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SIE > Chapter 8 Suitability and Prohibited Activities > Flashcards

Chapter 8 Suitability and Prohibited Activities Flashcards

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1
Q

What do you need to create a customer profile?

A
  • Adequate information is necessary
  • Know your prospect prior to making a recommendation
  • Look for suitability, not profit
  • Suitability is unique
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2
Q

What is disposable income?

A

Income after taxes

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3
Q

What is discretionary Income?

A

Income after taxes, personal necessities, and debt
[after you made all required payments]

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4
Q

Where does money come from for investment?

A

Discretionary Income

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5
Q

What are Time Horizon?

A

Time frame for investment

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6
Q

What would you recommend against inflation?

A

Stocks are protection against inflation

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7
Q

What is systematic risk?

A

P.R.I.M.E
Purchase power risk
Reinvestment Risk
Interest Rate Risk
Market Risk
Exchange Rate Risk

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8
Q

What is nonsystematic Risks?

A

lessened or eliminated through diversification
- Captial Risk
- Business Risk
- Liquidity
- Credit Risk
- Call Risk
- Taxation risk
- Regulatory Risk
- Legislative risk
- Social or political risk
- Prepayment Risk

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9
Q

What are some risk management Strategies?

A

Risk vs Reward- Risk is higher than reward
Diversification
Asset Allocation -
Portfolio Rebalancing
Hedging
Defensive vs aggressive

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10
Q

What is total risk?

A

Considers interest, dividends, and capital appreciation

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11
Q

What is risk adjusted return?

A

Measures return based ipon the amount of risk

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12
Q

What is annualized Return?

A

Measures earning per year

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13
Q

What is Inflation Adjusted Return?

A

Subtracts inflation from return based on CPI

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14
Q

What is after tax return?

A

Removes taxes rom return

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15
Q

Which return is the broadest index?

A

Wilshire Index - considered the total market index

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16
Q

Whats the narrowest index?

A

Value line

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17
Q

What does the FINRA Rule 2111 do?

A

3 suitability Measures

1) Reasonable basis Suitability
2) Customer Specific Suitability -
3) Quantitative Suitability

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18
Q

What does the FINRA Rule 2111 do?

A

3 suitability Measures

1) Reasonable basis Suitability
2) Customer Specific Suitability -
3) Quantitative Suitability

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19
Q

What must you do when you borrow money.

A

Must notify the firm and get written approval

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20
Q

What is commingling?

A

Customer funds and securities must always be segregated from the RR or firm accounts

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21
Q

Wash Trade
Matched Sales
Painting the Tape

A

makes an attempt to make it look like theres activity

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22
Q

What is spoofing?

A

Putting an order and pulling out just before.

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23
Q

What is excessive trading (CHurning/twisting)

A

Buying a lot of stock just to make commision

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24
Q

What is Freeriding?

A

Trying to make a profit before paying

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25
Q

What is backing away?

A

when the market maker backs away

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26
Q

What is front running?

A

Placing an order before the customer. Trying to purchase

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27
Q

What is pump and dump?

A

Buy a lot of stock and spread rummors to increase the value and then sell it for profit

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28
Q

What is regulation M?

A

Regards the follow on offering.
Syndicate cannot aggressively trade the subject prior to effective date

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29
Q

What must an RR do when creating a customer profile?

A

The RR should make a reasonable effort to obtain the customers financial information, prior investment experience, attitudes towards risk, and investment objectives

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30
Q

What does the FINRA KNOW YOUR CUSTOMER rule state?

A

RR and member firms must use DUE DILLIGENCE to obtain essential information to open and service the customers account, follow the customers instructions, and to comply with all laws and regulations

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31
Q

How does the RR verify if the information is correct?

A

The RR must send a copy of the customers profile or account record to the customer within 30 days of opening the account w/ next statement

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32
Q

When does an RR have to verify that all information is correct for a customers profile?

A

Every 36 months

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33
Q

Prior to making any suitable customer recommendations, a registered representative should?

A) Be well schooled in selling techniques
B) Find out the college or university they graduated from
C) Complete all required continuing educations
D) Know their customer

A

D) Know their customer

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34
Q

What information do you need when Opening a new customer account?

A
  • Age
  • Marital Status
  • Dependents
  • Employment Status
  • Income
  • Expenses
  • Disposable Income (After income tax money)
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35
Q

What is Discretionary Income?

A

Is the amount an individual income that is left for spending, investing or saving after taxes and personal necessities and debts have been paid

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36
Q

What happens when economic out put is strong in relation with Discretionary Income?

A

Discretionary income tend to be high

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37
Q

What happens when inflation hits during a strong economic output?

A

Discretionary Income will fall

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38
Q

What is the formula for Discretionary Income?

A

Total Income - expenses = Discretionary Income

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39
Q

All the following are relevant personal and financial information necessary for a registered representative to make a suitable recommendation, EXCEPT?

A) Age
B) College degree earned
C) Dependents
D) Employee Status

A

B) College Degree earned

40
Q

What are assets?

A

Assets are a resource with economic value that the client owns or controls with the expectation that they will provide a benefit

41
Q

What are liabilities?

A

Represents a clients debt or obligations and refer to any money or service that is currently owed to another party

42
Q

What are liquid assets?

A

Things that can be converted to cash quickly and easily

43
Q

How do you calculate Net Worth

A

Assets - Liabilities = Net Worth

44
Q

What is the marginal rate of taxation?

A

Its the amount paid on the last dollar earned

45
Q

If an older investor wants to invest for future generations, it is recommended that they:

A) Liquidate all assets even if penalites apply
B) Spend down all their assets while alive
C) Make investment decisions based on the beneficiary’s profile
D) Cancel any life insurance policies to save money

A

C) Make investment decisions based on the beneficiary’s profile

46
Q

What is a beta?

A

Describes the likely movement of a security compared to the market

47
Q

Who should a security with high volatility be recommended to?

A

Should only be recommended to an investor with a suitable risk tolerance level

48
Q

Who are hit the hardest during inflation?

A

Fixed-income investors are the hardest hit by inflation

49
Q

In the long term, which of the following investments is most likely to protect an investors portfolio against the effects of inflation?

A) Stocks
B) Corporate Bonds
C) Government Stocks
D) Emerging market debt securities

A

A) Stocks

50
Q

Rank the following securities from most to least aggressive based on their beta

  • ABC Investment Grade Corporate Bond Funds with a beta of .9
  • ABC Index Fund with a beta of 1.0
  • ABC Growth Fund with a beta of 1.7
A

1) ABC Growth Fund with a beta of 1.7
2) ABC Index Fund with a beta of 1.0
3) ABC Investment Grade Corporate Bond Fund with a beta of .9

  • HIGHER BETA means that the price of the security is MORE LIKELY to RISE or FALL dramatically over a SHORT TIME PERIOD
  • LOWER BETA means that a security value DOES NOT FLUCTUATE as dramatically or as frequently
51
Q

What is the investors 2 main objective when determining Risk Tolerance?

A

The two main objectives are growth and income

52
Q

What is Systematic Risks?

A

Risks that cannot be avoided or reduced through diversification

53
Q

how many kinds of systematic risks are there?

A

There are 7 kinds of systematic risks
- Market Risk
- Interest Rate Risk
- Reinvestment Risk
- Inflation
- Currency (Exchange Risk)

54
Q

What are Nonsystematic Risk>

A

Risks associated witha a specific security, company, or industry, not the return of the overall market. These risks can be lessened by diversification

55
Q

What kinds of nonsytematic risks are there?

A

Prepayment (Loans being paid off early)
Capital Risk (Risk of loosing all capital )
Business Risk (Business fails)
Liquidity Risk (When the value of something falls)
Credit Risk (Pay back the interest to its creditors)
Taxation Risk (When tax law changes that affects the security negatively)
Legislative Risk (Law change that affects a business negatively)
Social or Political Risk (Political changes, social events, or instability affects investments returns)
Call Risk (Company offer new security at a lower Yield)

56
Q

An investor purchases 1,000 shares of XYZ stock. What risk does this investor face?

A) Regulatory risk
B) Call Risk
C) Political Risk
D) Business Risk

A

D) Business Risk

57
Q

The possibility that an issuer will be unable to pay back the interest and/or principal due to its creditors is known as what type of risk?

A) Interest Rate
B) Inflation
C) Reinvestment
D) Credit

A

D) Credit Risk

58
Q

What investment has Currency, politcal, and social risks?

A

ADR

59
Q

What risks does municipal bonds have?

A

Taxability, interest rate, purchasing power, reinvestment, and liquidity

60
Q

What type of investment has Reinvestment and interest Rate, no purchasing power risk?

A

TIPS

61
Q

What kind of risks are associated with T-bonds?

A

Purchasing power, reinvestment, and interest rate risk, no default risk

62
Q

What risks are involved with STRIPS?

A

Interest rate and purchasing power risks, no reinvestment risk

63
Q

What are large Cap stocks?

A

Market capitilization of $10 billion and higher

64
Q

What are mid Cap stocks?

A

Market capitalization of 2 billion and 10 billion

65
Q

What are small cap stocks?

A

Market capitalization of 2 billion or lower

66
Q

What is a growth Stock?

A

Its a fast growing stock

67
Q

Whats a value stock?

A

A value stock is one that is purchased below its potential value

68
Q

Which of the following statements about diversification is true?

A) It prevents portfolio losess
B) It cannot guarantee a profit or prevent loss
C)It guarantees portfolio profits
D) It addresses systematic Risks

A

B) It cannot guarantee a profit or prevent a loss

69
Q

What is Portfolio Rebalancing?

A

Its to make sure it stays in line with the inventors risk profile and investment objectives

70
Q

What is sector rotation?

A

The advisor moves from different asset classes based on the business cycle

71
Q

What is Hedging>

A

Is a method used to reduce systematic risk. It is to protect investors from market decline

72
Q

What is defensive Investment Strategy?

A

Portfolio allocation aimed at minimizing loss of principal for investors seeking capital preservation

73
Q

What is an aggressive Investment Strategy?

A

Attempts to achieve maximum return primarily through capital appreciation

74
Q

What type security would you recommend for an Income Strategy?

A

CMOs, REITs, Preferred stock, Bonds

75
Q

What type of security would you recommend for a Capital Appreciation strategy?

A

ADRs, Common Stock, ETFs

76
Q

What type of securities would you recommend for Capital Preservation?

A

Commercial paper, Bankers acceptance, T-notes and bonds

77
Q

What is the total return equation?

A

Divide the total gains by the initial outlay of funds

78
Q

What is the holding period return?

A

Is the return on investment or portfolio over the period the investment is held

79
Q

What is annualized return?

A

Demonstrates how much money a security earned each year for a specific period

80
Q

What is risk Adjusted Return?

A

The risk adjusted return measures the security’s return based on the amount of risk

81
Q

What is the Inflation Adjusted Return?

A

Subtracts the inflation rate from the return

82
Q

What is the Risk- Free Rate

A

A return where you assume there are no losses and is extremely safe

83
Q

What is active return?

A

The amount above average return

84
Q

What are the three main suitability obligations?

A
  • Reasonable basis Suitability
  • Customer Specific Suitability
  • Quantitative Suitability
85
Q

Under FINRA Rule 2111, which of the following is not one of the 3 suitability obligations?

A) Qualitative
B) Quantitative
C) Reasonable basis
D) Customer Specific

A

A) Qualitative

86
Q

All the following are considered fraudulent activity, except:

A) Fictious accounts
B) Misuse of cutomers funds or securities
C) Unauthorized transactions
D) Unsolicited trading

A

D) Unsolicited trading

87
Q

What does FINRA Rule 2165 do?

A

It was created to protect senior citizens from abusive and manipulative actions of investment professionals.

88
Q

What is a Wash Trade?

A

Simultaneous purchase and sale of the same security. Gives the appearance of active trading.

89
Q

What is painting the tape?

A

Manipulative trading involving a series of purchases, or sales, rather than paired buys and sells with the intent to give the false appearance of a trend in a stock price and lure other investors into the same trading activity

90
Q

What is freeriding?

A

When a customer attempts to profit on and then sell those same securities before paying for them

91
Q

What is Front Running?

A

Occurs when a broker dealer or registered representative trades ahead of a large customer order that may affect the price of the security

92
Q

What is Regulation M Rules 100-105 for?

A

prohibits the syndicate members in a follow on offering from aggressively trading the subject security in the secondary market and has placed time restrictions on thinly traded securities to only allow trading after the effective date

93
Q

How are market makers compensated.

A

They are only compensated through the spread

94
Q

What is Pump and Dump?

A

Purchase a bunch of stocks and then spread market rumors to raise the value of the stock. Once value has gone up the investor will try to sell the stock for profit

95
Q

Which of the following activities by an agent does not constitute market manipulation?

A) Providing false market quotations
B) Creating the impression that a security is actively trading
C) Recommending an investment without considering the clients risk tolerance
D) Front Running

A

C) Recommending an investment without considering the clients risk tolerance

96
Q

What are the civil penalties for insider trading?

A

The greater of 300% of the profit gained or the loss avoided

SIE (12 decks)

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