Ch. 16 Flashcards
Give some examples of BD practices that are prohibited according to the Department of Justice.
Sharing client order information, selectively backing away from quotes, coordinating prices with other market makers
While waiting for her train, an RR overhears a rumor of an impending corporate takeover. What should she do?
Tips and unverified rumors must be reported to the firm’s legal/compliance department.
True or False: BDs and their employees may buy shares of equity IPOs from the syndicate.
False. They are considered restricted.
Explain the issuer-directed sale exemption under the Equity IPO Rule.
A BD employee may buy an equity IPO if an immediate family member is employed by the issuer who authorizes the sale.
True or False: When determining if churning has occurred in an account, profit or loss is a key consideration.
False. Profit or loss is never a consideration when examining the excessiveness of trading.
True or False: BD records may only be maintained in physical form.
False. Documents may be maintained in any format, but if an electronic media is used, the SRO must be notified.
What are treble damages?
The civil penalty for insider trading, which is three times the profit made or loss avoided
Are registered representatives permitted to have outside brokerage accounts?
Yes, provided they have the prior written consent of their employer.
True or False: Market makers are permitted to pay other parties to influence a stock’s price.
False, this is prohibited.
True or False: When determining a person’s eligibility to purchase an equity IPO, oral verification is acceptable.
False. Firms must obtain written or electronic verification of eligibility.
Can a registered broker-dealer state that the SEC has given its approval of the firm?
No, this is a prohibited practice. It is acceptable for the firm to simply state that it’s a registered broker-dealer.
True or False: Immediate family members of employees of the issuer are restricted from buying the IPO.
False. Immediate family members of employees of BDs (not the issuer) may be restricted.
Under what two circumstances can an RR borrow or lend money to a customer without approval?
1) Family relationships, or 2) the customer is a financial institution
Excessive trading in a client’s discretionary account without regard to her objectives is known as __________.
Churning
True or False: According to the Equity IPO Rule, all associated persons connected to a BD are restricted.
True. The associated persons of a BD include owners, officers, directors, and other employees.
May an RR personally lend to, or borrow from, a client?
Generally, no, unless it’s a family relationship or the customer is a financial institution
True or False: For an IPO, the brother of an RR is considered a restricted person.
True
Are immediate family members of member firm employees always restricted from purchasing equity IPOs?
Not if the individual receives no material support and is not purchasing from the firm employing their family member
True or False: Municipal dealers must disclose all material information to a customer at or prior to a trade.
True
Define the term restricted person as set by FINRA Rule 5130.
Member firms and their associated persons (including their immediate family members) and any other industry insiders
True or False: Market makers are obligated to honor their quotes for both size and price (i.e., they are firm quotes).
True
True or False: A broker-dealer that buys stock at $30 has traded ahead of a client who placed a buy limit order at $35.
True. Since the broker-dealer is buying at a better (lower) price, it has violated the trading ahead rule.
True or False: For an IPO, the sister-in-law of an RR is considered a restricted person.
True
May a retired RR continue to collect commissions?
Yes, on existing assets if a written contract with her former employer exists.
What is the criminal penalty for insider trading by corporations?
$25 million per violation
____________________ is the insertion of a third party between a customer and the best market price.
Interpositioning
May a market maker acting as an underwriter for the issuer continue to make a market in the issuer’s securities?
Yes
True or False: Electronic records must be searchable.
True
A BD receives a large buy order from a client. When may the BD execute a trade for the same stock in its own account?
After the client’s trade is reported on the Tape
Define trading ahead.
Buying or selling securities just before the release of a research report by the firm’s research department
If an insider trading violation occurs within a brokerage firm, what parties may be held liable?
The tipper, tippee, supervisor, and BD may be liable.
Define front running.
A firm/individual executing trades for its own account with knowledge of an impending large block customer order.
True or False: Registered representatives are prohibited from guaranteeing profits or reimbursing customers for losses.
True
True or False: If churning in a client’s account generates large profits, it is not considered a violation.
False
A BD is ready to issue a favorable research report. What must exist for the BD to continue regular trading operations?
Effective information barriers must be in place.
Define churning.
Excessive trading in a customer’s account for the primary purpose of generating commissions and other fees
To comply with the Best Execution Rule, is a BD always required to obtain the best market price available for clients?
No. However, BDs are required to use reasonable diligence to obtain the best price possible.
Is it a violation for a BD to buy ABC calls for itself before executing a buy order it is holding from an institution?
Yes. The violation is referred to as front-running.
True or False: Executing firms must send confirms to employing broker-dealers for every trade their employees execute.
False. Duplicate trade confirms are only required to be sent if requested.
True or False: A broker-dealer that buys stock at $40 has traded ahead of a client who placed a buy limit order at $35.
False. Since the broker-dealer is buying at a higher (worse) price, no violation has occurred.
True or False: Retired representatives can continue to receive commissions after they leave their broker-dealer.
True. However, they can only receive commissions based on investments that were made while they were working.
According to the Equity IPO Rule, firms must update the eligibility of purchasers ___________ .
Annually
The SEC can grant bounties of up to __% of the penalty for information in connection with insider trading violations.
30%
Trading on material, non-public information is considered ________ ________.
Insider trading
“For insider trading violations, the SEC can sue for treble damages.” What does that statement mean?
The SEC can sue for three times the damage (profit made or loss avoided).
Besides BDs and their employees, who else is restricted from purchasing equity IPOs?
An employee’s immediate family if materially supported by, or sharing household with, the employee
A corporate officer informs his son of an upcoming earnings report and the son effects trades. Is this a violation?
Yes. Both parties, the tipper (officer) and the tippee (the son), have violated the Insider Trading Act.
Can a market maker have a quote displayed on different exchanges for the same stock?
Yes; however, the broker-dealer must have the same price on both markets.
May an RR and a client share in an account?
Yes, with firm approval and provided the sharing in gains and losses is proportionate to their investment.
Under what circumstances can a RR borrow or lend money to a customer with approval?
1) Both people are registered at the same firm, 2) a personal relationship exists, or 3) a business relationship exists
What should a broker-dealer do if it believes that a client’s account has been financially exploited?
Place a hold on withdrawals. An important note is that it cannot halt securities transactions.
What is the purpose of an information barrier between trading and research departments?
To prevent the trading department from learning of an impending report about a stock in which the firm has a position
True or False: According to the Insider Trading Act, both the tipper and tippee may be held liable for a violation.
True
True or False: A broker-dealer may pay a commission to an unregistered individual.
False
A BD is ready to issue a favorable research report. Information barriers must exist between what two departments?
Trading and research
What does the Best Execution Rule require a member firm to do?
Use reasonable diligence to obtain the best price possible for a client
True or False: Employees of FINRA member firms must obtain employer permission to open accounts for buying mutual funds.
False. If an account is limited to mutual funds, 529 plans, or variable annuities, permission is not required.
Define free-riding.
Buying shares without a cash deposit, then selling the shares before the payment date (i.e., before T + 4).
True or False: A restricted person may buy an equity IPO from the issuer if he’s related to an employee of the issuer.
True; however, the purchase must be from the issuer directly, not the underwriters.
At what price can underwriters stabilize a new offering?
At or below the public offering price
If a client fails to pay for a security, his account may be frozen for ____ days.
90 days
Churning is described as _____________________ designed to _____________________.
Excessive trading designed to generate commissions
What is a broker-dealer required to do if it trades ahead of a retail customer’s limit order?
Immediately (within 60 seconds) fill the customer’s buy order at the limit price or better
Under the Equity IPO Rule, who is considered to be part of an associated person’s immediate family?
Parents, siblings, spouse, children, or in-laws
Executing a series of trades at the end of the day to manipulate the price of a security is called ________________.
Marking-the-close
During the Regulation M Restricted Period, underwriters may not_______________________________________.
During the Regulation M Restricted Period, underwriters cannot purchase (bid) for the securities for their own account.
The criminal penalty for insider trading by an individual is a maximum of $_________ and/or ___ years in prison.
$5 million and/or 20 years in prison
The New Issue Rule covers what new issues?
All equity IPOs
To keep outside brokerage accounts, new employees are required to obtain their employers written consent within __ days.
30 days
Jim is an associated person. When is someone in his immediate family prohibited from buying an equity IPO?
Material support/household sharing exists, or purchase is made through his firm, or he controls IPO share allocation
An RR’s mother plans to buy equity IPO shares from a BD that does not employ the RR. Is she restricted from purchasing?
No. If she is not supported by her child and purchases from a BD that does not employ her child, she is NOT restricted.
An investor’s eligibility to purchase an equity new issue must be confirmed _______________.
Annually (called the pre-condition of sale)
A BD executes a proprietary put purchase before executing a client’s stock sale. Is this practice permitted?
No, it is considered front-running
According to FINRA’s rules on the exploitation of specified adults, what is the definition of specified adult?
Any person who is age 65 or older, as well as a person who is 18 or older and has a mental or physical impairment.
True or False: Municipal dealers can satisfy disclosure requirements by directing customers to industry sources.
False
A temporary hold will expire by no later than __ business days after the date that it was first placed on the account.
15 days
____________ is the only form of price manipulation allowed by the SEC.
Stabilization
True or False: For an IPO, the uncle of an RR is considered a restricted person
False
True or False: Portfolio managers may purchase equity IPOs for their own accounts if not excessive.
False. Portfolio managers may purchase for the fund they represent, but not for their own accounts.
True or False: Aunts and uncles are not considered immediate family under the New Issue Rule.
True
Who should a FINRA member firm contact if it believes that a client is being exploited financially?
A trusted contact person whose contact information is documented when an account is opened.
When is interpositioning acceptable?
When the member firm is able to demonstrate that the execution was advantageous to the client
What are restricted (watch) lists?
Listings of securities that employees of investment banks are restricted from trading
Is interpositioning an acceptable practice?
No, generally prohibited unless able to demonstrate execution was advantageous to the client
True or False: Every account owner needs to designated a trusted contact person.
False. However, FINRA member firms are required to make a reasonable effort to obtain it.
_____________ is the prohibited practice of a BD trading for its own account ahead of a customer’s block order.
Front-running
According to the Equity IPO Rule, member firms and their associated persons are considered ___________ persons.
Restricted
The criminal penalties for insider trading by individuals is a maximum of $____________ and/or ____ years in prison.
$5 million and/or 20 years in prison
Define pump and dump.
Spreading rumors about a stock and then selling the shares before the rumors can be verified
Due to staff shortage, BD 1 gives a client order to BD 2 to execute with extra costs passed to the client. Acceptable?
No. This is interpositioning and is not advantageous to the client.
If a member firm places a hold on the disbursement of client funds or securities, when must it provide notification?
Within 2 business days
Of what violation is an RR guilty when buying stock based on knowledge of a pending large client order?
Front running
What regulation restricts activities that could be deemed manipulative during an offering?
Regulation M
True or False: Using nonpublic information to avoid a loss would NOT be a violation of the Insider Trading Act.
False. Using inside information to make a profit or avoid a loss is prohibited.
True or False: RRs are always prohibited from sharing in a customer’s account.
False. RRs may share in a customer’s account if they have permission and sharing is proportionate to their investment.
What is interpositioning?
The placement of another BD between a customer and the best market
