Mock exam 4

Question 1

Question 2
[1050013] Tim uses technical analysis to make investment decisions within the currency markets. His friend Margo has been reading about the efficient market hypothesis as part of her studies. Margo proclaims to Tim ‘your technical analysis should not work according to the…form of the EMH’.
What form, at least, of the EMH is Margo referring to?
AArbitrage BStrong CWeak DSemi-strong

Answer 1

The correct answer is: C - Weak
Explanation
The weak form of the EMH states that all historic price information is built into the current market price. Therefore there is no benefit to studying historic price patterns and trends which is the basis of technical analysis.

Question 2

Question 1
[1023962] Which of the following is NOT true regarding equity warrants?
AThey can be issued with a bond in a detachable form BOn exercise warrants raise funds for the company CThe issuer can exercise the rights on the exercise date DThe holder of the warrant has no right to vote

Answer 2

The correct answer is: C - The issuer can exercise the rights on the exercise date
Explanation
The holder exercises the warrant, not the issuing company.

Question 3

A middle aged investor with a maturing family now wishes to focus his investments on saving for his retirement whilst still providing protection for his family. He already invests in unit trusts and is a low risk investor. What would you think should be the focus of his investments?
AWith profits bonds BIncome generating investments such as bonds CInvestments offering capital growth such as property and equity DThe ease with which he can switch between one product and another

Answer 3

The correct answer is: A - With profits bonds
Explanation
With profits bond offers a guaranteed capital return plus a share in any profits. It also has a life assured element, should the investor die during the term of the bond thus offering an element of protection for his family.

Question 4

Which of the following are FALSE regarding stamp duty reserve tax?
IIt is charged at 0.5%
IISome funds contain exempt assets
IIIIt is a tax on transactions
IVLess SDRT is paid if more units are surrendered than issued over the qualifying period
AII, III and IV BI, II and IV CI, III and IV DNone of the above

Answer 4

The correct answer is: D - None of the above
Explanation
All of the options are true for SDRT.

Question 5

Rupert is adopting a passive bond strategy. Which of these is the MOST likely explanation for Rupert’s actions?
ARupert believes interest rates are going to rise quickly in the near future, and wishes to take advantage of current rates BRupert thinks the equity market is efficient CRupert wishes to match some liabilities he faces over the next decade DRupert suspects that the spread between the yield of bonds of different levels of issuer risk is going to narrow

Answer 5

The correct answer is: C - Rupert wishes to match some liabilities he faces over the next decade
Explanation
Liability matching is a passive bond strategy. Two choices are examples of active bond strategies, the other states equity markets are efficient and the question is about a bond strategy.

Question 6

An authorised firm receives a complaint from a customer on 1 March. Which of the below is the latest for them to inform the customer about the FOS, assuming no bank holidays?
A8 March B29 March C2 April D26 April

Answer 6

The correct answer is: D - 26 April
Explanation
An authorised firm has eight weeks to resolve the dispute, otherwise they should provide the customer with an update and advise them of the FOS.

Question 7

A two-year 5% bond is trading at £100. Based on this information what will be the price of a two year 3.5% bond?
Assume the bonds have annual coupons.
A102.84 B97.21 C98.41 D93.88

Answer 7

The correct answer is: B - 97.21
Explanation
As a two year bond with a 5% coupon is trading at par, 5% is the effective discount rate.
The bond cashflows will be discounted as follows: T1 = £3.50 / 1.05 T2 = £103.5 / 1.05 x 1.05 (1.05 squared)
£3.50/1.05 + 103.50/1.05^2 = £97.21

Question 8

A firm wishes to compare its returns against those of a risk-free rate. Which of the following would be the best benchmark for this rate?
ADeposit account BNational Savings and Investment products CUK government bonds DEquity

Answer 8

The correct answer is: C - UK government bonds
Explanation
It is appropriate to use a UK government bond which most nearly matches the investment term being assessed.

Question 9

Frank is filling out his annual tax return. He has earned £45,000 in salary and £10,000 as a bonus. He has been granted the use of a company car as a benefit-in-kind assessed at £5,000. How much should he declare as earned income?
A£45,000 B£50,000 C£55,000 D£60,000

Answer 9

The correct answer is: D - £60,000
Explanation
Income includes salary and wages, bonus, commission and fees and benefits in kind.

Question 10

Which of the following will be the most suitable investment for a non-taxpayer who expects interest rates to rise and who requires income?
AExchangeable bonds BLow coupon bonds CGilt strips DFRNs

Answer 10

The correct answer is: D - FRNs
Explanation
FRNs are Floating Rate Notes. These bonds pay a variable rate of interest linked to the interest rate in the economy. Therefore, the coupon on the bond will rise if interest rates increase. Also, the prices of FRNs are less sensitive to changes in interest rates than fixed rate bonds.

Question 11

Michael is a small private investor who has been watching the markets for some time now. He has noticed that the day after snow disrupted transport links to the city, the markets tended to rise. At the end of the next snowy day, Michael invests in an exchange-traded fund (ETF) that tracks the FTSE 100 index.
Michael could be said to be suffering from:
ALoss aversion BConfirmation bias CHindsight bias DCognitive bias

Answer 11

The correct answer is: C - Hindsight bias
Explanation
Michael is relying on hindsight bias. Creating a link and an explanation based on probably unrelated events simply through observation.
Loss aversion is the tendency for people to get a greater loss of satisfaction from losses, than they would gain satisfaction from the equivalent gains. Confirmation bias is the tendency to look for information or returns that confirm your beliefs. There are many forms of cognitive bias.

Question 12

Which of the following is not one of the four theories of behavioural finance?
AProspect theory BRegret theory CAnchoring DFraming

Answer 12

The correct answer is: D - Framing
Explanation
Framing is not one of the four theories. The four theories: Prospect Theories, Regret Theory, Anchoring, Over-and-Under reaction.

Question 13

Harry needs to find a bond with a real return of 3.3% to fit the risk/return target of his customer. Inflation is currently running at 3.7% per annum. Below is the nominal rate of return of four bonds:
Bond A: 1.1%
Bond B: 3.5%
Bond C: 7.0%
Bond D: 7.1%
Which bond should Harry recommend for his customer?
ABond A BBond B CBond C DBond D

Answer 13

The correct answer is: D - Bond D
Explanation
The nominal return is made up of the compounded effect of the real return and the inflation rate.
(1 + nominal return) = (1 + real return) x (1 + inflation rate). (1 + nominal return) = (1.033) x (1.037) (1 + nominal return) = 1.0712
So, Harry requires a bond with a nominal return of 7.12%. At 7.1%, Bond D has the closest nominal return to this.

Question 14

Marital status is important in calculating various tax liabilities. Which of the following is least likely to be affected by the marital status of the client?
ACapital gains tax BIncome tax CInheritance tax DNational insurance

Answer 14

The correct answer is: D - National insurance
Explanation
Of the four taxes listed, national insurance liability is the least likely to be affected by the marital status of the client.

Question 15

What two types of tax will a fund receiving overseas income suffer?
IWithholding tax
IIUnderlying tax
IIIIncome tax
IVCapital gains tax
AI and III BI and II CII and III DIII and IV

Answer 15

The correct answer is: B - I and II
Explanation
Withholding tax and underlying tax are suffered on overseas income.

Question 16

You are a portfolio manager responsible for a UK equity fund. Your outlook for the next few months is very negative and you are considering potential hedges for your portfolio. Which of the following is/are correct?
IA short FTSE100 futures position would limit downside but retain the upside
IIA short put option would protect the downside but retain the upside
IIIA short futures position would require less initial outlay than a long option position
AI and III BII and III CIII only DI, II and III

Answer 16

The correct answer is: C - III only
Explanation
A short futures position would protect the downside, but would lose if prices rise.
A short put will not protect the portfolio - a long put is needed. A short put loses if the price falls.
A short future does not involve any initial outlay (other than margin), whereas long options require the payment of the option premium to the writer.

Question 17

Which of the following are potential benefits of investment overseas?
IReaping benefits of overseas economies
IIInternational diversification
IIITax-free to UK residents
IVCurrency gains
AI only BI and II CI, II and IV DAll of the above

Answer 17

The correct answer is: C - I, II and IV
Explanation
There is no exemption from tax just because investments are abroad.

Question 18

Which of the following is a NOT a principle according to Fair Treatment of Customers (FTOC)? Consumers:
ACan be confident that a trade has been executed at the best price BDo not face unreasonable post-sale barriers to changing a product CAre provided with products that perform as firms have led them to expect DShould receive suitable advice

Answer 18

The correct answer is: A - Can be confident that a trade has been executed at the best price
Explanation
Consumers can be confident that a trade has been executed at the best price’ is not one of the six outcomes of the FTOC regime. This would, however, be covered under ‘best execution’ in the FCA’s conduct of business rules.

Question 19

Which of the following is/are correct of unit linked and with-profit bonds?
IUnit linked bonds have no basic sum assured
IIWith-profit bonds have a basic sum assured
IIIUnit-linked bonds can contain no extra life cover
IVUnit-linked bonds attract bonuses
AI & II BII & IV CI, II & III DII only

Answer 19

The correct answer is: A - I & II
Explanation
With-profit bonds do have a sum assured, whereas unit-linked bonds do not. The sum assured is a guaranteed amount payable on death.

Question 20

Which of the following is true of Small Self Administered Schemes (SSAS)?
ABorrowing is allowed up to 5% of the value of the commercial property BBorrowing is allowed up to 50% of the value of the commercial property CBorrowing is allowed up to 5% of the value of the SASS fund DBorrowing is allowed up to 50% of the value of the SSAS fund

Answer 20

The correct answer is: D - Borrowing is allowed up to 50% of the value of the SSAS fund
Explanation
Borrowing is allowed up to 50% of the value of the SSAS fund.

Question 21

Which of the following is not excluded from the formation of a bond index?
AStrippable bonds BVariable interest bonds CConvertible bonds DIndex-linked bonds

Answer 21

The correct answer is: A - Strippable bonds
Explanation
Strippable bonds are included in bond indices. All the others are excluded.

Question 22

An investor is choosing between a 10% 2045 gilt priced at £100 and a 12% 2045 gilt priced at £120. Which of the following is TRUE?
AThe gross redemption yield on each is the same BThe gross redemption yield of the 10% gilt is less than the gross redemption yield of the 12% gilt CThe coupon yield on each is the same DThe coupon yield on the 10% gilt is less than the coupon yield of the 12%

Answer 22

The correct answer is: C - The coupon yield on each is the same
Explanation
The coupon yield (or running/flat/income yield) would be equal for both bonds.

Question 23

What is the personal savings allowance for a higher rate tax payer?
A£12,500 B£5,000 C£1,000 D£500

Answer 23

The correct answer is: D - £500
Explanation
The personal savings allowance allows higher rate taxpayers to earn up to £500 in interest income with no tax liability on that income. For basic rate tax payers the personal savings allowance is £1,000.

Question 24

Ignoring any external intervention, how will increases in the money supply affect interest rates?
AIncrease interest rates BDecrease interest rates CInterest rates will not be affected DInterest rates could rise or fall

Answer 24

The correct answer is: B - Decrease interest rates
Explanation
If the supply of money increases, all else being equal, interest rates in theory will fall.

Question 25

An investor wishes to directly hold a property through a trust. Which of the below investments will allow this? AProperty investment trusts BProperty company shares CProperty unit trusts DProperty fund of funds

Answer 25

The correct answer is: C - Property unit trusts Explanation The investor has a direct interest in a property held in a property unit trust, so that would be the best answer here. Property investment trusts can not hold property directly. Property company shares are shares of property development companies. Property fund of funds is where a fund has invested in other property funds, so this would be indirect investment.

Question 26

You are evaluating a portfolio's risk adjusted returns and are considering which risk-adjusted performance measures to use. Which of the following performance measures use systematic risk within their calculation rather than total risk? ISharpe Ratio IITreynor Ratio IIIJensen Measure AI & II BII & III CII only DI & III

Answer 26

The correct answer is: B - II & III Explanation The Sharpe Ratio uses standard deviation which is a measure of total risk. Treynor and Jensen use beta as the risk measure which is a measure of systematic risk only.

Question 27

Marcus is a higher rate taxpayer who wishes to invest in a well-diversified fund and gain some tax efficiency but wants to take control of the timings of his purchases and sales. He has an internet share-dealing account with his retail bank. Which of the following would be the best investment? AHe should invest in an authorised unit trust held in an ISA account BHe should invest in an investment trust company held in an ISA account CHe should invest in a unit-linked investment bond DHe should invest in an EIS-qualifying company via his share-dealing account

Answer 27

The correct answer is: B - He should invest in an investment trust company held in an ISA account Explanation Marcus wants to gain tax efficiency, and all of the investments provide a certain tax benefit. All gains and income within an ISA account are tax-free. Investment bonds allow a deferral of tax until encashment, when Marcus's tax liability may be lower. Enterprise investment schemes offer income and capital gain tax relief. However, Marcus also wanted a diversified fund: this eliminates the EIS-qualifying company. He also wanted control over his purchases and sales. This definitely eliminates the unit-linked bond, which is a fixed-term investment with early encashment penalties, and, to a lesser extent the unit trust, which is likely to have dilution levies charged on purchases and sales. The unit trust will also have less clarity on the pricing of purchases and sales, because of the, typically, forward-pricing. Investment trusts, as they trade on the secondary markets, have a more immediate pricing available and can be traded through his share-dealing account.

Question 28

Which of the following would be a consequence of investing in a regulated scheme rather than an unregulated scheme? ALower overall costs BHigher management fees CMore market activity DHigher potential return

Answer 28

The correct answer is: A - Lower overall costs Explanation Unregulated funds tend to be more aggressive in the market causing more market activity, higher fees but a potentially higher return (or bigger loss!). Regulated funds have more restrictions placed upon them including how much they can charge. This tends to lower overall cost of investment, but also potentially give lower returns.

Question 29

Which of the following mortgages will suffer the least interest over its life if all other factors remain equal? AEndowment BPension linked CInterest only DRepayment

Answer 29

The correct answer is: D - Repayment Explanation Repayment mortgages pay off the interest, but also some of the capital. Reducing the capital over the life of the mortgage lowers the overall interest. The other mortgages do not reduce the capital the interest ids paid on.

Question 30

[1070193] An investor and their spouse invest £19,200 into an ETF in 2005. The investment grows to £60,500 and is sold in the current tax year. Assuming one of the clients has an income of £165,000, and the other has an income of £19,000, what is the total of their combined CGT liabilities? A£2,505 B£2,440 C£4,094 D£4,395

Answer 30

The correct answer is: D - £4,395 Explanation Sales Proceeds £60,500 Cost (£19,200) Gross Gain £41,300 Deduct CGT Allow x 2 (£12,000) (investment is held in joint names) Chargeable gain £28,300 As the investment is held jointly, half of the gain will accrue to each investor as follows: Additional Rate Taxpayer £14,650 Gain @ 20% = £2,930 Basic Rate Taxpayer £14,650 Gain @ 10% = £1,465 Total CGT = £4,395

Question 31

Which of the following statements are true of qualifying life policies and personal pension plans? ILife policy premiums are paid net, but proceeds are received gross IILife policy premiums are paid gross, but proceeds are received net IIIPersonal pension plans contributions are paid gross, but proceeds are received net IVPersonal pension plans contributions are paid net, but proceeds are received gross AI and III BI and IV CII and III DII and IV

Answer 31

The correct answer is: A - I and III Explanation Tax relief is obtained at the time of investment for PPPs. Tax relief is received on life policies only on their maturity.

Question 32

A portfolio has co-varied with the market exactly over a substantial period of time. In considering CAPM, which of the following would be expected? AThe portfolio has a Beta of -1 BThe portfolio will have the same expected return as the market CThe portfolio will have a lower expected return than the market DThe portfolio moves inversely to market

Answer 32

The correct answer is: B - The portfolio will have the same expected return as the market Explanation Covariance reflects the relationship between two or more variables. If the portfolio moves in the same way as the market (it co-varies exactly), it would have a Beta of 1, indicating expected risk and return in line with the market.

Question 33

Despite being a higher rate taxpayer and enjoying many adrenaline-inducing sports, Trevor is a very cautious investor. He is attracted to the idea of equity investment but has been told of the capital-at-risk element and worries about this. He is happy to lock his money into an investment for some time. What would you advise? AInvesting in equity, particularly companies in the FTSE 100, are unlikely to expose his capital to risk. In fact, equity over the long-term will always rise. BInvesting in a share in a FTSE 100 index-linked exchange-traded fund (ETF) will diversify away any capital risk and give exposure to equity. CInvesting in guaranteed equity bond will allow benefits from an increase in FTSE 100 index share prices and guarantees that at least the capital invested will be returned. DInvesting in a FTSE 100 index future will give exposure to the FTSE 100 index share prices and, having no initial outlay, exposes the investor's capital to no risk.

Answer 33

The correct answer is: C - Investing in guaranteed equity bond will allow benefits from an increase in FTSE 100 index share prices and guarantees that at least the capital invested will be returned. Explanation Our investor is very cautious, so equity is low on the list of appropriate investments. Although true that equity does generally increase over time, capital cannot be guaranteed even in a diversified investment such as an ETF. The guaranteed equity bond offered by national savings and investments, not only allows for exposure to gain on equity, but also protects the capital invested. Although, in its purest sense, there is no initial outlay on a future, there is significant capital at risk, and cash calls can be made on the investor above any initial outlay.

Question 34

Which of the following is most accurate in describing the diversification effects of modern portfolio theory? ASystematic risk is reduced and non-systematic risk remains BNon-systematic risk is reduced and systematic risk remains CBoth systematic risk and non-systematic risk are reduced DBoth systematic risk and non-systematic risk remain at the same levels

Answer 34

The correct answer is: B - Non-systematic risk is reduced and systematic risk remains Explanation Non-systematic risk (specific risk) is reduced and systematic risk remains.