Lesson 1 - Securities Law, Market Structure, and Asset Classes Flashcards
Ian Chesterton, chartered financial analyst®, uses fundamental analysis to evaluate equity securities. Chesterton has been able to use inflation data, historical dividend information, and price-to-book ratios to consistently outperform a broad equity index. Chesterton would most likely identify markets as being
A) weak-form efficient.
B) strong-form efficient.
C) semistrong-form efficient.
D) inefficient
The correct answer is (A).
The use of fundamental analysis to generate abnormal returns violates the semistrong and strong forms of the efficient market hypothesis. Using publicly available information such as dividends and inflation would not result in outperformance in a semistrong-form or strong-form market. Therefore, the market can be only a weak-form level of efficiency.
An investor uses fundamental analysis to form a portfolio of equity securities. The portfolio has outperformed its benchmark for a period of almost a decade. The market under these conditions is most likely
A) inefficient.
B) weak-form efficient.
C) semistrong-form efficient.
D) strong-form efficient.
The correct answer is (B).
A semistrong-form market is one in which fundamental analysis would not lead to superior returns. Thus, a market that provides persistent out-performance opportunities must be only weak-form efficient.
Firms are least likely to use the primary equity market to raise capital for
A) global expansion.
B) research and development investments.
C) the launch of new product lines.
D) a desire to increase its financial leverage.
The correct answer is (D).
Firms use the equity markets for a variety of reasons, but always it is to raise capital for global expansion, for research costs, and for the introduction of new product lines. When firms issue new shares of equity, however, their debt-equity ratios and therefore financial leverage will fall.
Which of the following is true of over-the-counter markets but not of organized exchanges?
A) Trading may occur after regular business hours.
B) They allow investors to trade in equities.
C) Retail investors may trade with both each other and with institutional investors.
D) Trading happens electronically.
The correct answer is (A).
OTC markets allow investors to trade in securities after exchanges are closed. All of the other statements describe other OTC markets and exchanges.
Which type of underwriting arrangement is the riskiest to the underwriter?
A) A best-efforts agreement
B) A firm commitment
C) A private placement
D)A standby underwriting
The correct answer is (B).
A firm commitment puts all the risk on the underwriter.
Which of the following is not part of the U.S. Securities and Exchange Commission’s mission?
A) Protect investors.
B) Insure against large losses for issuers in the primary market.
C) Maintain fair, orderly, and efficient markets.
D) Facilitate capital formation.
The correct answer is (B).
The mission of the U.S. Securities and Exchange Commission is to protect investors; maintain fair, orderly, and efficient markets; and facilitate capital formation.
When must investment advisors register with the SEC?
A) All investment advisors must register with the SEC.
B) When their assets under management exceeds $1 million.
C) When their assets under management exceeds $10 million.
D) When their assets under management exceeds $100 million.
The correct answer is (D).
Investment advisors must register with the SEC when their assets under management exceeds $100 million.
Which of the following statements is (are) correct in regard to the functions of a broker-dealer?
I. To act as intermediaries that help clients buy and sell securities
II. To hold an inventory of securities they believe are undervalued in order to sell them later for a profit
A) I only
B) II only
C) Both I and II
D) Neither I nor II
The correct answer is (C).
Broker-dealers serve two functions: To act as an intermediary in helping clients buy and sell securities and to generate a profit on the trading of undervalued securities. In their dealer function, broker-dealers can hold inventory when they believe the shares are undervalued with the intent of selling them at a later date when the price rises.
Harriet owns many shares of a company. She wants to sell those shares because she needs cash to pay for repairs to her home. Which of the following individuals is most well-suited for helping her to liquidate her shares?
A) A broker-dealer who works in the primary market
B) A broker-dealer who works in the secondary market
C) An underwriter who utilizes the best-efforts method
D)An underwriter who utilizes the firm commitment method
The correct answer is (B).
Harriet can liquidate her shares in the secondary market. To help facilitate those trades, she can work with a broker-dealer. Answer (A) is incorrect because Harriet cannot sell her shares in the primary market; that market is for companies selling shares directly to investors. Answers (C) and (D) are incorrect because underwriters work with companies to sell their shares on the primary market.
Compared to money-market instruments, an advantage of equities is their relatively high
A) liquidity.
B) expected return.
C) risk level.
D) availability.
The correct answer is (B).
A major advantage of equities over other asset classes is their relatively high expected return. Both equities and money-market instruments are highly liquid and available in the secondary market. That equities are riskier than money-market instruments is a disadvantage, not an advantage.
