Chapter 4 Features of Investment Companies

Question 1

Investment Company Act of 1940

Answer 1

Defines an investment company
- Has 40% of its total assets held in investment securities
-$100,000 in net assets
-100 or More investors

Question 2

Management Companies

Answer 2

Organized as a corporation, operates under the direction of a board of directors, and issues shares of undivided interest to investors.
- Portfolio manager

Question 3

Close end Management Company

Answer 3

Single primary offering to raise capital
-publicly traded funds traded in secondary market.

Question 4

Open End Management Company

Answer 4

is commonly known as mutual funds.
- Common Stock offering only
- Unlimited - continuous Primary Offering
- Every share must be sold by prospectus
- Redeemable Security
- Referred to as a mutual funds
- Pricing based on NAV and POP
- Full or fractional shares may be purchase

Question 5

What is a Diversified Investment Company as defined by the Investment Company Act of 1940?

Answer 5

“75-5-10” Rule
75% of Total assets must be invested so that no more than 5% of its total assets are invested in the securities of any one corporation.
Investments will not cause the fund to own more than 10% of the voting stock of any one corporation

Question 6

Investment Advisor

Answer 6

The firm is responsible for managing the fund’s investment portfolio and conforming to the investment objective established.

Question 7

Investment Advisor Fee

Answer 7

Is based on a percentage of total assets under management
- The fee is paid regardless of overall profit/loss

Question 8

Custodians

Answer 8

An organization or individual that safeguards the cash and securities owned by the fun. Collects interest and dividend payments from issuers and makes or receives payments.
- Trust companies or commercial banks

Question 9

Transfer Agent

Answer 9

Performs all recordkeeping and customer service functions for the fund, and keeps track of the number of shares owned by each investor.

Question 10

Expense Fund

Answer 10

Operating expenses of the fund
- Board of directors stipends
- Investment adviser management fees - largest components
- Custodial services
- Transfer agent fee

Question 11

Expense Ratio

Answer 11

Fund Expenses / Average Net Assets = Expense Ratio

Question 12

What is the underwriter?

Answer 12

FINRA member / Distributor
- Earn compensation as a part of the sales charge for marketing and selling the fund

Question 13

How is retail communication handled?

Answer 13

All retail communication used by registered broker-dealers is subject to FIRNRA filing and review
- Communication is based on FINRA dealing and good faith

Question 14

Investment objective of the Fund

Answer 14

• Objective is stated in the prospectus
• ## Determined by the board of directors

Question 15

Prohibited Activities for Mutual Funds

Answer 15

• Buying on Margin
• Selling on Margin
• Selling an uncovered (naked) Options contract

Question 16

What is covered call writing?

Answer 16

Options strategy
- When the funds holds common stock and then the fund sells a call against the common stock.

Question 17

What is NAV?

Answer 17

Is the fundamental value of the fund.
- Calculated at the end of the day.

NET ASSET VALUE = NET ASSETS / NUMBER OF SHARES OUTSTANDING

Question 18

What is POP

Answer 18

The price the customer pays when purchasing the shares of a mutual fund.
- The POP will change on a day-to-day basis

Question 19

What is a Sales Charge (Sales Load)?

Answer 19

Primary compensation paid to the underwriter and broker dealers for marketing, advertising, and selling fund shares to the public.
- POP cannot exceed the NAV by 8.5%

Question 20

12b-1 Asset based Distribution Fee

Answer 20

These are the asset based fees and are permitted if the fund has adopted a 12b-1 plan authorizing their payment
- Marketing, advertising, and other costs of distributing fund shares
- Advertising includes the printing and mailing of prospectuses and sales literature to new investors

Question 21

Front-End Load (Class A Shares)

Answer 21

Sales charge is assessed at the time of purchase
- Often have lower annual expenses and 12b-1 fees compared to other classes
- Receives the full redemption value

Question 22

Back-End Load (Class B Shares)

Answer 22

Assess a back-end sales charge giving investors the ability to have their entire amount invested immediately into the fund. (The longer you are invested the lower the sales charge)
Back-End Load = Contingent deferred sales Charge: only charged if the customer fails to stay invested in the fund for a prescribed minimum period of time.

Question 23

What is conversion Privilege?

Answer 23

Class B shares are converted to class A shares once the CDSC drops to zero

Question 24

Level Load ( Class C Shares)

Answer 24

Pays a fixed amount (%) per year.
- 1% fee + 12b-1 fees
- Suitable for investors with very short horizons
- Cannot convert to class A Shares

Question 25

No-Load

Answer 25

No sales charge because the investment company is the distributor. NAV=POP - Can assess a 12b-1 fee no greater than 25 basis points a year

Question 26

Reduced Sales Charges

Answer 26

This is an incentive to investors who purchase Class A shares - May be required to make minimum purchase - Larger the investment, same fund family = Lower Sales Charge

Question 27

What must a fund offer to charge the maximum 8.5% sales charge?

Answer 27

-Rights of Accumulation - Breakpoints

Question 28

Breakpoints

Answer 28

- Only for class A Shares - Can be attained by adding the total amount invested in the fund family - By Reaching the breakpoint dollar limit, an investor is entitled to a lower sales charge for future purchases - Must be disclosed at the time of sale

Question 29

Break Points Sale Violation

Answer 29

When a registered representative purposely makes a sale just below the breakpoint to earn a higher sales load - PROHIBITIED BY SEC AND FINRA

Question 30

Letter of Intent (I-OWE-YOU)

Answer 30

This allows the investor to combine an initial investment with a future investment and immediately qualify for a reduced sales charge on the initial investment. - 13 MONTH LIFE - Can backdate up to 90 days - New money only

Question 31

Rights of Accumulation (ROA)

Answer 31

Allows an investor to add their existing account balances with their additional purchases to qualify for breakpoints on any new money invested. - Must be offered for at least 10 years

Question 32

How can you make exchanges (Net Transactions) within the same fund family?

Answer 32

The investor will purchase the new fund shares at NAV without paying sales charge assuming a sales charge was assessed on the previous fund owned. - For taxes purposes, exchanges are treated as sales

Question 33

Reinstatement Privilege

Answer 33

Allows mutual funds to make it easy for people to replace money that they have previously withdrawn without incurring a sales charge. - Withdrawn money must be replaced promptly (30 days) to qualify and on an infrequent basis.

Question 34

Prospectus

Answer 34

- Is a comprehensive risk disclosure document that provides potential investors with the information deemed by the regulators as necessary to making an informed purchasing decision - Contains funds objectives, investment policies, restrictions, and disclose all costs and fees. - Mutual funds update their prospectuses every 16 months

Question 35

Summary Prospectus / Mutual fund policies

Answer 35

Is an abridged form of the statutory prospectus - Includes an application to open a new account and is an offer to sell Must include: 1) The funds investment objective 2) Fees and expenses 3) Investment risks and performance information 4) Investment advisors and portfolio managers 5) Information on buying and selling shares 6) Tax information 7) Details on financial intermediary compensation

Question 36

What are the annual and semiannual reports?

Answer 36

are financial reports cards for the fund that contain information like that found in the prospectus. For up to 6 months - audited annual report to SEC - audited disclosure documents

Question 37

What is an nonqualified opinion?

Answer 37

Its states the auditor agrees with financial information.

Question 38

What is qualified opinion?

Answer 38

Auditor disagrees with some or all financial reporting.

Question 39

What is the Statement of Additional Information?

Answer 39

Supplementary information for prospectus.

Question 40

What are the Mutual Fund advantages?

Answer 40

- Professional Portfolio Manager - Diversification - Minimum Investment - Safekeeping of Portfolio Securities - Reduced Sales Charge - Exchange Privilege - Reinvestment - Reinstatement - Liquidity - Systematic Purchase and Withdrawal Plans

Question 41

What is the Right to Receive Dividends?

Answer 41

- Declared by the board of directors - is a share in profit from the fund. - Earnings from fund of securities held.