CHAPTER 14 - TYPES OF RISK AND REQUIRED DISCLOSURES Flashcards
(27 cards)
Systematic Risk
Risk that affects all risky assets
Risk in the overall system or overall economy
Types of systematic:
- Market
- Interest Rate
- Purchasing Power
Cannot avoid these through diversification
Market Risk
Measured beta
If market tanks, securities will decrease
Helpful to have negatively correlated securities
Can use options to hedge
Interest Rate Risk
Interest rates go up - bonds go down in value
If interest rates go down - bonds go up in value
Utility company common stock is also subject to interest rate risk - dividends are sensitive in this sector to interest rates
Good ways to reduce interest rate risk - CD ladder
Reinvestment Risk
Variation on interest rate risk
Reinvesting periodic cash flows like interest may not be invested at the same interest rate
Also occurs at maturity
That makes longer bonds more attractive but they also have other risks
Inflation Risk
AKA purchasing power risk
Reduces buying power
TIPS provide protection
Fixed income is most impacted by inflation
Equities are least susceptible
Tangible assets are also good inflation hedges
Nonsystematic Risk
Can be reduced through diversification
Business Risk - poor management
Financial Risk - specific to debt financing, also called credit risk or default risk
Regulatory Risk - change in regulatory climate can impact business and sectors (EPA)
Legislative Risk - new laws can impact business (tax code)
Political Risk - instability of a country, mostly in emerging economies but even in developed
Sovereign Risk - country defaults on its debt, impacts entire economy
Liquidity Risk - Speed of converting investment into cash without price disruption, no one wants to buy it
Marketability Risk - similar to liquidity, being able to sell
Currency Risk - foreign securities can have fluctuation in their currency prices can reduce returns
Risk Disclosures
Control Relationship
Reg Fair Disclosure (FD)
Tender Offers
Control Relationships
BD is owned by, under common ownership with, or owns an entity that issues securities (same family) that can lead to bias
No problem with relationship if disclosed
Potential conflicts of interest:
- offering proprietary product
- offering LP offering where sponsor is affiliate
- program sponsors provide incentives to agents for selling products
- securities professional having financial interest in security recommended
- BD going public and placing shares of its own stock in discretionary accounts
BD publishing favorable report after underwriting issuers stock offering
Disclose these conflicts
Regulation Fair Disclosure
SEC rule with issuers disclosing info that can impact stock price
For unintentional leaks, issuer must make prompt disclosure (next business day) like public conference calls
Need to immediately make public disclosure of material info
Tender Offers
One company to take over another by buying percent of voting shares or when issuer of noncallable bonds tries to buy them back
SEC defines tender offer as widespread solicitation by company to buy large percentage of shares
Tender offers need shareholder approval
Testable Dates:
- tender offer must remain open for at least 20 business days from date offer is announced
- if terms are changed, revised offer must stay open for at least 20 business days from commencement and 10 business days from change
- target company, within 10 business days, must provide shareholders: (accepting or rejecting offer, expressing no opinion, that it is unable to take position)
Prohibited action item: short tendering
Shareholders of target company are permitted to tender shares only to extent of their net long position, cannot sell shares back to company that they do not own
Net position for tender offer
If long 200 and short 100, then you can only tender 100 shares (net amount)
Margin risk disclosure
When opening a margin account, risk disclosure document must be furnished or given
Rule fair disclosure is required mostly by who?
The issuer of a security
Specified Adult Exploitation
Considered:
- wrongful or unauthorized trading, withholding, appropriate, use of securities
- act taken by person through use of POA to get control over assets or convert the assets
Exploitation prevention
Need clear written instructions to address this
Personnel should be given a plan showing what to do it is suspected
Keep up with regulations
Training
Preemptive actions
If something suspicious is going on, what do you do?
Contact the trusted contact person and inform them
What are long securities?
Long or own
convertible
bought but just don’t have title yet
Who needs training on senior exploitation?
Only those who have dealing with the public and their supervisors
Technique of switching among investment classes based on anticipated market changes
Asset allocation
Which security has the highest degree of purchasing power risk?
Long term bonds
Is asking a JT account to be liquidated and all proceeds sent to named parties a suspicious activity?
NO, would be if they wanted it sent to 1 named person
Is preferred stock a part of a long position for tender offers?
NO
So if you have 500 common shares and short 200 preferred shares then you could tender sale 500 shares
taking over a company by getting shares, how many days but that offer be open?
20 days from commencement and 10 days from date terms changed
RR thinks a client is exploited, what is risk if reporting that to state or local agency?
RR may not receive safe harbor from liability without training
