Final Exam 5

Question 1

Under the Uniform Securities Act, which of the following would be considered an investment adviser?
QID: 1507057Mark For Review
A
The publisher of a periodical that has general circulation
B
An accountant who provides occasional advice as part of his practice
C
A savings institution
D
A person who receives compensation for providing investment advice related to bank stock prices

Answer 1

A person who receives compensation for providing investment advice related to bank stock prices

Question 2

Under the Uniform Securities Act, all the following are considered to meet the definition of agent, EXCEPT:
A sales representative of a broker-dealer who sells only securities that are covered under a federal exemption
An assistant to a sales agent who accepts orders when the agent is unavailable
A subsidiary of a bank that is registered as a broker-dealer and sells non-exempt securities to the public
A broker-dealer that sells only exempt securities within the state
QID: 1507040Mark For Review
A
I and II only
B
I and IV only
C
II and IV only
D
III and IV only

Answer 2

III and IV only

Question 3

An equity-indexed annuity is a type of:
QID: 1507497Mark For Review
A
Variable annuity that tracks the S&P 500 Index
B
Variable annuity that tracks the DJIA
C
Fixed annuity that tracks the performance of a designated mutual fund
D
Fixed annuity that offers the potential for greater returns

Answer 3

Fixed annuity that offers the potential for greater returns

An equity-indexed annuity is a type of fixed (non-variable) annuity; therefore, SEC registration is not required for these contracts. The owner receives a guaranteed minimum rate of return, but has significant upside potential since the annuity’s return is tied to a benchmark index (e.g., the S&P 500 Index. If the index underperforms, the investor will simply receive the minimum rate. On the other hand, if the index performs well, the investor will receive the indexed return based on contractual provisions.

Question 4

All of the following are characteristics of forward contracts, EXCEPT:
QID: 1507271Mark For Review
A
Delivery and settlement of the contracts occurs immediately
B
The contracts are negotiated off of an exchange
C
The contracts cannot be offset
D
The amount and type of the delivered commodity are negotiable

Answer 4

Delivery and settlement of the contracts occurs immediately

A forward contract is an agreement to buy and sell commodities at a future time and place. Forwards are over-the-counter contracts that will be negotiated off of a futures exchange. All aspects of the contract are negotiated between the buyer and seller, including the price, type of commodity, and amount, as well as the time and place of delivery.

Question 5

Which of the following is NOT TRUE regarding the characteristics of a real estate investment trust (REIT)?
At least 90% of the income from a REIT must be derived from investing in real property
At least 75% of the income from a REIT must be distributed to investors each year
Any investment losses from a REIT are not passed through to investors
If sold to the public, the shares of a REIT must be registered with the SEC
QID: 1507051Mark For Review
A
I only
B
I and II only
C
II and III only
D
III and IV only

Answer 5

I and II only

Question 6

If a wealthy client dies, what should the client’s investment adviser do?
QID: 1507524Mark For Review
A
Find out if the estate is taxable and the amount due
B
Make a liquidity determination
C
Determine the investment objectives of the beneficiaries
D
Identify the beneficiaries

Answer 6

Identify the beneficiaries

When a client dies, an investment adviser should identify the beneficiaries of the estate. Once the beneficiaries have been identified, the adviser should then gather information so that it’s able to provide suitable advice.

Question 7

According to the NASAA Recordkeeping Requirements for Investment Adviser Model Rule, an IA is required to maintain a record of the names and addresses of any person to whom it has sent any notice, circular, advertisement, offering, report or publication if the number of persons is:
QID: 1507275Mark For Review
A   
10 or fewer
B   
10 or more
C
More than 10
D
Less than 10

Answer 7

10 or fewer

An investment adviser is required to maintain a record of the names and addresses of any person to whom it has sent any notice, circular, advertisement, offering, report or publication if the number of persons is 10 or fewer. Therefore, if an IA distributes communication to more than 10 persons, it is not required to maintain a record of names and addresses of the persons to whom it was sent. The belief is that it may be too burdensome for an IA to maintain an extensive list of the names and addresses if the communication is sent to more than 10 persons. As a reminder, any communication that is sent to two or more persons is considered advertising.

Question 8

Which of the following is NOT TRUE regarding a viatical settlement contract?
QID: 1507504Mark For Review
A
The rate of return cannot be determined before the insured dies
B
The inability to accurately calculate the actual life expectancy of the insured
C
An investment in a viatical settlement contract is considered to be liquid
D
If the insured lives longer than expected, the investor is required to pay the premiums to keep the policy in force

Answer 8

An investment in a viatical settlement contract is considered to be liquid

With a viatical settlement contract, if the insured lives beyond life expectancy, the investor is required to continue to pay the insurance premiums. Since the death of the insured is ultimately unpredictable, the future financial commitment is unknown. A viatical settlement contract is not a liquid investment as there is not a secondary market for such investments.

Question 9

An agent of a broker-dealer publishes a Web page that discusses the benefits of dollar cost averaging and why investors should invest with long-term goals in mind. If a customer in a state where the agent is not registered explores the Web site, which TWO of the following legends must be on the Web site in order to take advantage of the safe harbor rule and not register in the state?
The agent will only conduct business in the state if registered or exempted.
Follow-ups will only be handled by agents who are registered or exempt.
Internet advertising is exempt from state regulation and subject to SEC review.
The rule number of the safe harbor is being disclosed.
QID: 1507508Mark For Review
A
I and II
B
I and IV
C
II and III
D
III and IV

Answer 9

I and II

Question 10

All of the following are found on a customer's confirmation statement for a bond, EXCEPT:
QID: 1507516Mark For Review
A
The date of the transaction
B   
Whether the bond is callable
C
The bond's purchase price
D   
The bond's yield-to-maturity at the time it was originally issued

Answer 10

The bond’s yield-to-maturity at the time it was originally issued

Customer confirmation statements for bonds must include the investor’s purchase price, the date of the transaction, whether the bond is callable, and the investor’s yield-to-maturity. Please note that the bond’s yield-to-maturity at the time it was originally issued is irrelevant and is not required to be included on the confirmation statement.

Question 11

An investment adviser representative acts as portfolio manager for her advisory firm’s retirement fund. In addition, she acts as portfolio manager for two other pension funds that are clients of her firm. She has an opportunity to purchase a small amount of a new issue suitable for her firm’s pension fund, as well as the clients’ pension funds. Under what circumstances may she place the stock in her own firm’s pension account rather than her clients’ accounts?
QID: 1507264Mark For Review
A
If she discloses this transaction to her clients
B
If her advisory firm’s ADV Part 2 states that this might happen
C
If the number of shares involved is an insubstantial amount as defined under FINRA rules
D
Under no circumstances

Answer 11

Under no circumstances

While there are many circumstances in which a conflict of interest can be handled by disclosing it to clients, some conflicts are so serious that disclosure does not cure them. This is an example of such a situation. The SEC has sanctioned investment advisers severely for these types of allocations.

Question 12

A client has his portfolio invested in a number of different equity securities in the energy, manufacturing, and technology sectors. His investment adviser representative wants to help him reduce his systematic risk. Which of the following types of securities would the IAR most likely discuss with the client?
QID: 1507048Mark For Review
A
Securities which have a positive correlation with the securities that are currently in his portfolio, such as debt instruments.
B
Securities which have a negative correlation with the securities that are currently in his portfolio, such as S&P 500 Index Exchange-Traded Funds.
C
Securities which have a negative correlation with the securities that are currently in his portfolio, such as debt instruments.
D
Securities which have a positive correlation with the securities that are currently in his portfolio, such as S&P 500 Exchange-Traded Funds.

Answer 12

Securities which have a negative correlation with the securities that are currently in his portfolio, such as debt instruments.

In order to minimize systematic (market) risk, the Modern Portfolio Theory states that an investor should have different asset classes in his portfolio that have a negative correlation. When securities are negatively correlated, their prices have a tendency to move in opposite directions, such as the movement of common stocks relative to debt instruments.

Question 13

Under the Uniform Securities Act, the sale of limited partnership interests to a bank is exempt from:
The antifraud provisions
The registration requirements
The filing requirement for advertisements
QID: 1507046Mark For Review
A
I only
B   
II only
C   
II and III only
D
I, II, and III

Answer 13

II and III only

Any sale of securities to an institution (e.g., a bank) is considered an exempt transaction under the USA. This exempts the securities from registration and any related advertising from being filed with the Administrator. However, no person, security, or transaction is exempt from the antifraud provisions of the Uniform Securities Act.

Question 14

The plan documents of a qualified retirement plan require that the investment manager purchase securities issued by the plan’s sponsor. These are securities that a prudent investor clearly would not purchase. What is the only course of action that the investment adviser may take in order to avoid violating the fiduciary responsibility provisions of ERISA?
QID: 1507289Mark For Review
A
Purchase the securities
B
Purchase only a small amount of the securities
C
Refuse to purchase the securities
D
Appeal to the Department of Labor for an individual exemption from the prohibited transaction rules

Answer 14

Refuse to purchase the securities

ERISA states that a fiduciary must follow the terms of the plan documents unless these documents are inconsistent with ERISA. In this case, purchasing these securities would violate the prudent expert standard of ERISA. Thus, the plan documents are in conflict with ERISA and the investment adviser should not follow them. An adviser that did purchase the securities could be held liable for violating a fiduciary duty.

Question 15

The Administrator may require the filing of advertisements related to which of the following securities?
QID: 1507505Mark For Review
A
An oil lease certificate of interest
B
Common stock offered to existing shareholders
C
An insurance company’s guaranteed investment contract
D
Mutual fund shares

Answer 15

An oil lease certificate of interest

A certificate of interest is a security regulated by the Administrator along with its advertising. Advertisements sent to existing stockholders, as well as those related to investments issued by an insurance company, are exempt from filing. Also, mutual fund advertising is regulated by FINRA, not by a state Administrator.

Question 16

Mr. Smith holds a portfolio of blue-chip stocks that have appreciated in value. To generate additional current income from his holdings, Mr. Smith would:
QID: 1507039Mark For Review
A   
Write covered puts
B   
Write covered calls
C
Buy puts
D
Buy calls

Answer 16

Write covered calls

By selling (writing) options, Mr. Smith would receive the option premiums, thus generating income. Since he currently owns a portfolio of stocks, he would write calls covered by the long stock in the portfolio.

Question 17

An investment adviser’s client base is limited to insurance companies. If the adviser has its only office in State A, with whom must it register?
QID: 1507274Mark For Review
A
With the SEC under the Investment Advisers Act of 1940 and with State A using the coordination method under the Uniform Securities Act
B
With the SEC under the Investment Advisers Act of 1940 and notice file with State A
C
With the SEC under the Investment Advisers Act of 1940 only
D
With State A under the Uniform Securities Act, but not with the SEC under the Investment Advisers Act of 1940

Answer 17

With State A under the Uniform Securities Act, but not with the SEC under the Investment Advisers Act of 1940

In this example, since the investment adviser is dealing exclusively with insurance companies, it is exempt from registration under the Investment Advisers Act of 1940. However, the IA would likely be required to register in State A because it has an office there.

Question 18

As it relates to viatical investments, which of the following is NOT required to register under the USA?
QID: 1507033Mark For Review
A   
The insured
B   
The viatical investment
C
The broker-dealer that offers the investment
D
The agents who sells the investment

Answer 18

The insured

Viatical investments are considered securities and must be registered in the states in which they are sold. Also, the broker-dealers and agents who sell them must be registered in these states.

Question 19

A portfolio has an alpha of 0%, a beta of 1.0, and an actual return of 12%. What would the alpha of the portfolio be if the beta was 0.9 and the actual return was 10.6%?
QID: 1507288Mark For Review
A   
1.40%
B
-1.40%
C
0.00%
D   
-0.20%

Answer 19

-0.20%

Alpha is the difference between the portfolio’s actual return (which is given) and expected return. The expected return can be determined by using the Capital Asset Pricing Model (CAPM). Since this question doesn’t provide a risk-free rate, the calculation of expected return is simply beta multiplied by the market return (Expected Return = Beta x Market Return). The first step is to find the return on the market. Since the portfolio has an alpha of 0%, the actual rate of return on the portfolio is equal to the expected rate of return (i.e., 0% Alpha = Actual Return of 12% - Expected Return). If a portfolio has a beta of 1.0, its expected return will be the same as the market return (i.e., Expected Return of 12% = Beta of 1.0 x Market Return). In summary, if alpha is 0% and beta is 1.0, the portfolio’s actual rate of return is the same as the market return, which is 12%. Using the market return of 12%, the expected return can be determined if the beta changes to 0.9. The expected return is 10.8% (Beta of 0.9 x Market Return of 12%. Therefore, the alpha can then be calculated by taking the actual return on the portfolio minus the expected return (actual return of 10.6% - expected return of 10.8% = -0.2% alpha).

Question 20

Paul and Todd are starting their own business. They are trying to decide whether to organize this new business as a partnership or an S Corporation. What are some of the advantages of an S Corporation compared to a partnership?
QID: 1507518Mark For Review
A   
Favorable tax treatment
B   
Limited liability
C
More transparency
D
Fewer start-up costs

Answer 20

Limited liability

In a partnership, the general partners are liable for the partnership’s debts. (Limited partners are not liable; however, there’s no indication in the question stem that either Paul or Todd is a limited partner.) In an S Corporation, the owners are not liable for any of the company’s debts. Instead, they have only limited liability. Both the S Corporation and LP are pass-through entities and receive favorable federal tax treatment. For these entities, all losses and profits are passed through to the owners.

Question 21

If TopJob Advisers has limited discretionary authority over client funds, it is required to:
QID: 1507268Mark For Review
A
Prepare a balance sheet and file it with the Administrator
B
Prepare a balance sheet that is audited by an independent CPA and file it with the Administrator
C
Prepare a balance sheet only if the majority of the firm’s clients are qualified pension plans
D
Prepare an audited balance sheet and provide its books and records to be spot checked by the Administrator, but only if 72 hours’ advance notice is provided

Answer 21

Prepare a balance sheet and file it with the Administrator

If a registered investment adviser has discretionary authority over client funds or securities, it is required to file a balance sheet; however, the balance sheet is not required to be audited. An audited balance sheet is required to be created and filed if an adviser has custody or full discretion.

Question 22

A limited partnership sells an asset for a capital gain in the current year; however, the gain is distributed to the partners in the following year. What is the tax consequence of the gain?
QID: 1507512Mark For Review
A
As ordinary income in the year it is distributed to the partners
B
As a capital gain in the year it is realized by the partnership
C
As ordinary income in the year it is distributed to the partnership
D
As passive income the year realized by the partnership

Answer 22

As a capital gain in the year it is realized by the partnership

The key to this question is to recognize that there is only one answer that recognizes the result as a capital gain. Any capital gains that are realized by the partnership are taxed to the partners in the year in which the gain is incurred, not when the distribution is made to the partners. When a partnership generates income, a tax liability is created for the partners in the year in which it is generated. All sources of partnership income are reported to the partners on Schedule K-1. Capital gains can be classified as either short-term or long-term.

Question 23

All of the following statements are NOT TRUE, EXCEPT:
QID: 1507499Mark For Review
A
Variable life, as with universal life, gives the policyholder the flexibility to change the death benefit and the premium payments
B
Universal life, as with variable life, gives the policyholder flexibility in changing how the cash value is invested
C
Variable life, as with whole life, has fixed premiums and a fixed death benefit
D
Variable life, as with whole life, has fixed premiums paid at fixed intervals

Answer 23

Variable life, as with whole life, has fixed premiums paid at fixed intervals

While universal life allows the policy owner to change the premiums and/or the death benefit, variable life has fixed premiums and a fixed minimum death benefit. The actual death benefit on a variable life policy is not changed by a decision of the policyholder but, instead, as a result of growth in the subaccounts. Universal life has a minimum interest rate and an actual rate that could be higher, but it is determined by the insurance company, not the policyholder. Variable life and whole life are the same in having fixed premiums paid at fixed intervals.

Question 24

Which of the following statements is TRUE concerning a federal covered security?
QID: 1507054Mark For Review
A
The Administrator may require the issuer to pay a filing fee
B
The Administrator may subject the issuer to a state review
C
The Administrator may not require the issuer to file a consent to service of process
D
The Administrator may not bring enforcement action if fraud is involved

Answer 24

The Administrator may require the issuer to pay a filing fee

The Uniform Securities Act sets limits on the powers of the Administrator concerning federal covered securities. The Administrator may require: the payment of a filing fee, the filing of a consent to service of process, the filing of certain documentation previously filed with the SEC. The Administrator may bring enforcement action if fraud or deceit is used in the sale of a security. The Administrator may not subject the issuer to a state review. This occurs when a state has the authority to allow or disallow a security to be offered in a state and is sometimes referred to as a merit review.

Question 25

Under the Uniform Securities Act, which of the following statements are NOT TRUE concerning an Administrator taking disciplinary action against a person?
There must be written findings of fact and conclusions of law.
The Administrator may take action against a person with or without the opportunity for a hearing.
The Administrator does not need to provide the person with prior written notice.
The Administrator’s order may be appealed if the person files a petition in court within 90 days.
QID: 1507280Mark For Review
A
I and IV only
B
II and III only
C
II, III, and IV only
D
I, II, III, and IV

Answer 25

II, III, and IV only

The Administrator must provide a person with prior written notice, an opportunity for a hearing, and written findings of fact and conclusions of law when taking disciplinary action against a person. The Administrator’s order may be appealed if the person files a petition in state court within 60 days.

Question 26

According to modern views about investing, fiduciaries should be most concerned about which of the following objectives when making investment decisions?
QID: 1507273Mark For Review
A
Developing an investment policy that accords with the client’s goals and risk tolerance
B
Developing a properly diversified portfolio consisting of securities that will minimize the risk exposure to clients
C
Ensuring that the client’s capital is preserved for heirs
D
Making certain that the client avoids the purchase of non-investment-grade debt instruments and equities that are nonlisted, non-Nasdaq issues

Answer 26

Developing an investment policy that accords with the client’s goals and risk tolerance

Modern views of fiduciary responsibility in investing place less emphasis on preservation of capital and more emphasis on risk management (not complete avoidance), appropriate diversification, and development of an investment policy that is consistent with client goals. Fiduciaries are no longer limited to investing in certain classes of assets as they were under the legal list approach.

Question 27

Which of the following is a disadvantage of a non-qualified deferred compensation plan?
QID: 1507045Mark For Review
A
Employees are guaranteed an above market return.
B
Plan benefits are not taxed until the employee receives them.
C
Plans don’t impose contribution limits.
D
Deferred compensation is not deductible to the employer.

Answer 27

Deferred compensation is not deductible to the employer.

Non-qualified deferred compensation plans allow employees to wait to receive a part of their compensation (e.g., salary, bonus, etc.) in the current year. The employee is not required to pay taxes on their deferred income immediately; instead, they pay taxes when they’re paid, often in retirement (i.e., the income is tax-deferred). Unlike the employer match in a qualified plan, employers are not permitted to deduct the deferred income. Deferred compensation plans can offer employees a rate of return, but it’s set by the employer and there’s no guarantee that it will be above the market return. Unlike qualified plans, non-qualified deferred compensation plans don’t impose dollar limits for permitted employees to save more for their retirement.

Question 28

Who pays the income taxes in a revocable trust?
QID: 1507277Mark For Review
A   
Grantor
B
Trustee
C
Trust
D
Beneficiary

Answer 28

Grantor

Question 29

All of the following are characteristics of futures contracts, EXCEPT:
Most of the contract’s terms are set by the buyer and the seller
The amount of the commodity being traded is standardized
Prices are negotiated between the buyer and the seller
The buyer of a futures contract cannot be forced to take delivery
QID: 1507055Mark For Review
A
I only
B
I and II only
C
II and III only
D
I and IV only

Answer 29

I and IV only

A futures contract is an agreement to buy or sell a specific amount of a commodity or financial instrument. Most of the contract’s terms, such as the size of the contract, the point of delivery, the delivery month, and the grade of the underlying security or commodity are set by the exchange on which it trades. Although futures contracts may be offset, they differ from options because the buyer of futures contract may be forced to take delivery.

Question 30

Last year, your firm recommended an IPO to a customer. He was given a red herring at the time of the recommendation and gave you an indication of interest for an $8,000 investment. When the issue became effective, you completed the sale, but his final prospectus was lost in the mail. Over the past year, the stock has steadily declined in value. Two weeks ago, the customer called you and said he wants his money back because you sold him a new issue without benefit of a prospectus. His request is currently under review by your legal department. In the newspaper this morning, you see the customer’s obituary. How will this matter be disposed of?
QID: 1507283Mark For Review
A
The request will be canceled since the customer has passed away
B
The request will continue to be processed since a cause of action survives the death of the person making the claim
C
The request will be denied since there is no one to pay in this cause of action
D
The request will be forwarded to the state Administrator for disposition

Answer 30

The request will continue to be processed since a cause of action survives the death of the person making the claim

Question 31

Which of the following statements is NOT TRUE concerning the registration requirements of securities professionals?
QID: 1507511Mark For Review
A
Broker-dealers with no place of business in a state and a limited number of noninstitutional clients in a state must register
B
Broker-dealers with no place of business in a state who limit their agents to selling exempt securities in a state need not register
C
Investment advisers with no place of business in a state and whose only clients are institutional investors in a state need not register
D
Investment advisers with no place of business in a state and a limited number of noninstitutional clients need not register

Answer 31

Broker-dealers with no place of business in a state who limit their agents to selling exempt securities in a state need not register

There is no exemption from registration for broker-dealers that have no place of business in a state and who limit their agent’s activities to selling exempt securities. It is the securities that are exempt, not the agents selling those securities. Investment advisers that have no place of business in a state may still do business in that state without registering provided they limit their advice to institutional clients or no more than five noninstitutional clients in that state. There is no de minimis exemption for broker-dealers that have no place of business in a state and a limited number of noninstitutional clients.

Question 32

In which TWO of the following circumstances will dollar cost averaging result in an average cost per share that is always less than the average price per share?
The price of the stock has fluctuated over a given period.
A fixed number of shares is purchased regularly.
A fixed-dollar amount is invested regularly.
A constant-dollar plan is maintained.
QID: 1507513Mark For Review
A
I and II
B
I and III
C
II and III
D
III and IV

Answer 32

I and III

Question 33

Bill is an agent of a broker-dealer and, after a hearing is held, he has been found guilty of selling securities that were not properly registered. As a consequence, the Administrator may take all of the following actions, EXCEPT:
Seize Bill's personal property
Revoke Bill's registration
Bar Bill's registration
Impose a prison sentence on Bill that cannot exceed five years
QID: 1507279Mark For Review
A
I only
B
I and II only
C   
II and III only
D   
I and IV only

Answer 33

I and IV only

Question 34

According to the recordkeeping requirements for IAs, if a client trade is executed, which of the following items is NOT required to be included on the order memorandum?
QID: 1507266Mark For Review
A   
The person who recommended the transaction
B
The person who placed the order
C   
The time that the order was executed
D
The date on which the order was entered

Answer 34

The time that the order was executed

According to the NASAA Recordkeeping Requirements for Investment Advisers Model Rule, the order memoranda (order ticket) should show the terms and conditions of the order, instructions, modification, or cancellation, the person connected with the IA who recommended the transaction, and the person who placed the order.

Question 35

Quandry Financial Corporation is an investment advisory firm with three partners and ten associates. All of the partners have earned a CFP (Certified Financial Planner) designation. The associates are attending CFP classes, but have not yet earned the designation. Quandry has published an advertisement that states, “All of our partners have completed the CFP certification program.” Which of the following statements is TRUE?
QID: 1506834Mark For Review
A
This is unethical since investment advisers may not advertise their qualifications
B
This is unethical since it implies that all of the firm’s employees are CFPs, which is misleading
C
This is acceptable since the statement is literally true
D
This is acceptable since the content of adviser advertisements is not regulated

Answer 35

This is acceptable since the statement is literally true

Under NASAA’s Statement of Policy on Unethical Business Practices of Investment Advisers, it is unethical to misrepresent the qualifications of the adviser or any employee. Advisers must consider how the wording of their ads will be interpreted by the public and how it could be misleading. Since the advertisement states that the partners, not all employees, have earned their CFP certification, this is acceptable since the statement is true.

Question 36

A broker-dealer that acts as a market maker will:
QID: 1507036Mark For Review
A
Add a commission to the transaction value
B
Charge less than 10% in fees
C
Add a sales charge to the Net Asset Value
D
Charge a markup when selling or a markdown when buying

Answer 36

Charge a markup when selling or a markdown when buying

When a broker-dealer acts as a market maker, the firm does not charge a commission. Instead, a market maker either buys for or sells from its own inventory and charges a markup or a markdown. The market maker will mark up from the offer price (asked) when it sells the securities and it will mark down from the bid price when it buys the securities.