Investment Companies

Question 1

One of your customers is considering investing in a mutual fund that concentrates assets in investment-grade corporate bonds. What is the principal risk factor to consider?

[A] Interest rate fluctuations
[B] Possible default by the various corporations issuing the bonds
[C] Political risk
[D] Credit risk of the various corporations

Answer 1

[A] Interest rate fluctuations

Interest Rate Risk would be the PRIMARY risk factor for an investor participating in a mutual fund focused on investment-grade corporate bonds. The value of the bond fund will fall if interest rates rise. The credit risks are minimal because of the diversification in the fund and the “investment-grade” status. Political risk could be a concern but it wouldn’t be the primary risk for a bond fund.

Question 2

A client is currently looking for growth, but intends to move investments into income in the next few years. The agent for this client recommends that the client choose a mutual fund company which offers a “fund family” or “family of funds” with a few different offerings for both growth and income. What is the primary reason that the client should choose a fund family that offers the objectives that they desire, versus two different mutual fund companies?

[A] The client will always have more diversification if they stay within the same family of funds.
[B] Within the same family of funds, the client will not have tax consequences when the client switches objective from growth to income.
[C] Within the same family of funds, the client will not be subject to additional sales charges associated with the switch of objective from growth to income.
[D] The client should pick the same family of funds, because it is always better to stick with only one company offering mutual funds.

Answer 2

[C] Within the same family of funds, the client will not be subject to additional sales charges associated with the switch of objective from growth to income.

Within the same family of funds, an investor is not normally charged a sales load if the investor switches from one fund to another with a different objective. Tax consequences would apply to the switch. A client will not always see more diversification within the same family of funds and the client is not always better off sticking with only one company offering mutual funds. The main reason is the lack of sales load when switching from one objective to another.

Question 3

A mutual fund’s net asset value has increased from $22.00 to $23.50 over the last few months. The cause for the increase would be due to

[A] an appreciation in the value of the portfolio
[B] the fund manager deciding to increase the number of shares it issues
[C] an increasing demand for the fund
[D] the decision by the fund manager to reduce the fund’s expense ratio

Answer 3

[A] an appreciation in the value of the portfolio

Question 4

Rodney is looking at a mutual fund. The fund has a high potential for capital appreciation, little to nothing in the form of current yield, and has a relatively high level of risk and volatility when compared to other funds. Which of the following BEST describes the fund being viewed by Rodney?

[A] A growth fund
[B] An income fund
[C] A balanced fund
[D] A US Government bond fund

Answer 4

[A] A growth fund

Of the choices listed, the growth fund would exhibit the characteristics listed best. Growth funds have high potential for capital appreciation, offer little or no income (current yield), and would have higher levels of risk and volatility when compared to the other choices.

Question 5

You have recommended an international mutual fund to one of your clients as a means of further diversifying her portfolio. She’s uncertain if the fund meets her investment needs. In order to further support the recommendation to the client, what should you, the RR, do in this situation?

[A] Explain to the client that this type of investment strategy provides a hedge against foreign currency risks.
[B] Inform the client that you have other clients invested in the same fund.
[C] Inform the client that, in general, international funds generate higher returns than domestic funds.
[D] Explain to the client the risks and benefits of holding investments in international mutual funds.

Answer 5

[D] Explain to the client the risks and benefits of holding investments in international mutual funds.

The best way for a RR to support his recommendation is to review the benefits and risks of the particular investment. The fact that the other clients own the fund is irrelevant because their needs and objectives may be different from those of this client. Foreign currency risks are in fact an additional risk factor to consider with international mutual funds. International mutual funds could generate greater returns (or losses) but it is a misrepresentation to state that they generally do.

Question 6

Which of the following types of mutual funds would ordinarily be considered the LEAST volatile?

[A] Specialized Fund
[B] Growth Fund
[C] Income Fund
[D] Balanced Fund

Answer 6

[D] Balanced Fund

Since the portfolio is kept “balanced” in different securities, it should remain relatively stable and be less volatile than other types of funds.

Question 7

One prime objective of the Investment Company Act of 1940 is to

[A] ensure that practices on stock exchanges are similar throughout the country.
[B] mandate that Treasury securities be included in money market portfolios.
[C] ensure that individual investors are provided with full and fair disclosure regarding corporate securities.
[D] ensure that individuals investing in investment company shares are fully informed and fairly treated.

Answer 7

[D] ensure that individuals investing in investment company shares are fully informed and fairly treated.

One of the prime objectives of the Investment Company Act of 1940 is to ensure that individuals who invest in investment company shares are fully informed as to the risks involved by purchasing the securities. Investors must also be informed of their rights as shareholders and the powers of the board of directors. All of this information must be contained in the prospectus for the fund.

Question 8

All of the following are functions of the transfer agent of a mutual fund EXCEPT:

[A] Sends interest payments to investors.
[B] Maintains detailed records of account holders.
[C] Maintain custody of the securities in the fund.
[D] Sends annual tax documents to investors

Answer 8

[C] Maintain custody of the securities in the fund.

The fund’s securities are held by the custodian and not the transfer agent. Securities are held separately in order to protect the shareholders.

Question 9

The net asset value of a mutual fund must be calculated at LEAST

[A] quarterly.
[B] semi-annually.
[C] daily.
[D] upon receipt of purchase orders.

Answer 9

[C] daily.

Question 10

Which of the following is correct?

[A] The underwriter is paid a fee from the fund’s own cash based on the total assets of the fund.
[B] The investment manager receives a portion of the sales charge.
[C] The management of the fund supervises the buying and selling of securities held by the fund.
[D] The custodian cannot also be the transfer agent.

Answer 10

[C] The management of the fund supervises the buying and selling of securities held by the fund.

Question 11

Payment for a mutual fund purchase must be received

[A] within 7 business days following the trade date.
[B] no later than the close of business on the trade date.
[C] within 2 business days following the trade date.
[D] before settlement date.

Answer 11

[C] within 2 business days following the trade date.

When purchasing fund shares, payment must be received within 2 business days following trade date. After redemption of fund shares, customers must be paid by the fund within 7 calendar days.

Question 12

The custodian of a mutual fund generally can do which of the following functions?

I. act as transfer agent
II. act as dividend disbursing agent
III. receive investor payments
IV. act as registrar

[A] I, IV
[B] II, III
[C] I, II, IV
[D] I, II, III, IV

Answer 12

[D] I, II, III, IV

The custodian acts as dividend disbursing agent (II) by way of the transfer agent (I) and receives investor payments (III) by way of registrar (IV)

Question 13

Which of the following is TRUE of open-end investment companies?

[A] Shares are issued and redeemed daily.
[B] A fixed number of shares is issued and then publicly traded.
[C] Upon initial issuance, the investor must be provided with a prospectus; secondary market transactions do not require a prospectus.
[D] The share price at which an investor can sell the fund is based on supply and demand.

Answer 13

[A] Shares are issued and redeemed daily.

Open-end Investment companies shares are issued and redeemed daily and because newly issued shares are constantly being offered, a current prospectus must always be provided to the investor with new purchases. Open-end investment funds do not issue a fixed number of shares upon issuance. An investor can sell an open-end fund at its NAV, not at a price determined by supply and demand.

Question 14

An investment company which maintains a diversified portfolio of bonds, preferred stocks, and common stocks would be classified as a(n)

[A] Income Fund
[B] Specialized Fund
[C] Balanced Fund
[D] Leveraged Fund

Answer 14

[C] Balanced Fund

Question 15

Computation of NAV of an open-end investment company takes place how often?

[A] On an annual basis as part of the issuance of annual statements
[B] Only when the number of shares in the fund changes
[C] On a quarterly basis using the average bid price over the past quarter
[D] On a daily basis at a time specified by the fund

Answer 15

[D] On a daily basis at a time specified by the fund

Question 16

A mutual fund with a portfolio primarily consisting of emerging new companies in different industries, would be classified as a:

[A] Income fund
[B] Sector fund
[C] Technology fund
[D] Growth fund

Answer 16

[D] Growth fund

A growth fund would invest primarily in emerging new companies in a variety of different industries. A sector fund would classify all of the companies in one industry.

Question 17

All of the following individuals could invest in a hedge fund EXCEPT
[A] an engineer with an annual income of $220,000 for the last three years.
[B] a professor with a net worth of $1,250,000.
[C] a zoologist with $1,100,000 in assets managed by a specific investment manager.
[D] an accountant with an annual income of $175,000 over the last five years.

Answer 17

[D] an accountant with an annual income of $175,000 over the last five years.

An engineer with an annual income of $220,000 meets the requirement of an accredited investor. An accredited investor has to have an income of $200,000 or more in each of the last two years or a net worth of $1,000,000. An accountant who has an annual income of $175,000 does not meet the definition of an accredited investor and would generally not qualify to invest in a hedge fund. A professor with a net worth of $1,250,000 meets the definition of an accredited investor. Lastly, a zoologist with $1,100,000 in assets managed by a specific investment manager is a qualified client and is allowed to participate in a hedge fund.

Question 18

According to the Investment Company Act of 1940, a fund must satisfy which of the following requirements?

[A] A minimum initial net assets of $10,000
[B] A minimum sales load that must be charged by all funds
[C] 60% of the Board must be non-affiliated with the fund in order to be registered with the SEC
[D] A stated investment objective which can only be changed by a majority vote of the outstanding voting shareholders

Answer 18

[D] A stated investment objective which can only be changed by a majority vote of the outstanding voting shareholders

The Investment Company Act of 1940 requires that a fund have a minimum net worth of $100,000 (not $10,000) before it can be issued to the public and must have a stated investment objective. There is no minimum sales load that must be charged and no requirement that 60% of the BOD be non-affiliated.

Question 19

Which of the following is true of the custodian?

[A] It performs management, supervisory, or investment functions.
[B] It takes part in the sale or distribution of fund shares.
[C] It may perform any essential clerical type service for the fund and the shareholders.
[D] It affords investors protection against a possible decline in the value of fund shares.

Answer 19

[C] It may perform any essential clerical type service for the fund and the shareholders.

Custodial services are usually provided by banks, and custodians may provide clerical services only. They may not be involved with sales or be called distributors.

Question 20

All of the following are TRUE of unit investment trusts EXCEPT that they are

[A] regulated.
[B] managed.
[C] diversified.
[D] redeemable.

Answer 20

[B] managed.

UIT’s are supervised but not managed.

Question 21

The investment advisory contract of an investment company must be approved by which of the following?

[A] The transfer agent
[B] FINRA
[C] The shareholders or a majority of the board of directors
[D] The SEC

Answer 21

[C] The shareholders or a majority of the board of directors

The Investment Advisory Contract must be approved by the shareholders or a majority of the Board of Directors

• Initially for two years, and
• Annually thereafter.

Question 22

Which of the following statements about investment advisory fees paid by a mutual fund is TRUE?

[A] The SEC must review and approve the investment advisory fees.
[B] In light of differences between funds, fees will differ from fund to fund.
[C] For new investors Investment advisory fees are usually fixed for the first two years.
[D] FINRA rules regulate the amount of fees paid to an investment advisor.

Answer 22

[B] In light of differences between funds, fees will differ from fund to fund.

The management fee paid by a fund to its registered investment advisor is subject to negotiation and varies from one fund to another. The fee is charged against the assets of the fund and not included in the sales charge. It is not subject to approval by the SEC nor regulated by FINRA.

Question 23

The primary purpose of a 12b-1 fee is to

[A] cover ongoing expenses associated with the distribution of the fund
[B] cover accounting costs and recordkeeping costs at member firms that sell the fund
[C] cover hiring and compensation costs of the fund’s Board of Directors
[D] compensate the fund’s the Investment Advisor

Answer 23

[A] cover ongoing expenses associated with the distribution of the fund

The primary purpose of 12b-1 fees is to compensate for ongoing marketing and distribution expenses, such as advertising and promotion of the fund.

Question 24

The term “net asset value plus sales charge” is synonymous with

[A] bid price.
[B] ask price.
[C] redemption price.
[D] discount price.

Answer 24

[B] ask price.

Question 25

A client is heavily invested in international mutual funds. He is concerned about fluctuations in foreign currency exchange rates. What should the RR advise him?

[A] No impact should be seen in the client’s holdings as long as the portfolio consists of established, large capitalization companies.
[B] Companies in the fund that are located outside the U.S. and sell products internationally will discover that U.S. products are cheaper to foreign consumers when U.S. currency declines in relation to foreign currencies.
[C] Transactions in this type of fund are converted to U.S. currency, so the customer will not see an impact due to fluctuating exchange rates.
[D] Only when stability exists in exchange rates is it wise to invest in international funds, because this is the only way to be sure that returns will be positive from such investments.

Answer 25

[B] Companies in the fund that are located outside the U.S. and sell products internationally will discover that U.S. products are cheaper to foreign consumers when U.S. currency declines in relation to foreign currencies.

International mutual funds invest in the shares of foreign companies. The currencies of the countries in which these companies do business will fluctuate in relation to the American dollar, and we always expect the value of the foreign currency to move in the opposite direction of the U.S. Dollar, so if the value of the U.S. Dollar is declining we would expect the value of the foreign currency to go up, thus U.S. products will be cheaper to foreign consumers. International fund managers must be alert to foreign currency exchange rates, because seemingly profitable investments may turn unprofitable if the foreign currency falls against the American dollar.

Question 26

John is looking at mutual funds and he notices the difference in share pricing between the different classes of shares offered. Which of the following is the most appropriate explanation by an agent of the difference in classes of shares?

[A]	"The three classes of shares offered are for upper-class investors, middle-class investors, and lower-class investors."
[B]	"The three classes of shares offered apply to three different manners in which sales charges and annual expenses will be charged."
[C]	"The three classes of shares offered apply to three different manners in which redemptions of fund shares will be handled."
[D]	"The three classes of shares offered are for three different fund objectives within the same family of funds."

Answer 26

[B] “The three classes of shares offered apply to three different manners in which sales charges and annual expenses will be charged.”

Different classes of shares exist to provide investors with different options in terms of how sales loads and fund expenses are charged. Normally, Class A shares offer up-front sales charges. Class B shares are back-end loaded funds, where sales loads may depend on the length of time the shares are held. Class C shares often charge no sales charge, but have high annual expense charges.

Question 27

Which of the following need NOT be included in the prospectus of a mutual fund?

[A] The costs and fees associated with management of the fund
[B] The manner in which 12b-1 fees are distributed
[C] Back-end or contingent deferred sales charges
[D] Minimum purchase amounts and quantity discounts

Answer 27

[B] The manner in which 12b-1 fees are distributed

All of the fees and charges related to a fund must be disclosed in the prospectus. How the 12b-1 charges are distributed for sales and promotional purposes does not need to be disclosed.

Question 28

Which of the following would NOT be contained in a letter of intent?

[A] A clause stating that the maximum time limit for the letter of intent is 13 months
[B] A clause stating that the letter of intent may be backdated 90 days to include a past purchase of shares
[C] A clause stating that the fund may stop a redemption during the duration of the letter of intent
[D] A clause stating that the fund may withhold some of the initially purchased shares in an escrow account to insure fulfilling of the letter of intent

Answer 28

[C] A clause stating that the fund may stop a redemption during the duration of the letter of intent

A letter of intent has a duration of 13 months. The letter may be backdated 90 days to include previous purchases. Also, a certain amount of the initially purchased shares may be placed in an escrow account to insure the fact that the letter of intent will be fulfilled. If the letter is not completed, these shares in the escrow account will be used to cover any additional sales charges that are due. The letter of intent will not contain a clause stopping a redemption during the 13 month period.

Question 29

Which of the following would cause the net assets of a mutual fund to decrease?

[A] Dividends distributed to shareholders
[B] The securities in the portfolio have paid dividends and/or interest.
[C] The value of the securities in the portfolio is appreciating.
[D] Increased fund purchases

Answer 29

[A] Dividends distributed to shareholders

When dividends are paid to shareholders, the net asset value of the fund is reduced on the morning of the ex-date thus causing the overall net asset value to decline.

Question 30

The risks associated with investing in a Business Development Company (BDC) include all of the following EXCEPT

[A] Credit risk
[B] Market volatility risk
[C] Exchange risk
[D] Leverage risk

Answer 30

[C] Exchange risk

The exchange risk refers to the foreign currency exchange rate risk. That risk is typically not involved in a BDC investment. The other three risks are applicable to an investment in a BDC: (1.) The credit risk- BDCs are sub-prime lenders. Many of the companies that they lend to are rated “junk” (2.) The market volatility risk- BDC share prices are very volatile (3.).The leverage risk -BDCs borrow at low interest rates and lend at high interest rates. Borrowing too much could be a problem to the BDC because the BDC’s investment portfolio is relatively illiquid.

Question 31

A client is looking to redeem some shares of an open-end investment company (mutual fund shares). The client wants to know exactly what the amount that they will receive will be. How should the agent respond?

[A] The agent should respond with the current published bid (NAV) for the fund and inform the client that they will get the bid less redemption costs.
[B] The agent should respond by telling the client that the bid (NAV) for the fund is calculated daily at the close of trading and the client will have to wait to get an exact amount until that figure is calculated and any redemption fees are subtracted.
[C] The agent should respond by telling the client that the bid (NAV) for the fund is calculated monthly, and that the client will have to wait until the end of the month to redeem at the NAV less any redemption fees.
[D] The agent should respond by telling the client that redemptions are only permitted on specified dates, sometimes monthly, quarterly, or semi-annually, and that the customer should refer to the information in the prospectus of the fund to find when and at what price they can redeem their shares.

Answer 31

[B] The agent should respond by telling the client that the bid (NAV) for the fund is calculated daily at the close of trading and the client will have to wait to get an exact amount until that figure is calculated and any redemption fees are subtracted.

The Net Asset Value (NAV) or bid on a mutual fund share is the amount that a customer will receive upon redemption minus any redemption fees. The NAV is calculated on a DAILY basis at the close of trading for a fund. Here, the agent should inform the client that an exact amount cannot be calculated until the NAV is known at the end of the day and redemption fees have been subtracted.

Question 32

When determining the suitability of an investor to invest in a hedge fund, all of the following would be relevant EXCEPT
[A] the net worth of the investor.
[B] whether or not the fund’s charges will be based on performance of the fund.
[C] the liquidity requirements of the customer.
[D] the historical returns produced by the hedge fund.

Answer 32

[D] the historical returns produced by the hedge fund.

In determining suitability for an investor, you would look at the investor’s net worth. Investors require high net worth to invest in hedge funds. Also, you need to make sure the investor is comfortable with the fees charged by hedge funds. Do they want to pay the performance-based fees? Can the investor afford the fees? Lastly, you need to make sure the investor is comfortable with the lack of liquidity.
Only after you feel hedge funds are suitable, then you would look at the historical returns. This will be important when choosing a particular hedge fund, but is not part of determining the suitability of whether hedge fund investing is suitable for a given individual.

Question 33

“Rights of accumulation” means that the investor

[A] can qualify for a reduced sales load on mutual fund purchases by combining his related accounts within a mutual fund family
[B] can defer capital gains and dividends taxes by accumulating this income in a separate account
[C] can accumulate 2 voting shares for each share owned
[D] has qualified to withdraw from the fund on a tax-free basis for a period of two years only

Answer 33

[A] can qualify for a reduced sales load on mutual fund purchases by combining his related accounts within a mutual fund family

Most funds offer investors the ability to qualify for reduced sales charges on new purchases when the total worth of already held shares plus the additional amount to be invested exceeds the breakpoint discount amount. When determining total worth funds allow investors to combine related accounts to qualify for the discount-such as family member’s accounts.

Question 34

Which of the following would be the best choice if a client has $30,000 to invest but needs monthly income?

[A] An aggressive growth fund
[B] Blue chip stocks
[C] A sector fund
[D] A money market fund

Answer 34

[D] A money market fund

Of the choices offered, the money market fund would be most appropriate because it offers income, safety, and liquidity. You would not choose the Aggressive Growth Fund because growth stocks generally do not pay dividends and would not provide income. Blue Chip stocks do pay dividends but NOT monthly. Dividends are normally paid quarterly, therefore, Blue Chip stocks would not work. A Sector Fund is too general since we do not know what sector it is in.

Question 35

When looking at quotes for Closed-end investment companies what is meant by the term “% Difference”?

[A] It is the after tax return received by an investor.
[B] It is the difference between the current bid and ask price.
[C] It is the difference between the closing price on the reported trading date and the previous day’s closing price.
[D] It is a fund’s net assets (total assets minus total liabilities).

Answer 35

[C] It is the difference between the closing price on the reported trading date and the previous day’s closing price.

The % Difference is the difference between the closing price on the reported trading date and the previous day’s closing price.

Question 36

Which of the following is TRUE about the taxation of municipal bond funds?

[A] The investor will only pay taxes on capital gains when the fund is sold.
[B] Distributions of capital gains are subject to taxation at the federal level, but dividend from municipal funds is not subject to federal taxes.
[C] All income from such a fund, including capital gains and dividend distributions, is exempt from taxation at the federal level.
[D] All income from such a fund, including capital gains and dividend distributions, is tax-deferred until shares of the fund are sold.

Answer 36

[B] Distributions of capital gains are subject to taxation at the federal level, but dividend from municipal funds is not subject to federal taxes.

Dividend distributions are exempt from federal income tax because the dividends come from the interest income on the municipal bonds, which is tax exempt. However, capital gains are subject to taxation.

Question 37

A registered representative recommends that a client purchase shares of a mutual fund today rather than tomorrow because the fund shares will go ex-dividend tomorrow. The registered representative explains that if the client waits until tomorrow to purchase the shares, the client will not receive the dividend. Such a recommendation by the registered representative is:

[A] Allowed, because shares purchased on or after ex-date do not receive dividends and are not in the client’s best interest.
[B] Prohibited, because such recommendation is selling dividends and is not in the client’s best interest.
[C] Not regulated because it would have no effect on the client’s potential position.
[D] Acceptable, provided it is first approved in writing by the registered representative’s branch manager.

Answer 37

[B] Prohibited, because such recommendation is selling dividends and is not in the client’s best interest.

Selling dividends is illegal. What the registered representative has neglected to tell the investor is that while he will receive the dividend, he is paying for it. The price of the stock is reduced on ex-dividend date by the amount of the dividend. If the client waits until the shares go ex-dividend, he will pay less for them.

Question 38

The net asset value of a mutual fund is affected by which of the following:

[A] appreciation
[B] amortization
[C] accretion
[D] annuitization

Answer 38

[A] appreciation

Question 39

A fee charged to a customer who buys shares of some mutual funds and is normally paid “up-front” describes which of the following?

[A] No-load fund
[B] Sales Load
[C] 12b-1 Fee
[D] Mark-up

Answer 39

[B] Sales Load

A Sales Load is a fee charged to a customer who buys shares of some mutual fund and normally pay the fee “up-front” at the time of purchase (front-end load).

Question 40

All of the following mutual fund terms have the same meaning except:

[A] net asset value
[B] redemption price
[C] public offering price
[D] Bid

Answer 40

[C] public offering price

Question 41

Predictions about the future performance of mutual funds and variable annuities are

[A] permitted if the basis of the prediction is provided.
[B] not permitted, regardless of the situation.
[C] permitted if prepared by an outside and unbiased analyst.
[D] not permitted unless reviewed by FINRA 10 days before first use.

Answer 41

[B] not permitted, regardless of the situation.

Predictions or guarantees about future performance of variable products and investment companies are not allowed under any circumstances.

Question 42

All of the following could be found in a money market fund’s portfolio EXCEPT

[A] bank certificates of deposit.
[B] Treasury bills.
[C] Treasury bonds having a short time to maturity.
[D] common stock.

Answer 42

[D] common stock.

Since common stock does not have a maturity of 12 month or less it would not be found in money market funds.

Question 43

A mutual fund breakpoint occurs when

[A] redemptions equal the purchases
[B] the sales load is reduced because a specified dollar amount has been invested
[C] the sales charges to the customer equal the customer’s return from their investments
[D] there is a break in performance and a downturn in investment value

Answer 43

[B] the sales load is reduced because a specified dollar amount has been invested

The schedule of breakpoint discounts found in a prospectus for a mutual fund shows the levels at which sales charges are reduced for quantity purchases.

Question 44

When are investors permitted to combine purchases of open-end investment company shares with other investors in order to qualify for the reduced sales charge?

[A] For individuals who have formed an investment club
[B] When an agent represents a group of individuals joined together for the purpose of purchasing fund shares.
[C] For immediate family members only
[D] This is never permitted.

Answer 44

[C] For immediate family members only

Investment clubs and groups of individuals who would not otherwise qualify for a reduced sales load can never join together for that purpose. Investment companies are permitted to allow breakpoints for family members and normally limit these discounts to immediate family members (e.g., husband, wife, and children). Stating that this is “never” permitted is false. In certain situations, it is permitted.

Question 45

A customer interested in income and capital gains would most likely choose which of the following investments?

[A] stripped treasuries
[B] growth stocks
[C] zero coupon corporate bonds
[D] mutual funds

Answer 45

[D] mutual funds

Of the choices offered, mutual funds would be the only choice which would offer both income and capital gains.

Stripped Treasuries have no income
Growth Stocks have little or no income
Zero Coupon Bonds pay interest only at maturity

Question 46

An investor interested in tax free interest income should invest in which of the following?

[A] A certificate of deposit
[B] A money market fund
[C] A municipal bond fund
[D] A corporate bond fund

Answer 46

[C] A municipal bond fund

Since Municipal Bond interest is exempt from Federal Income tax, an investor should consider the Municipal Bond Fund in order to receive tax free interest income.

Question 47

Periodic payments made to investors under most mutual funds automatic withdrawal plans are derived from which of the following?

[A] Capital gains on the fund’s portfolio
[B] Dividends on funds
[C] Liquidation of shares from the investor’s account
[D] Short-term capital gains reinvested

Answer 47

[C] Liquidation of shares from the investor’s account

Automatic withdrawals would require shares owned by the investor to meet the automatic payment plan chosen by the investor.

Question 48

Predicting the future return on a variable annuity is allowed

[A] if it is based on results obtained over the last year
[B] if an explanation of the basis of the prediction is included
[C] if the projections are approved by the NASD
[D] It is never allowed.

Answer 48

[D] It is never allowed.

Projections and predictions on Variable Annuities is never allowed under any circumstances.

Question 49

All of the following statements would be true with regard to Hedge Funds EXCEPT:
[A] They take long and short positions and use derivatives.
[B] All sophisticated investors are allowed to invest in Hedge Funds.
[C] They generally offer investors the ability to sell monthly, quarterly, or annually.
[D] They are not registered under the Investment Company Act of 1940.

Answer 49

[B] All sophisticated investors are allowed to invest in Hedge Funds.

Generally only Accredited, Qualified, or Semi-affluent investors who satisfy the minimum investment requirements are allowed to invest in Hedge Funds. A sophisticated Investor is an investor that has some investment experience but does not meet the requirements of Accredited or Qualified.

Question 50

A registered representative during a recent seminar presented a comparison of ABC Fund’s total return to the growth of a less widely recognized stock index. No disclaimers or the other material was used to explain the comparison. Which of the following statements is true?

[A] This is an acceptable practice without any restrictions.
[B] This is acceptable only if all persons in attendance are given a copy of the comparison.
[C] This is acceptable only with the approval of the Branch Manager.
[D] This is an unfair comparison and is a prohibited practice.

Answer 50

[D] This is an unfair comparison and is a prohibited practice.

Generally, mutual funds cannot be compared to index values, especially since the fund was considering “total return” (income and appreciation) which was not considered on the index, – thus, would be misleading the investors.

Question 51

Which of the following is NOT a characteristic of mutual funds?

[A] Professional management
[B] Diversification
[C] Special services including dividend reinvestment plans and periodic withdrawals
[D] Highly liquid secondary markets

Answer 51

[D] Highly liquid secondary markets

All are characteristics of mutual funds except highly liquid secondary markets. Mutual funds are open-end investment companies and issue redeemable shares. If investors want to sell their shares they are not sold in the secondary market but are redeemed back to the investment company that issued the shares.

Question 52

Rodney is looking at a mutual fund. The fund has a high potential for capital appreciation, little to nothing in the form of current yield, and has a relatively high level of risk and volatility when compared to other funds. Which of the following BEST describes the fund being viewed by Rodney?

[A] A growth fund
[B] An income fund
[C] A balanced fund
[D] A US Government bond fund

Answer 52

[A] A growth fund

Of the choices listed, the growth fund would exhibit the characteristics listed best. Growth funds have high potential for capital appreciation, offer little or no income (current yield), and would have higher levels of risk and volatility when compared to the other choices.

Question 53

Investments made in investment companies are generally done for which of the following?

[A] short term trading opportunities
[B] diversification and professional management
[C] guaranteed yield and return of principal
[D] to avoid market fluctuation risks

Answer 53

[B] diversification and professional management

Investors investing in investment companies own a small portion of the many different companies in the fund’s portfolio, thus giving them diversification and professional management by the fund’s investment manager.

Question 54

A single mother has savings to cover for the first two years of her child’s college education, which is expected to begin in five years. She wants to invest this money to earn a return but wants minimal risk. Which of the following would be her BEST choice?

[A] A global fund comprised mostly of equities would best suit the customer’s needs.
[B] The mother should put the money into a sector fund focusing on private sector education.
[C] A sector fund focusing on technology securities would best suit the customer’s needs.
[D] The mother should put the money into a corporate bond fund that contains only triple A-rated issuers.

Answer 54

[D] The mother should put the money into a corporate bond fund that contains only triple A-rated issuers.

Of the choices offered, the Corporate Bond Fund is the best choice because it gives her a return and does not include stocks, which are more risky than bonds.

Question 55

A particular mutual fund focuses its investments in one state, and even more specifically, within a specific county of that state. Such a fund would primarily be exposed to which type of risk?

[A] Marketability
[B] Interest rate
[C] Capital
[D] Systematic

Answer 55

[A] Marketability

The fund described would be a sector fund. Of the choices listed, the marketability or liquidity of such a fund would be a primary risk factor. Though interest rate risks, capital and systematic risks are inherent to mutual funds, these risks will be similar or the same for all mutual funds across the board, and these risks would not differ by region. A lack of geographic diversity within a fund would subject the fund to marketability issues.

Question 56

The record date of mutual fund distributions

[A] is decided by the mutual fund itself
[B] always falls on the third Friday of each month
[C] is determined by the Investment Company Institute
[D] is the business day after the ex-date

Answer 56

[A] is decided by the mutual fund itself

Because mutual funds are not traded OTC or on an exchange, the record date and ex-date would always have to be set by the fund itself.

Question 57

Which of the following is true when an open-end investment company makes a capital gains distribution?

[A] The Net Asset Value of the fund declines.
[B] It is non-taxable to the recipient.
[C] The distribution must be made in additional shares.
[D] Up to 50% of the gain is exempt from federal taxation.

Answer 57

[A] The Net Asset Value of the fund declines.

Capital Gains distributions by investment companies are treated as a long-term gain to the investor and would reduce the net asset value of the fund.

Question 58

An investor switches his investment in a mutual fund to another fund within the same family, incurring a nominal service fee but no additional sales charges. What are the tax consequences?

[A] There are no tax consequences since the switch is within the same family of funds.
[B] There are no tax consequences if the switch is completed in 45 days.
[C] Any gain is non taxable because a service fee is charged.
[D] There are possible tax consequences because the switch is treated as a sale and a purchase.

Answer 58

[D] There are possible tax consequences because the switch is treated as a sale and a purchase.

If an investor switches his investment from one fund to another fund under the same management at NAV, the switch does not require additional sales charges. However, the switch may result in a tax gain or loss because the IRS classifies it as a sale and purchase.

Question 59

Which of the following would be TRUE of an open-end investment company that only invests in municipal bonds?

[A] All returns from this type of fund would be tax-free.
[B] Dividend payouts of interest received on the municipal bonds within the portfolio would be exempt from federal income taxes.
[C] Capital gains realized by the fund and paid out to investors would be exempt from federal income taxes.
[D] Because the municipal bonds are purchased within a fund, all distributions of both dividends and capital gains would be taxable.

Answer 59

[B] Dividend payouts of interest received on the municipal bonds within the portfolio would be exempt from federal income taxes.

Due to reciprocity, dividend payouts by a municipal bond fund related to interest payments from the municipal bonds in the portfolio would be exempt from federal income taxes. This would be the only aspect of payout that would be tax-free. Capital gains related to increases in the price of bonds and subsequent sale would be taxable.

Question 60

A Business Development Company (BDC) decides to expand by issuing more shares to the public. It will use the funds to lend to small and medium size businesses looking to borrow funds. A registered representative is considering recommending these shares to her customers. Which of the following statements is FALSE regarding BDCs?

[A] They have credit risk.
[B] BDC shares are generally very volatile.
[C] They are appropriate for investors who have low risk tolerance.
[D] BDCs are sub-prime lenders.

Answer 60

[C] They are appropriate for investors who have low risk tolerance.

BDCs are companies that:

1. have credit risk since they are sub-prime lenders
2. issue shares which generally have a volatile market price
3. try to borrow at low interest rates themselves and lend at high interest rates.
4. should only be purchased by investors who have HIGH risk tolerance.