Investment

Question 1

When is an issuing corporation most likely to call its bonds?

When interest rates have dropped or when bonds are selling at a significant premium

Answer 1

If bonds selling at premium, newly issued bonds are offered with lower coupons. The corporation can now call its callable bonds and replace them with lower coupon bonds

Declining rates doesn’t necessarily mean previously issued bonds are trading at premium. For example, interest rates decline 1% (from 8 to 7%) but bond’s coupon is 6%

Question 2

Treasury bills are issued carrying all of the following terms except: 3, 6, 9 or 12 months?

Answer 2

9 months

Question 3

When is Series EE and I bond interest taxed?

Answer 3

Tax deferred until redeem bond or it matures. Can choose to have interest taxes each year if want

Question 4

When are EE and HH bonds taxed?

Answer 4

EE is taxed at maturity and HH is taxed yearly

Question 5

Is a mortgage-backed security a pass-through security?

Answer 5

Yes, as homeowners pay principal it is passed through to the holders if the mortgage-backed securities

Question 6

J hired to design investment portfolio for company’s new pension assets. Company trustees are very conservative. Money market assets total $100k. How should the assets be positioned - treasury bonds or negotiable CDs?

Answer 6

CDs have less risk (insured up to $250k). If interest rates go up, won’t see change in value of CD because locked in. Subject to purchasing power and reinvestment risk though.

Treasury bonds are subject to RIP risks.

Question 7

Which is true about ADRs?

ADR holders can vote for board of directors of issuing corp

ADR holders may receive foreign tax credits for income tax paid to a foreign country

Answer 7

If dividend distributed by foreign issuer incurs tax to foreign govt, US investor may generally receiving corresponding tax credit.

ADR holders can’t vote for BOD

Question 8

Do ADRs satisfy the requirements for “qualified foreign corporations” to get 0-20% qualified dividend rate?

Answer 8

Yes, generally they do. But not all ADRs satisfy the IRS definition.

Question 9

What type of investment vehicle is a mutual fund?

Answer 9

Open ended fund because have open ended capitalization

Question 10

Which characteristic does not apply to mutual funds?

Continuously issued
Redeemable
Tradable
Non-negotiable

Answer 10

Tradable - mutual funds are redeemable but not tradable

Question 11

If want to avoid interest rate risk but need cash flow that will keep pace with inflation and prefer not to spend down principal, what invest in?

Laddered CDs
Balanced fund (40% blue chip/60% intermediate bonds)
Split annuity (fixed annuity distributing immediately and deferred variable annuity growing until immediate is paid out)

Answer 11

No - CD returns will not keep pace with inflation

Yes - other 2
Equities in balanced fund and variable annuity will help offset inflation and deferred annuity’s growth should replace value of depleted immediate annuity. The immediate payment is offset by deferred annuity growing

Question 12

Bought shares in close-ended bond fund that is trading at 10% discount. NAV is $20 per share and market price is $18 per share. The fund generates $1 per share of income per year. Its yield to NAV is 5%. What is current yield on money you invest?

Answer 12

If buy closed ended fund shares at 10% discount, you will receive same $1 per share income. However, you will have only invested $18 per share not the full $20.

Current yield is $1 dividend/$18 stock price = 5.6%

Question 13

Which entity would most likely purchase a mortgage REIT?

Individual in 37% tax bracket
Regular C corp with excess funds to invest
SEP
S corp

Answer 13

SEP because can defer income and the income will fund the retirement plan

All others would be taxed immediately

Question 14

ETF is most similar to open ended, close ended or mostly open ended but could be a close ended fund

Answer 14

Could be either, but mostly open ended fund

Question 15

Which investment type can always be purchased at NAV - open end fund and/or no load balanced mutual fund?

Answer 15

No load balanced mutual fund only because open end funds could impose a sales charge or operate as no load funds

Question 16

Which investment best associated with “shares are purchased and redeemed with the issuer” - open end fund and/or no load balanced mutual fund?

Answer 16

Both

Question 17

S owns stock in various US companies (25-30). S wants to diversify her portfolio. Which achieves greatest diversification and risk reduction? Buy global fund or buy international fund

Answer 17

International because it improves diversification (low correlation)

Question 18

What makes up potential gross income for net operating income (NOI) computation?

Answer 18

Gross rental receipts and non-rental income

When figuring out vacancy and collection losses or operating expenses and it’s a % of potential gross income make sure have included non-rental income in potential gross income before calculating the %

Question 19

Can you net gains and losses when one is long term and the other is short term?

Answer 19

Yes

$500 LTCL and $300 STCG = $200 LTCL

Question 20

Can you net long term and short term gains?

Answer 20

No, they cannot be netted

$1,500 LTCG and $200 STCG is not $1,700 in gains (keep them separate)

Question 22

How treat premium from tax perspective if covered call is exercised?

Answer 22

Added to sale price so treated same as stock sale price (whether long or short term gains or losses will depend on if sold for gain or loss and if held more than 12 months)

Question 23

Which option offers the highest potential for profit?

Writing a covered call or buying a call

Answer 23

Buying a call

Call ‘em up (bullish) - buying call when think prices are going to increase because locking in lower purchase price

Question 24

What is intrinsic value for this option?

ABC Put @$30
ABC selling @$32

Answer 24

PUT = POEM

30-32 =-2 but can’t have negative j times value so it’s zero

Question 25

Bob bought call option for $500. Option has expires. What is market value of option?

Answer 25

Zero - since expired there is no time value And there is no mention of intrinsic value

Question 26

If have two stocks one with risk of 20% and other with risk of 12%, portfolio value is 50% of each fund and correlation coefficient is less than 1, what is shortcut to solve?

Answer 26

(20+12)/2=16 and look for next lowest answer under 16%

Question 27

If have two stocks one with risk of 7.5% and other with risk of 15%, portfolio value is 45%/55% respectively, and correlation coefficient is .25 what is shortcut to solve?

Answer 27

(7.5+15)/2=11.25 and look for next lowest answer under 11.25%

Question 28

I want to add stock with higher standard deviation to portfolio but that brings about same expected return. If stock has low correlation to existing portfolio, which is true about the new stock? Portfolio expected return would be unchanged Portfolio risk is reduced Both

Answer 28

Both - If new stock has the “same expected return, a low correlation would reduce portfolio risk

Question 29

Which portfolio is good to own? A portfolio with: A correlation coefficient of zero A high coefficient of variation A high covariance

Answer 29

Correlation coefficient of zero because standard deviation (risk) would be greatly reduced High coefficient of variation is risky High covariance would probably have high correlation coefficient

Question 30

Stock market suffered 1 day decline of 375 points. What is beta coefficient of market that day?

Answer 30

+1 because beta coefficient for the market is a constant 1!!!!

Question 31

If investor wanted to purchase mutual fund with lowest correlation with US common stock fund, which would it be - international fund or emerging markets fund?

Answer 31

Emerging markets not international

Question 32

T owns two common stocks Co A and B. Co A just acquired Co C. The standard deviation of stock A was unchanged by the acquisition. How will the covariance of the two stocks (A and B) be affected if Co C is negatively correlated to Co A and B?

Answer 32

Covariance decreases. Covariance has direct relationship to correlation coefficient. The new acquisition is negatively correlated with Co A and B so should reduce covariance, but probably not make it negative.

Question 33

W purchases muni bonds because in 32% tax bracket. New tax law is passed and W now in 50% tax bracket. What effect would higher tax bracket have on his muni bonds? Existing portfolio will increase, decrease or stay the same in terms of value Existing portfolio current yield will increase or decrease

Answer 33

Higher income tax brackets will drive up demand for outstanding muni bonds These bonds will increase in value (because greater demand) thus the current yield will decrease (because paying more for the bonds your return is lower)

Question 34

When calculating YTM and YTC for zero coupon bonds, how many periods per year do you use?

Answer 34

2 Even though there is no interest still use 2 P/YR (semiannual periods) when calculating this Inky use 1 P/YR if it says it’s an annual bond

Question 35

Current yield if $1000 bond with 7% coupon is now selling for $1050

Answer 35

70/1050=0.0667 or 6.67% $1000*.07=$70.00 for numerator Because priced over par this is a premium bond

Question 36

If interest rates are rising and bond prices are falling, is it best to shorten or lengthen duration?

Answer 36

Shorten because interest and duration are inversely related

Question 37

Which is true in relation to Modern portfolio theory? Risk, return and covariance of assets are importantly input variables in creating portfolios The efficient frontier is relatively insensitive to input variables

Answer 37

Input variables like risk, return and standard deviation (therefore covariance) are inportant to creating the frontier (the sensitivity of the frontier)

Question 38

Investor values individual assets using SML required rate of return line. She checks it to decide whether or not to buy and sell stocks. Investors seems to believe in which form of EMH?

Answer 38

Weak form - investor may be using fundamental analysis when using the SML. Investor is buying and selling stocks based on required rate of return

Question 39

F’s indiffernece curve is tangent to Markowitz’s efficient frontier at point E (the maximum risk). What types of investments would most likely interest F? Hedge funds S&P index funds Mortgage REIT calls Selling naked calls Buying out of the money

Answer 39

Hedge fund - because present high levels of potential risk and return Selling naked calls - risky, but seller often keeps the entire premium Buying out of the money - this can produce substantial gains if calls eventually go in the money

Question 40

If believe in Value Line phenomenon and trade stocks buying when Value Line indicates a bullish opportunity and sells when it indicates a bearish opportunity is investor active or passive investor?

Answer 40

Active - value Line phenomenon is an anomaly to EMH. Investor buys and sells as active investor

Question 41

Which of the following elements is not factored into calculating intrinsic value using the DDM? Beta or gross earnings of company

Answer 41

Gross earnings Beta is used to calculate required rate of return (r = rf + (rm - rs))

Question 42

LMN stock is selling for $28.50. P/E ratio is 50 and firm will earn $.50 in the current year. Stick pays no dividend. Is the stock undervalued or overvalued?

Answer 42

Overvalued Using the price/earnings model, the intrinsic value of the stock is $25. ($.50*50=$25). At a current price of $28.50 it’s overvalued since it should be $25

Question 43

What is the most important consideration relative to the efficient frontier? Risk or covariance

Answer 43

Risk - although covariance plays a supporting role in determining the efficient frontier risk is the most fundamental distinguishing characteristic of the efficient frontier

Question 44

Can the CML evaluate a diversified, margined portfolio?

Answer 44

Yes

Question 45

Can the CML evaluate a diversified, margined portfolio?

Answer 45

Yes

Question 46

Basic element of Dow Theory are which of the following? reflects passive strategy supported by MPT reflects active strategy not supported by MPT focuses on Dow Jones Industrial Index focuses on Dow Jones Transportation Index

Answer 46

Considers both Dow Jones Industrial and Transportation Indices DT contradicts Modern Portfolio Theory (MPT) - technical analysis is an active strategy

Question 47

How is each of these stock indices weighted? Dow Jones Wilshire 5000 Value Line Index S&P 500 Russell 2000 and NASDAQ

Answer 47

DJ - price weighted Wilshire - value weighted Value Line - equally weighted S&P - float weighted Russell 2000 and NASDAQ - both capitalization weighted

Question 48

Bond indenture contains sibling fund requirement. Are the periodic payments to source the sibling fund generally the same each period?

Answer 48

Yes

Question 49

Which of the following are probability distributions? Normal, triangular, uniform and logonormal

Answer 49

All of the above - there are more than a dozen, but these are the ones cited on the exam

Question 50

In what way is a financial ratio the most useful? Single ratio across different industries over time or several ratio within the same industry over time

Answer 50

Several ratios within same industry - it may give clear picture of firm’s strengths and weaknesses; one ratio itself means little

Question 51

To immunize a bond portfolio, do which of the following? Match same duration of each bond to the time horizon or match average duration of bond portfolio to time horizon

Answer 51

Match average duration of bond portfolio to investor’s time horizon

Question 52

If US investor buys Canadian bonds, investor would want Canadian dollar to devalue or revalue?

Answer 52

Revalue - want it to go up and US currency to go down Focus on Canadian dollar

Question 53

Under Black Scholes option pricing model, which decreases the value of a call option? Increase in price of stock or increase in strike price

Answer 53

Increase in strike price because a higher strike price would have less value than another call with the same remaining time to expiration but with a lower exercise price. The right to buy lower is worth more

Question 55

Which two investments would or ably have the highest correlation? Equity investments Preferred stock Real estate Bonds

Answer 55

Preferred stock and bonds - fixed income securities, like preferred stock and bonds are highly correlated because they are both price sensitive to interest rate changes. Fixed income securities generally have low correlation to other asset classes shown

Question 56

Is Beta a measure of total risk or a stock’s systematic risk?

Answer 56

Stocks systematic risk - it expresses volatility rather than variability

Question 57

Input variables needed to create portfolios under Markowitz model do not include which of the following: covariance, coefficient, standard deviation, return or beta?

Answer 57

Beta - the Markowitz model uses standard deviation as a risk measurement (covariance, correlation coefficient, and return) not beta

Question 58

When is a publicly traded company most likely to issue new bonds? When previously issued bonds are selling at a premium or discount When interest rates are expected to rise or when they have fallen

Answer 58

Previously issued selling at premium When interest rates are expected to rise and when they have fallen - try to sell bonds before interest rates rise. If rates have fallen can issue new bonds at lower rates

Question 59

When interest rates decline would investor want to own zero coupon bonds or a corporate long term bond to generate highest total return?

Answer 59

Corporate long term bond for price appreciation opportunities Zero coupon bond only produces phantom income and no maturity is indicated

Question 60

What is the best way for a US investor to purchase a (one) foreign stock? International fund or ADR

Answer 60

Buy an ADR - international fund has multiple foreign stocks

Question 61

What characteristics differ between T-bills and T-notes? Risk Typical buyer Denominations issued Cash flow

Answer 61

All of these T-bills are safest (riskless); main buyers are corporations with excess cash; individuals usually purchase T-bills through money market accounts Denominations are different (T-notes max of $100k) T-bills sold at discount and mature in 12 months or less; no interest paid and mature for full face value T-notes pay federally taxable interest every 6 months and may offer too little risk and return for an aggressive investor