PCAIM Flashcards
State the THREE main attributes that the FCA considers in regard to the ‘fit and proper’ test for an individual.
Honesty, integrity, and reputation
Competence and Capability
Financial Soundness
Give TWO examples of the FCA’s Controlled Functions.
CF4 – Partner Function
CF30 – Customer Function
Provide TWO reasons why Convertible Bonds may be issued by a company.
. Convertibles are usually issued by companies where there is a lack of fixed assets as security for debt. The conversion rights enable these companies to issue unsecured debt without restrictive coupon and servicing costs.
. If a company issue convertible bonds the coupon that they pay is likely to be lower than that of conventional bonds therefore their cost of borrowing would be lower.
Calculate the conversion price.
Conversion price = Convertible Price/conversion ratio
Define - Offer for Sale
The company sells its shares to an issuing house. These do not necessarily have to be new shares. For example, family shareholdings could be offered to the public in this way. The issuing house then invites applications from the general public, based on a detailed prospectus known as an offering document.
Define - Fixed Price Offer
The price is fixed just below the price at which the offer is expected to be fully subscribed, in order to ensure an active secondary market. Potential investors subscribe for a particular number of shares at the fixed price. If, as is usually the case due to the price setting criteria, the issue is oversubscribed, the shares are allocated by either a scaling down or by a random selection from the applications received, as detailed in the offer document.
Tender Offer
Rather than fixing a price, invitations for tenders are sought from prospective shareholders. Normally a minimum price is stipulated, and investors subscribe for a given number of shares at a price they are prepared to pay. When the offer is closed, a strike price is determined. This will normally be set with a view to achieving an active secondary market, and all bidders at or above this price will be satisfied. All successful bidders pay a uniform striking price, unlike an auction.
Offer for Subscription
This is rarely used nowadays, as it does not permit the secondary sale of existing shares. It is mainly used for new investment trusts. A detailed prospectus and advertisement are required for a full listing, but nowadays they are usually published electronically on the company’s or sponsor’s website, with hard copies also available. An issuing house fully underwrites the issue for an agreed commission, ensuring the company sells all the shares on offer. Usually this is conditional upon the company achieving a minimum subscription level.
Dividend cover
earnings per share/dividend per share
Price/Earnings (P/E) Ratio
current market price per share/earnings per share
Price/book ratio
current market price of the share/ book value (ie, net tangible assets per share)
Earnings yield
earnings per share/current market price of the share X 100
Trash and cash
it is deliberately spreading false bear stories in order to depress a share price, and using the opportunity to buy cheaply
Pump and dump
the spreading of false stories, often on websites, in order to boost a share price, thus enabling the perpetrators to use the opportunity to dispose of shares at an inflated price.
Outline two types of behaviour that might be regarded in the UK as market abuse.
. Insider dealing – when an insider deals, or tries to deal, on the basis of inside information
. Improper disclosure – where an insider improperly discloses inside information to another person
What does the information ratio measure
The Information Ratio measures the stability of alpha. In other words, its ‘out- performance’
What does Smart Beta measure
Smart beta is a term used in relation to tracker funds that aim to combine elements of passive and active. Like passive funds they ‘buy the index’, but like active funds not indiscriminately. The constituents are chosen systematically on the basis of factors that research suggests lead to out-performance, such as small size and ‘value’.
Limit orders
Limit orders are submitted to the Order Book with a specified size and price. They are either held on the Order Book or executed in part or full, at no worse than the limit price. They can be held on the Order Book for up to 90 days.
Hidden limit orders
Hidden Limit orders are limit orders where both the price and volume are hidden. Unlike iceberg orders there is no information as to whether there is any remaining order or not. They are only available for large orders meeting certain threshold conditions.
At best orders
At Best orders are executed at the best available price. No limit price is specified; they are executed at as many different prices as necessary, any unfulfilled excess is eliminated as only limit orders remain on the system.
Hidden Pegged orders
Hidden Pegged orders allow participants to peg their order to the best bid or offer price.
Cash against Delivery
Cash against Delivery (CAD) provides confidence in the security of settlement because neither cash nor documents are released until both sides of the deal are ready to settle. This is also referred to as Delivery versus Payment (DVP).
Cash memorandum accounts
A Cash Memorandum Accounts (CMA) is a record of a CREST member’s running total of a day’s payment obligations to or from its payment bank. CMAs are set to zero at the start of each day because at the end of each day net payments are settled between payment banks.
Cap
Each bank specifies a maximum amount that it will pay at the end of each day for each member of CREST. Each member has only one CMA, but can have several bank accounts linked to that single CMA.
Dynamic headroom
Dynamic headroom is the difference during the day between a member’s credit limit (cap) and its net payment obligations. (It is dynamic because it expands as a result of a sold bargain settlement and decreases as a result of a bought bargain settlement).
Bare Trusts
. Term - Until beneficiary reaches the age of 18
. Beneficiaries - Named
. Entitlement - Specified; income accumulated or distributed; absolutely entitled to the capital at 18
. IHT - Potentially Exempt Transfer into the trust; transfer from the trust to the beneficiaries is free from IHT
. CGT - No relief
. Income Tax - Income accumulated or distributed would be taxed at the beneficiary’s marginal rate; it makes use of the child’s personal and CGT allowance
. Cost - Bare trusts are cheap to administer because there is no separate trust document
Discretionary trust
. Term - Maximum term of 125 years; trustees have greater flexibility over when income and capital are distributed
. Beneficiaries - There can be specified beneficiaries, but can include possible children yet unborn e.g. ‘descendants of…’ (may be guided in ‘letter of wishes’)
. Entitlement - No particular entitlements, but the trustees can select the amount of trust income or capital that each beneficiary receives in accordance with needs and fairness; income can be retained by the trustees for up to 21 years
. IHT - 20% lifetime rate on transfers into the trust (but only if lifetime gifts exceed 325,000), and a 6% ten-year charge and a proportionate exit charge on assets in excess of the threshold
. CGT - CGT holdover relief is available for gifts into discretionary trusts
. Income tax - Income tax on distributions is effectively paid at beneficiary’s marginal rate, after utilising their personal allowances, but retentions are taxed more severely at the ‘additional’ rate (45% on interest and 37.5% on dividends)
. Cost - More expensive to establish and administer
Business Property Relief
Business Property Relief (BPR) provides relief from Inheritance Tax on the transfer of relevant business assets. Relevant property must be held for at least two years in order to qualify for relief. There is no BPR if the business, or company is one “wholly or mainly” dealing in securities, stocks or shares, land or buildings or in the making or holding of investments.
Advantage and disadvantage of stop loss rather than an option
ADV
. No additional outlay
DIS
. Stop losses might not be executed at the desired level if there is a sudden plunge, unless they are ‘guaranteed’ stop losses. The strike price of an option is fixed and will not be missed in a plunge.
The illustration of expected pension benefit is based on:
the current fund value
the expected fund growth up to retirement date
the anticipated inflation rate up to retirement date
the anticipated annuity rate expected at retirement date
Deed of variation
. Must be made in writing to the revenue
. Within 2 years of date of death
. With the agreement of all affected beneficiaries
SETS order types
. At best - Specific number of shares to be bought or sold at a specific price. Thin trading can be an issue
. Limit - Specific amount of shares and specific buy/sell prices.
. Execute and eliminate - They have a quantity and price limit. Can be partially filled
. Fill or kill - They have a quantity and price limit. Cannot be partially filled, only fully filled.
. Market - At best order held on book during auction call period. Given top priority at end of auction period, in order of submission.
. Iceberg - Only some of the total order is visible
. Hidden order - Price and volume are both hidden
. Hidden pegged - Pegged to best bid, offer or mid price order.
Weighting constituents of share indices
. Free Float - represents the proportion of securities of a company available to ‘outside’ investors.
. A Free float enables a tracker fund to replicate the index fully, so reducing the tracking
error.
. Cap - Capped’ indices have an upper limit to weighting of an individual company on the basis of its market capitalisation
. Fundamental - indices weight shares according to fundamental criteria, such as cashflow, sales, book value, earnings or dividends, rather than equity market capitalization.
VCT
. 30% tax relief if held for 5+ years . Tax free divs . No CGT . Max amount £200k . No cap gains deferral
EIS
. 30% tax relief if held for 3+ years
. Divs are taxed
. CGT applicable if disposed within 3 years
. Max amount £500k
. Cap gains deferral 1 year before or 3 years after disposal
TWO possible reasons for low offer price of new shares
. Will not require underwriting because the nil paid are virtually guaranteed to
have a positive intrinsic value
. Will reduce the trading price to a more ‘desirable’ level
Companies may issue warrants
. To conserve cash flow (particularly if currently paying dividends on shares); but some candidates confused lack of yield with ‘cheap’ cost of capital.
. To provide a ‘sweetener’ to unsecured loan stock; a compensation for poor security and an alternative to a high coupon.
. To take advantage of high share price; particularly if thought overvalued or the implied volatility appears too high.
. To attract investors who desire high risk/return and prefer CGT to income tax.
The rationale and the key features of American and Global Depository Receipts
. American (ADR) and Global (GDR) Depository Receipts are bearer receipts.
. ADRs enable trading in UK securities in the USA without changing the registered
ownership in the UK.
. Shares in a UK company are purchased in the market and then transferred to a
holding bank.
. The bank issues a receipt which indicates that shares are under its control.
. ADRs are denominated in dollars and dividends are converted by the US holding
bank to dollars.
. They are exempt from stamp duty after creation.
. They also trade in London.
. GDRs are depository receipts created outside the USA, although also usually priced
in dollars; for foreign companies on London and Luxembourg stock exchanges; settled on Clearnet or Clearstream.
Advantages of stop-losses:
. Can be applied to any share in any amount, provided the broker offers the facility; traded options only available on a limited number of leading shares in multiples of 1,000 shares.
. No additional outlay; traded options involve the additional expense of the option premium, which for these type of options is depreciating time value.
. Can be varied or cancelled at any time; traded options have a limited range of exercise prices and expiry dates.
Advantages of traded options
. Do not have to be exercised until expiry date; therefore opportunity to take to recoup loss if share price recovers before expiry date.
. Can always be exercised at the exercise price; stop-losses might not be executed at the desired if sudden fall, unless they are ‘guaranteed’ stop losses.
. Put options will provide some hedge against a fall in the share price before it reaches the exercise price; with a stop-loss no protection until hit the stop-loss level.
. Traded options can be taken on indices as well as individual shares; can hedge a large portfolio more simply.
. Avoid realising a possible large capital gain on the shareholding.
The role of the Financial Ombudsman
The purpose of the Ombudsman scheme under the FSMA is to provide for the resolution of ‘certain disputes’ quickly and with minimum formality by an independent person
. Can make financial award up to £150,000
Role of the FPC
The Committee is charged with the primary objective of identifying, monitoring and taking action to remove or reduce systemic risks with a view to protecting and enhancing the resilience of the UK financial system. The FPC has a secondary objective of supporting the economic policy of the government.
