securities rests with each syndicate member based on its participation percentage. For example, if a syndicate member has a 10% participation, that member would be responsible for 10% of any unsold securities (even if that member sold all of its participation). Sales do not affect undivided accounts. LO 20.b
A FINRA member firm wishes to encourage its registered representatives to sell more limited partnership DPPs. As an incentive, the firm offers an all-expenses-paid trip to a popular vacation resort for those reaching certain sales targets. FINRA rules provide that A) the member can weight the credits differently for different investment companies. B) the target must be based on the total production of associated persons with respect to all direct participation programs offered by the member. C) sales incentives are limited to gifts that do not exceed $100 in value. D) the target must be based on the total production of associated persons with respect to specific investment company securities distributed by the member.
B) the target must be based on the total production of associated persons with respect to all direct participation programs offered by the member. FINRA made a slight modification to its rules on noncash compensation because of the SEC's Regulation BI (best interest). Specifically, if there is to be any kind of sales contest or other method of incentivizing registered representatives, sales of the particular product type must give equal weighting to all of those investments sold by the firm. This applies largely, but not exclusively, to sales of investment companies, variable products of life insurance companies, and direct participation programs. Previously, firms could give higher weighting to sales of proprietary products, but that ended on June 30, 2020. **This question deals with material not covered in your LEM, but it relates to recent rule changes and/or student feedback. LO 11.h
One form of debt security attractive to many high net worth investors is the collateralized mortgage obligation (CMO). A CMO is a pool of mortgages structured into maturity classes called A) serials. B) tranches. C) series. D) terms.
B) tranches. The maturity classes on a CMO are called tranches (the French word for slice). A CMO pays principal and interest from the mortgage pool monthly; however, it repays principal to only one tranche at a time. Series bonds, bonds with a serial maturity, and term bonds are most commonly found in municipal securities. LO 12.d
A registered representative is convicted of misdemeanor DUI; therefore, A) the employing broker-dealer is likely to suspend the registered representative. B) updating of the Form U4 is not required. C) this must be updated on the Form U4 within 10 days. D) this must be updated on the Form U4 within 30 days.
B) updating of the Form U4 is not required. When the conviction is for a misdemeanor, only if it involves a financial matter is it considered a material event requiring an update to the Form U4. If this were a reportable offense, the updating would have to be done within 30 days. It would be highly unusual for a firm to discipline an associated person for this infraction. Even then, regulators are the ones who suspend a registration, not the member firm. LO 18.a
A 58-year-old investor owns a single premium deferred variable annuity with a current value of $500,000. The original investment was $150,000 and the contract has a death benefit provision. If this investor wished to exchange this policy for one offered by a competing company, A) the investor would be liable for ordinary income taxes on $350,000. B) using a 1035 exchange would avoid any current taxation. C) the investor would be liable for ordinary income taxes plus the 10% penalty on $350,000. D) the tax-free exchange privilege applies only when the exchange is within the same insurance company.
B) using a 1035 exchange would avoid any current taxation Section 1035 of the Internal Revenue Code permits the exchange of an annuity to another annuity, whether issued by the same or a competing company, with the tax-deferral on earnings continuing. These exchanges can also be made from an insurance policy to an annuity, but not from an annuity to an insurance policy. LO 9.d
If a customer does not anticipate that a stock's price will change, and she wants to take an option position, she would most likely A) buy a put. B) write a straddle. C) buy a call. D) buy a straddle.
B) write a straddle. The customer earns combined premiums when selling a straddle (sale of a call and put with same terms). She hopes the market price will not move, both positions will expire unexercised, and she will keep the premiums. This position has unlimited loss potential, should the underlying stock rise (because of the short call). LO 10.f
Which of the following requires that the communication was issued by an independent publisher and NOT materially altered by the member? A. research report B. IPR C. website article D. script for a public appearance
B. IPR AN IPR consists of any article reprint that meets certain standards designed to ensure that the reprint was issued by an independent publisher and was NOT altered by the member
Why is private placement stock also called lettered stock?
Because a private placement investor must sign a letter stating that she intends to hold the stock for investment purposes only
Which of the following terms refer to municipal bond underwritings? Standby Best efforts Preliminary prospectus. Firm commitment.
Best efforts Firm commitment. Negotiated municipal underwritings can be performed on a firm commitment, best efforts, or all-or-none basis. Standby underwritings are used only for corporate underwritings. The term preliminary prospectus, or red herring, refers to a corporate underwriting. In a municipal underwriting, the issue is described in the official statement or, if prepared, a preliminary official statement. LO 20.b
Which of the following are exempt from the registration provisions of the Securities Act of 1933? Variable contracts issued by life insurance companies Bonds issued by the State of Alaska Shares of Mutual funds registered under the Investment Company Act of 1940 Commercial paper maturing in 90 days
Bonds issued by the State of Alaska Commercial paper maturing in 90 days Municipal bonds are always exempt from registration under federal law, as is commercial paper with a maturity of 270 days or less. It is state law that adds the $50,000 minimum denominations and top three rating categories to the exemption requirements. Variable contracts issued by insurance companies, i.e., variable annuities and variable life, are not exempt from registration with the SEC. Mutual fund shares must comply with the registration requirements of the Securities Act of 1933 (they are a continuous new issue). They also register as open-end management investment companies in accordance with the Investment Company Act of 1940. LO 20.c
A customer sells short 1,000 XYZ at 60. Three months later, XYZ is at 44. Which two of the following strategies are the most likely the customer would use to protect her unrealized gain? Sell 1,000 XYZ 45 stop Buy 1,000 XYZ 45 stop Buy 10 XYZ Mar 45 calls Buy 1,000 XYZ 45 stop limit
Buy 1,000 XYZ 45 stop Buy 10 XYZ Mar 45 calls In this short position, the customer currently has an unrealized gain of 16. She stands to see her unrealized gain begin to erode if the stock price rises, so she could enter a buy stop order above 44 to allow herself to buy and cover her position if a price rise occurs. Purchasing calls would also be effective, because the right to exercise would allow the investor to buy stock at 45 and protect a gain of 15 points less the premium paid. If the buy stop at 45 is correct, why isn't the buy at 45 stop limit correct as well? Good question. Remember, when a stop limit order is triggered, the order becomes a limit order. When the stock rises to 45 (or higher), the customer now has a buy at 45 limit which means pay no more than 45. Once triggered, the stock may never get as low as 45 and the customer's order to buy will not be executed. LO 16.a
Which of the following transactions in the same security will affect the holding period of a security held for 12 months or less? Buy a put Buy a call Sell short Sell a put
Buy a put Sell short The holding period of a capital asset is based on the amount of time the asset is held at risk. When there is no longer the possibility of a loss, there is no longer any risk. Buying a put or selling short effectively removes the risk from a transaction and destroys any short-term holding period. The short-term holding period will not become a long-term holding period for tax purposes, as long as the offsetting position (put or short) is maintained. LO 10.i
A limited partner (LP) invests $100,000 in a movie production limited partnership with a nonrecourse note for $300,000. The partnership liquidates, and the LP receives $100,000. His loss, for tax purposes, is A) $100,000. B) $200,000. C) $0. D) $300,000.
C) $0. LPs are liable for their investments and any shares of recourse debt. They are not liable for nonrecourse debt. Because the LP received the full amount of his original investment at the liquidation of the partnership, he has no loss to declare. LO 11.f
In an existing margin account with special memorandum account (SMA) of $2,000, if a customer wishes to buy 300 shares of ABC at $20 per share, how much must the customer deposit? A) $2,000 B) $2,500 C) $1,000 D) $3,000
C) $1,000 The customer wishes to purchase $6,000 worth of stock, and the Regulation T requirement is $3,000. The SMA has buying power of 2:1 when Regulation T is 50%, so $2,000 of SMA will purchase $4,000 of stock. Of the remaining $2,000 balance, the broker will lend 50%, so the customer must deposit $1,000. LO 16.d
QED Corporation, whose common stock is currently selling for $90 per share, is having a rights offering. The terms of the offering require seven rights plus $83 to subscribe to one share of stock. Compute the theoretical value of a right on the EX RIGHT DATE A) $0.875 B) $7.00 C) $1.00 D) $1.125
C) $1.00 Because this is ex-rights (without the rights), the formula does not include the "+1." The formula is (M ‒ S). Plugging the numbers in, we have ($90 ‒ $83) = $7.00 ÷ 7 = $1.00 (N) (7) LO 3.f
A customer purchases an XYZ municipal bond at 108. It is scheduled to mature in 16 years. After owning the bond for 10 years, she sells the bond at 102. What capital gain or loss must she report for tax purposes at the time of the sale? A) $10 gain B) $20 gain C) $10 loss D) $60 loss
C) $10 loss If a municipal bond is purchased at a premium, the premium must be amortized over the time until maturity. An $80 premium on a 16-year municipal bond indicates that $5 will be amortized each year ($80 / 16 = $5). Ten years at $5 per year is $50 of amortization. Therefore, after 10 years, the tax basis would be $1,080 minus $50, or $1,030 (103). Because the sale was for 102 ($1,020), the customer has a $10 loss on one bond. LO 6.e
ABC Company issues a 10% bond due in 10 years. The bond is convertible into ABC common stock at a conversion price of $25 per share. The ABC bond is quoted at 90. Parity of the common stock is A) $100.00. B) $25.00. C) $22.50. D) $36.00.
C) $22.50. The bond is quoted at 90, so it is selling for $900. The parity price of the common stock is $22.50, calculated as follows: the bondholder could convert the bond into 40 shares of stock ($1,000 face amount / $25 per share = 40 shares). Because the bond has a current price of $900, divide $900 by 40 to get the underlying parity price (90% × $25 = $22.50). LO 5.d
The Jefferson County Water Works revenue bond is being underwritten by a syndicate led by ABC Securities, Inc. The bond has serial maturities going out up to 25 years with a balloon at 30. The coupons range from 3.2% to 4.1%, and all the bonds are offered at par. The terms of the syndicate agreement call for a total takedown of ¾ of a point with a selling concession of ½ point. A syndicate member who sells 500 of the bonds will earn A) $7,500. B) $6,250. C) $3,750. D) $2,500.
C) $3,750. When a member of the syndicate sells a bond it is entitled to the total takedown—in this case, ¾ of a point ($7.50) per bond. The computation is 500 bonds sold × $7.50 per bond = $3,750 underwriting profit. Remember that the concession would only go to those who are not members of the syndicate but are part of the selling group instead. Did you notice how much extraneous information is in this question? LO 20.b
A client enters a buy stop order for 100 shares of XYZ at 40. Trades then occur at 38, 39, 39.90, 40.05, 40.10, and 39.78. What is the likely price the client paid for the stock? A) $39.78 B) $40.05 C) $40.10 D) $39.00
C) $40.10 The order is triggered as soon as the price gets to 40 or higher. That would be the trade at 40.05. A typical use of a buy stop order is protecting a short stock position. Because the short stock position has unlimited potential loss, the short seller can gain protection by entering a buy stop order. That order is entered at a price above the current market (the short seller is hoping the price will fall), but if the price rises, the stop will be triggered. At that time, a market order is entered and the client pays the next price (which could be more or less than 40). In this case, the next price is 40.10 and that is the likely price per share paid by the client. LO 16.a
A customer owns a 7.5% ABC convertible bond currently trading at 115. The conversion price is $40. What is the parity price of the common? A) $44.00 B) $28.75 C) $46.00 D) $34.00
C) $46.00 What does parity price mean? Here is what it says in the LEM: Calculating Conversion Parity Parity means that two securities are of equal dollar value (in this case, a convertible bond and the common stock into which it can be converted). The question is looking for the parity price of the common stock. That is the market price per share, where the total value of the stock received upon conversion equals the market price of the bond. There are two ways to do this. The first is generally the easiest to understand. We are told that the bond has a conversion price of $40. That means you can get 25 shares if you wish to convert. That is because the issuer is basically saying, "We owe you $1,000 and will let you spend it on our stock at $40 per share." Now that we know we can get 25 shares, what does each share have to be worth to equal $1,150? If you divide $1,150 by 25 shares, the result is $46. The other method to do this is as follows: The bond is selling at a 15% premium. To be equal to that, the stock must be selling at a 15% premium over the conversion price. $40 times 115% equals $46. If that makes sense to you, it is much faster than the first method. LO 5.d
In an initial transaction in a margin account, a customer sells short 200 ABC at $18 per share and makes the initial required deposit. The credit balance in the account is A) $2,000. B) $2,400. C) $5,600. D) $5,400.
C) $5,600. The minimum equity requirement for short accounts is $2,000. The investor receives $3,600 from the proceeds of the sale and must deposit $2,000; therefore, the credit balance is $5,600 ($3,600 + $2,000 = $5,600). LO 16.d
An investor buys 1 XYZ Nov 50 call at 8 and sells 1 XYZ Nov 60 call at 3.50. At what stock price will the investor break even? A) $63.50 B) $60.00 C) $54.50 D) $50.00
C) $54.50 To determine the breakeven point, net the option premiums (8 − 3.50 = 4.50). For a call spread, add the netted premiums to the lower strike price (50 + 4.50 = 54.50). LO 10.h
A customer buys XYZ Oct 75 put at 7 when XYZ is trading at 72. The stock falls to 69, and the customer exercises the put. For tax purposes, sales proceeds are A) $6,500. B) $6,200. C) $6,800. D) $7,500.
C) $6,800. When a put is exercised, the holder is selling stock at the strike price (75). However, the tax rules require that, if exercised, the cost basis of stock purchased or sales proceeds of stock sold is adjusted to the breakeven point of the option. For puts, breakeven is strike price minus premium (75 − 7 = 68). LO 10.i
An investor purchased one unit of a real estate limited partnership. The cost of the unit was $20,000. The investor's allocable share of nonrecourse debt was $50,000. During the first year, the investor received an income distribution of $5,000. What is the investor's current tax basis? A) $25,000 B) $15,000 C) $65,000 D) $75,000
C) $65,000 The $20,000 purchase price of the unit is basis. Because this is a RELP, nonrecourse debt increases basis. That addition of $50,000 increases the basis to $70,000. Distributions reduce basis, and there was one of $5,000 bringing the basis down to $65,000. Remember, it is only real estate where nonrecourse debt increases basis. Recourse debt increases basis in any DPP. LO 11.f
A customer buys $10,000 worth of new issue municipal bonds at a price of 104, and the bonds have 10 years to maturity. Four years after purchasing the bonds, she sells them at 99. What is the tax loss on these bonds? A) 500 B) 400 C) 340 D) 160
C) 340 To arrive at adjusted cost basis, the premium on a new issue municipal bond must be amortized (subtract). To amortize the premium annually, divide the premium amount (in this case, $400 on the total purchase of 10 bonds) by the number of years until maturity (10). Thus, the customer writes down the initial cost by $40 per year. After four years, the bonds purchased at a cost of $10,400 will be written down to $10,240 (4 years × $40 per year = $160). If the bonds are sold for $9,900, the tax loss is $340 ($10,240 − $9,900 = $340). LO 6.e
A May and November Treasury bond is traded the regular way on Wednesday, June 8. The number of days of accrued interest is A)44. B) 38. C) 39. D) 45.
C) 39. Accrued interest on government bonds is based on actual days in a year. Settlement occurs on the next business day. This bond pays interest in May and November, with the most recent payment on May 1. Interest has accrued on this bond for 31 days in May and 8 days in June, for a total of 39 days. The settlement date is Thursday, June 9. LO 6.e
On February 13, your customer buys an 8% Treasury bond maturing in 2019 for settlement on February 14. If the bonds pay interest on January 1 and July 1, how many days of accrued interest are added to the buyer's price? A) 14 B) 43 C) 44 D) 45
C) 44 Accrued interest for government bonds is figured on an actual-days-elapsed basis. The number of days begins with the previous coupon date and continues up to, but not including, the settlement date. The bonds pay interest on January 1. There are 31 days of accrued interest for January. The bonds settle February 14. There are 13 days of accrued interest for February. Do not count the settlement date (31 + 13 = 44 days). LO 6.e
The MSRB classifies municipal securities into two categories: notes and bonds. They define bonds as any municipal debt security with a maturity of A) 1 year or more. B) 10 years or more. C) 5 years or more. D) 2 years or more.
C) 5 years or more. Municipal notes have a maximum maturity of less than five years. Once the municipal security is issued with a maturity of 5 years or longer, it is considered a municipal bond. LO 6.b
Your 30-year-old client has $100,000 to invest and is willing to assume a moderate amount of risk, but she would also like to have $10,000 available for a down payment on a home in six months. Which of the following asset allocation strategies would best suit her situation? A) 50% government bond fund, 50% large-cap fund B) 50% large-cap stock fund, 40% municipal bond fund, 10% money market fund C) 70% large-cap stock fund, 20% balanced fund, 10% money market fund D) 70% high-yield corporate bond fund, 20% growth fund, 10% government bond fund
C) 70% large-cap stock fund, 20% balanced fund, 10% money market fund This question is dealing with two different time horizons. First we have the short term of six months for the home down payment, so she'll need capital preservation and liquidity. That is accomplished with the money market fund. Then, being 30 years old, she has a long-term time horizon that necessitates investing for growth and inflation protection. That is where the 70% in large-cap securities is the most appropriate asset allocation for her. The 20% in the balanced fund helps keep the overall risk level on the moderate side. One point to remember is that municipal bonds (or municipal bond funds) will never be the correct investment choice unless the question states that the client is in a high tax bracket or is looking for tax-free income. LO 8.g
Advertising relating to municipal securities must be approved by which of the following? A) The Municipal Securities Rulemaking Board (MSRB) B) The Securities and Exchange Commission (SEC) C) A general securities principal or municipal securities principal D) A designated supervisory analyst
C) A general securities principal or municipal securities principal According to MSRB rules, advertising (communications with the public) must be approved by either a municipal securities principal or a general securities principal. LO 19.c
Which of the following pooled investment vehicles would most likely be structured as a limited partnership? A) A unit investment trust B) A real estate investment trust C) A hedge fund D) An exchange-traded fund
C) A hedge fund For a number of legal reasons, one of those being avoiding the need to register with the SEC, hedge funds are generally structured as limited partnerships with a maximum of 100 investors. LO 12.a
A group of underwriters has agreed to engage in a mini-max underwriting for a new issue of equity securities with the issuer of those securities. Which of the following best describes this underwriting agreement? A) A mini-max agreement is a firm underwriting setting a floor, or minimum, which is the least amount the issuer needs to raise to move forward with the underwriting, and a ceiling, or maximum, on the dollar amount of securities the issuer is willing to sell. B) A mini-max agreement is a firm underwriting setting a maximum amount the underwriters are willing to purchase from the issuer in the event all shares cannot be sold and a minimum dollar amount of securities the issuer is willing to sell. C) A mini-max agreement is a best efforts underwriting setting a floor, or minimum, which is the least amount the issuer needs to raise to move forward with the underwriting, and a ceiling, or maximum, on the dollar amount of securities the issuer is willing to sell. D) A mini-max agreement is a best efforts underwriting, setting a maximum amount the underwriters are willing to purchase from the issuer in the event all shares cannot be sold and a ceiling, or maximum, on the dollar amount of securities the issuer is willing to sell.
C) A mini-max agreement is a best efforts underwriting setting a floor, or minimum, which is the least amount the issuer needs to raise to move forward with the underwriting, and a ceiling, or maximum, on the dollar amount of securities the issuer is willing to sell. A mini-max agreement is a type of best efforts underwriting agreement. In a best efforts agreement, the underwriters are not purchasing unsold shares from the issuer. There are two components to a mini-max agreement. The first sets a floor, or minimum, amount the issuer needs to raise to move forward with the underwriting, and the other sets a ceiling, or maximum, dollar amount of securities the issuer is willing to sell. LO 20.b
Which of the following positions will be profitable if the market price of the underlying asset is equal to the exercise price at expiration date? A) A long call B) Short stock C) A short put D) A long put
C) A short put At expiration, if the strike price and the underlying asset price are the same, the option has no value and will expire unexercised. Option writers (short positions) benefit when this happens because they earn the entire premium. Those with long option positions need price movement to profit. While a short option position profits without movement, a short stock position only profits when the market price goes down. LO 10.d
You have a high-income client who wishes to maximize his after-tax interest income. Which of the following investments might not meet your client's objective? A) AA-rated revenue bond B) AA-rated municipal note C) AA-rated industrial development bond D) AA-rated general obligation bond
C) AA-rated industrial development bond Explanation Industrial development bonds are private-purpose bonds, and the interest income could subject the holder to the alternative minimum tax. Thus, the interest income may not be completely tax free. LO 6.b
If your customer bought an original issue discount bond from the Mount Vernon Port Authority, how is the discount on this bond taxed? A) As capital gains B) Amortized during the life of the bond and not taxed C) Accreted during the life of the bond and not taxed D) As ordinary income
C) Accreted during the life of the bond and not taxed DISCOUNT=ACCRET Under IRS rules, an owner of an original issue municipal discount bond must adjust the bond's cost basis by accreting the discount over the life of the bond. The accretion is not taxed. LO 6.f
Which of the following is contained in an official notice of sale? A) Agreement among underwriters B) Reoffering yields on the bond C) Amount of good-faith deposit required with the bid D) Delivery date
C) Amount of good-faith deposit required with the bid The official notice of sale contains the information a syndicate needs to prepare a bid, including the amount of the good-faith deposit the syndicate must submit with the bid. The delivery date has not been determined. The syndicate develops the yield for each maturity and the agreement among underwriters. LO 20.d
Which of the following is true regarding an institutional communication? A) It must be filed with FINRA. B) No more than five retail customers may receive an institutional communication. C) An individual with $50 million or more in total assets is considered an institution. D) It must be preapproved by a principal.
C) An individual with $50 million or more in total assets is considered an institution. This is the rare case when an individual is considered an institution. As long as assets are at least $50 million, it is an institution. Institutional communication is not required to have the preapproval of a principal, nor is it required to be filed with FINRA. There must a reasonable belief that the communication will not be seen by any retail investors. If that should happen, the communication may lose its status and come under the retail communications requirements. LO 19.a
Badentown is planning to raise money in three months to build a new city hall. The mayor wishes to start ground preparation immediately. How could money be raised to fund the work? A) Limited tax bond B) Special assessment bond C) Bond anticipation note (BAN) D) Construction loan note
C) Bond anticipation note (BAN) The new city hall will be funded with a bond three months from now. A three-month BAN will raise money now for ground preparation. The note's maturity will be set so that it can be paid off with proceeds from the bond sale. LO 6.b
An investor who owns XYZ stock is optimistic about the long-term growth potential of the company. However, the stock—currently priced at $58—has made a sharp advance in the past week, and the investor wants to lock in a minimum price in case the share price drops. Which of the following option transactions will help meet the investor's objective? A) Sell $55 put options B) Sell $55 call options C) Buy $55 put options D) Buy $55 call options
C) Buy $55 put options Buying the puts creates a long stock, long put hedge position. The exercise price for a put is the price at which the owner of the put can sell the stock when the put is exercised. With this position, if the stock falls, the investor will exercise the put and sell the stock at $55. Thus, a sale price of $55 will be assured in the event that the stock price falls. LO 10.d
ZYX Corporation has 100 million shares of common stock authorized in its charter, with 80 million shares outstanding. The board of directors of ZYX could vote to take which of the following actions? A) Announce an additional public offering of 40 million shares of common stock B) Declare a 2:1 stock split C) Declare a stock dividend of 10% D) Issue 20 million shares of a 4%, $100 par preferred stock, convertible at $50
C) Declare a stock dividend of 10% LOOK AT THE NUMBERS A corporation cannot issue more shares than authorized. True, there could be a vote to amend the charter, but be careful not to read anything into the question that is not given. A 10% stock dividend will require issuing 8 million more shares. That will bring the total outstanding to 88 million. A 2:1 stock split would need an additional 80 million shares and ZYX has only 20 million left. With only 20 million authorized, but unissued shares remaining, where is ZYX going to get 40 million shares for the additional public offering? Likewise, the convertible preferred is convertible into two shares each ($100 par divided by the $50 conversion price). That would also require 40 million shares to be available if everyone elected to convert. As mentioned in the beginning, if Company ZYX wished to conduct a 2:1 stock split, or offer 40 million additional shares, either through a public offering or the issuance of convertible preferred stock, an amendment to the corporate charter, approved by the board of directors and the shareholders, would be necessary. LO 3.a
Which of the following statements is true regarding dividend payments on common stock? A) Dividends on common stock are paid at the discretion of the board of directors and are paid as a stated percentage of the corporation's net income. B) Dividends on common stock are paid at the discretion of the board of directors and can be paid only when there are sufficient earnings. C) Dividends on common stock are paid at the discretion of the board of directors and may be paid even where there are no earnings. D) Dividends on common stock are paid at the discretion of the board of directors and may be paid ahead of preferred stock when necessary to allow the company to remain listed on the exchange.
C) Dividends on common stock are paid at the discretion of the board of directors and may be paid even where there are no earnings. Dividends on common stock are paid at the discretion of the corporation's board of directors. Although each stockholder receives an amount proportionate to their holdings, the dividend can be any proportion of the company's earnings. In fact, a corporation can pay a dividend even when there are no earnings. However, no dividend on common stock can ever be paid before payment of the dividends due on preferred stock. LO 3.e
The interest from which of the following bonds might be included in the alternative minimum tax calculation? A) General obligation bonds B) Special assessment bonds C) Industrial development revenue bonds D) Tax anticipation notes
C) Industrial development revenue bonds Industrial revenue bonds, sometimes called industrial development bonds, may be nonpublic purpose bonds, and the proceeds are used to benefit private corporations. As such, the interest income from these bonds is a tax preference item in the alternative minimum tax calculation. LO 6.b
Which of the following is least important to a municipal bond analyst? A) Tax collection ratio B) Debt service to annual revenues C) Legality of the issue D) Revenue collection record
C) Legality of the issue Municipal bond analysts are concerned with the financial aspects of municipal bonds to ensure that they do not default. Various financial ratios and collection records are critical to their analysis. The legality of the municipal issue, as determined by the legal opinion, is important to issuers. LO 6.c
When a company issues additional preferred stock and bonds, which of the following will be the net result? A) Leverage is decreased. B) It is impossible to tell without the specific amounts of equity and debt issued. C) Leverage is increased. D) Leverage is not affected because one issue is equity, the other is debt, and the net effect on leverage is zero.
C) Leverage is increased. Leverage is the use of investors' money at a fixed cost to benefit the common shareholders. Both preferred stock and bonds are fixed-rate issues. Therefore, issuing more preferred stock or bonds increases the leverage of the common stockholders. LO 13.d
Which of the following strategies is intended to be profitable with either a significant upside or significant downside move in the underlying stock? A) Short straddle B) Horizontal spread C) Long straddle D) Vertical spread
C) Long straddle If the stock moves sharply up or down, the customer will profit from owning a long straddle. LO 10.f
An investor writes an EFG Dec 85 put for 4¾ points. What is the investor's maximum gain, maximum loss, and breakeven point? A) Maximum gain = $475; maximum loss = $8,025; breakeven point = $89.25 per share. B) Maximum gain = $8,025; maximum loss = $475; breakeven point = $80.25 per share. C) Maximum gain = $475; maximum loss = $8,025; breakeven point = $80.25 per share. D) Maximum gain = $475, maximum loss is unlimited; breakeven point = $80.25 per share.
C) Maximum gain = $475; maximum loss = $8,025; breakeven point = $80.25 per share. An option writer's maximum gain is generally limited to the premium (the credit to the account) received. In this case, that is 4¾ points or $475. To determine maximum loss, first think what strategy a put writer is following. Short puts are neutral to bullish! The investor will therefore lose when the market is bearish in the extreme, reaching zero. The maximum loss is the entire difference between the strike price and zero, offset (reduced) by the premium received (strike price minus premium). Breakeven follows the put-down rule. Subtract the $475 premium from the $85 strike price to get $80.25. LO 10.h
Which of the following securities is typically sold with the legal opinion attached? A) Corporate bonds sold under the Trust Indenture Act of 1939 B) Participating preferred stock C) Municipal bonds D) U.S. Treasury issues
C) Municipal bonds The legal opinion is supplied by bond counsel, an attorney specializing in securities law. The opinion states that the municipal bond is legal and binding on the issuer. If the bond's interest is tax-exempt, that opinion is stated as well. Legal opinions are exclusive to municipal securities. LO 6.a
Which of the following insures general obligation bonds? A) Federal Deposit Insurance Corporation (FDIC) B) Syndicate manager C) National Public Finance Guarantee Corp. and AMBAC D) Securities Investors Protection Corporation (SIPC)
C) National Public Finance Guarantee Corp. and AMBAC Outstanding municipal general obligation bonds have been insured by the National Public Finance Guarantee Corp. and AMBAC. Insured bonds are typically AAA-implied rated. SIPC protects customer accounts against broker-dealer failure. The FDIC protects customer deposits against bank failure. LO 6.d
Which of the following is associated with a process whereby a municipal issuer first appoints and then works with the underwriters who will be establishing the interest rate and offering price for a new municipal bond issue? A) Eastern underwriting B) Competitive bid C) Negotiated underwriting D) Western underwriting
C) Negotiated underwriting In a negotiated underwriting the municipality appoints an underwriting group of investment bankers or broker-dealers to underwrite the offering. The underwriters will then work with the municipal issuer to establish the interest rate and offering price of the new issue to best meet the municipality's needs and in light of current market conditions. LO 20.d
A registered municipal bond salesperson at your firm has obtained discretionary power for the account of a physician in Gloucester County, New Jersey. The customer is conservative, avoids investment risk, and seeks principal with long-term growth potential. Given the following choices, the salesperson would most appropriately invest the customer's money in A) Delaware Wetlands Developments municipal bonds rated AA. B) Michigan Upper Peninsula revenue bonds rated AA. C) New Jersey Turnpike revenue bonds rated AA. D) high-yield municipal bonds rated BB.
C) New Jersey Turnpike revenue bonds rated AA. The Michigan revenue bonds, the subinvestment-grade municipal bonds, and the Delaware municipal bonds have possible state disadvantages or are less than investment grade. LO 6.f
An investor in which of the following products may not receive dividends? A) Shares of preferred stock B) Units in a UIT C) Oil and gas limited partnership interests D) Shares of common stock
C) Oil and gas limited partnership interests The structure of a limited partnership does not allow for the payment of dividends. If there is income, it flows through to the investor, but it is not considered a dividend. Common stock can pay dividends and preferred stock is purchased for its dividend payout. UITs pay dividends in a manner similar to mutual funds. LO 11.f
An investor has researched XYZ Corporation and is convinced the company's stock will soon decline in value. If the investor wishes to act on that conviction, which investment strategy will allow the investor to take advantage of the anticipated decline in share value with the smallest cash investment? A) Sell the company's stock short B) Purchase a call spread C) Purchase a put option D) Purchase a call option
C) Purchase a put option Explanation Buying a put is a basic option strategy used when one is bearish on a stock. If the stock declines as anticipated, the investor could exercise the put, which allows the stock to be sold at the strike price and then repurchase it at its lower current market price for a profit. The premium paid to buy the put costs less than the margin required if one were to sell the stock short. Purchasing a call or a call spread are bullish options strategies. LO 10.d
Which of the following exemption provisions of the Securities Act of 1933 may not be used for an initial offering of securities? A) Rule 147 B) Regulation D C) Rule 144 D) Regulation A
C) Rule 144 Rule 144 does not pertain to primary offerings; it affects secondary market transactions in restricted or control securities. LO 20.f
A customer who owns a portfolio of blue-chip stocks believes the securities will provide long-term appreciation but fears that the market will decline over the short term. Which options strategy would likely offer some protection against the expected decline while allowing the customer to generate additional income? A) Sell covered puts B) Buy calls C) Sell covered calls D) Buy puts
C) Sell covered calls Selling calls will generate income and protect the downside to the extent of the premiums received. LO 10.d
A customer who is long 1 XYZ Sep 50 call could create a spread by combining it with which of the following positions? A) Long 1 XYZ Sep 50 put B) Long 1 XYZ Sep 60 call C) Short 1 XYZ Sep 60 call D) Short 1 XYZ Sep 50 put
C) Short 1 XYZ Sep 60 call A spread involves two simultaneous positions in related options of the same type—one long and the other short of the same underlying security. LO 10.f
A speculative investor believes the market in Japanese yen will remain stable for several months. Which of the following positions might allow the investor to take advantage of a lack of movement in the exchange rate between the yen and the U.S. dollar? A) Call debit spread B) Put debit spread C) Short straddle D) Long straddle
C) Short straddle If the spot price does not move, at least one option—perhaps both—will expire unexercised. The other positions will not yield profit without price movement. Note that a short straddle carries unlimited loss potential. LO 10.f
Which of the following is not a requirement to be included on a customer confirmation by the Municipal Securities Rulemaking Board (MSRB)? A) Whether the trade was made as an agency transaction B) The amount of the dealer's markup or markdown C) The accrued interest on a when issued security D) Whether the sale was made from the dealer's inventory
C) The accrued interest on a when issued security Because the settlement date on a when issued security is unknown, it is impossible to compute the accrued interest. MSRB rules require that all confirmations include the firm's capacity in the trade (agent/principal). The amount of the dealer's markup or markdown on a principal trade must be disclosed. The commission on an agency trade must be disclosed. LO 15.a
One of your customers has established a long position in ABC Jan 50 calls. Which of the following details would not be on the confirmation of the trade? A) The name of the underlying security B) The premium C) The aggregate exercise price D) The exercise price and expiration month
C) The aggregate exercise price The aggregate exercise price is what it would cost the investor to exercise the option. In this case, it would be the $50 exercise price multiplied by the number of shares in the contract (100). The confirmation does not include that $5,000 number; it isn't necessary. LO 10.a
Which of the following is not a correct statement in respect to the at-risk provisions when investing in a direct participation program (DPP)? A) Deductions or losses are limited to the investors' invested capital plus their percentage of partnership liabilities for which they are personally liable. B) Qualified nonrecourse financing is excluded from tax basis except in the real estate programs. C) The at-risk provisions do not apply to oil and gas exploration programs. D) Losses disallowed by the at-risk provisions in any one year may be carried over to following taxable years.
C) The at-risk provisions do not apply to oil and gas exploration programs. The at-risk provisions (you can only deduct what you can lose) apply to all DPPs. Real estate has one unique feature in that nonrecourse financing is part of the investor's tax basis. LO 11.f
An investor long 100 shares of stock writes a call against the long stock position. If the call is exercised, and the investor must deliver the stock, which of the following tax consequences will occur? A) There are no adjustments for cost basis or sales proceeds for tax purposes. B) Both cost basis and sales proceeds must be adjusted. C) The investor's sales proceeds are the strike price plus the premium. D) Cost basis is adjusted for the stock.
C) The investor's sales proceeds are the strike price plus the premium. When the call is exercised, the owner of the stock will be obligated to sell the shares owned at the strike price. The sales proceeds for the stock will be adjusted upward by the amount of the premium received when the call was sold. LO 10.i
Which of the following does not participate in the syndicate (joint account) for a municipal underwriting? A) A bank dealing in municipal securities B) A financial advisor acting as a municipal securities dealer C) The issuing municipality D) A municipal broker-dealer
C) The issuing municipality A syndicate or joint account helps spread the risk of underwriting an issue among a number of underwriters—n this case, banks and broker-dealers who deal in municipal securities. The issuing municipality would not be a member of the syndicate (joint account) formed for the purpose of selling their municipal securities to the public. LO 20.b
Which of the following regarding yield-based (interest rate) debt options is true? A) Debt securities are delivered to the contract owner when exercised. B) Their strike prices reflect dollar amounts. C) They are European-style exercise. D) Calls are purchased by those who believe prices of debt securities are rising.
C) They are European-style exercise. Yield-based debt options are European-style contracts, meaning that they can only be exercised on the last day of trading. All yield-based contracts, when exercised, are settled in cash. There is no delivery of debt instruments when these contracts are exercised. All strike prices reflect yield. (35 strike price represents 3.5% yield.) Yield-based options are a bet on future interest rates, not prices. Calls are bought by those who believe rates are going up (prices down) and puts by those who believe rates are going down (prices up). LO 10.j
Several years ago, an investor purchased 100 shares of XYZ stock at $50 per share. XYZ is now trading at $90. Although the investor is still bullish on the stock, there is a concern that there might be a retreat after the next earnings report is released. Which of the following options strategies would provide some downside protection at no cost to the investor? A) Buy an XYZ 90 call B) Write an XYZ 90 put C) Write an XYZ 90 call D) Buy an XYZ 90 put
C) Write an XYZ 90 call The best downside protection would come from buying the XYZ 90 put. However, buying the put would mean paying a premium and the question specifies "at no cost." That leaves the two short choices as the only possibilities. When you are long the stock, writing a covered call produces income. The income protects the downside to the extent of the premium received. Writing a put will also generate income. However, if the stock price goes down (something the investor is concerned about), the put will be exercised and the investor will have to buy an additional 100 shares at the strike price. Therefore, this position does not offer any downside protection. LO 10.h
An investor buys 2 RST 40 calls and pays a premium of 4 each. He also buys 2 RST 40 puts and pays a premium of 2.50 each. When purchased, RST is trading at $40.75. On the expiration date, RST is trading at $32.50, and the investor closes his positions for intrinsic value. Excluding commission, the investor realizes A) a $100 profit. B) a $100 loss. C) a $200 profit. D) a $200 loss.
C) a $200 profit. The cost of opening these two straddles is $1,300. On the expiration date, the puts are worth $750 each, for a total of $1,500, giving the investor a $200 profit. The calls will expire worthless. Alternatively, the breakeven points for this long straddle are 33.50 and 46.50 (add the combined premiums of 6.50 to the call strike and subtract combined premiums from the put strike). The investor profits in a long straddle when the stock moves outside the breakeven points. As the stock is at 32.50, the customer makes 1 point (33.50 − 32.50) on each straddle, resulting in a $200 profit. LO 10.h
ABC Corporation has just completed an IPO raising $100 million. The investment bankers handling the offering made total commissions of $4 million. It is most likely that this was A) a standby underwriting. B) an all or none underwriting. C) a best efforts underwriting. D) a firm commitment underwriting.
C) a best efforts underwriting. The key to the question is commissions. In a best efforts underwriting, the investment bankers have no financial responsibility and earn a commission on whatever they sell. In a firm commitment underwriting, the syndicate members have taken the financial responsibility and earn the spread (considered to be a markup rather than a commission). This would not be a standby underwriting because that applies to rights, and as an IPO, rights would not be applicable. LO 20.b
A technical analyst notices that the short interest in a particular stock has been steadily rising. The analyst would take this as A) an indication that interest rates are rising. B) a bearish signal. C) a bullish signal. D) a neutral signal.
C) a bullish signal. The short interest indicator monitors the number of outstanding shares that have been sold short. Although it seems counterintuitive, as that number increases, it is a bullish sign to the technicians. The key is that those shares will have to be bought at some time to cover the short positions. When that time comes, the demand for the shares will force the stock's price up. LO 13.e
Most business development companies (BDCs) are classified as A) an open-end investment company. B) an exchange-traded fund. C) a closed-end investment company. D) a unit investment trust.
C) a closed-end investment company. Most BDCs register as closed-end investment companies (CEF) and trade in similar fashion in the secondary markets. Federal law places some restrictions on the investment flexibility of a BDC that are not required of regular CEFs. A major difference between BDCs and the other investment companies is the active role played in the management of the businesses in the portfolio. That is what business development is abouthelping smaller businesses develop into larger ones. LO 8.b
A customer tells a broker to buy 1,500 shares of ABC at 33.60 immediately for the full 1,500 shares. This is A) an all-or-none (AON) order. B) a good-til-canceled order. C) a fill-or-kill (FOK) order. D) an immediate-or-cancel (IOC) order.
C) a fill-or-kill (FOK) order. C) a fill-or-kill (FOK) order.
A sharing arrangement in which only deductible costs are apportioned to the investor, with the sponsor bearing all capitalized costs is called A) a carried interest. B) a reversionary sharing arrangement. C) a functional allocation. D) an overriding royalty arrangement.
C) a functional allocation. Functional allocation is a sharing arrangement in which the general partner pays for all tangible drilling costs (capitalized costs), and the limited partners pay for all intangible drilling costs (deductible costs). LO 11.f
An investor sells short 100 shares at 50 and sells a 50 put at 5. If the put is exercised when the stock is trading at 45, the investor realizes A) a gain of $1,500. B) neither a gain nor a loss. C) a gain of $500. D) a gain of $1,000.
C) a gain of $500. When the short put is exercised, the investor buys stock at $50 that she can use to cover the $50 short sale. The investor realizes no gain or loss on the stock, but she collected $500 in premiums, for a gain of $500. LO 10.d
A customer, concerned about a possible pull-back in XYZ stock, instructs her broker to "Sell my XYZ stock if it falls to 40, but I don't want less than 39.75 for my shares." The broker should enter A) a sell stop order. B) a sell limit order. C) a sell stop limit order. D) a market order to sell.
C) a sell stop limit order. A sell stop limit order would be appropriate (sell 100 XYZ 40 stop 39.75). Once the price of XYZ trades at or through (below) 40, the order is elected and becomes a limit order to sell at 39.75 or better (higher). LO 16.a
Disclosure to customers of control relationships is required in A) principal transactions. B) agency transactions. C) all of these. D) primary distributions.
C) all of these. The nature of any control relationship or conflict of interest must be disclosed to customers. This includes both primary (new issue) and secondary transactions, regardless of whether the firm acts as agent or principal. LO 6.h
All of the following are oil and gas program sharing arrangements except A) functional allocation. B) disproportionate sharing. C) all-or-none underwriting arrangement. D) reversionary working interest.
C) all-or-none underwriting arrangement. Functional allocation, disproportionate sharing, and reversionary working interest are all types of oil and gas sharing arrangements. All or none is a type of best efforts underwriting agreement. LO 11.f
A municipal finance professional (MFP) is A) employed by a municipality to oversee the issuance of municipal bonds. B) an employee of the Municipal Securities Rulemaking Board (MSRB) specializing in seeing that broker-dealers adhere to the MSRB rules and regulations regarding the sales of municipal bonds to retail customers. C) an employee of a broker-dealer engaged in municipal security representative activities other than retail sales or who solicits municipal securities business for the broker-dealer. D) an elected official of a municipality having some decision-making authority regarding new municipal bond issues.
C) an employee of a broker-dealer engaged in municipal security representative activities other than retail sales or who solicits municipal securities business for the broker-dealer. Per the MSRB, an MFP is an associated person of a broker-dealer who is primarily engaged in municipal securities representative activities other than retail sales to individuals, who solicits municipal securities business for the broker-dealer, or who is in the supervisory chain above MFPs. LO 6.h
According to MSRB rules, a control relationship would exist between a municipal securities firm and an issuer when A) the firm recently completed a negotiated underwriting for the municipality. B) senior officers of the firm live in the municipality. C) an officer of the firm is in a position of authority over the issuer. D) the firm has an inventory of the issuer's bonds.
C) an officer of the firm is in a position of authority over the issuer. MSRB Rule G-22 deals with control relationships. Their interpretive letters indicate that it is only when the individual has the authority to exercise control that the disclosure rules apply. Here is how they put it: "For example, rule G-22 applies if the associated person is the chairman of an issuing authority and, in that capacity, actually makes the decision on behalf of the issuing authority to issue securities. The rule does not apply if the associated person as chairman does not make that decision and does not have the authority alone to make the decision, or if the decision is made by a governing body of which he is only one of several members." LO 6.h
According to investment company rules, open-end investment companies may not distribute long-term capital gains to their shareholders more frequently than A) semiannually. B) quarterly. C) annually. D) monthly.
C) annually. Under the Investment Company Act of 1940, investment companies may not distribute long-term capital gains more frequently than once per year. LO 8.f
An analyst comparing revenues with expenses is most likely analyzing A) working capital. B) liquidity. C) cash flow. D) capitalization.
C) cash flow. The analyst is most likely measuring the income statement for cash flow (money coming in against money going out). Working capital analysis—not the income statement—would involve examining the balance sheet's current assets and current liability entries. Capitalization analysis involves examination of long-term debt and stock issues. Liquidity analysis involves examining current assets and liabilities from the balance sheet. LO 13.d
The working capital of a corporation includes all of the following except A) cash. B) marketable securities of other companies. C) convertible bonds. D) accounts receivable.
C) convertible bonds. The working capital of a corporation is equal to its current assets minus its current liabilities. A current liability is payable within 12 months. Because convertible bonds are long-term (not short-term) liabilities, they are not included as working capital. LO 13.d
Under FINRA rules, members are prohibited from soliciting votes from limited partners in connection with a proposed rollup unless any compensation to be received by the member A) does not exceed 5% of the value of the securities to be received in the exchange. B) does not exceed 15% of the value of the securities to be received in the exchange. C) does not exceed 2% of the value of the securities to be received in the exchange. D) does not exceed 10% of the value of the securities to be received in the exchange.
C) does not exceed 2% of the value of the securities to be received in the exchange. In connection with a DPP rollup, member firms may not solicit votes from limited partners unless the compensation is 2% or less. The 10% limitation is the maximum compensation in the sale of a DPP. The 15% limitation is the maximum percentage of the gross proceeds of a DPP that may be used for the organization and offering expenses. The 5% is likely an attempt to make you think about the FINRA 5% markup policy. That does not apply to DPPs. LO 11.h
All of the following are unlawful except A) selling new issues on margin. B) representing that the SEC has approved of a broker-dealer or a security being sold. C) giving written notification to a customer that the broker-dealer is acting as a principal for the trade. D) omitting a statement of a material fact.
C) giving written notification to a customer that the broker-dealer is acting as a principal for the trade. New issues may not be sold on margin. The SEC does not approve or disapprove of securities, broker-dealers, or registered representatives. It is always unlawful to make a fraudulent communication in connection with the sale or purchase of securities; making a fraudulent communication includes failing to state a material fact. LO 19.b
An order to sell at 38.65 stop limit is entered before the opening. The subsequent trades are 38.85, 38.50, and 38.35. The order A) was executed at 38.85. B) was executed at 38.50. C) has not yet been executed. D) was executed at 38.65.
C) has not yet been executed. A stop limit order is a stop order that becomes a limit order once the stop price has been triggered. When the limit price is the same as the stop price on a stop limit order, the order may be executed only at or better than the limit price. In this case, the order has not yet been executed because no transaction has occurred at or above 38.65 because the stop was triggered at 38.50. LO 16.a
If a corporation has a dividend payout ratio of 70%, the undistributed earnings will A) decrease book value. B) increase earnings per share. C) increase retained earnings. D) increase capital surplus.
C) increase retained earnings. Retained earnings represent income that has not been paid out to shareholders. LO 13.d
A customer sells $5,000 worth of a security in a cash account and on the same day purchases $8,000 worth of a different security in the same account. At the close of the fourth business day following these transactions, no payment has been received from the customer and no extension has been obtained. Assuming no change in market value, the firm must A) cancel both the purchase and the sale and freeze the account for 90 days. B) liquidate $5,000 of securities and freeze the account for 90 days. C) liquidate $3,000 of securities and freeze the account for 90 days. D) liquidate the $8,000 transaction and freeze the account for 90 days.
C) liquidate $3,000 of securities and freeze the account for 90 days. When an investor buys and sells different securities in the same account on the same day, the two transactions can be netted against each other to determine whether money is due to the client or the client owes money to the firm. In this question the client owes the firm $3,000 (an $8,000 purchase netted against a $5,000 sale). According to Regulation T, the investor has two additional business days after settlement (four days total) to pay the amount owed. Because he has failed to do so and no extension has been obtained, the unpaid-for portion of the trade, which is $3,000, will be liquidated and, according to Regulation T, the account will be frozen for 90 days. LO 17.d
Guarantees on insurance products A) are permissible for principal values in the separate account. B) are only permissible for companies with an A+ rating from A.M. Best. C) must be specific to the insurance contract and not associated investments. D) are not allowed.
C) must be specific to the insurance contract and not associated investments. Guarantees are only permissible for the specific guarantees within an insurance contract. Companies cannot guarantee returns or even principal values in investments, including separate accounts. While high ratings may indicate stability and quality in a company, they cannot be used to make a guarantee. LO 19.e
All of the following kinds of orders may be turned over to the specialist (designated market maker) for execution except A) stop orders. B) market orders. C) not-held orders. D) limit orders.
C) not-held orders. A not-held order is a market order in which the investor has given the authority to choose the price and time to the floor broker to achieve the best possible execution. LO 16.a
Among the differences between a real estate investment trust (REIT) and a real estate limited partnership investment (a DPP) is that A) the DPP takes an ownership interest in the property, while the REIT only makes mortgage loans. B) the DPP generally has more investors than the REIT. C) only the DPP is a flow-through vehicle. D) REITs generally trade on the listed exchanges, while DPPs actively trade OTC.
C) only the DPP is a flow-through vehicle. DPPs are the investment vehicle providing flow-through of income and loss. REITs are required to return at least 90% of their net investment income to investors, but losses do not pass through. Both investments can take equity or debt positions. They can also be hybrid and take both. Because DPPs are almost always private placements, the number of investors is usually small. On the other hand, because most REITs are publicly traded, they can have a large number of investors. As private placements, there is no active secondary market for DPPs. LO 11.f
Riskless and simultaneous transactions by a broker-dealer are A) permissible only in new issue underwritings. B) permissible only if there is a profit for a customer. C) permissible if they comply with the 5% policy. D) not permissible under any circumstances.
C) permissible if they comply with the 5% policy. The 5% policy applies to all types of nonexempt secondary market transactions, including riskless and simultaneous transactions. LO 3.j
An offering of securities in compliance with Rule 144A is sold primarily to A) all of these. B) foreign individual investors. C) qualified institutional buyers (QIBs). D) American individual investors.
C) qualified institutional buyers (QIBs). Rule 144A allows securities to be sold to QIBs without having to meet the holding period or volume requirements of Rule 144. LO 20.f
All of the following may be used to service special tax bond issues except A) business license taxes. B) gasoline taxes. C) real estate taxes. D) excise taxes.
C) real estate taxes. Special tax bonds are sometimes included in the larger and more general category of revenue bonds. Bonds supported from the proceeds of specified income generators, such as gasoline, cigarettes, liquor, and business licenses, are special tax bonds. Ad valorem (real estate) taxes never service special tax bonds. LO 6.b
the State of Texas has solicited bids for a proposed municipal bond offering, the underwriters for that offering would be the syndicate that would A) sell the issue at the lowest price. B) sell the issue at the highest price. C) sell the issue at the lowest net interest cost to the State of Texas. D) generate the most proceeds for the State of Texas.
C) sell the issue at the lowest net interest cost to the State of Texas. The syndicate manager that offers the lowest net interest cost to the State of Texas will be awarded the bid. Once the State of Texas decides how much money it must raise, the question is how much this issue will cost in net interest during its entire life. Keeping it simple, the borrower (the state) is looking to borrow money at the lowest rate. LO 20.d
Issued and outstanding stock is the authorized stock of a corporation that has been purchased by investors. The remaining authorized but unissued stock may be used for all of the following except A) exchanging stock with stockholders in a conversion. B) paying stock dividends to stockholders. C) sending to the IRS for payment of federal income taxes. D) raising capital at a later date.
C) sending to the IRS for payment of federal income taxes. The IRS does not want a corporation's authorized but unissued stock to pay federal income taxes. The IRS treats a corporation as an entity like an individual taxpayer and wants money, not stock. This unissued stock can be issued to raise future capital, used to pay stock dividends, and to exchange for convertible preferred stock and convertible bonds upon conversion. LO 3.a
One of your clients is neutral to bearish on a particular stock and would like to sell calls on it to generate some income. Wishing to minimize risk, you would suggest the client cover the call or take other steps to protect against unlimited loss. That could be done in all of the following ways except A) depositing a security convertible into 100 shares of the stock into the account. B) depositing 100 shares of the stock into the account. C) simultaneously purchasing a put on that stock with a strike price lower than that of the short call. D) simultaneously purchasing a call on that stock with a strike price lower than that of the short call.
C) simultaneously purchasing a put on that stock with a strike price lower than that of the short call. Buying a short put does not cover a long call or offer protection against loss. If the stock price rises, the writer of the call loses and the put expires worthless. There are several ways to cover a call. The most common is being long the underlying stock. Short calls can also be covered by a security convertible into the appropriate number of shares. That would include convertible preferred stock, convertible debt securities, and warrants. They must be convertible without cost (that is generally the case and can be assumed unless the question says otherwise). A third way to cover a short call is with a long call. The strike price has to be the same or lower and the long call cannot expire before the short call. Buying a short put does not cover a long call. However, in this case, although the writer is protected, the long call will cost more than the short, so the objective of income will not be realized. Buying a call with a higher strike price will result in a net credit (income), and the writer is protected to the extent of the difference between the strike prices and the credit. This is your basic credit call spread. LO 10.d
All of the following are examples of short-term municipal obligations except A) tax anticipation note (TAN). B) bond anticipation notes (BAN). C) state and local government securities (SLGS). D) tax and revenue anticipation note (TRAN).
C) state and local government securities (SLGS). SLGS are issued not by a municipality, but by the U.S. Treasury Department to assist local governments in complying with arbitrage restrictions imposed by the IRS. The other choices are examples of short-term funding used by municipalities. LO 6.b
A producer of fine French wines has just signed a contract to export $10 million of wine to a distributor in the United States. Using listed foreign currency options, this producer would have the best protection against currency risk by A) taking a long position in U.S. dollar puts. B) taking a long position in euro puts. C) taking a long position in euro calls. D) taking a long position in U.S. dollar calls.
C) taking a long position in euro calls. there are no listed options in the U.S. dollar!!!!!!!!!!! hat reduces your choice to a long euro put or call. Because the contract will be paid for in dollars, the producer is concerned that the dollar will fall against the euro. Or, stated another way, the concern is that the euro will rise against the dollar so that the $10 million will not buy as many euros as on the day the contract was signed. When one is afraid the price of asset will rise, such as those who take a short position in a stock, the best protection is buying a call. The easiest way to remember this is through the acronym, IPEC - Importers buy Puts and Exporters buy Calls. This is used when the party involved in the question is in a foreign country. Because we are dealing with a French exporter, buying calls on the local currency offers the best protection. LO 10.g
FINRA Rule 2210, communications with the public, has a number of filing requirements. Some communications are prefiled, others are postfiled, and some are excluded from filing with FINRA. Included in the list of exclusions would be retail communications A) that do not make any financial or investment recommendation, but only promote a service offered by the member. B) dealing with specific index funds that previously have been filed with FINRA and that are to be used, with the only change being a recommendation of index exchange-traded funds from the same sponsoring organization. C) that do no more than identify a national securities exchange symbol of the member or identify a security for which the member is a registered market maker. D) that do no more than identify and recommend a specific registered investment company or family of registered investment companies.
C) that do no more than identify a national securities exchange symbol of the member or identify a security for which the member is a registered market maker. A communication limited to identifying the member's exchange or market-maker symbol is excluded from the FINRA filing requirements. A communication that identifies and recommends a specific investment company or companies must be filed. When previously filed material is used, no filing is necessary as long as there is no material change. However, changing from recommending specific funds to specific ETFs is a material change and would require filing. A retail communication promoting a service offered by a member firm is a communication that would likely need filing with FINRA. LO 19.c
One of the most popular index options is the VIX. The VIX trades on A) the Nasdaq Options Market (NSDQ). B) the Boston Options Exchange (BOX). C) the Chicago Board Options Exchange (CBOE). D) the New York Stock Exchange-American (AMEX).
C) the Chicago Board Options Exchange (CBOE). The VIX, usually referred to as the fear index, trades solely on the CBOE. Just as is the case with stock, it is not unusual to have an option listed on more than one exchange. However, the VIX is a single-market product. LO 10.g
Under Regulation T, action by the broker-dealer is not required when A) the amount due does not exceed $200. B) the total amount of the transaction does not exceed $1,000. C) the amount due does not exceed $1,000. D) the amount due does not exceed $100.
C) the amount due does not exceed $1,000 Regulation T permits a broker-dealer to disregard any amounts due less than $1,000. LO 16.d
It is generally understood that the least complicated employer-sponsored retirement plan is the Savings Incentive Match Plan for Employees (SIMPLE). These plans tend to have certain restrictions. Among them are the restriction that A) there must be fewer than 100 employees who earned at least $5,000 during the preceding calendar year. B) employer matching contributions are made with after-tax funds. C) the business cannot have another retirement plan in place. D) the catch-up provision for those 50 and older is limited to $1,000.
C) the business cannot have another retirement plan in place. To institute a SIMPLE plan, the business cannot have any other retirement plan in place. The limit is 100 or fewer, not fewer than 100. The catch-up provision is $3,000, and both employee and employer contributions are made with pre-tax funds. LO 1.h
All of the following would be found in a bond resolution for a new municipal issue except A) a description of the issue. B) the issuer's obligations to bondholders. C) the costs to be incurred by the issuer in connection with the offering. D) covenants to which the issuer must adhere.
C) the costs to be incurred by the issuer in connection with the offering. The bond resolution (or the bond contract) spells out the characteristics of the issue (maturities, call features, etc.), the issuer's responsibilities to bondholders, and any restrictive covenants to which the issuer must adhere. Costs to be incurred by the issuer have no impact on bondholders. LO 6.a
All of the following may be cited to justify a markup on a stock sold from a broker-dealer's inventory except A) the overall value of the transaction. B) the availability. C) the dealer's cost. D) the security's price.
C) the dealer's cost. The dealer's cost is not a legitimate factor in determining the markup on a stock. LO 3.j
Margin requirements on exempt securities (U.S. government securities and municipal securities) are set by A) the Department of Enforcement (DOE). B) the Federal Reserve Board (FRB). C) the designated examining authority (DEA). D) the Securities and Exchange Commission (SEC).
C) the designated examining authority (DEA). The FRB sets the initial margin requirements for nonexempt securities. The margin requirements for exempt securities, such as U.S. governments, are set by a firm's self-regulatory organization or DEA. LO 16.d
Net asset value (NAV) per share for a mutual fund can be expected to decrease if A) the securities in the portfolio have appreciated in value. B) the fund has made dividend distributions to shareholders. C) the fund has experienced a net redemption of shares. D) the issuers of securities in the portfolio have made dividend distributions.
C) the fund has experienced a net redemption of shares. The NAV per share will rise or fall relative to the value of the underlying portfolio. If dividends are distributed to shareholders, the fund's assets decrease, and their per-share value will decline accordingly. Appreciation of the portfolio and dividends received will increase the value. Redemption of shares will have no impact on the NAV per share, as the money paid out is offset by a reduced number of shares outstanding. LO 8.c
The underwriting agreement is signed by A) the issuer and the SEC. B) the managing underwriter and the syndicate members. C) the issuer and the managing underwriter. D) the selling group members and the syndicate members.
C) the issuer and the managing underwriter. The underwriting manager represents all underwriting members, and on behalf of the underwriting group, signs the underwriting agreement with the issuer. The agreement among underwriters is the document signed by the managing underwriter and all syndicate members. The selling group members have no formal agreement to be signed with the underwriters. LO 20.b
The Investment Company Act of 1940 has a number of rules relating to variable life insurance policies. All of these are included except A) the minimum cash value loan provision after 3 years. B) the variable life contract exchange provision is good for a minimum of 24 months. C) the maximum allowable sales charge is 8.5% of the premium payment. D) the free-look provision for 45 days after execution of the application.
C) the maximum allowable sales charge is 8.5% of the premium payment.
The public offering price for a mutual fund, as quoted in the financial press, reflects A) the minimum sales charge the fund distributor collects. B) the average sales charge for the preceding three months. C) the maximum sales charge the fund distributor collects. D) no sales charge because the offering price depends on the quantity purchased.
C) the maximum sales charge the fund distributor collects. The public offering price for a quoted mutual fund includes the maximum sales charge the fund distributor can assess. LO 8.c
All of the following are fixed option contract terms except A) the expiration month in a debt option. B) the units of currency in a currency option. C) the premium in a stock option. D) the multiplier in an index option.
C) the premium in a stock option. The premium is not a predetermined characteristic of the option contract. The premium continually changes throughout the life of the option, reflecting changes in the price of the underlying security, dividends (if any), and interest rates. LO 10.a
Regulation FD covers A) standardization of financial reporting to the SEC. B) customer notification requirements regarding a firm's privacy policies. C) the selective disclosure of material nonpublic information by issuers. D) certifications required of research analysts who make public appearances.
C) 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. LO 14.b
All of the following statements about targeted amortization class (TACs) CMOs are correct except A) in exchange for higher price risk, they generally offer a slightly higher interest rate. B) they have transferred prepayment risk to companion tranches. C) they are the most volatile of the tranches. D) they have high extension risk.
C) they are the most volatile of the tranches. The Z-tranche, just like a zero-coupon bond, is the most volatile. TACs transfer the prepayment risk to companion tranches like PACs do, but they retain extension risk. This causes greater price risk in the market that is compensated for with a somewhat higher interest rate. LO 12.d
All of the following statements about targeted amortization class (TACs) CMOs are correct except A) they have high extension risk. B) They have transferred prepayment risk to companion tranches. C) they are the most volatile of the tranches. D) in exchange for higher price risk, they generally offer a slightly higher interest rate.
C) they are the most volatile of the tranches. The Z-tranche, just like a zero-coupon bond, is the most volatile. TACs transfer the prepayment risk to companion tranches like PACs do, but they retain extension risk. This causes greater price risk in the market that is compensated for with a somewhat higher interest rate. LO 12.d
All of the following are fiduciary accounts except A) trust accounts. B) guardian accounts. C) transfer on death (TOD) accounts. D) estate accounts.
C) transfer on death (TOD) accounts. TOD is an individual account with a designated beneficiary who receives account assets upon the death of the account owner. LO 2.g
Your client purchases 100 shares of XYZ common stock at $50 and sells two XYZ Oct 55 calls for a premium of $2 each. This investor's maximum potential loss is A) $4,600. B) $600. C) unlimited. D) $4,800.
C) unlimited. This is a ratio write. The client is writing more calls than he has stock to cover. The first call is covered by the 100 shares of stock owned, but the second call is uncovered, or naked. A short naked call has unlimited loss exposure. LO 10.d
You have two customers who are a couple. Each person has an individual account. They also have a JTWROS account in both names. One of the customers asks you to transfer funds from the other person's individual account in order to meet a margin call in the requesting customer's margin account. To do this. A) because they are both signatories on the joint account, you need the authorization of this customer only. B) you need the approval of a designated principal. C) you need the authorization of both customers. D) you need the authorization of both parties on the account and approval of a designated principal.
C) you need the authorization of both customers. Because the customer asking for the transfer is not a signatory on the other customer's individual account, you need the authorization of both of them. As long as both consent, there is no need for authorization by a principal. However, in the real world, your firm may want to look at transfers of this type. Just remember, we are teaching the test world. LO 1.e
The trust indenture act of 1939 covers which of the following securities transactions? A. An offering of an issue of $5B worth of Treasury bonds maturing in 2040 B. A public issue of debentures worth $40M sold by a single member firm throughout the US C. A corporate bond issue worth $55M sold intrastate D. The sale of an industrial revenue development bond issue of $62M sold in the tristate area
C. A corporate bond issue worth $55M sold intrastate
On a negotiated underwriting, the investment banker who negotiates with the issuer is known as A. investment banker B. selling group manager C. syndicate manager D. negotiating manager
C. syndicate manager
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? Execution of all transactions for the fund portfolio Clearing services Lending for trades done on margin Ensuring that all exchange trading rules are complied with
Clearing services Lending for trades done on margin 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
CUSIP
Committee on Uniform Securities Identification Procedures -each share class is given a different cusip
The total takedown is made up of ____________ + _____________ + _______________
Concession + additional takedown + management fee
FINRA Rule 5130
Covers Restriction on the Purchase and Sale of Initial Equity Public Offerings (IPOs) by "Restricted Persons" and their immediate family members
In his margin account, Cynthia exercises her DMF call at 50 and simultaneously sells the 100 shares at $60. What is the amount of her margin call? A) $2,500 B) $3,000 C) $2,800 D) $0
D) $0 Because the trades took place simultaneously, there is no margin required. The sale at $60 more than covers her cost at 50. LO 16.d
A Western account underwriting of $100 million in municipal bonds is established. A member firm agrees to underwrite 10% of the issue and sells out its entire allotment of $10 million. However, some of the other firms participating in the underwriting are unable to sell their full allocation, and $15 million of the bonds remain unsold. What is the financial obligation of the underwriting firm who sold their entire allotment? A) Pooled responsibility for $15 million B) $150,000 C) $1.5 million D) $0
D) $0 Divided liability in a Western account means that if a member meets its commitment, it has no further liability for unsold bonds. If that had been an Eastern account, the member would be obligated for 10% of the unsold bonds, or $1.5 million. LO 20.d
One of your customers, age 52, wishes to open an IRA. His annual income is more than $200,000 and consists entirely of income from rental real estate and income from a trust fund. What amount may your customer contribute to his IRA this year? A) $7,000 B) $5,500 C) $6.000 D) $0
D) $0 To open an IRA, a person needs earned income. Income from rental real estate is passive income, while income from a trust fund is portfolio income. This customer has no earned income. LO 1.g
A customer has a margin account with a market value of $20,000, a debit balance of $12,000, no special memorandum account (SMA), and Regulation T at 50%. If the customer sells $2,000 worth of stock, the amount released to SMA is A) $500. B) $300. C) $400. D) $1,000.
D) $1,000. This is an example of a restricted account with equity below the 50% Regulation T requirement. In a restricted account, 50% of the sale proceeds is released to SMA (50% × $2,000 = $1,000). LO 16.d
A customer purchases 200 shares of ABC Health Care at $60 per share and meets the initial margin requirement. If ABC announces an acquisition, and its stock appreciates on the news to $75, how much cash can the customer withdraw after this market move? A) $0 B) $3,000 C) $1,000 D) $1,500
D) $1,500 The customer could withdraw cash equal to the special memorandum account (SMA). A purchase of 200 shares at $60 per share would require an initial deposit of $6,000 on a market value of $12,000. The customer would have $6,000 in equity and a $6,000 debit. After a rise to $75 a share, the stock's market value would be $15,000. The customer's debit balance would remain unchanged at $6,000, but the equity would increase to $9,000 ($15,000 CMV − $6,000 DR). The customer needs to have 50% equity (50% × $15,000 = $7,500). Because the customer only needs $7,500 equity but now has $9,000, the excess equity of $1,500 is credited to SMA, which is the amount the customer can withdraw. LO 16.d
A dealer in U.S. government securities quotes a 5-year Treasury note at 89.12-89.16. In dollars, that represents a spread of A) $4.00. B) $0.125. C) $0.04. D) $1.25.
D) $1.25. Treasury notes and bonds are quoted in fractions of 32nds. The spread between the bid and the ask is 4/32nds. In simpler terms, that is 1/8th. Each point is $10.00, so this 1/8th of $10.00 is equal to $1.25. LO 7.b
If an M&N 1 corporate bond issued at par with a 6% coupon is later purchased in August for 97 plus accrued interest of $16, how much taxable interest must the investor report for the year? A) $16 B) $30 C) $60 D) $14
D) $14 The purchaser of a bond pays the seller the interest that has accrued since the last interest payment date. A purchaser in August will pay the interest that has accrued since May 1. Then, on November 1, the investor will receive the entire six months of interest. We are told that the investor paid $16 in accrued interest. That is income to the seller. Then, when the November payment of $30 (6% coupon is $30 semiannually) is made, the investor must report the amount over the accrued interest paid out as income. In our question, that is $30 minus $16 = $14. LO 6.e
If a customer has a restricted margin account with special memorandum account (SMA) of $2,500, how much must he deposit to purchase $10,000 worth of stock? A) $0 B) $5,000 C) $10,000 D) $2,500
D) $2,500 The purchase of $10,000 requires a $5,000 deposit, which can be reduced dollar for dollar by the existing SMA. LO 16.d
An investor has a short margin account. The current market value of the stock is $1.50 per share, and the investor owns 1,000 shares. Compliance with SRO minimum maintenance requirements is met with account equity of A) $1,500. B) $2,000. C) $1,950. D) $2,500.
D) $2,500. For stock trading under $5 per share, a customer must maintain 100% of SMV or $2.50 per share, whichever is greater. $2,500 (1,000 shares @$2.50) is greater than 100% of $1,500. LO 16.d
An investor sells 10 5% bonds at a profit and buys another 10 bonds with a 5¼% coupon rate. The investor's yearly return will increase by A) $2.00 per bond. B) $1.00 per bond. C) $1.50 per bond. D) $2.50 per bond.
D) $2.50 per bond. The first bonds are 5% and pay $50 per year per bond. The new bonds are 5¼% and pay $52.50 per year per bond, for a difference of $2.50 per bond. LO 4.e
On April 15, 2016, your client purchased a variable life insurance policy with a death benefit of $450,000. The November 2019 statement showed a cash value of $28,000. If the client wanted to borrow as much as possible, the insurance company would have to allow a loan of at least A) $28,000. B) $25,200. C) $14,000. D) $21,000.
D) $21,000. Explanation Once a variable life policy is in force for a minimum of three years (this one is a bit longer than that), there is a requirement to make the loan provision available. At the three-year mark, that minimum becomes 75% of the computed cash value. Seventy-five percent of cash value of $28,000 is $21,000. LO 9.e
If a customer owns a $10,000 8% U.S. Treasury Bond, and she is in the 28% federal tax bracket and a 2.5% state tax bracket, what amount of tax will she pay on the income received from the bond? A) $20 B) $100 C) $80 D) $224
D) $224 Interest on U.S. Treasury bonds is taxable at the federal level only; $800 of interest taxed at 28% equals $224. LO 7.e
An ABC 40 call is quoted at 4.25 - 4.50, and an ABC 45 call is quoted at 1.50 - 2.00. What is the cost of establishing a debit spread? A) $250 B) $275 C) $225 D) $300
D) $300 To establish a debit spread, an investor buys a 40 call at the ask price of 4.50 and sells a 45 call at the bid price of 1.50. The net premium paid is (4.50 minus 1.50) times 100 shares, which equals $300. LO 10.e
What is the breakeven point on the following position? Buy 1 CDE Apr 30 put at 3.10 Write 1 CDE Apr 35 put at 5.85 A) $32.75 B) $33.10 C) $30.10 D) $32.25
D) $32.25 This is a put spread established at a credit of 2.75. To find the breakeven point on a put spread, subtract the net premium from the higher strike price (in this case, 35 − 2.75 = 32.25). LO 10.e
A customer buys 10 Dec 91.50 calls on the Canadian dollar for 6.70. ($10,000 CD per contract). At the time of purchase, the spot rate for the Canadian dollar was 92.25. What is the margin requirement for the purchase? A) $3,350 B) $9,225 C) $9,150 D) $6,700
D) $6,700 The client purchased 10 calls at 6.70 for a total of $6,700. Because—with the exception of LEAPS—options cannot be purchased on margin, the margin requirement is 100% of the premium. LO 10.g
A bond with 25 years to maturity, 7% coupon, quoted on a 6.25% basis is callable in 10 years at 103, 15 years at 102, and 20 years at par. On the customer's confirmation, the dollar price quoted must be based on A) 25 years to maturity. B) 20 years to call. C) 15 years to call. D) 10 years to call.
D) 10 years to call. This is a premium bond. With premiums, the years to call will be lower than the years to maturity. The question becomes which call date should be used. As a rule of thumb, always use the near-term (first) in-whole call date. LO 15.a
In a scenario of falling interest rates and a positive yield curve, assuming all to be of equal face value, which of the following bonds will appreciate the most? A) 1-year bond selling at a discount B) 1-year bond selling at a premium C) 20-year bond selling at a premium D) 20-year bond selling at a discount
D) 20-year bond selling at a discount In general, prices of long-term bonds are more volatile than prices of short-term bonds. Therefore, the 20-year bonds will appreciate more than the 1-year bonds when interest rates fall. Also, prices of bonds with low coupon rates tend to be more volatile than prices of bonds with high coupon rates. A bond sells at a discount when its coupon is lower than prevailing interest rates. Because of its lower coupon, the 20-year discount bond tends to appreciate more than the 20-year premium bond. LO 4.e
Records relating to terminated representatives must be retained for how many years? A) 1 year B) 5 years C) 6 years D) 3 years
D) 3 years
United States Treasury notes are intermediate length securities. Treasury notes are not issued with maturities of A) 7 years. B) 2 years. C) 5 years. D) 4 years.
D) 4 years. U.S. Treasury notes are issued with maturities of 2, 3, 5, 7, and 10 years. LO 7.b
If a customer places an order to buy 200 shares of ABC stock at $25, and he wants to meet the margin call by depositing fully paid listed stock currently trading at $10, how many shares must he deposit? A) 700 B) 1,000 C) 600 D) 500
D) 500 To meet a margin call with marginable stock, an investor must deposit twice the value of the call. In this example, the margin call on the $5,000 purchase is $2,500. Because the customer must deposit $5,000 of marginable stock, at $10 per share, the customer must deposit 500 shares of the stock to meet the call. LO 16.d
Your client is considering two bonds: an ABC Corporation mortgage bond with a yield to maturity of 9% and a municipal bond issued by the state that she resides in. If your client is in the 32% tax bracket, what is the tax-free equivalent yield for the corporate mortgage bond so that she will be able to compare it to the tax-free municipal bond she is considering? A) 4.10% B) 2.88% C) 13.24% D) 6.12%
D) 6.12% When the yield on the corporate taxable bond is given and the question asks for the equivalent after-tax yield of a tax-free municipal bond, we calculate that as follows: corporate rate × (1 − investor's tax bracket). In this case, 0.09 × (1 − 0.32) = 0.09 × 0.68 = 0.0612, or 6.12%. Without all of those zeros, it is 9% × 68% = 6.12%. Alternatively, just subtract the 32% tax from 9%. That would be 9% − (9% × 32%) = 9% − 2.88% tax = 6.12%. Remember, because the investor is paying taxes at a rate of 32%, she is keeping only 68% of the income received on a taxable security compared to 100% on a tax-free municipal bond. When the coupon rate of the tax-free security is given and the question is asking about the tax-equivalent yield of that security (it will always be higher than the coupon), we need to divide. Divide the municipal coupon rate by (100% minus the tax bracket). For example, if this question has said that the coupon on the municipal bond was 6.12% and asked for the TEY, you would divide 6.12% by 68%. Do that on your calculator and the result is 9%. The key to remembering which formula works is that when the coupon on the taxable security is given, the answer will always be lower than that coupon. That means subtracting. When the coupon on the tax-free security is given, the answer will always be higher than that coupon and that means dividing. LO 6.f
If the strike price of a yield-based option is 62.50, this represents a yield of A) 0.00625%. B) 0.625%. C) 0.0625%. D) 6.25%.
D) 6.25%. To calculate the percentage yield of the underlying Treasury security, divide the strike price by 10 (62.50 / 10 = 6.25%). LO 10.g
Which of the following would be defined as a research report? A) A technical analysis that indicates the demand for steel is increasing based on the trading volume and price of the steel industry B) A written opinion that the economy is poised for recovery C) A notice that the rating for a bond has been downgraded by Moody's D) A document that states the banking industry is ready for recovery but ABC Bank will not participate in the recovery and if owned, investors should sell the security
D) A document that states the banking industry is ready for recovery but ABC Bank will not participate in the recovery and if owned, investors should sell the security One of the keys to defining a research report is that it suggests taking action (buy, sell, or hold) on the subject security. The term does not include commentaries on economic, political, or market conditions. LO 19.b
If a client prefers mutual fund investments in companies that primarily generate capital appreciation to companies that pay a steady dividend, what type of mutual fund and associated investment objective would you recommend? A) An income fund B) A growth and income fund C) An index fund D) A growth fund
D) A growth fund A growth mutual fund invests in stocks that are growing rapidly and stresses capital appreciation rather than income. The key is that the growth and appreciation are synonymous. LO 8.g
Which of the following would not be found in the underwriting of a new corporate bond issue? A) A market out clause relieving the underwriter of his responsibility B) The holding of a due diligence meeting C) A stabilization clause D) A legal opinion
D) A legal opinion Municipal securities are the only ones requiring a legal opinion. The bond counsel provides the legal opinion attesting to the validity, enforceability, and tax status of the issuer's bonds. There is no such requirement for corporate debt issues. It is possible you are not familiar with stabilizing a new issue or the market out clause. On the real exam, there will be answer choices you may have never seen before. But, just as in this question, the correct answer does not require you to know these other terms (you can look them up in the LEM's glossary). The point is, don't lose control when you see something unfamiliar. LO 20.c
Which of the following would be most likely to require a mandatory sinking or surplus fund? A) A general obligation B) A tax anticipation note C) A public housing authority. D) A water and sewer revenue bond
D) A water and sewer revenue bond Sinking or surplus funds force revenue bond issuers to set aside a portion of their revenue for debt retirement. LO 6.a
Which of the following factors will not increase the special memorandum account (SMA) in a customer's short margin account? A) A deposit of cash B) Receipt of dividends or interest into the account C) A decrease in current market value D) An increase in current market value
D) An increase in current market value An increase in current market value will cause a loss of equity in a short account. Short sellers hope markets go down. SMA represents excess equity. LO 16.d
IBM sold computers to a Soho retailer and agreed to accept payment of 10 million British pounds in 65 days. In which of the following ways could the company protect the payment against adverse foreign currency fluctuations? A) Buy U.S. dollar calls B) Buy pound calls C) Buy U.S. dollar puts D) Buy pound puts
D) Buy pound puts If the company wants to protect its investment, it has to protect against the payment going down in value relative to the cost. To protect against the value of the payment going down in relation to the cost, the company would buy puts on the payment currency. To offset the cost of the puts, the company will also sell calls. The calls will be covered by the ownership of the actual currency. Remember the acronym EPIC: Exporters buy Puts and Importers buy Calls. LO 10.g
If a customer buys a Mount Vernon Port Authority municipal bond in the secondary market at 109 and holds the bond to maturity, what are the tax consequences? A) Capital gain of $9 B) No capital gain or loss C) Capital loss of $9 D) Capital loss of $90
D) Capital loss of $90 The investor's cost basis of bonds purchased at a premium is adjusted by amortization of the premium. In this case, there is a $90 premium that will have been completely amortized at maturity. At maturity, the adjusted cost basis equals the face value, and no loss or gain is realized. LO 6.e
Which of the following underwriting arrangements is associated with an invitation, typically found in The Bond Buyer, directed at investment bankers and broker-dealers, intended to solicit interest in underwriting a new municipal issue? A) All or none B) Best efforts C) Negotiated D) Competitive bid
D) Competitive bid With a competitive bid underwriting, a municipality publishes invitations to bid in The Bond Buyer or another municipal bond publication. Investment bankers and broker-dealers interested in underwriting the new municipal issue would respond to the invitation to bid. LO 20.d
The syndicate manager in a firm commitment underwriting takes which of the following actions in a divided municipal syndicate account that does not sell out? A) Holds an auction B)Prorates the bonds according to syndicate participation C) Returns the bonds to the issuer D) Confirms the bonds to the member that did not sell its share
D) Confirms the bonds to the member that did not sell its share Because this offer is a divided, or Western, syndicate, each member is responsible for selling a specific number of securities. If a member does not sell its share, it receives the bonds for its inventory. LO 20.b
Under which of the following terms does the underwriter act in a dealer capacity? A) Syndicate B) Best efforts C) Selling group D) Firm commitment
D) Firm commitment The firm commitment is the most commonly used type of underwriting contract. Under its terms the underwriter commits to buy the securities from the issuer, and as such is acting in a dealer capacity. LO 20.b
Which of the following are not defined as securities? A) Variable annuities B) Preferred stocks C) Closed-end investment companies D) Fixed annuities
D) Fixed annuities Fixed annuities are not included in the long list of items that are defined as a security, primarily because the element of risk is not included. LO 9.a
Which of the following would not be covered under the antifraud provisions of the Securities Exchange Act of 1934? A) National exchange-listed securities B) Nasdaq-listed securities C) Municipal bonds D) Fixed annuities
D) Fixed annuities While all securities are subject to the antifraud provisions of the Securities Exchange Act of 1934, fixed annuities are insurance company products not deemed to be securities. Variable annuities would be covered. LO 9.a
The ratio of taxes collected to taxes levied might be used in the analysis of which of the following bonds? A) Industrial development revenue B) Pollution control C) Water control D) General obligation
D) General obligation General obligation bonds are mainly supported by taxes. Collection of these taxes is a factor in the issuer's ability to pay the debt service on the issue. LO 6.b
An investor opens the following positions: Buy 100 shares of RJN @46; buy 1 RJN Mar 45 put @2½. What is the customer's maximum gain, maximum loss, and breakeven point? A) Maximum gain is $4,250; maximum loss is $250; breakeven point is $48.50. B) Maximum gain is $350; maximum loss is $4,250; breakeven point is $42.50. C) Maximum gain is unlimited; maximum loss is $350; breakeven point is $42.50. D) Maximum gain is unlimited; maximum loss is $350; breakeven point is $48.50.
D) Maximum gain is unlimited; maximum loss is $350; breakeven point is $48.50. The first step is to identify the position. This is a long stock position with a protective put. That is, the customer has purchased the stock and purchased a put to protect the downside. Using an option as a form of insurance is the primary reason why the industry refers to the price of an option as the premium. On questions with stock and an option, it is usually best to compute the breakeven point first. Breakeven is when the long stock can be sold at the customer's total cost. That cost is the price of the stock ($46) plus the price paid for the option ($2½), or $48.50. If the stock should rise above $45, the customer will let the 45 put expire and maintain the long stock position. An investor with a long stock position has unlimited potential gain. If the stock price should decline, no matter how low it drops, the customer can exercise the long put and sell the stock for $45 per share. That means the maximum loss is the premium paid for the option, ($250) plus the difference between the cost of the stock and the proceeds from the put ($100), or $350. Why doesn't the breakeven follow the "put-down" rule? That rule applies when the only positions are options. Once there is a long or short stock position along with an option position, it is the stock controlling the breakeven. LO 10.h
A client has purchased a nonqualified variable annuity from a commercial insurance company. Before the contract is annuitized, your client, age 60, withdraws some funds for personal purposes. What is the taxable consequence of this withdrawal to your client? A) Capital gains taxation on the earnings withdrawn in excess of the owner's basis B) A 10% penalty plus the payment of ordinary income tax on funds withdrawn in excess of the owner's basis C) A 10% penalty plus the payment of ordinary income tax on all of the funds withdrawn D) Ordinary income taxation on the earnings withdrawn until reaching the owner's cost basis
D) Ordinary income taxation on the earnings withdrawn until reaching the owner's cost basis AGE 60 & NON-QUALIFIED=AFTER TAX Contributions to a nonqualified annuity are made with the owner's after-tax dollars. Distributions from such an annuity are computed on a last-in, first-out basis, with the income taxed first. Once the cost basis is reached, any further withdrawals are a nontaxable return of principal. Because the client is older than 59½ at the time of distribution, the additional 10% penalty tax is not incurred. LO 9.d
Lorne Walters is a registered representative with Pecuniary Profits Securities, PPS, a FINRA member firm. Walters has decided to conduct virtual meetings using a system called Xoom. Because he has never used the system before, Walters decides to make a trial run of his securities presentation to six family members who are PPS customers. All of these family members are accredited investors. Which of the following choices best describes this situation? A) This constitutes an institutional communication to accredited investors and does not require preapproval by a principal of the firm. B) The virtual meeting may not be archived for later viewing. C) Walters may not recommend securities during the presentation, unless a principal of PPS provides prior approval. D) Prior approval of PPS may be required, but it is not mandated by FINRA for this public appearance.
D) Prior approval of PPS may be required, but it is not mandated by FINRA for this public appearance. The virtual meeting is defined as a public appearance. Prior approval of a broker-dealer is not mandated by FINRA but may be required by the broker-dealer. An associated person of a broker-dealer may make a recommendation of a security in a public appearance but must have a reasonable basis for the recommendation. Individual accredited investors are not institutional investors unless they have assets of at least $50 million, and there is nothing in the question to indicate that is the case with these customers. If such electronic presentations are recorded, the recording must be preserved for a minimum of three years. LO 19.a
Regarding Regulation D (private placement) offerings, which of the following statements is true? A) The amount of capital that can be raised through a private placement is limited. B) The SEC does not require issuers to file. C) Purchasers need not be provided or have access to offering information normally provided by a prospectus. D) Registration with the SEC is not required
D) Registration with the SEC is not required Regulation D offerings are exempt transactions, and therefore, no SEC registration is required. However, issuers must still file information with the SEC on Form D regarding the issue. This filing will contain all of the information a potential investor might want to know—similar to the information contained on a prospectus. There is no limit to the amount of capital that can be raised through a Regulation D private placement transaction. LO 20.e
All of the following identify exemptions from the registration statement and prospectus provisions of the Securities Act of 1933 except A) Regulation D. B) Rule 147. C) Regulation A. D) Regulation U.
D) Regulation U. Regulation U regulates loans from lenders other than broker-dealers for the purpose of purchasing securities and is not related to exempt transactions under the Securities Act of 1933. LO 20.e
A customer of your broker-dealer is bullish on U.S. equity securities across a broad spectrum of industries. He would like to participate in an anticipated upward movement of an equity stock index. Which of the following investments would you recommend as being closely related to the movement of equities in general? A) Variable rate demand obligations (VRDOs) B) Real estate investment trusts (REITs) C) American depositary receipts (ADRs) D) Standard & Poor's depository receipts (SPDRs)
D) Standard & Poor's depository receipts (SPDRs) The SPDR is an index fund designed to replicate and track the performance of the S&P 500, a broad-based equity index. LO 8.h
Which of the following documents spells out the rights of each member of the underwriting syndicate and how the issue is allocated? A) Official notice of sale B) Legal opinion C) Preliminary official statement D) Syndicate letter
D) Syndicate letter The syndicate letter (also called the agreement among underwriters, syndicate agreement, syndicate account letter, or account summary report) is the document that forms the syndicate and spells out each member's rights and obligations. The allocation of the new bond offering that is accorded each syndicate member is detailed in this agreement. LO 20.d
XYZ Corporation has set Friday, January 23, as the record date for its next quarterly dividend distribution. To receive the dividend, a customer, long 1 XYZ Feb 40 call, must issue exercise instructions on or before A) Tuesday, January 20. B) Friday, January 23. C) Monday, January 19. D) Wednesday, January 21.
D) Wednesday, January 21. Dividends are paid to investors who are owners of record as of the close of business on the record date. When a call option is exercised, money and stock are exchanged (settlement) on the second business day after notice is given to the Options Clearing Corporation. Therefore, an investor who wishes to receive a dividend must exercise a call no later than the second business day before the record date (i.e., the day before the ex-date). This is no different from anyone else purchasing stock before the ex-date. LO 16.a
An investor reading the annual report of an investment company notices that among the company's expenses was the payment of interest on outstanding bonds. The company also paid dividends on preferred stock. This investment company is A) an exchange-traded fund. B) a bond and preferred stock mutual fund. C) a balanced open-end mutual fund. D) a closed-end management investment company.
D) a closed-end management investment company. It is the closed-end management investment company that is allowed to have bonds and preferred stock in its capitalization. Open-end investment companies (mutual funds and ETFs) can only issue one class of stock (common). Do not confuse an investment company's capitalization with the contents of its portfolio. LO 8.b
A client buys 1 Jul 50 call and writes 1 Jul 60 call. This is A) a credit bear spread. B) a credit bull spread. C) a debit bear spread. D) a debit bull spread.
D) a debit bull spread. We have to answer two questions: is this a bull or bear spread, and is it a debit or credit spread? Looking at the first question, the goal of a bull is to always buy low and sell high. In the case of options, that refers to the strike prices (not the premiums). In this question, the purchased option has a 50 strike, and the sold option has a 60. That looks like buy low/sell high, so this is a bull call spread. But how can we determine if this is a debit (more money out than in) or a credit spread (the reverse) when the premiums are not shown? Simple. What would you pay more for? The option to buy stock at $50 per share or buy it at $60 per share? When it comes to a call option, the cheaper it can be exercised, the more valuable the option. So, the premium for the $50 call must be higher than the $60. If that is so (as it must be), then the investor is spending more to buy the 50 than is being received when selling the 60. More money out than in is a debit spread. LO 10.e
When a securities professional refers to a bond as a full faith and credit issue, it is A) a moral obligation bond. B) a revenue bond. C) a special tax bond. D) a general obligation bond.
D) 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. LO 6.b
Purchasers of municipal revenue bonds are interested in knowing the priority of their claim on the revenues generated by the project. In general, the most senior position is held by A) an inverted revenue pledge. B) a GO revenue pledge. C) a net revenue pledge. D) a gross revenue pledge.
D) a gross revenue pledge. The simplest way to think about this question is to look at our paycheck. What is the higher number - your gross pay or your net (take-home) pay? You could also say, "Who has the first claim on my earnings?" The government and that is why the taxes come out of your gross paycheck rather than your net check. The concept is the same here. In a gross revenue pledge, interest to the bondholders is paid out of the gross revenues before any other deductions. In a net revenue pledge, certain expenses are paid first, and then, from what remains, the bondholders receive their due. LO 6.c
With the market price of Lepidoptera Corporation trading at $40 in June, an options trader purchases a JUL 30 call for $1,100, writes two JUL 40 calls for $400 each, and purchases another JUL 50 call for $100. This strategy is called A) a strangle. B) a long double combination. C) a long double straddle. D) a long call butterfly spread.
D) a long call butterfly spread. This position is a butterfly spread. Technically, it is a long call butterfly spread because all the options are calls and the two short positions are at-the-money. Why the term butterfly? If you drew this on a graph, you would see the two options at 40 in the center with the 30 and the 50 on either side making it resemble a butterfly with the body and two wings. Will that be tested? No, but you might see butterfly as an incorrect answer to another options question. Here is something you should be able to do: What is the investor's maximum loss? The two long options cost $1,200 and the two short options bring in $800. That means a net debit of $400, and that debit is the maximum loss. LO 10.h
The 5% markup policy would apply to all of the following equity transactions except A) a proceeds transaction. B) an agency trade done on an exchange. C) a riskless principal transaction. D) a primary market transaction.
D) a primary market transaction. The 5% markup policy applies to secondary market transactions in nonexempt securities. LO 3.j
A Nasdaq market maker buys 1,000 shares of stock from a customer at its bid to satisfy a customer order. This is an example of A) an agency trade. B) a block trade. C) a riskless principal trade. D) a principal trade.
D) a principal trade. The market maker is acting in a principal (dealer) capacity. LO 3.h
Regarding rules addressing acting in concert, each of the following must observe position and exercise limits except A) an individual with accounts at several brokerage firms. B) an investment adviser placing exercise orders for his discretionary accounts. C) two or more individuals who have an agreement to act together. D) a registered representative (RR) accepting unsolicited orders to exercise options.
D) a registered representative (RR) accepting unsolicited orders to exercise options. An individual investor or a group of investors acting in concert must observe position and exercise limits. These limits apply to an individual adviser acting for a group of discretionary accounts and to an individual who has accounts with several firms. Acting in concert does not apply to an RR simply accepting exercise order instructions from customers. LO 10.j
An investor purchased 100 shares of RAVAD common stock at $40 per share on June 17, 2019. On May 11, 2020, with the RAVAD selling at $60, the investor hedges by purchasing one RAVAD Oct 55 put at 2. The put expires with the RAVAD selling at $65 and the investor liquidates the long stock position at that price. This would result in A) a long-term capital gain of $2,500 and a short-term capital loss of $200. B) a long-term capital gain of $2,300. C) a short-term capital gain of $2,700. D) a short-term capital gain of $2,500 and a short-term capital loss of $200.
D) a short-term capital gain of $2,500 and a short-term capital loss of $200. The investor purchased a protective put on the long RAVAD position. At the time of the purchase of the put, the holding period of the stock was less than the long-term requirement of more than 12 months. When that happens, the IRS rules that the short-term holding period (June to May is short term) is erased. Your new holding period for the underlying stock begins on the earliest of the date you dispose of the stock, the date you exercise the put, the date you sell the put, or the date the put expires. Because the investor disposed of the stock at the same time the put expired, there is no holding period, so any gains will be short term. As far as the math, the stock was purchased for $4,000 (100 shares @ $40 per share). The stock is sold for $6,500 (100 shares @ $65 per share). That is a gain of $2,500 (short term). When a long put expires, it is a capital loss in the amount of the premium. In our question, the premium was 2 points ($200) and that is a complete loss. Because the put has a five-month holding period (May to October), the loss is short term. In the real world, most accountants would just net the $2,500 short-term gains and the $200 short-term loss and report a $2,300 short-term gain. It is possible that could appear on the exam, but unlikely that you would have both choices. Please let us know if you do see something like this. LO 10.i
If a customer gives his broker-dealer an order to sell his stock if it falls to or below 69 and will not accept a price below 69, the order is A) a stop order. B) a sell limit order. C) a buy limit order. D) a stop limit order.
D) a stop limit order. When an order is entered this way, the client has specified that it should not be triggered until the stock is at or below 69, a stop order. Because the client will not accept an execution below 69, it is a stop limit order. LO 16.a
In a municipal underwriting, total takedown can be described as A) additional takedown plus management fee. B) underwriting fee plus additional takedown. C) underwriting fee plus manager's fee. D) additional takedown plus concession.
D) additional takedown plus concession. The total takedown has two components: concession and additional takedown. LO 20.b
When a corporation has an IPO, the shares being offered for sale are A) issued shares. B) treasury shares. C) outstanding shares. D) authorized shares.
D) authorized shares. Prior to its issuance, shares are termed "authorized," meaning they have been authorized to be issued to the public - whether that issuance be a sale, gift, or through a stock option. Once they have been issued, the shares become "issued" stock. If it were subsequently purchased back, the shares would become treasury stock. Outstanding shares are issued shares that have not been repurchased as treasury stock. LO 20.a
If a U.S. corporation exports machine tools to Switzerland and will be paid in Swiss francs (SF), to protect against foreign-exchange risk, it should A) sell SF puts. B) sell SF calls. C) buy SF calls. D) buy SF puts.
D) buy SF puts. What is the concern of this corporation? If, when the Swiss company pays for the tools, the value of the SF has fallen against the U.S. dollar, the company will receive less money. For example, if the bill is for 100,000 Swiss francs and, at the time of the sale, that amount of SF is worth $110,000 (each SF is worth $1.10), a decline in the value of the SF to $1.05 means the exporter will receive $105,000 instead of the expected $110,000. To hedge against a decline value (regardless of the asset), we buy puts. In the case of exporters from the United States, they buy puts on foreign currency. There are two important acronyms to remember, EPIC and IPEC. Referring to U.S. based companies, Exporters buy Puts and Importers buy Calls. Because there are no options on the U.S. dollar, the Swiss company should buy calls on its own currency to hedge In other words, EPIC works in reverse if the question is dealing with a foreign company. Then it is IPEC for Importers buy Puts and Exporters buy Calls. LO 10.g
If your client expected short-term interest rates to fall, you might recommend that the client A) buy a Treasury bond yield-based put. B) buy a Treasury bill yield-based call. C) write a Treasury bill yield-based call. D) buy a Treasury bill yield-based put.
D) buy a Treasury bill yield-based put. The key to debt options is that the investor is betting on the movement of interest rates, not the price of the security. As with any other investment based on downward movement (put down), the strategy called for here is buying a U.S. Treasury bill put option. Why not the Treasury bond put? Because the question refers to short-term rates and Treasury bonds are a play on long-term ones. LO 10.g
Real estate investment trusts (REITs) can distribute all of the following to their shareholders except A) cash dividends. B) capital gains. C) stock dividends. D) capital losses.
D) capital losses. REITs can distribute their income to shareholders but not their losses. Under subchapter M of the Internal Revenue Code, they must distribute at least 90% of their income to shareholders in the form of cash dividends. LO 11.b
All of the following securities are exempt from the registration provisions of the Securities Act of 1933 except A) state and municipal bonds. B) commercial paper and bankers' acceptances that have maturities of no more than 270 days. C) national and state bank securities. D) commercial bank holding company securities.
D) commercial bank holding company securities. Commercial bank holding companies are corporations that have to register with the SEC. State and municipal bonds do not have to be registered under the Securities Act of 1933. Commercial paper and bankers' acceptances that have maturities of no more than 270 days are exempt from the registration provisions. National and state banks are regulated by various state and federal agencies. LO 20.c
A FINRA member firm sends a promotional piece to 23 individuals over a three-day period. Ten of these individuals are current customers of the firm. The other 13 are prospects whose names came from a commercially available mailing list service. Under the FINRA rule on communications with the public, this promotional piece would be considered A) direct mail. B) retail communication. C) correspondence to the existing customers, and retail communication to the prospects. D) correspondence.
D) correspondence. Correspondence is defined as any written (including electronic) communication that is distributed or made available to 25 or fewer retail investors within any 30 calendar-day period. If it goes to more than 25, it is retail communication. The fact that some of the recipients are customers and others are prospects is irrelevant. It is simply the number of people during the 30-day period. LO 19.a
The breakeven point for covered call writers is A) strike price less premiums. B) cost of stock plus premiums. C) strike price plus premiums. D) cost of stock less premiums.
D) cost of stock less premiums. The breakeven point for an investor who owns the underlying stock and writes a call is the cost of that stock less the premium received from the sale of the call. LO 10.h
All of the following are advantages of investing in American depositary receipts (ADRs) except A) dividends are received in U.S. currency. B) ADRs fall under the oversight of the SEC. C) transactions are done in U.S. currency. D) currency risk is virtually eliminated.
D) currency risk is virtually eliminated. ADRs carry currency risk because distributions on ADRs must be converted from foreign currency to U.S. dollars on the date of distribution. In addition, the trading price of the ADR is affected by foreign currency fluctuation. LO 3.g
FINRA Rule 2330 deals with a member's responsibility in the sale of certain insurance company-based products. Specifically the concern is with A) variable life insurance. B) fixed-index annuities. C) immediate variable annuities. D) deferred variable annuities.
D) deferred variable annuities. The subject of the FINRA rule is deferred variable annuities. It applies to the sale or exchange of this specific product. LO 9.e
An intrastate offering is exempt from A) state registration. B) FINRA registration. C) blue-sky registration. D) federal registration.
D) federal registration. An intrastate offering (Rule 147 exemption) is limited to companies that do business in one state and limit stock or bond sales to that state's residents. Even though this offering may be exempt from SEC registration, it is not exempt from registering with that one state. Blue-sky registration (Uniform Securities Act registration) means the same thing as state registration. Securities do not register with FINRA. LO 20.e
The SEC requires that all sell orders be identified as either long or short. A person is not considered to be long a security if he A) owns a security convertible into or exchangeable for the security and has tendered such security for conversion or exchange. B) has purchased the security but the trade has not yet settled. C) has title to it. D) has sold an in-the-money put option on that security simultaneously with entering the short sale order.
D) has sold an in-the-money put option on that security simultaneously with entering the short sale order. Selling a put only obligates the investor to buy the stock when the option is exercised. Merely writing the option does not result in possession of the stock. Having title to it does. Once purchased, the investor is long the stock even if the trade has not yet settled. Turning in a convertible security with conversion instruction has the same effect as entering a purchase order and waiting for settlement. LO 14.b
A bond investor who is looking for capital gains should invest in bonds when interest rates are A) low and expected to rise. B) low and expected to decline. C) high and expected to rise. D) high and expected to decline.
D) high and expected to decline. This is about the inverse relationship between interest rates and bond prices. As interest rates rise, bond prices fall. Conversely, when interest rates decline, bond prices increase. If an investor buys bonds when the current interest rates are high, a future decline in those interest rates will cause the price of the bonds to increase. LO 4.b
The result of declining inflation on outstanding bonds would be A) higher prices and higher yields. B) lower prices and lower yields. C) lower prices and higher yields. D) higher prices and lower yields.
D) higher prices and lower yields. Declining inflation means declining interest rates. If interest rates decline, bond prices rise. LO 14.a
An investor in fixed-income debt securities wishing to eliminate interest rate risk could do so by A) purchasing a bond fund rather than individual bonds. B) increasing the duration. C) limiting purchases to investment-grade debt. D) holding the securities until they mature.
D) holding the securities until they mature. As we know, when interest rates go up, bond prices go down. Therefore, bondholders are at risk to their principal when interest rates change. However, there is no interest rate risk to the principal if the bond is held to maturity. Regardless of the current market interest rates, the bond pays off at par value. The risk is highest as the duration lengthens. Because bond funds do not have a maturity date, they cannot avoid this risk. The rating (quality) is irrelevant; even Treasury bonds are affected by changes in interest rates. LO 14.a
One of your customers with a JTWROS account contacts you to remove the other tenant and put the account into the customer's own name. This can be done only A) if the customer has a full power of attorney over the account. B) if you contact the other tenant and get their approval. C) upon the death of the other tenant. D) if the change has been authorized by a qualified and registered principal designated by the member.
D) if the change has been authorized by a qualified and registered principal designated by the member. Under FINRA rules, no change in any account name(s) can be made unless the change has been authorized by a qualified and registered principal designated by the member. This principal must, before giving her approval of the account designation change, be personally informed of the essential facts relative thereto and indicate her approval of such change in writing. The essential facts relied upon by the person approving the change must be documented in writing and preserved with the customer account records. One of those facts is approval of the other tenant, but that approval goes to the principal, not to you, the registered representative. Even in the case of death of the other tenant, the principal needs to see the proper documentation, such as a death certificate. LO 1.e
Bondholders may not take action against the corporation if it fails to make interest payments for A) subordinated debentures. B) debentures. C) convertible bonds. D) income bonds.
D) income bonds. Income bonds pay interest only if earnings are sufficient and declared by the board of directors. This is not true of any of the other fixed-income securities listed (debentures, subordinated debentures, or convertible bonds). LO 5.a
All of the following statements regarding commercial paper are correct except A) it is quoted on a discount yield basis. B) it is unsecured. C) interest is received at maturity. D) it is quoted as a percentage of par.
D) it is quoted as a percentage of par. Commercial paper is short-term, unsecured corporate debt. It is issued and traded at a discount of face value and does not pay periodic interest. Like all zeroes, it is quoted on a discounted yield basis. LO 4.c
A member of the board of directors of the Able Baker Charlie Company (ABCC) took her director's fees and purchased 200 shares of ABCC on the Nasdaq Stock Market at $20 per share. If she wished to sell these shares, compliance with Rule 144 would entail A) meeting both a size limit and a time limit. B) meeting a time limit, but not a size limit. C) meeting a size limit, but not a time limit. D) meeting neither a size limit nor a time limit.
D) meeting neither a size limit nor a time limit. A member of the board of directors of a publicly traded corporation is considered a control person. These individuals come under the provisions of Rule 144 when they wish to sell their stock in the company. In this question, there are two factors to consider. The first is that the stock is not restricted. How do we know that? Because it was purchased on the Nasdaq Stock Market in a secondary transaction. Therefore, there is no time limitation before she can sell. The second is that the sale meets the de minimis level (no more than 5,000 shares and less than $50,000). That means there is no need to file a Form 144 with its size limitations (the greater of 1% of the total outstanding shares of the same class at the time of sale, or the average weekly trading volume in the stock over the past four weeks on all exchanges or as reported through Nasdaq.) Be careful to answer the question being asked, because there is another issue for this director to consider. Section 16(b) of the Securities Exchange Act of 1934 prohibits control persons from taking short-swing profits, defined as those realized within a period of less than six months. You can read more about that in your LEM at LO 20.e. LO 20.f
The locate requirement of Regulation SHO for short sales does not apply to A) American depositary receipts traded on the Nasdaq Stock Market. B) preferred stock traded on the NYSE. C) over-the-counter equity securities. D) nonconvertible bonds traded on the NYSE.
D) nonconvertible bonds traded on the NYSE. The locate requirement is applicable to all short sales of equity securities. It is unlikely to be tested, but, just in case, for purposes of this rule, convertible bonds are considered equity securities. LO 16.c
With regard to a variable annuity, all of the following may vary except A) value of accumulation units. B) number of accumulation units. C) value of annuity units. D) number of annuity units.
D) number of annuity units. During the accumulation phase, the number of accumulation units will increase as additional money is invested. When the contract is annuitized, the annuitant is credited with a fixed number of annuity units. Once annuitized, the number of annuity units does not vary. The value of accumulation and annuity units varies with the investment performance of the separate account. LO 9.c
All of the following will affect the working capital of a corporation except A) an increase in assets. B) declaration of a cash dividend. C) a decrease in liabilities. D) payment of a cash dividend.
D) payment of a cash dividend. Working capital is defined as current assets minus current liabilities. Payment of a cash dividend will reduce current assets (cash) and current liabilities (dividend payable) by the same amount, leaving working capital unchanged. LO 13.d
Filing with FINRA within 10 business days of first use is required for all of the following except A) retail communications concerning collateralized mortgage obligations (CMOs) registered under the Securities Act, B) retail communications that promote or recommend a specific registered investment company or family of registered investment companies including exchange-traded funds (ETFs). C) retail communications concerning public direct participation programs (DPPs), D) retail communications that promote or recommend a specific real estate investment trust (REIT).
D) 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. LO 19.d
A registered representative is preparing a PowerPoint slide presentation, to be delivered in a live seminar, for a group of invited institutional clients. To use the slides, they may have to be A) approved by FINRA in writing. B) submitted to the SEC for review and approval. C) submitted to both FINRA and the SEC for preuse approval. D) reviewed by a principal of the broker-dealer.
D) reviewed by a principal of the broker-dealer. Communications material that is intended for use with institutional customers only need be supervised and reviewed by a principal of the member firm. Alternatively, if the member's procedures do not require review of institutional communications, they must include a provision for the education and training of associated persons so that they will understand the firm's requirements. Though FINRA can request spot checks of any material used to communicate with the public, submission of institutional communications to FINRA or the SEC for review or approval is not required. LO 19.c
All of the following municipal securities are quoted on a yield basis except A) serial bonds. B) secured bonds. C) tax anticipation notes. D) term bonds.
D) term bonds. Term bonds, or dollar bonds, are quoted like corporate bonds as a percentage of par. All other municipals are quoted in basis. LO 6.a
A city has issued bonds to construct a new sewage treatment facility. If the bonds are not backed by the full taxing authority of the city, all of the following statements about the bond issue are true except A) the interest on these bonds is not considered a preference item for the alternative minimum tax. B) there is no debt limitation on the issue. C) if earnings fall short of the amount needed to make principal and interest payments, the debt service reserve can be used. D) the disbursement of principal and interest payments must be approved semiannually by the state public service commission.
D) the disbursement of principal and interest payments must be approved semiannually by the state public service commission. As an exclusion question, we are looking for the false statement. The public service commission would have no approval power over revenue bond interest and principal payments. Because the bond is not backed by the taxing authority of the city, it is a revenue bond rather than a general obligation bond. The funds for payment of interest and repayment of principal are generated through the fees paid by those using the city's water and sewage facilities. Being a public, rather than private, facility, these would not be alternative minimum tax bonds. LO 6.b
In some underwritings, the anticipated demand for a new issue is higher than the syndicate estimated. Because they believe they will be able to sell more shares than are available, they will want to invoke A) an additional public offering. B) their preemptive rights. C) the red shoe clause. D) the green shoe clause.
D) the green shoe clause. If the syndicate manager, based on anticipated demand, wants to sell more shares than initially registered with the SEC, the manager can invoke the green shoe clause on short selling. A green shoe clause, negotiated with and agreed to by the issuer, allows the syndicate to sell up to 15% more shares than initially registered within 30 days of the IPO beginning to trade. The additional shares are made available to the syndicate by the issuer. To be effective, a green shoe clause must be disclosed in both the registration statement filed with the SEC and the prospectus. **This question deals with material not covered in your LEM, but it relates to recent rule changes and/or student feedback. LO 20.c
A due diligence meeting occurs between A) the FINRA member firm and FINRA's Corporate Finance Department to discuss the fairness of the underwriting spread on a pending public offering. B) the underwriter and the SEC before the issuance of a final prospectus to insert the public offering price and make any last-minute changes at the SEC's request. C) all of these. D) the issuing corporation and the underwriters to review and re-examine the full details of the pending underwriting and negotiate final terms to be included in the formal underwriting contract.
D) the issuing corporation and the underwriters to review and re-examine the full details of the pending underwriting and negotiate final terms to be included in the formal underwriting contract. A due diligence meeting is held between the issuer and the underwriter before the effective date and is one of the final meetings held before the sale of the security so that each party may review all aspects of the issue. LO 20.b
Better Bond Sales (BBS) is the syndicate manager of new GO municipal bond issue. Should BBS sell some of the bonds, its earnings would be A) the total takedown. B) negotiated between the issuer and the manager. C) the spread plus the manager's fee. D) the spread.
D) the spread. When the syndicate manager makes the sale of a new issue of bonds, the manager earns the entire spread (the difference between the amount paid to the issuer and the offering price). The manager's fee is included in that spread. The syndicate members earn the total takedown on bonds they sell. LO 20.b
Which of the persons is subject to the holding period provision of rule 144? A. A corporate insider who has held restricted stock for 2yrs B. A non affiliate who has held registered stock for 3yrs C. A nonaffiliate who has held control stock for 6mo D. A nonaffiliate sho has held restricted stock for 3mo
D. A nonaffiliate sho has held restricted stock for 3mo
An investor purchases a new issue municipal bond. A copy of the official statement A. Must precede the delivery of the bonds B. Need only be delivered if requested on writing by the investor C. Need not be delivered because an OS is not a prospectus D. Must accompany or precede the delivery of the bonds
D. Must accompany or precede the delivery of the bonds
A dealer should consider all of the following factors when determining the spread on a new issue except A. The prevailing interest rates B. Amount bid on the issue C. The type and size of the issue D. The amount of the good-faith check
D. The amount of the good-faith check
A municipal issuer's net total debt is made up of which of the following? Direct debt Defeased debt Overlapping debt Paid-up debt
Direct debt Overlapping debt Municipal bond analysts examine an issuer's net total debt to determine an issue's safety. Debt that is not a burden on the municipality is not included in total debt. Defeased debt and paid-up debt can be removed from the municipality's debt accounts. Direct debt is debt issued by the municipality, and overlapping debt is the municipality's share of debt issued by authorities that draw revenues from the same sources as the municipality. Together, direct debt and overlapping debt constitute the municipality's net total debt. LO 6.b
Near the end of the cooling off period, the underwriter will hold a
Due diligence meeting
Unless the issuer is exempt from registration, the issuer selling the securities to raise money will have to
File registration with the SEC
The cooling period is 20 days between the __________ date and the _________ date
Filing date and the effective date
A competitive bid for a syndicate is submitted as a
Firm commitment
A firm may assign option exercises using which of the following methods? First-in, first-out (FIFO) Last-in, first-out (LIFO) Random assignment Based on holders of the smallest positions
First-in, first-out (FIFO) Random assignment A firm may assign an exercise either randomly or using the FIFO accounting method. LIFO is not permitted, nor is assigning by position size, smallest, or largest. LO 10.b
De Minimis Rule under rule 144
Form 144 need not to be filed if 5000 shares or fewer shares are sold and the dollar amount is $50,000 or less. The de mini is rule applies to sales in any 90 day period
For unaffiliated investor the restricted stock may be sold
Freely after the 6mo hold
Red Herring
Gauges investor reactions and gather indications of interest for corporate securities -legend printed in red that declares that a registration statement has been file with the SEC but is not effective (underwriting spread and final offering price aren't included)
Competitive bid underwriting are standard for underwriting most
General obligation municipal securities and are often required by state law
An order confirmed for the entire underwriting syndicate's benefit placed after the bid is awarded is called a
Group net order
Qualified Institutional Buyer (QIB)
Has to have a minimum of $100M invested on a discretionary basis and cannot have any affiliation with the entity selling the securities
The function of a broker's broker in the municipal bond business is to do which of the following? Help sell municipal bonds that a syndicate has been unable to sell Protect the identity of the firm on whose behalf the broker's broker is acting Help prepare bids for an underwriting syndicate Serve as a wholesaler, offering bonds at a discount from the current bid and offer
Help sell municipal bonds that a syndicate has been unable to sell Protect the identity of the firm on whose behalf the broker's broker is acting A broker's broker helps sell the bonds a syndicate has left and does not disclose the identity of the firm on whose behalf it is acting. Brokers' brokers do not charge fees for quoting a security, do not maintain inventory, and act solely as agents earning a commission for their services. LO 6.d
From first to last, in what order would claimants receive payment in the event of bankruptcy? Holders of secured debt Holders of subordinated debentures General creditors Preferred stockholders
Holders of secured debt General creditors Holders of subordinated debentures Preferred stockholders The liquidation order is as follows: secured debt holders, unsecured debt holders (including general creditors), holders of subordinated bonds, preferred stockholders, and common stockholders. LO 5.b
Under the rules regarding the sales of new equity issues, which of the following relationships to a registered representative are restricted purchasers? Aunts and uncles In-laws Supported persons Grandparents
In-laws Supported persons Restricted purchasers include spouses, parents, children, siblings, and in-laws. Aunts and uncles, as well as grandparents, are excluded. A person supported by an employee of a member can never buy a new equity issue. LO 20.f
A mutual fund invested in bonds with medium-length maturities. As the bonds matured, the fund reinvested the proceeds and purchased long-term bonds with maturities of up to 20 years. What might have happened to the fund if the reinvestment had occurred during a period when interest rates were rising? Decrease in yield Decrease in income Increase in yield Increase in income
Increase in yield Increase in income The longer a bond's maturity, the greater the risk to the investor. As a result, long-term bonds generally pay higher interest rates than medium- or short-term bonds. If a fund replaces medium-term bonds with long-term bonds, the bonds would pay higher interest rates, and thus generate more income. Additionally, as interest rates increase, so do yields. LO 14.a
Congress passed the securities act of 1933 to require
Issuers of new securities to file registration statements with the SEC to provide investors with complete and accurate information in the form of a prospectus when soliciting sales
*which is smallest: Manager's fee or total takedown
Manager's fee
When a life insurance policy is funded with too much money within a 7 year period it is defined as a
Modified endowment contract (mec) MECs have restricted access to cash values and also lose some tax advantages than other cash policies
If a member has reason to believe that communication intended for institutional investors will be forwarded to someone who isn't a institutional investor,
Must be treated as retail communication
Is principal review required for institutional communication?
No
Is there a preliminary prospectus for municipal securities?
No, but there is a preliminary official statement
Transactions in the secondary market are largely ________ and the proceeds go to...
Nonissuer transactions meaning the proceeds of the sale DO NOT go to the issuer they go to the shareholder
Official Notice of Sale
Notice published by a municipality inviting investment bankers to submit competitive bids for an upcoming bond issue. The notice provides the name of a municipal official from whom further details can be obtained. The Bond Buyer regularly carries such notices.
Effective date in underwriting
Offering period may begin
Which of the following could an analyst use to establish the rate of return on a direct participation program (DPP)? Present value Internal rate of return Yield to maturity First-in, first-out
Present value Internal rate of return Present value Internal rate of return
Writing the scale
Process of establishing the reoffering yield (or price) for each maturity -a scale is the list of the bond's different maturities
*Disgorged
Profit is returned to the issuer
The trust indenture act of 1939 was passed to
Protect bond holders and requires that issuers of these bonds appoint a trustee to ensure that promises between the issuer and the trustee who for the benefit of the bondholders are carried out
An investor purchases 100 shares of XYZ common stock for $70 and sells it one year later for $50. Which of the following activities would violate the wash sale rule? Purchasing an XYZ call option 20 days after the sale Purchasing an XYZ put option 20 days after the sale Purchasing 100 shares of XYZ common stock 20 days after the sale Selling short 100 shares of XYZ common stock 20 days after the sale
Purchasing an XYZ call option 20 days after the sale Purchasing 100 shares of XYZ common stock 20 days after the sale The wash sale rule is violated when an investor sells a security at a loss and purchases the same or a substantially identical security within 30 days of the sale date. The IRS considers a call option substantially identical to the underlying stock because it represents the right to buy the shares. LO 13.h
SEC disclaimer
SEC Disclaimer. The SEC reviews the prospectus to ensure that it contains the necessary material facts, but it does not guarantee the disclosure's accuracy. Furthermore, the SEC does not approve the issue but simply clears it for distribution. Implying that the SEC has approved the issue violates federal law. Finally, the SEC does not pass judgment on the issue's investment merit.
During the "20-day cooling off" period:
SEC reviews the security's registration statement and can issue a stop order if the statement does not contain all of the required information
Blue sky laws-notice filing
Securities listed on the major stock exchanges and on the NASDAQ as well as investment companies registered under the Investment Company Act of 1940 are known as federal covered securities. State registration is not required but most states require the filing of a notice that the issuer intends to offer its securities for sale in that state and the state may assess a filing fee
Regulation A+ Tier 1
Securities offering up to $20M in 12mo. period will be allowed. Of the $20M, no more than $6M can be sold on behalf of existing selling shareholders (30%). The offering is subject to a coordinated review by individual states and the SEC DOESNT require audited financial statements
Regulation A+ Tier 2
Securities offering up to $50M in a 12mo. period will be allowed. Of the $50M, no more than $15M can be sold on behalf of existing selling shareholders. These offerings are subject to SEC review ONLY and none at the state level. Tier 2 offering are still subject to rigorous disclosure requirement to the SEC including audited financial statements, annual semiannual and current reports.
Communication for variable contracts regarding liquidity
Since variable life insurance and variable annuities involve substantial charges and/or tax penalties for early w/d there may be no representation or implication that these are short term investments
The syndicate's compensation for underwriting the new issue is the
Spread or the difference between the price the syndicate pays the issuer and the reoffering price
Blue Sky Laws
State laws that regulate the offer and sale of securities.
In a competitive bid, a _______________ invites _____________ to ____________
State or municipal government; investment bankers to bid for a new issue of bonds
Control Stock
Stock acquired by an affiliated person such as officer or director or persons who own at least 10% of the issuers voting stock
Syndicate members must sign a ____________________ that describes the participants responsibilities and allocation of syndicate profits
Syndicate agreement/syndicate letter
Members buy the condos from the syndicate manager at the
Takedown
When a competitive bid as submitted as firm commitments this means
That the underwriters are committing to sell all the bonds. If any bonds are left unsold, the underwriters must take them for their own accounts
If a client has a margin account with $23,000 in securities and a debit of $12,000, and Regulation T is 50%, which of the following statements are true? The account is restricted. The client will receive a margin call for $500. The client may withdraw securities if she deposits 50% of the market value of the securities withdrawn. The account has excess equity of $5,250.
The account is restricted. The client may withdraw securities if she deposits 50% of the market value of the securities withdrawn. The account is restricted by $500 because the equity of $11,000 is less than the Regulation T requirement of 50% ($11,500). However, the client will not receive a margin call for the $500 because Regulation T applies only to the initial purchase. Because the account is restricted, any withdrawal of securities requires a cash deposit of 50% or a deposit of securities with a loan value of 50% of the value of the securities withdrawn. The account is $5,250 above the required minimum maintenance margin, but this amount is not considered excess equity. LO 16.d
Which of the following statements regarding municipal revenue bond issues are generally true? The bonds' feasibility is dependent on the earnings potential of the facility or project. The bonds are backed by unlimited taxing power of the issuer. User fees provide revenue for bondholders. Revenue bonds are most suitable for investors with high risk tolerance.
The bonds' feasibility is dependent on the earnings potential of the facility or project. User fees provide revenue for bondholders. Revenue bonds are backed by project earnings (user fees), not taxes, and are generally considered low risk. LO 6.c
In which of the following situations may a broker-dealer enter an order for a customer to sell a stock long? The broker-dealer has reason to believe that the customer owns the stock and will deliver it promptly. The security is carried in the customer's account at the broker-dealer. The customer owns a bond convertible into the stock and has issued conversion instructions. The customer owns a call option on the stock and has exercised the call.
The broker-dealer has reason to believe that the customer owns the stock and will deliver it promptly. The security is carried in the customer's account at the broker-dealer. The customer owns a bond convertible into the stock and has issued conversion instructions. The customer owns a call option on the stock and has exercised the call. To note that a sell order is long, a broker-dealer must either have the stock in its possession or have reasonable assurance that the customer owns the stock and will deliver it promptly. Regarding a convertible bond or a call option, to be considered long the stock a customer must have tendered the bond for conversion or have given notice to exercise the call. LO 16.c
Due diligence
The careful investigation by the underwriting participants necessary to ensure that all material information pertinent to an issue has been disclosed to prospective investors
Why is a private placement stock also called a legend stock?
The certificate may bear a legend indicating that it cannot be transferred without registration or exemption
Concession
The discount the selling group receives from the selling member
Syndicate account is created when
The issue is awarded, the syndicate manager is responsible for keeping the books and managing the accounts
Blue sky laws-coordination
The issue registers simultaneously with the state and the SEC. both registrations become effective on the same date.
Negotiated Underwriting
The issuer and the investment banker negotiate the offering terms including the amount of securities bd offered, offering price or yield, and underwriting fees
Blue sky laws-qualification
The issuer registers only with the state. There is no federal registration because the issue is sold strictly intrastate
After the issuing municipality meets with the municipality's attorneys and accountants to analyze each bid, it awardes the municipal bond issue to the syndicate who offers the bonds at
The lowest NIC or true interest cost to the issuer
Reoffering price
The price or yield at which a municipal security is sold to the public by the underwriters.
FINRA rule 2216 states that before a member can sell a CMO to a retail customer, the firm must be sure
The representative is trained and must offer the customer educational material that includes information and discussion on -characteristics and risks of CMOs -tax considerations -transaction costs -interest rates -structure of CMOs
In a secondary market the sale proceeds go to
The shareholders/bondholders
Statement of Additional Information (SAI)
The supplementary document to a prospectus that contains more detailed information about a mutual fund
*under what circumstances can a syndicate member receive the full spread when a bond is sold?
The syndicate member receives the full spread if the member is also the syndicate manager
*which is largest: Manager's fee or total takedown?
Total takedown
Which of the following trades settle next business day? U.S. government debt U.S. government agency debt Municipal bonds Listed options
U.S. government debt Listed options U.S. government debt and listed options settle next day (T+1); government agency debt and municipal bonds, along with corporate securities, are subject to regular way settlement of T+2. LO 17.c`
What is form D and when does it have to be filed?
Under rule 503 of regulation D, an issuer that's issuing securities in reliance on Regulation D must file Form D electronically with the SEC no later than 15 days after the first sale of securities in the offering
Best Efforts
Underwriter acts as an agent of the issuer and takes no liability for unsold shares -deal is contingent on the underwriter's ability to sell shares to the public. -underwriter sells as much as possible, without financial liability for the shares remained unsold
Restricted Securities
Unregistered securities that are typically acquired by investors through private placements
Restricted securities cannot he sold
Until they have been held for 6mo
After holding a restricted stock for 6mo an affiliate may sell shares by submitting form 144 but is subject to
Volume restrictions In any 90 day period an investor may sell the greater of: 1% of the total outstanding shares of the same class at the time of sale Or The avg weekly trading volume in the stock over the past 4 weeks on all exchanges or as reported through Nasdaq
cooling-off period
When the SEC reviews the registration statement and looks for sufficiency of information not accuracy
Control stock held by an affiliate may be sold
With no hold but volume limits will apply
*does POP include the spread?
Yes
*can assets in an account or property held jointly with another person who isn't the purchasers spouse be included in determining whether the purchaser satisfies the net worth test in rule 501?
Yes, assets in an account or property held jointly with a person who isn't the purchasers spouse may be included in the calculation for the net worth test but only to the extent of her percentage ownership of the account or property
A client writes 1 Apr 30 call and buys 1 Apr 40 call. This is a bull spread. a bear spread. a debit spread. a credit spread.
a bear spread. a credit spread. This is a call credit spread, and bears sell calls. The 30 call is worth more because it has a lower strike price. Long the lower is bullish; short the lower is bearish. LO 10.e
research report
a document prepared by an analyst or strategist who is a part of the investment research team in a stock brokerage or investment bank
If mediation is unsuccessful
a hearing will take place
quiet period
a member firm acting as manager of a securities offering may not publish research nor may an analyst make make a public appearance regarding the subject company for 40 days following an IPO or for 10 days following an additional issue offering
In a Regulation A+ offering, the issuer files an
abbreviated notice of sale or offering circular with the regional SEC office
*Can the SEC disapprove or approve an issuance of a security?
absolutely not
eastern account: each underwriter is allocated a portion of the issue. After the issue has been substantially distributed, each underwriter is
allocated additional bonds representing its proportionate share of any unsold bonds. Thus an underwriter's financial liability might not end when it has distributed its initial allocation
what can be sent along with a summary prospectus to mutual fund investors?
an application can be sent to investors
Ranking entity
any entity that provides general information about investment companies to the public that is independent of the investment company and its affiliates
public arbitrator
any person who does not meet the definition of a non-public arbitrator
approval for research reports
approval req. are based on how they are defines. research reports must be preapproved by a principal if the communication meets the definition of retail communication
firm commitments under these terms, the underwriter
assumes the financial risk of incurring losses in the event they are unable to distribute all shares to the public
Tax basis formula for DPPs
basis-investment in partnership +share of recourse debt (+nonrecourse debt in real estate DPPS) - cash or distributions
In a bull call spread, an investor buys the lower exercise price and sells the higher exercise price. buys the higher exercise price and sells the lower exercise price. anticipates the spread will narrow. anticipates the spread will widen.
buys the lower exercise price and sells the higher exercise price. anticipates the spread will widen. In a bull call spread (debit spread), a call with a lower strike price is purchased and a call with a higher strike price is sold. Because the long call has a lower strike price than the short call, it is more expensive, resulting in a net debit. In a bull call spread, the investor hopes the market prices rise. Maximum profit occurs if both calls are exercised, and because this is a debit spread, the spread is profitable if it widens. LO 10.e
a firm commitment can be either a
competitive bid arrangement or negotiated commitment contract
western accounts is a _____________ account
divided
Regulation D: Private Placements
exempt from registration with the SEC and are considered federal covered securities from registration on the state level as well
When underwriting municipal revenue bonds. This due diligence investigation relies on a
feasibility study (focuses on projected revenues and costs associated with the project)
*during the first year of operation, regarding any retail communication the member firm must
file any retail communication with FINRA at least 10 business days before first use
standby
form of firm commitment unique to corporate rights offering. When a company's current stockholder do not exercise their preemptive rights in an additional offering, a corporation has an underwriter standing by to purchase whatever shares remain unsold as a result of rights expiring
if a member issues a report or research analyst renders an opinion that is INCONSISTENT with the analyst's actual views regarding a subject company. FINRA considers this action
fraudulent
An order confirmed for the entire underwriting syndicate's benefit is called a:
group net order
a normal scale has ___________ yields for long-term bonds
higher
when are syndicate letters legally binding?
it is legally binding when the syndicate's submission of the bid
regarding western accounts: each underwriter is responsible for __________?
its own account
a scale is the
list that shows the bond's issue's different maturities
negotiated bid are most commonly used in
most corporate issues
after the issuing municipality meets with the municipality's attorneys and accountants to analyze each bid, it awards the
municipal bond to issue to the syndicate that offers to underwrite the bonds at the lower net interest cost or true interest cost to the issuer
approval for IPR
must be preapproved if the communication meets the definition of retail communication
Names Rule
must invest 80% or more of its assets in the type of investments suggested by its name
competitive bid arrangement is the standard for
new issues offering in the municipal securities -sales begin on the effective date of the offering
can an issuer have more than one IPO?
no
approval for institutional communication
no preapproval is req.
*selling group members: do they take on financial liability?
no, they act as agents because they have no commitment to buy securities from the issuer
a customer sells 300 shares and 1 certificate for 325 shares this is a
overdelivery
Public appearance
participation in a seminar, webinar, forum, radio or television interview, or other public appearance or public speaking activity -unscripted
*if ranking or comparison is generally published or is the creation of an independent entity what is the filing req?
post filing within 10 business days
approval for correspondence
pre or post-approval is required
approval for public apperance
preapproval MAY BE req. but it is not mandated
approval for retail communication
preapproval is req.
SEC Rule 506
private placement with no dollar limit on the amount sold Can sell the offering to an unlimited amount of accredited investors and up to 35 nonaccredited investors
general advertising
promotes securities as an investment medium but does not refer to any specific security
True Interest Cost (TIC)
provides the same type of cost comparison adjusted for the time value of money
when pre-review is not required for correspondence, the firm must include a
provision for the education and training of associated persons as to the firm's procedures governing correspondence
Bond Mutual Fund Volatility Ratings
rating relates to the sensitive of net asset value (NAV) of a portfolio of an open-end management investment company that invests in debt securities to changes in market conditions and the general economy
if an associated person recommends a security in a public appearance, the associated person must have
reasonable basis for the recco and must disclose any conflicts of interest that may exist such as financial interest in any security being recommended
When conducting a discussion with a client about the merits of investing in a direct participation program, all of the following could be tax advantages except accelerated depreciation. depletion allowances. recapture of depreciation. tangible drilling expenses.
recapture of depreciation. tangible drilling expenses. Depreciation is the deduction against income representing the cost recovery of certain fixed assets. When one of those assets is sold for more than the straight-line depreciated value, the excess is recaptured as ordinary income. Only intangible drilling expenses benefit the limited partner. LO 11.g
Rule 144
regulates the sale of control and restricted securities, stipulating the holding period, quantity limitations, manner of sale, and filing procedures
in order for ownership to change hands, the certificate
representing ownership must be negotiable
electronic bulletin boards are considered which type of communication and do they need to be approved by a principal?
retail communications needs to be reviewed and approved by a principal before first use
electronic communication are they principal reviewed?
reviewed and approved by a principal before first use and must contain no exaggerated claims or misleading infromation
selling group members sign a ______________________ with underwriters
selling group agreement
An underwriting syndicate has a firm commitment with an issuer to sell $5M of common stock to the public. The syndicate has 4 selling groups. What is each selling group's financial responsibility for the sale?
selling groups take no financial responsibility in the offering
*syndicates are usually formed to
spread the risk of an offering among several underwriters instead of one underwriter taking all the risk
if, at any time, the SEC believes that the registration statement is incomplete or has other problems, it may issue a
stop order
U.S. government securities that are deposited with a trustee against which certificates are sold representing principal payments only on the securities are clipped bonds. stripped bonds. subject to annual taxation on the per-year accreted amount. subject to taxation at maturity.
stripped bonds. subject to annual taxation on the per-year accreted amount. U.S. government securities that are deposited with a trustee and against which certificates are sold representing principal payments only on the securities are referred to as Treasury STRIPS. These are zero-coupon bonds issued by the U.S. government and are subject to annual taxation on the per-year accreted amount. LO 7.a
A syndicate is underwriting a $5M municipal bond issue. There are 5 syndicate members each with equal participation, including your firm. Your firm sells its $700,000 of its $1M allocation, but bonds worth $1M remain unsold by the other syndicate members. If this is a western account what it your firm's liability?
the firm would have to buy $300,000 for its own inventory
in a firm commitment underwriting, who takes on the financial risk?
the managing underwriter takes on financial risk because he purchases the securities from the issue
primary market
the market in which new securities are originally sold to investors -issuer receives the proceeds generated -shares that have never been issued to the public before
all generic advertisements must contain
the name and address of the sponsor of the advertisement but NEVER include the name of specific security
A taxable gain or loss on a long call option transaction would be recognized when the option is purchased. the option expires. the option is sold. the option is exercised.
the option expires. the option is sold. In addition to being exercised, call options can either be sold or allowed to expire. If either of these situations occurs, the owner of the call would determine hers gain or loss (for tax purposes) at the time of expiration or sale. This would be determined by comparing what she paid for the call versus the price at which she sold the call. If it expires, the entire amount of the premium originally paid is considered a loss. Gains or losses are not determined at the time that calls are exercised. Once exercised, the underlying security must then be sold at the current market value. Then the owner of the call would calculate her profit or loss, taking into account the premium paid, what she paid for the stock, and what she subsequently sold the stock for. LO 10.i
Total Takedown
the portion of the spread that remains after subtracting the management fee
If a customer establishes a debit spread, the customer profits if the spread widens. the spread narrows. the option expires. the options are exercised.
the spread widens. the options are exercised. Because debit spreads are closed as credits, the customer profits if the spread widens. In addition, to realize maximum profit, both contracts must be exercised. If they expire, the customer loses the net debit paid for a maximum loss. LO 10.e
Rule 144A regulates:
the trading of restricted securities to institutional investors known as qualified institutional buyers (QIBs).
A syndicate is underwriting a $5M municipal bond issue. There are 5 syndicate members each with equal participation, including your firm. Your firm sells its $700,000 of its $1M allocation, but bonds worth $1M remain unsold by the other syndicate members. If this is a eastern account what it your firm's liability?
the unsold amount is divided among all syndicate members based on their participation. So your firm would be allocated 20% of the remaining amount of $200,000. The responsibility for any unsold bonds continue until the entire bond is sold
in a negotiated underwriting, how do participants formalize their realtionship?
they sign a syndicate contract or agreement among underwriters
Order period
time set by the manager during which the syndicate solicits customers for the issue and all orders are allocated without regard to the sequence in which they were received
if the sales literature refers to yield, it must include the
total return figures and show the current yield in the same prominence
Selling Concession
typically, the largest piece of the underwriting spread going to the firm credited with making the sale
eastern account is a ______________ account
undivided account
eastern or western: which account is divided?
western account. the continental divide in the the west
*when is there a time where an issuer receives proceeds and it is not a primary offering?
when a company resells treasury stock, it receives the proceeds since the shares were previously owned, it cannot be called a primary offering.
According to industry rules, if a customer purchases a bond from your firm, the confirmation must disclose where your firm acquired the bonds if acting as a principal. whether your firm acted as agent or principal. your firm's address. the price your firm paid for the bonds.
whether your firm acted as agent or principal. your firm's address. Customer trade confirmations must make explicit disclosures regarding the terms of the transaction and the parties involved. The broker-dealer must always disclose the capacity in which it acted (i.e., principal or agent.) The confirmation must show the name of the person for whom the trade was executed (i.e., the customer). The name, address, and telephone number of the broker-dealer must be shown so a customer may contact the firm easily. The settlement date is also required, but the broker-dealer is not required to disclose where it acquired the bonds or the price it paid. LO 15.a
*syndicate members: do they take on financial liability?
yes
can an issuer have more than one primary offering?
yes
A syndicate is underwriting a $5M municipal bond issue. There are 5 syndicate members each with equal participation, including your firm. Your firm sells its entire allocation, but bonds worth $1M remain unsold by the other syndicate members. If this is a western account what it your firm's liability?
your firm would have no remaining liability since the entire allocation was sold.
syndicate letters include
■ each member firm's level of participation or commitment; ■ priority of order allocation; ■ duration of the syndicate account; ■ appointment of the manager(s) as agent(s) for the account; ■ fee for the managing underwriter and breakdown of the spread; and ■ other obligations, such as member expenses, good faith deposits, observance of offering terms, and liability for unsold bonds.
Simplified Arbitration
$50,000 or less -1 arbitrator reviews all of the evidence and renders a binding decision
Good delivery for bonds
-Coupon or bearer form: $1,000 or $5,000 -Fully registered bonds: $1,000 or multiples of $1,000, but no larger than $100,000 -Municipal bonds: bearer or registered form -no coupons missing
the abbreviation SAT for what IS NOT included in municipal-issued settlements stands for
-Settlement date -Accrued interest -Total dollar amount due at settlement
what IS NOT included in municipal issued settlements?
-Settlement date -Accrued interest -Total dollar amount due at settlement
Nonpublic arbitrator
-anyone who has worked in the finance industry -associated persons -those who regularly work for a financial firm
when a customer complaint is received, the RR should
-bring it to the designated person's attention immediately -efforts may be made to solve the complaint without taking it through finra's formal procedures
Sanctions include of
-censure -fine -suspension of the membership of a member or suspension of the associated member for 2 year -expulsion of the member, cancelling membership -barring an associated person from an association with all members -imposition of any other fitting sanction
disclosure reporting page consists of these 6 parts
-criminal disclosure -regulatory action disclosure -civil judicial disclosure -customer complaints/arbitration/civil litigation -termination disclosure -financial disclosure
when-issued transaction confirmation must include
-description of the security -the purchase price -trade date
Code of Arbitration (COA)
-establishes unresolved industry disputes involving -member vs. member or registered clearing agency -member vs. associated persons -associated vs. associated member
mediation
-inexpensive first step of a dispute resolution process
Form U4
-names or aliases and address -5 year residency history -10 year employment history -disclosure or any arrest or conviction or any securities misdemeanor
due bills
-sent when the wrong party receives a dividend, interest or rights from the issuer
good condition of security
-tranfer agent can accept a mutilated certificate if authentication is obtained -if severly damaged, it requires a surety bond
The initial confirmation of a when-issued municipal bond contains which of the following? 1. Number of bonds involved in the transaction 2. Settlement date 3. Yield to maturity 4. Total dollar amount due
1 & 3 On a new municipal bond offering, where the customer receives a when-, as-, and if-issued confirmation, the final settlement date is not known; therefore, the amount of accrued interest is unknown (because it is payable up to, but not including, settlement). Thus, the total dollar amount is unknown because it includes accrued interest. The number of bonds purchased and the yield to maturity (price) are known and must be included on the confirmation. LO 17.c
Arbitration and mediation are two services provided by FINRA to settle disputes between members. Regarding these services, which of the following statements are not true? 1. Mediation is mandatory; arbitration is not. 2. Arbitration always results in a binding decision; mediation may not. 3. If arbitration is unsuccessful, the dispute moves on to mediation. 4. A mediator in a dispute may not serve as an arbitrator in the same dispute.
1. Mediation is mandatory; arbitration is not. 3. If arbitration is unsuccessful, the dispute moves on to mediation. Arbitration is mandatory in disputes between members. If mediation takes place and is not successful, the dispute moves on to arbitration. The person who served as mediator may not be an arbitrator in the same dispute. LO 18.c
*two types of bond deliveries that are never subject to reclamation
1. bond certificate subject to in-whole call 2. bonds where the issuer goes into default after trade date
*if a customer requests to see the predispute arbitration agreement they have signed, a member firm must supply it within
10 business days of the request
round lots are good delivery as long as they are in
100s or multiples of 100
*regular way-corporate and muni bonds
2 business days
*regular way-equity
2 business days
*Regulation T settlement
2 business days after the regular way
Arbitration Thresholds: $100,000 or more
3 arbitrators unless both parties agree to 1
the U4 asks for the past 10 years of employment to be disclosed but verified the past __ years
3 years
all monetary awards in arbitration must be paid within
30 days if not, the interest accrues
if a member wants to have a trade nullified or adjusted it must notify the Nasdaq Market Operations within
30 minutes of the execution and after review Nasdaq will: -void the trade -take no action -adjust the terms of the trade
a customer complaint is preserved for
4 years
if a party initiates proceedings by filing a claim with the director of arbitration of FINRA. The other party will be sent a claim and they will have to respond within ____ days to the director and the claimant
45 days
fail to deliver
A situation where the broker/dealer on the sell side of a transaction or contract does not deliver the specified securities to the broker/dealer on the buy side.
Which of the following is used to report a bankruptcy filing of a registered representative of a FINRA member firm? A) DRP B) ADV C) TIF D) BF
A) DRP DRP stands for disclosure reporting page. That is the part of the Form U4 where a registered person indicates certain mandatory disclosures. In addition to bankruptcy filing, it includes the following: · Criminal disclosures · Civil disclosures related to nonsecurities cases · Disclosures of actions taken by regulatory authorities · Customer complaints · Termination for cause The TIF is the transfer initiation form used with ACATS to transfer a customer account from one member firm to another. ADV is the form used by investment advisers to register with the SEC or the appropriate state(s). There is no Form BF. LO 18.a
The Nasdaq quotation system offers several different levels of service depending on the needs of the user. Which of those levels would be used by a FINRA member firm making a market in 15 different stocks? A) Level 3 B) Level 1 C) Level 4 D) Level 2
A) Level 3 Level 3 is used by market makers. It contains the quotes from all market makers (as does Level 2), but it allows for the entry of quotes. That is the unique feature of Level 3. Level 1 shows the inside market (best bid and best offer), and there is no Level 4. LO 17.b
The FINRA-approved trade reporting system for corporate and government agency bonds trading in the OTC secondary market is A) TRACE. B) EMMA. C) OATS. D) RTRS.
A) TRACE. TRACE is the Trade Reporting and Compliance Engine approved by FINRA for reporting corporate and government agency bonds trading in the over-the-counter secondary market. OATS is the Order Audit Trail System created to record information relating to orders, quotes, and other trade information from all equities that are traded on Nasdaq. EMMA and RTRS deal with municipal securities. LO 17.b
An angry customer has written a letter of complaint and sent it to the registered representative handling the account. The first step the registered representative must take is to A) forward the complaint to the proper supervisory person. B) contact the customer and try to resolve the issue. C) notify the firm's designated examining authority (DEA). D) accept responsibility for the problem and offer a refund to the customer.
A) forward the complaint to the proper supervisory person. Handling of complaints is a serious matter in this industry. Normally, the complaint is sent to the firm, who formally accepts the complaint and records the action taken. In this case, where the individual servicing the account receives the complaint, the firm's procedures manual will invariably require that the complaint be forwarded and specify to whom it should be forwarded. This is not something to be dealt with by the registered representative, at least not initially, and we don't have enough information to determine if it is the kind of complaint (e.g., forgery, theft) that must be reported to the firm's DEA. LO 18.b
FINRA Rule 4530 states that each member shall promptly report to FINRA, but in any event not later than 30 calendar days, after the member knows or should have known of the existence of any of the following, otherwise than when the member or an associated person of the member A) is the subject of an adjudication of bankruptcy by any domestic, military, or foreign court. B) is indicted, or convicted of, or pleads guilty to, or pleads no contest to, any felony, or any misdemeanor that involves the purchase or sale of any security in a domestic, military, or foreign court. C) is barred from becoming associated with any member of any securities, insurance, or commodities self-regulatory organization. D) is the subject of any written customer complaint involving allegations of theft or misappropriation of funds or securities or of forgery.
A) is the subject of an adjudication of bankruptcy by any domestic, military, or foreign court. FINRA Rule 4530 has very broad reporting requirements, but a broker-dealer or associated person being declared bankrupt is not one of them. If a member firm were to go bankrupt, FINRA would be notified immediately, not within 30 days. LO 18.a
An applicant for registration as a registered representative of a FINRA member firm requires disclosure of significant personal information. Among the responsibilities of the member firm is verification of the previous A) three years employment. B) ten years of employment. C) five years of residency. D) three years of residency.
A) three years employment. Form U4 requires an applicant to provide a 5-year residency history and a 10-year employment history. With regard to the employment history, the member firm must verify the previous 3 years. There is no requirement to verify residency history. LO 18.a
Registered representatives must amend their Form U4 when all the following occur except A) if they obtain a professional credential. B) if they obtain a college degree. C) if they are arrested for a misdemeanor involving financially related issues. D) if they move residences.
B) if they obtain a college degree. Registered representatives must amend their Form U4 if they move, are arrested for any felony for financially related misdemeanors, or obtain a professional credential. College degrees are not disclosed on the Form U4. LO 18.a
Under FINRA rules, if a member wants to have the terms of a clearly erroneous trade adjusted, it must notify Nasdaq Market Operations A) before 4:00 pm ET on settlement date. B) within 30 minutes of the execution. C) before 4:00 pm ET on trade date. D) within 1 hour of the execution.
B) within 30 minutes of the execution. If a member wants to have a clearly erroneous trade adjusted or nullified, the member must make the request of Nasdaq Market Operations within 30 minutes of the execution. LO 18.d
When it comes to securities data, the industry relies heavily on acronyms. Which of the following is used exclusively for municipal securities? A) OATS B) EMMA C) ACT D) TRACE
B) EMMA EMMA is the Electronic Municipal Market Access system. EMMA is a centralized online source for free access to municipal disclosures, market transparency data, and educational materials about the municipal securities market and is operated by the MSRB. ACT is the Automated Confirmation Transaction Service. TRACE is the Trade Reporting and Compliance Engine. OATS is the Order Audit Trail System. All of these serve various parts of the industry, but EMMA is the only one exclusively devoted to municipal securities. LO 17.b
Which of the following securities cannot be purchased in the third market? A) Shares of common stock B) Open-end investment company shares C) Shares of preferred stock D) Closed-end investment company shares
B) Open-end investment company shares Explanation The third market is defined as the trade of exchange-listed stocks OTC. Because mutual funds are never listed on the exchanges, this would not apply to their shares. In addition, the third market represents secondary market trading and there is no secondary market for mutual funds. Please note: Most exchange-traded funds are structured as open-end investment companies, and they, obviously, trade on exchanges. On the exam, any questions about open-end investment companies will be exclusively dealing with mutual funds unless some mention is made of ETFs. LO 17.b
Which of the following items appears on the confirmation statement for a when-issued trade of municipal bonds? A) Total contract price B) Principal or agency trade C) Accrued interest D) Settlement date
B) Principal or agency trade The capacity of the firm, principal or agent, must be disclosed on all confirms. The settlement date, accrued interest, and total price would not appear on a when-issued confirm. LO 17.c
One of your new customers indicates that he does not want the securities transferred into the name of the brokerage firm nor does he want the securities held in his name at the firm. At the same time, he wants to be able to make trades easily without delivery issues. What would you recommend? A) Have all securities kept in street name B) Use the transfer and ship option where the certificates are transferred into his name and then shipped to him C) The customer should use the DRS D) Open the account as a DVP/RVP account
C) The customer should use the DRS DRS stands for the Direct Registration System. DRS provides a book-entry service. The issuer keeps the records of ownership with no certificates issued. When there is a sale of securities in the account, the customer tells the DRS to deliver to the broker-dealer and there are no hassles with signature guarantees or mutilated certificates. Transfer and ship creates potential delivery issues because the customer will have to be sure to have everything in good deliverable form to the broker-dealer by T+2. DVP and RVP are for institutions and street name means in the name of the brokerage firm, something the customer specifically does not want. **This question deals with material not covered in your LEM, but it relates to recent rule changes and/or student feedback. LO 17.d
An arbitration case dealing with a dispute between a customer and a member firm in the amount of $72,000 will be heard by A) one arbitrator, unless FINRA determines three is more appropriate. B) three arbitrators, the majority of whom must be public. C) one arbitrator, unless both parties agree to three. D) three arbitrators, all of whom must be public.
C) one arbitrator, unless both parties agree to three. When the amount in dispute is more than $50,000 and no more than $100,000, the usual number of arbitrators is one. If both parties agree, it can be three. When the dispute involves an amount greater than $100,000, there are three arbitrators unless both parties agree to one. In a dispute with a customer that involves an amount greater than $100,000, the customer can request that all three arbitrators selected be from the public sector. LO 18.c
A customer purchases a noncallable bond at a discount in the secondary market. All of the following must be on the customer's confirmation except A) the capacity in which the dealer acted. B) the yield to maturity. C) the rating. D) the CUSIP number.
C) the rating. The rating is not a required disclosure. Committee on Uniform Securities Identification Procedures (CUSIP) numbers are used in all trade confirmations and correspondence regarding specific securities. Indicating whether the firm acted as a broker or dealer is always required and the yield to maturity would be shown. Why doesn't it say, "the lower of YTM or YTC?" Because a bond purchased at a discount will never have a lower YTC than its YTM. LO 17.d
A confirmation of each customer trade must be given or sent A. on the trade date B. before the trade date C. on or before the settlement date D. before the settlement date
C. on or before the settlement date
If a member wishes to appeal an adverse decision in a Code of Procedure hearing, the member first must appeal to the National Adjudicatory Council within how many days of the decision date? A) 40 B) 45 C) 30 D) 25
D) 25 If either side is displeased with a Code of Procedure decision, an appeal must be made within 25 days of the decision date. LO 18.c
Under the Code of Arbitration Procedure, arbitrators fall into one of two categories: public or nonpublic arbitrators. Which of the following persons could not be a public arbitrator? A) An attorney who has represented an investor in an arbitration case once in the past five years B) A retail investor who has filed a complaint against a broker-dealer in the last two years C) Private investors who have substantial mutual fund holdings D) Any person who worked in the financial industry for any portion of her career
D) Any person who worked in the financial industry for any portion of her career Those who have worked in the financial industry for any duration during their careers will always be classified as nonpublic arbitrators. Certain professionals, such as attorneys and accountants, can be considered nonpublic if at least 20% of their revenues comes from representing financial industry firms or any parties to an arbitration. One time in five years is certainly not going to be 20% of their revenues. LO 18.c
How may a retail customer of a FINRA member firm gain access to the FINRA manual? A)Only after filing a written complaint B) Only by writing to FINRA directly with a specific question involving a FINRA rule C) Only with the written permission of a principal D) By visiting the firm's office or viewing it through a hyperlink on the firm's website
D) By visiting the firm's office or viewing it through a hyperlink on the firm's website FINRA Rule 8110 requires that members make available a current copy of the FINRA manual for examination by customers upon request. Firms used to have to maintain an inventory of FINRA manuals. In keeping with modernity, members may comply with this rule by maintaining electronic access to the manual and providing customers with such access upon request. This is done by having a hyperlink to the FINRA website. The Municipal Securities Rulemaking Board had a similar rule (G-29). It eliminated it recognizing that investors are going to use the internet to get the information they need. LO 18.d
Which of the following can you find on the Level 1 service of Nasdaq? A) Markups B) Firm bids and offers C) The names of firms making markets D) Inside bids and offers
D) Inside bids and offers No Nasdaq service displays markups. Levels 2 and 3 display firm bids and offers and the names of the market makers. Level 1 only indicates the highest bid and the lowest offer, known as an inside quote. LO 17.b
Which of the following describes Nasdaq Level 3 service? A) It shows the quotations from all registered market makers entering quotes into the system. B) It displays the representative bid and ask quotations on a security in which a minimum of three market makers exist. C) It displays the representative bid and ask quotations on a security in which a minimum of two market makers exist. D) It allows market makers to enter quotations into the system for a security in which they are registered.
D) It allows market makers to enter quotations into the system for a security in which they are registered. Nasdaq Level 3 service allows market makers to enter and update quotations on securities in which the market makers are registered with FINRA. LO 17.b
A customer holding 450 shares of XYZ common stock in registered form turns in a sell order on Monday for regular way delivery. Who has the initial responsibility to ensure that the security is in good deliverable form? A) The broker-dealer B) The customer C) The transfer agent D) The registered representative
D) The registered representative Although the final arbiter of deciding the good delivery status of certificates is that of the transfer agent, it is the registered representative's responsibility to communicate the requirements to the customer. Those include a reasonable expectation that the certificates will be delivered on time and in the proper form. LO 17.c
A registered representative is arrested for a felony. This arrest A) has no impact on the representative's employment. B) must be dismissed before the representative may continue to act in a registered capacity. C) requires the firm to terminate the representative's registration. D) must be reported on an amended Form U4.
D) must be reported on an amended Form U4. Any arrest must be reported on a representative's Form U4 within 30 days. Felony convictions are subject to statutory disqualification and require the termination of the representative's registration, but arrests do not. LO 18.a
A trade is made for $10,000 of municipal bonds on an ex-legal basis. That means A) the debt is not a legal obligation of the issuer. B) the legal opinion is qualified. C) the delivery can be refused by the purchaser. D) the legal opinion is not attached.
D) the legal opinion is not attached. Regular way delivery for municipal bonds is with the legal opinion attached. However, under MSRB Rule G-12, if, at the time of the trade, it is specified that the delivery will be made ex-legal, it is a good delivery. In this case, the bond will typically be stamped ex-legal. LO 17.d
A registered representative is convicted of misdemeanor DUI; therefore, A) the employing broker-dealer is likely to suspend the registered representative. B) this must be updated on the Form U4 within 10 days. C) this must be updated on the Form U4 within 30 days. D) updating of the Form U4 is not required.
D) updating of the Form U4 is not required. When the conviction is for a misdemeanor, only if it involves a financial matter is it considered a material event requiring an update to the Form U4. If this were a reportable offense, the updating would have to be done within 30 days. It would be highly unusual for a firm to discipline an associated person for this infraction. Even then, regulators are the ones who suspend a registration, not the member firm. LO 18.a
A client places a sell stop order good for the day only. Under NYSE rules, you must A) write an order ticket only if the order is executed. B) partially write an order ticket and complete only upon execution. C) partially write an order ticket and complete the ticket before market close. D) write an order ticket upon receipt of the order.
D) write an order ticket upon receipt of the order. Order tickets must be written and time stamped upon receipt of the order. LO 17.a
Which of the following securities can be traded in the third market? I. A closed-end investment company II. An exchange-traded fund III. An open-end investment company IV. A unit investment trust
I. A closed-end investment company II. An exchange-traded fund The third market is defined as the trading of listed securities over the counter. There is no secondary market trading in open-end investment companies and unit investment trusts. Although most exchange-traded funds (ETFs) are structured as open-end companies, unless something in the question is dealing with the ETF's structure, open-end will always refer to a mutual fund. LO 17.c
if one of the parties is unhappy with the result of a code of procedure violation they can
appeal to NAC (national adjudicatory council) WITH 25 DAYS and if they are still unhappy they can appeal to the SEC and if they are still unhappy they can appeal to the federal court
for a unresolved dispute, if the respondent fails to respond in 45 days that means that they
are barred from presenting any matter, arguments or defenses at the hearing
if an associated person is suspended, they
cannot remain associated with the firm in any capacity and cannot even be on the property
a customer sells 300 shares and 1 certificate for 280 shares this is a
underdelivery
corrospondence
written or electronic communication that is distributed or made available to 25 or fewer retail investors within any 30 calendar day period
300 share sale, would 1 300 share certificates be a good delivery?
yes
300 share sale, would 2 100 share certificates, 1 60 share certificate, and 1 40 share certificate be a good delivery?
yes
300 share sale, would 3 100 share certificates be a good delivery?
yes
300 share sale, would 6050 share certificates be a good delivery?
yes
