Unit 13

An investment adviser has devised a charting system and wishes to advertise this fact in order to obtain additional clients. To do so, the USA would require A) a statement as to the limitations of and difficulties involved in using this system. B) a display of past performance for at least the most recent 12-month period. C) disclosure of the length of time the charting system has been used. D) a graph showing the results of back testing the system.

Answer: A) Anytime an adviser wishes to promote any type of charting or graphing system, disclosure must include the system's limitations and a statement relating to the difficulties in its use. LO 13.i

Unless qualifying for an exemption, which of the following advisory fee structures is NOT allowed under the USA? A. Fees based on a % of the change in value of funds from quarter to quarter. B. Fees based on an hourly rate C. Fees based on a fixed dollar schedule tied to the value of funds under management. D. Fees based on a % of the aggregate value of funds under management.

Answer: 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.

ABC Investment Advisers, organized as a partnership, has seven equal partners. At ABC's annual partnership meeting, one of the partners announces their retirement, while another is leaving to become a partner in another firm. As a result, ABC must notify A. the administrator of the change in partners within a reasonable period of time. B. the other party to the contract of the change in partners within a reasonable period of time. C. the SEC of the change in partners within a reasonable period of time D. its advisory clients of the change prior to the renewal date of the firm's registration.

Answer: A) When a minority interest changes in an IA structured as a partnership, notification to the firm's advisory clients (the other party to the advisory contract) must be made within a reasonable period of time.

An investment adviser representative's business card containing which of the following designations would be in violation of the NASAA policy on advertising? A) MBA B) IAR C) CFP® D) CLU

Answer: B) The term investment adviser representative may appear, but not the abbreviation IAR. As long as certain academic designations have been earned, such as MBA or JD, they may be used. Certain professional designations (if earned) may also be used. The LEM has a list of the most common ones. LO 13.i

A federal covered investment adviser (IA) feels that some recent industry regulations will limit his ability to provide the returns to clients that both he and they desire. He communicates this to his clients and urges those who are willing to sign an agreement waiving their rights to take any legal action in the event of loss due to his refusal to follow those rules. This means that A) as long as this is part of the agreement with the IA, no legal action can be taken. B) clients would still be permitted to sue because there is no way that legal rights can be waived. C) a suit would be possible, but only if agreed to by the IA. D) clients would not be able to sue because they have executed a document waiving their rights.

Answer: B) There is no way that a waiver of legal rights is ever enforceable. LO 13.e

When recommending a corporate security, an IAR indicates that the top officers of the company were responsible for the rapid growth of LJB Corporation, a well-known, successful firm in the same industry. Under the Uniform Securities Act, all of the following statements by the agent are permitted except A) the president of this company was responsible for LJB Corporation's success. B) there is no doubt that the officers will repeat the success they enjoyed with LJB Corporation. C) time will tell whether the officers can repeat the success they enjoyed with LJB Corporation. D) the president of this company used to run LJB Corporation.

Answer: B) This statement implies guaranteed performance and is not permitted. LO 13.d

The most common way in which to distinguish whether social media content is static or interactive is the ability for others to A) like it. B) comment on it. C) change it. D) link to it.

Answer: C) Static content can only be changed by the originator (or someone under that person's control). LO 13.h

In general, a broker-dealer will disclose its fee schedule A) when requested by the client. B) to its agents, who are then responsible for sharing it with the client. C) within 30 days following any changes in fees or charges. D) at the time of the account opening.

Answer: D) Although there are no specific industry requirements, a broker-dealer's fee schedule typically is disclosed at the time an account is opened. Changes are disclosed by giving notification before the change is made. LO 13.b

Which of the following activities of an investment advisory firm would not require notification and consent of the clients of the advisory firm? A) A minority partner resigning from the firm to start his own advisory firm B) An investment adviser wishing to merge with a larger national advisory firm C) The retirement of a sole proprietor investment adviser who wishes to sell the practice to another investment adviser D) The chief operating officer of an investment advisory firm wishing to pledge her majority interest in the firm to a local bank for a loan to purchase an office building that will be leased to the advisory firm

Answer: A) Any change in the controlling interest in an advisory firm, including pledging the controlling interest, is treated as an assignment of the contract and requires notification and consent of the clients of the investment adviser. The change in a minority interest is not considered an assignment, so only notification, but not consent, is required. LO 13.e

Some investment advisers offer technical analysis as a tool in managing personal investment accounts. When advertising these systems, it is imperative that the investment adviser promoting the program A) indicates that there are limitations and difficulties inherent in using such programs. B) be registered with the SEC. C) keeps the subscription cost below $500 annually to avoid the need to send an annual brochure. D) shows past performance for a period of no less than the previous 12 months.

Answer: A) Technical analysis is codespeak for charts and formulas. Whenever an IA uses or promotes charts and/or investment formulas, the terms limitations and difficulties must be on any promotional material. If past performance is to be shown, 12 months is the length, but there is no requirement to show past performance. If the fee for this impersonal advice is kept low enough, there is no brochure delivery requirement, but there is no imperative that the price be that low. LO 13.i

A transaction in which an investment adviser acts on behalf of both the advisory client and another person on the other side of the transaction is known as A) a discretionary trade. B) an agency cross transaction. C) an exempt transaction. D) an illegal and unethical activity.

Answer: B) If you are representing both sides of the trade, you are engaged in an agency cross transaction. LO 13.a

An investment adviser representative with a state-registered investment adviser reads an article in the newspaper about a local company that has had a surge in demand for its product line. If the representative's supervisor gives approval, posting the article on her social media accounts would constitute A) fraud. B) adoption. C) entanglement. D) acceptance

Answer: B) Two important terms regarding social media are adoption and entanglement. Adoption occurs when the securities professional posts something created by a third party where the poster had no input into the creation of the material. Entanglement occurs when the poster took part in the creation. LO 13.i

Manhattan Brokerage Associates (MBA) specializes in bringing midwestern companies public. Shortly after underwriting the IPO of a farm equipment manufacturer, MBA publishes a research report that is highly favorable regarding that company's growth potential. Doing so would require MBA to A) refrain from underwriting any further issues of that company for a period of two years. B) agree to repurchase any shares tendered at the original offering price. C) disclose the potential conflict of interest. D) obtain permission from the administrator to issue a report on a new company.

Answer: C) A common industry conflict of interest is underwriting a new issue and then preparing a favorable research report about that company. There is nothing improper about doing so, as long as the potential conflict of interest is disclosed. LO 13.a

The Seeking Alpha Growth Fund directs a sizable portion of its portfolio executions to your broker-dealer. If the firm has this fund on its highly recommended list, this would be A) allowed without restriction. B) allowed only when the investment company uses more than one broker-dealer to sell its shares. C) a conflict of interest that would have to be disclosed. D) prohibited only if selling shares and executions for the portfolio by the member takes place on the same business day.

Answer: C) Recommending shares of a fund when the broker-dealer is aware that a policy exists to direct brokerage to them is an obvious conflict of interest and would have to be disclosed. LO 13.b

Which of the following is not a factor when a communication to be distributed to the public is either being reviewed or approved by the investment adviser? A. Whether statements of benefits are balanced with statements of potential risks B. The nature of the audience to which the communication is intended to be distributed. C. Whether the piece will be distributed in written form or on the firm's website D. Whether the communication is targeting existing customers or prospective ones

Answer: C) The format is not what counts; it is the content that matters.

With regard to the brochure rule of the Investment Advisers Act of 1940, which of the following is exempt from the delivery requirements of that rule? A. an adviser whose only clients are registered investment companies B. An adviser whose only clients are insurance companies C. An adviser who only provides impersonal advisory services at an annual charge of less than $500 D. all of the above n

Answer: D) An adviser to investment companies and an adviser who provides only impersonal advisory services are specifically listed as being exempt from the delivery requirements of the brochure rule (impersonal advice with a charge of $500 or more would require an offer to deliver). An adviser who provides advice only to insurance companies is exempt from registration as an investment adviser and, therefore, would also be exempt from the requirements of the brochure.

A contract between an investment adviser and a customer may be assigned to another investment adviser, provided A) the broker-dealer handling the account's transaction is notified in writing. B) the client is notified in writing within a reasonable period of time. C) the assignment is done one year after the initial contract. D) the client consents to the assignment.

Answer: D) Except as may be permitted by rule or order of the Administrator, it is unlawful for any investment adviser to enter into, extend, or renew any investment advisory contract unless it provides in writing that no assignment of the contract may be made by the investment adviser without the consent of the other party to the contract. LO 13.e

An investment adviser would be in violation of the USA in which of the following situations? I. If he charged performance-based fees to qualified individual investors II. If he charged flat fees based on realized capital gains III. If he charged reduced fees for underperformance IV. If he charged percentage-based fees based on assets under management A) II and IV B) I and III C) I and IV D) II and III

Answer: D) Performance fees are not necessarily prohibited. However, performance fees must be based on realized gains and losses. LO 13.e

The Uniform Securities Act defines a guaranteed security as one A) involving a guarantee of a minimum profit by a party other than the issuer. B) where a party other than the issuer offers a guarantee that investors are assured of never receiving less than their original investment. C) that may only be sold to institutional investors. D) where the payment of interest and principal (bond) or dividend (stock) is guaranteed by a party other than the issuer.

Answer: D) This is simply the definition of a guaranteed security. The one thing not guaranteed is a profit (capital gain). LO 13.d

For larger accounts, a broker-dealer is least likely to waive its normal fee for A) safekeeping of funds or securities in the account. B) transferring the account to another broker-dealer. C) the annual account maintenance charge. D) wiring funds to the client's bank.

Answer: B) Although there is no official standard, larger accounts tend to have many of the smaller fees waived. However, if the client is moving the account to another firm, it is likely that the transfer fee will be charged. LO 13.b

A corporation offering securities registered under the Securities Act of 1933 may make which of the following statements? A) The SEC has endorsed our securities for sale to the public. B) The SEC has declared this prospectus effective. C) The SEC has passed on the merits of these securities as an investment. D) The SEC has passed on the adequacy of the information in our prospectus.

Answer: B) When a security registers with the SEC, the date that sales may commence is known as the effective date. The SEC neither approves nor disapproves an issue, nor does it pass on the accuracy or adequacy (completeness) of the information presented in a prospectus. LO 13.c

What is the appropriate procedure to follow when a customer fails to sign the form provided by the investment adviser stating that he has received a copy of the investment adviser's brochure? A) Proceed with the account; the signature is not required. B) Don't do anything with the account until the customer's signature acknowledging receipt of the brochure is received. C) Only unsolicited orders may be accepted until the signed receipt is received. D) Proceed with the account, but make a supervisory person aware of this.

Answer: D) Although it is true that there is no legal requirement for a client to sign acknowledging receipt of the brochure, if it is the adviser's practice, the account may proceed, but only with notice to the appropriate supervisory person. LO 13.g

Under the Investment Advisers Act of 1940, cash payment to a broker-dealer from an investment adviser in return for client referrals is A) permitted with no restrictions. B) permitted only if the investment adviser and broker-dealer are affiliated. C) not permitted under any circumstances. D) permitted if the investment adviser makes certain disclosures to the clients and meets other requirements.

Answer: D) Cash payments by investment advisers (IAs) for referrals from broker-dealers are permitted whether or not the broker-dealer is affiliated with the IA. In all cases, such compensation must be disclosed to affected clients. LO 13.i

Social media can be static or interactive. Examples of static content typically available through social-networking sites include all of the following except A) video recordings of public appearances. B) biographical information. C) banner ads. D) an online seminar.

Answer: D) If others besides the originator can contribute content, it is interactive. In most cases, participants in an online seminar are able to post questions and interact with the presenter. LO 13.h

As called for on the NASAA Model Fee Disclosure Template, which of the following is not required to be disclosed on a broker-dealer's fee chart? A. The commission schedule B. The account maintenance fee C. Charges to wire funds D. Postage and mailing charges

Answer: A Commissions, markups, and markdowns, and advisory fees are not part of the NASAA fee disclosure template.

What does the term guaranteed mean when used to describe a security? A) The security has a third party other than the issuer that guarantees the payment of principal and interest or dividends. B) The security is an annuity product that guarantees a retirement income. C) The broker-dealer will buy the security back at the same price or higher. D) The security has been cleared and is backed by the SEC.

Answer: A) A guaranteed security is one that has a third party other than the issuer (such as an insurance company or a parent company) that has guaranteed the payment of principal, interest, or dividends (but not capital gains). A guarantee does not refer to a broker-dealer buying back a security at the same price or higher, or to the retirement income offered by a fixed annuity. In addition, the SEC does not back or guarantee securities. LO 13.d

With regard to a broker-dealer's use of social media, static content would be considered which of these? I. A planned communication to a target audience that is generally not altered II. Communication that does not provide for interaction with the author once published III. Content used to engage in real-time interactive communications with a target audience IV. A blog that gives readers the opportunity to post comments A) I and II B) I and IV C) III and IV D) II and III

Answer: A) A key to recognizing static social media content is that it is usually not changed once published and does not provide a method for interaction (commenting) once published. LO 13.h

The term that best describes a person entrusted with the duty of acting for the benefit of another party is A) a fiduciary. B) a principal. C) a trustor. D) an investment adviser.

Answer: A) A person entrusted with the duty of acting for the benefit of another party is a fiduciary and must follow the standards of fiduciary duty appropriate to the nature of the relationship. Investment advisers are generally held to a fiduciary standard, but there are many fiduciaries who are not IAs. The best example is a trustee (not a trustor—that is the person who establishes the trust and appoints the trustee to handle the assets).

In general, the Administrator would require that a broker-dealer's social media policies be A) committed to writing and communicated firmwide. B) limited to defining the responsibilities of supervisory personnel. C) updated at least once every three years. D) left up to the manager of each branch office.

Answer: A) Although NASAA does not yet have a Model Rule dealing with social media, individual states have developed policies, and most of them mirror FINRA's, which requires that a firm's social media policies be in writing and made known to all in the company. It is not just supervisory personnel who must know the policy; any employee is subject to it. Updating every three years is not nearly frequent enough in this dynamically changing industry. LO 13.h

Under the Investment Advisers Act of 1940, as amended by the Marketing Rule for Investment Advisers, advertising done by investment advisers prohibits which of these? I. The use of testimonials II. Reference only to specific past recommendations III. Untrue statements A) II and III B) III only C) I and III D) I only

Answer: A) Amendments effective in 2021 to SEC Rule 206(4), issued under the Investment Advisers Act of 1940, permit the use of testimonials under certain conditions. The rule still prohibits untrue statements of material fact and reference only to specific past recommendations. LO 13.i

Which of the following legal or disciplinary actions occurring within the past 10 years would not have to be disclosed on an investment advisers brochure? A. Conviction of a misdemeanor in a civil action regarding payment of parking tickets. B. Conviction of a misdemeanor involving an investment-related business C. SEC or other federal regulatory agency proceedings in which the person was found in violation of an investment-related statute D. A proceeding before FINRA in which the person was barred or suspended from membership.

Answer: A) An investment adviser must disclose, in its brochure, all adverse regulatory events to clients and prospective clients if they occurred within the past 10 years. Examples would include a conviction relating to a misdemeanor involving an investment-related business, SEC or other federal regulatory agency proceedings in which the person was found to have violated an investment-related statue, or proceedings before FINRA in which the person was barred or suspended from membership. Misdemeanors regarding noninvestment-related actions are not considered material and need not to be disclosed (parking tickets).

An investment adviser is preparing an advertisement. Which of the following would be acceptable? I. A testimonial on radio or TV from a celebrity who is a client of the firm II. Identifying his best investment recommendations for the past 6 months III. Offering to provide the firm's investment recommendations for the past 12 months IV. Promoting his system of charts and formulas while mentioning their limitations and difficulties A) I, III, and IV B) I and II C) II and III D) III and IV

Answer: A) Any mention of investment recommendations in any adviser advertisement must always include all recommendations (not just good ones) made over the course of the last 12 months. If the adviser uses charts or formulas, any mention of them must always include a statement to the effect that they have limitations and may be difficult to use. Testimonials are permitted from clients as long as disclosure is made of the compensation arrangements (if any). As is the case with any advertisement, the content must be fair and balanced. LO 13.h

An investment adviser registered with the SEC could have all of the following as advisory clients except A) the ABC Unit Investment Trust. B) the DEF Life Insurance Company. C) Mildred, an accredited investor. D) the XYZ Growth Fund.

Answer: A) Be careful. Unit investment trusts (UITs) do not have investment advisers. Any of the other choices could have advisory accounts. LO 3.f

As long as properly disclosed, a broker-dealer would be permitted to charge a fee for all of these except A) solicitation of proxies. B) wiring funds to the client's bank. C) annual maintenance fees. D) issuing a stock certificate.

Answer: A) Broker-dealers are not permitted to charge for soliciting proxies; the issuer is responsible for reimbursing the broker-dealer for any of its expenses. All of the other charges are permitted if fully disclosed to clients. This is a case where you answer the question correctly because you know the other choices are permitted charges. On the exam, the correct choice might be something that is not covered in the course. However, as is the case with this question, the three incorrect choices are well described in the LEM.

The regulators require securities professionals to make disclosure of any potential conflict of interest. Which of the following cases would be least likely to present a conflict of interest? A) Recommending a specific mutual fund to a customer because of the fund's outstanding past performance B) Encouraging customers of the broker-dealer to purchase shares of a specific stock after the agent has taken a long position in call options on that stock C) Recommending a specific stock to a customer that has been the subject of a recent underwriting managed by the broker-dealer D) Offering a limited partnership in an oil and gas drilling program where the general partner is the brother of the manager of the branch office handling that customer's account

Answer: A) Conflicts of interest generally involve a securities professional profiting personally from recommendations made to customers. Conflicts do arise, and as long as they are disclosed, it is up to the customer to evaluate the position. There appears to be little possible gain to the professional who recommends a mutual fund based on past performance. The fact that disclosure must be made that past performance is not indicative of future results does not relate to a personal conflict of interest. Each of the other choices represents a situation where the securities professional has a personal interest beyond just making the sale. LO 13.b

When opening an advisory account for a new retail client, an investment adviser representative must present that client with A) the customer relationship summary. B) a copy of the BrokerCheck® report for that investment adviser representative. C) the most recent balance sheet of the investment adviser where the representative is associated. D) a copy of the investment adviser representative's Form U4.

Answer: A) Investment advisers and their investment adviser representatives must provide the customer relationship summary (CRS) to each new or prospective client who is a retail investor before or at the time of entering into an advisory agreement. LO 13.b

Which of the following activities would violate the Uniform Securities Act? I. An investment advisory partnership admits a renowned securities analyst to the partnership without informing its clients of this highly desirable addition. II. An investment adviser incorporated in California fails to inform its clients of the departure of the chief financial officer, who did not have an equity position in the firm. III. An investment advisory firm incorporated in Illinois charges clients a share of the capital gains on the basis of a guaranteed performance level above a designated benchmark. IV. An investment advisory firm assigns those accounts that fall to a low level to other firms willing to accept them with the consent of the account holder. A) I and III B) I and II C) I, III, and IV D) II and III

Answer: A) Investment advisers who are partnerships must inform their clients of any change in the membership of the partnership within a reasonable period. Unless the question refers to a specific exemption, it is a violation of the USA for an advisory firm to charge on the basis of performance. An investment advisory firm may assign accounts to another firm with the consent of the client. LO 13.e

Which of the following would not be unlawful for an investment adviser under the Uniform Securities Act? A) Including in the contract a clause that if the contract is terminated ahead of the scheduled termination date, there will be no refund of prepaid fees B) Failing to notify the Administrator that the adviser has custody of a client's securities or funds, even though the Administrator has no rule that prohibits such custody C) An owner of a majority of the stock in the investment adviser pledging that stock as collateral to a bank for a personal loan D) Signing an investment advisory contract that did not outline the compensation arrangements

Answer: A) Investment advisory contracts must outline compensation provisions and indicate the amount to be refunded, if any, if the contract is terminated. Nothing in the USA requires that there be a refund, only that the terms must be disclosed. The USA also requires investment advisers (IAs) to notify the Administrator if they have or will have custody of customers' funds. The USA considers that a pledge of a majority interest in an IA is an assignment of the IA's contracts. LO 13.e

The BJS Advisory Service maintains no custody of customer funds or securities, requires no substantial prepayments of fees, and does not have investment discretion over clients' accounts. Which of the following would have to be promptly disclosed to clients? I. The SEC has entered an order barring the executive vice president of the firm from association with any firm in the investment business. II. BJS has just been fined $3,500 by the NYSE. III. A civil suit has just been filed against BJS by one of its clients alleging that BJS made unsuitable recommendations. A. I and II. B. I and III. C. II and III. D. I, II, and III.

Answer: A) Material disciplinary violations must be reported by all investment advisers, regardless of whether they keep custody. The first two answers fit the definition of material actions, but not the third. If the suit goes in favor of the client and the adviser is found guilty, disclosure would need to be made. However, there is something that investment advisers who do not maintain custody or receive substantial prepayments avoid having to do. What is that? They do not have to notify their clients about any financial situation that might impair their ability to meet contractual commitments to clients.

Nifty Advisers made an announcement on its website that the firm was going to create a FB acc. to keep all its clients and prospective clients updated on the market. Nifty sent an email notice to its current clients and asked them to please refrain from airing complaints through that account; any negative comments would be addressed through the normal channels. Also, contained in the email was an announcement that anyone simply clicking like on the company FB pg would receive a 1 time 5% decrease in the client's quarterly fees. which of the following are not true? A) This would not be considered a testimonial & is therefore permitted under the regulations. B) The SEC IA Marketing Rule permits testimonials, such as a like on the firm's FB pg, as long as certain disclosures are made. C) 3rd use of the like feature on an IA social media site could be deemed a testimonial. D) Likes posted to the personal accounts of inv

Answer: A) Please note that this question is looking for the statement that is not true—in other words, find the false statement. In 2021, the Investment Advisers Act of 1940 was amended by the SEC's new marketing rule. That rule permits testimonials (a like on a Facebook page is considered a testimonial) as long as certain disclosures are made. One of those disclosures is the receipt of any direct or indirect compensation. The 5% decrease in fees is considered a form of compensation, and simply clicking like does not give any indication that compensation for the testimonial is being given to the client. A client could give a testimonial on the firm's website or Facebook page, but the full range of disclosures—including compensation, the fact that the person is a client, and any potential conflicts of interest, such as a family relationship with a principal of the firm—must be made. LO 13.i

Social networking sites typically contain both static and interactive content. The difference between these two is that static content A) remains posted until it is changed by the poster, while interactive content contains real-time communication. B) is only visible to a limited number of website visitors, while all can access interactive content. C) is always provided by the broker-dealer, while interactive content is the domain of the firm's agents. D) need not be approved before use, while interactive content needs the approval of a designated supervisor.

Answer: A) Static is defined as something that doesn't change, so those communications will only change when the person who posted it removes it or makes a change. Interactive is live and constantly changing. Under FINRA rules, static must have approval prior to use, while interactive does not. LO 13.h

A client, who is a famous tennis player, offers to record a testimonial for a covered investment adviser. The recording will be used in a television commercial. Under the SEC's Marketing Rule for Investment Advisers, the firm may A) use the testimonial, provided disclosure is made that the athlete is a client and about the extent of any compensation paid. B) have to file the testimonial with the SEC. C) go ahead with the recording only if it is an endorsement rather than a testimonial. D) use the testimonial, provided the athlete receives no compensation.

Answer: A) Testimonials promoting investment advisers' services are permitted under the SEC rule. The rule distinguishes between a testimonial and an endorsement. The former is from a client and the latter is from someone who is not a client. When accepting a testimonial, the fact that the person is a client must be disclosed. Disclosure is also required if any compensation is being paid. Advertisements are not filed with the SEC. LO 13.h

Which of the following statements may be made by an issuer selling securities to the public that are registered with the Administrator? A. the administrator has cleared this issue for sale to the public B. the administrator has passed on the adequacy of the information provided in the prospectus. C. the administrator has approved the accuracy of the information contained in the prospectus D. the administrator has affirmed the merits of the security as an investment.

Answer: A) The administrator does not approve or disapprove of securities. Rather, the administrator reviews registrations for omission of material facts and clarity of information and makes certain that all supporting documentation is included. If these requirements are met, the administrator clears or releases the security for sale to the public.

According to the Uniform Securities Act, the investment adviser brochure must include the business backgrounds of A) each member of the investment committee or group that determines general investment advice to be given to clients. B) institutional clients. C) all employees of the adviser. D) affiliated broker-dealers

Answer: A) The business backgrounds of these key individuals must be included in Part 2B of Form ADV and in the disclosure brochure. The business backgrounds of other employees, affiliated broker-dealers, and institutional clients need not be included in the brochure. LO 13.f

Under the Investment Advisers Act of 1940, a third party receiving compensation from an investment adviser in return for providing an endorsement of the advisers' service is permitted A) when a written agreement providing certain disclosures has been entered into between the investment adviser and the third party if the compensation exceeds $1,000 over a 12-month period. B) with no restrictions. C) only if the referring party is registered as an investment adviser representative. D) under no circumstances.

Answer: A) The marketing rule for investment advisers permits investment advisers to pay third parties for their endorsement as long as the required disclosures are made. A written agreement between the parties is required when the compensation, cash or non-cash, exceeds the de minimis amount (more than $1,000 during the preceding 12 months). LO 13.i

An IA prepares a slick advertising piece containing the information from the firm's Form ADV, Part 2. One of the firm's investment adviser representatives (IARs) secures a contract with a new client & presents the brochure at that time. While explaining the terms of their agreement, the IAR mentions that the client may withdraw within the first 48 hours w/o any penalty. Upon returning to the office, the IAR realizes that he forgot to have the client sign a receipt for the disclosure doc. Under NASAA Model Rule on UBPIA , IAR , & Federal Covered Advisers, A)the IAR has acted in an unethical manner by giving incorrect information regarding the penalty-free withdrawal privilege. B)a violation because the IAR failed to obtain the signed receipt. C)a violation because the brochure must be delivered at least 48 hours prior to entering into the contract. D)there is no violation as long as the customer signs a waiver agreei

Answer: A) The problem here is that the client has five days to withdraw, not 48 hours. Under Rule 203(b)-1 of the Uniform Securities Act, an investment adviser or an investment adviser representative must deliver the brochure to an advisory client or prospective advisory client not less than 48 hours prior to entering into any investment advisory contract with such client or prospective client or must deliver it at the time of entering into any such contract if the advisory client has a right to terminate the contract without penalty within five business days after entering into the contract. A signed receipt is not necessary, and waivers are never allowed. LO 13.g

A registered BD is under common control with a registered IA. An individual who is an agent of the BD and an (IAR) of the adviser has a client with $250,000 under an asset management program. The terms of the account call for discretionary power to be given for the account, and all required forms have been received. In the opinion of the IAR, the purchase of 500 shares of RMBM common stock is an appropriate addition to the portfolio. The BD is a market maker in RMBM, and the sale will be made as a principal, a fact that is disclosed to the client on the trade confirmation. In this situation, the registered person has acted A) unlawfully in that IA are required to make written disclosure as well as receive the advisory client's consent prior to completion of a trade where the firm or an affiliate will be acting in a principal capacity. B) unlawfully in that any stock the BD is a market maker in is probably not suitab

Answer: A) The rules regarding investment advisers and account trading are much stricter than those for broker-dealers because of the fiduciary responsibility of the adviser. Even though the firm has discretionary power, any action that results in a transaction in which the firm or an affiliate acts in either a principal or agent capacity requires the adviser to provide written disclosure of that fact to the client and obtain consent of the client prior to completion of the transaction. LO 13.a

Which of the following statements is not true concerning the wrap fee programs brochure under the Uniform Securities Act? A) It contains a statement that the program will generally cost the client less than purchasing these services separately. B) Nonmaterial changes to wrap fee disclosure documents must be filed with the administrator within 90 days of fiscal year-end. C) It lists the services provided under the program, including the types of portfolio management services. D) The disclosure document must contain the information required by Appendix 1 of Form ADV Part 2A.

Answer: A) The wrap fee brochure must contain a statement that the program may cost the client more or less than purchasing these services separately. The brochure must be filed with the administrator and must contain the information required by Appendix 1 of Form ADV Part 2A. Nonmaterial changes to wrap fee disclosure documents must be filed with the administrator within 90 days of fiscal year-end.

Under NASAA's Model Rule on Unethical Business Practices of Investment Advisers, Investment Adviser Representatives, and Federal Covered Advisers, an investment adviser may guarantee investment results A) under no circumstances. B) as long as the basis for making guarantees is fully and accurately described in the application for registration filed with the Administrator. C) if the guarantees are reasonable in view of the results other clients have obtained following the adviser's recommendations. D) if the adviser uses a system based on objective evaluation of data, can document consistent gains using the system, and discloses all the limitations and difficulties of using the system to the client.

Answer: A) Under no circumstances may an adviser guarantee that a client will achieve any investment result—either that a gain will be achieved or that no loss will occur. LO 13.d

A registered investment adviser recommends a stock that will be sold to his client in a principal transaction. The broker-dealer that will sell the stock is also registered as an investment adviser and employs the investment adviser as an agent. This transaction A) requires both written disclosure to and the consent of the client prior to the completion of the transaction. B) is prohibited. C) requires written disclosure to the client. D) requires the consent of the client.

Answer: A) Under normal circumstances, when a broker-dealer acts as a principal in a trade, that fact is noted on the confirmation. However, in this case, because it is an investment adviser who is recommending the transaction, both written disclosure by the adviser and consent by the client are required prior to completion of the transaction, even when an adviser sells securities through an affiliated firm in a principal transaction. LO 13.a

An investment adviser representative for ABC Money Managers, a wholly owned IA subsidiary of ABC Securities, Inc., sold 1,000 shares of registered securities traded on the NYSE owned by one of her advisory clients to another one of her advisory clients. ABC Securities charged commissions for both the buyer and the seller of these securities. This is known as A) an agency cross transaction. B) a prohibited practice. C) an arbitrage transaction. D) a fraudulent practice.

Answer: A) When an investment advisory firm handles both sides of a transaction for a client of an investment adviser representative, the firm has performed an agency cross transaction—a legal practice, provided all of the required disclosures are made and permissions obtained. LO 13.a

Which of the following fee arrangements is legal under the Investment Advisers Act of 1940? A. Adviser B charges an annual fee of 0.075%, guaranteed to be waived if the value of the account does not increase during the year. B. Adviser A charges an annual fee of 0.05 of the value of the client's account, due on the first day of the fiscal year. C. Adviser C charges an annual fee of 0.05%, waived if the account does not grow by at least 5% during the year. D. Adviser D guarantees the annual fee will be waived if the account decreases in value while under her management.

Answer: B) An adviser's fee may not be based on portfolio appreciation or capital gains, except under certain circumstances that are not detailed in the question. Advisory fees may be based on a % of assets under management. There should be no question on the exam where "waiving" something will be permitted.

An investment adviser must disclose which of the following legal or disciplinary actions to clients and prospective clients if they occurred within the last 10 years? I. Conviction of a misdemeanor involving an investment-related business II. SEC or other federal regulatory agency proceedings in which the person was found in violation of an investment-related statute III. A proceeding before FINRA in which the adviser was barred or suspended from membership IV. Conviction of a misdemeanor in a civil action regarding payment of motor vehicle violations A) II and III B) I, II, and III C) I and II D) I, II, and IV

Answer: B) An investment adviser must disclose adverse regulatory events to clients and prospective clients if they occurred within the last 10 years, such as a conviction relating to a misdemeanor involving an investment-related business; SEC or other federal regulatory agency proceedings in which the person was found to have violated an investment-related statute; or proceedings before FINRA in which the adviser was barred or suspended from membership. Misdemeanors regarding non-investment-related actions are not considered material and need not be disclosed (e.g., a motor vehicle violation). LO 13.b

LinkedIn is a popular social media tool for business people. The nature of the information posted poses risks for investment advisers because of the disclosures required when investment advisers use testimonials. A step that advisers should consider taking to minimize the risk of an improper endorsement appearing on their page is A) to allow clients to endorse an adviser only for a new skill that does not already appear on the adviser's profile. B) to select "No" for the "I want to be endorsed" feature under the "Skills and Expertise" section on their LinkedIn profile. C) to allow clients to endorse an adviser only for a skill that is already listed on his profile. D) to allow only unsolicited recommendations from clients to be shown on the page.

Answer: B) If you do a good job, it is only natural that your clients will want to say good things about you. Unfortunately, that can lead to a violation of the rule requiring specific disclosures related to testimonials for investment advisers and investment adviser representatives. The LinkedIn service allows people either to endorse a listed individual's skills (or add new ones) or to post recommendations. Either of these would not be acceptable unless the client made the appropriate disclosures (e.g., any compensation received). The safest thing to do is turn off the ability to endorse skills, because otherwise, constant checking of your page would be required. LO 13.i

NASAA holds that the most important duty of an investment adviser (IA) is the disclosure of all information relating to the relationship between an adviser and a client. Because of this, when performing an examination of the IA, the Administrator not only will look for disclosure-related items in the disclosure document but may also check which of these? I. The adviser's advertising II. The adviser's contracts III. The adviser's seminar materials IV. The adviser's websites A) III and IV B) I, II, III, and IV C) I, III, and IV D) I and II

Answer: B) Improper disclosure in any form of communication with the client is a prohibited business practice. LO 13.i

KAPCO Advisers, a registered investment adviser, recommends the purchase of 100 shares of GEMCO common stock to one of its advisory clients. The client accepts the recommendation and the sale is made from KAPCO's inventory. This transaction A) can only be done through a registered broker-dealer. B) requires both written disclosure to and the consent of the client prior to the completion of the transaction. C) would be considered unethical. D) may be made without restriction as long as the markup on the GEMCO stock was fair and reasonable.

Answer: B) Industry rules require that investment advisers make disclosure when acting as principals (from inventory) or agents in a transaction with an advisory client. This disclosure must be made in writing—furthermore, client consent to acting in this capacity must be obtained prior to the completion of the transaction. LO 13.a

As the use of social media has mushroomed, most firms in the securities business have created and maintain websites. In addition to password-protected areas for existing clients, these websites generally have pages accessible to anyone. Which of the following statements could be on an investment adviser's website that would not be on that of a broker-dealer? A) The content found on this website has been approved by the SEC. B) The firm is registered with the SEC under the Investment Advisers Act of 1940. C) The firm is a member of FINRA. D) The firm is registered with the SEC under the Securities Exchange Act of 1934.

Answer: B) Investment advisers register with either the SEC or the state(s). Those who are registered with the SEC do so in compliance with the Investment Advisers Act of 1940. Broker-dealers cannot make that statement because they are registered with the SEC as required by the Securities Exchange Act of 1934. Neither can state that the website has been approved, and FINRA membership is for broker-dealers only. Here is where a problem arises. Many of our students will be representing firms that are registered as broker-dealers and investment advisers. That is why it is so important to read the question carefully. It specifically refers to an investment adviser and makes no implication that the firm is also a broker-dealer. LO 13.i

In their advertising campaigns, state-registered investment advisers are prohibited from doing all of the following except A) exaggerating the capabilities of the firm and its personnel. B) offering free services. C) showing past performance of the best performing recommendations. D) guaranteeing future performance.

Answer: B) It is not unethical to advertise free services as a benefit of using a firm, but failing to supply services offered as free is unethical. Guaranteeing future performance and exaggerating the capabilities of the firm and its personnel are unethical. When showing past performance of recommendations, investment advisers are not permitted to cherry-pick the best performers; all recommendations must be shown. LO 13.h

Performance guarantees are prohibited under state and federal regulations. Which of the following is an example of a performance guarantee offered by a broker-dealer? A) Our firm's research department has set a 12-month price target on this recommendation of $50 per share. B) Our firm is so confident that this recommendation will perform as predicted that it has established an escrow account with the administrator to protect investors against loss. C) Our firm is so confident that this recommendation will perform as predicted that it will buy this security back from any customer at the prevailing market price. D) Our firm is so confident that this recommendation will perform as predicted that it has purchased 1,000 shares for the firm's investment account.

Answer: B) The classic performance guarantee states that the customer cannot lose money. That is prohibited. Buying shares of a recommended security is simply a case of the firm putting its money where its mouth is. There is nothing wrong with setting a price target; nothing is guaranteed. Buying back a security at the prevailing market price (the price on the day the customer wishes to sell) does not guarantee against loss. LO 13.d

Under the Uniform Securities Act, an agent may not make which of the following statements to a customer? A) This security is not registered with the state. B) This security is approved by the Administrator. C) This security is registered with the state. D) This security is exempt from registration.

Answer: B) The state Administrator does not approve any security. There is nothing improper about stating the registration status (registered or unregistered) of a security. LO 13.c

An investment adviser representative (IAR) has uncovered an unusual investment opportunity that she believes is perfect for one of her clients. When presenting the recommendation to the client, it becomes clear that the client is concerned about the potential of loss. To alleviate that concern, the IAR tells the client that she agrees to repurchase the security from the client anytime within the next 60 days at the original purchase price. In so doing, the IAR has A) committed the unethical business practice of recommending a wash sale. B) committed the unethical business practice of guaranteeing against loss. C) acted ethically because her actions are in the client's best interest, not her own. D) acted ethically because she has not guaranteed a profit to the client.

Answer: B) The unethical business practice of guaranteeing against loss can take several forms. This is one of them—offering to buy back a security at the purchase price. A wash sale involves an investor repurchasing a security sold at a loss and has no relevance to this question—it is a tax issue. The prohibition against guarantees does not require that the client be ensured a profit, only that there is no loss. Even when an IAR is confident that an investment is in the client's best interest, a guarantee may not be offered. LO 13.d

Under NASAA's Model Rule dealing with Unethical Business Practices of Investment Advisers, Investment Adviser Representatives, and Federal Covered Advisers, an investment adviser would have to disclose that the firm was acting in a principal capacity when A) directing a securities transaction to an affiliated broker-dealer. B) shares held in the account of an advisory client are purchased by the investment adviser. C) the trade was being executed by an officer or partner of the firm. D) engaging in an agency cross transaction.

Answer: B) There are two principals in every securities trade: the buyer and the seller. In this case, buying shares directly from the client who owns them places the investment adviser 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. Although not mentioned here, consent of the client is also necessary to act in this fashion. In agency cross transactions, the firm is acting as an agent—that's the reason for the term. LO 13.a

Under NASAA's Model Rule on Unethical Business Practices of Investment Advisers, Investment Adviser Representatives, and Federal Covered Advisers, requirements of advisory contracts include which of the following? I. They must be renewed on an annual basis. II. They must describe the amount of any prepaid fee that will be returned to the client in the event the contract is terminated. III. They must prohibit assignment of the contract without the client's consent. A) I and II B) II and III C) I and III D) I, II, and III

Answer: B) There is no requirement that advisory contracts be renewed on an annual basis. Contracts can be written for any length agreed upon. Advisory contracts must describe the amount of any prepaid fee that will be returned to the client if the contract is terminated and must prohibit assignment without the client's consent. LO 13.e

A federal covered investment adviser (IA) feels that some recent industry regulations will limit his ability to provide the returns to clients that both he and they desire. He communicates this to his clients and urges those who are willing to sign an agreement waiving their rights to take any legal action in the event of loss due to his refusal to follow those rules. This means that A) a suit would be possible, but only if agreed to by the IA. B) clients would still be permitted to sue because there is no way that legal rights can be waived. C) clients would not be able to sue because they have executed a document waiving their rights. D) as long as this is part of the agreement with the IA, no legal action can be taken.

Answer: B) There is no way that a waiver of legal rights is ever enforceable. LO 13.e

Which of the following actions by an investment adviser registered in three states is permitted? A) Stating in the advisory contract that fees will be reimbursed if account performance is less than agreed upon B) As long as the firm's brochure indicates that fees are negotiable, announcing that the first 50 new clients to sign up will receive a 25% discount on their fees for the first year C) Delivering the brochure within 48 hours after signing of the contract, as long as there is a 5-day, penalty-free withdrawal provision D) Guaranteeing a rate of return equivalent to a 5-year insured bank CD or waiving their yearly fees

Answer: B) This is not considered discrimination, because the discount applies equally to all (if they are among the first 50). The regulators consider this to be a negotiated fee. Fee reimbursement or waivers are not permitted. The five-day withdrawal provision applies to state-registered investment advisers when the brochure is not delivered at least 48 hours prior to (not after) the signing of the contract. LO 13.a

Under the Uniform Securities Act, investment advisory contracts A) must list each state in which the adviser is registered. B) must contain a description of fees. C) are cancelable without penalty for 48 hours after the customer signs. D) cannot be assigned without the Administrator's approval.

Answer: B) Under the USA, all advisory contracts must be in writing and contain descriptions of how fees are determined. Contracts are valid upon signing, need not list all states in which an adviser is registered, and cannot be assigned without the client's approval. However, if the brochure is not delivered at least 48 hours before the signing of the contract, the client has the right to withdraw without penalty for five business days. Administrator approval is not required. LO 13.e

Unless an exemption applies, under the Investment Advisers Act of 1940, an investment adviser is required to A) maintain a bond for an amount based on the assets under management. B) provide each advisory client with a brochure or a summary of material changes within 120 days of the end of its fiscal year. C) furnish a statement of the total dollar amounts of securities bought and sold each year to customers. D) furnish an audited balance sheet each year to customers for whom the advisor maintains custody.

Answer: B) Unless an exemption applies (the client is an investment company or the adviser is providing impersonal advisory services costing less than $500 per year), SEC rules require that a brochure containing a summary of material changes, if any, must be delivered to all clients within 120 days of the end of the investment adviser's (IA's) fiscal year. The summary itself may be sent with instructions as to how to receive the entire brochure if the client desires. If there are no material changes, a brochure does not have to be sent. Under federal law, the balance sheet is required only when the IA requires or charges a substantial prepayment of fees. (Only state-registered advisers must supply balance sheets when maintaining custody.) Bonding requirements apply only to state-registered investment advisers. LO 13.g

Quick and Fast Executions, Inc., a broker-dealer registered with the administrator, maintains a website describing the services offered by the firm. Which of the following statements would be in compliance with the requirement to maintain certain books and records? A) The original website design must be retained for a period of at least five years from initial use. B) The original website design must be retained for a period of at least three years from initial use. C) Retention of any revised design must be kept for a period of at least three years after the initial design's retention period ends. D) Because websites tend to be fluid, administrators require only that they be available for spot-checking.

Answer: B) Websites, like any other advertisement, must be retained for a period of at least three years from initial use. Because they are fluid (frequently changing), each design change must be filed after first use, beginning a new three-year holding period. LO 13.h

Under the Uniform Securities Act, the term guaranteed, when used to describe a security, refers to all of these except A) interest. B) capital gains. C) dividends. D) principal.

Answer: B) When a security is guaranteed, that means that someone other than the issuer has guaranteed timely payment of interest and principal on a debt security, or the payment of dividends on an equity security. No one ever guarantees that the investor will have a capital gain. LO 13.d

LMN Securities, a broker-dealer registered with the SEC and more than a dozen states, has just become a member firm of the New York Stock Exchange. It would be permitted for LMN to tell its customers that A. the membership in the NYSE is a testimony to the integrity of the firm. B. they are now members of the NYSE. C. they are now federal covered and will no longer have to register in those states where they do not maintain a place of business. D. this adds one more level of approval of the firm's business

Answer: B) When it comes to the registration of any securities professional, any statement relating to approval or something similar is prohibited. There is no such thing as a federal covered broker-dealer, and becoming a member of a national stock exchange has no impact on the state registration of a broker-dealer.

Fiduciary Investment Group (FIG), an investment adviser registered in 6 states, from time to time acts as a principal in trades recommended to advisory clients. Under the provisions of the Uniform Securities Act, A. FIG is engaging in an unlawful practice. B. FIG must receive consent of the clients and disclose its capacity no later than execution of the trade. C. FIG must receive consent of the clients and disclose its capacity no later than completion of the trade. D. FIG does not need consent because the trade was recommended to existing advisory clients.

Answer: C This practice is not unlawful as long as the investment adviser obtains the required consent and makes the appropriate disclosures on a timely basis. That time limit is no later than the completion of the trade (the settlement date). If FIG is also a broker-dealer and a client makes a trade that is not initiated through an advisory recommendation, then acting as a principal only requires disclosure of capacity, not consent.

The Investment Advisers Act of 1940 would permit investment advisory contracts to provide for I. assignment without the client's consent II. changes to be made in a partnership wit notification to clients within a reasonable period of time. III. compensation based on average assets under management over a particular time period. A. I and II B. I and III C. II and III D. I, II, and III

Answer: C) A client's contracts, whether written or oral (technically, the Investment Advisers Act of 1940 does not require written contracts), may not be assigned without the client's consent under any circumstances. If the adviser is a partnership, notice must be made to clients of any changes in the membership of the partnership within a reasonable time period. It is always permitted to charge a fee based on the average value of assets under management.

Clark, a partner with a minority interest in ABC Investment Partners, a registered investment adviser, withdraws from the partnership to form his own separate partnership, Clark Advisers. ABC Investment Partners A) must notify Clark Advisers of Clark's withdrawal from ABC Investment Partners within a reasonable period. B) must change its name because the partnership has a new mix of partners as a result of Clark's departure. C) must notify its clients of Clark's departure within a reasonable period. D) need not notify its clients of Clark's departure because Clark was only a minority partner.

Answer: C) ABC Investment Partners must promptly notify its clients of Clark's departure. Under the Uniform Securities Act, a change to a minority interest in the membership of a partnership requires the partnership to notify all investors of the change within a reasonable period. ABC has no obligation to notify Clark Advisers of Clark's new employment. LO 13.e

The agreement between an investment adviser and client is the advisory contract. To be in compliance with the law, contracts under the USA differ from those under the Investment Advisers Act of 1940 in that under the USA they A) must disclose the amount or method of calculation of the adviser's fee. B) do not generally provide for discretion. C) must be in writing. D) are typically renewed on an annual basis.

Answer: C) Although it is not the general practice, federal law does permit oral contracts, whereas the USA requires that all initial and renewal contracts be in writing. Both federal and state laws require that the contract disclose the fees and how they are calculated. There is no stipulated renewal date, and there is no particular distinction between state-registered advisers and SEC-registered ones as to the granting of discretionary powers.

Regulatory issues regarding broker-dealers offering wrap fee programs to existing customers include A) the possibility that the offer of commission-free trading could lead to churning. B) the fact that these firms might deliver the Form ADV Part 2 Appendix 1 to these customers instead of the regular Form ADV Part 2A. C) concerns that some clients put into the program would be better off paying separately for investment advice, brokerage, and other services offered under the program. D) the fact that firms will offer the program to clients who are not accredited investors and who are unable to take the risks incumbent in the program.

Answer: C) Although the concept of the wrap fee program sounds very enticing (no commissions on trades, no charge for advice, no charge for custody, and whatever else is included), the fact is that some clients, especially those who follow the buy-and-hold strategy, will likely be overpaying because they will not be receiving the full benefits. Indeed, churning is not an issue with these programs because the whole rationale behind churning is excessive trading to generate commissions. That would not be factor in a wrap fee program. In general, wrap fee programs require a minimum investment that could be in the $50,000 to $100,000 range, but, unlike private placements, there is no need for the investor to be accredited. The proper brochure is Form ADV Part 2, Appendix 1, not Part 2A that is used for general investment advisory accounts. LO 13.f

According to NASAA's Model Rule on Unethical Business Practices of Investment Advisers, Investment Adviser Representatives, and Federal Covered Advisers, an investment advisory contract must describe all of the following except A) whether or not the contract grants discretionary authority. B) that assignment of the contract cannot occur without client consent. C) any record of securities industry violations by the investment adviser. D) the amount of prepaid fees to be returned if the contract is terminated.

Answer: C) An investment advisory contract is not required to disclose securities industry violations by the investment adviser. These must be disclosed, however, in Form ADV. The investment advisory contract must include the amount of prepaid fees to be returned if the contract is terminated, the fact that assignment of the contract cannot occur without client consent, and the fact that the agreement does or does not contain discretionary authority. LO 13.e

An agent is licensed to sell variable annuities. An insurance company, whose products are available through the agent's broker-dealer, is offering an all-expenses-paid trip to Panama City Beach to any individual who places at least $1 million of clients' money into one of the company's deferred variable annuities. In order to recommend this company's products to clients, A) the agent shall offer the client a rebate of a portion of the commission earned. B) consent of the insurance company is required. C) the agent shall disclose the potential conflict of interest. D) disclosure of the risks inherent in variable annuities shall be made.

Answer: C) Anytime there is an incentive involved in a security offering, the potential conflict of interest shall be disclosed to the potential investor. Rebates of commissions on variable insurance contracts are not permitted under either securities or insurance regulations. What about the risk disclosure? Yes, that must be made, but does that really address the question? Sometimes, there is a second choice that could also be correct (as in this case). However, you must always answer within the context of the question—what do you do when there is an incentive offered? LO 13.b

Mary is a sole proprietor investment adviser registered with the SEC. Eight years ago, she was the subject of an SEC investigation involving improper actions between her customers and herself, which resulted in a $5,000 fine. Under the Investment Advisers Act of 1940, Mary's obligation to her clients is to do which of these? I. Disclose to prospective clients in her Form ADV, Part 2 that she was the subject of a proceeding and the proceeding's outcome. II. Make disclosures in her Form ADV, Part 2 regarding the case only if the prospect becomes a client. III. Make disclosures in her Form ADV, Part 2 only if the event was resolved in her favor or was reversed, suspended, or vacated. A) I, II, and III B) II only C) I only D) I and III

Answer: C) If an investment adviser has been the subject of a material criminal, civil, or regulatory action within the past 10 years, that fact must be disclosed to all clients and prospective clients in Form ADV, Part 2A. The only time disclosure of an investigation need not be made is when the event was resolved in her favor or was reversed, suspended, or vacated. In other words, no guilty verdict, no fine. Unlike broker-dealers, where only a handful are structured as sole proprietorships, that structure is not unusual for investment advisers, especially those registered at the state level. LO 13.b

nder the USA, all of the following statements are true regarding investment advisory contracts except A) they must be in writing. B) they can allow fees to be performance related only under certain limited circumstances. C) they cannot allow for prepaid advisory fees. D) they cannot be assigned without customer approval.

Answer: C) Nothing in the USA prohibits prepaid advisory fees. The contract must describe the nature of these fees and the circumstances, if any, under which any or all of the prepaid fee may be returned in the event of early cancellation of the contract. The USA requires initial and renewal contracts to be in writing and to state that assignment may take place only with the client's consent. There are certain circumstances, such as an investor with a net worth of at least $2.2 million, where performance-based fees are permitted. LO 13.e

With regard to a state-registered investment adviser using Form ADV, Part 2 as its brochure, it would be correct to state that A) if requested by a client, it must be sent within 5 days of the request. B) it must be delivered not later than 48 hours after entering into an advisory agreement with a new client. C) it is filed through the IARD system. D) it must be delivered to all new clients.

Answer: C) The Investment Adviser Registration Depository (IARD) is an electronic filing system that facilitates investment adviser registration, regulatory review, and the public disclosure information of investment adviser firms. The IARD is used for filing Form ADV, Parts 1 and 2. If the "brochure" is not delivered at least 48 hours before (not after) the signing of the agreement, the client has a five-day penalty-free withdrawal right. Annually, Part 2 (brochure), or a summary of material changes, must be delivered within 120 days of the end of the adviser's fiscal year (unless there have been no material changes). The brochure does not have to be delivered to all clients; those purchasing impersonal advice for less than $500 per year are exempt. There is also an exemption for delivery to investment company clients, but that would not apply here because if the adviser had any of those, it would have to be federal covered rather than state-registered. LO 13.g

Antonia, a customer of Leroy (an agent of Gibraltar Securities), is considering the purchase of 2,000 shares of Kansas Plains Gas and Electric Company common stock. Antonia has stock in 10 other utilities companies in her portfolio, and this stock trades on the New York Stock Exchange (NYSE). Leroy tells Antonia that the company has been increasing its dividend for the past 19 years and will surely continue to do so. Which of the following statements best reflects this situation? A)L has acted ethically because he did not guarantee profits or the absence of potential loss to Antonia. B)L has acted unethically because he made an unsuitable recommendation to Antonia. C)L has acted unethically, misleading Antonia by implying that increased dividend distributions from Kansas Plains Gas and Electric Company are a sure thing. D)L has acted ethically in recommending the purchase of a stock with a long history of dividends.

Answer: C) The agent has acted unethically, misleading the customer by implying that increased dividend distributions from the utility corporation are guaranteed. Given the customer's history of purchasing stock in other utilities, nothing in the question indicates that the trade is unsuitable for the customer. LO 13.d

An agent has a conservative investor looking for income. The agent recommends a bond of a company the investor has never heard of. To allay the client's fear of loss, the agent states that the payment of interest and principal is guaranteed by a well-known publicly traded company. Under the Uniform Securities Act, A) the agent is possibly committing fraud. B) a guaranteed security only guarantees payment of interest or dividends. C) agents should always recommend securities that are familiar to the investor. D) the agent is describing a guaranteed security.

Answer: D) A guaranteed security is one where the interest and principal (in the case of a bond) are guaranteed by a third party. If it is a guaranteed stock, the dividends are the subject of the third-party guarantee. With tens of thousands of publicly traded securities, it is unlikely that your client will be familiar with most of them, but that doesn't prohibit the agent from making the recommendation if suitable. LO 13.d

Under NASAA's Model Rule on Unethical Business Practices of Investment Advisers, Investment Adviser Representatives, and Federal Covered Advisers, which of the following statements about material conflicts of interest is true? I. Any conflicts of interest must be disclosed either orally or in writing before rendering advice. II. Material conflicts of interest must be disclosed in writing before rendering advice. III. Material conflicts relating to the adviser, adviser representative, or adviser employees must be disclosed.

Answer: D) Advisers must disclose any material conflicts of interest in writing before rendering advice. Material conflicts of interest include any compensation to be received regarding recommendations to the client from other sources in addition to the advisory fee charged and affiliations between the adviser and suppliers of related services or other investment products. LO 13.b

According to the Investment Advisers Act of 1940, which of the following statements about agency cross transactions is not true? A) These transactions are allowed if the adviser is acting in the best interest of the client with respect to obtaining the best possible price. B) Advisers must provide a written disclosure of potential conflict of interest before obtaining the client's written consent to execute such a transaction. C) Advisers must send statements to clients no less frequently than annually that identify the total number of these transactions during the period and the total amount of commissions received. D) Investment advisers can recommend these transactions to both the buyer and the seller if both clients give written consent.

Answer: D) An agency cross transaction occurs when an investment adviser acts as a broker for one or both sides of a transaction involving an advisory client. Investment advisers cannot recommend cross transactions to both buyer and seller, even if written consent is given. These transactions can be executed if the adviser is acting in the best interest of the client with respect to obtaining the best possible price. Disclosure is also required. The adviser must send a statement on at least an annual basis identifying the total number of these transactions during the period covered and the total amount of commissions received. Advisers must provide a written disclosure of potential conflict of interest before obtaining the client's written consent to execute such a transaction. LO 13.a

One of your customers is a member of a local fraternal organization. He sends you a flyer he received in the mail two days ago. The flyer discusses an investment offering very attractive returns and promotes the fact that the principals of the business are also active in the organization. The flyer closes with an appeal to join in with their "brothers" and prosper. This is an example of A. a Ponzi scheme B. an exaggerated claim C. an offshore operation D. possible affinity fraud

Answer: D) An investment promoted to members of a religious or social group are often designed to take advantage of the communal friendship. This is a red flag known as affinity fraud.

One respect in which the rules dealing with broker-dealer advertising differ from those for investment advisers is that A. broker-dealer can advertise past performance, while investment advisers cannot. B. broker-dealers can use social media, while investment advisers cannot C. broker-dealers can highlight critical information in a prospectus, while investment advisers cannot D. none of the above are true statements.

Answer: D) Both BDs and IAs can advertise past performance and use social media as long as the rules are followed. Neither can make any marks on a prospectus or any other type of offering document.

When it comes to evaluating the appropriate use of social media, the regulators are primarily concerned with A) personal devices. B) the technology. C) the time of day it is used. D) the content.

Answer: D) In the many conferences held by the regulators to explain their views on social media, one of the points always stressed is that it is not the device or technology that determines if a piece delivered by a securities professional is subject to approval and recordkeeping. Rather, it should always be the content that determines if a piece is subject to approval and recordkeeping. LO 13.h

D runs a sole proprietorship IA and is also a registered agent with Pelf Securities, a registered broker-dealer. D charges his clients an hourly fee for advice, and when they wish to purchase recommended securities, they may do so through Pelf Securities if they have an account there. In those circumstances, D earns a commission on the securities transaction in addition to the hourly fee he earned while making that recommendation. Under the NASAA Model Rule on Unethical Business Practices of IA, IAR, and Federal Covered Advisers, A) this would constitute a prohibited practice. B) this would be acceptable if it were disclosed to the client and the IA fee was based on a % of assets under management rather than an hourly basis. C) the trade could only be placed through Pelf Securities if they were the market maker in the recommended security. D) this would be permitted if the compensation were disclosed to the client.

Answer: D) Investment advisers may charge fees on an hourly basis, as a percentage of assets under management, or even as a flat annual fee. In addition, if licensed as agents of a broker-dealer, they may also earn commissions on transactions routed through that broker-dealer. However, disclosure to the client is required, and it must be made clear to the advisory client that transactions may be executed at whatever broker-dealer the client chooses. LO 13.b

Under the Investment Advisers Act of 1940, an investment adviser that becomes registered may A) place the abbreviation RIA after its name on their business card. B) state in a brochure that its registration is approved by the SEC. C) tell a client its qualifications have been approved by the SEC. D) state on its stationery that it is registered with the SEC.

Answer: D) It is illegal to imply in any way that the SEC sponsors or approves of the adviser. The title in no way indicates that the adviser's abilities or qualifications have been approved. However, a statement that the adviser is registered with the SEC is appropriate. An abbreviated title after a person's name must be used to recognize educational or professional designations only (e.g.,CFP® or ChFC®). Although the initials RIA are commonly seen in the media, federal law prohibits a registered investment adviser from using them. LO 13.c

As an incentive to encourage clients to invest in a particular stock recommended by the broker-dealer, clients are told that any time within six months after the purchase date, they may sell the stock back to the firm at original cost plus interest at the state's legal rate. This would be A. a right of rescission B. a violation of the antifraud provisions of the Uniform Securities Act. C. an offer that could only be made to accredited investors D. a prohibited guarantee against loss.

Answer: D) Offering to buy back a stock at its original cost, even without paying interest, is a prohibited guarantee against loss. Rescission is only when there was something improper about the sale. Technically, this offer is nota case of fraud, and in any event, we must always select the answer that best addresses the question - in this case, a guaranteed price.

Which of the following is the best example of an exaggerated claim that may not be used in investment adviser advertising? A) Saying that every one of the firm's securities analysts has earned the CFA® designation B) Saying that the firm practices asset allocation principles when it generally designs portfolios consisting of equity, debt, and other investment classes C) Reporting actual portfolio returns of 15% in the prior year, accompanied by a disclaimer that past performance does not indicate future performance D) Saying that the firm has $300 million under management when it manages only $50 million Explanation

Answer: D) Overstating the amount of client funds under management is an exaggeration. It is not an exaggeration to state the qualifications of the firm's analysts, unless the statement is untrue. Referring to asset allocation principles when the firm practices such principles is not an exaggeration. If superior investment performance is fact (actual), it is not an exaggeration to report such returns, as long as the report is accompanied by an appropriate disclaimer explaining that past performance does not indicate future performance. LO 13.i

Which two of the following statements accurately describe the time limits for investment adviser documents? I. Filing of the annual updating amendment to Form ADV with the appropriate regulatory body is within 90 days of the end of the adviser's fiscal year. II. Filing of the annual updating amendment to Form ADV with the appropriate regulatory body is within 120 days of the end of the adviser's fiscal year. III. Delivery of the investment adviser's brochure to the customer is due within 90 days of the end of the adviser's fiscal year. IV. Delivery of the investment adviser's brochure to the customer is due within 120 days of the end of the adviser's fiscal year. A. I and III B. I and IV C. II and III D. II and IV

Answer: D) Some logic here might help. The investment adviser must get its paperwork into the state (or SEC) prior to the end of the 90-day period. Then, the IA has another 30 days to get the information into the brochure to be sent to the clients.

The regulatory bodies are concerned about agents using social media to communicate with clients when they are using their I. office desktop computers II. tablets supplied by the firm III. smartphones IV. personal laptops while on vacation A. I and II B. I and IV C. II, III, and IV D. I, II, III, and IV

Answer: D) The format is not what counts; it is the content that matters.

An investment adviser would be most likely to be the contra-party to a trade when acting as A) an investment counsel. B) a broker. C) an agent. D) a principal.

Answer: D) The term contra-party means the other side of the trade. There are always two parties (the principals) to any transaction: the buyer and the seller. When an investment adviser is selling a security out of, or purchasing a security for its proprietary account, it is one of the principals. LO 13.b

An agent with a nationally known broker-dealer has been opening new accounts with middle-income clients. When asked for the reason for the success, the agent replies that prospects are offered a money-back guarantee. That is, if any security the agent recommends fails to increase in value by at least 25% in six months, the agent will make up the difference. This type of guarantee A) must have been approved by the agent's supervisor before the agent began using it. B) is permitted only if the guarantee is coming from a third party other than the agent. C) would be considered fraudulent activity. D) is an unethical and prohibited practice.

Answer: D) There is just no way a guarantee against loss, or a guarantee of a profit, is ever permitted in this fashion. Do not confuse this with the third-party guarantee on a guaranteed security. Fraud involves committing a criminal act, and this is merely unethical. LO 13.d

One of your clients approaches you to get your evaluation of an investment opportunity that was received through a Facebook post sent by a friend. The investment promises a monthly return in excess of 1% and claims that it is registered with an offshore regulatory body. You should explain to your client that A. these are reasonable expectations based on the investment and the location of the issuer. B. your firm does not sell that security, and as a result, you cannot make any comments about the issue. C. it is important to check with the friend to find out more about the deal. D. these are red flags and are a clear warning to stay away from this investment.

Answer: D) Unreasonably high returns and not being registered in the US are two items on the list of red flag warnings to investors published by NASAA.

Compliance with delivery requirements pertaining to an adviser's brochure under the Uniform Securities Act would require an adviser to A) file a copy of the brochure with SEC on an annual basis. B) furnish clients with a copy of the brochure at least 48 hours before entering into the agreement. C) furnish clients with a copy of the brochure on an annual basis even if there have been no material changes. D) furnish clients with a copy of the brochure within 120 days of the end of the adviser's fiscal year unless there have been no material changes.

Answer: D) Whether state or federal covered, unless there have been no material changes, investment advisers must send a brochure to eligible clients within 120 days of the end of the adviser's fiscal year. Under the NASAA brochure rule, there is a requirement not found in the federal law. State-registered investment advisers are required to deliver the brochure to the client at least 48 hours before entering into an advisory contract or at the time of entering into an advisory contract if the advisory client has the right to terminate the contract without penalty within five business days after entering into the contract. Please note, the 48-hour requirement is not mandatory; it can be avoided by agreeing to offer the client the five-day termination option. LO 13.g