Chapter 5 - Other Managed Products Flashcards
Which of the following companies issue a fixed number of shares in their initial public offering?
I. Closed end companies
II. Open end companies
III. REITS
A) I and III only
B) I and II only
C) I, II and III
D) II and III only
Correct Answer:
A) I and III only
Answer Explanation
Closed end companies and REITS issue a fixed number of shares in their initial public offering. Open end companies issue shares continually through an ongoing primary offering.
Textbook Reference
Please see textbook section 5.1.2
All of the following are characteristics of limited partners in a limited partnership EXCEPT
A) Passive role in management of the partnership
B) Right to receive a share of losses and income from the partnership
C) Limited liability
D) The right to bind the partnership into legal contracts
Correct Answer:
D) The right to bind the partnership into legal contracts
Answer Explanation
Limited partners cannot execute or bind contracts on behalf of the partnership. That role belongs to the general partner. Limited partners have limited liability in return for their passive role in managements. They receive a proportionate share in the losses and gains of the partnership based on the units they own.
Textbook Reference
Please see textbook section 5.2.3
An investment in a private equity fund
A) Is not subject to registration and disclosure requirements under the Securities Act of 1933
B) Is most likely owned by accredited and institutional investors and not retail investors
C) Is highly liquid
D) Is considered a relatively low-risk investment
Correct Answer:
B) Is most likely owned by accredited and institutional investors and not retail investors
Answer Explanation
Private equity is subject to registration and disclosure requirements of the Securities Act of 1933. Sold to mostly accredited investors and institutional investors, it is often not accessible to retail investors because of the high dollar investment minimums, lack of liquidity, and long-term time horizons. Private equity is considered relatively high risk because of the high underperformance risk of many startup companies.
Textbook Reference
Please see textbook section 5.4.2
All of the following statements about the structure of a REIT are true EXCEPT
A) REITs must be jointly owned by a minimum of 100 persons
B) REITS must have a minimum of 90% of their total assets invested in real estate
C) REITS must have transferable interests
D) REITS must be set up as a corporation
Correct Answer:
B) REITs must have a minimum of 90% of their total assets invested in real estate
Answer Explanation
REITS are required to have a minimum of 75% of their asset invested in real estate and must derive at least 75% of their gross income from rents or mortgages. Except q
Textbook Reference
Please see textbook section 5.1.1
All of the following statements about hedge fund investments are true EXCEPT
A) They usually employ a high degree of leverage to magnify returns
B) They have highly aggressive trading strategies
C) They are inappropriate for most retail investors
D) If a hedge fund goes bankrupt the investors have the potential to lose more than their investment
Correct Answer:
D) If a hedge fund goes bankrupt the investors have the potential to lose more than their investment
Answer Explanation
The legal structure of a hedge fund protects investors from losing more than their investment in the event of bankruptcy. They are typically established as limited partnerships or limited liability companies or offshore corporations.
Textbook Reference
Please see textbook section 5.3
A hedge fund that does not disclose the investments it will make, giving full authority to the fund manager, is called a
A) Discretionary pool
B) Self-directed
C) Blind pool
D) Blank check fund
Correct Answer:
C) Blind pool
Answer Explanation
A blind pool hedge fund permits the fund manager to make the determination of how assets will be invested. The investments that will be made are not disclosed.
Textbook Reference
Please see textbook section 5.3.2
Hedge funds are best suited for sophisticated and institutional investors for all of the following reasons EXCEPT
A) Their investment strategies are narrowly defined and highly complex
B) They often require minimum investments of $100,000 or more
C) They may have long periods of illiquidity
D) There is often a lack of transparency into their trading practices
Correct Answer:
A) Their investment strategies are narrowly defined and highly complex
Answer Explanation
The investment strategies of hedge funds are typically not narrowly defined. Instead the fund managers are given a broad range of authority to invest in numerous types of assets and employ complex trading strategies and high degrees of leverage to magnify returns. These factors limit their suitability for typical investors. Hedge funds are generally appropriate for sophisticated and institutional investors that are qualified to understand these risks.
Textbook Reference
Please see textbook section 5.3.4
REITs are required to distribute what percentage of their net income to shareholders?
A) 0.75
B) 1
C) 0.5
D) 0.9
Correct Answer:
D) 0.9
Answer Explanation
To qualify as a REIT, a U.S. company must distribute at least 90% of its net income to shareholders as dividends.
Textbook Reference
Please see textbook section 5.1.1
A limited partner may be liable for which of the following?
I. Lawsuits against the limited partnership
II. A share of recourse debt
III. Losses of invested principal
IV. Unlimited losses of the partnerships
A) I and II
B) I and IV
C) II and III
D) III and IV
Correct Answer:
C) II and III
Answer Explanation
Limited partners may lose their invested principal and may be responsible for their share of the recourse debt of the partnership. The general partner is responsible for lawsuits against the partnership and unlimited losses of the partnership.
Textbook Reference
Please see textbook section 5.2.3
An exchange-traded note is a combination of which two of the following?
I. a bond
II. a pool of commodities
III. a derivative
IV. a pool of real estate
A) III and IV
B) II and III
C) I and III
D) II and IV
Correct Answer:
C) I and III
Answer Explanation
An ETN combines a bond for the protection of principal with a derivative to boost returns.
Textbook Reference
A share of a REIT has a current NAV of $10.00. The NAV is
I. The per share market value of the company’s assets as of the date of the initial public offering
II. The per share measure of the market value of the company’s net assets
III. The price investors will receive when they sell REIT shares
IV. Not necessarily the price investors will receive when they sell REIT shares
A) II and III
B) I and IV
C) II and IV
D) I and III
Correct Answer:
C) II and IV
Answer Explanation
The NAV of a REIT is the per share measure of the market value of the company’s assets. Shares trade on exchanges at a discount or premium based on market supply and demand. Investors will receive the market value when shares are sold.
Textbook Reference
Please see textbook section 5.1.2
With regard to investment options and management of LGIPs, all of the following statements are true EXCEPT
A) Stable value LGIPs strive to maintain a constant net asset value per share of $1.00.
B) LGIP investment managers are often paid from a fee based on the assets under management
C) Full liquidity and return of principal is guaranteed to investors in LGIP securities
D) Some LGIPs invest in longer term securities to provide investment growth potential
Correct Answer:
C) Full liquidity and return of principal is guaranteed to investors in LGIP securities
Answer Explanation
As with mutual fund and other equity investments, there is no guarantee that LGIPs will be fully liquid or will not suffer loss of principal. There are stable value LGIPs that strive to maintain a net asset value of $1.00 per share like money market mutual funds, but there is no guarantee to investors. Investment managers of LGIPs are typically paid from a fee charged based on the assets under management.
Textbook Reference
Please see textbook section 5.6.1.1
Which two of the following statements about hedge fund regulation are TRUE?
I. They are subject to the Investment Company Act of 1940
II. They are exempt from the Investment Company Act of 1940
III. Large hedge funds must usually register with the SEC
IV. They are usually exempt from the Investment Advisors Act of 1940
A) II and III
B) I and IV
C) II and IV
D) I and III
Correct Answer:
A) II and III
Answer Explanation
Hedge funds are different than most packaged products because they are exempt from the Investment Company Act of 1940 if they follow limitations on the number and types of purchasers. This allows then much greater flexibility in trading strategies and operations. The Investment Advisors Act of 1940 requires that large hedge fund advisors register with the SEC while smaller funds are registered and regulated by the states.
Textbook Reference
Please see textbook section 5.3.1
Which two of the following characteristics apply to structured products?
I. Unlimited upside potential with downside protection
II. Limited upside potential with downside protection
III. Limited liquidity
IV. High degree of liquidity
A) I and III
B) II and III
C) I and IV
D) II and IV
Correct Answer:
B) II and III
Answer Explanation
Structured products offer a limit on downside risk. The tradeoff for this protection is a limit on the upside potential. Structured products are not highly liquid. Secondary market trading is limited – they are generally held until maturity.
Textbook Reference
Please see textbook section 5.5
Equity REITS offer the potential for all of the following EXCEPT
A) Market transparency
B) Inflation hedging
C) Liquidity
D) Interest income paid on a monthly basis
Correct Answer:
D) Interest income paid on a monthly basis
Answer Explanation
Equity REITs do not produce interest income. They pay dividends to investors that represent their proportionate share of the rental income and capital appreciation earned by the portfolio. Because they trade on exchanges, they offer liquidity and transparency. Real estate is also a natural hedge against inflation, and has historically appreciated at a rate that exceeds the rate of inflation.
Textbook Reference
Please see textbook section 5.1.6
