A - Investment Companies Flashcards Preview

Test Questions > A - Investment Companies > Flashcards

Flashcards in A - Investment Companies Deck (60):
1

A mutual fund pays $0.30 in dividends and $0.75 in capital gains during the year. The offer (ask) price at the end of the year is $6.50. What is the current yield on this fund?

A. 4.1% B. 4.6% C. 5.9% D. 7.5%

Incorrect! The correct answer is: B. 4.6%

4.6%. You must remember that yield is calculated at a point in time, and it changes as the value of the shares change and as distributions change. In this case, what you get is the dividend and what you pay is the ask price. Do not consider the capital gain. We always use the dividend and the ask price. Then just do the division: $0.30 divided by $6.50 = 4.6%. [Module 7, Investment Companies, Section 9.1]

2

SPDR funds, an exchange-traded fund, is which of the following types of investment companies?

A. Closed-end unit investment trust B. Open-end unit investment trust C. Closed-end investment company D. Open-end investment company

Incorrect! The correct answer is: B. Open-end unit investment trust

Open-end unit investment trust. All exchange-traded funds are either an open-end unit investment trust (UIT) or an open-end investment company. The SPDR funds are unit investment trusts, and thus are an open-end UIT. It could be called an open-end investment company, but the true name is open-end UIT. If the UIT were not an answer choice, the next best answer would be open-end investment company. [Module 7, Investment Companies, Section 2.3]

3

An investor has $72,000 to invest in mutual funds. He decides to invest equal amounts in three mutual funds. The broker does not tell the customer that the three funds offer reduced sales charges on investments in excess of $25,000. Based upon the above information, which of the following is true?

I. The investor has achieved diversification by buying three mutual funds and will probably make a profit.
II. The broker has violated the "breakpoint sale" provision of FINRA as to a quantity discount on a large purchase.
III. The broker has not violated FINRA Rules of Fair Practice because he followed the customer's instructions and purchased the three different mutual funds.

A. II only B. III only C. I and II only D. I and III only

Incorrect! The correct answer is: A. II only

II only. By not telling the customer of the reduced sales charges, the broker has violated the breakpoint sale provision of FINRA. If he had told the customer, or the customer had signed a letter of intent and then proceeded to buy the three mutual funds, no violation would have occurred. The broker didn't tell of the breakpoint, so he violated the rules, even though he did follow the customer's instructions. We cannot tell whether the customer has achieved diversification or not, and there is no sure profit. [Module 7, Investment Companies, Section 5.5]

4

Which of the following statements about a closed-end investment company is correct?

A. It is continually issuing shares. B. Its shares can be redeemed by the issuing investment company. C. Its shares are sold in the open market at their current offering price. D. It can issue only common stock.

Incorrect! The correct answer is: C. Its shares are sold in the open market at their current offering price.

Its shares are sold in the open market at their current offering price. This is the only statement that is true about closed-end investment companies. The other three statements are true of open-end companies: They can only offer one type of stock -- common; they continually offer new shares; and they redeem their own shares. A closed-end company does none of these. [Module 7, Investment Companies, Sections 3.4 & 4.2]

5

A money market mutual fund invests in all of the following, except:

A. A non-negotiable certificate of deposit B. A banker's acceptance C. Commercial paper D. A repurchase agreement

Incorrect! The correct answer is: A. A non-negotiable certificate of deposit

A non-negotiable certificate of deposit. A mutual fund does not invest in non-negotiable CDs. Money market funds invest in negotiable CDs, which are very short-term (14 to 30 days), but not non-negotiable CDs. Non-negotiable CDs are long-term investments that may charge surrender fees for early withdrawal. Investment companies invest in commercial paper, banker's acceptances, and repurchase agreements, especially if the fund is a money market fund. [Module 7, Investment Companies, Section 10.6]

6

An exchange-traded fund (ETF) is an investment company that invests in all the following, except:

A. Shares of companies that mimic a major market index B. Shares of companies that are only in one country C. Shares of companies that have a certain market capitalization D. Shares of companies that are all on the stock exchanges and periodically change the investments

Incorrect! The correct answer is: D. Shares of companies that are all on the stock exchanges and periodically change the investments

Correct answer (false statement): Shares of companies that are all on the stock exchanges and periodically change the investments. ETFs do not change their shares, unless there is a change in the index they are mimicking, or some other event would cause the change. Investment companies that buy and sell shares of companies are managed investment companies. ETFs are not managed. [Module 7, Investment Companies, Section 2.3]

7

An investor tells his registered rep he has just received $60,000. He wants to add to his other investments, and wants to get into telecommunication since many new companies will become big in the future. He wants to invest in them for his retirement. Which of the following would you suggest to the investor?

A. Growth mutual fund B. Venture capital mutual fund C. Sector mutual fund D. High-yield corporate bond fund

Incorrect! The correct answer is: C. Sector mutual fund

Sector mutual fund. There are misleading statements in here that you have to ignore. The first parameter is investments in one sector of the economy -- telecommunications. Yes, he is looking for growth and yes, he is looking for retirement, but the first parameter mentioned is one type of investment. That means sector fund. The growth fund and the venture capital fund are sucker answers. There was no mention on income, so the high-yield fund is out. [Module 7, Investment Companies, Sections 10.2 - 10.4]

8

An investor calls and asks you about purchasing ETNs on the NYSE. You tell the investor all of the following, except:

A. The purchase price is determined by trading on the exchange. B. The investor will pay the public offering price plus a sales charge. C. The backing for the ETN is the promise to pay a specific price on a date set by the issuer. D. The ETN will not pay any dividends or interest and will only pay a specific value at maturity.

Incorrect! The correct answer is: B. The investor will pay the public offering price plus a sales charge.

Correct answer (false statement): The investor will pay the public offering price plus a sales charge. They do pay a specific offering price, but not with a sales charge; rather, a commission is paid. There is a public offering price, but it can change during the day, subject to trading. The ETNs are backed by a promise to pay by the issuing bank or broker/dealer. No dividends or interest is paid, only a specific value at maturity. [Module 7, Investment Companies, Section 2.5]

9

The redemption price of a mutual fund is synonymous with:

A. The offering price minus the redemption fee, if any B. The offering price C. The net asset value minus a redemption fee, if any D. None of the above

Incorrect! The correct answer is: C. The net asset value minus a redemption fee, if any

The net asset value minus a redemption fee, if any. The redemption fee is subtracted from this price. The NAV is the same as the bid price, not the offering price. [Module 7, Investment Companies, Section 6.0]

10

What kind of investment company makes no provision for future purchases or redemptions?

A. An open-end management company B. A unit investment trust C. A closed-end management company D. A face-amount certificate company

Correct Answer: C. A closed-end management company

A closed-end management company. Closed-end investment companies issue stock only once. All the others issue shares and then redeem them from the investor. Open-end companies have a continuous offering, while face-amount certificate companies and unit investment trusts issue shares of stock that mature at a future date. Closed-end management company stock trades in the secondary market after being issued by the company. [Module 7, Investment Companies, Section 3.4]

11

The board of directors of a mutual fund would like to change the fund's investment objectives. This could be done provided:

A. The management could switch at their discretion without a vote of the shareholders. B. More than 10% of the stockholders vote for the change and the board of directors gives approval. C. More than 50% of the voting shares held by stockholders vote for the change. D. Holders of the fund are given the choice of switching into a similar fund with the same objectives.

Incorrect! The correct answer is: C. More than 50% of the voting shares held by stockholders vote for the change.

More than 50% of the voting shares held by stockholders vote for the change. (Remember -- if given a choice between shares and stockholders, the shares vote, not the people.) Changes in policy must always be voted upon, no matter what choices the holders are given. In addition, more than 50% must agree to the change for it take effect. Management cannot make changes without shareholder approval. [Module 7, Investment Companies, Section 7.0]

12

An investor calls you to ask about hedge funds. She is interested in learning about the main investments transacted in hedge funds. Which three of the following are hedge fund investments?

I. Derivatives & options
II. Collateral mortgage obligations
III. ETFs
IV. Investment companies

A. I, III, and IV B. II, III, and IV C. I, II, and III D. I, II, and IV

Correct Answer: C. I, II, and III

I, II, and III. Derivatives and options are the investments that are used the most for hedge funds. Derivatives (puts and calls) are used for protection and to take advantage of the market. Hedge funds also use both inverse and leveraged ETFs to hedge stock positions in the U.S. However, hedge funds do not invest in investment companies since the investors would have to pay the management fee twice. [Module 7, Investment Companies, Section 2.6]

13

You have an investor in his early 30s who has done some investing. Right now he has four months of income to live on and wants to put some of that to good use by investing. A friend told him about leveraged ETFs and how they can double or triple the investor's money. He asks you how he could enter into these investments. What do you tell him?

A. You can get some, but only on a short-term basis. B. You have to get your manager's approval. C. You have to have approval from FINRA. D. Leveraged ETFs are not suitable for him.

Incorrect! The correct answer is: D. Leveraged ETFs are not suitable for him.

Leveraged ETFs are not suitable for him. Leveraged ETFs are for sophisticated investors who have extra money, not for someone with a small savings account. Regardless of what this investor wants to accomplish, these risky investments are not a quick fix to make big bucks. The investor could lose it all very quickly. [Module 7, Investment Companies, Section 2.4]

14

A mutual fund investor is concerned about the risk of her principal, but wants to generate income to supplement her income from Social Security and other investments. Which of the following investments would you suggest to the investor?

A. A growth fund B. A sector fund C. A high-yield bond fund D. A government bond fund

Incorrect! The correct answer is: D. A government bond fund

A government bond fund. Both the government bond and the high-yield bond funds would generate income. However, the first parameter is concerned about the risk of principal and the second is looking for income. If the first parameter is risk of principal, the best choice is a government bond fund. If the first parameter were looking for income and the second were risk of principal, the best answer would be the high-yield bond fund. If the question stated retirement, then the growth fund would be the best choice. If the question stated a particular industry, the sector fund would be best. [Module 7, Investment Companies, Section 10.4]

15

Which of the following statements is not true regarding sales breakpoints?

A. Registered representatives are not required to inform customers about breakpoints, provided the customer receives a prospectus disclosing this information. B. Spouses investing together can qualify for breakpoints. C. Partnerships and investment clubs are not allowed to qualify for breakpoints. D. Registered representatives are required to inform customers of breakpoints even if a prospectus disclosing these is provided to the client.

Incorrect! The correct answer is: A. Registered representatives are not required to inform customers about breakpoints, provided the customer receives a prospectus disclosing this information.

Correct answer (false statement): Registered representatives are not required to inform customers about breakpoints, provided the customer receives a prospectus disclosing this information. Registered representatives are required to inform customers of breakpoints even if they receive a prospectus disclosing this information. Spouses investing together can qualify for breakpoints. Partnerships and investment clubs are not allowed to qualify for breakpoints. [Module 7, Investment Companies, Section 5.5]

16

Which of the following is responsible for the safekeeping of the securities owned by a mutual fund?

A. The registrar B. The custodian bank C. The sponsor D. The transfer agent

Correct Answer: B. The custodian bank

The custodian bank. Shares are not given to the holders of the fund, but are held in a bank. The sponsor is the fund itself and must issue the stock; the registrar and transfer agent are used in changing a name on shares of stock from one owner to another owner. [Module 7, Investment Companies, Section 7.3]

17

A mutual fund NAV is calculated to be $16 at the end of the day. The offer price for a minimal purchase is $17.39 with an 8% sales charge. A customer calls early in the day to make a purchase of $70,000 worth of the fund that day. The customer receives approximately how many shares? $50,000 - $75,000 @ 5%

A. 4025 shares B. 4,157 shares C. 4,166 shares D. 4,375 shares

Incorrect! The correct answer is: B. 4,157 shares

4,157 shares. Since this is a quantity purchase, the investor receives the breakpoint discount. The breakpoint discount is represented by the sales charge of 5%, not the 8% sales charge for a minimal purchase. In this case, the $70,000 qualifies for a 5% sales charge. You can find the new offer price using the following formula and divide that offer price into the $70,000.


POP = NAV + SALES CHARGE
(DOLLARS) $ = $16 +
(PERCENT) 100% = 95% + 5%

16 divided by .95 = 16.84 per share. $70,000 divided by 16.84 = 4,156.7, rounded to 4,157 shares. An easier and more accurate way to calculate the number of shares is to deduct the sales charge from the total purchase and then divide by the NAV since the sales charge has been paid. Remember 100% - 5% = 95%; $70,000 x 95% divided by $16 = 4156.25.
[Module 7, Investment Companies, Section 5.2]

18

The primary difference between an open-end and closed-end investment company is:

A. The capitalization B. The stocks they purchase C. How they figure the net asset value D. The bonds they purchase

Correct Answer: A. The capitalization

The capitalization. Open-end companies issue common stock only, while closed-end companies issue common and preferred stocks and bonds. They both determine net asset value by dividing assets by shares, and they invest in the same types of stocks and bonds. [Module 7, Investment Companies, Section 4.0]

19

A mutual fund has a net asset value (NAV) of $14.20, a sales charge of 8%, and a 1% redemption fee. If an investor wants to redeem 500 shares of this fund, how much money would he receive?

A. $6,461 B. $6,466 C. $7,029 D. $7,100

Incorrect! The correct answer is: C. $7,029

$7,029. Don't forget the redemption fee. 500 shares x the net asset value (or bid price) of $14.20 = $7,100 less the 1% redemption fee ($71) = $7,029. The sales charge has nothing to do with this problem because you are already given the net asset value. [Module 7, Investment Companies, Section 6.1]

20

A "sales breakpoint" of a mutual fund is:

A. A dollar amount for a purchase of a mutual fund where a volume sales charge discount is given B. A share amount for a purchase of a mutual fund where a volume sales charge discount is given C. The point at which a letter of intent can be obtained D. The point at which a letter of intent can be backdated

Correct Answer: A. A dollar amount for a purchase of a mutual fund where a volume sales charge discount is given

A dollar amount for a purchase of a mutual fund where a volume sales charge discount is given. This level is represented in dollars, not the number of shares. A letter of intent can be obtained at any level, and can be backdated three months. [Module 7, Investment Companies, Section 5.4]

21

Which of the following is the best description of a sales breakpoint?

A. The point at which the mutual fund refuses the order B. The point below which an investor makes a purchase and the broker does not inform the investor of the possible sales breakpoint C. The point at which a sale is broken because the investor did not pay in time D. The point at which an investor receives a reduced sales charge

Incorrect! The correct answer is: D. The point at which an investor receives a reduced sales charge

The point at which an investor receives a reduced sales charge. A sales breakpoint (SB) is when an amount of purchase qualifies for a reduced sales charge for the purchase. Do not confuse this with a breakpoint sale. A breakpoint sale (BS) is the purchase of a mutual fund just below a sales breakpoint and the rep fails to inform the customer that he can add more to the purchase and receive the reduced rate. [Module 7, Investment Companies, Sections 5.4 & 5.5]

22

Which of the following statements is true about closed-end investment companies?

A. The amount of outstanding shares is constantly increasing. B. The shares are sold at the current market price. C. The shares are sold at the current net asset value. D. They are continually offering new shares for sale.

Incorrect! The correct answer is: B. The shares are sold at the current market price.

The shares are sold at the current market price. Shares of closed-end investment companies are sold to investors at the offering price (or market ask price). They are bought from an investor at the bid price, by a market maker or an exchange specialist. Customers always buy (pay) at the ask price and receive the bid price from a market maker when selling, which will usually be different from the net asset value. Closed-end companies issue stocks only one time, after which they are sold in the open market; they do not continually offer new shares as open-end companies do. For this reason, the number of outstanding shares is constant. [Module 7, Investment Companies, Section 3.4]

23

Which of the following statements regarding mutual funds is true?

A. The custodian bank cannot act as the transfer agent of the fund. B. The underwriter (sponsor) receives a management fee that is based upon the total assets of the fund. C. The investment adviser is responsible for all purchases and sales of securities held in the fund's portfolio and receives a management fee based upon the total assets of the fund. D. The investment adviser receives a sales charge as compensation for managing the securities in the fund's portfolio.

Incorrect! The correct answer is: C. The investment adviser is responsible for all purchases and sales of securities held in the fund's portfolio and receives a management fee based upon the total assets of the fund.

The investment adviser is responsible for all purchases and sales of securities held in the fund's portfolio and receives a management fee based upon the total assets of the fund. The management company does buy all the securities and receives a fee (a percentage of the net asset value). They do not get a sales charge for managing the fund's portfolio. The bank is the transfer agent for the fund. The underwriter gets a sales charge (sometimes called an underwriter's fee), not a management fee. [Module 7, Investment Companies, Sections 7.2 - 7.5]

24

A mutual fund investor who redeems his shares will receive:

A. The bid price of the previous day's close B. The current offering price C. The next computed bid price on the day the shares are sold D. The next computed ask price on the day the shares are sold

Incorrect! The correct answer is: C. The next computed bid price on the day the shares are sold

The next computed bid price on the day the shares are sold. Redeeming or purchasing shares is done at "the next computed price of the day." It is not based on the previous day's closing bid price, nor are shares redeemed at the ask, or offering, price. [Module 7, Investment Companies, Section 6.0]

25

All mutual funds are obligated to send shareholder account statements at least:

A. Weekly B. Monthly C. Quarterly D. Annually

Incorrect! The correct answer is: C. Quarterly

Quarterly. All mutual funds are obligated to send shareholder account statements at least quarterly. If there is any activity in the account, then a monthly statement must be sent to the individual shareholder. [Module 7, Investment Companies, Section 8.2]

26

Someone interested primarily in income would be least likely to purchase:

A. An aggressive growth fund B. A government bond fund C. A high-yielding bond fund D. An income fund

Incorrect! The correct answer is: A. An aggressive growth fund

An aggressive growth fund. An aggressive growth fund invests in companies that are projected to grow. These companies are not expected to produce dividends, and thus would not be expected to produce income. An investor interested in income would want a high-yielding bond fund or some kind of income fund. [Module 7, Investment Companies, Section 10.3]

27

Mutual funds are also known as:

A. Open-end investment companies B. Closed-end funds C. Front-end loads D. No-load funds

Incorrect! The correct answer is: A. Open-end investment companies

Open-end investment companies is another name for mutual funds. Front-end loads are contractual investment companies that are open-end; no-load funds are mutual funds with no sales charge; and a closed-end fund is an investment company that trades on exchanges. [Module 7, Investment Companies, Section 3.1]

28

An investor's pledge to purchase a specified amount of a mutual fund within a specified period of time is called:

A. A promissory note B. An investment letter C. A letter of intent D. A stock power

Correct Answer: C. A letter of intent

A letter of intent. This is a pledge to purchase a specified amount of a mutual fund within a period of time. A promissory note is a financing instrument used to raise money for companies. An investment letter deals with a private placement of stock, and a stock power is a signature on a separate piece of paper to allow the sale and transfer of sold shares of stock. [Module 7, Investment Companies, Section 5.7]

29

A mutual fund has a bid price of $15 and an ask price of $15.65. The fund has distributed a capital gain of $2.05 and a dividend of $0.38 during the past year. The yield for the fund was:

A. 2.15% B. 2.43% C. 2.53% D. 15.5%

Incorrect! The correct answer is: B. 2.43%

2.43%. In computing yield on a current basis, never combine dividends and capital gains. You just divide the yearly dividend by the ask price. Remember -- yield is calculated at a point in time, and it changes as the value of the shares change and as distribution changes. In this case, you just divide the $0.38 by $15.65 to get 2.43%. [Module 7, Investment Companies, Section 9.1]

30

What is the offer price of a mutual fund that has a net asset value of $14.35 and an 8% sales charge?

A. $11.50 B. $13.20 C. $15.50 D. $15.60

Correct Answer: D. $15.60

$15.60. Use the formula ASK = NAV + SALES CHARGE. It is best to set the formula up as follows:


POP = NAV + SALES CHARGE
$ = $14.35 +
100% = 92% + 8%

Since the sales charge is 8% of the ask price, the NAV must be 92% of the ask price, and $14.35 divided by 92% = $15.598, rounded to $15.60, as the offering, or ask price.
[Module 7, Investment Companies, Section 5.2]

31

The purchase price of a no-load fund is determined by:

A. The net asset value plus a sales charge B. The net asset value plus a commission C. The net asset value as computed at the end of the business day D. The supply and demand for the fund

Incorrect! The correct answer is: C. The net asset value as computed at the end of the business day

The net asset value as computed at the end of the business day. All investment companies must compute the NAV daily (some do it twice), so they usually do it at the end of the day. Since it is a no-load, no sales charge or commission is added; since it is a fund, or open-end investment company, there are no supply and demand restrictions on the price. Remember, a no-load fund has to be offered by an open-end investment company because such companies are the only ones that deal in loads (or lack thereof). Closed-end investment companies have commissions. [Module 7, Investment Companies, Section 3.3]

32

A customer has asked you about the time horizon for an inverse ETF. You tell her that the normal time period is:

A. Short term B. Long term C. An unknown length of time D. Never for individual investors

Incorrect! The correct answer is: A. Short term

Short term. The time horizon of inverse ETFs is just like shorting stock. The investor is not in it for long, and the timing is determined by what the market is doing. As long as the market is going down, she will hold the inverse ETF, but will get out when the market turns. ETFs are for large sophisticated investors, not for the small individual who has limited income. They are always short term. [Module 7, Investment Companies, Section 2.4]

33

All of the following are true about the purchase of SPDR exchange-traded funds, except:

A. They are a unit investment trust. B. They can be purchased on margin as a new issue. C. When purchased as a new issue there is a sales charge. D. They trade on the NYSE.

Incorrect! The correct answer is: C. When purchased as a new issue there is a sales charge.

Correct answer (false statement): When purchased as a new issue there is a sales charge. There is never a sales charge with an ETF, whether as a new issue or as a trade in the secondary market. All shares, new and secondary, trade on the NYSE and have a commission charge. Even the new issues have a commission. Since the shares are traded on an exchange, they can be purchased on margin, and are the only securities that can have new issues purchased on margin. SPDRS are open-end UITs. [Module 7, Investment Companies Module, Section 2.3]

34

You have an investor who wants to invest in hedge funds. He asks you about them, and you would tell him all of the following statements are true, except:

A. Hedge funds have as much liquidity as other mutual funds. B. Hedge funds can purchase equity securities on margin and sell the securities short. C. Hedge funds are only for high net worth investors. D. Hedge funds charge a management fee as well as collect a percentage of the profits.

Incorrect! The correct answer is: A. Hedge funds have as much liquidity as other mutual funds.

Correct answer (false statement): Hedge funds have as much liquidity as other mutual funds. This is not true. Hedge funds are not a liquid investment. Purchasing or redeeming shares can only be done during certain times. Investors can redeem the shares like other mutual funds, but the redemption can only take place at special times since there can be only be a maximum of 100 investors. This is one of the few rules that hedge funds must follow. The investments start at a minimum of $250,000 up to $1,000,000 or more. Hedge funds are allowed to use margin, and thus they can buy and sell short on margin. The management fees are usually very high, plus the funds take up to 20% off the top of the profits. For these reasons, only high net worth investors can invest in hedge funds. [Module 7, Investment Companies, Section 2.6]

35

A mutual fund has a net asset value of $17.40 and a sales charge of 6% on a quantity discount. What is the public offering price at that quantity of purchase?

A. $10.44 B. $18.44 C. $18.51 D. $29.00

Correct Answer: C. $18.51

$18.51. We find the ask price by dividing the NAV by 100% minus the sales charge. In this case, $17.40 divided by 94% (100% - 6%) = $18.51. Remember the formula:


POP = NAV + SALES CHARGE
= $17.40 +
100% = 94% + 6%

[Module 7, Investment Companies, Section 5.2]

36

An investor owns 1,000 shares of a mutual fund. The offering price is $12 per share and the fund charges an 8% sales charge and has a 1% redemption fee. If the investor redeems his shares he would receive:

A. $10,930 B. $11,040 C. $11,880 D. $12,000

Incorrect! The correct answer is: A. $10,930

$10,930. To determine this, first find the net asset value (NAV). The sales charge is 8%, so the bid price, or NAV, is 92% (100% - 8% sales charge) x $12 = $11.04 (the bid + sales charge = ask price). 1,000 shares x $11.04 = $11,040. A 1% redemption fee ($110.40) is assessed, so $11,040 - $110 = $10,930. [Module 7, Investment Companies, Sections 5.2, 6.0, & 6.1]

37

An investor purchases 2,000 shares of DFM Mutual Fund in September. Two months later, the fund distributes a $.25 dividend from U.S.-based companies and a $1.10 long-term capital gain distribution from both foreign and U.S.-based companies. How will the investor treat these for tax purposes in that tax year?

I. The dividend is treated as portfolio income and taxed at a maximum of 20%.
II. The dividend is treated as portfolio income and taxed at the investor's tax bracket.
III. The capital gain distribution is taxed at the investor's tax bracket.
IV. The capital gain distribution is taxed at a maximum of 20%.

A. I and III B. II and III C. I and IV D. II and IV

Incorrect! The correct answer is: D. II and IV

II and IV. When a fund distributes dividends or interest to shareholders, the shareholders are taxed at their ordinary income rate. When a fund sells a holding and realizes a long-term capital gain, that gain is passed on to the shareholders, who are then taxed at 0%, 15%, or 20%, depending on their tax bracket. [Module 7, Investment Companies, Section 6.2]

38

Which two of the following statements about investment companies are true?

I. All dividend distributions are exempt from taxes under current federal income tax laws.
II. An investment company qualifies as a "regulated" investment company if it distributes 90% of its capital gains to its shareholders.
III. Dividend and capital gains distribution can never be added together when computing the yield of a mutual fund.
IV. A "regulated" investment company will be taxed at corporate income tax rates on all income and dividend distributions that are not distributed to its shareholders.

A. I and II B. II and III C. I and IV D. III and IV

Incorrect! The correct answer is: D. III and IV

III and IV. Regulated investment companies have special tax treatment -- they pay no tax on dividends and interest passed on to shareholders. They pay tax only on money they keep. Also, dividends and capital gains distribution can never be added together to compute yield. No dividends are exempt from federal taxes, and it is not true that regulated investment companies must pass 90% of their capital gains to the shareholders, but only income from dividends and interest. [Module 7, Investment Companies, Sections 8.3 & 9.1]

39

As far as open-end companies are concerned, which of the following is true regarding dividend and capital gains distributions?

A. They can be combined to determine the total yield. B. The taxes can be deferred if they are invested in additional mutual fund shares. C. Dividends are taxed as long-term capital gains. D. They can automatically be reinvested in additional shares if the fundholder chooses to do so.

Correct Answer: D. They can automatically be reinvested in additional shares if the fundholder chooses to do so.

They can automatically be reinvested in additional shares if the fundholder chooses to do so. Dividends and capital gains can be reinvested in open-end investment companies because open-end companies give new shares. Dividends and capital gains cannot be combined to determine yield. Only insurance companies can defer taxes with variables. Dividends are taxed according to where the companies are paying the dividends. If the company is a U.S.-based corporation, the tax on the dividend is a maximum of 15%. If the company is a foreign corporation, the dividend is taxed as ordinary income. If a tax is paid in the foreign country, that dividend will be a tax credit to the investor's U.S. federal and state taxes. [Module 7, Investment Companies, Sections 5.1 & 9.1]

40

Your customer wishes to invest $50,000 in three different mutual funds with income as his main objective. You should notify your customer that if he invested the entire $50,000 in one fund he could save money because of the quantity discount on large purchases available through:

A. Automatic reinvestment of dividends and capital gains B. The availability of a withdrawal plan C. The possibility of exchanging one fund for another without paying a sales charge D. Purchases at "sales charge breakpoints"

Correct Answer: D. Purchases at "sales charge breakpoints"

Purchases at "sales charge breakpoints." Discounts to clients or other members of the public can only be given when sales breakpoints are reached. This is not due to the automatic reinvestment privilege, which is available in most funds, nor to the availability of withdrawal plans, which all funds have, nor because of exchange privileges. [Module 7, Investment Companies, Section 5.4]

41

Investment companies with no management fee and a low sales charge that invest in a fixed portfolio of municipal or corporate bonds are categorized as:

A. Open-end investment companies B. Unit investment trusts C. Closed-end investment companies D. Face-amount certificate companies

Correct Answer: B. Unit investment trusts

Unit investment trusts. Unit investment trusts primarily invest in bonds, and can be remembered by the last word of their name -- trust. All corporate bonds sell under a trust indenture. Open-end and closed-end investment companies have high management fees. Face-amount certificates are backed by real estate. [Module 7, Investment Companies, Section 2.3]

42

Which of the following must be registered as an investment adviser under the Investment Adviser's Act of 1940?

A. A broker giving advice on which investments are best for his clients B. A broker/dealer firm that sends out suggestions on the best buys of the week C. A broker who gives advice to some of his clients and charges a fee D. A broker who sends out market tips from the firm

Incorrect! The correct answer is: C. A broker who gives advice to some of his clients and charges a fee

A broker who gives advice to some of his clients and charges a fee. Any person who charges a fee must be registered under the Investment Advisers Act of 1940, as well as with each state in which he gives advice and charges a fee. [Module 7, Investment Companies, Section 7.2]

43

An investor wants to know about the new type of securities that are being traded -- ETNs. What do you tell him about the investment risk of ETNs?

A. The stock market will go down and stocks will all be selling at a low price. B. The issuer could go bankrupt prior to the maturity of the ETN. C. No other investors will want to purchase the ETN. D. The SEC may declare them an illegal security and not allow them to mature or be traded.

Incorrect! The correct answer is: B. The issuer could go bankrupt prior to the maturity of the ETN.

The issuer could go bankrupt prior to the maturity of the ETN. Even though an extremely strong bank or broker/dealer issues them, there could be actions in the marketplace that cause the issuer to go out of business, such as bad investments (like Barings Bank in the 1990s that went bankrupt due to a speculative trader employed at the bank). Other investors have nothing to do with the issuer, and the SEC does not investigate securities. [Module 7, Investment Companies, Section 2.5]

44

Ace Investment Company has an offering price of $19.45 and a net asset value of $17.90. If it has a $0.75 dividend and a $1.35 capital gain distribution for the year, what is the yield of the mutual fund?

A. 3.6% B. 3.9% C. 10.8% D. 11.7%

Correct Answer: B. 3.9%

3.9% (3.85% rounded off). Yield is what you currently get for what you currently pay. In this case, you get $0.75 and you pay $19.45. Remember, do not use the capital gains in any way. In this problem we divide .75 by 19.45 to obtain a current yield of 3.85%, rounded to 3.9%. [Module 7, Investment Companies, Section 9.1]

45

What is the expense ratio of a mutual fund?

A. Net operating expenses / Net asset value B. Management fees / Net operating revenues C. Gross operating revenues / Management fees D. Management fees / Gross operating revenues

Incorrect! The correct answer is: A. Net operating expenses / Net asset value

Net operating expenses / Net asset value. This is the formula. Since the question asked for the expense ratio, you look for an answer with "expenses" in it. [Module 7, Investment Companies, Section 7.5]

46

An investor is purchasing a large amount of Mary Jane Mutual Fund. Normally the fund has an 8% sales charge, but when purchasing a certain minimum amount, the fund charges only 6%. If the net asset value is $22.40 at the time of the purchase of an amount allowing the 6% sales charge, what is the offering price the customer has to pay per share?

A. $23.74 B. $23.83 C. $24.34 D. $24.19

Incorrect! The correct answer is: B. $23.83

$23.83. Normally a person purchasing this fund pays the 8% sales charge, but with a quantity purchase, the customer is entitled to the lowered sales charge rate. Since the quantity rate is given as 6%, we then find the offering price the same way as with any other sales charge. We set it up as follows:


POP = NAV + SALES CHARGE
$ ____ = 22.40 + ____
100% = 94% + 6%

22.40 divided by 94% = the offering price of $23.83.
[Module 7, Investment Companies, Section 5.2]

47

An investor buys ABC Mutual Fund. The fund sends a capital gains distribution three months later. Eleven months after purchasing the shares, the investor has to sell the mutual fund due to personal reasons for a capital gain. Which of the following are true?

I. The capital gains distribution is a short-term gain.
II. The capital gains distribution is a long-term gain.
III. The sale for a capital gain is a short-term gain.
IV. The sale for a capital gain is a long-term gain.

A. I and III B. I and IV C. II and III D. II and IV

Incorrect! The correct answer is: C. II and III

II and III. The capital gains distribution is a long-term gain and the sale for a capital gain is a short-term gain. All distributions by the mutual fund company to investors represent long-term gains, yet if an investor holds a mutual fund investment for one year or less, the gains are deemed short-term gains for income tax purposes. [Module 7, Investment Companies, Section 9.0]

48

Mutual fund managers are paid in which of the following ways?

A. A percentage of the amount they earn in interest and dividends B. A percentage of the profits they make on the securities they hold C. A percentage of the net assets they manage D. A percentage of all net gains and income they derive for the fund

Correct Answer: C. A percentage of the net assets they manage

A percentage of the net assets they manage. The managers of a mutual fund are paid based only on what they manage. [Module 7, Investment Companies, Section 7.2]

49

On a particular day, Pigeon Hole Investment Company closed with an NAV of $12.65 and an offer price of $13.75 with an 8% sales charge for a minimum amount of purchase. An investor tells you to purchase $50,000 of Pigeon Hole. You enter the order prior to the close of business that day. The investor receives approximately how many shares of the fund? $40,000 - $60,000 @ 6%

A. 3,636 shares B. 3,715 shares C. 3,728 shares D. 3,952 shares

Incorrect! The correct answer is: B. 3,715 shares

3,715 shares. This is a quantity purchase, so the public offering price is not used. Instead, a new offering price based on the amount of the purchase must be used. In this case, the $50,000 qualifies for a 6% sales charge. You can find the new offer price using the following formula and dividing that offer into $50,000.


POP = NAV + SALES CHARGE
(DOLLARS) $ = $12.65 +
(PERCENT) 100% = 94% + 6%

We can determine that the ask price is 13.457, rounded to 13.46. Then, $50,000 divided by 13.46 = about 3,715 shares. An easier way, however, is to take out the sales charge and divide by the NAV of 12.65: 100% - 6% = 94%; $50,000 x 94% divided by $12.56 = 3715.415 shares.
[Module 7, Investment Companies, Section 5.2]

50

A customer buys 100 shares of an investment company and pays the market price plus a commission. The investor has bought shares issued by a(n):

A. Closed-end investment company B. No-load fund C. Open-end investment company D. None of the above

Incorrect! The correct answer is: A. Closed-end investment company

Closed-end investment company. A closed-end company is the only type of investment company of those listed in which commissions are paid for buying and selling shares. Open-end investment companies have a sales charge built into the price, and no-load companies have neither commissions nor sales charges. [Module 7, Investment Companies, Section 3.4]

51

A mutual fund receives a letter from an investor informing the fund that he would like to redeem all of his shares of the fund for personal reasons. How long does the fund have to mail the proceeds to the client?

A. Three business days B. Five business days C. Seven calendar days D. 10 calendar days

Correct Answer: C. Seven calendar days

Seven calendar days. The fund has one week from the day it receives the letter to mail the check. [Module 7, Investment Companies, Section 6.0]

52

Which two of the following are true of all investment companies?

I. Minimum capitalization is $100,000.
II. Margin purchases for stocks and bonds are allowed.
III. At least 60% of the investment company's board of directors must be from outside the fund.
IV. A majority vote of the shares must approve a change in the objectives of the investment company.

A. I and III B. I and IV C. II and III D. III and IV

Incorrect! The correct answer is: B. I and IV

I and IV. Minimum capitalization is $100,000, and the vote is by the shares, not the shareholders. In the 60-40 split, 60% can be from within the fund and 40% MUST be from outside the fund. Investment companies must fully pay for all investments, and they cannot purchase their investments on margin. This is completely different from leveraged and inverse ETFs as well as hedge funds. [Module 7, Investment Companies, Section 1.0, 3.2, & 7.1]

53

Which of the following is the best description of a breakpoint sale?

A. The point at which an investor will receive a reduced sales charge B. The point below which an investor makes a purchase and the broker does not inform the investor of the possible sales breakpoint C. The point at which a sale will be broken because the investor did not pay in time D. The point at which the mutual fund will refuse the order

Correct Answer: B. The point below which an investor makes a purchase and the broker does not inform the investor of the possible sales breakpoint

The point below which an investor makes a purchase and the broker does not inform the investor of the possible sales breakpoint. This is a breakpoint sale. Remember -- Breakpoint Sale = BS = failure to inform. [Module 7, Investment Companies, Section 5.5]

54

All of the following statements regarding a letter of intent are true, except:

A. A letter of intent is good for 13 months. B. A shareholder's privilege to redeem shares is suspended during the time the letter of intent is in effect. C. A letter of intent may be backdated for up to 90 days. D. When shares are purchased under a letter of intent, it is customary for the fund to hold some shares in escrow in the event the additional payment is not made, and an additional sales charge is required.

Incorrect! The correct answer is: B. A shareholder's privilege to redeem shares is suspended during the time the letter of intent is in effect.

Correct answer (false statement): A shareholder's privilege to redeem shares is suspended during the time the letter of intent is in effect. This is not true -- the shareholder can redeem at any time. A letter of intent may be backdated for up to 90 days. When shares are purchased under a letter of intent, it is customary for the fund to hold some shares in escrow in the event the additional payment is not made, and an additional sales charge is required. [Module 7, Investment Companies, Section 5.7]

55

An ETF is set up by a broker/dealer to mimic companies that are in the telecommunications industry. What is the minimum amount of shares that is needed for each creation unit?

A. 25,000 shares B. 50,000 shares C. 100,000 shares D. 500,000 shares

Incorrect! The correct answer is: B. 50,000 shares

50,000 shares. Each creation unit is made up of 50,000 shares. Some of the creation units are sold off in units of 100-share multiples. Other creation units are sold in their entirety to institutional investors. [Module 7, Investment Companies, Sections 2.3]

56

An open-end investment company can borrow money at certain times to help it through a cash shortage during redemptions. What is true regarding the amount the fund can borrow?

A. The fund can borrow up to 25% of the fund's assets. B. The fund can borrow up to 33% of the fund's assets. C. The fund can borrow up to 50% of the fund's assets. D. The fund can borrow up to 100% of the fund's assets.

Correct Answer: B. The fund can borrow up to 33% of the fund's assets.

The fund can borrow up to 33% of the fund's assets. At no time can the fund borrow more than this. Borrowing usually occurs around tax time and during the summer months. [Module 7, Investment Companies, Section 4.2]

57

Under which of the following circumstances can a fund sell shares at less than the public offering price?

A. At no time B. To a broker to fill a customer's order or to a broker/dealer for the firm's own account C. To a non-FINRA member to sell to a customer D. To a non-FINRA member to sell to a FINRA member who is buying for a customer

Incorrect! The correct answer is: B. To a broker to fill a customer's order or to a broker/dealer for the firm's own account

To a broker to fill a customer's order or to a broker/dealer for the firm's own account. Sales at less than the offering price cannot be given unless a sales agreement is in force and the sale is to a broker/dealer to fill a customer's order or for its own account. [Module 7, Investment Companies, Sections 5.1]

58

A specialized or specialty fund invests in stocks that are primarily:

A. Special situations B. Traded in the OTC market C. In a particular industry or geographical area D. In many industries

Incorrect! The correct answer is: C. In a particular industry or geographical area

In a particular industry or geographical area. Specialized funds have more than 25% invested in one area. Diversified funds deal in many industries. All funds trade stock in the OTC market. Special situations have nothing to do with specialized funds. [Module 7, Investment Companies, Section 10.3]

59

A mutual fund has listed that it charges each accountholder 12b-1 fees. These fees can be used for which two of the following?

I. Advertising
II. Commissions in purchases and sales of investments
III. Service fees
IV. Sales charges

A. I and IV B. I and III C. II and IV D. III and IV

Correct Answer: B. I and III

I and III. Advertising and service fees. Mutual funds charge shareholders 12b-1 fees and then give those fees to the firm that is distributing the shares of their funds. 12b-1 fees compensate firms for expenses incurred in marketing, advertising, and servicing the client's account, but they are never considered a "sales charge." Investment companies cannot use 12b-1 fees as management fees or commissions in the purchases and sales. [Module 7, Investment Companies, Sections 3.2 & 7.7]

60

What percent of the board of directors of an open-end investment company can be made up of people directly associated with the fund itself?

A. 20% B. 33% C. 40% D. 60%

Incorrect! The correct answer is: D. 60%

60%. 60% of the board of directors of an open-end investment company can be made up of people directly associated with the fund itself. The fund must have at least 40% of its directors from outside the fund. [Module 7, Investment Companies, Section 7.1]