Chapter 1- Federal Securities Regulations-5 Questions Flashcards
Securities Act of 1933 (Paper Act, Truth in securities act, and prospectus act)
Regulates IPOs and Subsequent Offerings (SPOs)
Full disclosure of information to the SEC in a registration statement and prospectus
Both Civil and Criminal penalties for rule violators
Definitions Begin
1. Security
2. Issuer
3 Underwriter
1. Howey Case defined an investment contract a security if it met 4 conditions: Investment of money Common enterprise of assets Expectation of profit Results solely from efforts of others
Does not include annuities, life insurance, real estate direct ownership or commodities
- Any person who issues or proposes to issue a security
- Underwriter- purchased from an issuer with view of selling, not including a brokerage firm earning a commission on a retail sale
- Person
- Prospectus
- Sale
- An individual, corporation partnership, association, joint stock company, trust, unincorporated organization, or a gov/political subdivision
- Notice, circular, letter or communication that offers sale or confirms sale of a security. Does not include oral communications or tombstone advertisements
- Contract for sale or disposition of a security, does not include gifts or negotiations
Examples of securities
Stock Bond Debenture Right/warrant Note Put, call or other option LP Certificate of interests in profit sharing
SEC Review
SEC attempts to make certain all pertinent information is present and disclosed by requiring:
The issuer file a registration statement
A prospectus be provided to those interested
Penalties be imposed
Exempt securities from the 1933 act
Any security guarenteed by the US government, state, or political sub
Commercial paper issued with less than 270 days to maturity used to increase working capital
Orgs run exclusively for religion, education, benevolent, fraternal or charitable purposes
Any interest in a railroad equipment trust
Any fed/state bank or loan association except bank holding companies
Rule 147 and the 80-80-80 rule
Exempt from the 1933 act but will have to be registered under uniform Securities act
Rule 147 securities are issued/sold in a single territory or state
The buyer must live in the state and have primary residence there
If any sale to a non resident occurs, exemption is eliminated
9 months after last sale by issuer, purchasers can begin selling shares
80% of gross revenue, 80% of proceeds and 80% of issuers assets must be in state in order to claim the exemption
No waivers may be accepted by the buyer as substitute
Exempt transaction of the 1933
Transactions by any person other than the underwriter, issued, or dealer
Transactions by an issuer that do not involve public offering like Reg D
Requirements of Securities Act of 1933
Registration of new issues distributed interstate
Full and fair disclosure about itself and offering
Issuer disclose all information necessary for issuer to judge merit
Regulation of primary and secondary issues
Criminal penalties for fraud
Registration Statement
Signed by principal executive office CEO, principal financial officer CFO, majority of board of directors
Penalties for willful omissions or misstatement of material facts
Info required: Purpose of issue POP Underwriter commission or discount Promotion expense Expected use of proceeds Balance sheet Earnings statement for past 3 years Names, addresses, bios of officers, directors, underwriters and owners (10%+) Copy of underwriting agreement Copy of article of incorp
Cooling off period
At least 20 calendar day period where SEC reviews registration statement
Deficiency letter sent back if information is misstated or missing
Stop Order may be issued if SEC suspects fraud, which requires all underwriting activity to stop
SEC may subpoena issuing corps records to determine if stop order is necessary
Red herring
Must be made available to prospective buyers who express interest from filing date to the effective date
Cannot be used as a confirmation of sale, in place of a registration statement or to declare final public offering price
Bona fide price range must be included and amount of shares
May solicit a non binding indication of interest but no orders prior to effective date
In red ink on the front page of a red herring, a company makes note that the SEC is reviewing the material, no sales can be made, and info is subject to change
Preliminary prospectus missing info
Public offering price and the effective date
Prospectus
Required to be made as a supplemental easier read in comparison to the registration statement
Must be given to Investor even if the investor has no intention to read it
Distributed no later than confirmation of sale
Rule 482 (Omitting) Prospectus (Mutual Fund ads)
Must meet following conditions:
1. Any information in the advertisement must be taken from regular prospectus
- Must state from whom a prospectus may be obtained
- Must urge reading of the prospectus before investing
- Any yield or return figures must be accompanied by disclaimer/disclosures of load
- Cannot be used to make purchases of shares
Process after effective date
Final prospectus must be delivered with trade confirmation if not before
No markings allowed
Securities are neither approved or disapproved by SEC (SEC disclaimer)
Any Ad payments must be disclosed
Sueable parties if misinformation is used in the prospectus under 1933 act
Every person who signed registration All directors of issuer Attorneys Accountants Appraisers Underwriters and Parent companies
Person is exempt if they can prove accuracy
1 year after discovery or 3 years after date of action
statute of limitations is 2 years after discovery for USA
SEC powers
The sec may:
Make, amend and rescind rules
Administer oaths
Subpoena witnesses
Seek injunctions
Turn over evidence to attorney general
Uniform Securities Act
State security law act
During the cooling off period, underwriters may take:
Indications of interest
Distribute preliminary prospectuses or
Publish tombstone advertisements to provide info about potential availability of the securities
Regulation D (Private Placement Exemption) Rule 506
Regulation D placements are exempt from registration with the SEC and state
SEC Rule 506b- May sell securities to an unlimited amount of accredited investors, up to 35 non accredited. No advetising.
506c- Advertising allowed as long as issuer reasonably believes all purchasers are accredited and takes reasonable steps to verify (tax statement, credit reports)
JOBs Act also has a bad boy provision that disallows reg d for certain issuers
Sec rule 501
Only need reasonable grounds of belief to determine an accredited investor
Accredited investors include:
1. A bank, insurance company or registered investment company
- Employee benefit plan if a bank, insurance company or registered investment adviser makes investment decisions, or if plan exceeds 5MM
- Charitable organization, corporation, or a partnership with assets exceeding 5mm in assets
- Directors, executive officers and general partners of issuer
- $1 million net worth, excluding net equity in home
- 200k or more income in past two years or 300k joint income and reasonable expectation of matching
- Entities made up of accredited investors
Dodd-Frank excluded home equity
Net worth may include a non spouse but only up to percentage ownership
Counting of non accredited investors under 506(b)
Single purchaser for any relative, spouse or relative of the spouse of a purchaser
Corporations, partnerships and other entities are one purchaser
If organized specifically for purchase then all are counted
Rule 503 regulation D
Must be filed with SEC no later than 15 days after the first sale of securities relation to a regulation D offering
Requires basic info, amount sold to date, use of proceeds, names of any persons receiving commission
Restricted Securities
Unregistered securities purchased in Private Placement and generally restricted
Must sign an investment letter showing understanding of restriction on resale
Control persons
Director, officer or 10% shareholder
Called insiders and affiliates
Control stock based on who owns it
Sec Rule 144 (Control and Restricted stock)
Allows for selling of securities in some cases without registration
Greater of:
Average weekly trade volume or 1% of outstanding shares
Allowed to do 4 a year, 90 day periods
Securities Act of 1934
Created the SEC which has power over registrations, self-regulatory orgs, transfer agents, clearing agencies
NYSE, Chicago stock exchange (CHX), Nasdaq are SROs
Largest SRO is FINRA
Companies with registered securities must periodically report
Securities and Exchange Committee SEC
5 commissioners. 1 is chair appointed by president
Does not regulate extension of credit
Commissioners are appointed for 5 years, terms are staggered so one appointed a year
No more than 3 can belong to same political party
All securities owned by commissioners are put in a blind trust and they may not have any jobs outside of this
Broker
Any person engaged in the business of effecting transactions in securities for account of others
Not including banks
Dealer
Any persons regularly buying or selling securities for own account
Banks, insurance companies, investment companies or any persons engaged in trading for own account but not for business are excluded from definition
Associated persons
Partners, officers or directors or persons directly or indirectly controlling or controlled by broker dealer including employees
Clerical workers are not included in definition
Even outside partners, officers, directors are considered associated
Market maker
Dealer who is willing to buy or sell a particular security for his own account on a continuous basis
Securities information processor
Any person engaged in business of:
Collecting, processing or preparing for distribution or publication of information in regard to transactions in non exempt securities or
Publishing on a continuing basis information on transactions
Some examples: Consolidated ticker tape OPRA (Options pricing reporting authority) SIAC (securities community auto corp) OTC Market Group
Does not include: Newspapers Any SRO Any bank or broker dealer supplying quotes/transaction info in regular business Radio/tv
Transfer Agent
Counter signs the certificates
Registers transfer of issuer securities
Exchanges or converts issuer securities
Bookkeeping of ownership record without exchanging certificates
Does not include:
Insurance companies performing duties for variable annuities
Clearing agency doing work solely for options
Exchange
An organization, association or group of persons providing a marketplace for bringing together purchasers and sellers of securities
Include marketplace and facilities
Must be registered, accepted or denied by SEC in 90 days
Must be in public interest
Able to enforce SEC and its own rules
Board of directors with at least one member representing investing public, one reping listed companies
Membership may only be offered to registered broker dealers or associated persons
SRO
National securities exchange or registered securities association
Equity secuirty
Stock or similar security
Common or preferred, convertibles, anything with a warrant or right attached, warrants and rights
Municipal security
Direct obligations of, or obligations guaranteed as to principal or interest by a state of political subdivision
Government securities
Obligation or guarenteed by us government
Includes securities issued by gov agencies
Statutory disqualification
Rejected by SRO if:
-expelled or suspended from membership by any SRO, commodities market or futures trading association
- if subject to a suspension by the SEC or a broker dealer for 12 months or less
- found to be cause of a suspension or expulsion of a broker or dealer
- associating with those listed above
- convicted in past 10 years of a securities violation or misdemeanor in finance or felony
- subject to an injunction by a court prohibiting engagement in securities business
- willful violation of any securities law
- omitting or misleading any SRO
SEC jurisdiction
No jurisdiction over banks or credit involving securities (Reg t)
Discretionary account
No need to ask for specific approval
Ability to decide: which security, number of shares, buy or sell
Discretionary if one A is missing:
Activity (buy/sell)
Amount (total amount)
Asset (Specific security)
Must have power of attorney or trading authorization
Oral grant of time/price discretion allowed without discretionary if done in a day, must be reflected on order ticket
Discretionary authority
May give discretionary power only by filing a written trade authorization or a limited power of attorney with a broker dealer
Must be identified as a discretionary trade
Must be approved by an officer or partner of a firm (does not have to be before, just prompt)
Record must be kept of transactions
No excessive trading
All trading activity must be reviewed frequently and systematically
Orders initiated by a client are unsolicited
Registrations under SEC Act of 1934
Brokers and dealers operating in interstate commerce, including those operating exchanges and in the OTC file form BD, SEC accepts or denies in 45 days
Securities exchanges (90 day accept or deny)
National security associations such as FINRA (Created by Maloney Act in 1938) or MSRB (Created by Securities Amendments Act of 1975)
Corporations- must include class of security rights, terms of offerings for past 3 years, control persons, balance sheet for past 3 fiscal years, profit/loss statement for preceding three fiscal years
Security information processors
Transfer agents
Insider transactions
People owning more than 10% of a class of equity security registered on a national exchange and officers/directors must disclose their positions to the SEC
Prohibited from selling short and engaging in short term transactions (6 months between a buy and sell)
13D filings
Under 1934 act, a report must be submitted within 10 calendar days in regards to transactions that result in 5% ownership
Requires info on origin of money, background of acquirer, purpose of acquiring
Looking to exercise control
13 f filing
Securities Act of 1934 requires institutional investment managers with a market value of $100 million (of 13f securities) for any of 12 preceding months to file a quarterly investment holding report within 45 days of quarter end
13 f securities include closed end investment companies, convertible debt, options, warrants stocks, ETFs
Does not include mutual funds
Schedule 13G filings
Hold more than 5% like schedule D but can certify that they are not holding to control company or influence control
20% plus do not apply
Must file within 10 calendar days of passing 5%
Must report changes within 45 days of year end
Section 16a
Control persons (exec officers, directors and 10%+ shareholders) must file transaction reports before end of second business day following transaction
Regulation T
Fed Reserve Board controls
Margin requirement of 50%
Mutual funds and options not allowed, new issues must wait 35 days
May use securities as collateral that have been owned for 30 days
1934 act eliminated churning, wash trades, and matched orders
Deception
1. Churning- discretionary trades excessive in size or frequency
Manipulation
2. Wash trades- executing a buy and sell order at the same time to make appearance of large trading (NOT A WASH SALE)
- Matched orders- knowing a corresponding order at the same time and price is coming
Required items on an order ticket by SEC
Two items not on ticket: Current market price and client name/address
Account number
Order solicited, non solicited or discretionary
Sale long or short
Terms and conditions of order (market or limit)
Number of shares
Time of entry and execution and I’d of accepting party
Insider Trading and Securities Fraud Enforcement Act of 1988
Insider is guilty if trading based on material nonpublic information
No charge if no trade
Guilty party could be fined by SEC greater of treble (3x gains or losses avoided) or $1MM
SEC could also pursue criminal action of up to 20 years
Person who lost money could sue for amount lost, no suit can be filed later than 5 years
Chinese wall doctrine
Information barrier between those with nonpublic info and those without it
Powers of SEC
May investigate rule violations of SROs
SEC may: administer oaths, subpoena witnesses, compel attendance, require books and records to be produced,
suspend trading for up to 10 days without notice,
suspend trading on entire exchange for 90 days (must give notice to president)
Uniform net capital rule (15c3-1)
Must maintain a minimum net capital of liquid assets
SEC does not allow operation without net liquidity
Must hold surety bonds as well
Surety bonds are in addition to the net capital required
Securities Amendment Act of 1975
Amended 1934 and 1933 act
Greater power of SEC came about
Negotiated commissions instead of fixed
Gave rise to MSRB, required munis and those trading munis to be registered with SEC
Gave power to SEC to regulate transfer agents
Investment company act of 1940
Any issuer that holds itself out as being engaged primarily in the business of investing
Must have at least 100,000 in assets
Does not include:
Broker dealers
Banks savings and loans
Insurance companies
Holding companies
Issuers whose securities are beneficially owned by no more than 100 persons
Issuers who trade in investments other than securities
Face amount certificate
Obligation to pay a fixed amount at a stated date in the future (24+months)
Cashing in before maturity will lose money
Unit investment trust
Does not have Board of directors
Issues only redeemable securities
Portfolio stays fixed until maturity
Management company
Open End- continuous offering like a mutual fund
Sold at net asset value at end of the business day minus a redemption charge
Prospectus must be delivered before or concurrent with the sale
Closed end- do not redeem their shares, sell shares at a one time public offering
Prospectus delivered only at IPO
Diversified- 75-5-10 rule
75% invested
5% max in single company within 75
10%- voting right of a company max within 75
Registration of investment companies
Must register under the 1933 act and under the investment company act of 1940
Must have net worth of at least 100,000 before offering securities
May not serve as an employee of an investment company if:
-Convicted of any felony or misdemeanor related to securities
-permanently or temporarily disallowed from acting in any phase of the securities business
SEC must grant permission either unconditionally or on appropriate temporary or other conditional basis
No more than 60% of BOD can be interested parties
Rule 12 B-1/
Allows mutual fund to act as its own distributor
Asset based sales load- direct or indirect financing of sales, advertising or activities related to distribution of shares
May not charge higher than .75%
No load if under .25%
Basically a commission to brokers selling a fund
Plan to use 12b-1 fee must- benefit the company, existing shareholders and future shareholders
Renewed by majority vote of funds directors
May be terminated by majority vote of non interested board of directors or by majority vote of shareholders
Prohibited activities of Investment companies
Investment companies may not
Purchase on margin
Participate in a joint account
Sell securities short
Acquire 3% of voting shares in another investment company
Fundamental changes in investment policy
All changes must be approved by majority of outstanding stock
- change in sub classification (open-closed, diversified-non)
- deviation from a fundamental policy in the registration statement
- changing nature of business
Investment advisor and underwriter contracts
Must describe all compensation to be paid
Approved annually by BOD or semiannually by shareholders
Allows termination by majority of either BOD or shareholders within 60 days of notice
Terms of renewal of contract must be approved by non interested BoD members in the IA or principal underwriter (at least 40%)
Underwriter or affiliated person transactions to a mutual fund
May not:
Sell securities to investment company unless it is a redemption of shares or IPO
Borrow money from fund
Knowingly purchase underlying securities
Affiliated person/control person
Any person directly or indirectly owning more than 5% of voting power
Any officer, director partner or employee of investment company
Control person if owning or controlling more than 25% of outstanding shares
Uninterested if not working for company and under 25% of shares owned
Custodian banks
Does not have to have FDIC insurance to hold investment company assets
May also use BD that is a member firm of a national securities exchange
Sales of mutual fund shares
Persons entitled to breakpoints are described as:
Anyone under 21
Legit entities purchasing for own account
Trustee purchasing for qualified employee benefit plan
Not entitled:
Investment clubs
No sales charge:
Employees, principal underwriter and adviser
Shares purchased under auto reinvest of dividends and cap gain distributions
Are investment advisers allowed to reduce fees because of commissions earned on sale of mutual fund?
IA may not rebate or reduce commissions on products offered with a stated offering price
So they may reduce their commission on top of stated market price but not below
Shareholder reports for investment companies
Semiannually receive:
Balance sheet
Income statement
Listing of amounts and values of securities owned
Statement of purchases and sales
Remuneration paid to officers and directors
Larceny and embezzlement in investment companies
Max fine of 10,000 and/or imprisonment up to 5 years
Right to appeal within 60 days
Officers and directors may be subject to civil action as well brought by SEC
Mutual fund shares return calculation
Current yield: investment income from past 12 months/ current offering price
Does not include cap gains
Total Return: includes distributions in calculation
Assumes reinvestment of dividends
Currency Transaction report
Must be filed on FinCEN for transaction over 10,000
Applies to loan payments, transfers of funds, and purchases of securities
Or wire transfers above $3,000
National Securities Markets Improvement Act of 1996
Amended 1933, 34, and investment advisers act of 1940
Created the covered adviser and covered securities
