Securities Analysis, Taxation & Federal Law Flashcards
Tax rate increases as income increases
Progressive tax
Taxes that are levied equally regardless of income
Regressive taxes
Three examples of regressive taxes
Sales, excise, property
Two examples of progressive taxes
Income, estate
Three types of income subject to taxation
Earned, passive, portfolio
Two sources of passive income
Limited partnerships, rental property
Three taxable forms of portfolio income
Interest, dividends and capital gains
Minimum holding period for lower long-term capital gains tax rate
1 year and 1 day
Short-term holding period for capital gains tax computation
1 year or less
Maximum amount of capital loss that can be used to offset current income each year
$3,000
Maximum tax rate applicable to long-term capital gains
20%
Period of time for which capital losses can be carried forward
Indefinitely
Transaction which disqualifies capital loss because substantially similar securities are repurchased within 30 days
Wash sale
Number of days before or after a sale for a loss for which a purchase of substantially similar securities must be avoided
Thirty days
Under the wash sale rule, purchases of any of these four securities of the same issuer are considered substantially identical to purchases of the issuer’s stock
Long calls, rights, warrants and convertible bonds
Three accounting methods available for determining which shares to liquidate
FIFO, share identification, average basis
Method of share identification assigned by the IRS if no other method is chosen
FIFO
Maximum tax rate that applies to qualified dividends
20%
Cash dividends that are eligible for taxation at the same rate as long-term capital gains
Qualified
Minimum holding period of stock for dividends to be classified as qualified
Sixty-one days
Tax implication of stock splits and stock dividends
Reduction to cost basis; no current taxation
The amount of investment in property; used to determine the gain or loss at time of sale
Cost basis
The accounting method that allows an investor to select which shares to liquidate for tax purposes
Share identification
Shares that would be liquidated first to result in the lowest possible capital gain
Shares with highest cost basis
The process of adjusting the cost basis of a bond purchased at a discount
Accretion
The process of adjusting the cost basis of a bond purchased at a premium
Amortization
A change of two of these three municipal bond characteristics avoids the wash sale rule
Issuer, coupon, maturity
The date which determines the amount of the tax deduction for charitable donations of appreciated property
Date the donation is made
The amount of tax deduction available for gifts of securities made to family members or others
None
The recipient’s cost basis for gifts of securities from family members or others
Original cost basis of the donor
The cost basis of securities that are left to an heir
Market value of the securities on the date of the death of the owner
The current annual gift tax exclusion amount
$15,000
The tax provision that allows married persons to transfer their entire estate to the surviving spouse at death without taxation
Unlimited marital deduction
The person responsible for payment of gift taxes due
Donor
Amount of dividends that may be excluded from taxation by U.S. corporations
50%
Tax calculation performed to ensure that deductions that have been claimed do not reduce tax liability beyond a certain minimum level
Alternative minimum tax computation
Interest on bonds of these two issuers is taxable at the federal, state and certain local levels
Corporate and agencies
Interest on bonds of this issuer is taxable at state and certain local levels, but is exempt from taxation at the federal level
Municipal
Interest on bonds of this issuer is taxable at the federal level but exempt from taxation at the state and local level
U.S. Government
Two investments that generate passive income
DPPs and real estate
Amount of gift tax that applies to gifts between married couples
No gift tax regardless of amount
A short-term economic contraction
Recession
The four phases of the economic cycle
Expansion, peak, trough, and contraction
Longer term, severe economic contraction
Depression
A nation’s annual output of all goods and services
Gross Domestic Product (GDP)
Measures the general rate of increase or decrease in prices paid for certain standard goods (CPI)
Consumer Price Index
General increase in the level of prices
Inflation
Two economic conditions that generally accompany deflation
Severe recession, rising unemployment
The three types of economic indicators
Leading, lagging and coincident
Type of indicator that predicts a trend in the economy
Leading
Leading, lagging or coincident indicator? The money supply
Leading
Leading, lagging or coincident indicator? Employment levels
Coincident
Leading, lagging or coincident indicator? Corporate profits
Lagging
Leading, lagging or coincident indicator? Industrial production
Coincident
Leading, lagging or coincident indicator? Average duration of unemployment
Lagging
Leading, lagging or coincident indicator? New orders for consumer goods
Leading
Leading, lagging or coincident indicator? Stock prices
Leading
Leading, lagging or coincident indicator? Personal income
Coincident
Leading, lagging or coincident indicator? GDP
Coincident
Leading, lagging or coincident indicator? Manufacturing and trade sales
Coincident
Leading, lagging or coincident indicator? Ratio of inventories to sales
Lagging
Economist who theorized that aggregate demand controls employment and prices
John Maynard Keynes
The originator of monetarist theory
Milton Friedman
The economist associated with supply side economic theory
Arthur Laffer
Three tools used by monetarist theory to regulate the economy
Reserve requirement, discount rate, federal open market operations
Believes market forces should determine prices of all goods; federal government should reduce spending and taxes
Supply side economics
Two critical fiscal policy tools used to impact economic performance
Level of taxation and government spending
Economic theory that promotes strong government involvement in economic policy
Keynesian economics
Economic theory that promotes less government spending and lower taxes
Supply side economics
Most readily available type of money
M1
Acts as agent of the US Treasury
Federal Reserve Board
Regulates the U.S. money supply
Federal Reserve Board
Conducts the U.S. government’s open-market operations
Federal Open Market Committee (FOMC)
Impact on the money supply of FOMC purchase of securities
Increases
Impact on interest rates of FOMC purchase of securities
Decreases
Interest rate charged between banks for loans of excess reserves
Federal funds rate
Minimum amount of customer deposits that commercial banks must deposit with the Federal Reserve
Reserve requirement
The Interest rate charged by the Fed to member banks for short-term loans
Discount rate
Economic policy that centers on federal spending, taxation and federal budgets
Fiscal policy
Impact of tight monetary policy on interest rates
Interest rates rise
The flow of money from low-yielding investments to higher yielding investments
Disintermediation
Impact of a weak dollar on U.S. exports
Exports will rise
Impact of a weak dollar on U.S. imports
Imports will fall
Impact on balance of payments when U.S. exports exceed U.S. imports
Surplus in the balance of payments
Impact on balance of payments when foreign interest rates are higher than U.S. interest rates
Deficit in the balance of payments
Uses charts and historic trading patterns to determine when to move in to and out of the markets
Technical analysis
Bases investment decisions on broad-based market trends, and analysis of financial firm financial reports
Fundamental analysis
Defensive, Cyclical or Growth Industry? Food
Defensive
Defensive, Cyclical or Growth Industry? Utilities
Defensive
Defensive, Cyclical or Growth Industry? Steel
Cyclical
Defensive, Cyclical or Growth Industry? Automobile
Cyclical
Defensive, Cyclical or Growth Industry? Technology
Growth
Basic balance sheet equation
Assets - Liabilities = Net Worth
Financial statement that summarizes revenues and expenses
Income statement
Features charting and market timing
Technical analysis
Predicts company performance based on financial statements and overall economic health
Fundamental analysis
Characterized by falling stock markets, rising inventories, declining GDP
Contraction
Characterized by low unemployment, increased business activities
Expansion
Requires registration of new issues; regulates primary market activity
Securities Act of 1933
Regulates secondary market activity; requires registration of broker-dealers
Securities Exchange Act of 1934
Created the SEC
Securities Exchange Act of 1934
Requires corporate bond issuers to appoint trustees to protect the interests of bondholders
Trust Indenture Act of 1939
Amends the Act of 1934 and specifies penalties for the use of non-public material information
Insider Trading and Fraud Enforcement Act of 1988
Defines registration of securities at state levels
Uniform Securities Act
Authorizes the regulation of credit to the Federal Reserve Board
Securities Act of 1934
Prohibited the use of inside information in trading activity
Securities Act of 1934
Regulates the exchanges and over-the-counter market
Securities Act of 1934
Exempts U.S. government securities from registration requirements
Securities Act of 1933
Requires the delivery of prospectuses for full and fair disclosure
Securities Act of 1933
Prohibits fraudulent activity in underwriting and distributing new securities
Securities Act of 1933
Three characteristics of bonds subject to provisions of Trust Indenture Act of 1939
Issued by corporations, size over $10 (updated to $50) million, maturity of 9 months or more
The barrier that must be established between departments to prevent a free flow of sensitive information
Firewall (Information barrier, Chinese Wall)
Civil penalties for violation of the Insider Trading and Securities Fraud Enforcement Act of 1988
300% of profits made or losses avoided
Minimum length of the cooling off period during the registration process
20 days
Disclosure document used to gather indications of interest during the cooling off period
Preliminary prospectus (red herring)
The day that the SEC releases a new issue for sale
Effective date
Securities that are exempt from the filing requirements of the Act of 1933
U.S. government, municipal bonds, fixed insurance products, national and state bank securities, non-profit securities, commercial paper and bankers acceptances with maturity of less than 270 days
Exemption from registration requirements for corporate offerings of less than $5 million in a 12 month period
Regulation A
Also known as a private placement exemption
Regulation D
Exemption from registration requirements for securities that are sold only within a state
Rule 147 (Intrastate offering)
The disclosure document that must be provided to investors in a Reg A offering
Offering circular
The maximum number of accredited investors that can participate in a Reg D offering
Unlimited
The maximum number of nonaccredited investors that can participate in a Reg D offering
35
The net worth and income criteria for an accredited investor under Regulation D
Net worth of $1,000,000 (exclusive of residence) and annual income of $200,000 or more ($300,000 jointly with spouse) in each of the two most recent years
Regulates the sale of control and restricted securities
Rule 144
Addresses the sale of nonregistered foreign and domestic securities to institutional investors
Rule 144A
Holding period required before restricted securities can be sold
6 months
Length of time a Form 144 filing covers
90 days
When a Form 144 must be filed
Concurrent with the sale
Addresses reclassifications, mergers or consolidations, and transfers of company assets
Rule 145
The amount of control securities that can be sold in a 90-day period under Rule 144
Greater of 1% of the total outstanding shares, or the average weekly trading volume of the preceding four weeks
Securities owned by directors, officers, or persons who own or control 10% or more of an issuer’s voting stock
Control stock
When Rule 144 volume limits no longer apply to unaffiliated investors
After 6 months
Type of restriction that applies to sellers of control stock under Rule 144
Volume limits
Provision of Act of 1933 and 1934 Securities Acts that applies to all securities, including those that are exempt from registration
Antifraud
Eligible for purchase of nonregistered foreign and domestic securities under Rule 144A
Qualified Institutional Buyers (QIBs)
When securities registered under Rule 147 may be sold to a non-state resident
After 6 months
Purpose of a Schedule 13D
A 13D is filed when an investor becomes a 5% beneficial shareholder
Filing deadline for a Schedule 13D
Within 10 business days of the acquisition with the issuer, exchange and the SEC.
Purpose of a Schedule 13G
A 13G is filed when an investor becomes a 5% beneficial shareholder on a passive basis.
Filing deadline for a Schedule 13G
Within 45 days of calendar year end.
Purpose of a Schedule 13F
A 13F is a quarterly filing by Institutional Investment Managers to disclose long equity positions
Filing deadline for a Schedule 13F
Within 45 days of quarter end.
Subchapter C Corporation
Does not pass through gains and loses, can have an unlimited number of shareholders (including institutions).
Subchapter S Corporation
Passes through all gains and losses to investors, can have a maximum of 100 shareholders (no institutional shareholders).
Total return
(Income + Dividends + Capital Appreciation) / (Initial purchase price)
Inflation-Adjusted Return (AKA Real Return)
Nominal return - inflation rate
After-Tax Return
Investment return x (1 - tax bracket)
Future value
What funds invested today at a given rate will be worth at some point in the future.
Present value
The value today of a future cash flow discounted at a specified interest rate.
Beta
A measure of a stock’s or portfolio’s volatility in relation to the overall market. A beta of greater than 1 indicates a stock or portfolio will be more volatile the overall market, a beta of less than one will be less volatile.
Monte Carlo simulation
A statistical method to determine the return profile of a portfolio.
R-squared
A statistical measure indicating what percentage of a portfolio’s performance can be tied to a standard benchmark (e.g. S&P 500).
Sharpe ratio
A measure of a portfolio’s risk in comparison to its expected return. It is the portfolio’s average return in excess of the risk-free rate divided by the standard deviation of the portfolio. The higher this ratio, the more attractive the investment.
Systematic risk
The risk of an investment that is associated with macroeconomic factors that affect all assets.
Unsystematic risk
The risk associated with a specific investment, this can be diversified away.
Modern portfolio theory
An approach to investing that evaluated the total portfolio’s risk and reward profile as opposed to those of individual securities. This approach identifies diversification as the best way to achieve risk-adjusted returns.
Alpha
The risk-adjusted returns in a portfolio in excess of the returns expected by the capital asset pricing model (CAPM).
Capital needs analysis
A technique used to determine how much life insurance an individual needs. It considers; mortgages and other debts, continuing income for survivors, college tuition, and potentially estate taxes
Alimony
Payments to an ex-spouse. This is non-deductible to the payer and is not treated as income to the recipient. This is a recent change under the 2017 Tax Cuts and Jobs Act.
Child support
Payments to support a child following a divorce. This is not deductible to the payer and is not treated as income to the recipient guardian.
If two securities typically move up and down by the same amount, what is their correlation coefficient?
1
An efficient portfolio is one that offers
The most return for a given amount of risk
Given that the risk premium on the market is 14%, and the beta on an asset is 0, the risk premium on the asset would be
0%
A beta of 0 on the asset signifies that it has no systematic risk. A riskless asset will not have a risk premium.
In a perfectly efficient market what type of investment strategy would be most efficient?
Passive strategy
If an investor includes investments with a negative correlation in their portfolio, what impact would this have on diversification?
Increase
What type of risk can an investor not avoid by having a diverse portfolio?
systematic risk
The correlation coefficient has values between
-1 and 1
Beta is a standardized measure of:
systematic risk
If a portfolio is below the efficient frontier, that indicates
it is taking on too much risk for too little return
Individuals with near-term, high-priority goals should select:
low risk, short-term investments
The efficient frontier represents
the set of portfolios that has the maximum rate of return for every given risk level, and the minimum risk for every level of return.
A higher Sharpe ratio implies:
Greater Risk-Adjusted Performance
The weak form efficient market hypothesis (EMH) implies that:
security prices reflect all currently available market data
The assumption that stock prices fully reflect all information, including public and private information, describes which market theory?
strong-form efficient market hypothesis (EMH)
The semi-strong form of the efficient market hypothesis (EMH) assumes that
security prices fully reflect all publicly available information
A higher standard deviation for an investment indicates
greater volatility of returns compared to the expected average return
Two securities whose price movements are completely unrelated to each other would have a correlation coefficient of
0
+1 = Perfect positive correlation
-1 = Perfect negative correlation
0 = Statistically uncorrelated
Assuming an investment of $10,000 and 5% interest, how long will it take for the money to double?
72/5 = 14.4 years
For an investment to be acceptable, how would its internal rate of return compare to its cost of capital?
exceed
When NPV is positive, a project’s return is expected to be
positive
When NPV is negative, a project’s return is expected to be
negative
The difference between an investment’s present value and its cost is
Net present value (NPV)
If a hedge fund’s return exceeds that implied by beta relationship, it is attributed to the value added by the hedge fund manager. This excess value is also known as
Alpha
An investment manager’s portfolio returned 13% over the past year. The market returned 7% and the portfolios beta is 1.3. What alpha did the fund produce?
3.9
13% - (1.3 x 7%) = 3.9
What are the three components of the Sharpe ratio?
Standard deviation, risk-free rate, actual return
What metric is used to measure the risk-adjusted performance of a fund, taking into account the volatility of the returns generated?
Sharpe ratio
A portfolio manager purchased $1,000,000 of TIPS at auction, which pay an annual coupon of 5%. Assuming that the semi-annual CPI is 2%. What is the first semi-annual coupon payment?
$25,500
New principal after 6 months = $1,000,000 x (1 +2%) = $1,020,000
1st semi-annual coupon = 2.5% of $1,020,000 = $25,500
