Fundamentals & Insurance - RIAs, Elements of Financial Planning _ Behavioral Considerations _ Economic Business Cycle & Consumer Protection

Question 1

Registered Investment Advisors

Answer 1

AUM < $100M: register w/ state

AUM > $110M: register w/ SEC

AUM $100M - $110M: choice to register w/ state or SEC

Advisory contracts cannot be assigned to another advisor or firm w/out client consent.

An investment advisor knows his ABC’s! == Advice, Business, Compensation

SEC filing - must file form ADV
Withdraw SEC filing - must file form ADV-W

Question 2

Registered Investment Advisor ADV Forms

Answer 2

Form ADV - Part 1: contains the investment business, ownership, clients, employees, business practices, affiliations, and disciplinary events

Form ADV - Part 2: contains the advisor’s compensation, fees, education, investment objectives, conflicts of interest, and background of advisory personnel; must be written in plain English; must promptly update if any information becomes materially inaccurate, otherwise annually

Form ADV - Part 3: Form CRS

Question 3

Exceptions to SEC Registration

Answer 3

“TABLES are incidental!” == Teachers, Accountants, Brokers, Lawyers, and Engineers

B/D advisory services solely incidental to conducting business

Lawyers, accountants, teachers and engineers advice solely incidental to their profession

Question 4

Exemptions from Registration

Answer 4

“VIPs are SaFE from exemptions” == Venture capital, Insurance companies, Private funds less than $150M, home State, Foreign advisors, and securities not on a national Exchange

Question 5

Brochure Rule

Answer 5

Requires written disclosures to every client of the following:

• Advisory services that are provided and the fees pertaining to those services
• Types of securities that are part of investments
• Education background of advisor
• Participation/interest in securities transactions

Info must be given to client before or at the time of entering into a contract

Question 6

Accredited Investor

Answer 6

Must meet the 1, or 2,3 test!

$1M net worth

OR

$200,000 income (single)
$300,000 income (spousal joint)

Question 7

Financial Planning External Environment

Answer 7

Economic Factors = GDP, Inflation, Interest Rates

Social Factors = Customs, Beliefs, Status Symbols

Political Factors = Forms of Gov’t, Protectionism

Legal Factors = Antitrust Acts, Consumer Protection

Technological Factors = Current & New Technology

Taxation Factors = Income, Property, Payroll, Sales Tax

Shapes the way people live, work, spend, save, and think.

Question 8

3-Panel Approach Benchmarks

Answer 8

Question 9

Psychological Barriers to Successful Financial Planning Engagement

Answer 9

Stage 1: Pre-Contemplation = no intent to change

Stage 2: Contemplation = aware change is needed and considering making change, but not yet ready to take action

Stage 3: Preparation = gathering information (from a professional) in preparation to make a change

Stage 4: Action = action is taken to implement the plan, bad habits transition to healthier habits

Stage 5: Maintenance = prevention of relapse

Question 10

The 4 Money Beliefs

Answer 10

Money Avoidance

Money Worship

Money Status

Money Vigilance

Question 11

Money Avoidance

Answer 11

Money script examples
- Rich people get rich by taking advantage of others
- Good people should not care about money
- I don’t deserve a lot of money

Traits
- Try not to think about money
- Believe they don’t deserve money

Effect
- Often don’t look at financial statements
- Likely to suffer from financial denial and/or financial enabling
- Unlikely to stick to a budget

Question 12

Money Worship

Answer 12

Money script examples
- Things would get better if I had more money
- Money is power
- It’s hard to be poor and happy

Traits
- Buy things in an effort to create happiness

Effect
- Often have lower net worth and carry credit card debt
- Likely to suffer from workaholism

Question 13

Money Status

Answer 13

Money script examples
- I will not buy something unless it’s new
- You self-worth equals your net worth
- People are only as successful as the amount of money they earn

Traits
- Need to keep up the appearance of being successful

Effect
- Likely to overspend
- Prone to suffer from gambling disorder, financial dependence, and/or financial infidelity

Question 14

Money Vigilance

Answer 14

Money script examples
- Money should be saved not spent
- I would be a nervous wreck if I did not have money saved for an emergency
- It is extravagant to spend money on oneself

Traits
- Are alert and watchful in matters concerning their finances
- May have anxiety about their financial future

Effect
- Often results in good financial outcomes
- Could result in loss aversion and/or underspending

Question 15

Common Money Disorders

Answer 15

Compulsive Buying Disorder (high credit card debt)

Hoarding (often raised in poverty)

Gambling (highs and lows of winning and losing)

Workaholism (anxiety or depression; focus on career at the expense of time with family and friends)

Financial Enabling (successful parents continue to pay for children’s expenses after children could be financially independent)

Financial Dependence (fear being “cut off” from the income)

Question 16

Demand Curve (Increase)

Answer 16

Will shift due to increases or decreases in:
- Income
- Taxes
- Savings Rate
- Disposable Income

When discretionary income INCREASES, the demand curve will shift UP and to the RIGHT.

Question 17

Demand Curve (Decrease)

Answer 17

Will shift due to increases or decreases in:
- Income
- Taxes
- Savings Rate
- Disposable Income

When discretionary income DECREASES, the demand curve will shift DOWN and to the LEFT.

Question 18

Price Elasticity

Answer 18

measures the change in quantity demanded relative to changes in price
* Price (y-axis), Qty (x-axis)

Elastic = qty responds significantly to changes in price (e.g., airline tickets, movie tickets, alcohol, luxury goods)

Elastic curve is almost horizontal, sloping down and to the right

Inelastic = qty changes very little to changes in price (e.g., consumer staples)

Inelastic curve is almost vertical, sloping down and to the right
* Remember the “I” in Inelastic to remember the shape of the inelastic demand curve

Question 19

Business Life Cycle

Answer 19

Expansion
- increasing GDP, inflation, and interest rates
- decreasing unemployment
- investments should be short-duration bonds and equities

Peak
- highest GDP
- peaking inflation and interest rates
- lowest unemployment rates
- bonds, preferred stock, and other high-duration or fixed income assets should be sold
- equities and hard assets tend to perform well

Contraction / Recession
- slowing GDP
- inflation and interest rates begin to decline
- unemployment beings to increase
- equities and hard assets should be sold in reinvested into short-term cash and bonds until the market settles out

Trough
- GDP, inflation, and interest rates at their lowest levels
- highest unemployment
- high-duration bonds perform well as bond yields drop and interest rates continue to fall
- stock purchases late in the cycle should be considered if valuations are appropriate

Question 20

Recession vs. Depression

Answer 20

Recession = 6 consecutive months (2 quarters) of declining GDP

Depression = 18 consecutive months or 6 quarters

Question 21

Types of Inflation

Answer 21

Moderate = 1-2% per year, prices slowing increasing

Galloping = money loses value very quickly

Deflation = prices are falling, opposite of inflation; individuals prefer to hold cash because cash becomes more valuable as prices decrease

Disinflation = decline or slowdown in rate of inflation

Question 22

Measures of Inflation

Answer 22

Consumer Price Index (CPI) = price change in a basket of goods and services at the retail level, historically 2-3%

Producer Price Index (PPI) = price changes in the wholesale and manufacturing sectors

Question 23

Economic Indicators

Answer 23

Leading Indicators
- Initial unemployment claims, Stock prices, Money supply (M2), New mfg orders, New private housing orders, Consumer sentiment

Coincident Indicators
- EEs on payroll, Personal income, Industrial production, Mfg sales

Lagging Indicators
- Avg duration of unemployment, Change in CPI, Change in labor cost per unit, Consumer credit to income, Value of outstanding loans, Avg prime rate charged by banks

Question 24

Federal Reserve 4 Tools

1st = Reserve Requirement

2nd = Discount Rate

3rd = Open Market Operations

4th = Excess Reserves

Answer 24

Reserve Requirement = % of deposits a bank must maintain in cash
- increases makes less cash available to lend decreasing money supply and raising interest rates
decreases makes more cash available to lend increasing money supply and lowering interest rates

Discount Rate = overnight interest rate which member banks can borrow from the Fed to meet their reserve requirements
- increases cause short-term interest rates to increase
- decreases cause short-term interest rates to decrease

Open Market Operations
- Fed buys Treasuries, money supply increases and interest rates decrease
- Fed sells Treasuries, money supply decreases and interest rates increase

Excess Reserves
- monies that a bank holds at the Federal Reserve (or central bank) in excess of the required reserve amount

Question 25

Summary of Monetary Policy Effects

Answer 25

Question 26

Fiscal Policy

Answer 26

Congress controls spending and taxation to influence money supply and interest rates

3 goals = maintain economic growth, price stability, full employment

3 tools
1st = Taxation
- increase tax rates reduces money supply, increases interest rates
- decrease tax rates increases money supply, decreases interest rates

2nd = Spending
- spending increases money supply, decreases interest rates
- cut spending, increases interest rates

3rd = Debt Mgmt
- deficit spending when Congress spends more than collected tax revenues
- amount of dollars available to lend decreases putting increased pressure on interest rates

** Foreign investors:
- Selling dollar denominated assets decreases money supply, increases interest rates
- Buying dollar denominated assets increases money supply, decrease interest rates

Question 27

Yield Curve

Answer 27

Expansionary policy tends to result in normal yield curve

Contractionary policy tends to result in an inverted yield curve

Normal yield curve is concave, sloping upward to the right

Inverted yield curve is convex, sloping downward to the right

Question 28

FDIC Insurance

Answer 28

Covered
- Any deposit payable in the US

NOT Covered
- Any deposit only payable outside the US
- Money held in a money market mutual fund
- Stocks, bonds, mutual funds

Question 29

Bankruptcy

Answer 29

Chapter 7 = liquidation

Not discharged
- student and gov’t loans; 3 yrs of back taxes; alimony & child support
- monies owed due to malicious acts, drunk driving, criminal fines and penalties, or embezzlement

Exempt property
- homestead, life insurance, qualified plans (unlimited exemption)
* contributory Trad and Roth IRAs up to $1M as indexed every 3 yrs (current protection limit is $1,512,350)
** Debtor cannot file Ch 7 if avg monthly income for their region is in excess of the threshold

Chapter 11 = reorganization for businesses or self-employed
Chapter 13 = adjusting debts

Question 30

Internal Analysis

Answer 30

defines the way people work, spend, save and think

focus on the client’s strengths and weaknesses

internal data impacts a client’s goals and behavior

Question 31

Internal Analysis Data

Answer 31

Life Cycle Position (age most important element in financial planning)

Attitudes and Beliefs

Special Needs

Financial Position

Clients Perception of Financial Position