Series 66 2.0 Flashcards Preview

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Flashcards in Series 66 2.0 Deck (175):
1


A widower wants to fund a Section 529 plan for his daughter. What is the maximum amount he may initially contribute in 2015 without having to pay gift taxes?

A)$14,000

B)An unlimited amount since a gift occurs only when he irrevocably changes the beneficiary

C)$140,000

D)$70,000

4; A special rule under Section 529 allows the donor to load front-end load contributions and avoid paying gift taxes. Five years worth may be used under this method (5 × $14,000 = $70,000). If he remarries, his wife may also consent to gift split, thereby doubling this amount to $140,000. Please note: The annual exclusion was increased to $14,000 effective January 1, 2013.

2


Which of the following would NASAA consider to be a substantial prepayment of fees?

A)$1,000 covering the next month

B)$600 covering the next calendar quarter

C)$500 covering the next six months

D)$600 covering the entire contract year

4; NASAA defines a substantial prepayment of fees to be MORE than $500, six or more months in advance.

3

Which of the following statements is (are) TRUE regarding the jurisdiction of the SEC under the Securities Exchange Act of 1934? I.The SEC has jurisdiction over exchanges and SROs.
II.The SEC has jurisdiction over broker-dealers, agents, investment advisers, and representatives that are required to be registered under federal law.
III.The SEC has jurisdiction over banks and savings and loans regarding their securities activities.

1 & 2; The SEC was created by the Securities Exchange Act of 1934 and has the responsibility of administering all federal securities laws. The SEC has jurisdiction over exchanges, SROs, and all persons required to be registered under federal law. The SEC does not enforce state securities statutes, nor does it have jurisdiction over banks or savings and loans regarding their securities activities. Banking authorities, such as the Federal Reserve Board, the Federal Deposit Insurance Corporation, and others, regulate banks and savings and loans.

4

Under NASAA's Model Rule on Unethical Business Practices of Investment Advisers, Investment Adviser Representatives, and Federal Covered Advisers, which of the following must be included in an investment advisory contract? I.The formula used to determine the investment adviser's compensation.
II.A statement of the discretionary authority, if any, given to the investment adviser.
III.A statement that the investment adviser may assign the contract without the consent of the client.

1 & 2; Advisory contracts must contain the services to be provided; the term of the contract; the amount of the advisory fee or the formula used to compute it; the amount of fee to be refunded if the advisory fee is prepaid; whether the adviser has discretionary authority and to what extent; and a provision explaining that the consent of the client is required to assign the contract.

5


Under NASAA’s Model Rule on Unethical Business Practices of Investment Advisers, Investment Adviser Representatives, and Federal Covered Advisers, the contract between an investment adviser and its clients shall include all of the following EXCEPT

A)whether the contract grants discretionary power to the adviser

B)the formula for computing the fee

C)the services to be provided

D)a provision to reduce or waive fees in the case of underperformance

4; There is never any case where waivers of this nature would ever be permitted.

6


When constructing a portfolio, one of the goals is to increase diversification. Which of the following pairs offers the most diversification?

A)U.S. equity securities and foreign equity securities.

B)Corporate debentures/convertible bonds.

C)Large-cap stock/blue-chip stock.

D)Municipal GO bonds and long-term U.S. Treasury bonds.

1; Diversification is generally accomplished by adding securities that don’t have a high degree of correlation. Large-cap and blue-chip are essentially the same thing. Most convertible bonds are debentures. Only in the case of domestic and international stocks will we find a low correlation.

7

Which of the following are exempt from state registration? I.A common stock traded on the OTC Bulletin Board whose bonds are listed on the NYSE
II.An isolated nonissuer transaction
III.A transaction by an administrator of an estate
IV.A transaction with no commissions directed by the offeror to no more than 50 persons in the state who buy the security for investment purposes only

2 & 3; Isolated nonissuer transactions and transactions by an ​administrator are included in the list of exempt transactions​. The private placement exemption is limited to a maximum of 10 offers to retail clients. If this were to institutions, (where there is no numerical limitation), commissions would be paid and immediate resale is permitted. If the common stock is federal covered (listed on the NYSE) and, therefore exempt from registration, then a senior security, such as the bond, would also be covered. But, it doesn't work in reverse.

8

Which of the following are features of Class C mutual fund shares? I.Typically charge no front-end load
II.Typically charge a front-end load
III.Typically impose lower CDSCs than Class B shares for a shorter period
IV.Typically convert to Class A shares after they are held for a defined period

1 & 3; Class C shares generally have the following features: no front-end sales charge, lower CDSCs than Class B shares for a shorter period, and no conversion to Class A shares regardless of how long they are held. Because of these features, Class C shares may be less expensive for investors with shorter investment horizons. They may be more expensive for investors who plan to hold their shares for a long time, since the level load never discontinues.

9

Formula methods of investing that involve selling equities in rising markets and buying them in falling markets would include I.constant dollar plan
II.constant ratio plan
III.dollar cost averaging
IV.DRIPs

1 & 2; In both a constant dollar plan and a constant ratio plan, the goal is to maintain a balance between equity and debt securities in the portfolio. This is done by selling equities as their price rises (the proportion has now changed) and buying equities when the prices fall to get back to the constant dollar or ratio.

10


XYZ Corp. will issue a new security and distribute it through a public offering. Under the Securities Act of 1933, which of the following is NOT required to be included in XYZ's registration statement?

A)The identity of the underwriter.

B)The name and address of XYZ's personnel manager.

C)The name and address of Jan Michael, who owns 11% of XYZ's stock.

D)An estimate of the proceeds that will be raised through the offering and how that money will be used.

2; A registration statement must contain the identity of owners of more than 10% of the issuer's stock, an estimate of the proceeds and a description of the use to which they will be put, and the identity of the underwriter, amongst many other things. It must also identify all the issuer's officers and directors, their holdings of the issuer's securities, and their salaries. Since the description of the personnel manager does not use the term officer or director, this employee need not be identified in the registration statement.

11

According to the ethical guidelines set forth in the NASAA Statements of Policy and Model Rules, which of the following statements regarding discretion is CORRECT? I.An agent of a broker-dealer must have written prior discretionary authorization prior to effecting discretion in a client's account.
II.An agent of a broker-dealer must receive written discretionary authorization within ten business days of the first discretionary transaction in the account.
III.An investment adviser representative must have written prior discretionary authorization prior to effecting discretion in a client's account.
IV.An investment adviser representative must receive written discretionary authorization within ten business days of the first discretionary transaction in the account.

1 & 4; One respect in which the use of discretionary authority differs between agents and IARs is that agents may never exercise discretion without prior written authority. IARs must receive the written consent no later than ten business days after the first discretionary transaction in the account.

12

There are many sources of taxable income to an individual. Included might be money received from which of the following? I.Sole proprietorship.
II.Subchapter S corporation.
III.Investments.
IV.Death benefits.

1, 2 & 3; An individual can generate income from running a sole proprietorship or being a shareholder in an S corporation (the exam will probably use the obsolete term, Subchapter S). Of course, taxable income can be generated by investments in the form of dividends, interest and capital gains. The assumption here must be that the death benefits are from a life insurance policy because those, unlike the death benefit from an annuity, are not subject to income tax.

13

Which of the following statements regarding corporate zero-coupon bonds are TRUE?I. Interest is paid semiannually.
II. The discount is in lieu of periodic interest payments.
III. The discount must be accreted and is taxed annually.
IV. The discount must be accreted annually with taxation deferred until maturity.

2 & 3; The investor in a corporate zero-coupon bond receives the return in the form of growth of the principal amount over the bond's life. The bond is purchased at a deep discount and redeemed at par at maturity. That discount from par represents the interest that will be earned at maturity date. However, the discount is accreted annually and the investor pays taxes yearly on the imputed interest.

14


One method security analysts use to define companies is by their market capitalization. How is a company with a market capitalization of $400,000,000 categorized?

A)Mid-cap.

B)Micro-cap.

C)Large-cap.

D)Small-cap.

4; The general consensus is that companies with a market capitalization between $300 million and $2 billion are considered small-cap. Less than that is micro-cap; larger is either mid-cap or large-cap.

15


Alex Alexander is planning on registering as an agent for a broker-dealer. Which of the following would be the least likely requirement for a successful application?

A)Paying the filing fees

B)Filing an application for registration

C)Taking and passing an examination

D)Submitting fingerprints

4; Fingerprints are not a specific requirement of the Uniform Securities Act

16


Mr. and Mrs. Rose, advisory clients of yours, request a meeting with you to discuss the options available if they wish to deposit a lump sum to save for college tuition for their child. All of these would be factors to consider EXCEPT:

A)the expected inflation rate.

B)the Rose’s salary.

C)current college costs.

D)the age of the child.

2; When making a lump sum investment, salary is not a factor. The funds will have to come out of savings or investments. This is basically a present value computation. In order to project how much will be needed, we need to know what the current tuition is, the rate at which it is expected to inflate, and the number of years we have until the child starts college. That will give us the three components of present value: total amount needed, earnings rate, and length of investment.

17


An order is received from one of your clients to purchase 200 shares of GEMCO common stock at 45 GTC. Two days later, while at a luncheon meeting with a different client, you are informed by that individual that the inside scoop is that GEMCO is going to be the subject of an FBI investigation. An hour after you return from lunch, you see an execution report for the 200 shares at 44.90. Under the Insider Trading and Securities Fraud Enforcement Act of 1988, you

A)are not in violation because the trade was the result of an unsolicited order

B)are not in violation because the order was placed before you learned of the inside information

C)are in violation because you should have canceled the order the moment you received the tip

D)are in violation because you should have called the client immediately and had the ordered canceled

2; Violations of the insider trading rules can only happen when a person acts on the information. Because the order was placed on the books prior to the agent learning of the inside information, there is no violation. There is no obligation to cancel the order, and contacting the client would be making use of the inside information.

18


There are many different legal ways to structure a new business entity. One of these is the general partnership. Among the benefits of using this structure would be

A)substantial capital can be raised with little effort and low cost

B)the 70% dividends received exclusion

C)limited liability

D)ease of formation

4; Compared to a corporation, it is generally easier to form (and dissolve) a partnership. General partners have full liability and there is no 70% dividends received exclusion for partnerships; that only applies to C corporations. C corporations are the entity for raising a lot of capital.

19


Under the NASAA's Model Rule on Unethical Business Practices of Investment Advisers, Investment Adviser Representatives, and Federal Covered Advisers, investment advisers who advertise must comply with the rules of the Investment Advisers Act of 1940, which include:

A)the requirement that advertisements must be sent to the SEC for approval before dissemination to the public.

B)a prohibition against showing the adviser's past performance.

C)a prohibition against reduced-fee introductory offers.

D)a prohibition against testimonials from clients.

4; Advertisements may not include testimonials from clients or others, refer selectively to past recommendations, or refer to a chart or device for evaluating securities without explaining its limitations and difficulties. There is no requirement for filing of advertising with the SEC, or anyone else for that matter. Introductory reduced-fee offers, while rare, are not prohibited as long as they are not discriminatory. Past performance may be used in advertising as long as it meets the requirements of the Rule.

20


A customer opens a margin account with a broker-dealer and signs a loan consent agreement. The loan consent agreement allows the firm to

A)commingle the customer's securities with securities owned by the firm

B)hypothecate securities in the account

C)loan out the customer's margin securities

D)lend the customer money

3; A signed loan consent agreement permits a firm to loan out a customer's margin securities. This is the only part of the margin documentation that is optional.

21

Which of the following statements is (are) TRUE about the investigative power of the Administrator under the Uniform Securities Act? I.The Administrator may conduct public or private investigations to determine if violations are about to occur or have occurred.
II.Persons could find themselves subject to contempt of court charges for failing to obey a subpoena issued by an Administrator.
III.The Administrator may proceed against an entire firm for the actions of any principal of the firm.

1, 2 & 3; The Administrator may conduct public or private investigations in pursuing suspected or actual violations and may do so within or outside the state. Administrators may issue subpoenas in conducting their investigations, and if persons fail to obey them, the Administrator may apply to the courts for a court order. If the persons then fail to obey the court order, they may be subject to contempt of court charges. The Administrator may take such action against an entire firm as a result of the actions of any principal of the firm.

22


ABC Securities is a 2-office broker-dealer in Idaho that intends to underwrite an initial public offering of one million shares of stock for Circular, Inc. If the issue will be offered exclusively to residents of Idaho, registration of this offering:

A)will most likely occur by notice filing.

B)is not required because of the de minimis test.

C)will most likely occur by coordination.

D)will most likely occur by qualification.

4; An issue done solely within 1 state (intrastate offering) is registered using qualification. Notice filing is used by certain issues of federal covered securities, primarily investment companies. Coordination is the simultaneous registration on both the federal and state level; neither of those 2 could possibly apply to the Circular offering.

23

An investment adviser representative is required to make disclosure to the client when:I. the IAR, in preparing a recommendation, uses research provided by a third party with whom the IAR is not affiliated.
II. the IAR recommends a specific insurance policy for the client's overall financial plan, where a commission will be received on that sale.
III. transactions recommended to a specific client are inconsistent with those for other clients with objectives that are identical to that particular client.
IV. transactions recommended to the client are inconsistent with those for the IAR's own account.

2 & 4; An investment adviser must provide full disclosure to his client if there would be even a hint of conflict of interest. This will include the case where a recommended product will generate a commission or other source of income to the adviser, as well as full disclosure if a recommendation is not consistent with the adviser's own activity in his own account. The adviser can use any source of information to create his own analysis, disclosure of source only being required if the adviser uses the product of a third party as the presentation to the client. It would be unusual that all clients with the same objectives would purchase or have recommended for purchase the same securities.

24

Jake Aaron is registered as an agent with ABC Securities, a broker-dealer registered with the SEC doing business in 34 states. In addition, Mr. Aaron has his own investment advisory business, Jake's Money Advisers, and is registered with the SEC. To comply with all appropriate regulations, which of the following would have to be stated on the business card for Jake's Money Advisers? I.Jake Aaron, RIA.
II.Jake's Money Advisers, RIA.
III.Jake's Money Advisers, registered investment adviser.
IV.Securities offered through ABC Securities.

3 & 4; It is not permissible to use the initials RIA, but one would properly describe the fact that the firm is a registered investment adviser. If one is registered as an agent with a broker-dealer, that fact always must be stated on your business card.

25


If a new client has $200,000 to invest and wants to retire in 15 years, which of the following client information is least necessary for an adviser to recommend a suitable investment program?

A)The age of the client.

B)Current income and cash flow requirements.

C)Tolerance toward risk.

D)The amount of income he requires for his retirement years.

2; While current income and cash flow requirements are ordinarily important considerations, in this question we are being asked about the investment of a lump sum, not periodic additional investments. The amount of income required will determine the types of investments and how they must be structured in order to achieve the retirement income desired. The client's age is necessary to determine the time horizon. That is, if the client is currently 35 and wishes to retire at age 50, the money will have to last a lot longer than if we are dealing with a 55-year-old who wishes to retire in 15 years at 70. A client's tolerance toward risk is among the most important non-financial considerations in determining investment suitability.

26


It would not be a prohibited practice under the Uniform Securities Act for an agent to tell a client that:

A)registration of securities implies tacit approval of the Administrator.

B)the fact that she passed her licensing exams is ample proof of her qualifications.

C)registered nonexempt securities may properly be sold in the state.

D)my commissions are structured so I make money only if the client makes money.

3; Nonexempt securities are those that must register. The Administrator never approves of any security, passing a licensing exam does not give one the right to assert one's qualifications, and performance-based compensation is never permitted for agents.

27

Jack, an investment adviser representative of Gibraltar Investment Advisers, brought a large account into the advisory firm. Under which of the following circumstances may the firm compensate Jack on the basis of the firm's earnings on this new account?I. Jack has passed the Series 7 general securities representative examination.
II. It has been disclosed to the client that Jack is to be compensated in conjunction with bringing the account into the firm.
III. If required by the Administrator, Jack is appropriately registered as an investment adviser representative.
IV. Jack is appropriately registered as an investment adviser.

2 & 3; Investment adviser representatives may be compensated for introducing accounts to the advisory firm if disclosure of the compensation is made to the client and if the individual is appropriately registered as an IAR in jurisdictions where such registration is required. The firm is the adviser and the individual is the investment adviser representative.

28

Investment advisers, as fiduciaries, have ethical obligations to act in their client's best interests and in an ethical manner. Engaging in which of the following practices would be unethical, although not fraudulent, for an investment adviser?I. Lending money to a client with full and fair disclosure.
II. Recommending securities transactions based on research supplied to him by a third party without disclosing this fact to his clients.
III. Supplying to his clients research reports prepared by a third-party firm without disclosing the source of the reports.
IV. Charging significantly higher fees for the identical services offered by other advisers.

1, 3 & 4; Lending money to a client (even with full and fair disclosure), supplying clients with research reports prepared by a third-party firm without disclosing the source of the report, and charging significantly higher fees for the identical services offered by other advisers are all considered unethical practices. Recommending securities transactions based on third-party research, without disclosing this fact to clients, is not unethical or deceptive.

29


Which of the following account designations will avoid probate?

A)DVP

B)Margin

C)POD

D)Individual

3; Payment on death (POD) is the less common term for transfer on death (TOD). An account opened with this designation avoids probate upon the death of the account holder.

30


An Administrator may deny or revoke a security's exemption:

A)if the Administrator, in a court of competent jurisdiction, proves that a security does not qualify for an exemption.

B)without a hearing if the issuer is given an opportunity for a hearing after the revocation.

C)if the Administrator determines that an exemption applicable to federal covered securities is inconsistent with state securities law.

D)for a federal covered security if its issuer is in violation of state law.

2; An Administrator may deny or revoke a security's exemption without a hearing if the issuer is given an opportunity for a hearing after the revocation. The issuer requesting an exemption must prove the exemption; this is not the responsibility of the Administrator. The Administrator may not revoke exemptions of federal covered securities.

31


One of the distinguishing characteristics of an investment adviser is that of fiduciary responsibility to clients. That responsibility specifically requires the IA to

A)charge fees that are reasonable under the circumstances of the account

B)be sure that all recommendations to clients are suitable

C)disclose all potential conflicts of interest

D)always place the client’s interest ahead of its own

4; Although each of these is a requirement for acting ethically as an investment adviser, the only choice that specifically reflects the obligation as a fiduciary is to place the interest of the clients first.

32

A client who purchased a variable life insurance policy 15 months ago has suffered a stroke. In addition, he has developed adult onset diabetes. When receiving treatment for the stroke, he was diagnosed with lung cancer. He has decided to convert his variable policy to a whole life policy. Which of the following statements is CORRECT? I.He will not be able to convert to a whole life insurance policy because his health has deteriorated to such a severe level.
II.The new policy will bear the same issue date and age as the original policy.
III.The face amount must remain the same.
IV.The premium will be rated as his health has taken a marked turn for the worse.

2 & 3; Variable life insurance offers a unique conversion policy. Anytime during the first 24 months after policy issue, the policy may be exchanged for a whole life policy (or some similar form of permanent insurance if the company doesn't offer whole life) using the age and medical condition at issue regardless of the insured's current health. However, the face amount cannot be changed from its original amount.

33

//////////////////////In conducting investigations, the Administrator may:I. require a person to file a statement in writing and under oath.
II. publish information of any violation over the vigorous objections of a violator.
III. make investigations both inside the state and in other states to determine whether violations of the USA have occurred in his state.
IV. make investigations outside the state to determine whether violations of the USA have occurred in that other state.

1, 2 & 3; The Administrator may require written statements under oath, publicize violations, and investigate anywhere necessary to determine whether or not a violation of the act took place in his state. However, he is not authorized to conduct investigations in other states to determine whether a violation of the USA has occurred in those states.

34

Becky Biggins has an executive position with a large corporation that covers her under its defined benefit pension plan. This year, Becky's salary will top $235,000. Becky has no dependents and wishes to maximize funds that she can accumulate for her retirement. Becky could I.not open a traditional IRA
II.open a traditional IRA but would not be able to deduct her contributions
III.open a Roth IRA
IV.not open a Roth IRA

2 & 4; Anyone with earned income can open a traditional IRA. Deductibility of contributions may be disallowed if the individual is covered under a corporate plan and has earnings in excess of a certain level. Becky's salary exceeds the maximum permitted for a single person so her contributions would be made with after-tax dollars. In the case of a Roth, nothing is deductible, so it doesn't matter if you are covered at work. However, Becky's salary is far in excess of the maximum permitted for a single person to contribute to a Roth IRA.

35

Under the Uniform Securities Act, as a result of a hearing, the disciplinary actions that may be taken by the Administrator include which of the following? I.Permanent revocation of a registration.
II.Bar from employment with any registrant.
III.Restriction on a registrant's performance of any activity in the advisory or brokerage business.

1, 2 & 3; Once the registrant is found guilty at a hearing, the Administrator is authorized to take any or all of these actions against a person's registration.

36


Which of the following statements accurately describes the doctrine of limited liability?

A)The owner of a sole proprietorship is not personally liable for the proprietorship's debts.

B)A shareholder of a corporation has some personal liability for the corporation's debts.

C)A partner is not personally liable for the debts of the partnership.

D)A shareholder of a corporation is not personally liable for the corporation's debts.

4; The owners of certain kinds of businesses such as sole proprietorships and partnerships have unlimited liability for the business' debts. The doctrine of limited liability means, however, that the owners of a corporation (the shareholders) are not personally liable for the corporation's debts.

37


All of the following activities and communications would fall outside the definition of a recommendation EXCEPT

A)a broker-dealer provides research tools on its website that allow customers to screen through all Nasdaq securities

B)a broker-dealer sends an email to its more conservative clients stating this would be an excellent time to invest in public utility stocks, and includes a list of those paying the highest dividends

C)a broker-dealer’s website places a search engine in a prominent spot on its landing page that can be used to access charts of multiple stocks in the large-cap sector

D)a broker-dealer’s website was created to be available to customers that contains a link to an electronic library of research reports that contains buy-sell recommendations from the author of the research reports

2; Specificity, such as a list of securities, invariably results in a communication being deemed a recommendation. All of the other choices given would generally be viewed as falling outside the definition of recommendation.

38


A client has just finalized her divorce and intends to sell her gold wedding band. Because the price of gold has risen significantly since she married 20 years ago, she will be able to realize a profit on the sale, but she does not know what to use as the cost basis. You suggest she speak to a tax specialist who will tell her to

A)ignore the profit for tax purposes because precious metals are not subject to capital gains taxation

B)use a cost basis of zero because it was a gift

C)use the original cost of the ring

D)obtain an appraisal from a qualified jeweler and use that as the cost basis

3; Regardless of the nature of the asset, the cost basis of any asset acquired as a gift is that of the donor. Although not tested, the maximum rate on capital gains from collectibles, such as a gold ring, is 28% (higher than the rate for securities).

39

Which of the following statements is TRUE regarding Section 529 Plans?I. Funds withdrawn for qualified education expenses are always free of federal income tax.
II. Funds withdrawn for qualified education expenses are always free of state income tax.
III. The maximum contribution limits are determined on a federal level.
IV. The maximum contribution limits are determined on a state level.

1 & 4; Section 529 Plan withdrawals are exempt from federal income tax if used for the right expenses. In almost all cases, if the plan is one operated by your state of residence, it will be exempt from your state's income tax. But, if you elect to contribute to a plan operated by another state, more than likely, any withdrawals will be subject to your state's income tax. Because the plans are state operated, the maximum contribution limits are set by each state.

40


Which of the following types of mutual funds is least likely to have its total return affected by capital gains or losses?

A)Bond mutual fund.

B)Growth mutual fund.

C)Money market mutual fund.

D)Balanced mutual fund.

3; Money market mutual fund portfolios consist of short-term debt securities that react little, if at all, to interest rate fluctuations. Thus, capital gain or loss has little, if any, impact on the return of a money market mutual fund.

41

Which of the following statements regarding SEC Commissioners are CORRECT? I.The maximum number that may serve at any one time is five
II.Political affiliation plays a role in limiting who may be appointed
III.They are appointed by the POTUS with the advice and consent of the SCOTUS
IV.Upon confirmation, other than holdings in U.S. government securities, all securities positions must be liquidated.

1 & 2; The SEC consists of a maximum of 5 Commissioners serving staggered five year terms. At no point may there be more than 3 of the 5 from the same political party. They are appointed by the President of the United States (POTUS) with the advice and consent of the Senate, not the Supreme Court (SCOTUS) and, other than U.S. government securities, all positions must be placed into a blind trust.

42

One of your clients is in the process of forming a new business venture with a friend and is considering whether to operate as a partnership or a C corporation. Among the advantages of operating as a partnership are:I. ease of dissolution.
II. ease of raising additional capital.
III. flow-through of income or loss.
IV. limited liability.

1 & 3; Unlike a C corporation, operating income or losses of a partnership flow through directly to the partners. There are several easy ways to dissolve a partnership. However, they do not offer the limited liability protection of a corporation. The corporate form of business is generally the most suitable for raising additional capital.

43


A bond's yield to maturity reflects its:

A)return based on annual interest as a percentage of current price.

B)taxable equivalent return.

C)internal rate of return.

D)nominal return.

3; Yield to maturity reflects the internal rate of return on a bond. Internal rate of return (IRR) equates the cost of an investment to the cash flows produced by that investment.

44


A securities analyst who recommends allocating to industries based on changes to the business cycle would most likely be said to be

A)a tactician

B)laddering

C)a contrarian

D)sector rotating

4; Sector rotation is the practice of changing investment emphasis based on patterns to the business cycle. Yes, this could be a form of tactical management, and, if the analyst is investing opposite the cycle, the analyst could be contrarian. However, on the exam, you will sometimes have to choose from several answers that could be correct by selecting the one that is most likely to be correct.

45


Registration statements for securities under the Uniform Securities Act are effective for:

A)one year from the date of issue.

B)one year from the effective date.

C)a period of time determined by the Administrator for each issue.

D)one year from the previous December 31.

2; Securities registration statements are generally effective for one year from the effective date.

46


An advantage of structuring a business operation as an S corporation rather than a C corporation would be

A)simplicity when raising capital through a public offering

B)avoiding double taxation

C)limited liability

D)the C corporation is limited to a maximum of 100 shareholders while no such limit exists for the S corporation

2; Because an S corporation is taxed like a partnership, all earnings (or losses) flow directly through to the shareholders. This avoids the double taxation inherent in receiving a share of the profits (through dividends) from a C corporation. It is the S corporation that is limited to 100 shareholders. That is why it is not suitable for raising capital through a public offering. The shareholders of both S and C corporations enjoy the benefit of limited liability.

47


If 150 investors want to form a corporation to limit their financial liability to the amount of money they invest and do not want to be responsible for any debt that the corporation incurs, they would most likely form a(n):

A)proprietorship.

B)S corporation.

C)C corporation.

D)general partnership.

3; The investors would form a C corporation. The advantages of the C corporation are stockholders are not liable for corporate debt; it is easier to raise money by issuing stock; it is easier to transfer ownership; and unlike a partnership or proprietorship, a C corporation has a continuous life because it does not terminate on the death of shareholders, officers, or directors. An S corporation is limited to 100 investors.

48

The term "investment adviser representative" includes which of the following?I. A receptionist for an adviser.
II. An employee who solicits new business for an adviser.
III. A supervisor who oversees employees who manage client portfolios for an adviser.
IV. An investment advisory firm registered in the state of Texas.

2 & 3; An investment adviser representative is always an individual person. Employees who solicit business on behalf of investment advisers and those persons who supervise other employees are investment adviser representatives.

49


A 75-year-old customer asks if it is possible to sell his $500,000 variable life insurance policy to a party other than the insurance company that issued the policy. If a sale occurs, known as a life settlement, which of the following would be a violation of industry rules?

A)Requiring the customer to relinquish all ownership rights to the policy

B)Disclosing that the buyer becomes responsible for all premiums while the insured is living

C)Not requiring the insured to pass a physical exam prior to the sale

D)Quoting the price using an exclusive buyer that handles all the firm's life settlements

4; Because of the limited secondary market for life settlements, any firm that engages in these transactions should obtain several bids to ensure the customer receives a fair price for her policy.

50


ABC Securities, Inc., is a full service broker-dealer. When underwriting an IPO, ABC holds on to some of its allocation in hopes that the stock will appreciate in secondary market trading. In so doing, ABC:

A)is enabling the new issue to become seasoned.

B)is acting in accordance with the Uniform Prudent Investor Rule.

C)has the potential for additional income to compensate for the risks in underwriting an IPO.

D)is in violation of NASAA's Statement of Policy on Dishonest and Unethical Business Practices of Broker-Dealers and Agents.

4; This parallels FINRA's Rule 5130 that prohibits most securities professionals from obtaining shares of an IPO.

51

True or false: An investment adviser is not prohibited from providing clients with recommendations or reports prepared by others (3rd party reports), but the adviser must disclose the true source of the recommendations or reports. However, the disclosure requirement does not apply to the research material, including 3rd party reports, an adviser uses in formulating investment advice.

True

52


Which of the following forms of soft-dollar compensation to an investment adviser from a broker-dealer is permissible?

A)Coverage under the broker-dealer's group health insurance plan.

B)A cell phone that is programmed to receive real-time stock quotes.

C)Computer software that is programmed to receive real-time stock quotes.

D)A plane ticket to attend a lecture on economics to be held at the Federal Reserve Bank in New York City.

3; Computer software is a permissible form of soft-dollar compensation between broker-dealers and investment advisory firms. Although seminar fees are permissible soft-dollar compensation, transportation and meals associated with attending such seminars are not. Broker-dealers are prohibited from providing cell phone costs to investment advisers. Coverage under the broker's group health insurance plan would be prohibited.

53


A policy owner could surrender a whole life insurance policy and choose from all the following EXCEPT

A)purchasing an extended term life policy

B)taking the cash value

C)transferring the policy to another person

D)purchasing a reduced coverage whole life policy

3; Life insurance policies are non-transferrable. Upon surrender, the cash value may be taken or used to purchase extended term insurance or a reduced value, paid up, whole life policy.

54


You have a 37-year-old client whose wife has just given birth to triplets. Because of the added responsibilities, he wants to maximize the amount of life insurance he can acquire. Which of the following types of insurance will give him the greatest amount of coverage for the lowest initial premium?

A)Universal life

B)Whole life

C)Variable life

D)Annual renewable term

4; At any given age, term insurance always carries the lowest premium and, of the term policies available, annual renewable term always has the lowest initial premium. Of course, because the premium tends to increase each year the policy is renewed, at older ages it can become unaffordable. But, remember, this question is only asking about initial cost.

55


An Administrator may issue a stop order if it is in the public interest and the:

A)registrant is not registered in all states in which the security is proposed to be registered.

B)Administrator disapproves of the quality of the products manufactured by the registrant.

C)registrant refuses to pay the Administrator a personal fee in addition to filing fees.

D)registrant is subject to an administrative stop order of a neighboring state.

4; An Administrator has the authority under the USA to issue a stop order if a registrant is subject to a stop order in another state. The Administrator does not have the authority to approve or disapprove of the quality of products manufactured by a registrant. The Administrator may not use the office for personal gain and therefore may not request personal fees. The Administrator may not deny a registration on the basis of its lack of registration in other states.

56

The Uniform Securities Act requires that a consent to service of process be filed for the registration of: I.trustees.
II.issuers.
III.investment advisers.
IV.broker-dealers.

3 & 4; The state securities Administrator has jurisdiction over investment advisers, broker-dealers, and any who are associated with those entities. Issuers don't register, it is their securities that do. The Administrator may have jurisdiction over securities offered for sale by a company in the Administrator's state and generally requires a consent to service of process for a securities registration.

57


An employer wishing to offer a retirement plan with a goal of retaining key employees would probably start with a

A)deferred compensation plan

B)payroll deduction plan

C)SEP-IRA

D)defined benefit plan

1; Because the deferred compensation plan allows the employer to discriminate, it is a popular choice for offering special benefits to retain key employees. Defined benefit plan will be the answer to a question dealing with offering maximum benefits to older employees.

58

While the Administrator has great power, the USA does place some limitations on the office. Which of the following statements regarding those powers are TRUE?I. In conducting an investigation, an Administrator can compel the testimony of witnesses.
II. Investigations of serious violations must be open to the public.
III. An Administrator in Illinois may only enforce subpoenas from South Carolina if the violation originally occurred in Illinois.
IV. An Administrator may deny the registration of a securities professional who has been convicted of any felony within the past 10 years, but must provide a hearing within 15 days if requested in writing.

1 & 4; An Administrator can compel the testimony of witnesses when conducting an investigation. Investigation of serious violations need not be held in public. An Administrator in Illinois may enforce subpoenas from South Carolina whether the violation occurred in Illinois or not. Conviction for any felony within the past 10 years is one of a number of reasons that the Administrator may have for denying a license. However, on notice of the denial, a written request may be made for a hearing and that request must be honored within 15 days.

59


The Capital Asset Pricing Model (CAPM) is most commonly used to determine an investor's

A)time weighted return

B)risk-adjusted return

C)expected return

D)holding period return

3; The CAPM suggests that we can determine the expected return of any security (or portfolio) by using the following mathematical formula: Er = Rf + Beta(expected return on the market − Rf). Er stands for expected return, Rf is the risk-free return.

60

Under the definitions used in the Uniform Securities Act, which of the following statements are TRUE? I.Agents are excluded from the term, broker-dealer.
II.Agents are included in the term, broker-dealer.
III.Investment adviser representatives are excluded from the term, investment adviser.
IV.Investment adviser representatives are included in the term, investment adviser.

1 & 3; Under the USA, the term broker-dealer specifically excludes an agent. Likewise, the term investment adviser specifically excludes an investment adviser representative.

61


Judy is in the business of giving general investment advice, suggesting appropriate asset allocation percentages, but not recommending specific securities. George’s business model is giving investment advice and recommending specific securities. Assuming that both receive compensation, who must register as an investment adviser under the Uniform Securities Act?

A)Only Judy.

B)Only George.

C)Both must register.

D)Neither must register.

3; Two of the three critical elements in the definition of investment adviser are whether the person provides advice regarding securities and receives compensation for doing so. (The third element is “being in the business” and the question states that both are). Even without recommending specific securities, the fact that Judy suggests asset allocation percentages constitutes investment advice. Both Judy and George provide advice regarding securities for compensation and must register, unless specific exemptions apply.

62


Having received an offer of a large hiring bonus, an agent of XYZ Securities, a broker-dealer registered in the state, wishes to terminate her registration and register with ABC Investments, Inc., a different broker-dealer in her state. Under the requirements of the Uniform Securities Act, which of the following statements regarding notification to the Administrator is NOT true?

A)Only the agent needs to notify the Administrator.

B)The agent's application for registration with her new employer must be accompanied by the appropriate fee.

C)The agent can rely on her former employer to notify the Administrator.

D)The agent can rely on her new employer to notify the Administrator.

1; Termination of an agent's registration with the state requires both the agent and the employing broker-dealer to notify the Administrator. When going to a new firm, the new employer must give notice as well. An agent can rely on the firms to give notification because failure to do so is a prohibited practice on their part and can lead to disciplinary action. Unlike a successor firm, any time an agent changes broker-dealers, a new licensing fee is due.

63


Under SEC Release IA-1092, all of the following are defined as having received compensation for giving investment advice EXCEPT:

A)an estate planner who receives a fee for setting up an investment trust for a client.

B)a person who prepares an investment newsletter charging a subscription fee for reports on specific securities.

C)a financial planner who receives a fee for providing a master financial plan without providing specific investment advice.

D)an insurance agent who receives a commission for selling life insurance that was part of a comprehensive financial plan for which there was no charge to the client.

1; An estate planner who charges a fee for setting up a trust is not charging for investment advice and, therefore, is not included in the definition. A subscription fee received for investment newsletters is considered compensation for investment advice. The SEC does not view them as general circulation media such as financial magazines which are excluded from the definition. A master financial plan is considered to always contain securities information, even without recommendations of specific securities so the fee is compensation. Regardless of who prepares a comprehensive financial plan, securities advice is always included. Any income received from the sale of non-securities products that are part of that plan is considered to be compensation for investment advice.

64


A sudden decrease in market interest rates will have the effect of increasing the trading price of an existing bond because

A)the present value of the bond’s future cash flows increases

B)a reduction in market interest rates generally signifies a stronger economy

C)lower interest rates will result in a higher rating for the bond

D)the future value of the bond’s present cash flows increases

1; Bond valuations using discounted cash flow take into consideration the present value of the bond’s future cash flows. That is, the greater the value of the interest payments to be received in the future, the higher the price of the bond. When market interest rates decline, because the coupon rate of the bond is fixed, the present value of those interest payments increases, creating a higher value for the bond.

65

Under the Uniform Securities Act, which of the following are prohibited actions of an investment adviser? I.Agency cross transactions.
II.Selling securities as a principal to an advisory client without receiving consent of the client prior to the completion of the trade.
III.Charging a performance fee to an elderly client whose net worth is $2.2 million, with only $150,000 of that under the adviser's management.
IV.The owner of a majority of the stock of the advisory firm pledges that stock to a bank as collateral for a loan. No notice is sent to clients as this is an operating decision, not one dealing with investment advice.

2 & 4; The USA prohibits an investment adviser from acting as principal or agent in a transaction with an advisory client without approval prior to completion (settlement) of the trade. Assignment of a majority interest in the company's stock is considered to be the same as assignment of client contracts; an action that may not be done without client acceptance. There is nothing wrong with agency cross transactions as long as disclosure is made and the trade is recommended to only one of the parties by the adviser. Performance fees may be charged, regardless of the client's age, to anyone with a net worth of at least $2.1 million or with at least $1 million under management with the firm.

66


Under the USA, an agent may file for a review of an Administrator's revocation order within how many days of revocation?

A)60 days.

B)270 days.

C)90 days.

D)30 days.

1; An agent may appeal a final order of the state Administrator but a written petition must be filed with the appropriate court within 60 days of the entry of the Administrator's order.

67

/////////////////
An issuer wishing to comply with Regulation D of the Securities Act of 1933 must file a Form D with the SEC:

A)no less than 20 days prior to the first expected date of sale.

B)no later than the time of the first sale.

C)no later than 15 days after the first sale.

D)no later than 30 days after the first sale.

3; Issuers wishing to avail themselves of the private placement exemption offered under Regulation D of the Securities Act of 1933 must file a Form D with the SEC no later than 15 days after the first sale.

68


Which of the following is NOT a characteristic of a C corporation?

A)Retains and reinvests earnings

B)Generally not liable for federal income tax on profits

C)Double taxation of dividends

D)Limited liability

2; Regular corporations are subject to federal income taxation because the earnings are not passed to the shareholders, as is the case in an S corporation or a partnership. Dividends are taxed twice: first at the corporate level and then at the individual level. Limited liability is a basic characteristic of all corporations. A regular corporation retains and reinvests earnings that are not distributed to shareholders as dividends.

69


Under state law, the registration of an agent of a broker-dealer is in effect until

A)withdrawn by the agent or revoked by the Administrator

B)the anniversary of initial registration

C)the last day of his employer's fiscal year

D)December 31 unless renewed

4; Under state law, registrations for broker-dealers, agents, investment advisers, and investment adviser representatives expire on December 31 of each year unless renewed.

70

With regard to the powers of the Administrator, which of the following statements are NOT correct?I. The Administrator must seek an injunction to issue a cease and desist order.
II. The USA requires an Administrator conduct a full hearing, public or private, prior to issuing a cease and desist order.
III. The USA grants the Administrator the power to issue injunctions to force compliance with the provisions of the act.

1, 2 & 3; The Administrator need not seek an injunction to issue a cease and desist order. The Administrator can seek an injunction from a court. The USA does not require that an Administrator conduct a public or private hearing prior to issuing a cease and desist order. When time does not permit, the Administrator may issue a cease and desist prior to a hearing to prevent a pending violation. The USA does not grant the Administrator the power to issue injunctions to force compliance with the act. The act permits the Administrator to issue cease and desist orders and, if they do not work, to seek an injunction from a court of competent jurisdiction. A cease and desist order is an administrative order whereas an injunction is a judicial order.

71


Which of the following expounds that including non-correlated assets in a portfolio can reduce certain risks?

A)Monte Carlo simulations

B)Modern portfolio theory (MPT)

C)Efficient market hypothesis (EMH)

D)Capital asset pricing model (CAPM)

2; Instead of emphasizing particular stocks, modern portfolio theory (MPT) focuses on the relationships among all the investments in a portfolio. This theory holds that specific risk can be diversified away by building portfolios of assets whose returns are not correlated.

72

Under the Securities Exchange Act of 1934, which of the following is (are) TRUE regarding the authority of the SEC to suspend trading? I.The SEC may suspend all trading on a specific exchange for up to 90 days.
II.The SEC may summarily suspend trading on a particular nonexempt security for up to 10 days.
III.The SEC may suspend trading on exempt securities.

1 & 2; The SEC may suspend all trading on a specific exchange for up to 90 days with prior notification of the President of the United States and may summarily suspend securities trading in a registered security listed on a stock exchange for up to ten days. The SEC does not have the authority to suspend trading in exempt securities.

73


Which of the following must register as a broker-dealer under the USA?

A)A broker-dealer with no place of business in the state that effects transactions exclusively with issuers of securities in that state.

B)A broker-dealer with a place of business in the state that effects transactions exclusively with broker-dealers registered in other states.

C)A broker-dealer with no place of business in the state that has directed offers to clients who have more than 30 days' temporary residency in the state.

D)A broker-dealer with no place of business in the state that deals exclusively with broker-dealers with offices in that state.

2; If a broker-dealer has an office in the state, it must register with the state, regardless of what types of clientele it serves. The term "broker-dealer" excludes anyone without a place of business in the state who effects transactions exclusively with issuers, other broker-dealers, or institutions, or who directs an offer in the state to an existing customer who temporarily resides in the state where the offer is received, regardless of the length of time. As long as the broker-dealer is properly registered in the vacationer's state of permanent residence and does not maintain an office in the state being visited, it is not defined as a broker-dealer.

74

Which of the following statements are generally true of the buy and hold strategy? I.Equities would grow relative to fixed income
II.Lower taxes and transactional costs
III.Easy to manage
IV.The portfolio would more accurately demonstrate the client's investment objectives and risk tolerance

1, 2 & 3; Over the long run, using the buy and hold strategy with equity securities has outperformed the rate of return on fixed income investments. With few transactions, there are almost no commissions and capital gains taxes. Of all strategies, this is the easiest to follow.

75


All of the following statements regarding the registration of an investment adviser in a state are true EXCEPT:

A)the annual renewal process involves payment of the appropriate fees and refiling of the consent to service of process.

B)the adviser's registration expires on December 31 each year.

C)the initial application must include a consent to service of process along with Form ADV and the appropriate fees.

D)if the investment adviser is not an individual, any officer or partner active in the advisory business is automatically registered as an investment adviser representative.

1; The consent to service is a permanent document that remains on file with the Administrator; it need not be resubmitted for yearly renewal. The initial application for registration must include a consent to service of process along with Form ADV and the appropriate fees. If the investment adviser is not an individual, all officers or partners of the business entity that play an active role in the giving or supervision of giving advice are automatically registered as IARs.

76


A client's margin account has the following positions:

Long stock at market $50,000 Dr Balance $20,000
Short Stock at market $30,000 Cr Balance $70,000

What is the net equity in the client's account?

A)$70,000.

B)$10,000.

C)$30,000.

D)-$10,000.

1;
Explanation



The net, or combined equity in a mixed margin account (one that has long and short positions) is computed by adding the market value of the long stock to the credit balance ($50k + $70k) and subtracting from that total, the sum of the debit balance + the market value of the short position ($20k + $30k). That results in $120,000 - $50,000 = $70,000 net equity. Alternatively, you can compute the equity on each side and add them together. The equity in a long account is the market value minus the debit balance ($50,000 - $20,000) or $30,000. The equity in a short account is the credit balance minus the short market value ($70,000 - $30,000), or $40,000. When added together, you arrive at the same total equity of $70,000.

77


A federal covered IA files a petition for bankruptcy. The firm must

A)notify all of its clients immediately

B)do nothing until the court decides the disposition of the firm's assets

C)notify the SEC immediately

D)notify the Administrator immediately

3; As a federal covered investment adviser, the responsible regulatory body is the SEC.

78

Which of the following persons are required to register in a particular state? I.An investment adviser who manages client accounts in excess of $100 million in value.
II.An investment adviser who manages client accounts and has less than $25 million in total assets under management.
III.An adviser to investment companies registered under the Investment Company Act of 1940.
IV.An investment adviser representative.

2 & 4; Under the National Securities Markets Improvement Act (NSMIA), advisers who manage clients with a total of less than $25 million under management are required to register with the state Administrator. Under the Dodd-Frank Wall Street Reform and Consumer Protection Act, those who manage client assets of $110 million or more or advise registered investment companies are required to register with the SEC and are exempt from state registration. Those who manage at least $100 million, but not $110 million, have the option of registering with either the state or the SEC. Investment adviser representatives register with the state, whether or not their employer is federal covered.

79


ABC Advisers, a federal covered investment adviser, is moving the firm's headquarters to a new office park in the suburbs. ABC is required to file this change with the SEC:

A)within 30 days.

B)within 90 days.

C)within 60 days.

D)promptly.

4; Any material change that affects an investment adviser's ADV must be filed promptly with the SEC (or Administrator if state covered) and a change of address would certainly be material.

80


The Uniform Securities Act invests the office of the Administrator with a number of powers. However, the act does not permit the Administrator to:

A)inspect offices of registered broker-dealers without prior notice.

B)insist that specific forms be used to register securities.

C)issue a cease and desist order without prior notice.

D)issue an injunction when there is evidence of wrongdoing.

4; Only a court of competent jurisdiction may issue injunctions

81


Review of an SEC registered investment adviser’s policies and procedures designed to prevent violation of the federal securities laws must take place no less frequently than

A)quarterly

B)monthly

C)annually

D)semiannually

3; It is the job of the adviser’s chief compliance officer (CCO) to review those policies and procedures annually for their adequacy and the effectiveness of their implementation.

82


A TIPS bond is issued in the principal amount of $1,000, paying 3.5%. Over the security's 5-year term, the inflation rate is 4%. What is the principal value of the bond at the end of 5 years?

A)$1,200.

B)$1,219.

C)$1,440.

D)$1,000.

2; In addition to paying interest, a TIPS bond increases its principal value semiannually by the amount of inflation. If the inflation rate is 4% for 5 years, the principal value of the bond increases semiannually by that inflation rate. Allowing for compounding, the best choice would be the $1,219. This is computed by multiplying $1,000 by 102% 10 times.

83


Which of the following would an investor who believes in MPT probably select for a client?

A)GHI, with a return of 13% and a standard deviation of 20

B)ABC, with a return of 11% and a standard deviation of 15

C)JKL, with a return of 15% and a standard deviation of 15

D)DEF, with a return of 13% and a standard deviation of 18

3; Modern portfolio theory (MPT) proponents believe that the most appropriate investments are those that offer the greatest return with the lowest risk. JKL has delivered the highest return with a standard deviation (risk) equal to that of ABC (which has a much lower return).

84


A consent to service of process required by an Administrator is a(n):

A)agreement to perform all services and duties that the Uniform Securities Act (USA) requires of those individuals covered by the USA.

B)legal procedure that authorizes the Administrator to issue injunctions.

C)agreement whereby a registrant will be bound by any legal action or subpoena served on the Administrator as if it had been served on the registrant.

D)formal statement declaring that an investment adviser will comply with all advertising requirements of the USA.

3; A consent to service is a formal legal agreement whereby a registrant will be bound by a legal action or subpoena served on the Administrator as if it had been served on the registrant. A consent to service is not an authorization to issue an injunction.

85


If an investment adviser purchases a research report from the advisory arm of a nonaffiliated broker-dealer, the adviser may distribute this report to clients:

A)provided a fee is paid to the broker-dealer for each copy distributed.

B)if the clients are told that the report was prepared by a third party.

C)under no circumstances.

D)without restriction.

2; An adviser may use research prepared by others provided disclosure is made that the report was prepared by a third party, not the adviser. There is an exception for certain statistical information, but not research reports.

86

A client who purchased a variable life insurance policy 15 months ago has suffered a stroke. In addition, he has developed adult onset diabetes. When receiving treatment for the stroke, he was diagnosed with lung cancer. He has decided to convert his variable policy to a whole life policy. Which of the following statements is CORRECT? I.He will not be able to convert to a whole life insurance policy because his health has deteriorated to such a severe level.
II.The new policy will bear the same issue date and age as the original policy.
III.The face amount must remain the same.
IV.The premium will be rated as his health has taken a marked turn for the worse.

2 & 3; Variable life insurance offers a unique conversion policy. Anytime during the first 24 months after policy issue, the policy may be exchanged for a whole life policy (or some similar form of permanent insurance if the company doesn't offer whole life) using the age and medical condition at issue regardless of the insured's current health. However, the face amount cannot be changed from its original amount.

87


You are meeting with a client and the discussion turns to life insurance. When asked about annual renewable term insurance, you would reply that it has

A)an increasing premium, increasing face amount, no cash value

B)an increasing premium, level face amount, no cash value

C)a fixed premium, level face amount, no cash value

D)a fixed premium, reducing face amount, little cash value

2; Annual renewable term life insurance has a level face amount, no cash value and, because the premium is based on the attained age, the premium increases each year on the renewal date.

88

Under the Securities Act of 1933, which of the following securities are exempt? I.Bonds issued by an insurance company.
II.Stock listed on the New York Stock Exchange.
III.Any interest in a railroad equipment trust.
IV.Bonds offered and sold exclusively to persons who live in the same state in which the issuer is headquartered and does business.

3 & 4; Any interest in a railroad equipment trust is specifically listed as exempt under the Securities Act of 1933. Bonds offered and sold exclusively to persons who live in the same state in which the issuer is headquartered and does business meet the qualifications of an intrastate issue because the securities are offered and sold only to residents of the state in which the issuer itself resides, and the issuer does business in that state. Securities issued by an insurance company and securities listed on an exchange are exempt under the Uniform Securities Act, but not under the Securities Act of 1933 Act.

89


An investor purchases 100 shares of Kapco stock at $50 per share. At the time of the purchase, the stock is paying a quarterly dividend of $.25. The dividend increases 5% each year over the next 5 years. The purchaser sells the 100 shares 5 years after purchase for $82 per share. What is the total return for the investor over the 5 years holding period?

A)75%.

B)11%.

C)10%.

D)74%.

1; Total return includes capital appreciation plus income. The capital gain realized was $32 per share. The income was $1.00 per share (four quarterly dividends of $.25) the first year, 5% higher the second year ($1.05) and 5% higher each successive year. The total of the dividends received is $5.53. Adding that to the $32, we compute by dividing $37.53 by $50 resulting in a 75% total return.

90


The USA considers certain transactions to be exempt from the requirements to register and the filing of advertising material. Included in that group are all of the following EXCEPT:

A)any transaction by an executor, administrator, sheriff, marshal, or guardian.

B)an isolated nonissuer transaction effected through a broker-dealer.

C)any offer or sale to a pension or profit-sharing trust as long as the plan has assets of no less than $750,000.

D)any transaction executed by a bona fide pledgee without any purpose of evading the act.

3; In general, the USA does not consider a transaction with an employee benefit plan to be exempt unless the plan has assets of at least $1 million.

91


The time value of money is part of the computation for the:

A)risk-adjusted return.

B)real rate of return.

C)internal rate of return.

D)after-tax return.

3; One of the unique features of IRR is that it is a compounded rate using the time value of money.

92


Under the Uniform Securities Act, the definition of a broker-dealer includes a(n)

A)person in the business of making trades in his own account or for the accounts of others

B)agent handling principal transactions with major institutional clients

C)authorized representative of the issuer who receives a commission

D)trust company when executing transactions in accounts in which it does not act in a fiduciary capacity

1; A broker-dealer is defined as any person in the business of making trades in its own account or for the accounts of others.

93


Which of the following is an example of a nonissuer transaction?

A)Primary issue of corporate stock.

B)Private placement by an issuer.

C)Preemptive rights offering.

D)Secondary offering by an institutional seller.

4; Investors or shareholders routinely receive the proceeds from a secondary transaction. About the only time a secondary offering is an issuer transaction is if the issuer were reselling treasury stock since the proceeds go to the issuer.

94


One respect in which an LLC differs from an S corporation is that

A)there is more favorable tax treatment afforded to members of an LLC

B)not only income, but losses, if generated, pass through to investors in an LLC

C)there is no statutory limit on the number of investors in an LLC

D)an LLC can be formed with as little as a single investor

3; There is no limit to the number of investors (members) in an LLC, while current regulations limit the number of investors (shareholders) in an S corporation to 100. The tax treatment is the same and both can be formed with a single owner.

95


Which of the following are characteristics of commercial paper? I.Backed by money market deposits.
II.Negotiated maturities and yields.
III.Issued by insurance companies.
IV.Not registered with the SEC.

2 & 4; Commercial paper represents the unsecured debt obligations of corporations needing short-term financing. Both yield and maturity are open to negotiation. Because commercial paper is issued with maturities of less than 270 days, it is exempt from registration under the Securities Act of 1933.

96

Which of these are TRUE regarding a life settlement contract? I.Premiums will be paid by the contract owner.
II.Premiums will be paid by the insured.
III.Proceeds will be paid upon the death of the contract owner.
IV.Proceeds will be paid upon the death of the insured.

1 & 4; A life settlement is the secondary sale of a life insurance policy. The buyer (the new owner) is responsible for paying the premiums and, upon the death of the insured, will receive the death benefit.

97

Several entrepreneurs form an S corporation. Under which of the following circumstances will the entrepreneurs risk losing their tax benefits?I. 150 new investors buy into the corporation during the year.
II. 1 new member is a nonresident alien.
III. 50% of the corporation's income is derived from passive investments in limited partnerships.
IV. The corporation issues several classes of stock.

all of them; S corporations must not have more than 100 stockholders and each stockholder must be a citizen or resident of the United States. The corporation can only have one class of stock, and no more than 25% of the corporation's income can come from passive activities. If you were not sure of this last fact, a useful test-taking technique is recognizing that all of the other choices are correct and there is no way to select them without this one.

98


Which of the following items is NOT necessary to establish before helping a client open an investment account?

A)Zero balance on all credit cards.

B)Adequate life insurance.

C)Established short- and long-term investment goals.

D)Emergency fund.

1; Although credit card debt may carry a high interest rate, no investment plan should be started without an emergency fund, adequate life insurance, and a set of goals. In fact, it is possible that the client is carrying the balance because of a very low promotional rate.

99

KAPCO Advisers is registered as an IA with the SEC. Their only office is in New Jersey and all IARs are registered there. IAR Jones has ten clients who reside in Ohio; IAR Cohen has six clients who live in Kentucky; and IAR Brown has three clients who are Georgia residents. In addition, Brown conducts a quarterly presentation at the Augusta National Golf Club where he discusses current market developments. The seminar is restricted to Club members only. Which of the following is CORRECT? I.Jones must register in OH.
II.Cohen must register in KY.
III.Brown must register in GA.
IV.Because all three are registered in the state where KAPCO maintains its principal office, no further registrations are necessary for these IARs.

3 only; Under Section 203A of the Investment Advisers Act of 1940, any IAR with a federal covered adviser who has no place of business in a state is not required to register in that state, even when the number of clients the adviser has in a state exceeds the de minimis level. Holding a public seminar on a quarterly basis in the same location would be considered having a place of business in Georgia (even though attendance is limited to Club members only – they are still members of the general public).

100


Which of the following phrases best describes a prudent investor?

A)A trustee who invests with reasonable care, skill, and caution.

B)The custodian for a minor under the Uniform Transfers to Minors Act.

C)A person in a fiduciary capacity who invests in a prudent manner.

D)An investment adviser representative handling a discretionary account.

1; Although all of these may have a fiduciary responsibility, the definition, as expressed in the Uniform Prudent Investor Act of 1994, requires reasonable care, skill, and caution.

101

Which of the following are key assumptions of the Capital Asset Pricing Model (CAPM)? I.Investors hold diversified portfolios
II.Income tax rates are stable
III.Investors can borrow and lend at the risk-free rate
IV.There is a perfect capital market

1, 3 & 4; CAPM assumes that investors will be looking at a return for taking systematic risk, hence holding diversified portfolios. One of the most important assumptions is that investors will be able to borrow/lend at the risk-free rate. Finally, CAPM assumes a perfect capital market, meaning that all securities are valued properly (their returns will plot to the [SML] security market line, and there are no tax or transaction costs). Income taxes are not a consideration, because not all investors are going to be in the same tax bracket.

102


Your client owns a scheduled premium variable life insurance with a face value of $100,000. To date, the client has paid $23,400 in premiums; the cash value of the policy is $31,200 and the death benefit is $110,000. In which of the following instances would there be an income tax liability?

A)Payment of the death benefit to the named beneficiary

B)Withdrawing $20,000 of the cash value

C)Borrowing $29,000 of the cash value

D)Surrendering the policy and taking the cash value

4; When a variable life insurance policy is surrendered, any cash value received in excess of the premiums paid into the policy is taxed as ordinary income. There is never a tax liability on money received as a result of a loan and if there is a partial withdrawal of funds, taxation is on a FIFO basis (unlike LIFO of variable annuities). The death benefit, at least for exam purposes, is always income tax free.

103


The tactical approach to the asset allocation review process:

A)intentionally deviates from the normal asset mix to take advantage of market opportunities.

B)strives to maintain a constant asset mix over a long period of time.

C)requires no predictive abilities.

D)is designed to maintain a minimum or floor for the value of the portfolio's assets.

1; The approach to asset review that intentionally deviates from the normal asset mix to take advantage of market opportunities is the tactical approach. Investors using this approach try to use market timing to beat the market, so this approach requires a great deal of predictive ability.

104


One of the goals of Modern Portfolio Theory (MPT) is to construct a portfolio that provides the highest return with the lowest risk. This would be known as the:

A)risk-free portfolio.

B)efficient portfolio.

C)Sharpe's portfolio.

D)managed portfolio.

2; According to Harry Markowitz, the founder of MPT, the goal is to craft an "efficient" portfolio. An efficient portfolio is a portfolio that offers the highest expected return for a given level of risk. The line that connects all these efficient portfolios is the efficient frontier. The efficient frontier represents that set of portfolios that has the maximum rate of return for every given level of risk.

105


Which of the following is NOT an exempt transaction?

A)Transactions made on behalf of an estate.

B)Transactions under Regulation D.

C)Initial public offerings.

D)Isolated nonissuer transactions.

3; Transaction exemptions exist for isolated nonissuer transactions, estate transactions, and private placement transactions under Regulation D. Initial public offerings are nonexempt and subject to the Administrator's jurisdiction.

106


The duties and responsibilities of a fiduciary are spelled out in

A)the Uniform Gift to Minors Act

B)the Summary Plan Document of the DOL

C)the Uniform Prudent Investors Act of 1994

D)the Investment Advisers Act of 1940

3; The UPIA is the legal guide for fiduciaries, who must act with skill and caution in the best interest of their clients.

107


//////////
The Capital Asset Pricing Model (CAPM) is most commonly used to determine an investor's

A)risk-adjusted return

B)time weighted return

C)expected return

D)holding period return

3; The CAPM suggests that we can determine the expected return of any security (or portfolio) by using the following mathematical formula: Er = Rf + Beta(expected return on the market − Rf). Er stands for expected return, Rf is the risk-free return.

108


Which of the following best describes net present value?

A)The amount of money that must be invested today at some specified rate of return to equal a targeted value in a specified number of years.

B)The discount rate that results in a return of zero for a series of future cash flows.

C)The difference between the sum of the discounted cash flows that are expected from an investment and its initial cost.

D)It is the true interest yield expected from an investment expressed as a percentage.

3; Net present value is a computation taking into consideration future cash flows, discounted to the present, and comparing that to the capital investment necessary to obtain those flows. It is always expressed in monetary units and, if positive, indicates a potentially worthwhile investment.

109


An agent is analyzing the financial statements of a corporation. The company has cash on hand of $2 million, accounts receivable of $500,000, accounts payable of $700,000, land valued at $3 million, wages payable of $300,000, goodwill of $100,000, inventory of $1.5 million, and retained earnings of $5 million. From this information, the agent would determine that the acid-test ratio for this company is

A)3.375:1

B)4:1

C)2.5:1

D)1:1

3; The acid-test, or quick, ratio is all of the current assets, except for inventory, divided by the current liabilities. The non-inventory current assets are the cash on hand and the accounts receivable. The current liabilities are the accounts payable and wages payable. This results in a calculation of $2.5 million divided by $1 million, or 2.5:1.

110


A wealthy individual has established a trust and wishes to establish an account that permits the trust to engage in margin transactions. Which of the following statements regarding margin trading in trust accounts is TRUE?

A)It is permitted if the trustee observes the prudent investor rule.

B)It is not permitted.

C)It is permitted with the written approval of the beneficiary of the trust.

D)It is permitted if provided for in the underlying documentation.

4; Although not a common practice, margin trading in a trust account is permitted only if it is specifically provided for in the trust agreement.

111

There are many sources of taxable income to an individual. Included might be money received from which of the following? I.Sole proprietorship.
II.Subchapter S corporation.
III.Investments.
IV.Death benefits.

4; An individual can generate income from running a sole proprietorship or being a shareholder in an S corporation (the exam will probably use the obsolete term, Subchapter S). Of course, taxable income can be generated by investments in the form of dividends, interest and capital gains. The assumption here must be that the death benefits are from a life insurance policy because those, unlike the death benefit from an annuity, are not subject to income tax.

112


Which of the following is required for a preorganization subscription to be an exempt transaction?

A)Full payment has been made.

B)Prior notification of intent to incorporate must be given to the Administrator.

C)No commission has been paid.

D)There may be no more than 15 subscribers.

3; A preorganizational subscription is an exempt transaction if there are no more than ten subscribers and no commissions are paid, either directly or indirectly. The subscribers make no payments until they purchase the underlying security.

113

Jack, an investment adviser representative of Gibraltar Investment Advisers, brought a large account into the advisory firm. Under which of the following circumstances may the firm compensate Jack on the basis of the firm's earnings on this new account?I. Jack has passed the Series 7 general securities representative examination.
II. It has been disclosed to the client that Jack is to be compensated in conjunction with bringing the account into the firm.
III. If required by the Administrator, Jack is appropriately registered as an investment adviser representative.
IV. Jack is appropriately registered as an investment adviser.

2 & 3; Investment adviser representatives may be compensated for introducing accounts to the advisory firm if disclosure of the compensation is made to the client and if the individual is appropriately registered as an IAR in jurisdictions where such registration is required. The firm is the adviser and the individual is the investment adviser representative.

114


Which of the following is responsible for the administration of the USA in a state?

A)The Administrator.

B)State judiciary system.

C)Securities and Exchange Commission.

D)Executive department.

1; On this exam, the chief state regulator is the Administrator. The Securities and Exchange Commission is the federal agency, not state agency, that oversees and regulates securities on a national level.

115

Under which of the following circumstances does NASAA allow an investment adviser to charge performance-based fees? I.The client must initially have $1 million under management or a net worth of $2.1 million.
II.Compensation paid in this way must be for gains reduced by losses.
III.Disclosure must be made that the fee arrangement may create an incentive for the investment adviser to make investments that are riskier or more speculative than would be the case in the absence of a performance fee.

1, 2 & 3; The NASAA Model Rule permits performance-based fees if the client has at least $1 million in assets under management or a net worth of $2.1 million provided the compensation is based on gains and losses. Unlike the Investment Advisers Act of 1940, under the NASAA Model Rule, state covered advisers must make additional disclosures, including the incentive to take additional risk.

116

The USA would permit an agent to use the term "guaranteed" to refer to:I. a security that is backed by the U.S. government.
II. a bond that is backed by the taxing power of a governmental body.
III. a bond whose interest and principal payments are guaranteed by someone other than the issuer.
IV. a stock whose dividend payments are guaranteed by someone other than the issuer.

3 & 4; Under the USA, the term "guaranteed" refers to a guarantee of interest, principal, or dividends by a party other than the issuer.

117


Which of the following statements regarding the Sharpe ratio is TRUE?

A)Portfolios with lower Sharpe ratios provided higher excess returns per unit of risk assumed than those with higher Sharpe ratios.

B)The Sharpe ratio cannot be used to measure risk-adjusted performance for a single security.

C)The Sharpe ratio is often used to measure risk-adjusted return of an entire portfolio.

D)The Sharpe ratio uses beta in its formula.

3; The Sharpe ratio is used to measure risk-adjusted performance of either a portfolio or an individual security. The Sharpe ratio uses standard deviation as the denominator in its formula: the higher the Sharpe ratio, the better the portfolio or security has performed on a risk-adjusted basis.

118

Which of the following are exempt securities under the Uniform Securities Act?I. Common stock, not listed on any regulated exchange, purchased by an open-end investment company.
II. Preferred stock issued by an insurance company authorized to do business in this state.
III. Municipal bonds issued by Toronto, ON.
IV. Private placements.

2 & 3; Common stock not listed on any regulated exchange and purchased by an open-end investment company is an exempt transaction, but that common stock is not an exempt security. Securities issued by insurance companies, and Canadian municipal securities are exempt from registration under the USA. Any security that represents an interest in, or debt of, or is guaranteed by an insurance company organized under the laws of any state and authorized to business in this state is exempt. Private placements are exempt transactions, not exempt securities.

119


If a nonexempt company has authorized a stock split that will give each shareholder two shares for every one share owned without charge, this action

A)must have the prior written approval of each state Administrator in which the shares trade

B)must be registered because it is the issuance of new nonexempt securities

C)need not be registered because the shares of the corporation have already been registered

D)need not be registered because it is neither an offer to sell nor a sale

4; Shares issued as a result of a stock split need not be registered because the distribution of additional shares through a stock split or stock dividend is not within the definition of an offer to sell or a sale as long as no consideration (payment) is involved.

120


Under which of the following circumstances can an agent conduct customer transactions without the activity being recorded on the books and records of his broker-dealer employer?

A)The customer is a member of the agent's immediate family.

B)The agent will receive no compensation.

C)The transactions are authorized in writing by the broker-dealer before execution of the transactions.

D)The securities are exempt under the Uniform Securities Act.

3; Under the NASAA Statement of Policy on Dishonest or Unethical Business Practices of Broker-Dealers and Agents, it would be considered contrary to the standards imposed for an agent to effect securities transactions not recorded on the regular books or records of the broker-dealer which the agent represents, unless the transactions are authorized in writing by the broker-dealer before execution of the transaction.

121


Under certain conditions, the Uniform Securities Act provides that an Administrator may require a minimum net worth standard be met by an investment adviser. Which of the following would be an allowable asset in the computation of an investment adviser’s net worth?

A)Advances or loans to partners in the case of an IA organized as a partnership.

B)Accounts payable.

C)Accounts receivable.

D)Copyrights.

3; For purposes of the USA, the term "net worth," means an excess of assets over liabilities, as determined by generally accepted accounting principles. Accounts receivable are a current asset, while accounts payable are a current liability. The USA specifically disallows intangibles, such as copyrights and goodwill, and advances or loans to partners (or officers if a corporation) are excluded as well.

122


Of the following bonds, which has the greatest price volatility?

A)AA corporate bond with 7 years to maturity.

B)Zero-coupon bond with 5 years to maturity.

C)Corporate bond fund.

D)Zero-coupon bond with 15 years to maturity.

4; The longer the duration of a bond, the greater the volatility will be of its market price when interest rates change. Because zero-coupon bonds do not make interest payments but are priced at a deep discount to par value, they are more volatile than coupon-bearing bonds.

123


One of the features of an index annuity is the ability for the principal value to increase based on the performance of the specified index. Which of the following is not used as a method to compute the amount of interest to be credited to the account?

A)High-water mark

B)Participation rate

C)Point-to-point

D)Annual reset

2; Although the participation rate is a component of the computation, it is not a method of computing the interest credit. In the annual reset index method, interest, if any, is determined each year by comparing the index value at the end of the contract year with the index value at the start of the contract year. Interest is added to the annuity each year during the term. Using the high-water mark the index-linked interest, if any, is decided by looking at the index value at various points during the term, usually the annual anniversaries of the date the annuity was purchased. The interest is based on the difference between the highest index value and the index value at the start of the term. Interest is added to the annuity at the end of the term. And finally, with the point-to-point method, the index-linked interest, if any, is based on the difference between the index value at the end of the term and the index value at the start of the term. Interest is added to the annuity at the end of the term. In each of these, the insurance company will specify the participation rate (what percentage of the increase will be credited) and a cap rate (the maximum amount to be credited).

124


What is the proper course of action for the fiduciary of a trust that has a portfolio made up of 10% cash and 90% stock of one company that has recently experienced a 40% market gain?

A)Increase the cash position to 25% by taking some of the profits off the table

B)The fiduciary can maintain the current allocation if ,while acting in the capacity of trustee, he believes it aligns with the goal of the trust

C)Begin diversifying the equity portfolio

D)Use the cash to acquire more shares of the stock

2; In virtually every trust question, the correct answer will be that the trustee (fiduciary) has to follow the terms of the trust and meet the trust’s goals and objectives.

125


Regarding open-end investment companies, which of the following sales charges is based on the NAV per share?

A)Redemption fee

B)Sales load

C)12b-1 fee

D)Commission

1; If the fund has a redemption charge (CDSC), it is based on the NAV per share, not the public offering price (POP). That is, if the client liquidated shares when the NAV was $10 per share and the POP was $10.50, the CDSC would be charged based on the $10 rather than the $10.50. Commission is not a term used with mutual funds. The 12b-1 fee is a charge against overall assets of the fund; it is not considered to be a charge related to the buying or selling of fund shares.

126

Typical broker-dealer fees that must be disclosed as part of a fee disclosure document would include I.a charge when a client requests that a stock certificate be issued in his name
II.a commission charge when a client buys a security on a listed exchange
III.the interest charged by the firm on money owed by customers in their margin accounts
IV.fees for providing advisory services to high net worth individuals

1 & 3; If we know what charges are not included in the fee disclosure, it is easy to recognize those that are. There are 3 primary expenses involved with brokerage accounts that are not included in the fee disclosure template. Those are: 1.commissions;
2.markups and markdowns; and
3.advisory fees for those firms that are also registered as investment advisers.

127


Agents A and B work for the same firm and wish to share commissions. Agent A is licensed in states X, Y, and Z. Agent B is licensed in states X, Y, and C. Which of the following statements is TRUE in regard to their sharing commissions?

A)Only the commissions from states X and Y could be shared.

B)Commissions cannot be shared.

C)Only the commissions from states Z and C could be shared.

D)All commissions from agents A and B can be shared.

1; In order to share commissions, agents must be registered as an agent for the same broker-dealer or for an affiliated broker-dealer. Additionally, in order to receive a commission, an agent must be registered in the state where the transaction is made.

128


Under the USA, if an agent in New York calls a prospective client in Ohio recommending the purchase of a listed security, the Administrators of which state(s) has(have) jurisdiction?

A)New York.

B)Neither state until a transaction takes place.

C)Both New York and Ohio.

D)Ohio.

3; Administrators have jurisdiction over offers made in the originating state (New York), the state to which the offer is directed (Ohio), and the state in which the offer is accepted.

129


As defined in the Uniform Securities Act, which of the following is NOT a security?

A)Options on a federal covered security

B)Common stock of ABC National Bank that is a member of the Federal Reserve System

C)Interest in a merchandising marketing program

D)Annuity providing a fixed monthly payout

4; Variable annuities are securities while fixed annuities are not. Options contracts, interests in merchandising marketing programs, and common stock are securities under the USA.

130

Which of the following are characteristics of negotiable certificates of deposit?I. Minimum face value of $100,000.
II. Maturities rarely extend beyond 360 days.
III. May be sold on the secondary market.

all 3; Negotiable certificates of deposit usually have a minimum face value of $100,000. It is rare to find one with a maturity that exceeds 360 days. Unlike nonnegotiable certificates of deposit, they may be bought and sold on the secondary market.

131


Investment advisers who preach the benefits of strategic asset allocation do so because they believe

A)the market is perfectly efficient because stock prices reflect all available information

B)the market is basically inefficient and there is a strategy that can beat it

C)over the long run, strategic management will eventually outperform the market

D)active management of a portfolio offers tactical benefits

1; The primary difference between strategic and tactical asset allocation comes down to the belief by those following the strategic style that it is not possible, over a long period of time, to beat the market.

132


The study of why people often make decisions using rules of thumb rather than rational analysis, basing those decisions on factors economists traditionally don’t consider, such as fairness, past events, and aversion to loss, is known as

A)systematic risk

B)irrational finance

C)behavioral finance

D)risk tolerance

3; Today, through the study of behavioral finance, it is accepted that behavioral biases can cause investors to make financial decisions that are irrational.

133


In 1933, Congress passed the Securities Act which required the registration of new issues before their offering to the public. However, the law contained a number of exemptions including that for:

A)corporate common stock listed on the NYSE.

B)obligations of the Canadian government.

C)stock issued by regulated insurance company.

D)equipment trust certificates issued by a regulated common carrier.

4; Although each of these is considered an exempt security under the Uniform Securities Act, only the securities of a regulated common carrier carry an exemption from federal registration.

134


Each of the following terms is commonly found in modern portfolio theory EXCEPT the

A)efficient set

B)feasible set

C)capital asset pricing model

D)internal rate of return

4; Internal rate of return (IRR), is not a component of modern portfolio theory as are the other three terms.

135


In response to an evolving marketplace, the SEC, through Release IA-1092, expanded the coverage of the definition of investment adviser to include

A)broker-dealers offering wrap fee programs and life insurance agents

B)life insurance agents and pension consultants

C)financial planners and pension consultants

D)broker-dealers offering wrap fee programs and financial planners

3; SEC Release IA-1092 added financial planners, pension consultants, and sports and entertainment representatives to the list of potential IAs. Unless the life insurance agent is offering investment advice, the agent does not meet the definition of investment adviser. The Release did not address wrap fee programs because the exclusion for broker-dealers is part of the Investment Advisers Act of 1940; once special compensation in the form of wrap fees is received, the exclusion is lost.

136

Which of the following are defined as securities under the Uniform Securities Act? I.An investment in a managed pool of rental condominiums.
II.Unsecured debentures sold in a private placement only to accredited investors.
III.Bills, notes, and bonds issued by the U.S. Treasury.
IV.A Roth IRA.

1, 2 & 3; An investment into an individual condominium used as a residence is not a security. However, an interest in the rental income from a group of condos, where the rent is pooled, is a security under the USA. While the sale of the debentures in this case is an exempt transaction, the debentures are securities. Treasury bills, notes, and bonds are securities, although they are exempt from registration under the USA. A Roth IRA is not a security. Securities may be put in an IRA, but the IRA is not a security. The key to questions like this is to remember those things that are not securities.

137

In cases of fraudulent sales practices or advice with respect to securities, state securities Administrators may: I.not take enforcement action against federal covered investment advisers.
II.take enforcement action against federal covered investment advisers.
III.not take enforcement action against state-registered investment advisers.
IV.take enforcement action against state-registered investment advisers.

2 & 4; State securities Administrators have jurisdiction over any securities transaction or investment advice that involves fraud, whether or not the person involved is a federal covered investment adviser. If it involves a security, there are no exemptions from the Uniform Securities Act for fraud.

138


Which of the following is a method for determining the internal rate of return to an investor based on cash flow in and out of the portfolio?

A)Dollar cost averaging

B)Discounted cash flow

C)Time-weighted return

D)Dollar-weighted return

4; The dollar-weighted return measures the internal rate of return (IRR) of a portfolio’s actual performance between 2 dates, including all cash inflow and outflows. Because of this, the IRR of a portfolio can be significantly affected by both the timing and size of any contribution or distribution. Luck in the timing of the investor’s inflows or outflows can drastically swing numbers one way or the other.

139


Which of the following expounds that including non-correlated assets in a portfolio can reduce certain risks?

A)Capital asset pricing model (CAPM)

B)Efficient market hypothesis (EMH)

C)Monte Carlo simulations

D)Modern portfolio theory (MPT)

4; Instead of emphasizing particular stocks, modern portfolio theory (MPT) focuses on the relationships among all the investments in a portfolio. This theory holds that specific risk can be diversified away by building portfolios of assets whose returns are not correlated.

140


A client with a net worth of $5 million is compensating an investment adviser with a performance-based fee. According to the Investment Advisers Act of 1940, this arrangement must be based on

A)capital gains minus capital losses, including both realized and unrealized gains and losses

B)This arrangement is not permitted because the client has not met the minimum invested assets requirements

C)the S&P 500 index performance

D)a period of no less than six months

1; A performance-based fee must be based on capital gains minus capital losses, include both realized and unrealized gains and losses and must reflect a time period of no less than 12 months. This client is well above the minimum net worth requirements of $2.1 million. The rule requires that the performance be measured against a recognized benchmark but does not specify one.

141


You have a 45-year-old client wishing to save for retirement. The client does not have a great deal of investment sophistication and inquires about the risks you have exposed him to by placing the majority of his portfolio in listed common stocks. You would respond that one risk he should not concern himself with is:

A)liquidity risk.

B)systematic risk.

C)inflation risk.

D)business risk.

1; A portfolio of listed common stocks will have little to no liquidity risk as listed shares are easily traded. Even though common stock tends to offer protection against inflation, there is no assurance that the portfolio will keep pace with the rising cost of living.

142


Associated Wealth Managers (AWM) is registered with the SEC as a registered investment adviser. As a consequence, if there have been any material changes, AWM must

A)send a copy of its brochure, or a summary of the changes, to all clients within 60 days of the end of its fiscal year

B)send a copy of its brochure, or a summary of the changes, within 7 days of receiving a request from a client

C)send a copy of its brochure, or a summary of the changes, to all clients within 90 days of the end of its fiscal year

D)send a copy of its brochure, or a summary of the changes, to all clients within 120 days of the end of its fiscal year

4; Whether the firm is a state- or federal-covered investment adviser, if there have been material changes, a copy of the IA's brochure, or a summary of the changes, must be sent to all clients no later than 120 days after the close of the IA's fiscal year.

143


Which of the following persons may legally open an account to trade on margin?

A)A minor child with approval of a court-appointed guardian.

B)A corporation.

C)An open-end investment company.

D)A custodian of an UTMA account.

2; A corporation may open an account to trade on margin if provided for in the charter and authorized in the bylaws. Both UTMA and UGMA specifically prohibit custodians from either engaging in speculative trading or borrowing money or securities in the name of the minor through trading on margin. Mutual funds are also prohibited from trading on margin.

144

//////////////A fiduciary of an ERISA plan is preparing an investment policy statement. Included would probably be I.specific security selection
II.methods of performance measurement
III.determination for meeting future cash flow needs
IV.the summary plan description

2 & 4; The IPS will include methods of performance measurement (if it is meeting objectives) and a way to determine how future cash flow needs will be met (based on expected numbers of retirees). It will not include the specific securities to be purchased, but will include the types that may be placed in the portfolio. The Summary Plan Description (SPD) is a Department of Labor (DOL) required document that gives employees a summary of the plan and its features. It has nothing to do with determining how the money is invested.

145


A margin account that contains both long and short stock positions is known as

A)a long/short margin account

B)a hedged margin account

C)a mixed margin account

D)an opposition margin account

3; When a margin account contains both long and short positions, it is known as a mixed or combined margin account.

146


In order to comply with the safe harbor requirements of Section 404(c) of ERISA, the trustee of a 401(k) plan must:I. offer plan participants at least 3 different investment alternatives.
II. ensure that plan participants are insulated from control over their portfolios.
III. allow plan participants to change their investment options no less frequently than quarterly.
IV. allow plan participants to purchase U.S. Treasury securities.

1 & 3; The safe harbor requirements of ERISA Section 404(c) relieve the trustee of a 401(k) plan of liability if the plan participants have the ability to select from at least 3 different investments and are allowed to make selection changes no less frequently than quarterly.

147

Which of the following are exempt from state registration? I.A common stock traded on the OTC Bulletin Board whose bonds are listed on the NYSE
II.An isolated nonissuer transaction
III.A transaction by an administrator of an estate
IV.A transaction with no commissions directed by the offeror to no more than 50 persons in the state who buy the security for investment purposes only

2 & 3; Isolated nonissuer transactions and transactions by an ​administrator are included in the list of exempt transactions​. The private placement exemption is limited to a maximum of 10 offers to retail clients. If this were to institutions, (where there is no numerical limitation), commissions would be paid and immediate resale is permitted. If the common stock is federal covered (listed on the NYSE) and, therefore exempt from registration, then a senior security, such as the bond, would also be covered. But, it doesn't work in reverse.

148

In order to calculate an investor's holding period return, it is necessary to know: I.value of the portfolio at the beginning of the period.
II.value of the portfolio at the end of the period.
III.income received during the period.
IV.capital appreciation or depreciation over the period.

1, 2 & 3; An investor's holding period return is the total return received over the specified holding period. That return includes any income plus or minus any gain or loss. Once you know the original and ending value, you know the capital appreciation or depreciation.

149


Which of the following correlations would represent 2 assets that tend to move in tandem with one another?

A)+0.16.

B)-0.68.

C)-0.11.

D)+0.81.

4; The correlation coefficient ranges from -1.0 to +1.0 and measures the varying relationship of assets (or securities) to one another. A correlation close to +1.0 would indicate that the assets should move in tandem. A correlation close to 0 would indicate that the assets would have little relationship to one another, and a correlation of -1.0 would indicate that the assets should exhibit virtually opposite behavior.

150


Among the ways in which UGMA accounts differ from UTMA accounts is that:

A)the transfer of assets in a UTMA account can be deferred until the beneficial owner reaches as late as age 25; in a UGMA account, assets are transferred when the minor reaches the age of majority.

B)there is no difference between the accounts.

C)UGMA accounts transfer the assets of a deceased minor into the account of the custodian, while UTMA accounts retain the deceased minor's assets until the minor would have reached age 25.

D)gifts given under UGMA are irrevocable, while UTMA accounts allow the transfer of assets in and out of the account at the custodian's discretion.

1; Unlike UGMA accounts where the assets are always transferred when the minor reaches the age of majority in that state, UTMA accounts may extend the transfer period first established by the Uniform Gift to Minors Act to as late as age 25. In neither case are the gifts revocable and, upon death of the minor, assets in either account go to the deceased's estate.

151


The concept of creating a model portfolio, through asset allocation principles, that both increases return and reduces risk is known as:

A)rebalancing.

B)risk reduction fundamentals.

C)portfolio optimization.

D)corrective adaptation.

3; One of the primary concepts of asset allocation is that the performance of a portfolio can be enhanced while also reducing the associated risk. This is accomplished through a proper allocation of assets, among many different asset categories, to establish a portfolio suitable for the investor's risk tolerance and desired performance. This model portfolio would lie on the efficient frontier, thus representing the optimal portfolio for the client-maximum return with the least risk.

152


“An investment company with a low expense ratio and a portfolio that doesn’t change” would be a description of

A)a UIT

B)a no-load fund

C)an ETF

D)an index fund

1; The key to this is that the portfolio does not change. Unit investment trusts (UITs) are characterized by a fixed portfolio; once put together, it remains until maturity of the bonds or liquidation of the equities. Index funds and ETFs do change their portfolios from time to time as the composition of the underlying index changes.

153


According to the NASAA investor advisory regarding fees charged by broker-dealer firms for services and maintenance of investment accounts,

A)the schedule should be made available on the broker-dealer’s public website without requiring any login or password

B)the schedule should be made available on the broker-dealer’s public website and should be password protected

C)as long as the schedule is available in electronic form, it is not necessary to provide a paper version to retail customers

D)fee schedules should only be delivered by hand or postal mail to reduce cyber security threats

1; Transparency requires that obtaining the fee schedule should be a simple process for retail customers and prospects. That means access without logging in to the broker-dealer’s website or needing a password. Paper copies should always be available and cyber security is not a threat because there is no confidential information included.

154


An agent opening a wrap account for a wealthy client may tell the customer that:

A)wrap account managers will generally outperform index funds.

B)wrap fees may result in higher costs than separate charges for advice, management, and transactions.

C)wrap fees always result in lower costs than separate charges for advice, management, and transactions.

D)wrap fees generally result in higher costs than separate charges for advice, management, and transactions.

1; When prospecting for new wrap accounts, agents are required to disclose to customers that wrap fees may result in higher costs than separate charges for advice, management, and transactions if the client is not able to use all of the services included. For those clients that are able to make use of all of the services provided, the costs will generally be lower than the cost of buying them piecemeal. Future performance of managed accounts may not be stated or implied.

155


A client needs funds for an unexpected medical emergency. If the client takes out a loan against the cash value of his life insurance policy and does not pay it back, the insurance company can do which of the following?

A)Cancel the policy

B)Increase the premium amortized over the life of the policy

C)Reduce the death benefit when the client dies

D)Reduce the cash value at the next anniversary

3; Unpaid cash value loans reduce the death benefit.

156

There are several ways that a securities professional's registration can be terminated. Nonpunitive termination of a securities professional's registration could be done through:I. cancellation.
II. suspension.
III. revocation.
IV. withdrawal.

1 & 4; Cancellation and withdrawal are nonpunitive methods of termination of a person's registration. Suspension, revocation, and denial are considered forms of punishment.

157


Which of the following attributes of 401(k) plans is NOT found in most other retirement plans?

A)Deductible contributions to the plan.

B)No penalties for premature distributions.

C)Matching employer contributions.

D)Tax-deferred earnings.

3; 401(k) plans allow the employer to match employee-directed contributions up to a stipulated percentage. Other retirement plans have tax-deferred earnings, deductible contributions to the plan, and premature withdrawal penalties.

158


If the expected return on the market is 20% and the risk-free rate is 4%, a stock with a beta coefficient of 0.8 would have an expected rate of return under CAPM of:

A)12.8%.

B)16.8%.

C)16.0%.

D)19.2%.

2; The formula is the risk-free rate (.04) plus the product of the stock's beta (.8) and the difference between the expected return on the market and the risk-free rate(.20 - .04). In this case, it would be .04 + .8(.16) or .04 + .128 = .168

159

Which of the following concerning a money purchase pension plan are TRUE?I. All employees must contribute to the plan.
II. Voluntary employee contributions are optional.
III. Employer contributions are required.
IV. Employer contributions are optional.

2 & 3; A money purchase pension plan is a defined contribution plan established by the employer, thereby making the contributions mandatory. Employee participation by making voluntary contributions to the plan is optional. Employees who contribute to the plan usually contribute a percentage of their income.

160


A securities trade is made. Under normal circumstances, all of the following would be noted on the order ticket EXCEPT:

A)the registered agent who accepted the order.

B)the account number.

C)the time stamp of the time of order submission.

D)the name of the individual who transmitted the order.

4; Transmitting an order is a clerical function and we don’t put that on the order ticket. A typical ticket will include: the account for which the trade is being made, the registered individual placing the order for the client, time stamps for entering and execution (or cancellation), execution price, and terms and conditions of the order (market, limit, etc.).

161


Which of the following statements regarding the properties of duration is NOT true?

A)Duration measures the holding period return on a bond.

B)Duration measures a bond's price volatility by weighting the length of time it takes for a bond to pay for itself.

C)Duration is a weighted-average term-to-maturity of a bond's cash flows.

D)Duration measures the effect of an interest rate change on the price of a bond or bond portfolio.

1; Duration does not measure the holding period return on a bond, it measures the effect of an interest rate change on the price of a bond or bond portfolio. Duration measures a bond's price volatility by weighting the length of time it takes for a bond to pay for itself. Duration is also a weighted-average term-to-maturity of a bond's cash flows.

162


Which of the following transactions is NOT exempt from registration?

A)Transactions between an issuer and underwriter or between underwriters.

B)Transactions with banks, savings and loan associations, and other financial institutions.

C)A sale of an exempt security to an individual customer as a result of an agent's solicitation.

D)A bona fide pledge of securities.

3; Solicited trades with individuals are not exempt transactions, even when the security being traded is exempt. Transactions between issuers and underwriters or between underwriters are exempt from registration and advertising filing requirements. A bona fide pledge of securities is not a transaction and this question is looking for a nonexempt transaction. Transactions with banks, savings and loan associations, and other financial institutions are exempt from registration and advertising filing requirements.

163


Under the USA, the least active review of registration documentation is performed by state Administrators before which of the following becomes effective?

A)Coordination

B)Notice filing

C)Application

D)Qualification

2; Under the NSMIA, the Administrator may request copies of the documents filed with the SEC by federal covered securities, but does not review them because of lack of jurisdiction. There is greater review of the information filed in a registration by coordination, but, since the primary responsibility falls upon the SEC, the states sometimes just spot check the documents. However, registration by qualification or application for professional licensing becomes effective only after an active review of registration information and upon order of the Administrator.

164


Individuals who supervise employees whose role is the giving of investment advice must be registered as

A)investment adviser representatives

B)principals

C)compliance officers

D)investment advisers

1; The definition of investment adviser representative includes individuals who supervise the activities of other IARs. Because IAR registration is done on a state rather than federal level, the term registered principal has no meaning—that is a FINRA term.

165

Under the Uniform Securities Act, the Administrator has the power to deny or revoke exemptions for which of the following types of securities? I.Stock issued by a bank organized under the laws of another state.
II.Securities of nonprofit organizations.
III.Investment contracts issued by employee benefit plans.

2 & 3; The Administrator may deny or revoke the exemption granted to a nonprofit organization or investment contracts issued by employee benefit plans. Any transaction exemption, except one relating to a federal covered security, may be revoked as well. However, there are certain security exemptions that the USA does not grant the Administrator the power to deny. Included in that list is any security issued or guaranteed by any bank organized under the laws of any state.

166


A thirty-five year-old client purchases a variable life insurance policy. Under current regulations, the maximum sales charge permitted over the life of the policy is:

A)9%.

B)8.5% of total premiums over the life of the plan.

C)9% per premium payment.

D)8.5% per premium payment.

1; A variable life insurance plan may charge a maximum sales charge of 9% over a period not to exceed 20 years.

167


The Jones family has scheduled an initial visit with a financial planner. Mr. Jones has an annual salary of $70,000 and this is their first attempt at financial planning. Which of the following should be the first step taken by the financial planner?

A)Pay off credit card debt.

B)Set goals and dates for reaching them.

C)Determine a reasonable fee for designing the plan.

D)Establish an emergency fund.

4; There are many questions on the exam where you will be forced to choose between two possible answers, only one of which is correct. In many cases, it is strictly a matter of opinion, but only NASAA’s opinion counts. This is one of them. Goal setting is important, but the regulators feel that the first step in any plan is making sure that there is a “rainy day” fund. We can argue about that because some will say that a good plan can be used to establish that fund where none has existed before. But, please go with the right choice.

168


Under the Uniform Securities Act, which of the following statements about federal covered securities is NOT true?

A)Federal covered securities include securities sold under Regulation D of the Securities Act of 1933.

B)A security issued by an investment company registered under the Investment Company Act of 1940 is a federal covered security.

C)The issuer of a federal covered security may be required to pay fees to the states.

D)Federal covered securities must be registered with the states.

4; Federal covered securities are not required to be registered with the states, but issuers of federal covered securities may be required to pay fees to the states. Private placements (Regulation D) and investment companies both describe types of federal covered securities.

169


An S corporation is characterized by:

A)unlimited personal liability.

B)more than 100 shareholders.

C)limited lifetime.

D)flow-through tax treatment.

4; Shareholders of an S corporation have limited liability, are limited to no more than 100 shareholders, and receive flow-through tax treatment.

170

True or false: An individual or a firm may be registered as an investment adviser, but only an individual can be an investment adviser representative.

True

171

Under what circumstances may an Administrator cancel the registration of an agent? I.Inability to get in contact with the agent for a reasonable amount of time.
II.Death of the agent.
III.The agent is deemed mentally incompetent.
IV.Failure to follow provisions of the act.

1, 2 & 3; Cancellation is a form of non-punitive termination. If an agent dies, is declared mentally incompetent, or mail is returned with no forwarding address, registration will be canceled.

172


Which of the following statements regarding the Investment Advisers Act of 1940 and the adviser's brochure are CORRECT?

A)Advisers must deliver the brochure to clients for whom they offer impersonal advisory service only when the annual charge does not reach $500.

B)Annual delivery of a summary of material changes relieves the adviser of the obligation to deliver a brochure.

C)Each client must receive the brochure no later than the entering into the advisory contract.

D)Each client must receive the brochure no later than 48 hours after entering into the advisory contract.

3; SEC rules require that a brochure, or summary of material changes, if any, must be delivered to all clients within 120 days of the end of the adviser's fiscal year. If there are no material changes, a brochure does not have to be sent. The summary includes an offer to provide a copy of the updated brochure and information on how the client may obtain it. There is no 48-hour rule under federal law as there is for state law and, in any event, that law has a 48-hour in advance requirement. Only when the charge for the impersonal advice is $500 per annum or more is there a requirement to deliver the brochure.

173


Automated Performance Advisers (APA), a registered investment adviser in 3 states, has spent several years and in excess of $1 million developing the software for a computerized program that APA believes will allow the model portfolios it designs for its clients to consistently outperform the market. In the first year of beta testing the program, returns have ranged from 40% to 60% above the relevant benchmarks. Because of this success, and in an effort to recoup some of the development costs, APA is now charging, in addition to their standard 25 basis points per quarter, a performance-based fee of 10% of the increase of value in a client’s portfolio. In so doing, APA would be

A)subject to disciplinary action by the SEC

B)in violation of the Uniform Securities Act

C)in violation of the Investment Advisers Act of 1940

D)permitted to charge performance-based fees

2; First of all, this is a state-registered investment adviser, so the Investment Advisers Act of 1940 and the SEC have no jurisdiction. Then, we look at this quote from the USA: “Except as may be permitted by rule or order of the Administrator, it is unlawful for any investment adviser to enter into, extend, or renew any investment advisory contract unless it provides in writing that the investment adviser shall not be compensated on the basis of a share of capital gains upon or capital appreciation of the funds or any portion of the funds of the client.” Even though we know that there are conditions under which performance-based compensation is permitted, unless the question specifically refers to that exception, the answer is that it is not permitted.

174


One popular method used to predict the expected return of a stock is the Capital Asset Pricing Model. Analysts using CAPM rely on all of these EXCEPT the:

A)expected return on the market.

B)risk-free rate available in the market.

C)standard deviation of the stock.

D)beta coefficient of the stock.

3; Under the CAPM, using the SML, we can determine the expected return of any given stock by taking the risk-free rate and adding to that the product of that stock's beta coefficient and the difference between the expected return on the market and the risk-free rate. Standard deviation is not a factor in this computation.

175

Under the National Securities Markets Improvement Act of 1996, which of the following statements describe federal covered securities? I.A security registered under the USA.
II.A security registered under the Investment Company Act of 1940.
III.A security of a company traded on the Nasdaq Stock Market.
IV.A security issued by the U.S. government.

2, 3 & 4; A federal covered security has a federally imposed exemption from state registration so selecting a choice that includes registering under the USA cannot be correct. The list includes most securities exempt from registration under the federal Securities Act of 1933 (those issued by the U.S. government and state and local governments). In addition, it includes a number of securities registered with the SEC, primarily those traded on the exchanges and Nasdaq as well as investment companies registered under the Investment Company Act of 1940.