series 7 practice exam
The holder of a yield-based call option would be more likely to profit if
Holders of yield-based call options profit if rates rise. Prices of debt securities fall if rates rise.
Which of the following would not be considered institutional communications with the public?
Institutional communications specifically exclude internal communications. Communications with another member firm, a government entity such as a municipality, or with someone designated to act on behalf of one of your firm's institutional customers would all fall within the definition of institutional communications.
In most cases, a mutual fund is structured as a corporation. Because of certain tax regulations, it is important for the fund to compute its net investment income. That computation is
Interest plus dividends received on portfolio securities, minus the operating expenses of the fund.
One of your customers has asked you about trading penny stocks. After discussing the risks, the customer decides to go ahead. The firm sends the individual a copy of the special penny stock risk disclosure document. The firm needs the customer's signed and dated acknowledgment of receipt of the document. Trading in penny stocks may not begin in that account until
It is SEC Rule 15g-2 that requires the firm to wait at least two business days after sending the risk disclosure document before executing the first penny stock trade for a new customer. The $25,000 is the minimum equity in a pattern day trading account.
Which of the following is not a requirement to be included on a customer confirmation by the Municipal Securities Rulemaking Board (MSRB)?
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.
For tax-reporting purposes, qualified dividends are considered to be what type of income?
Portfolio income includes dividends, interest, and net capital gains derived from the sale of securities.
Which of the following statements regarding the Government National Mortgage Association (GNMA) is true?
Private lending institutions approved by GNMA originate eligible loans and sell the mortgage-backed securities to investors.
Filing with FINRA within 10 business days of first use is required for all of the following except
Real estate investment trusts (REITs) are not included in FINRA's list of retail communications requiring postfiling.
Regulation T applies to
Regulation T controls the credit that broker-dealers extend in all types of accounts and only applies to nonexempt securities.
All of the following are excluded from the FINRA filing requirement for communications with the public except
Retail communications, unless specifically exempted, must be filed with FINRA. There is no exemption for requiring a login to access. Correspondence does not need to be filed with FINRA nor does retail communications only identifying the member firm or posted on an online interactive forum.
An agent taking which of the following actions would be committing a violation?
Selling securities from a minor's custodial account without the custodian's consent but with the beneficial owner's consent
The Municipal Securities Rulemaking Board (MSRB) is authorized under the Securities Exchange Act of 1934 to make rules about all of the following except
The MSRB governs the practices of underwriting and trading municipal bonds. It does not govern municipal issuers.
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
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).
A customer requests that his broker-dealer hold his fully paid for stock. Which of the following are required?
The broker-dealer must segregate the customer's fully paid for securities and inform the customer that the securities can be withdrawn at any time.
The rate on an adjustable preferred stock may be indexed to
The dividend on an adjustable rate preferred stock is tied to a particular interest rate, and the Treasury bill rate is a common benchmark.
If an investor in the 27% federal marginal income tax bracket invests in municipal general obligation public purpose bonds nominally yielding 4.5%, what is the tax-equivalent yield?
The formula for computing tax-equivalent yield is: nominal yield ÷ (1 − federal marginal income tax rate). Let's plug in the numbers: 0.045 ÷ (1 − 0.27) = 0.045 ÷ 0.73 = 6.16%.
Which of the following documents would describe the roles of the general and limited partners in a limited partnership offering?
The partnership agreement
Reasons why a corporation might engage in a stock buy-back program would include all of these except
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.
ABC, with 3 million shares outstanding, reports after-tax earnings of $7.5 million. Annual cash dividends total $1 per share. The dividend payout ratio is
To compute this ratio, multiply the $1 dividend by 3 million shares to get the total dividend paid of $3 million. $3 million is 40% of the $7.5 million in earnings available to common stockholders.
An investor has an established margin account with a long market value of $6,500 and a debit balance of $3,750, with Regulation T at 50%. A maintenance call would be triggered if the long market value decreased below
To determine long market value at maintenance, divide the debit balance of $3,750 by 75% ($5,000).
The underwriting of most corporate issues is done on a negotiated basis. The investment banker who negotiates with the issuer on a firm commitment underwriting is known as
When a syndicate is formed, it is the responsibility of the syndicate manager to negotiate with the issuer and keep the syndicate records of the underwriting. You might also see this position referred to as the managing underwriter or the lead underwriter.
Yield quotes on collateralized mortgage obligations (CMOs) are based on
Yield quotes on CMOs are based on the tranche's expected life, not the average life of the mortgages in the pool backing all of the tranches.
All of the following trade with accrued interest except
Zero coupon bonds are issued at a deep discount from face value instead of providing semiannual interest payments. T-bonds, convertible bonds, and CDs all make periodic interest payments; thus, the seller receives any accrued interest from the buyer.
A direct participation program (DPP) would not be structured as
a C corporation
A customer places an order to buy 300 DWQ at 140 stop, but not over 140.25. This is
a buy stop limit order. The customer has entered a stop limit order. If the stock rises to the stop price of $140, the order is elected and then becomes a buy limit order at 140.25, meaning an order to buy at 140.25 or lower.
Mutual fund Class B shares assess
a deferred sales load. Class B shares carry a deferred sales load. This is sometimes referred to as a back-end load. Class A shares carry a front-end load. Class C shares charge a 12b-1 fee quarterly with a small back-end load in the first year.
Municipal bonds—known as dollar bonds—are generally quoted
as a percentage of par.
A registered representative noticed that a stock was approaching its resistance line. This is generally considered
bearish
For an out-of-the-money equity option expiring in seven months, the time value of the option will most likely be
equal to the option premium. An option premium consists of two factors. First is the intrinsic value (the amount the option is in the money). The balance of the premium represents the time value. An out-of-the-money option, by definition, has no intrinsic value. Therefore, the entire premium represents time value. The time value of an option will never be less than zero; it can only be zero or positive.
All of the following statements regarding collateralized mortgage obligations (CMOs) are true except
interest is paid semiannually. CMO holders are paid interest monthly.
The 5% markup policy applies to all of the following secondary market transactions except
municipal bond transactions.
Net overall debt of a municipality is
net direct debt plus overlapping debt.
A customer sells securities and uses the proceeds to buy more securities at the same cost. Under the 5% markup policy, the markup is calculated on
the total of both sides.
All of the following sources of revenue could be used to service general obligation debt except
user charges. Historically, municipalities get most of their revenues from property taxes (ad valorem taxes). Other sources of revenue include sales taxes, income taxes, gasoline taxes, license fees, fines, and assessments. User charges would be used to service revenue bonds.
If an investor interested primarily in speculation does not expect the price of DWQ stock to change, she will
write an uncovered straddle.
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
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.
If a customer has a margin account with a long position worth $20,000 and a debit balance of $8,000, what is the purchasing power of this customer's account?
4,000 The account has $12,000 of equity. If 50% of the market value is $10,000, the account has $2,000 of excess equity. When Regulation T is 50%, the purchasing power of excess equity is 2:1
Which of the following is a tax-qualified retirement plan for employees of nonprofit organizations?
403b
Which of the following is an equity security?
A REIT share is an equity security that represents undivided ownership in a portfolio of real estate investments. The other choices are debt securities.
Which of the following statements regarding a bond ladder strategy is correct?
A bond ladder strategy is a relatively easy way to immunize a portfolio against interest rate risk.
Which of the following would not be found in the underwriting of a new corporate bond issue?
A legal opinion
Which of the following statements regarding a bond trading flat is not true?
A municipal or corporate bond trading flat is trading without accrued interest. The bond may be an income bond, which normally pays no interest, or it may be a bond currently paying no interest because it is in default.
An investor purchased an interest in a limited partnership, paying $10,000 in cash and signing a recourse note to the partnership under a letter of credit for $40,000. Which of the following statements are true?
A recourse note means that the limited partner agrees to pay the note no matter what happens. He is legally liable for the $40,000, which makes both his tax basis and maximum loss potential $50,000.
A front-end sales load is defined as
A sales load is the difference between the public offering price and the net asset value per share of the fund.
A customer purchases five 6.25% U.S. Treasury notes at 98.24. How much will the customer receive on each interest payment date?
Although minimum purchase denominations can be less, always use par value ($1,000) for these calculations. A 6.25% bond pays $62.50 annually (6.25% × $1,000 = $62.50). Therefore, a customer purchasing five bonds receives $312.50 each year. Because Treasury notes pay semiannually, each interest payment equals $156.25.
A direct participation program (DPP) would not be structured as
Although most DPPs are structured as limited partnerships, they may also use the other business forms allowing flow-through of income and losses (s corporations and LLCs). Because the C corporation is a taxable entity, it is not used as the structure for a DPP.
In terms of the number of issues traded, the largest secondary market for securities is the over-the-counter market (OTC). Which of the following securities cannot be traded OTC?
Any security that trades in the secondary markets may be traded in the OTC market. That includes securities listed on the stock exchanges. Mutual funds (and variable annuities) are securities for which there is no secondary market trading. Shares (or units) in these securities are bought and redeemed through the issuer.
A technical analyst has been charting XYZ stock and notes that it fluctuates between $36 and $41. The last trade was at $39. If the analyst expects a breakout through resistance, which of the following orders should be placed?
Buy XYZ 42 Stop GTC
One of your clients saw an advertisement for a new offering. The fine print stated that this was available solely to accredited investors. You would explain that this is a private placement being offered under the exemption provided in SEC Rule
506C. Regulation D of the Securities Act of 1933 deals with private placements. There are two options. Rule 506 (c) permits advertising, but only if 100% of the investors are accredited investors. Rule 506(b) does not permit advertising, but it does allow up to 35 nonaccredited investors. Rule 144 covers the sale of restricted or control stock, and Rule 147 is the intrastate exemption. Neither of them makes any mention of accredited investors.
A customer writes 1 OEX (S&P 100) Jun 820 call at 13 and buys 1 OEX Jun 830 call at 6 when the index is trading at 826. The breakeven point is
827. To compute the breakeven point for a call spread, add the net premium (debit or credit) to the lower strike price (a net credit of 7 plus 820 equals a breakeven point of 827). This is a bear spread. The customer will profit if the index is below 827 at expiration.
Your client owns stock in the TXR Fund and has received dividends of $950 this year. The client has taken $450 of this and used it to purchase additional shares of TXR. For tax purposes, your client must report
950. All of the dividends received must be reported. Reinvesting any or all of the money in TXR shares does not reduce the client's tax liability on dividends received.
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?
Average cost basis
A customer is short 100 shares of DFI at 35, and the market price is 35.25. If she believes a near-term rally will occur, which of the following strategies would best hedge her position?
Buy a DFI call with an exercise price of 35. The best hedge for a short stock position is to buy a call, not sell a put. If the stock price rises, the investor has the right to exercise the call and use the stock to close out the short position. To obtain the most protection, the call's strike price should equal the short sale price.
In a new margin account, a customer sells short $60,000 worth of ABC stock and deposits $30,000 to meet the Regulation T requirement. If the value of ABC falls to $55,000, the special memorandum account (SMA) balance in the account would be
For every $1 decrease in market value in a short account, $1.50 of SMA is created. Therefore, if the market value falls by $5,000, the SMA balance would be $7,500.
A customer who seeks to supplement his retirement income and has a high risk tolerance would likely find which of the following securities most suitable?
High-yield bonds yield more than investment-grade bonds. Because the client has a high risk tolerance, these bonds are more appropriate than investment-grade bonds with their lower yields. Unless something indicates a high tax bracket, the answer will not be municipal bonds, and Treasury receipts are low risk with no current income.
Compared to defined contribution plans, defined benefit plans give the highest return to employees who
Highly compensated employees who have fewer years until retirement will experience advantages over other employees with this type of plan. Their retirement benefits are predefined and generally linked to the compensation level they attained while employed. After a short time with the company, a person may qualify for benefits comparable to those it would have taken many years to attain under a defined contribution plan.
If a customer buys a municipal bond at 110, maturing in eight years, but sells the bond six years later at 103½, the customer will have
Municipal bonds that are purchased at a premium must be amortized. This bond has a premium of $100, which over eight years, amounts to $12.50 per year. The cost basis of the bond at the time of the sale is $1,100 − (6 × $12.50), or $1,025. If the bond is sold for $1,035, the customer has a gain of $10 per bond.
The KPL Corporation is considering having its stock listed on the New York Stock Exchange (NYSE). Who will make the final decision as to whether it will be listed?
NYSE. The NYSE has certain requirements that a company must meet before its stock can be considered for listing. Because the NYSE sets the requirements, it must make the final decision
To qualify for favorable tax treatment, real estate investment trusts (REITs) must do all of the following except
REITs engage in real estate activities and can qualify for favorable tax treatment if they invest at least 75% of their assets in real estate-related activities and pass through at least 90% of their net investment income to their shareholders. Although they can pass through income, they cannot pass through any losses.
Under SEC rules, soft dollars may be used to pay for all of the following except
Soft dollars is a term used to describe payments made by broker-dealers to investment advisers in return for research and other eligible services
A customer wants to buy $12,000 worth of stock using other marginable securities owned as collateral for the purchase. With Regulation T at 50%, what must the current market value of the securities deposited be?
Stock buys stock dollar for dollar. With $12,000 worth of fully paid marginable securities, the customer can borrow $6,000 against them. The $6,000 can be the 50% initial requirement for the additional $12,000 purchase.
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?
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.
A customer has contributed $1,000 a year for 10 years to his tax-deferred nonqualified variable annuity. The value of the separate account is now $30,000. If the customer takes a withdrawal of $10,000, what are the tax consequences?
The $30,000 contract value represents $10,000 of contributions and $20,000 of earnings. When a partial withdrawal is made from an annuity, the earnings are considered to be taken out first for tax purposes (or last-in, first-out). Therefore, ordinary income taxes will apply to the entire $10,000. In addition, if the customer is not at least 59½, there will be an additional tax penalty of 10%.
Your customer is interested in up-to-the-minute price information and transparency of municipal securities transactions. This information is available through third-party data vendors, with pricing information captured by
The MSRB's RTRS makes pricing information for eligible municipal bond trades available to the marketplace through third-party data vendors within 15 minutes of a trade.
Which of the following is applicable to the Nasdaq PHLX?
The Nasdaq PHLX is a regional exchange operated by Nasdaq where equity securities and options contracts are traded both electronically and on the floor.
If an investor has an established margin account with a current market value of $4,400 and a debit balance of $1,750 with Regulation T at 50%, how much buying power does the investor have in the account?
The Regulation T requirement is 50% of the current market value of $4,400, which equals $2,200. Equity equals the current market value of $4,400 minus the debit balance of $1,750, which equals $2,650. Excess equity is calculated by subtracting the Regulation T requirement of $2,200 from the current equity of $2,650, which equals $450. Buying power is then calculated by multiplying the excess equity of $450 by 2, which equals $900.
If a customer buys 100 XYZ at 49 and writes 1 XYZ Nov 50 call, receiving $350 in premiums, the breakeven point is
This is a covered call, so the investor is protected against declining stock prices to the extent of the premium received, and the breakeven is $45.50 $49 − $3.50).
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
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).
ll of the following statements regarding Treasury bills are correct except
Treasury bills trade at a discount to par and are 4, 13, or 26 weeks in original maturity. (Maximum maturities are subject to change.) They are a direct obligation of the U.S. government and are noncallable.
According to investment company rules, open-end investment companies may not distribute long-term capital gains to their shareholders more frequently than
Under the Investment Company Act of 1940, investment companies may not distribute long-term capital gains more frequently than once per year.
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
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.
When is the sales charge deducted from purchases of mutual fund shares made under a letter of intent?
When each purchase is made
An investor purchases a municipal bond at par to yield 5.5% to maturity. Two years later, if he sells the bonds at a price equivalent to a 5% yield to maturity, the investor incurs
Yields fall as bond prices rise. Because the yield to maturity has dropped, the bond is trading at a higher price than when it was purchased. The consequence of the sale is a capital gain because the investor sold the bond that was purchased for par at a premium.
If a customer wishes to open a cash account in her name only and allow her spouse to make purchases and receive checks in his name only, she must instruct her broker-dealer to open
a cash account with full power of attorney
You sell a municipal bond that has been advance refunded. It will be called at 102 four years from now. On the confirmation, the yield must be stated as the yield to
call. Municipal Securities Rulemaking Board rules require that, when a call date has been fixed by a prerefunding, the yield to call so fixed must be reflected on the confirmation statement. 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 old maturity on the bond has no further significance.
Reinvestment risk is the chance that, after purchasing a bond, interest rates
fall. Reinvestment risk is the danger that after purchasing a bond, interest rates will fall. This means that the fixed interest payments received over the remaining life of the bond will be reinvested at lower rates. The good news is that the price of the bond has probably risen due to falling rates.
A market order to purchase 100 shares of XYZ common stock is
good for that day only.
official statement of a new issue muni bond
identifies the issue's purpose, the source from which the interest and principal will be repaid, information regarding the issuer's financial and economic background, and information relating to the issue's creditworthiness.
One of your customers has decided to commit $10,000 to fixed income. She is trying to decide if it makes more sense to invest in the bonds of a single corporate issuer or to buy an exchange-traded fund (ETF) tracking a corporate bond index. You could explain that the purchase of the ETF results in the greatest reduction of
liquidity risk
Which of the following statements is an accurate interpretation of FINRA Conduct Rules governing the use of communications with the public?
nstitutional communications need not be preapproved by a principal.
A confirmation of each customer trade must be given or sent
on or before the settlement date.
An investor who is bearish on the outlook for Fernweh Travel Services (FTS) sells 400 shares short at $52 per share. Three months later, the market price of FTS shares is $58. Under FINRA rules, a maintenance call will be issued when the price of FTS shares
rises above $60. The calculation to find the short margin account maintenance level is credit balance ÷ 130% (or 1.3). The price per share level will be the same whether it is 100 shares or 400 shares so we'll use 100 shares in our calculation. Keeping the math simple, the credit balance in a short account is the sale proceeds ($5,200 in our question) plus the 50% Regulation T requirement ($2,600) for a total of $7,800. Divide that credit balance by 1.3 and the quotient is $6,000 (or $60 per share). In a short margin account, things start turning bad as the price of the stock rises. This account will receive a maintenance call if the market price of FTS increases by more than $2 per share from its current trading level of $58.
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,
the account can be opened if the client has already applied for a number.
All of the following would increase the SMA in a customer's long margin account except
the receipt of a stock dividend. SMA changes when there is a monetary change to the account. Receiving a stock dividend (or a stock split) does not involve any money or market value change to the account. A cash dividend adds equity to the account. An increase to the market value increases the equity, as does a decrease to the debit balance.
All of the following concerning collateralized mortgage obligations (CMOs) are true except
z-tranche CMOs carry the lowest prepayment risk. 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.
