General Info Flashcards

Question 1

Q

Hedging strategies with options

Answer

A

Buy/go long in an OPTION with a stock position.
You’re in control, so this is protective
Can still have loss, but much more limited
Sentiment? Look at stock position

protective put
Long stock & long put
Bullish sentiment

Short stock & long call
Bearish sentiment

Question 2

Q

SIPC

vs FDIC (page 356)

Answer

A

Securities Investor Protection Corporation - nonprofit corporation [NOT an agency of the US government, not insurance]

In event a U.S. Broker Dealer goes bankrupt. Does NOT protect against market losses

Protects each separate customer up to $500,000 in cash and securities,
*limited to $250,000 in cash
(Does not protect non-securities such as commodities or futures)

Separate customer, even if owned or controlled by same person:
Indiv acc
Jt acc
Trust acc
IRA
Roth IRA
Minor’s acc

If coverage limit is exceeded- Customer becomes a general creditor of the broker dealer

Registration-
Customer name? Receive all
Street name? Pro-rata distribution

Question 3

Q

Discretionary trade

FINRA rule 2510 & discretionary trades

Not held order

Answer

A

Discretionary- when rep decides ANY of the 3 As:
-asset
-amount
-activity

Rule 2510- customers have to grant discretionary authority in writing via a POA.
*Only a DURABLE POA survives the customer being declared legally incompetent

Not held- a NON dicretionary trade (3As decided by customer, not rep) where rep is not held to a time or price
Ex: Please buy 100 shares of Apple stock when the time is right

Question 4

Q

Fee based account vs commission per transaction

Answer

A

Customer pays fixed fee or percentage of assets under mgt-
Best for sophisticated investors placing significant # of orders
may be referred to as “wrap account”

Customer pays commission per trade
Best for average investors, buy & hold investors

Question 5

Q

JTIC vs. JTWROS

Probate- JTIC, JTWROS, TOD

Answer

A

Tenants in common. Each acc holder owns a % of account assets, based on contributions.
Upon death, that person’s % of ownership gets liquidated and distributed to their beneficiary

Each owner has undivided interest in entire acc. Upon death, the person’s ownership passes to surviving acc owners

Probate applies- JTIC

Probate avoided- TOD, JTWROS

Question 6

Q

ERISA- Employee retirement income security act

Answer

A

For private sector workers

If qualified retirement plan (QRP), can make pre-tax contributions.
Earnings are tax deferred.
Contributions and earnings are taxed as ordinary income at withdrawal.

Allows for compounding/ faster growth. 100% of earnings can be reinvested.

Does not refer to IRAs (individual) or government worker plans

Question 7

Q

Qualified Retirement Plan/QRP

Answer

A

ERISA applies
Private, employer sponsored plans only

Pre tax contributions, tax deferred growth. Both wd as ordinary income.

-at least one fiduciary
-non discriminatory (all full time employees, at least 21yrs old, one year of service) (part time off at least 500hrs in past 3 yrs)
-vesting schedule (employer contributions must be fully vested after 5 years of service)

Question 8

Q

Roth 401k

Employee vs employer contributions

Answer

A

Employee:
Post tax contributions to Roth 401k
Tax free earnings
Distribution tax free if:
59.5 yrs old and at first Roth IRA contribution at least 5 yrs ago.

Employer match:
Goes to a traditional 401k (pretax contributions, tax deferred growth, distribution is taxed as ordinary income)

Question 9

Q

IRA- prohibited contributions

Answer

A

Life insurance
Antiques & collectibles
Options
Real estate (physically owned)*

REITs or MBS are ok*

Question 10

Q

Annuity payout options

Answer

A

Selected before annuitization. Cannot be changed.

Straight life-
Highest risk, highest payout
[Nothing to beneficiary if in annuitization period]

Life with period certain -
Beneficiary only protected during period certain

Joint with last survivor-
Smallest monthly benefit bc strongest guarantee, longest expected duration.
Pays until death of 2nd annuitant

Question 11

Q

Agent or agency basis

Answer

A

Broker

Matches up buyer & seller

Charges commission for completed transactions

Cannot act as both broker & dealer in the same transaction. Charging a client both fees in a single transaction is a violation.

Note:best efforts underwriting is always on agency basis.
Rev muni bonds can be best efforts depending on negotiated deal (negotiated bid u/w)

Question 12

Q

Principal

Answer

A

Dealer

Trades its own inventory (“position trading”)

Charges markup when selling to a client

Charges markdown when buying from a client (not commission)

Cannot act as both broker and dealer in the same transaction. Charging both fees in a single transaction is a violation.

Note: Firm underwriting is always on principal basis
Ex: GO muni bonds are always on competitive bid basis.
Competitive bid= Syndicate letter

Rev muni bonds can be on firm basis depending on negotiated deal. Typically negotiated bid u/w
Negotiated offerings- agreement among underwriters

Question 13

Q

NYSE vs Nasdaq

Answer

A

NYSE- auction mktplace
Human trading on floor plus electronic trading

1 human DMM (direct mkt maker) per security. Human oversight can prevent and correct unusual or abnormal trading activity

Nasdaq- negotiated mktplace
Electronic trading only.
Many market makers per security (no DMMs).

Minimum stick price, #shareholders, total assets required to be listed on either one

Question 14

Q

Nasdaq quotation requirements

Answer

A

Negotiated marketplace- bid & ask firm quotes in round lots (100 shares or multiples of 100)

*“Backing away” is a violation that occurs when market maker refuses to honor firm quotes (FINRA rule 5220)
Firm quote- MM required to trade at quoted price if counterparts presents an order against its quote.

*Market makers are prohibited from discussing or colluding on how to price a security. Market manipulation is a violation of ‘34 Act.

Question 15

Q

Best bid

Best offer

Inside market

Best execution*

Answer

A

Who is willing to pay the most to buy shares

Who is willing to sell shares at the lowest price (ask)

Two best quotes: best bid & best ask
(Smallest possible spread)

Trading at the best price available from any market maker* not fulfilling at best execution is a violation.
This requirement applies in both agent and principal roles.

Question 16

Q

OTCBB- replaced by OTCQX in 2021

Answer

A

OTC bulletin board- FINRA operated quotation service

Real time quotes, last sales prices, volume info

-Shares registered under ‘33
-Ongoing disclosures under ‘34 (10Ks & 10Qs) files with SEC

*not subject to listing requirements such as min stock price min # shareholders

OTCQX includes both quotes AND negotiating trades via electronic messaging capability.
Penny stocks, shell companies, and companies in bankruptcy cannot be listed here.

Question 17

Q

OTC Pink
OTC Markets
Pink Sheets

Answer

A

Speculative OTC market- closely held, extremely small, or thinly traded companies

Quotes on OTC Pink may be one sided (both bid & ask not required)

**Doesn’t require quoted companies to file periodic reports or audited financial statements to the SEC

Lack of regulation, potential volatility

Set clear investment guidelines
Use stop limits
Diversified portfolio

Question 18

Q

OTCQX

OTCQB

OTC Pink

Answer

A

OTCQX- top tier OTC equity market
Subject to SEC regulation
Governance transparency
Can’t be penny stocks

OTCQB- replaced OTCBB as main market for trading OTC- no min financial standards.
Mid-tier OTC equity market. Primarily early stage and developing companies in the US & international markets. Often includes shell companies, penny stocks, or small foreign issuers
Min reporting standards
Pass a bid test
Undergo annual verification

Pink sheets- lowest tier equity market, speculative

Question 19

Q

Primary market

Secondary market

Answer

A

P- issuer keeps proceeds of sale. Private placements, IPOs (public company

S- party other than the issuer keeps proceeds of sale

First mkt- listed securities on exchanges

Second mkt- UNLISTED securities sold OTC

Third mkt- listed securities sold OTC

Fourth mkt- institutions trading 24x7 via ECN (electronic communication network)

Question 20

Q

Order ticket, aka order memorandum

Answer

A

Customer instructions & conditions

Type of order (buy, sell, sell short(
Terms & conditions (market order, limit order, stop order)
Acc#
How order was received
Whether order was solicited, unsolicited, or placed on discretionary basis
Time order was received & entered for execution

*Market order- buy or sell immediately at whatever price is available. Priority over all other types of orders.

Question 21

Q

Tools of the Federal Reserve (monetary policy)

Answer

A

DORM

Discount rate- Fed to bank loans

Open market operations -
FOMC arm of Fed trades with Primary Dealers
Repurchase (buy securities back from banks, putting more $ into system for banks to make loans. Drives interest rates down)
Reverse repurchase (opposite- sell securities to banks, pulling $out of system. Tightening, rates increase)

Reserve requirements

Margin requirements

Tightening- if inflation is high. Pull $ out, rates go up for borrowers

Loosening- if possible recession. Put $ in system, drive borrowers, lower rates

Question 22

Q

Yield curve & economy

Spread- narrow v wide?

Answer

A

Normal = short term securities have lower yield than long term securities
When? Normal, expansion

Flat= short term & long term securities have same yield
When? Uncertainty in economy

Inverted/ descending = short term securities have HIGHER yield than long term
When? Sign of recession

Low yield =low risk. Since this is more desirable to investors, no need to offer a sweet high rate.
Desirable also means you don’t need a low market price to move it.

CY current yield= return(annual dividends)/ market price

Narrow spread- competitive. Economy is good.

Wide spread- flight to quality. Economy not good, investors want safer or higher rated securities

Question 23

Q

Fiscal vs monetary policy

Answer

A

Fiscal- Congress & President

Keynesian/ demand side theory = increased government spending benefits the economy
(Demand for government goods & services)
Hit the gas (recession)=
Increase government spending
Decrease taxes
Pump the brakes (inflation)=
Decrease government spending
Increase taxes

Supply side theory=
Decreased government spending benefits the economy (demand for private sector goods & services)
Hit the gas (recession)=
Decrease government spending
Decrease taxes

Classical theory- Adam Smith- leave it alone

Monetary- Federal Reserve
Tighten (inflation) v loosen (recession)
DORM

Note: taxes can be progressive (higher if more $ involved- income, estate, gift) or regressive (flat tax- sales tax, excise tax [cigarettes, gas, alcohol]

Question 24

Q

Rates & the Federal Reserve

Answer

A

From lowest to highest

Federal Funds rate- bank to bank loans (overnight loans to maintain capitalization)
*Most volatile interest rate on the market

Discount rate- Fed to bank rate. HIGHER than Federal Funds Rate. Go to Fed only if no bank will lend to you.

Broker loan rate- bank to broker dealer loans
AKA “Call money market rate”

Prime rate-
Large bank customer loans
Typically only available to institutions

Question 25

Q

GDP/GNP- elasticity

CPI

Yield curves

Answer

A

GDP- how’s your stuff selling?
Elastic goods & svcs “we can wait”- house, car, fridge
Inelastic “we need it”
Medical supplies, concert tix

CPI- how expensive is your stuff?
Sign of inflation

Yield curve-
normal= growth (short term =low yield, long term =high yield)

Flat= uncertainty

Inverted/ descending = recession = short term higher yield (high yield =high risk)

Question 26

Q

Business cycle

Stagflation

Recession v depression

Answer

A

Expansion:
Decreased unemployment
Increased GDP
-inflation risk if growing too quickly (higher prices & COL)

Peak:
Beginning of downturn

Contraction:
Increased unemployment
Decreased GDP, manufacturing output, hold income, bz profits, investment spending

Trough:
Lowest point. Contraction turns to expansion here.

Stagflation- slow economic growth plus rising prices, inflation, & relatively high unemployment

Recession =GDP decline 2 consecutive quarters (6mo)
Depression = GDP decline 6 consecutive quarters (1.5yrs)

Question 27

Q

Leading indicators

Answer

A

-bond yields (yield curve)
-S& P 500
-INITIAL claims for unemployment (weekly)/layoff rates
-Index of NEW manufacturing orders
-# of NEW building permits
-Consumer confidence index
-Spread between 10 yr Tnote & Fed Funds Rate

Recession indicator= Fed Funds Rate HIGHER than 10 year T note

Question 28

Q

Coincident indicators

Answer

A

-#employees on non farm payrolls
-avg hours worked
-personal income levels
-industrial production levels
-manufacturing sales
-unemployment rate

Question 29

Q

Lagging indicators

Answer

A

-changes in CPI levels
-corporate profits
-CHANGE in labor cost per unit of output
-avg DURATION of unemployment
-Prime Rate & other interest rates
-commercial & industrial loans outstanding
-inventory/sales ratio

Question 30

Q

Yield spreads

Answer

A

Comparing yield of low risk T bonds to comparable non- Treasury bonds

Remember:
High yield = high risk

Spread widens- market forecasting more risk of default on lower grade bonds
*Flight to quality- could drive up price of Treasuries, decreasing yield (annual dividends/market price)

Spread narrows- market forecasting less risk, possibly due to growing economy

Question 31

Q

Inflation and bond prices

Answer

A

Increased inflation (higher interest rates) leads to decreased bond prices

Interest rates & bond prices have inverse relationship

Question 32

Q

Inflation and…
Cash
Bonds
Stocks
Real estate

Answer

A

Cash- higher savings rates but lower purchasing power (inflationary risk)

Bonds- prices drop when interest rates rise. Lower market value

Stocks- moderate inflation can increase values. High or unpredictable levels can hurt corporate profits

Real estate- positive relationship between R/E and inflation due to higher cash flows and asset values

Question 33

Q

Cyclical stocks

Defensive stocks

Answer

A

Cyclical- mirror the economy
Elastic goods & services= cars, large appliances

Defensive- resistant to downturns- supply basic needs
Inelastic goods & svcs- utility stocks, medical supply stocks, stocks of staple consumer items, stocks of discount retailers
*Note that concert tix are considered inelastic, as well as alcohol & tobacco

Question 34

Q

Shareholder equity (on balance sheet)

Vs working capital

Capital structure/ capitalization

Answer

A

AKA net worth

SE= Total assets- total liabilities

WC= current assets- current liabilities
Measure of firm’s liquidity

Current Asset-expected to be converted to cash within the next 12 mo
Current Liability-due for pmt within the next 12 mo

shareholder equity- 3 types
-capital stock at par
-capital stock above par- most stocks are sold above par when initially issued
-retained earnings

Capitalization = long term debt + equity securities

Capital structure: relative amounts of debt vs equity composing a company’s capitalization

Question 35

Q

US interest rates and impact on foreign trade

Answer

A

Interest rates: up
Dollar value: up
Exports: down (costs more for others to buy from us)
Imports: up (cheaper for us to buy from others)

Note: our $ leaving is a debit, pushing towards a deficit

Interest rates: down
Dollar value: down
Exports: up (our stuff is cheap when Dollar is weak)
Imports: down (our money doesn’t have much purchasing power)

Note: exporting our stuff & bringing currency into the country is a credit

Balance of trade= difference between a country’s exports and imports
Overall trade deficit
Because we import more than we export (oil, cheap consumer goods)

Question 36

Q

Income strategies with options

Answer

A

Sell/go short in an OPTION with a stock position. Can get income in flat market, but quite risky in volatile market

Market sentiment- neutral
Major opportunities for losses!!

covered call
long shares and short call
Gain the premium. Make a little if market goes up- plus the premium.
If market goes down & contract expires, still major loss (but you got your premium)

covered put
short shares and short put
Gain on the premium. If market drops, have to buy stock back & make a little money (plus premium).
If market rises, contract expires. Eventually have to buy back at higher price & take an almost unlimited loss- partially offset by the premium

Question 37

Q

Record retention

Answer

A

3 years
Employee records (U4,U5,fingerprnts)

4 years
Customer complaints (FINRA)

5 years
CIP info (Cust ID program)
CTRs (file within 15 days)
SARs (file within 30 days)

6 years
Cust acc records (agreements, new acc forms)
Blotters
Customer complaints (MSRB)

lifetime
Stock certificates
Partnership agreements
Articles of incorporation
Meeting minutes

Question 38

Q

Settlement timing:

stocks, muni, & Corp

US government, options trades

Options- exercise

Answer

A

“Regular way” T+2
Clearinghouses, ex: DTCC

US government & options trades T+1
Government- federal funds system (trade OTC only)
Options- OCC (trade on CBOE, NYSE, Nasdaq, PHLX)
OCC does not set the premium

Exercise of equity options contract:
Most- American- exercise at any time- T+2 with delivery of cash vs securities

Index options- European- exercise at expiration only- T+1 for cash equivalent of the value of the stocks in the index (VIX index is Inverted to market)
OEX index is the only American style index option

Question 39

Q

Muni bond underwriting-
Order priority for new issue muni

Answer

A

Pretty good Dino movie

Pre-sale
Group (net)
Designated
Member

Question 40

Q

Municipal bonds- choosing cheapest underwriter

Factor in time value

Answer

A

TIC
True interest cost
Considers time value of money. Weights early interest costs more heavily

NIC
Net interest cost
Does not factor in time value

Question 41

Q

Variable life insurance - numbers to remember & unique fees

Max sales charge?

Policy loans- possible when & for how much?

Answer

A

Mortality risk fee covers risk that insured lives longer or shorter than actuarial est.
Investment mgt fee- manage separate acc

Right to exchange for a normal life insurance policy- at least 2 years
No medical underwriting/ evidence of insurability.
New policy issued as ID retroactive (p.242)

Sales charges- max 9% up to 20 yrs
(Renewal commissions pd up to 20 yrs)

Free look period- 45 days from application or 10 days from receiving the policy (whichever is longer). Receive back all pmts made.

Refund provision- within 2 yrs, early termination = return of cash value plus % of sales charge.
After 2 years, only return cash value.
Insurer keeps sales charges.

If separate account outperforms AIR target, death benefit & cash value increase (& vice versa- but death benefit never below guaranteed minimum)

Policy loans- after policy in place 3 years and at least 75% of “cash value” must be made available

Question 42

Q

Variable annuities

Accumulation
Annuitization

Max sales charge?

Taxation

Death benefit fee (rider)
Beneficiary’s basis?

Answer

A

Most are “non-qualified”: after tax contributions, tax deferred growth, growth & earnings taxed as ordinary income

No max sales charge

Separate account acts as a UIT/ security- prospectus must be delivered

Initial payment determined by insurance Co actuaries.
If separate acc outperforms AIR (target), the next month’s payment to annuitant increases.
At AIR? Stays same.
Below AIR? Payment drops

Annuitization:
-Fixed # annuity units
-Fixed # units liquidated per month
-Variable payment based on unit’s value

Withdrawals: 3 kinds, pre- annuitization is typically LIFO-
Last in (earnings) first out

random LIFO
lump sum LIFO
annuitization monthly combo of (after tax) principal & (taxable) growth
exclusion ratio taxable percent of monthly payments

Death benefit fee- if annuitant dies during Accumulation period, beneficiary gets the greater of: MV or amount invested

Beneficiary of annuity? Carryover basis (same basis as the annuitant paid originally)

Stepped up basis only applies to Inverted stocks/bonds etc.

Question 43

Q

Valuation adjustment timing with Variable Life Insurance-

Separate account

Cash value

Death benefit

Answer

A

Life:

Separate- daily

Cash value- monthly

Death benefit- yearly (never below guaranteed minimum)

Question 44

Q

Partnership/ DPP- how issued? Docs?

Recouse loan
Non-recourse loan

Key features

Answer

A

syndicator oversees selling and promo of DPP. Max fees 10% of gross dollars of securities sold.*
Max 10% comp includes any amounts paid to wholesalers p. 313& 328
Total max: 15%
Additional 5% for administrative, organization, & offering expenses

Private placement (Accredited investors) w/ Private placement memo
Or
public offering with prospectus

3 additional docs:
cert of limited partnership file in partnerships home state. For legal recognition. Includes dissolution details.
partnership agreement given to each partner. Lists rights/responsibilities of GP & LP, dissolution details
subscription agreement Each interested investor fills out. GP is given POA over partnership. GP must sign to approve.

Recourse loan- all partners proportionately liable

Non-recourse loan- only GP liable
Non-recourse loan (GP) and real estate DPPs- add to investor’s basis

Key features-
GP has unlimited liability & does the management- has at least 1% financial interest
LP have limited liability

Pass through of income, gains, losses, and tax benefits (depreciation, depletion, tax credits)

Question 45

Q

DPP- roll up

Compensation & solicitation of roll up

Answer

A

Combo/reorg of limited partnership(s) into securities of a successor corporation

Disclosure docs needed. If fail to disclose negative opinion re: fairness, this is fraud

IF partner’s comp is:
-unrelated to vote
-no more than 2% of value of securities to be received
THEN solicitation of votes on roll up is not prohibited

Question 46

Q

REITs

Answer

A

Negative correlation to stock market

Publicly traded= liquidity

Pass through gains if 90% NII distributed & 75% income from RE

Taxation:
Dividend = ordinary income
Cap gains = long term

Trusts!,

Question 47

Q

Hedge funds

Fund of Hedge funds

Answer

A

Hedge fund:
Unregulated, usually org. as limited partnership with Private placement memo, <100 Accredited investors
-lack of transparency
-aggressive, speculative
-lock up periods
- high management fees (2&20)

May target:
Blank check company (SPAC/ special purpose acquisition co) with no business operations & focus of mergers & acquisitions.
No proposed investment intent disclosed
Blind pool some indication of industry or sector, but no disclosure of specific use of proceeds

Fund of hedge funds- registered mutual fund.
Lower entry cost & accessible to regular investors.
Still: high risk, high management fees, low liquidity

Question 48

Q

Asset backed securities ABS

Amortizing CDO
Nonamortizing CDO

Answer

A

Securitization of underlying assets such as mortgage, auto loan, CCs, leases, royalties etc

Title to assets is transferred to an SPE/ special purpose entity.
SPE then issues the ABS.

CMO- asset is residential mortgage, often backed by federal agencies so usually highly rated
suitability form required from client
Principal is repaid to one tranche at a time. p.336

CDO-not backed by a specific kind of debt, but usually non-mortgage

Amortizing- ex: auto loan CDO
Investor’s return includes both principal & interest

Nonamortizing- ex: credit card CDO. Debt has no fixed ending date

Question 49

Q

CMOs-
as industry standard- cannot be compared to other investment products

Classes of CMOs

Answer

A

Pools of mortgages on residential properties. Repaid in tranches.
Interest is applied across all tranches, but principal only paid towards ONE until it is PIF. Then principal is all paid towards the next tranche.

Min investment $1000

Interest portion of payment is taxable as ordinary income.
(Principal portion only taxed if sold at a discount.)

Not suitable for small or unsophisticated investors due to complexity.
Investors must sign suitability statement

Standard CMO P&I pmts- see above

PO- principal payments only
sold at deep discount- volatile
More valuable when rates fall & more of pmts go to principal

IO- interest only
sold at discount
More valuable when rates rise & more of pmts go to interest.
Note- never know how long income stream will last

PAC- planned amortization class
Paid off first
Protection from prepayment risk & extension risk

TAC- targeted amortization class
Protection from prepayment risk only

Question 50

Q

Strategies with potential for unlimited loss

Answer

A

Short stock

Short call (naked)

Always cover your shorts!

Question 51

Q

Income strategies with options

Answer

A

Very risky
Use to generate income in a flat mkt

Stock position with a short/sold option

Sentiment? Look at the stock position

covered call
Long stock with short call
Bullish/ neutral

covered put
Short stock with short put
Bearish/ neutral

Question 52

Q

Naming the spread-
What is position, sentiment, & debit v credit re: Premium (buyer v seller role?)

Which is dominant leg?

Answer

A

Where did the investor put their money? Which one would make the most money for the investor?

Premium
Leg with higher Premium is dominant . Investor put the most money/ emphasis here.

Strike price/ price-[VP, vertical]
Which can make the most $$?
call spread
Lowest strike price is dominant - “Call up” the furthest

put spread
Highest strike price is dominant - “Put down” the furthest

Expiration/ time [HT horizontal]
More time for market to move =more value for investor
Later expiration is dominant

Question 53

Q

4 step options spread system

Identify dominant leg & strategy first

Buyers lose, sellers gain!
What do they lose or gain?
The premium!!

Answer

A

-Who are you?
-Are you 5 letters (buyer, debit, widen, user, owner) or 6 letters (seller, credit, narrow, expire, writer)?
-Bullish or Bearish based on dominant leg?

1- net the premiums (NP)
This is either max loss or max gain, depending who you are.

If you’re the buyer, buyers lose= ML
If you’re the seller, sellers gain=MG

2- Net strike prices (NSP)

3- NSP- NP
This is your “other side” of max gain or max loss

4- SP +/- NP
Strike price +(call up) or - (put down) Net premium
This is your breakeven
Dominant leg strike price linked to Net premium of the two contracts

Question 54

Q

Elements of a collar

Answer

A

AKA hedge wrapper

Protective of the stock position
Stock can’t move too far, like dog with collar & leash

-Short call- OTM
-Long stock
-Long put- OTM

Question 55

Q

Elements of a spread

Answer

A

-Buy & Sell
-Same underlying security
-Same class (ex ABC call & ABC call)
-Time (expiration) and / or -price (strike price) are different

VP= vertical spread- price is different
vice president

HT=horizontal spread- time is different
Harry Truman

DTP- diagonal spread- time & price are different
Drink the prosecco

Question 56

Q

Elements of a straddle

Long straddle vs.
Short straddle

Answer

A

-Call & put
-all other elements identical, including time & price (expiration, strike price)

Long straddle= buy
(Long/buy/own)

Buy…….call
Buy…….put
Only appropriate for:
-Sophisticated investor
-Volatile markets

Or
Short straddle= sell
(Short, Sell, owe)
Sell……call
Sell……put

Only appropriate if:
-Aggressive options trader w high net worth
-Flat market expected

Question 57

Q

Short straddle

Remember BLSG
What do they lose or win? The premium!!

Answer

A

Contract quote is identical except it’s a call and a put

Only suitable for:
-Flat market
-Aggressive trader w wealth
(Think- ride out flat/neutral mkt)

Short straddle is seller-
Sellers gain…the premium

Max gain= combined premiums
Max loss= unlimited
2 breakevens=
Strike + combined premiums
Strike - combined premiums

Profit where?
Seller/narrow
Profit between the breakevens

Question 58

Q

Long straddle

Remember BLSG

Where do you profit?

Answer

A

Matching quotes except it’s a call & a put

Suitable for:
-aggressive options traders
-volatilty expected
(Think- take control in volatile mkt)

Long=Own= buyers lose. Lose what? The premium

Max loss= combined premiums
Max gain= unlimited
2 breakevens=
Strike + combined premiums
Strike- combined premiums

Profit where?:
outside of breakevens (above or below)

Remember- 5 or 6 letters-
Buyer, widen

Question 59

Q

Elements of a combination

Answer

A

Looks like a straddle (call & put)
But Time &/or price are different

Long combo= call & put are both BUY
Sentiment= volatility
MG=(buyers lose)= combined premium
ML= unlimited
B/E (2)=
Strike (put) - combined premiums
Strike (call) + combined premiums

Short combo= call & put are both SELL
Sentiment = flat
MG(seller)= combined premiums
ML= unlimited
B/E (2)=
Strike (put) - combined premiums
Strike (call) + combined premiums

Question 60

Q

Elements of a strangle

Answer

A

Long or short combination where both legs are “out of money”

Recall: combo is a straddle where T +/- P are different

Question 61

Q

Index options
Why use?

American vs European

Trade vs exercise settlement

Answer

A

Options with indices as underlying asset can be used to hedge against market risk

Indices- most are European
Exercise at close
-SPX
-DJX
-RUT
-VIX (inverse to market)

-OEX- American style
Exercise anytime

Trade the contract T+1

Exercise the contract T+1 for cash equivalent of the underlying index

Question 62

Q

Beta

Answer

A

Measure of portfolio volatility vs. Market

Higher beta? Need more protection (more volatile than mkt)

9.6.2 achievable

“Market risk is measured by a security’s beta”
P.376

High beta- tech, autos

Low beta- utilities, consumer Basic staples

Question 63

Q

VIX options

Answer

A

Index option, so European exercise &
T+1 for both “the deal” and “the underlying asset”

Sentiment questions- VIX moves inverse to market

Expiration:
The Wednesday 30 days before the 3rd Friday of the following calendar month

Question 64

Q

Options contract size & key points

-Standard options
-Mini- options
-Foreign currency options
-Yield based options aka interest rate options

Answer

A

Normal 1=100
Mini options 1=10
Foreign currency 1=10,000 (1K)
Yen 1= 1,000,000 (1MM)

Foreign currency- premium is in cents, not dollars

NOTE: USD options do not exist
If this is offered as an answer, it’s wrong

yield options (interest rate options)
After your T chart is done, adjust by moving decimal one place to left
Strike= 10 x YTM

Yield based TYX index is based on the most recently auctioned Treasuries, so interest rates and yields move together

Answer 65

A

Long call & short put (matching)

Behaves as if you owned the stock

Answer 66

A

Set by OCC

Position & exercise- Usually 250,000 on each side (bull v bear)

Exercise limits- max # contracts exercised on either side of market within 5 consecutive bz days

🐄 Bullish: Long call, short put

🐻 Bearish: Long put, short call

Answer 67

A

If stock was already held OVER a year (long term), then proceeds at sale are still long term capital gain/loss

If stock was short term (one year or less), then holding period resets to zero when you buy the put. Doesn’t begin aging again until put expires

married put basis of Stock is the net cost of both.
Holding period is unaffected by put- starts on settlement date

Answer 68

A

Securities in portfolio should have a negative correlation

Diversify out of (non-market) risk by:
-Combining volatile & price stable securities
-Including assets whose prices move inversely or at different times

Note: MPT & CAPM assume no nonsystematic risk- only market risks

Answer 69

A

CAPM- Theoretically appropriate required rate of return based on level of risk in an investment.
Calculates a required rate of return based on the beta

Beta- level of volatility vs. market; a risk multiplier.
Analyst calculates expected return based on beta

Alpha- ACTUAL return vs expected return.
Negative Alpha- investor’s return was too low for the risk taken
Positive alpha- investor’s return was better than expected in comparison to level of risk they took on.
indicates a ‘buy’ recommendation

CAPM and Alpha alpha= portfolio outperforms CAPM required return (based on beta).
Positive alpha is desired, points to skill of portfolio manager

was the fund manager’s performance sufficient to justify the risks taken to get the return?

Answer 70

A

Balance sheet- snapshot of financial position at a specific point in time.
total assets- total liabilities =owners’ equity

Balance sheet does not indicate whether bz is improving or deteriorating

Income statement aka P&L statement
Summarizes revenues and expenses for a fiscal period.
used to judge efficiency & profitability of a company’s operation
Revenues- gross sales, money in
COGS cost of goods sold, money out
Pretax Income what’s left
Pretax Income = operating income - interest pmt expenses (corporate debt)

Revenue - COGS= gross operating profit

Answer 71

A

Commission pmts to brokerage firm that are used, in part, to pay for other services such as research.
Criticized for lacking transparency & hiding abuses.
P.386

Advisors must disclose soft dollar arrangements to clients (per SEC)

What falls under sec 28(e) of ‘34 “safe harbor”?
-Research reports
-Financial newsletters & trade journals
-Analytical software
-Seminars or conferences
-Effecting & clearing trades
safe harbor for expenses paid with soft dollars that offer a direct research benefit

Answer 72

A

Odd lot theory- less experienced investors can’t afford round lots (sets of 100 shares). Less experienced investors often guess wrong about the market.
If analyst sees odd lots doing an activity (ex. buying a security), they’ll do the opposite.

Short interest theory-
Short interest measures % stock sold short. Remember, these investors MUST buy back the security to return it.
High short interest is actually a 🐄 Bullish indicator bc closing purchases will have to start soon.
Low short interest means normal sales. Nobody is obligated to buy, so this is 🐻 Bearish indicator.

efficient markets theory
works within the Dow theory
Market prices instantly reflect new public info

Dow theory
If all of the Dow averages move in the same direction, new trend.
If the 3 Dow averages move in different directions, there’s uncertainty.
3 indices-
DJIA -industrial
DJTA -transportation
DJUA -utilities
3 types of mkt trends:
within Dow theory
Main/ primary- 1yr+
Medium/secondary- 3-12 weeks
Short/ST fluctuations- hours or days

Answer 73

A

If investor has net capital losses, up to $3000 can be used as deduction against ordinary income

Selling security at a loss and purchasing substantially identical security within 30 days before or after the trade date

If you do a wash sale, you lose tax benefits of the CL. Old basis & proceeds are factored into new basis.
P.370

Substantially identical examples:
-Securities convertible into one sold
-Warrants to purchase the one sold
-Rights to purchase the sold security
-Call options to purchase the one sold

note- options of different series are not considered substantially identical
(Ex different expiration months)

Answer 74

A

IRS default- FIFO- may produce higher taxable CG in rising mkt

Stocks- SH may elect share identification. SH tracks cost of each share purchased & liquidates shares that provide the lowest CG

Mutual funds- SH may elect
not used for stock
average cost basis. Total cost divided by total shares.
Can’t use on stock
SH can’t change decision to use this method without IRS permission

Answer 75

A

Inheritance-
Basis is FMV as of date of death (NAV, if open end investment co). This is known as stepped up cost basis.
-estate tax pd by estate

No estate or gift tax between spouses. Estate taxes are due at death of the survivor

Gift- recipient’s basis & holding period is the same as the donor’s (received securities plus tax implications of CG)
carryover basis
-gift tax pd by donor.
Amount of gift is the FMV as of date of the gift.
Note: can donate up to $17,000 per year to any number of individuals without incurring gift tax

unified credit
Taxation of estate & gifts are unified.
Whatever is used of lifetime gift exclusion before death reduces the estate tax exclusion

Inherited annuity basis?
Carryover basis

Answer 76

A

When corporation owns stock in another corporation & receives dividends from the investment,
50% of the dividends received are excluded from the owner corporation’s income

Answer 77

A

Asset allocation- how is the pie divided?
Mix of Asset classes (stocks, bonds, cash)

Diversification- what’s within that piece of the pie (asset class- ex lots of types of bonds)?
Investing among different types of securities, markets, & industries

Answer 78

A

Published each bz day

Rising index= bond prices are rising (yields are dropping)

40- GO & Revenue- daily

20- GO- mid rated & up- weekly
11- subset of the 20 GO- higher rated- weekly

Revdex- Revenue- midrated- weekly

Answer 79

A

Long margin- borrow $$ to buy/ go long the securities.
Must return $$ (+interest)

Maintenance requirement= 25% equity

Short margin- borrow securities (to sell for cash/ go short).
Must return securities.

Maintenance requirement= 30% equity

Answer 80

A

Margin securities may be commingled w securities owned by other customers (but not BD).

Fully paid securities must be segregated.

Answer 81

A

FINRA-
$2000 rule
Maintenance of 25% (long)
Maintenance of 50% (short)

FRB-
Reg T
50% initial funding

Answer 82

A

1 Priority- first in
2 Precedence- largest of those submitted
3 Parity (random)

Answer 83

A

Qualification- register with state only

Coordination- register with state & SEC

Notice filing- no registration w state
Just file a notice stating:
Going to offer in- state
State can assess a fee

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