Cash and Margin Accounts

Question 1

A customer sells 1,000 shares of XYZ short at 2. The initial minimum margin requirement is:

[A] $-0-
[B] $675
[C] $2,000
[D] $2,500

Answer 1

[D] $2,500

The requirement for the short sale is $2.50 per share or 100% of the market value whichever is greater.

Question 2

Mr. Jones has a margin account with no cash or securities position. He purchases 100 shares of WL at 83 and one WL January 90 listed put at 10. The required deposit when Regulation T is 50% is:

[A] $4,150
[B] $5,150
[C] $5,650
[D] $9,300

Answer 2

[B] $5,150

Mr. Jones purchased 100 shares @ 83, while Reg T is 50%, which would require

$8,300 MKT
x .50 Reg T
$4,150 Deposit

Mr. Jones also purchased the put, and premiums must be paid for in full

Premium @ 10 =
$1,000 Option deposit
+4,150 Stock deposit
$5,150 Total Deposit

Question 3

A customer buys 100 shares of XYZ at $70 per share. Regulation T is 50%. Two weeks later, the customer deposits the margin requirement. The stock appreciates to $80 per share. All of the following are true regarding this situation EXCEPT

[A] the customer’s equity is $1,200 and may be withdrawn.
[B] without an extension, a violation of Regulation T has occurred.
[C] the margin requirement is $3,500.
[D] if the initial margin requirement is met the account would then have excess equity.

Answer 3

[A] the customer’s equity is $1,200 and may be withdrawn.

Regular equity cannot be withdrawn, only excess equity can be withdrawn. The other choices are correct:

Reg. T settlement is T + 4, so after 4 days, you would need to have an extension or you would be in violation of paying off your security too late.
The margin requirement would be 50% of the purchase price, so $7,000 X .50 = $3,500
If the initial margin requirement of $3,500 is met, then the account would have excess equity because the market value of the stock appreciated in value.

Question 4

A customer with a cash or margin account fails to make payment on a new purchase of securities within 4 business days of trade date. Under Reg T, the broker-dealer is not required to liquidate portions of the customer’s account if payment for the purchase in the account is for:

[A] $1,000 or less
[B] $2,000 or more
[C] $5,000
[D] Any unpaid amount

Answer 4

[A] $1,000 or less

Under Reg T, broker-dealers are required to liquidate portions of a customer’s account if the customer fails to make payment within Reg T settlement (T+4) for any amount exceeding $1,000. At $1,000 or less, the broker-dealer can choose whether or not to liquidate a portion of the account under Reg T.

Question 5

A customer opening a new margin account sells short 200 shares of ABC at $18.50 per share. What would be the required deposit from the customer for this transaction?

[A] $-0-
[B] $1,850
[C] $2,000
[D] $3,700

Answer 5

[C] $2,000

The client would need to deposit 50% of the sales price, or $2,000, whichever is GREATER. In this case, 50% of the sale proceeds is only $1,850, so the customer must deposit $2,000.

Question 6

A customer who is going on vacation enters a GTC order to buy a particular stock. The order is executed. The customer tells the account executive that he wants the stock but will not return in time to pay for the security by the payment date. The customer states he will send a check a few days late. The account executive should do which of the following?

[A] Cancel the trade immediately.
[B] Pay for the stock himself with a principal’s approval.
[C] Transfer the order to a margin account.
[D] Request an extension of time for payment.

Answer 6

[D] Request an extension of time for payment.

The client has stated the check will only be a few days late, therefore the account executive should request an extension of time for payment. The account executive should NEVER pay for the stock himself.

Question 7

When a customer opens a margin account at a broker-dealer, they are required to sign certain documents. Which of the following best describes the agreement between the customer and the broker-dealer related to the terms and conditions of financing involved in purchasing on margin?
[A] This is covered in the customer’s new account form.
[B] This is covered in a consent by the client to the loan from the broker-dealer.
[C] This is covered in the customer’s hypothecation agreement.
[D] This is covered in the Credit Agreement for a line of credit with the customer.

Answer 7

[D] This is covered in the Credit Agreement for a line of credit with the customer.
The agreement from the broker-dealer which must be signed by the client related to the terms and conditions of financing involved in a margin account would be the Credit agreement. A separate agreement called the Hypothecation Agreement discloses that securities purchased on margin may be pledged by the broker-dealer as collateral in order to finance such margin accounts. In the “real world” the Credit Agreement is normally rolled into the Margin Agreement, therefore the customer signing the Margin Agreement serves as the Credit Agreement.

Question 8

In a margin account, “equity” is defined as:

[A] the common stock in the account
[B] the debt investment in the account
[C] securities listed on a national exchange
[D] the net financial ownership in the account

Answer 8

[D] the net financial ownership in the account
In a margin account, the current market value of the securities in the account minus the debit balance equals the “equity” in the account.

Question 9

A customer buys 100 shares of ABC at 35 in a cash account and writes 1 ABC Oct 30 call at 7. How much must be deposited by the customer into the account?

[A] $700
[B] $2,800
[C] $3,500
[D] $4,200

Answer 9

[B] $2,800
The customer must pay for the stock in full because it is in the cash account. The $700 dollars received for the option written can be used to offset the cost of the stock. Therefore, the customer must deposit $2,800. (3,500 - 700)

Question 10

Which of the following best describes the agreement between the customer and the broker-dealer related to the securities purchased on margin in a margin account?

[A] The New Account Report Form
[B] The Consent Form
[C] The Hypothecation Agreement
[D] The Credit Agreement

Answer 10

[D] The Credit Agreement
The Credit Agreement discloses the terms and conditions under which the financing will be maintained in the margin account. The Hypothecation Agreement is the agreement used when a broker-dealer makes a margin loan to a customer, using the securities purchased on margin as collateral for the loan. Because the question does not discuss using “collateral” for the margin loan, the Credit Agreement is the better answer.

Question 11

Rehypothecation is best described as which of the following?
[A] A client allows their broker-dealer to borrow some of their fully paid securities
[B] A broker-dealer uses some of a customers securities from their margin account as collateral with a bank to cover the loan the broker-dealer made to the customer
[C] Excess margin stock in a customers margin account
[D] The margin loan between a broker-dealer and a customer using securities purchased by the customer in the margin account

Answer 11

[B] A broker-dealer uses some of a customers securities from their margin account as collateral with a bank to cover the loan the broker-dealer made to the customer
Hypothecation represents the loan between a customer and the broker-dealer but RE-hypothecation represents the loan between the broker-dealer and the bank using the customer’s margined securities as collateral for the loan.

Question 12

A broker-dealer must disclose credit terms to customers opening Margin Accounts. The credit terms relating to margin transactions must be given to customers in writing under SEC Rules:

[A] at the time of or before the opening the Margin Account.
[B] At the exact time the Margin Account is opened.
[C] Prior to executing the first margin transaction in the account.
[D] No later than Settlement Date of the first transaction.

Answer 12

[A] at the time of or before the opening the Margin Account.
SEC Rules require disclosure to be made by a broker-dealer to a customer concerning credit terms at the time of or before the account is opened.

Question 13

Which regulator determines which securities can be purchased on margin when the securities are non-exempt securities trading on the OTC market?

[A] FINRA - Financial Industry Regulatory Authority
[B] FRB - Federal Reserve Board
[C] SEC - Securities Exchange Commission
[D] SIA - Securities Industry Association

Answer 13

[B] FRB - Federal Reserve Board
The Federal Reserve Board determines which securities can be purchase on margin when the securities are non-exempt OTC securities. Exchange traded securities are determined by the exchange on which they trade.

Question 14

The minimum deposit required for the purchase of $20,000 of a marginable stock in a margin account would be

[A] $12,000 in cash.
[B] $10,000 of marginable stock.
[C] $20,000 in cash.
[D] $20,000 of marginable stock.

Answer 14

[D] $20,000 of marginable stock.
To satisfy the MINIMUM deposit requirement, the investor can do either of the following:

Deposit Cash to meet a call = 100% of the amount called is required. The question states that $20,000 in stock was purchased. Reg T is 50% so the minimum cash required is $10,000 (not $12,000 which is more than the minimum).

Deposit Securities to meet a call = deposit securities that have a loan value equal to the amount of the call ( twice as much of a deposit is needed in securities because securities have a loan value of 50%). The Reg T. minimum deposit is $10,000, so depositing marginable stock of $20,000 would meet that requirement.

Question 15

As an initial transaction in a margin account, a customer buys 100 shares of ABC on margin at $74 and purchases 1 ABC July 70 call at 8. What is the required deposit?

[A] $800
[B] $3,700
[C] $4,500
[D] $8,200

Answer 15

[C] $4,500

Question 16

Which of the following securities CANNOT be purchased on margin?

[A] Corporate convertible bond
[B] Municipal bond
[C] A stock whose market cap is below $1 billion
[D] A long call option

Answer 16

[D] A long call option
A long call option cannot be purchased on margin; 100% of the premium must be paid. However, it can be purchased in a margin account.

Question 17

A client’s margin account has the following positions:

$67,000 Current Market Value
30,000 Debit Balance
$37,000 Equity

Reg T is 50%. House Maintenance is 30%. Federal Retention is 50%. What total dollar amount may the broker-dealer borrow according to the rehypothecation regulations?

[A] $16,750
[B] $30,000
[C] $42,000
[D] $67,000

Answer 17

[B] $30,000
A broker-dealer may only borrow up to the amount of the customer’s debit balance but would be able to use 140% of the debit as collateral for the rehypothecation loan.

Question 18

When an OTC security is approved for margin trading, it has been approved by which of the following?

[A] FRB
[B] MSRB
[C] NASD
[D] NYSE

Answer 18

[A] FRB

The Federal Reserve Board approves OTC Securities for margin trading.

Question 19

Hypothecation and re-hypothecation agreements must be signed by a customer when the customer wishes to

[A] provide a firm with the ability to trade in the customer’s account without the customer’s knowledge.
[B] provide a third party outside of the firm with the ability to trade in the customer’s account without the customer’s knowledge.
[C] buy securities using margin functionality and pledge the securities as collateral for margin lending.
[D] re-activate a frozen account that has received a minimum maintenance call and where liquidation of securities took place to satisfy the call.

Answer 19

[C] buy securities using margin functionality and pledge the securities as collateral for margin lending.
Hypothecation is the pledging of securities as collateral for margin loans by a customer. Re-hypothecation is when the firm pledges the customer’s securities as collateral for a loan from a bank that is used to cover the customer’s borrowing. If a customer wishes to open a margin account and pledge securities as collateral, then it is typical to have a hypothecation agreement that also covers re-hypothecation by the firm.

Question 20

Which of the following is true about a cash account versus a cash transaction?

[A] A cash account is where purchases can be made with borrowed funds from the broker-dealer.
[B] A cash transaction is a transaction which settles on the same day that the transaction occurs.
[C] A cash account is where all transactions settle on the same day that the transactions take place.
[D] A cash transaction is an account where purchases are always paid for in full and settle regular way.

Answer 20

[B] A cash transaction is a transaction which settles on the same day that the transaction occurs.
A cash account is where a customer can buy securities but must pay for purchases in full. Not all transactions in a cash account settle regular way or same day. This depends on the security that the customer is purchasing.

A cash transaction is when a customer buys or sells a security which settles on the same day as trade date.

Question 21

Which of the following statements regarding a customer margin account is FALSE?

[A] Securities can be hypothecated.
[B] Interest is charged on the debit balance.
[C] The loan consent agreement must be signed by the customer.
[D] The customer must sign the margin agreement.

Answer 21

[C] The loan consent agreement must be signed by the customer.

Question 22

A customer makes an initial trade in a margin account. He buys 100 shares of ABC at $40 per share and writes 1 ABC July 40 call for 2. Regulation T is 50%. What is the deposit required to meet the initial requirement?

[A] $1,800
[B] $2,000
[C] $2,200
[D] $3,000

Answer 22

[A] $1,800

Question 23

If a customer’s cash account is frozen due to the failure to make prompt payment:

[A] Additional purchases (except for exempt securities) are not permitted unless sufficient funds are already in the account before the order is processed.
[B] He may not make any additional purchases in the account.
[C] All transactions in the account must cease.
[D] It indicates that there is a deficit balance in the account.

Answer 23

[A] Additional purchases (except for exempt securities) are not permitted unless sufficient funds are already in the account before the order is processed.
If a customer’s cash account is frozen due to the failure to make prompt payment any additional purchases are not permitted unless sufficient funds are already in the account before the order is processed.(except for exempt securities)

Question 24

After a client signs a discretionary account agreement, his registered representative decides to buy some stock for the client on margin. The registered representative should:

[A] Obtain verbal permission from the client
[B] Have the client sign a margin agreement
[C] Have the client sign a margin agreement and get supervisory approval before the first margin trade.
[D] Have the client sign a margin agreement and get supervisory approval within three business days of the first trade.

Answer 24

[C] Have the client sign a margin agreement and get supervisory approval before the first margin trade.
The client must sign a margin agreement and the registered representative must get supervisory approval to open a margin account. Discretionary authority is limited to buying and selling securities and not to opening a margin account. The agreement and approval are required before the first margin trade.

Question 25

The agreement that authorizes a broker-dealer to pledge a customer’s margin securities as collateral for a loan from a bank to the broker-dealer is called:

[A] A credit agreement
[B] A loan consent agreement
[C] A hypothecation agreement
[D] A joint account agreement

Answer 25

[C] A hypothecation agreement
A hypothecation agreement between a broker-dealer and a customer pledges the customer’s securities to cover margin loans and authorizes the broker-dealer to pledge the same securities to a bank to collateralize a broker’s loan.

Question 26

A 90-day frozen period where restrictions are placed on trading activity would apply to an individual account when the

[A] owner receives a margin call on a long margin account and meets the call.
[B] margin account has entered “restriction” where equity drops below 50%.
[C] owner purchases and sells stock in a cash account and never deposits adequate funds to cover the initial purchase.
[D] purchase of equity options takes place in a cash account.

Answer 26

[C] owner purchases and sells stock in a cash account and never deposits adequate funds to cover the initial purchase.
One key aspect of a cash account is that all securities must be paid for in full, regardless of if the securities were sold prior to the settlement of the purchase. In a scenario where the owner of a cash account fails to pay for securities in full or buys and sells a security before paying for it (free-riding), Regulation T requires that the account be “frozen” for a period of 90 days. During this frozen period, activities in the account are restricted and the customer is required to have the funds on hand on trade date when buying stock (the customer doesn’t get the normal, regular-way settlement period of T+2). Margin accounts are not frozen when margin calls take place or when equity is below 50% (also known as “restriction”, but in a different context). Equity options can be purchased in a cash account, but limitations will exist on advanced option positions and only covered sales of equity options can take place in cash accounts.

Question 27

A customer has the following positions in a Margin Account:

$120,000 Current Market Value
- 60,000 Debit Balance
$60,000 Equity

Reg. T is 50%
House Maintenance is 30%
Retention Requirement is 50%

What dollar amount of securities may the broker-dealer use for purposes of rehypothecation?

[A] $36,000
[B] $60,000
[C] $84,000
[D] $120,000

Answer 27

[C] $84,000
The broker-dealer can use 140% of the customer’s debit balance for rehypothecation, or $84,000. Had the question asked what dollar amount the broker-dealer can borrow against the customer’s securities, the answer would be $60,000. The broker-dealer can only borrow as much as they have lent.

Question 28

A customer does not submit payment for the securities he purchased on a timely basis. What happens in this situation?

[A] All future customer transactions require pre-approval of the RR’s supervising principal.
[B] For a period of 90 days, the member firm must ensure that no margin purchases are allowed in the customer’s account.
[C] The customer’s account is frozen for 30 days. No transactions are permitted.
[D] There are no consequences to the customer’s in response to the late payment.

Answer 28

[B] For a period of 90 days, the member firm must ensure that no margin purchases are allowed in the customer’s account.
In effect, the customer must have cash in his account to cover any purchase order before the buy will be executed. The member firm cannot extend credit to the customer. This is a Reg T requirement.

Question 29

Reuben has a cash account and really likes ABC Common Stock. He enters an order to buy 100 shares of ABC at the market and receives an execution at $50/share. A couple of hours later, he realizes that he does not have the free capital on hand in his cash account or at his bank to pay the $5,000 for the stock. In that couple of hours, the stock has appreciated to $55/share and realizing his mistake, Reuben enters an order to sell. Because he purchased and sold on the same day, Reuben assumes that he will not have to deposit the $5,000. Which of the following is TRUE?

[A] Because Reuben failed to pay for the initial purchase, all securities in Reuben’s account will be liquidated and his account will be closed immediately.
[B] Under Regulation T, Reuben will receive a margin call related to this transaction and will have to deposit a minimum of 25% of the market price of the stock at the time of purchase.
[C] Because the transactions took place on the same day and Reuben was able to realize a profit, he will not have to deposit funds related to this purchase and he will keep the $500 profit less commissions.
[D] Reuben’s assumption that he does not have to deposit funds related to his purchase is incorrect and he is free-riding, which will lead to his account being frozen and additional restrictions on his account for 90 days.

Answer 29

[D] Reuben’s assumption that he does not have to deposit funds related to his purchase is incorrect and he is free-riding, which will lead to his account being frozen and additional restrictions on his account for 90 days.

The sequence of events that are described are an example of “free-riding”, where a customer with a cash account buys securities, does not deposit funds, then sells the securities prior to settlement. This is a prohibited practice. Under Regulation T, this is the equivalent of the customer failing to deposit funds even when the position had not yet been closed. This requires a “freeze” on the customer’s account for 90 days, during which the customer must have cash on hand as of trade date in order to make purchases in the account (customer does not get the T+2, regular-way settlement time period). Reuben’s account does not need to be liquidated and closed, but will be frozen. Minimum maintenance requirements apply to margin accounts and do not apply to cash accounts.

Question 30

A new client opens up a margin account at the firm. The client wishes to perform a short sale as their first transaction. They wish to sell short 1,000 shares of MNO corporation, which is currently trading at $2.25 per share. How much must this client deposit assuming no other deposits have been made at this time?

[A] The client must deposit $1,125.
[B] The client must deposit $2,250.
[C] The client must deposit $2,500.
[D] The client must deposit $4,500.

Answer 30

[C] The client must deposit $2,500.
The minimum deposit required for low priced stock with a market price between $0 - $2.50, is $2.50 per share. Yes, this investor has to give $2.50 per share, not the current market value of $2.25.