Series7Notes3

Question 1

2 - 1 Registered Reps and Financial Firms

Answer 1

BrokerCheck provides information on registered (or terminated) individuals within the last 10 years.

Question 2

2 - 2 Registered Reps and Financial Firms

Answer 2

For an activity to be considered an expense (not subject to the $100 gift rule) the registered representative must attend the event with the customer.

Question 3

2 - 3 Registered Reps and Financial Firms

Answer 3

Special inactive status due to military service exempts the registered representative from the twoyear inactive status limitation and continuing education requirements.

Question 4

2 - 4 Registered Reps and Financial Firms

Answer 4

If an RR buys two tickets to a sporting event to take a client but is unable to attend the best course of action would be to ask another RR to attend the event with the client.

Question 5

2 - 5 Registered Reps and Financial Firms

Answer 5

Gifts should be valued at the higher of cost or market and the $100 dollar rule does not apply to personal gifts for the birth of a child

Question 6

3 - 1 Customer Accounts - Objectives and Tax Issues

Answer 6

FIFO generally results in greater gains for tax purposes than LIFO.

Question 7

3 - 2 Customer Accounts - Objectives and Tax Issues

Answer 7

Closing out a position a client has in an investment results in a capital gain or capital loss.

Question 8

3 - 3 Customer Accounts - Objectives and Tax Issues

Answer 8

An excessive number of recommendations that result in trades even if suitable may be considered unreasonable.

Question 9

3 - 4 Customer Accounts - Objectives and Tax Issues

Answer 9

If the same stock is purchased on different occasions and later part of it is sold FIFO (first-in firstout) is used to determine if the gain/loss is short-term or long-term unless the client identifies the shares being sold.

Question 10

3 - 5 Customer Accounts - Objectives and Tax Issues

Answer 10

If an elderly investor seems disoriented and confused (possibly experiencing dementia or diminished capacity) the best course of action for the RR is to discuss the situation with your supervisor and/or legal and compliance or if appropriate recommend the client bring a close family member or friend to your next meeting.

Question 11

3 - 6 Customer Accounts - Objectives and Tax Issues

Answer 11

If a 17 year-old person whose birthday is approaching wants to open an account at the firm the most appropriate course of action is for the RR to refuse to open the account.

Question 12

3 - 7 Customer Accounts - Objectives and Tax Issues

Answer 12

Three main suitability obligations: 1. The reasonable-basis obligation requires a member firm and an RR to have a reasonable basis to believe that the recommendation is suitable for at least some investors. If the firm or its RRs do not understand the product , it should not be recommended to customers. 2. The customer-specific obligation requires the member firm and an RR to have a reasonable basis to believe that the recommendation is suitable for a particular customer based on that customer’s investment profile. A customer’s investment profile would include, but is not limited to, the customer’s age, other investments, financial situation and needs, tax status, investment objectives and experience, investment time horizon, liquidity needs, risk tolerance, and any other information the customer may disclose. Even though a customer is not obligated to provide all of this information, the RR should try to obtain the information necessary to make a suitable recommendation. 3. The quantitative obligation requires the member firm and an RR to have a reasonable basis for believing that a series of recommended transactions, even if suitable for a customer, are not excessive when taken together in light of the customer’s investment profile.

Question 13

4 - 1 Customer Accounts - Documentation

Answer 13

A client wants to give the firm discretionary authority and tells the registered representative(RR) the forms are in the mail. The RR may not exercise discretion until the forms are received and approved; even if there is negative news on one of the client’s holdings.

Question 14

4 - 2 Customer Accounts - Documentation

Answer 14

A prime brokerage account offers institutions and hedge funds the ability to receive bundled services at reduced costs.

Question 15

4 - 3 Customer Accounts - Documentation

Answer 15

Commodities are not regulated by the SEC and not covered by SIPC.

Question 16

4 - 4 Customer Accounts - Documentation

Answer 16

Only the equity in a customer’s margin account is covered by SIPC.

Question 17

4 - 5 Customer Accounts - Documentation

Answer 17

A customer may not trade in a spouse’s individual account without written trading authority.

Question 18

4 - 6 Customer Accounts - Documentation

Answer 18

Transfers of monies between related accounts without a business purpose is evidence of potential money laundering.

Question 19

4 - 7 Customer Accounts - Documentation

Answer 19

The Automated Customer Account Transfer Service (ACATS) system is used for transferring accounts from one firm to another. Validation must occur within one business day and transfer must occur within three business days.

Question 20

4 - 8 Customer Accounts - Documentation

Answer 20

Securities in a UGMA account may not be used to cover options positions of the custodian.

Question 21

4 - 9 Customer Accounts - Documentation

Answer 21

Nondiscretionary Accounts - If a customer (1) selects the specific security (2) decides whether to buy or sell the security and (3) specifies the number of shares leaving discretion only as to time and/or price it would not be considered a discretionary order and written authorization would not be required.

Question 22

4 - 10 Customer Accounts - Documentation

Answer 22

In a joint options account it is necessary for both parties to sign the options agreement. It is also necessary to record financial information for both parties.

Question 23

4 - 11 Customer Accounts - Documentation

Answer 23

The only authorized signature for a custodial account is that of the custodian.

Question 24

5 - 1 Fundamentals of Equity Investments

Answer 24

The resulting value of stock after a stock split is equal to the reciprocal of the split. (A 5:4 stock split results in the stock value of 4:5 its original value.)

Question 25

5 - 2 Fundamentals of Equity Investments

Answer 25

Owning an ADR may result in the customer receiving a tax credit for foreign taxes paid on cash dividends received on the stock behind the ADR.

Question 26

5 - 3 Fundamentals of Equity Investments

Answer 26

The cost basis of inherited securities is stepped up at the time of death and the holding period is considered long term.

Question 27

5 - 4 Fundamentals of Equity Investments

Answer 27

The current yield of a stock is found by dividing the yearly dividend by the market price of the stock.

Question 28

5 - 5 Fundamentals of Equity Investments

Answer 28

When securities are inherited the recipient’s cost basis is the market value of the securities at the time of the deceased’s death. The recipient’s holding period for the stock will be long-term regardless of the deceased’s actual holding period.

Question 29

6 - 1 New Issue Marketplace for Equities

Answer 29

A spinoff transaction allows shareholders to retain their original shares while receiving shares in a newly created entity.

Question 30

6 - 2 New Issue Marketplace for Equities

Answer 30

An in-law of an associate of a member firm serving as the managing underwriter who is not supported and does not live with the associate may purchase the equity offering from another member of the underwriting group.

Question 31

6 - 3 New Issue Marketplace for Equities

Answer 31

Newly distributed shares as a result of a merger are subject to registration under SEC Rule 145.

Question 32

6 - 4 New Issue Marketplace for Equities

Answer 32

The underwriting syndicate makes a commitment to the issuer to purchase the entire offering. If the syndicate cannot resell the offering at the public offering price it may suffer a loss. While the selling group also participates in the sale of the new issue it does not run the risk of losses if the securities do not sell. Regarding choice (c) a customer who provides an indication of interest has no obligation of any kind.

Question 33

6 - 5 New Issue Marketplace for Equities

Answer 33

According to Rule 144 an affiliated person (e.g. the president of a company) must hold unregistered (restricted) stock for at least six months before it may be sold.

Question 34

6 - 6 New Issue Marketplace for Equities

Answer 34

According to Rule 144 an affiliated person (e.g. the president of a company) must hold unregistered (restricted) stock for at least six months before it may be sold.

Question 35

6 - 7 New Issue Marketplace for Equities

Answer 35

Prior to the filing of a registration statement a RR may contact an investment banker at the firm. A registered representative may not inform a customer that the customer may receive as many shares as desired. Nor may the registered representative solicit buy orders or solicit indications of interest from the customer. A registration statement needs to be filed before indications of interest may be accepted and only indications of interest will be acceptable at this time not orders.

Question 36

7 - 1 Equity Trading Markets

Answer 36

The minimum quote for stocks priced above $1.00 is in cents.

Question 37

7 - 2 Equity Trading Markets

Answer 37

Limit orders are not used to protect or hedge positions as they may never be executed.

Question 38

7 - 3 Equity Trading Markets

Answer 38

A customer must reduce his/her long position by the number of call options (times 100) written on the stock being tendered.

Question 39

7 - 4 Equity Trading Markets

Answer 39

A DK (Don?t Know) notice is sent when one side does not recognize the trade or the firms disagree on the details. It is not sent to customers.

Question 40

7 - 5 Equity Trading Markets

Answer 40

The SEC prohibits the tendering of borrowed stock in a tender offer.

Question 41

7 - 6 Equity Trading Markets

Answer 41

An immediate-or-cancel (IOC) order must be executed immediately but does not need to be executed in its entirety. Part of the order may be executed.

Question 42

7 - 7 Equity Trading Markets

Answer 42

TRACE is a reporting system for corporate bonds.

Question 43

7 - 8 Equity Trading Markets

Answer 43

Electronic communication networks (ECNs) are trading systems designed to match buyers with sellers of securities. They can be used by both institutional and retail investors.

Question 44

7 - 9 Equity Trading Markets

Answer 44

Interpositioning occurs when a broker-dealer executing an order for a customer places another broker-dealer between itself and the market. This is generally prohibited.

Question 45

7 - 10 Equity Trading Markets

Answer 45

When an institutional investor such as a mutual fund buys stock from the portfolio of an insurance company (another institution) it is considered a trade executed in the fourth market.

Question 46

7 - 11 Equity Trading Markets

Answer 46

Regular way settlement of corporate securities is three business days.

Question 47

7 - 12 Equity Trading Markets

Answer 47

A type of order that becomes a market order when a round-lot trades at or through a particular price is called a stop order.

Question 48

8 - 1 Fundamentals of Debt Securities

Answer 48

A laddered portfolio is investing in the same type of bonds that have different maturity dates and is designed to reduce interest rate risk. The benefits include a higher average yield improved liquidity and less reinvestment risk.

Question 49

8 - 2 Fundamentals of Debt Securities

Answer 49

A step-down bond starts with a higher rate of interest that decreases gradually over time.

Question 50

8 - 3 Fundamentals of Debt Securities

Answer 50

A step-up bond starts with a lower rate of interest that increased gradually over time.

Question 51

8 - 4 Fundamentals of Debt Securities

Answer 51

A laddered bond portfolio staggers the maturities of bonds to come up with an average maturity.

Question 52

8 - 5 Fundamentals of Debt Securities

Answer 52

An investor purchases a zero-coupon municipal bond that is callable at 103 would receive 103% of the compounded accreted value.

Question 53

8 - 6 Fundamentals of Debt Securities

Answer 53

The bond paying interest annually will have a yield to maturity that is less than the bond paying interest semiannually. Yields to maturity assume a reinvestment and compounding of interest.

Question 54

9 - 1 Corporate Debt Securities and Money-Market Instruments

Answer 54

The accrual date for bonds purchased before the first interest payment date is the dated date.

Question 55

9 - 2 Corporate Debt Securities and Money-Market Instruments

Answer 55

If the knock-in level on a reverse convertible is reached the holder will receive stock that is lower invalue than the principal on the bond.

Question 56

9 - 3 Corporate Debt Securities and Money-Market Instruments

Answer 56

Zero coupon corporate bonds are subject to taxation each year and the cost basis is adjusted towards par (accretion).

Question 57

9 - 4 Corporate Debt Securities and Money-Market Instruments

Answer 57

Subordinated debenture bonds which are unsecured bonds. The bonds are secured by the full faith and credit and no specific collateral of the issuer..

Question 58

9 - 5 Corporate Debt Securities and Money-Market Instruments

Answer 58

Long-term CDs have a maturity of more than one year. Since the securities are traded in the secondary market changes in interest rates will cause price fluctuations. If sold prior to maturity a CD investor may have a loss or gain. Long-term CDs are issued by banks but may be sold by any type of broker-dealer. The FDIC provides protection up to $2500

Question 59

9 - 6 Corporate Debt Securities and Money-Market Instruments

Answer 59

Convertible bondholders are considered creditors of a corporation and provide investors with the ability to convert their bonds into shares of common stock of the same issuer at a set price (conversion price). This feature links these types of bonds to the equity markets and the price of a convertible bond is affected by the price of the underlying stock. However if the price of the underlying stock declines to the point where there is no advantage to the conversion feature the bond may sell at a price based on its inherent value as a bond disregarding the convertible feature. Moreover convertible bonds are issued by companies with weaker credit ratings and allow the issuer to sell debt at a lower cost. Since the conversion feature is a benefit to the bondholder convertible bonds will have a lower coupon than similar nonconvertible bonds.

Question 60

9 - 7 Corporate Debt Securities and Money-Market Instruments

Answer 60

P-1 (also called Prime 1) is the highest rating that Moody’s will assign to commercial paper. Intermediate ratings are P-2 and P-3. Speculative commercial paper would receive a rating of NP (not prime).

Question 61

10 - 1 Government and Agency Debt Securities

Answer 61

10 Private label CMOs are subject to the credit risk of their issuers while government sponsored CMOs are guaranteed by the GSE or U.S. Government.

Question 62

10 - 2 Government and Agency Debt Securities

Answer 62

If interest rates decline CMOs are subject to prepayment risk.

Question 63

10 - 3 Government and Agency Debt Securities

Answer 63

If interest rates increase CMOs are subject to extension risk.

Question 64

10 - 4 Government and Agency Debt Securities

Answer 64

Interest received on Federal National Mortgage Association (FNMA) and Government National Mortgage Association (GNMA) debt is subject to federal state and local taxes.

Question 65

10 - 5 Government and Agency Debt Securities

Answer 65

The CMO tranche with the lowest amount of prepayment risk is the Planned Amortization Class (PAC).

Question 66

10 - 6 Government and Agency Debt Securities

Answer 66

Any type of retail communication or correspondence may not compare CMOs to any other security especially bank CDs.

Question 67

10 - 7 Government and Agency Debt Securities

Answer 67

Treasury bonds are quoted in 32nds of a point and are then calculated as a percentage of the par value ($1000). The difference between 98.4 and 98.8 is 4/32. One point equals $10 so 4/32 or 1/8 of a point equals $1.25.

Question 68

10 - 8 Government and Agency Debt Securities

Answer 68

The auction for 13- and 26-week T-bills is held each Monday. Settlement is on Thursday of the same week.

Question 69

10 - 9 Government and Agency Debt Securities

Answer 69

Treasury bills and bankers’ acceptances are typically sold at a discount. The amount of interest is based on the difference between the purchase price and the face value.

Question 70

10 - 10 Government and Agency Debt Securities

Answer 70

Treasury bills and Treasury notes are direct obligations of the U.S. government. GNMAs are guaranteed by the U.S. government. FNMA bonds are not guaranteed by the U.S. government.

Question 71

11 - 1 Municipal Debt Securities - Bond Types and Tax Treatment

Answer 71

The clearing rate is the settled rate when an auction for auction rate securities is successful.

Question 72

11 - 2 Municipal Debt Securities - Bond Types and Tax Treatment

Answer 72

The discount on a municipal OID held to maturity is considered interest and is tax-free.

Question 73

11 - 3 Municipal Debt Securities - Bond Types and Tax Treatment

Answer 73

The tax equivalent yield for a corporate bond = municipal yield � (100% - tax bracket).

Question 74

11 - 4 Municipal Debt Securities - Bond Types and Tax Treatment

Answer 74

Bank-qualified bonds are issued by municipalities and permit commercial banks purchasing these to deduct 80% of the interest cost paid to depositors on the funds used to purchase the bonds.

Question 75

11 - 5 Municipal Debt Securities - Bond Types and Tax Treatment

Answer 75

A municipal bond with an 8.5% coupon and priced at a 9.25 basis is trading at a discount.

Question 76

11 - 6 Municipal Debt Securities - Bond Types and Tax Treatment

Answer 76

Property values debt coverage ratios competing facilities and demographics would be useful when examining the credit risk of a municipal bond. The direction of interest rates is not.

Question 77

11 - 7 Municipal Debt Securities - Bond Types and Tax Treatment

Answer 77

Some municipal zero-coupon bonds are known as capital appreciation bonds (CAB). They would NOT be suitable for investors seeking income and would have characteristics similar to other type of muni zero?s.

Question 78

11 - 8 Municipal Debt Securities - Bond Types and Tax Treatment

Answer 78

An accounting measure that reflects the increase in the amount of value of an OID Bond would called accretion not appreciation.

Question 79

11 - 9 Municipal Debt Securities - Bond Types and Tax Treatment

Answer 79

A recommendation to purchase a private activity bond should NOT made to an investor subject to the AMT.

Question 80

11 - 10 Municipal Debt Securities - Bond Types and Tax Treatment

Answer 80

A defined benefit plan is a type of pension fund. Pension funds and other tax-deferred accounts would not benefit from the tax exemption provided by municipal bonds. As a result unless the bonds are taxable and offer yields equivalent to other taxable bonds pension funds would not include municipal bonds in their portfolio. The exception would be Build America Bonds (BABs) which are taxable municipal bonds.

Question 81

11 - 11 Municipal Debt Securities - Bond Types and Tax Treatment

Answer 81

An increasing population trend and a mixture of diverse businesses (both new and established) are positive demographic indicators that reinforce the quality of general obligation issues. User fees are generally associated with revenue bond issuers.

Question 82

11 - 12 Municipal Debt Securities - Bond Types and Tax Treatment

Answer 82

Direct Pay Build America Bonds (BABs). BABs are a type of municipal bond that pays taxable interest but the Treasury will reimburse 35% of the interest paid on the bonds to the issuer which reduces the cost of borrowing. This would allow municipal issuers to compete with corporate issuers when raising capital.

Question 83

12 - 1 The Isssuance of Municipal Securities and MSRB Rules

Answer 83

The additional bonds test determines whether an issuer is financially capable of issuing more bonds.

Question 84

12 - 2 The Isssuance of Municipal Securities and MSRB Rules

Answer 84

A political contribution of $500 from the joint checking account of an MFP is not considered a violation if signed by both spouses.

Question 85

12 - 3 The Isssuance of Municipal Securities and MSRB Rules

Answer 85

The yield to maturity must be used for advertising and pricing when municipal bonds are issued or trading at a discount.

Question 86

12 - 4 The Isssuance of Municipal Securities and MSRB Rules

Answer 86

MSRB rules require individuals to serve as apprentices for a minimum of 90 days. During this period the individual may only deal with other professionals at MSRB member firms not retail or institutional customers.

Question 87

12 - 5 The Isssuance of Municipal Securities and MSRB Rules

Answer 87

If a person employed at a broker-dealer also makes decisions at a municipality (e.g. water board or school district) this is defined by the MSRB as a control relationship. This must be disclosed to clients verbally before the trade and in writing after the trade.

Question 88

12 - 6 The Isssuance of Municipal Securities and MSRB Rules

Answer 88

There are four types of orders that can be placed with a syndicate. 1. A presale order is any order placed before the syndicate that actually purchases the issue from the issuer 2. A group order is a situation where all members of the syndicate share in the profit 3. A designated order is usually placed by a large institution that designates two or more members to receive credit for the sale4. A member order is an order placed by members for their customers

Question 89

12 - 7 The Isssuance of Municipal Securities and MSRB Rules

Answer 89

An order to buy at 104 net indicates the customer wants to pay a total of 104 including any markup or commission.

Question 90

12 - 8 The Isssuance of Municipal Securities and MSRB Rules

Answer 90

When both an MFP and her spouse sign a contribution check the contribution is considered to have been made by both and is split equally between the contributors. On the other hand if the MFP is the only person who signs the check then the entire amount of the contribution is allocated to the MFP. If that were the case the underwriting ban would have been triggered since the contribution amount exceeds $250. There is no limit if the MFP’s spouse writes a check from his personal account rather than from a joint checking account.

Question 91

12 - 9 The Isssuance of Municipal Securities and MSRB Rules

Answer 91

Accrued Interest Formula = (Principal x Rate x Days of Interest) / 360. Day of settlement does not count.

Question 92

13 - 1 Equity Options - Fundamentals and Basic Strategies

Answer 92

Whether an option is in- or out-of-the-money is NOT based on the option’s premium.

Question 93

13 - 2 Equity Options - Fundamentals and Basic Strategies

Answer 93

Buying a call would be more profitable than purchasing a straddle if the underlying securities appreciate in value.

Question 94

13 - 3 Equity Options - Fundamentals and Basic Strategies

Answer 94

The maximum loss to the buyer of an option is equal to the maximum gain of the writer of that option.

Question 95

13 - 4 Equity Options - Fundamentals and Basic Strategies

Answer 95

If the ABC put option is exercised the writer is obligated to purchase 100 shares of ABC stock.

Question 96

13 - 5 Equity Options - Fundamentals and Basic Strategies

Answer 96

Time value is calculated by taking the difference between an option’s premium and its intrinsic value. Since the market price of the stock is greater than the strike price of the put option this option is out-of-the money and has no intrinsic value. The entire premium of this option225 is considered the time value.

Question 97

13 - 6 Equity Options - Fundamentals and Basic Strategies

Answer 97

An investor is convinced that a stock will decline in value. If the investor wishes to act on that conviction which investment strategy will allow him to take advantage of a decline with the smallest amount of cash outlay? The investor should buy a put. By buying a put the investor could go into the market if the stock declined and buy the stock at a lower price. He would exercise the put and sell the stock to the writer at the exercise price. Buying a put costs less money than selling short because the short position requires a 50% deposit with a minimum margin deposit of $20

Question 98

13 - 7 Equity Options - Fundamentals and Basic Strategies

Answer 98

A writer or seller of an uncovered call option does not own the underlying stock. If the underlying stock goes down the call will not be exercised. If the call option expires the writer will keep the premium paid by the buyer of the option and will no longer be exposed to a possible loss if the stock goes up. If the underlying stock goes up the option will be exercised and the writer will be obligated to deliver stock. The writer will need to purchase the stock at the current market value and will incur a loss due to the difference between the market value and the strike price less the premium received. The answer therefore is a writer of an uncovered call option will make money if the underlying common stock goes down and/or the call expires unexercised.

Question 99

13 - 8 Equity Options - Fundamentals and Basic Strategies

Answer 99

A derivative is a financial product that derives its value from movements in another financial product. If the price of the underlying security changes in value the price of the derivative will fluctuate. For example a CMO is a security backed by other mortgage-backed securities. If changes occur to the prices of these securities due to fluctuating interest rates and other factors the price of the CMO will change. The price of an option contract is based on changes in the underlying security.

Question 100

14 - 1 Complex Options Strategies

Answer 100

A credit put spread is a bullish option strategy.

Question 101

14 - 2 Complex Options Strategies

Answer 101

A credit call spread is a bearish option strategy.

Question 102

14 - 3 Complex Options Strategies

Answer 102

When an individual pays money to create a spread it is referred to as a debit spread.

Question 103

14 - 4 Complex Options Strategies

Answer 103

When an individual receives money to create a spread it is referred to as a credit spread.

Question 104

14 - 5 Complex Options Strategies

Answer 104

An individual who is long 100 shares and writes two calls on the same stock has created a ratio write or variable hedge. The potential loss is unlimited.

Question 105

14 - 6 Complex Options Strategies

Answer 105

Straddle writers expect a neutral market and obtain the maximum gain if each option expires.

Question 106

14 - 7 Complex Options Strategies

Answer 106

To determine whether the customer wants the spread to widen or narrow it is necessary to determine whether the spread is a debit or credit spread. The premium for an option is determined by two factors?the in-the-money amount of the option (intrinsic value) and the time value. Since both options have the same strike price the intrinsic values (in-the-money amount) are equal. Therefore any difference in premium is the result of a difference in time value. Since the December contract has longer to go until expiration than the November contract it has more time value. Therefore the premium for the December contract will be larger than for the November contract. Since the customer purchased the December contract (higher premium) it is a debit spread and will profit if the spread widens.

Question 107

14 - 8 Complex Options Strategies

Answer 107

A bear spread always involves buying the higher exercise price and selling the lower exercise price. This applies to both call spreads and put spreads. A bull spread always involves buying the lower exercise price and selling the higher exercise price. This applies to both call spreads and put spreads.

Question 108

15 - 1 Nonequity Options

Answer 108

VIX options are based on the implied volatility of S&P 500 Index options.

Question 109

15 - 2 Nonequity Options

Answer 109

A VIX call would be purchased in anticipation of an abrupt drop in the market.

Question 110

15 - 3 Nonequity Options

Answer 110

A diversified stock portfolio can be hedged by purchasing index option puts.

Question 111

15 - 4 Nonequity Options

Answer 111

Index options are cash settled; no securities are delivered or received when index options are exercised.

Question 112

15 - 5 Nonequity Options

Answer 112

An American company buying goods from a foreign country and paying in that country’s currency would buy FX calls to hedge.

Question 113

15 - 6 Nonequity Options

Answer 113

A foreign company selling goods in the U.S. and receiving U.S. dollars would also buy FX calls to hedge.

Question 114

15 - 7 Nonequity Options

Answer 114

Settlement for foreign currency spot transactions is usually two business days.

Question 115

15 - 8 Nonequity Options

Answer 115

When exercised a stock index option settles in cash on the next business day. (Equity options if exercised would settle in three business days.) The settlement amount is determined by the difference in strike price and the closing value of the index on the day of exercise. Index options expire each month. Option trades settle on the next business day.

Question 116

15 - 9 Nonequity Options

Answer 116

The company cannot buy U.S. dollar calls since there are no options on the U.S. dollar (trading on an options exchange in the United States).

Question 117

15 - 10 Nonequity Options

Answer 117

If a stock index option is exercised against the writer the writer is obligated to deliver the cash difference between the exercise price and the index value as of the close of trading on that day if the option is in-the-money. The exercise price of the put option is 725 and the lower index value is 722.00. The writer is obligated to deliver the cash difference of $300

Question 118

16 - 1 Options Account Opening Procedures

Answer 118

Taxation and Trading MarketsTrades can be executed in an option account after the ROP approves the account but before the customer signs the options account agreement.

Question 119

16 - 2 Options Account Opening Procedures

Answer 119

Taxation and Trading MarketsThe process of determining who is obligated to meet the terms of an option’s exercise is known as assignment.

Question 120

16 - 3 Options Account Opening Procedures

Answer 120

Taxation and Trading MarketsWhen a stock is the subject of an even stock split (2-for-1 3-for-1 etc.) the number of share under each contract remains at 100 the number of contracts increases by the amount of the split and the strike price is reduced by the reciprocal of the split (1/2 1/3 etc.). 17 A limited partnership is created (given life) when the Certificate of Limited Partnership is filed at the state office.

Question 121

16 - 4 Options Account Opening Procedures

Answer 121

Taxation and Trading MarketsIf the customer does not return the options agreement within 15 days of the approval of the account the customer is permitted only to close out existing positions.

Question 122

16 - 5 Options Account Opening Procedures

Answer 122

Taxation and Trading MarketsAccording to the rules of the exchanges where options are traded a brokerage firm must deliver a risk disclosure document to a customer at or prior to the account being approved for options trading.

Question 123

16 - 6 Options Account Opening Procedures

Answer 123

Taxation and Trading MarketsThe owner of a call and the writer of a put are entitled to receive the dividend if the option is exercised before the ex-dividend date.

Question 124

16 - 7 Options Account Opening Procedures

Answer 124

Taxation and Trading MarketsThe investor made an $800 profit on the closing transaction (sale at $1100 and purchase at $300). The profit is treated as a capital gain in the year the transaction is closed out.

Question 125

16 - 8 Options Account Opening Procedures

Answer 125

Taxation and Trading MarketsIf the customer is short RST calls he anticipates that the market price of RST stock will decline. Since he is bearish on the stock he could also be long puts on RST. This is considered on the same side of the market.

Question 126

16 - 9 Options Account Opening Procedures

Answer 126

Taxation and Trading MarketsA customer wishes to open an account with a brokerage firm to trade options. The customer provides all the necessary new account information required but refuses to provide financial information. According to the rules of the options exchanges the brokerage firm must record the customer’s refusal on its records and must use whatever information it can obtain on its own in determining whether it should accept the account for options trading.

Question 127

17 - 1 Direct Participation Programs

Answer 127

A limited partner is responsible for the recourse debt that equals her percent interest in the limited partnership.

Question 128

17 - 2 Direct Participation Programs

Answer 128

Raw land investments carry the greatest risk in a real estate limited partnership exploratory (wildcat) programs in oil and gas limited partnerships.

Question 129

17 - 3 Direct Participation Programs

Answer 129

An investment in an oil and gas limited partnership may have excess depletion and depreciation as well as excess intangible drilling costs. These are tax preference items and may result in an investor being subject to the alternative minimum tax (AMT).

Question 130

17 - 4 Direct Participation Programs

Answer 130

An investor has limited control (management) in equity investments and no control (management) in bond or DPP investments. The major disadvantage of a DPP is the lack of liquidity meaning that the investor cannot easily sell his portion of ownership.

Question 131

17 - 5 Direct Participation Programs

Answer 131

A direct participation program in real estate which is also known as a real estate limited partnership (RELP) would distribute either passive income or passive losses. Both depreciation of the buildings and a lower tax rate on capital gains if the property is sold after one year are characteristics found in any real estate investment. A REIT not a RELP pays cash dividends that are taxable at the same rate as ordinary income.

Question 132

18 - 1 Investment Companies and Other Packaged Products

Answer 132

The value of an ETF is recalculated each day based on the value of the underlying index.

Question 133

18 - 2 Investment Companies and Other Packaged Products

Answer 133

An ETN is subject to the credit worthiness of the issuer and may depreciate regardless of the performance of the underlying index.

Question 134

18 - 3 Investment Companies and Other Packaged Products

Answer 134

The value of an inverse ETF that perfectly tracks the index would fall at the same percentage the index rises and rise the same percentage the index falls.

Question 135

18 - 4 Investment Companies and Other Packaged Products

Answer 135

The value of a REIT increases when occupancy rates and property values increase.

Question 136

18 - 5 Investment Companies and Other Packaged Products

Answer 136

When an investor sells shares in a mutual fund he will receive the bid price or net asset value

Question 137

18 - 6 Investment Companies and Other Packaged Products

Answer 137

Real estate investment trusts (REITs) offer investors a stable dividend based on the income produced by owning a diversified portfolio of properties and/or mortgages.

Question 138

18 - 7 Investment Companies and Other Packaged Products

Answer 138

The customer will pay $21.50 plus a commission. The Bunker Hill Fund is a closed-end investment company which sells at its current market value ($21.50) plus a commission. A client will purchase the common stock of a corporation in the same manner. Open-end investment companies (mutual funds) sell at their offering price which is the net asset value plus a sales charge (when applicable).

Question 139

19 - 1 Retirement and Education Savings Accounts

Answer 139

An employer is NOT required to make a contribution to the 401(k) plan.

Question 140

19 - 2 Retirement and Education Savings Accounts

Answer 140

Money CANNOT be withdrawn from an IRA without penalty to purchase a vacation home.

Question 141

19 - 3 Retirement and Education Savings Accounts

Answer 141

Taxable alimony can be used to make contributions to an IRA

Question 142

19 - 4 Retirement and Education Savings Accounts

Answer 142

If the money in a Coverdell Education Savings Account is not used by the beneficiary’s 30th birthday it can be transferred to another under 30 member of the beneficiary’s family.

Question 143

19 - 5 Retirement and Education Savings Accounts

Answer 143

In a 529 plan as the beneficiary approaches college age a suitable investment strategy is to move from growth-oriented securities such as equities to income-oriented securities such as bonds and money market funds. Once the funds are being used the account should be invested in money-market funds or other types of short-term investments.

Question 144

19 - 6 Retirement and Education Savings Accounts

Answer 144

A small business owner has a company that doesn?t make money every year and has part-time and highly paid employees. If the owner wants to make contributions to a retirement plan the best recommendation would be a profit-sharing plan.

Question 145

19 - 7 Retirement and Education Savings Accounts

Answer 145

A simplified employee pension plan (SEP IRA) does not allow the employee to make contributions. SEPs are funded by employer contributions only. This is different than for Keogh plans which do allow for employees to make nondeductible contributions to their own account.

Question 146

19 - 8 Retirement and Education Savings Accounts

Answer 146

IRA withdrawals may begin at any age but a penalty may be assessed if withdrawals begin prior to age 59 1/2. Withdrawals in traditional IRAs must begin by age 70 1/2.

Question 147

20 - 1 Annuities and Variable Products

Answer 147

Any money received from a variable annuity in excess of the amount used to purchase the annuity (cost basis) is taxed as ordinary income.

Question 148

20 - 2 Annuities and Variable Products

Answer 148

If the actual rate of growth in the separate account of a variable annuity exceeds the assumed interest rate (AIR) that month’s payment will exceed the previous month’s payment.

Question 149

20 - 3 Annuities and Variable Products

Answer 149

Variable annuities are generally suitable for individuals with long term investment goals and NOT suitable for senior citizens.

Question 150

20 - 4 Annuities and Variable Products

Answer 150

If the purchase of a variable annuity is made after a recommendation by a registered representative several steps must be taken before the application is submitted to the issuing insurance company. In this example Manny must document and sign the recommendation before forwarding the application to the Office of Supervisory Jurisdiction (OSJ) of the member firm. The principal at the OSJ reviews the application to determine suitability. The principal must approve or reject the application within seven business days of receipt and must document and sign the approval or rejection.

Question 151

20 - 5 Annuities and Variable Products

Answer 151

Accumulation units are an accounting measure used to determine an owner’s interest in the separate account during the accumulation or pay-in phase. Their value will vary based on the performance of the separate account. (Annuity units are used during the annuity or payout phase.)

Question 152

20 - 6 Annuities and Variable Products

Answer 152

Annuity suitability rules require that contracts sold through FINRA members be forwarded to the representative’s OSJ and be approved by a principal within 7 business days of receipt before being sent to the insurance company. If a principal does not approve the application it must be rejected.

Question 153

21 - 1 Margin

Answer 153

The margin requirements on leveraged ETFs are the leveraged factor (2x or 3x) multiplied by 25% of the value if you go long or 30% of the value if you go short.

Question 154

21 - 2 Margin

Answer 154

Long market value plus credit balance minus debit balance minus short market value equals the total equity in a combined (mixed) margin account.

Question 155

21 - 3 Margin

Answer 155

A margin account is restricted when equity is less than 50% of market value.

Question 156

21 - 4 Margin

Answer 156

The term mark to the market refers to the adjustment made in a customer’s margin account due to a change in market value. This is done daily.

Question 157

21 - 5 Margin

Answer 157

If the equity increases in a margin account SMA is created. If equity decreases in a margin account SMA will NOT decline.

Question 158

21 - 6 Margin

Answer 158

An investor can write a covered put in a cash account if cash equal to the exercise price is in the account.

Question 159

21 - 7 Margin

Answer 159

An initial public offering (IPO) cannot be purchased on margin.

Question 160

21 - 8 Margin

Answer 160

When selling short securities that have a market value less than $5 per share a minimum maintenance requirement of $2.50 per share or 100% of the market value whichever is greater applies.

Question 161

21 - 9 Margin

Answer 161

When buying options 100% of the purchase price (the premium) must be deposited.

Question 162

21 - 10 Margin

Answer 162

The minimum equity requirement for a pattern day trader is $25000. This amount must be deposited in the account before the customer may continue day trading and must be maintained in the customer’s account at all times. Day-trading buying power is limited to four times the trader’s maintenance margin excess determined as of the close of the previous day.

Question 163

21 - 11 Margin

Answer 163

To determine the equity in a combined margin account take the long market value (LMV) plus the credit balance (CR) then subtract the debit balance (DR) and the short market value (SMV). LMV + CR - DR - SMV

Question 164

22 - 1 Industry Rules

Answer 164

Customers are not permitted to receive a finder’s fee or referral fees.

Question 165

22 - 2 Industry Rules

Answer 165

A broker dealer that states it is an SRO member on its website must provide a hyperlink to the SRO’s website. But it cannot include the SRO’s logo on the broker dealer’s website.

Question 166

22 - 3 Industry Rules

Answer 166

Penny stocks are unlisted nonNasdaq securities trading below $5 per share.

Question 167

22 - 4 Industry Rules

Answer 167

An SRO (FINRA MSRB) does not have the power to sentence an RR to prison.

Question 168

22 - 5 Industry Rules

Answer 168

Care should be taken in the design of Web sites. The name of the member firm with whom the registered representative is associated must be displayed. While the use of the FINRA logo is NOT permitted the registered representative’s association with a FINRA member firm is allowed. However when a reference to FINRA membership is used the Web site must provide a hyperlink to FINRA’s home page. Links to other Web sites are allowed but care should be taken that these sites do not provide fraudulent or misleading information.

Question 169

22 - 6 Industry Rules

Answer 169

The broker-dealer is required to make certain disclosures in its research reports such as whether the firm has an investment banking relationship or makes a market in the common stock of ABC. It must also disclose its ownership in a subject security if the ownership is equal to or greater than 1% beneficial ownership in common equity.

Question 170

22 - 7 Industry Rules

Answer 170

A penny stock according to SEC rules is a stock that sells for less than $5.00 that is not listed on Nasdaq or the NYSE. A stock quoted on the OTC Bulletin Board or OTC Pink Market (Pink Sheets) that has a bid price of less than $5.00 is defined as a penny stock.

Question 171

22 - 8 Industry Rules

Answer 171

Every broker-dealer is required to have a fidelity bond which provides insurance in the event of a fraud judgement against the broker-dealer.

Question 172

22 - 9 Industry Rules

Answer 172

The 5% Markup Policy does not apply when a security is being issued with a prospectus or for municipal securities. In this example a prospectus would be required for a primary distribution as well as a registered secondary distribution. Securities quoted on Nasdaq would be the only choice given for which the 5% guideline would apply.

Question 173

23 - 1 Fundamental and Technical Analysis

Answer 173

CAPM (Capital asset pricing model) is used to determine if the rate of return is appropriate given the level of risk.

Question 174

23 - 2 Fundamental and Technical Analysis

Answer 174

The risk-free rate of return (Treasury yield) is the starting point for risk used under CAPM.

Question 175

23 - 3 Fundamental and Technical Analysis

Answer 175

Earnings per share (EPS) is calculated by subtracting preferred dividends from net income (net revenue) and then dividing by the number of common shares.

Question 176

23 - 4 Fundamental and Technical Analysis

Answer 176

Fixed assets are shown on the balance sheet at their original cost less depreciation.

Question 177

23 - 5 Fundamental and Technical Analysis

Answer 177

Bond interest is deducted before taxes when calculating earnings per share.

Question 178

23 - 6 Fundamental and Technical Analysis

Answer 178

The price of a stock divided by its price to earnings ratio equals the stock’s earnings per share.

Question 179

23 - 7 Fundamental and Technical Analysis

Answer 179

The total market is given a beta of 1.0. An investment with a beta of greater than 1.0 is considered more volatile than the market. An investment with a beta of less than 1.0 is considered less volatile than the market. An investment with a negative beta (-) is assumed to move in the opposite direction to the market.

Question 180

23 - 8 Fundamental and Technical Analysis

Answer 180

Alpha is a measure of an investments expected return. Should its expectations change (i.e. a fund’s investment advisor is changed) the investment’s alpha would change.

Question 181

23 - 9 Fundamental and Technical Analysis

Answer 181

A saucer is a chart pattern used by technical analysts that indicates that a stock has formed a bottom in its trading cycle and is ready to rise. The bottom of the saucer pattern is a bullish indicator for the stock. The reverse of the saucer pattern is the inverse saucer where the stock forms a top in its pattern and is expected to fall. Following the logic used in the saucer this is a bearish indicator. A breakout below the support level is a bearish signal. The term short interest refers to the amount of a company’s shares of common stock that have been sold short and have not yet been covered (closed out). An increase (not decrease) in short interest has historically been considered a bullish indicator by a technical analyst.

Question 182

24 - 1 Economics and Suitability Summary

Answer 182

A strong U.S. dollar is good for U.S. imports but bad for U.S. exports.

Question 183

24 - 2 Economics and Suitability Summary

Answer 183

A customer primarily investing in bonds preferred stock and utility company common stock would be most concerned about changing interest rates and its effect on the value of the portfolio.

Question 184

24 - 3 Economics and Suitability Summary

Answer 184

A company’s gross profit margin and net profit margin are expressed as a percent of each dollar of revenue.

Question 185

24 - 4 Economics and Suitability Summary

Answer 185

The allocation of an individual’s portfolio is based on his current situation not the potential situation.

Question 186

24 - 5 Economics and Suitability Summary

Answer 186

When using an asset allocation model the percent invested in equities (stocks) is generally equal to the difference in the customer’s age and 100. The balance would be invested in short-term intermediate and long-term debt (bonds).

Question 187

24 - 6 Economics and Suitability Summary

Answer 187

An investment risk tolerance in which the customer is willing to accept some risk to her initial principal with some volatility and a possible loss of the funds invested in exchange for higher returns is best defined as moderate. Moderate conservative includes low risk with an understanding there may be some volatility in exchange for a small amount of portfolio returns. Moderate or medium aggressive is a situation where the customer is willing to accept high risk and high volatility with a possible loss to her initial principal in exchange for high returns.

Question 188

24 - 7 Economics and Suitability Summary

Answer 188

Rising inflation tends to have a negative impact on both the bond and stock markets. In the bond market when there is rising inflation bond investors look to trade out of fixed-income investments which will have their returns eroded by rising consumer prices. This selling pressure negatively affects bond prices in the market. In the stock market rising inflation often translates into an assumption that the Fed will raise interest rates to curb consumer borrowing and consumer demand. Rising rates should in theory lead to decreased economic activity and shrinking corporate earnings.

Question 189

24 - 8 Economics and Suitability Summary

Answer 189

The effective federal funds rate is the daily average rate that commercial banks charge throughout the country for overnight loans. It is influenced but not set by the Federal Reserve Board. An increase in the federal funds rate normally signifies that the Fed has taken money out of the banking system.

Question 190

24 - 9 Economics and Suitability Summary

Answer 190

In periods of easy money there is availability of money. Therefore interest rates will decline or be lower. In periods of easy money bonds of similar quality generally will have short-term yields lower than long-term yields. Both short-term and long-term yields will be below normal. This situation creates a positively sloped yield curve where yields rise from short to long term.