3.b Flashcards
(17 cards)
What is the main idea behind FINRA’s Suitability Rule (Rule 2111)?
A firm and its representatives must have a reasonable basis to believe that a recommended investment is suitable for the customer. This is based on the customer’s financial situation, investment objectives, and risk tolerance.
What key pieces of information MUST a firm get to open an account?
- Customer Name
- Address & Phone Number
- Tax ID (Social Security Number)
- Date of Birth
- Employment Status & Occupation
- Whether they are a corporate insider (own >10% of a company)
- Annual Income & Net Worth
- Investment Objectives
What happens if a customer provides only the minimum information but refuses to provide financial details for suitability?
The account can still be opened. However, the firm cannot make any recommendations. Only unsolicited (customer-initiated) trades are allowed.
Whose signature is required on a new account form to officially open the account?
A principal of the firm (e.g., a manager or officer). The customer’s signature is NOT required on the new account form.
How often does the firm need to check in with the customer about their account information?
- Within 30 days of opening the account.
- At least once every 36 months (3 years) after that.
If an employee of another brokerage firm wants to open an account with you, what must happen first?
- The employee must get prior written consent from their own employer.
- The employee must notify your firm, in writing, of their association with the other firm.
- Your firm must be prepared to send duplicate copies of trade confirmations and statements to the employer firm upon request.
What are the two key things a margin account allows a customer to do?
It allows a customer to borrow money from the broker-dealer to purchase securities. This lets them:
1. Purchase more securities with less cash upfront.
2. Leverage their investment.
Leverage magnifies both gains and losses.
What is hypothecation?
Hypothecation is the customer pledging their securities to the brokerage firm as collateral for the margin loan. This is done by signing the hypothecation agreement.
Rehypothecation is when the brokerage firm then pledges those same customer securities to a bank as collateral for a loan to the firm.
To open a margin account, which forms are mandatory for the customer to sign, and which is optional?
Mandatory:
1. Credit Agreement: The ‘loan contract’ that discloses the terms of the loan.
2. Hypothecation Agreement: Allows the firm to use the customer’s securities as collateral.
Optional:
* Loan Consent Form: Allows the firm to lend the customer’s securities to others (usually for short sales).
How often must a firm provide the margin risk disclosure document to a margin customer?
Annually.
This document reminds customers they can lose more than they deposited, are not entitled to extensions on margin calls, and the firm can sell their securities without notice if they fail to meet a call.
What types of securities CAN be bought on margin and used as collateral?
- Exchange-listed stocks and bonds (e.g., NYSE, Nasdaq)
- Mutual Funds (cannot be bought on margin, but can be used as collateral after holding for 30 days)
- U.S. Treasury bills, notes, and bonds
What types of securities CANNOT be bought on margin?
- Options (Puts and Calls)
- Rights
- Insurance Contracts
- New Issues (like IPOs)
How do you calculate the minimum a customer must deposit for their first trade in a margin account?
The customer must deposit the GREATER OF:
* Regulation T: 50% of the purchase price.
* FINRA Minimum: $2,000 (or 100% of the purchase if it’s less than $2,000).
How much must a customer deposit for a first-time margin purchase of $10,000?
$5,000. (Reg T is $5,000, which is greater than the $2,000 FINRA rule).
How much must a customer deposit for a first-time margin purchase of $3,000?
$2,000. (Reg T is $1,500, but the $2,000 FINRA rule is greater).
How much must a customer deposit for a first-time margin purchase of $1,500?
$1,500. (Reg T is $750. Since the purchase is less than $2,000, the FINRA rule requires 100% of the purchase price, which is $1,500).
What is a maintenance call?
A demand for the customer to deposit more money or securities. It’s triggered if the customer’s equity drops below the minimum maintenance level (usually 25% of the account’s market value). If the customer doesn’t meet the call, the firm can liquidate (sell) securities from the account to bring the equity level back up.
