Orders/Trading Practices

Question 1

All of the following information must be on an order ticket before it can be entered EXCEPT:

A. execution price if the order is not a market order
B. amount of accrued interest to be paid
C. size of the transaction
D. customer account name and/or number

Answer 1

The best answer is B.

The amount of accrued interest is calculated after a bond trade is executed - it is not on the order ticket that is used to enter the order. The ticket must include the size of the trade, desired execution price, and customer identification.

Question 2

An unpriced order that is routed to a securities trading venue is a:

A. market order and is filled immediately
B. market order and is not guaranteed a fill
C. limit order and is filled immediately
D. limit order and is not guaranteed a fill

Answer 2

The best answer is A.

Market orders are first in line to be filled at the current market price. The order will be executed, but the execution price is unknown (through it should be close to the price of the last reported trade).

Question 3

A customer places an order to buy bonds. The order reads “Buy 5M ABC 9s M ‘35 @ 90 GTC.” At which of the following prices may the order be executed?

A. 90 or below
B. 90 only
C. 90 or above
D. Below 90 since the “all in” price of 90 must include and commission or mark-up under Guaranteed To Client (GTC) rules

Answer 3

The best answer is A.

The customer places a limit order to buy 5M - or 5 $1,000 par bonds at 90% of par value or less, if possible. The order must be executed at 90% or less. If executed, the customer is buying $5,000 par value of bonds at 90% = $4,500 or less. GTC is a qualifier that means Good ‘Til Cancelled.

Question 4

A buy limit order is executed when the market is:

A. falling at or below the limit price
B. falling at or above the limit price
C. rising at or below the limit price
D. rising at or above the limit price

Answer 4

The best answer is A.

A buy limit order is an order to buy at a price that is lower than the current market. The limit is the maximum price at which the customer will buy. (Remember the old adage: Buy Low; Sell High - that’s how limit orders are placed in the market)

Question 5

Prior to the opening of the options exchange, an investor wishes to place an order to sell an option contract at a premium that is higher than the previous day’s close. The order type to be placed is a(n):

A. At the open order
B. Limit order
C. Stop order
D. Not Held order

Answer 5

The best answer is B.

The orders that are placed higher than the current market are “OSLOBS” - Open Sell Limits and Open Buy Stops. Thus, to sell at a price higher than the current market, an open sell limit order would be placed.

Conversely, the orders that are placed lower than the current market are “OBLOSS” - Open Buy Limit orders and Open Sell Stop orders. Thus, to sell an option at a premium that is lower than the closing price, an open sell stop order would be placed.

Question 6

A customer places an order to sell bonds. The order reads “Sell 5M ABC 9s M ‘35 @ 90 GTC.” The customer has entered a:

A. stop order to sell at 90
B. limit order to sell at 90
C. market order to sell
D. stop limit order to sell

Answer 6

The best answer is B.

Since a price is specified with no other qualifications, this is a limit order to sell $5,000 face amount (“5M”) of 9% bonds maturing in 2035. Since a price is specified with no other qualifications, this is a limit order to sell. The customer wants to sell for 90% of par or more. Open sell limit orders are executed if the market rises.

Question 7

All of the following statements are correct about sell limit orders EXCEPT:

A. These orders may be placed GTC with the broker
B. These orders are placed above the current market value
C. All executions will be equal to, or higher than, the limit price
D. These orders are executed if the market falls

Answer 7

The best answer is D.

Sell limit orders are placed above the current market value and are executed if the market rises to a price equal to or higher than the limit. Limit orders may be placed as either GTC or Day orders.

Question 8

Sell limit orders:

A. are used to sell securities at prices that are lower than the current market price
B. are used by clients seeking rapid executions
C. guarantee a specific execution price or better
D. guarantee a fill by the end of that trading day

Answer 8

The best answer is C.

Sell limit specify a minimum sale price. They are used to sell securities at prices that are higher than the current market. They may only be filled at the limit price or higher - so they do guarantee a specific execution price or better. That said, if the price never reaches the limit, there is no guarantee of an execution.

In contrast, market orders would be used by clients who are seeking a quick execution, but there would be no guarantee of price.

Question 9

All of the following statements are true about stop orders EXCEPT:

A. Buy stop orders can accelerate price advances in bull markets
B. Sell stop orders can accelerate price declines in bear markets
C. Buy stop orders limit losses on short stock positions
D. Sell stop orders limit losses on short stock positions

Answer 9

The best answer is D.

Buy stop orders are placed above the market and are triggered as the market rises. If there is a large pool of buy stop orders at a certain price, when the market hits that level, they are triggered and become market orders to buy - fueling the rise in the market.

Sell stop orders are placed below the market and are triggered as the market falls. If there is a large pool of sell stop orders at a certain price, when the market hits that level, they are triggered and become market orders to sell - fueling the drop in the market.

Buy stop orders can be used to buy in short stock positions as the market rises, cutting losses. Conversely, sell stop orders can be used to sell out long stock positions in falling markets, cutting losses.

Question 10

To limit loss on a long stock position, the appropriate order to place is a:

A. buy stop order
B. sell stop order
C. buy limit order
D. sell limit order

Answer 10

The best answer is B.

To limit loss on a long stock position, the investor wants to sell if the market drops. To sell in a falling market, the appropriate order is a sell stop order. A sell limit order is used to sell in a rising market, and thus is not appropriate.

Question 11

A sell stop order is executed in:

A. falling markets at the price specified
B. falling markets at the market price
C. rising markets at the price specified
D. rising markets at the market price

Answer 11

The best answer is B.

A sell stop order is an order to sell at a price that is lower than the current market. It is used to stop a loss on a long stock position, by selling out as the market falls. The “stop” price is a trigger, that, once hit, “elects” the order and turns it into a market order to sell. Thus, the actual execution price is unknown - it will be at the prevailing market.

Question 12

Which statement is TRUE about an order to: Buy 100 ABC @ 45 Stop?

A. The order is elected at 45 or higher and can only be executed at 45
B. The order is elected at 45 or higher and becomes a market order once elected
C. The order is elected at 45 or lower and can only be executed at 45
D. The order is elected at 45 or lower and becomes a market order once elected

Answer 12

The best answer is B.

Buy Stop orders are placed above the current market and are elected (triggered) as the market moves up to the stop price or higher. As soon as the order is elected, it becomes a market order and is executed based on its standing in the market order queue.

Question 13

A buy stop order is executed in:

A. falling markets at the price specified
B. falling markets at the market price
C. rising markets at the price specified
D. rising markets at the market price

Answer 13

The best answer is D.

A buy stop order is an order to buy at a price that is higher than the current market. It is used to stop a loss on a short stock position, by buying in as the market rises. The “stop” price is a trigger, that, once hit, “elects” the order and turns it into a market order to buy. Thus, the actual execution price in unknown - it will be at the prevailing market.

Question 14

A customer has asked his registered representative to sell 100 XYZ if the market falls to 50, but he does not want to sell for less than 45. This type of order is a:

A. stop order
B. limit order
C. stop limit order
D. split order

Answer 14

The best answer is C.

The order is a stop limit order - the customer wishes to sell if the market falls to $50 per share (this is the stop price). If the market falls to $50 or lower, the order is elected and becomes a limit order to sell at $45, meaning that the customer wants at least $45 per share to sell.

There is no such thing as a “split” order. Note that the stop price and the limit price do not have to be the same.

Question 15

Which statement is TRUE about an order to: Buy 100 ABC @ 45 Stop 50 Limit?

A. The order is elected at $45 or higher and executed at $50 or higher
B. The order is elected at $45 or higher and executed at $50 or lower
C. The order is elected at $45 or lower and executed at $50 or higher
D. The order is elected at $45 or lower and executed at $50 or lower

Answer 15

The best answer is B.

This is a Buy Stop Limit order. Buy Stop orders are placed higher than the current market, and are filled as the market rises. The guidelines of the stop price must be adhered to first. A buy stop is elected as the market rises to the stop price ($45) or higher. As soon as the market hits $45 or higher, the order is elected, and turns into a limit order to buy at the limit price of $50. An order to buy at $50 means to buy at $50 or lower. Thus, the order is elected at $45 or higher; and executed at $50 or lower.

Question 16

In a falling market, which orders will be executed?

A. Open Buy Stops and Open Sell Stops
B. Open Buy Limits and Open Sell Limits
C. Open Sell Limits and Open Buy Stops
D. Open Buy Limits and Open Sell Stops

Answer 16

The best answer is D.

The orders that are executed if the market drops are “OBLOSS” - Open Buy Limits and Open Sell Stops. The orders that are executed in a rising market are “OSLOBS” - Open Sell Limits and Open Buy Stops.

Question 17

The orders that are higher in price than the current market are:

A. Open Buy Limits and Open Buy Stops
B. Open Sell Limits an Open Sell Stops
C. Open Sell Limits and Open Buy Stops
D. Open Sell Stops and Open Buy Limits

Answer 17

The best answer is C.

Sell limits and buy stops are the orders that are placed above the current market and are elected as the market rises. Remember “OSLOBS” - Open Sell Limits and Open Buy Stops as the orders placed above the current market.

Question 18

A sell order for a customer is considered to be “long” if the customer is long:

A. a call option on the stock being sold that has not yet been exercised
B. the stock and will not deliver the shares on settlement
C. a convertible bond that has been converted into the stock being sold for delivery on settlement
D. a warrant on the stock being sold that has not yet been exercised

Answer 18

The best answer is C.

A customer order to sell can only be marked “long” if the customer will deliver the shares being sold on settlement.

For a customer who is long a call option or a warrant, these must be exercised and the stock delivered for the sell order to be “long.”

A customer who is long the stock, but will not deliver the shares on settlement, is “going short against the box.” Since he or she is not delivering the shares, this is a short sale because the shares must be borrowed for delivery.

A customer who is long a convertible bond that has been converted into the stock being sold, and that will deliver the converted shares on settlement, is selling “long.”

Question 19

A new customer calls a representative and says the following: “I own 1,000 shares of DEF stock, which is currently held at another broker-dealer. I want to sell the shares at the market.” The representative accepts the order from the customer. The order ticket should be marked:

A. long sale
B. long sale - exempt
C. short sale
D. short sale - exempt

Answer 19

The best answer is C.

When a customer sells, the order ticket must be marked either “long” or “short.” A sale is marked long if it is reasonably expected that the customer will deliver the shares on settlement.

A sale is marked “short” if the shares must be borrowed to settle the sale.

Because the shares are sitting at another broker-dealer, they cannot be delivered to this firm by settlement (the account transfer process takes at least 4 business days and typically takes longer). Thus, the order ticket must be marked “short.”

Also note that there is no such thing as “long-exempt” and the “short-exempt” order ticket marking is only used for short sales of stocks that have dropped by 10% or more in value, where the sale must be done on an up-bid under Regulation SHO.

Question 20

An order ticket to sell 100 shares of ABC short means that the seller will:

A. deliver shares that are owned on settlement date
B. deliver shares that are borrowed on settlement date
C. not deliver shares on settlement date, but will deliver a due bill instead
D. not deliver shares on settlement date, but will deliver the shares on a future date

Answer 20

The best answer is B.

A short sale is a sale of borrowed shares. The customer is speculating that the price of the security will drop, and borrows the shares from a broker to sell. These borrowed shares are delivered to the buyer on settlement date. The short seller intends to buy back the stock at a later date (hopefully at a lower price) and replace the borrowed (short) position.

Question 21

A customer places an order to sell 100 shares of ABC stock that he cannot deliver by settlement date. The order ticket should be marked:

A. Sell - MKT
B. Sell - GTC
C. Sell - Long
D. Sell - Short

Answer 21

The best answer is D.

A long sale is the sale of shares which the customer owns and will deliver on settlement date. A short sale is the sale of shares which the customer does not own. Therefore, in order to effect delivery on settlement date, the short seller must borrow the shares. In essence, a short seller is selling borrowed shares.

Question 22

A customer places an order to buy 1,000 shares of ABC stock at the market in his cash account. The order is executed and, when reporting the trade back to the customer, the registered representative notices that the trade was executed in the customer’s margin account. Which statement is TRUE? The registered representative can move the trade to the customer’s cash account:

A. to correct the error without needing to take any additional action since these accounts are related to each other
B. as long as a signed statement requesting the transfer is obtained from the customer
C. as long as a cancel/rebill record is created that documents the reasons for the account designation change and the manager approves in writing
D. as long as FINRA is sent a quarterly report detailing all account designation changes whenever transactions were placed in incorrect customer accounts

Answer 22

The best answer is C.

FINRA requires that anytime there is a change of account name or designation relating to an executed order, a written record must be made of the change. This is called a “Cancel-Rebill” record. A branch manager or compliance officer must know the reasons for the change and must approve the change in writing. Such a record must be created for any change of account designation - even for something as minor as moving a trade from a customer’s cash account to the same customer’s margin account.

Question 23

Which of the following will NOT result in the establishment of a short position?

A. Arbitrage transaction
B. Sale of a security “against the box”
D. Selling unsettled shares that were purchased on the same day

Answer 23

The best answer is D.

Selling shares from an unsettled purchase does not create a short position because the buy trade will settle in time to meet the delivery obligation on the sale.

An arbitrage transaction, where stock is bought on one exchange and simultaneously sold short on another exchange to lock in a price difference. The long position is delivered at a later date to replace the borrowed shares that were sold short.

A short position is taken when a security is sold “against the box” - meaning that the long position is being held and an equivalent number of shares are being borrowed and sold to lock in a profit.

Finally, position trades (position trading is trading for the firm account, using the firm’s “positions”) of borrowed shares are short sales.

Question 24

A member that has knowledge of a client order that has not been entered on a marketplace that could reasonably be expected to affect the market price of the security is prohibited from all of the following EXCEPT:

A. entering a proprietary order for the purchase or sale of that security
B. soliciting an order from another person for the purchase or sale of that security
C. informing any other person, other than in the necessary course of business of the client order
D. accepting an unsolicited order to buy from a client

Answer 24

The best answer is D.

Consider this question to be a learning lesson in everything that is prohibited about “front running.” Prior to entering a customer order that is likely to have market impact (meaning a big institutional order), a member firm cannot place an order in that security for the firm’s account; cannot solicit others to place orders; and cannot inform others about the existence of the market-impact order so that they can “front run” it.

However, a member firm can accept and fill an unsolicited order to buy that security from a client for that security - the client would have no way to know that another client was entering a larger order that could affect the security’s price.

Question 25

A member firm receives a large block order to buy 100,000 shares of XYZ stock, which is not actively traded. Which customer(s) of the firm can buy XYZ stock prior to the filling of the block trade?

A. The registered representative who received the order
B. Other customers of the firm who place buy orders, if the firm has information barriers in place
C. Any customer of the firm who places an unsolicited order
D. No customer can buy the stock until the block order to buy is filled

Answer 25

The best answer is B.

In its “front running” rule, FINRA gives an exception to the prohibition on a member firm placing orders to trade a stock prior to the filling of a large block order if the firm has information barriers in place.

If this is the case, the front running prohibition only falls on the people at the firm who know about the existence of the large block order. Persons placing orders to buy XYZ stock at the firm who have no knowledge of the impending block purchase are exempted from the “front running” rule because, with effective information barriers in place, they could not have known about the large trade that is about to be placed.

Question 26

An index arbitrage trading desk places sequential buy orders at the market opening for securities included in the index to raise their price against the current index value. Which statement is TRUE?

A. These transactions can only be effected on an upbid
B. This is an illegal practice known as Marking To Market
C. This is an illegal practice known as Marking The Open
D. This is an illegal practice known as Painting The Tape

Answer 26

The best answer is C.

Marking The Open is trading at the open, or falsely reporting trades at the open, just to affect the stock’s opening price. FINRA has disciplined program traders for “marking the open” violations. These firms attempt to arbitrage the difference between an index option’s value (which can be based on market open, depending on the index option) against the actual prices of the securities that are included in the index. The illegal practice was placing sequential orders at the open for the securities in the index to either move their price up (or down), so that the index arbitrage position would show a profit.

Question 27

All of the following are prohibited trading practices under FINRA rules EXCEPT:

A. Backing away
B. Interpositioning
C. Marking the close
D. Using a correspondent

Answer 27

The best answer is D.

FINRA rules prohibit backing away from quotes and prohibit interpositioning another firm between a customer and the best available market. Marking the close or open is the prohibited practice of placing trades to make sure that the stock opens or closes at a specific price.

A correspondent firm can be used to handle trades as long as the customer does not pay for this service. Any cost of using the correspondent firm must be given up out of the regular commission earned by the firm on that transaction.

Question 28

A client believes that XYZZ stock has bottomed in price and is ready for a steep rebound. Which recommendation has the lowest profit potential?

A. Buy an XYZZ call option
B. Buy XYZZ rights
C. Buy XYZZ warrants
D. Buy XYZZ stock and sell an XYZZ call

Answer 28

The best answer is D.

The purchase of a call gives unlimited potential gain in a rising market.

Rights allow the owner to buy the stock at a fixed price, typically good for 30-60 days from issuance. These also have unlimited upside potential.

Warrants allow the owner to buy the common stock at a fixed price, typically good for up to 5 years from issuance. They are attached to the sale of new bond and preferred stock offerings, to help make them more marketable. This would also give unlimited profit in a rising market.

Of course, the purchase of XYZZ stock would give the customer a gain in a rising market, but if the customer also sold an XYZZ call, the stock would be called away in a rising market at the strike price, and the customer would not enjoy the upside gain. The customer’s gain would be limited to the premium collected, net of any difference between the stock cost and the strike price of the call.

Question 29

Which order, if executed, would guarantee a specific price or better?

A. Sell Stop
B. Buy Stop
C. Market
D. Sell Limit

Answer 29

The best answer is D.

If a “Stop” order is elected, it becomes a market order to be filled at the first opportunity. Thus, the actual price at which the order is executed is not known. On the other hand, a “Limit” order specifies that the execution must comply with the limit price specified or better. Thus, limit orders are filled at that price or better.

Market orders by definition do not specify, or guarantee a price.