STUDY THESES
Which of the following statements regarding the growth style of investing is correct? A) Growth managers look for a high-dividend yield and often take a contrarian approach. B) Growth managers focus on the denominator in the P/E ratio, searching for firms and industries where high expected earnings growth will drive the stock price up even higher. C) Growth managers believe that, although a firm's earnings are depressed now, the earnings will rise in the future as they revert to the historical range. D) Growth managers focus on the numerator in the P/E ratio, desiring a low stock price relative to earnings or book value of assets.
B High P/E ratios are one of the keynotes of growth investing. The other choices here all relate to the value style.
Under the Uniform Securities Act, a private placement is considered an exempt transaction if A) no payment is made with any purchase B) the number of noninstitutional offers is limited to a maximum of 10 in any 12-month period C) the security is rated in the top 3 grades by a recognized rating agency D) the sale is unsolicited
B The transaction exemption available to private placements requires that no more than 10 offers be made in any 12-month period to noninstitutional purchasers. Whether individual or institutional, payment is made, but commissions may be paid only on institutional sales.
Which of the following are characteristics of newly issued warrants? A) No intrinsic value and no time value B) Time value, but no intrinsic value C) Time value and intrinsic value D) Intrinsic value, but no time value
B Warrants could be thought of as call options with a long expiration period. They are always issued with a strike price in excess of the current market value, so there is no intrinsic value. One could say that on issuance, they are always out-of-the-money. The only value is in the time to expiration, usually several years or longer.
A stock is currently worth $75. If the stock was purchased one year ago for $60, and the stock paid a $1.50 dividend over the course of the year, what is the holding period return? A) 24.0% B) 22.0% C) 27.5% D) 25.0%
C (75 − 60 + 1.50) ÷ 60 = 0.2750, or 27.5%.
Which of the following business accounts does not require considering the suitability of the owners? A) C corporation B) Sole proprietorship C) General partnership D) S corporation
C Because the C corporation is an entity separate from its shareholders, suitability for a C corporation account is based solely on the company itself. All of the others provide flow-through of income and loss to the individual owners so it is important to view the collective suitability of the individual owners (or single owner in the case of the sole proprietorship).
Which of the following would NOT be considered a defensive security? A) Food chain stock B) Tobacco stock C) Steel company stock D) Utility company stock
C Steel is cyclical and is not considered defensive; defensive stocks are generally less affected by the business cycle.
Under the USA, when one is referring to a security that is guaranteed, the guarantee applies to capital gains to be expected by holding the specified security dividends to be paid on the specified stock interest and principal payment on the specified bond reimbursement by the firm for any losses suffered while holding that security A) I and IV B) I and III C) II and III D) II and IV
C The USA defines the term guaranteed as meaning guaranteed as to payment of principal, interest, or dividends.
A company with 20 million shares outstanding paid $36 million in dividends. If the current market value of the company's shares is $36, the current yield is A) 2% B) 10% C) 5% D) not determinable from the information given
C The current yield formula is annual dividends per share divided by current market price. The dividends per share are $36 million ÷ 20 million shares = $1.80 per share. Current yield is $1.80 ÷ $36.00 = 5%.
One problem facing agent and client alike is determining how much life insurance is necessary to meet future needs. One tool that is useful for making that determination is A) a premium purchase analysis B) a mortality table C) a statement of beneficiary needs D) a life insurance capital needs analysis
D A life insurance capital needs analysis takes into consideration the future needs of the insured and family and then factors in how much needs to be filled in by life insurance.
During the analysis of XYZ stock, a technical analyst concludes that XYZ's support level has been broken. Being a technician, the most appropriate decision should be to A) rate the stock as a hold. B) rate the stock as a buy. C) purchase additional shares of the stock. D) rate the stock as a sell.
D If a support level is broken, this provides a sell signal. Once the stock has lost its support, expectations are that it will continue to fall. The breaking of a resistance level, as the price of the asset gathers momentum to the upside, indicates a buying opportunity.
Which of the following would NOT be considered an unethical practice for a registered investment adviser? A) Unfairly criticizing an estate plan prepared by the client's attorney B) Acting as a principal in a recommended transaction without consent of the client prior to completion of the trade C) Failing to notify the Administrator that the adviser is maintaining custody of client funds and securities D) Acting as a trustee for a client's trust
D Please notice the word not in the question. Although acting as a trustee for the client's trust is probably not a good business practice, it is not included in the list of unethical activities for an adviser.
An investment adviser representative recommending investments for an IRA should give primary consideration to A) maximum current income B) the beneficiary's tax status C) liquidity D) risk
D Risk is the key consideration in an IRA or other retirement plan. These accounts seek to preserve capital first and then to achieve a reasonable rate of return.
The purpose of portfolio rebalancing is used to make sure that A) the portfolio responds to major swings in the business cycle B) the dollar amounts invested in various asset classes remain constant C) the total value of the portfolio does not fall below a certain amount D) the percentage of the portfolio invested in various asset classes remains constant
D The technique that adjusts the portfolio to maintain constant percentages in the amounts invested in various asset classes is portfolio rebalancing.
The unethical business practice of purchasing and selling a security for the purpose of creating an appearance of market activity is known as A) arbitrage B) spinning C) matched orders D) front running
A A "matched order," sometimes known as "painting the tape," is defined as when trades are coordinated for the purchase or sale of a security. Essentially an order is placed with the knowledge that another order (or orders) of substantially the same size, at substantially the same time, and at substantially the same price, has been or will be entered. The effect is to cause an appearance of market activity and price movement that is not market driven.
A Schedule K-1 would be received by an individual with an ownership interest in all of the following except A) a C corporation. B) a partnership. C) an LLC. D) an S corporation.
A C corporations pay tax on their earnings; the other business types listed here flow through the income to their owners. The owner's share of income (or loss) is reported to them on the Schedule K-1. A shareholder in a C corporation who receives dividends will have that reported on a Form 1099.
An individual is a participant in the 401(k) plan offered by her employer. If she were to invest $400 per month into a large-cap growth fund, she would be A) dollar cost averaging B) using a tactical asset allocation style C) matching her employer's contribution D) following a constant ratio plan
A Dollar cost averaging (DCA) is a funding method that consists of investing the same amount of money at fixed intervals into the same investment. Almost all participants in 401(k) plans obtain the benefits of DCA because their contributions are made from regular payroll deductions. It is possible that the portfolio managers of the large-cap fund use a tactical style, but the investor is not buying and selling the fund shares to try to time the market.
An 8% corporate bond is offered on a 8.25 basis. Which of the following statements are TRUE? Nominal yield is higher than YTM. Current yield is higher than nominal yield. Nominal yield is lower than YTM. Current yield is lower than nominal yield. A) I and III B) II and III C) II and IV D) I and IV
B A bond offered on an 8.25 basis is the same as at a YTM of 8.25%. Because the yield quoted is higher than the 8% coupon, the bond is trading at discount to par. For discount bonds, the nominal yield is lower than both the current yield and the yield to maturity.
If an investor wants to invest in the electronics industry but does not want to limit his investments to only one or two companies, which type of fund would be most suitable? A) Money market B) Specialized C) Hedge D) Bond
B A specialized or sector fund invests 25% or more of its assets in a particular region or industry.
For which of the following business entities would suitability be based on the objectives of all the owners on a collective basis? A) C corporation B) General partnership C) Sole proprietorship D) Pension plan
B Because all the partners in a general partnership share collective liability, the investment policy to be followed in the business's account is based on the collective suitability of all partners. Although the suitability is based on the owner of a sole proprietorship, there is only one owner, so a question asking about collective suitability doesn't ring true for that.
All of the following statements regarding bonds selling at a discount are correct EXCEPT A) they will appreciate more than comparable bonds selling at a premium if interest rates fall B) they can indicate that interest rates have risen C) they are more likely to be called than comparable bonds selling at a premium D) they can indicate that the issuer's credit rating has fallen
C Issuers tend to call bonds with higher coupons. Bonds trading at a premium have higher coupons than those trading at a discount (and are more likely to be called—wouldn't you pay off your high interest debt before the low interest debt?). The longer the duration, the more volatile the bond's price. Lower coupon rates mean a longer duration. If rates rise, prices fall. If a bond's rating falls, so does its price.
Which of the following would NOT be considered a derivative? A) Warrants B) Forwards C) Options D) ETFs
D
When a bank's reserve account is running low, it might choose to borrow from the Fed. When doing so, the bank will be charged A) the call loan rate B) the discount rate C) the federal funds rate D) the prime rate
When a bank borrows from the Federal Reserve, it does so at the discount rate. When borrowing from another bank, it is at the federal funds rate. The prime rate is charged by the banks to their stronger borrowers, and the call loan rate is what broker-dealers pay on stock market collateral pledged for margin accounts.
A client owning shares of a closed-end investment company entering an order to liquidate the position would receive a price based on A) the offering price computed after the order is received. B) the previous net asset value per share. C) the next computed net asset value per share. D) supply and demand for the shares.
D Closed-end investment company shares are traded in the same manner as any other corporate stock. That is, the price received when selling or the price paid when buying, is determined by supply and demand and has no direct relation to the net asset value. If this question was asking about an open-end investment company, the choice would be the next computed NAV, not offering price (that is the price when the investor is buying, not selling).
Formula methods of investing that involve selling equities in rising markets and buying them in falling markets would include constant dollar plan constant ratio plan dollar cost averaging DRIPs A) I and IV B) II and III C) III and IV D) I and II
D In both a constant dollar plan and a constant ratio plan, the goal is to maintain a balance between equity and debt securities in the portfolio. This is done by selling equities as their price rises (the proportion has now changed) and buying equities when the prices fall to get back to the constant dollar or ratio.
What is the maximum amount a taxpayer may contribute each year to a Coverdell Education Savings Account (ESA) for one student? A) $1,000.00 B) $500.00 C) $100.00 D) $2,000.00
D The most an individual may contribute to an ESA for one student is $2,000 per year. There is no limit on the number of students on whose behalf a taxpayer may contribute, however. A taxpayer with 5 grandchildren could contribute a total of $10,000 to 5 ESAs.
Which of the following would best describes a Yankee bond? A) U.S. dollar-denominated bond issued by a U.S. entity outside the United States B) U.S. dollar-denominated bond issued by a U.S. entity inside the United States C) U.S. dollar-denominated bond issued by a non-U.S. entity outside the United States D) U.S. dollar-denominated bond issued by a non-U.S. entity inside the United States
D Yankee bonds are issued by non-U.S. entities in marketplaces inside the United States. The bonds are issued in U.S. dollars meaning these foreign issuers will have currency risk if the dollar drops in value against their local currency.
Looking at the balance sheet, a corporation builds its capital structure will all of the following except A) cash. B) capital stock. C) retained earnings. D) long-term debt.
A A corporation's capital structure consists of its long-term debt plus shareholders' equity.
A bond is selling at a premium over par value. Therefore, its A) current yield is less than its nominal yield B) none of the above C) yield to maturity is greater than its current yield D) nominal yield is less than its current yield
A Any bond selling at a premium will yield less than the coupon rate (nominal yield). Conversely, of course, a bond trading at a discount will certainly yield more. Remember, there is an inverse relationship between bond prices and bond yields.
In order to be in compliance with the rules, an investment adviser would have to disclose that the firm was acting in a principal capacity when A) the trade is being executed by an officer or partner of the firm B) directing securities transactions to an affiliated broker-dealer C) purchasing shares directly from advisory clients D) engaging in an agency cross transaction
C There are 2 principals in every securities trade: the buyer and the seller. In this case, buying shares directly from clients who own those shares places the IA in the position of being one of the principals. This is an action that must be disclosed in writing to the client no later than completion of the transaction. In an agency cross transaction, the firm is acting as an agent—that's the reason for the term.
A woman wants to buy from an agent who is not registered in her state. She decides to use a friend's address in the state in which the agent is licensed. This action is A) not acceptable because the other party does not know you are using the address B) acceptable as long as she has her friend's permission to use the address C) not acceptable because there are no circumstances under which you are permitted to use someone else's address as yours D) acceptable because the agent can do business only with those who have a residence address in those states in which he is registered
C Use of a fictitious home address is not only a red flag, it is illegal under the federal customer identification program (CIP).
A state-registered investment adviser offers wrap fee programs to certain clients. Which of the following statements about wrap fee arrangements is NOT true? A) Because this investment adviser offers wrap fee programs, it must make certain annual disclosures to the SEC. B) Material changes to wrap fee programs must be filed promptly with the Administrator. C) Nonmaterial changes to wrap fee programs must be disclosed to the Administrator within 90 days of fiscal year end. D) Information on Appendix 1 of Form ADV Part 2A must also be contained in client disclosure documents.
A As a state-registered investment adviser, all filings are with the Administrator, not the SEC. In the case of wrap fees, the form used is Appendix 1 of ADV Part 2A. Every investment adviser, state-registered or federal covered, must update the information on file within 90 days of the end of the adviser's fiscal year. One of the most important parts of this is the annual updating amendment regarding eligibility to register with the SEC or remain state-registered. Even non-material information is included. However, the customer brochure, or a summary, needs to be delivered only if there are material changes.
According to the Uniform Securities Act, all of the following are violations of suitability requirements EXCEPT A) failing to know the terms and conditions of the customer's will B) failing to identify customer objectives C) failing to make reasonable inquiry of the customer's security holdings D) failing to determine the customer's ability to assume risk
A Failure to identify objectives or to obtain corresponding financial information is considered contrary to the know-your-customer rule. Agents should ask if the customer has a will, but failing to do so is not a violation of suitability requirements.
Tax considerations are frequently an important factor when determining appropriate recommendations for advisory clients. In which of the following accounts is the tax status of the individual a critical factor? An account opened in the name of the XYZ Corporation, organized as a C corporation, by their chief investment officer An account opened by a sole proprietor in the name of the company An account opened in the name of ABC Corporation, an S corporation by one of its shareholders An account opened in the name of the GHI Fund, a regulated investment company, by the fund's portfolio manager A) II and III B) I and II C) III and IV D) I and IV
A Sole proprietorships and S corporations have their income and losses pass through to the owners. Therefore, an account opened in the name of the business will create tax consequences for the owners. Regular, or C corporations, pay taxes on their earnings and, even though a regulated investment company passes through at least 90% of its earnings to shareholders, the tax situation of each individual shareholder of the fund is of no consideration when making recommendations to the fund's portfolio manager.
A day order is entered to buy 500 LMN at 24.35. By the close, the firm has 100 shares at 24.25 and 200 at 24.35. If the remainder is unfilled, what is the outcome? A) The customer may reject the incomplete order unless the broker-dealer can guarantee filling the remainder by the end of the day. B) The customer may reject the incomplete order unless the remainder can be filled within 3 business days. C) The customer may demand that the firm deliver the remaining shares at 24.35. D) The customer must accept the execution for 300 shares, and the remainder of the order is canceled after the close.
D
A bond analyst reports that there is currently an inverted yield curve. That would mean A) the closer the bond is to its maturity date, the lower the yield. B) the further the bond is from its maturity date, the higher the yield. C) bonds with intermediate maturities have the highest yields. D) the closer the bond is to its maturity date, the higher the yield.
D An inverted yield curve shows near-term maturities with higher yields than those of long-term maturities. Sometimes called a negative yield curve, it is usually an indication that interest rates are near a peak and the trend should soon reverse.
USATrade Securities, a FINRA member broker-dealer, is registered in 10 Midwest states. Regarding financial requirements, USATrade must meet those of A) FINRA B) the state with the most stringent financial requirements C) the state in which the principal office of the member is located D) the SEC
D It may be assumed that a broker-dealer member of FINRA is also registered with the SEC. As such, when it comes to financial requirements, bonding, recordkeeping, and so forth, the SEC's requirements always trump those of the states.
Which of the following would be used to provide end-of-life instructions once a person becomes incapacitated? A) An incapacitated will B) A living trust C) A durable power of attorney D) A living will
D The purpose of a living will is to give clear instructions regarding end-of-life decisions, such as organ donation or when to "pull the plug." There is no such thing as an incapacitated will. A living trust deals with how assets are distributed, and a durable power of attorney grants authorization to a person to legally act on behalf of someone who cannot do so.
With respect to the specific commodity that is the subject of the contract, all of the following are standardized parts to an exchange-traded futures contract except A) the market price. B) the quantity. C) the quality. D) the time for delivery.
A It is the delivery price which is standardized, not the market price (that is continuously fluctuating). Exchange-traded futures contracts offer standardized quantities and qualities (grade of the commodity) as well as a standardized time for delivery.
One of the benefits of adding precious metals to an investor's portfolio is A) a potential inflation hedge. B) low transaction costs. C) generous income. D) a high correlation to the stock market.
A Precious metals are traditionally viewed as a hedge against inflation. One of their benefits is that they have a low correlation with the stock market. Transaction costs for precious metals tend to be higher than securities—the dealer spreads can be relatively high. One significant negative is that these investments generate no income.
It would not be considered an unethical business practice under NASAA's policies for an investment adviser to charge fees as well as commissions based on an hourly rate based on a percentage of the change in value of funds from quarter to quarter based on a percentage of the aggregate value of funds under management A) I, II, and IV B) I and IV C) III and IV D) II and III
A Unless a specific exception is referred to in the question, fees based on a share of capital gains or appreciation in an account are prohibited. The other choices are acceptable fee structures. An adviser may charge commissions and fees as long as the fact is clearly disclosed.
Stock prices in the over-the-counter market are determined by A) the 5% markup policy B) negotiation C) an auction D) a competitive bid
B The 5% markup policy is a FINRA policy regulating commissions and markups, not prices. The OTC market is considered to be a negotiated market in contrast to a stock exchange, which is an auction market.
Which of the following is the risk that diminishes through portfolio diversification? A) Interest rate risk B) Unsystematic risk C) Systematic risk D) Purchasing power risk
B Unsystematic risk (diversifiable risk) is the risk that is eliminated when the investor builds a well-diversified portfolio. Interest rate risk and purchasing power risk are examples of systematic (nondiversifiable risk).
Which of the following investments is required by law to have at least 75% of its assets represented by real estate assets such as real property or loans secured by real property, cash, and U.S. government securities? A) Real estate money market fund B) Real estate sector fund C) Real estate investment trust D) Mutual fund with the name, MNO Real Estate Investments Fund
C REITs have a requirement that at least 75% of their assets include real property or loans secured by real property as well as cash and U.S. government securities. Specialized (or sector) funds are generally required to have at least 25% of their assets in the area of specialization. This should not be confused with the "names" rule (35d-1) of the Investment Company Act of 1940. The rule requires a registered investment company with a name suggesting that the company focuses on a particular type of investment (e.g., an investment company that calls itself the ABC Stock Fund, the XYZ Bond Fund, or the QRS U.S. Government Fund) to invest at least 80% of its assets in the type of investment suggested by its name. Please note: The names rule is not in your material - it is not tested on the exam. This question is an example of how the exam will sometimes include in the answer choices an incorrect reference to a topic you haven't seen. You need to focus on the correct information.
The yield to maturity of a bond represents the bond's A) annualized rate of return. B) net present value (NPV). C) internal rate of return (IRR). D) real rate of return.
C The yield to maturity (YTM), or internal rate of return, of a bond is the total return earned on a bond that is held to maturity. A major assumption when calculating YTM is that all interest payments on the bond are reinvested at the calculated YTM. For example, if the calculated YTM is 7%, any interest payments generated from the bond are also assumed to be reinvested at 7%. The NPV indicates how the market price of the bond compares to its present value. The real rate of return, often called the inflation-adjusted return, compares the actual return with the inflation rate. The annualized return is the return an investor would have received had he held an investment for one year.
A firm declares a $3.00 cash dividend to its shareholders. The firm has issued dividends of only $.07 per share for each of the last 15 quarters, and market analysts had anticipated a similar dividend this quarter. In an efficient market, one would expect A) no price change before or after the announcement. B) a price decrease after the announcement. C) a price change upon the announcement. D) a price increase before the announcement.
C In an efficient market, the price of the stock will represent all information that is public. Because the increase in the dividend was not public knowledge until it was declared, no price change would take place before the announcement. A price change, representing the increase in dividends, would be expected immediately after the information became public.
Which of the following might be used by an analyst to approximate a reasonable price for a common stock? A) Yield to maturity B) Par value C) The dividend discount model D) Book value per share
C The simplest model for valuing equity is the dividend discount model—the value of a stock is the present value of expected divi¬dends on it. Yield to maturity only applies to debt securities with a fixed maturity date. The par value of a common stock has nothing to do with its market price. Although fundamental analysts will examine a company's book value per share, it generally has little or no bearing on the current market price of the stock
Which of the following statements are TRUE? Systematic risk can be diversified away. Systematic risk cannot be diversified away. Unsystematic risk can be diversified away. Unsystematic risk cannot be diversified away. A) II and IV B) I and IV C) I and III D) II and III
D
An investor owns a 2x leveraged reverse ETF. If the underlying index should increase in value, A) the fund shares will decrease in value B) the fund shares will also increase in value C) the fund shares will decrease in value by a factor of 2 D) there is no correlation between the fund and the value of the index
C A reverse, or inverse, fund will move in the opposite direction of the underlying index. Because this is a 2x (2 times) leveraged fund, it will move at a rate that is twice that of the index.
Among the provisions of the Investment Company Act of 1940 designed to protect the interests of investors is the provision that A) communications with the public must be approved by FINRA before its use B) selection of company investments must be approved by SEC C) for diversification purposes, an investment company may own up to 10% of the shares of another investment company D) any change in fundamental investment policy must be approved by stockholders
D One of the requirements of the Investment Company Act of 1940 is that an investment company cannot change its investment policy without approval of a majority vote of the shareholders. For example, the board of directors of a growth fund could not change the fund's investment objective to income without that approval. This has the effect of offering protection to the investors that they won't be "blindsided" by the board or the portfolio manager. On this exam, you shouldn't expect to see anything "approved" by the SEC as a correct answer. An investment company may own up to 3% of another investment company, not 10%. Even though FINRA rules do require approval of investment company communications with the public, such approval is not part of the Investment Company Act of 1940.
Under the Securities Exchange Act of 1934, which of the following is (are) TRUE regarding the authority of the SEC to suspend trading? The SEC may suspend all trading on a specific exchange for up to 90 days. The SEC may summarily suspend trading on a particular nonexempt security for up to 10 days. The SEC may suspend trading on exempt securities. A) I only B) I, II, and III C) I and III D) I and II
D The SEC may suspend all trading on a specific exchange for up to 90 days with prior notification of the president of the United States and may summarily suspend securities trading in a registered security listed on a stock exchange for up to 10 days. The SEC does not have the authority to suspend trading in exempt securities.
The SEC has determined that advertising regarding past recommendations made by investment advisers is misleading if results do not reflect the deduction of fees actual market conditions during the referenced period are not disclosed the advertisement did not reflect performance for a minimum period of 3 years the advertisement did not disclose that it applied to only a specific group of clients A) I, II, and IV B) II and IV C) I and II D) I, II, III, and IV
A Advertising that reflects past performance must show a minimum period of 1 year, not 3. All investment advisers' advertising must reflect deduction of fees; disclose the specific group of clients to which it applies, if applicable; and state actual market conditions during the referenced period.
When analyzing a security's standard deviation, which of the following statements accurately describes observations according to a normal frequency distribution curve? A) Approximately 97.5% of all observations will be within two standard deviations on either side of the mean. B) Approximately two-thirds, or 68%, of observations will be within one standard deviation on either side of the mean. C) Approximately 97.5% of all observations will be within three standard deviations of the mean. D) Approximately 95.5% of all observations will be within three standard deviations of the mean.
B Approximately two-thirds, or 68.26%, of observations will be within one standard deviation on either side of the mean. Approximately 95% will be within two standard deviations and approximately 99% will be within three.
Lisa Brownard is considering investing in gold. She owns a portfolio of stocks, bonds, and money market securities. Relative to her existing portfolio, the primary benefit of the gold investment is most likely A) gold is a renewable resource, so Brownard can profit from the investment for many years. B) low correlation between traditional asset returns and gold. C) the investment horizon is longer than that of stocks and bonds, balancing the duration of the portfolio. D) gold values are tied to cyclical industries.
B The returns on gold and other precious metals exhibit low correlation with stock and bond returns. This is generally cited as the key advantage to investing in hard assets. Cyclicality and a long investment horizon are disadvantages of gold investments. Gold is not a renewable resource.
An analyst would use the discounted cash flow method in an attempt to find A) the current market price of a security. B) the current rate of return of a security. C) the fair value of a security. D) the cash flow from operations.
C DCF uses the present value of future cash flows, based on a specified discount (interest) rate, to evaluate the price that a security should be selling for in the market. If the current market price of the security is less than this value, it has a positive net present value (NPV) and should be a good investment. The opposite is true if there is a negative NPV (the market price is higher than that computed under the DCF method)
Which of the following could be a red flag regarding identity theft? Receipt of a credit card for which no application was made Receipt of a replacement credit card 2 months before the expiration date of the current card Receipt of a notice of a change of address on a credit card account that was not made by the account holder Receipt of a notice from the credit card company of an offer for a 0% balance transfer A) III and IV B) II and IV C) I and III D) I and II
C When a credit card is received (and the recipient did not file an application), or a notice is received of a change of address (and the account holder's address has not been changed), a red flag should go up indicating possible identity theft. Replacement cards are expected before the current card's expiration date, and credit card companies often send offers for balance transfers at low rates.
Under the Uniform Securities Act, which of the following qualifies as an investment adviser representative? A) An individual who renders fee-based advice on precious metals B) An agent who offers incidental advice on securities as part of his sales commissions C) An employee, although highly skilled in evaluating securities, solely performs administrative or clerical functions for an investment adviser D) A solicitor for an investment advisory firm who is paid a fee for his services
D If the goal is obtaining clients for the investment adviser, a solicitor is considered an investment adviser representative under the Uniform Securities Act. An employee who performs clerical or administrative functions only is not an investment adviser representative. Precious metals are not securities, and a person advising on them is not considered an IAR. An agent is a representative of a broker-dealer.
Which of the following statements regarding the Sharpe ratio is TRUE? A) The Sharpe ratio uses beta in its formula. B) Portfolios with lower Sharpe ratios provided higher excess returns per unit of risk assumed than those with higher Sharpe ratios. C) The Sharpe ratio is often used to measure risk-adjusted return of an entire portfolio. D) The Sharpe ratio cannot be used to measure risk-adjusted performance for a single security
C The Sharpe ratio is used to measure risk-adjusted performance of either a portfolio or an individual security. The Sharpe ratio uses standard deviation as the denominator in its formula: the higher the Sharpe ratio, the better the portfolio or security has performed on a risk-adjusted basis.
A securities analyst's stock selection method is to begin by looking for superior companies, regardless of their industry sector or the condition of the overall economy. In so doing, this analyst is using the A) optimal portfolio approach. B) business cycle approach. C) bottom-up approach. D) top-down approach.
C This is the basic approach of bottom-up analysis. Rather than focusing the attention on the overall market (the "macro" view of the economy) or the sectors that are likely to outperform, this approach seeks to identify, usually based on the company's fundamentals, the most attractive individual stocks.
A 47-year-old investor purchases a single premium deferred variable annuity from the ABC Insurance Company with an initial premium payment of $25,000. Six years later, a 1035 exchange is made to an annuity offered by the XYZ Insurance Company when the value of the account is $35,000. Seven years later, the account has a current value of $50,000 and the investor withdraws $20,000. The tax consequence of this withdrawal is A) ordinary income tax on $20,000. B) ordinary income tax on $15,000. C) ordinary income tax on $20,000 plus a 10% penalty. D) no tax until the withdrawal exceeds $25,000.
A Withdrawals from nonqualified annuities (all annuities on the exam are nonqualified unless otherwise specified) are taxed on a LIFO basis. That is, the last money in (the earnings) is considered the first money withdrawn. The investor's cost is $25,000. The 1035 exchange doesn't affect the cost basis because it is nontaxable. Therefore, with the account currently valued at $50,000, the first $25,000 withdrawn is from the earnings. That makes all of the $20,000 in this question taxable as ordinary income. What about the 10% tax penalty for early withdrawal? If you add the years together (47 + 6 + 7), the investor is 60 and, once reaching 59½, there no longer is the tax penalty.
You have a client who is switching jobs. The HR department of the new company delivered a beautiful brochure describing all the benefits offered to employees. One of these is a noncontributory money purchase pension plan. When asked by your client for an explanation, you would reply that this plan has mandatory contributions of A) both the employer and the employee. B) the employer but no employee contributions. C) the employee but none for the employer. D) the employer and optional employee contributions.
B In a contributory plan, both the employer and employee make contributions to the account. In a noncontributory plan, only the employer makes the contributions.
The provisions of the Securities Act of 1933 include all of the following EXCEPT A) prohibition of fraud in the sale of new securities B) regulation of the secondary market C) regulation of offerings of new securities D) requirement that an issuer provide full and fair disclosure about an offering
B The Securities Act of 1933 regulates new issues of corporate securities sold to the public and is designed to prevent fraud in the sale of newly issued securities. Trading and the secondary markets are regulated under the Securities Exchange Act of 1934.
An investor would exercise a put option when the A) market price of the stock is above the strike price. B) market price of the stock is equal to the strike price. C) market price of the stock is below the strike price. D) current premium is higher than the initial cost.
C A put option gives its owner the right to sell the underlying security at a specified price (strike price) for a specified time period. When the stock's price is less than the strike price, a put option has value and is said to be in-the-money.
All of the following statements regarding futures contracts are correct EXCEPT A) futures contracts can be written on financial assets or commodities. B) purchasing a contract for future delivery is considered taking a long position. C) completing a futures contract requires the delivery of the commodity. D) a short position will increase in value if the underlying commodity or asset declines in value.
C In almost all cases, the holder of the futures contract will purchase an offsetting contract canceling the original position or sell the contract prior to expiration. In isolated cases, delivery of the commodity may be made but is not required. Futures contracts can be written on financial assets such as currencies and stock indexes, as well as on commodities such as agricultural products or precious metals. As with anyone taking a short position, the value goes up when the price of the underlying asset declines. And, just as purchasing a stock or bond, a long position represents one of ownership.
Which of the following is NOT considered to be in the business of investment advising? A) A financial planner who provides advice on many types of financial instruments, including securities, and receives commissions on the sale of life insurance B) A person who prepares reports about securities in general C) Insurance agents who discuss the merits of whole life insurance verses nonsecurities financial instruments and who receive commissions on the sale of life insurance only D) An insurance agent who provides investment advice regularly, but such advice represents a small portion of her business
C Please note that this question is not asking "who is an investment adviser?" It is asking about one of the 3 prongs - being in the "business". The insurance agent who discusses the merits of whole life insurance does not sell investment advice or securities, only insurance policies. The insurance agent does not hold herself out as an adviser nor does she provide advice on securities. If a person advertises as one who provides investment advice or engages in providing investment advice or analyses on a regular basis (even if not the person's principal business activity), the person is considered in the business of giving investment advice. If the person receives any compensation that represents a clearly definable charge, commission, or fee for such advice (whether paid separately or not), she is considered in the business. If the person engages in other financial activities in connection with the advice, it cannot be used to avoid the business standard.
Washington, Adams, and Jefferson, Inc. (WAJI) is an investment adviser whose principal and only office is in Alexandria, VA. WAJI's sole business is advising institutional investors. Rutherford Buchanan is employed by the firm in the main office and has the responsibility of servicing the firm's bank and insurance company clients. Which of the following statements is correct regarding Rutherford's licensing requirements? A) Rutherford is exempt from registration because he has fewer than 6 retail clients. B) Rutherford is exempt from registration because his only clients are institutions. C) Rutherford must register as an IAR of WAJI with the state of Virginia. D) Rutherford cannot register as an IAR of WAJI because providing advice exclusively to institutions exempts the firm from registration.
C Regardless of whom the clients are, Rutherford has a place of business in Virginia and that requires registration with the Administrator as an IAR. If WAJI does business in other states where it does not have a place of business, it is exempt from registration because the only clients are institutions. If WAJI is not registered in the state, Rutherford can't register as their IAR. The de minimis exemption for fewer than 6 retail clients only applies when there is no place of business in the state.
An investor who chooses to use preferred stock as an income source instead of bonds would potentially incur which of the following risks? Loss of principal Price volatility of preferred stock is closely related to interest rates Preferred stock cannot be traded as readily as bonds If the stock is callable, the client's income can be suddenly lowered A) I, II, and IV B) I and II C) III and IV D) I, II, III, and IV
A Because bonds have seniority over any equity security, there is a greater risk of loss of principal with preferred stock than with bonds. The price volatility of preferred stocks, like bonds, is impacted by interest rate changes. Unlike bonds, however, preferred stock does not have a maturity date. This means that preferred shares may never return to their par value, as bonds do at maturity date. Because the preferred stock may have a callable feature, the company can redeem its shares anytime after the call protection period (if any) is over. This usually happens when interest rates have declined, so the client whose stock was called will not be able to reinvest the proceeds at the same rate and could, therefore, suffer an unexpected drop in income. Preferred shares, particularly those listed on the exchanges, are generally easier to trade than corporate bonds (and certainly no worse).
An investment adviser is servicing a group of physicians and will offer a discounted fee to the doctors in that particular partnership. In what way would this be considered ethical? A) This would be permitted as long as a disclosure is made in the IA's brochure that fees are negotiable. B) This would be permitted if all the physicians had a minimum net worth of at least $1.5 million. C) This would be permitted as long as the adviser is not a patient of any of the physicians in that group. D) This would be permitted as long as each physician has a unique contract.
A Item #5 on the Form ADV Part 2A asks about the adviser's fee schedule. The adviser can indicate what types of fees are charged and whether or not they are negotiable. In a manner similar to a mutual fund breakpoint, when a group, not formed for the purpose of investing, contracts with an investment adviser, the adviser may choose to consider it one very large client rather than several smaller ones. This will generally result in a reduction in the percentage charged.
Which of the following is NOT true regarding the Securities Exchange Act of 1934? A) The act bars the use of arbitrage by broker-dealers. B) The act proscribes the use of wash trades. C) The act prohibits the spread of false rumors to induce others to trade. D) The act prohibits the simultaneous purchase and sale of a security to create the appearance of trading.
A Arbitrage is a legal activity, usually performed by traders at broker-dealers, which takes advantage of momentary discrepancies in the price of a security in different markets. The act prohibits any form of manipulation of securities prices or any practices that would influence the market price of a security. This includes wash trades, which are simultaneous purchases and sales that create the appearance of trading activity, and the use of rumors to induce others to trade.
All of the following would be reasons for an employer to choose a nonqualified plan over a qualified plan except A) the nonqualified plan provides an immediate income tax deduction for the employer. B) the nonqualified plan provides greater flexibility. C) the nonqualified plan is not subject to ERISA reporting and disclosure requirements. D) the nonqualified plan can discriminate in favor of highly-compensated employees.
A The answer is the nonqualified plan provides an immediate income tax deduction for the employer. Nonqualified plans do not provide a tax deduction to the employer until the employee receives the economic benefit as income at some point in the future. They are, however, more flexible because they do not have to comply with ERISA reporting and non-discrimination requirements.
Given the following information: Stock Beta A 2.16 B 1.54 C .96 D 1.28 Assume the risk-free rate of return is 2.75% and the market rate of return is 6.75%. An investor has a required rate of return of 9.5%. Which of these stocks would offer the best investment opportunity? A) Stock B B) Stock A C) Stock D D) Stock C
B Calculate the expected rate of return of each stock using CAPM and compare the result to the investor's required rate of return. Stock A: E(r) = 2.75 + (6.75 - 2.75)2.16 = 11.39%. Stock B: E(r) = 2.75 + (6.75 - 2.75)1.54 = 8.91%. Stock C: E(r) = 2.75 + (6.75 - 2.75).96 = 6.59%. Stock D: E(r) = 2.75 + (6.75 - 2.75)1.28 = 7.87%. Based on a required rate of return of 9.5%, Stock A with an expected return of 11.39% is the best available investment opportunity.
If two stocks have positive correlation, which of the following statements is correct? A) The two stocks must be in the same industry. B) The rates of return tend to move in the same direction relative to their individual mean returns. C) The rates of return tend to move in the opposite direction relative to their individual mean returns. D) If one stock doubles in price, the other will also double in price.
B Positive correlation between two assets will result in the returns of both of them moving in the same direction (up or down). If one stock doubles in price, the other will also double in price. This is true only if the correlation coefficient is +1.0. The two stocks need not be in the same industry. Negative correlation is when they move in opposite directions. Test-taking tip: This question gives you a choice of positive, meaning moving up, or positive moving down - it has to be one of those two choices. That tells you the other 2 choices cannot be correct.
Under the Investment Advisers Act of 1940, which of the following are excluded from the definition of an investment adviser? A) Insurance companies B) Banks and trust companies C) Attorneys who advise on securities (only) for a fee D) Accountants who advise on securities (only) for a fee
B The act excludes the following from the definition: banks or trust companies; publishers of bona fide publications of general circulation (newspapers and magazines); persons advising about certain securities (U.S. government or agency issues); broker-dealers not receiving special compensation for giving advice; and persons whose advice is incidental to their profession, such as lawyers, accountants, engineers, and teachers
A customer's limit order to buy 500 shares of QRS at 60 is executed and the agent reports the trade execution to the customer. One hour later, the customer notices that QRS is down 2 points and informs the agent that he no longer wants the stock and is not planning to pay for it. The agent should tell the customer that A) the firm will repurchase the securities from the customer for the price paid B) he owns the stock and must submit payment C) he may sell the stock at the purchase price in the open market D) he personally will repurchase the securities from the customer for the price paid
B The customer has entered into a contract to purchase a security as soon as the order is executed. The customer owns the stock and must submit payment.
Which of the following statements regarding convertible debentures is TRUE? A) The issuer has the right to convert the debentures during the time period specified in the indenture. B) The debenture holders receive a variable rate of interest. C) When compared with similar nonconvertible debentures, convertible debentures are issued with a lower coupon rate. D) The issuer pays a higher rate of interest, compared with a comparable nonconvertible debenture.
C A conversion feature is a benefit to the debtholder. It allows the debtholder a choice to either continue holding the debt represented by the debenture or to convert it into shares of common stock of the underlying issuer. Everything that is done in the securities industry has to be a win/win situation. The win for the debtholder in this instance is the ability to take advantage of the capital appreciation potential the common stock may offer, and the win for the issuer is that by offering something extra to the debenture purchaser, that purchaser is willing to accept a lower interest rate on the debt (as compared to a nonconvertible debenture) and therefore giving the issuer a lower cost of capital. It is the debtholder, not the issuer who determines when and if to convert.
If the net present value of a series of discounted cash flows is less than zero, one could conclude that A) the rate of return is higher than the cost of capital. B) the return on investment is higher than the internal rate of return. C) the discounted cash flows are lower than the investment outlay. D) the internal rate of return equals the discount rate.
C A negative net present value of a series of discounted cash flows means the investment outlay exceeds the discounted cash flows. Net present value is the difference between the initial cash flows and the present value of future cash inflows. If the net present value is negative, the present value of future cash flows is less than the initial investment. An investment with a negative net present value is generally an undesirable investment.
A broker-dealer provides HotScores, a portfolio analysis tool that allows clients to indicate their retirement goal. After disclosing age, current financial condition, and risk tolerance, those participating will receive a list of specific securities the customer could buy or sell to meet the investment goal. Which of the following is TRUE? A) This is not a recommendation because the analysis tool is automated. B) This is not a recommendation because the customer will receive a list or series of securities that the customer could buy or sell to meet the goal at a later date. C) This would be regarded as making a recommendation. D) This would be considered an example of social media communication and therefore not specifically covered by NASAA as a recommendation.
C An example of what the regulators have determined to be a recommendation would be if a broker-dealer provides a portfolio analysis tool that allows a customer to indicate an investment goal and input personalized information such as age, financial condition, and risk tolerance. The broker-dealer then sends the customer a list of specific securities the customer could buy or sell to meet the investment goal the customer has indicated.
Your client's wife retired as a 3rd grade teacher in 2009, where she was covered under the school system's 403(b) plan. If she resumes employment with a corporate employer, and that new employer has a 401(k) plan, is she entitled to defer RMDs from the 403(b) plan past the regular age 72 date? A) RMDs may be deferred as long as the individual is employed on a full-time basis. B) RMDs may never be deferred for those who were participants in a 403(b) plan. C) RMDs may be deferred only from the plan sponsored by the current employer. D) RMDs may be deferred only if the current employer offered a 403(b) plan.
C The rule is that you can only defer RMDs in the plan of the employer where you are currently employed. For example, assume you retire from Company A and get a job with Company B, and both companies have a 401(k) plan. You can only defer RMDs from the Company B plan, because that is your current employer; you will have to take RMDs from the Company A plan. The same would be true if it were 2 different school systems with 403(b) plans.
An investor inherits 1,000 shares of the ABC Global Growth Fund when the NAV is $9.50, the bid price is $9.00, and the ask price is $9.15. Two years later, the investor sells all shares when the NAV is $14.25, the bid is $14.50, and the ask is $14.60. What are the tax consequences of this sale? A) Long-term capital gain of $4,750 B) Long-term capital gain of $5,450 C) Long-term capital gain of $5,500 D) Long-term capital gain of $5,350
C Upon death, the beneficiary inherits closed-end funds at their bid price (what the estate could have sold them for), or $9.00 per share. The sale two years later takes place at the bid ($14.50) for a profit of $5.50 per share (times 1,000 shares). Remember, in the case of a closed-end fund, the NAV does not figure into any computations; prices are based on supply and demand and have a bid and ask price, the same as any stock. How did you know this was a closed-end company? Only in the case of a closed-end company can the ask price be lower than the NAV (ask = $9.15, NAV = $9.50).
It is agreed by most investment advisers that diversifying an investment portfolio can reduce the overall risk. Benefits of diversification would include all of the following except A) mitigating the effects of a bankruptcy of a security held in the portfolio. B) increasing risk-adjusted returns. C) lowering the volatility of the portfolio. D) lowering trading costs.
D If anything, diversifying a portfolio will increase the trading costs. Those higher costs are outweighed by the benefits in risk reduction and potential higher returns. With a well-diversified portfolio, a single company going bankrupt will have a much smaller impact than if that security was the only asset held by the investor. It is the old theory of "don't put all of your eggs in one basket". Broad diversification, which includes different asset classes, has the effect of reducing the overall volatility of the portfolio and by holding assets that tend to rise while others decline, the risk-adjusted returns may well be increased.
