- For preferred shares, the annual dividend payment is
- Fixed and stated as a percentage of its current market value (CMV)
- Subject to variation and stated as a percentage of its par value
- Fixed and stated as a percentage of its par value
- Subject to variation and stated as a percentage of its current market value (CMV)
Correct answer: Fixed and stated as a percentage of its par value
A preferred stock's annual dividend payment is its fixed rate of return, unlike that of common shares where the dividend is subject to variation.
- A customer investing in common equity securities could realize all of the following except
- Current income via dividend declarations
- Protection of principal investment
- Potential hedge against inflation
- Potential capital appreciation
Correct answer: Protection of principal investment
While common shareholders could realize potential capital appreciation, current income via dividend declarations and a potential hedge against inflation, protection of the initial investment is not guaranteed. Common shareholders have limited liability, meaning that while they cannot lose more than was initially invested, they could still lose all of it.
- A company has distributed profits to its shareholders. This type of distribution would most likely be in the form of
- Bonds
- Warrants
- Dividends
- Options
Correct answer: Dividends
The distribution of profits to shareholders would generally be in the form of dividends to be received at the discretion of the board of directors (BOD). Bonds and warrants are other types of securities a company might issue, while options are a derivative product that would not be issued by the company.
- Which of these is an equity security?
- Mortgage bonds
- Debentures
- Preferred stock
- Municipal bonds
Correct answer: Preferred stock
Common and preferred stock are examples of an equity security. Bonds of any type by comparison are certificates of indebtedness—debt instruments.
- All of the following could be characterized as benefits to owning common stock except
- Income potential via the receipt of dividends
- Limited liability
- Capital gains via increases in share price
- Low dissolution priority
Correct answer: Low dissolution priority
Low dissolution priority refers to being paid last in the event of a corporate dissolution (bankruptcy). Obviously, this is not a benefit. However, price appreciation and the receipt of dividends are potential benefits and limited liability is guaranteed, only being able to lose what one has invested.
- Characteristics common to penny stocks would include which of the following?
- Market price greater than or equal to $5 per share and unlisted
- Market price less than $5 per share and unlisted
- Market price greater than or equal to $5 per share and listed on an exchange or Nasdaq
- Market price less than $5 per share and listed on an exchange or Nasdaq
Correct answer: Market price less than $5 per share and unlisted
Penny stocks are generally defined as those with a market price below $5 per share that are not listed (traded) on any exchange or Nasdaq.
- Each of the following are likely benefits of owning shares of common stock except
- Dividend payments
- Voting rights
- Interest payments
- Limited liability
Correct answer: Interest payments
Interest payments are paid to bond holders but not on common stock. Common shareholders may receive dividends if declared by the board of directors. They may also expect to vote on certain critical issues facing the company such as its leadership. Common shareholders have a liability limited to the amount invested.
- An example of a fixed-income security would include all of the following except
- A municipal bond that has historically made late interest payments
- Preferred stock that has historically paid dividends
- Common stock that has historically paid dividends
- A money market instrument that has historically made timely interest payments
Correct answer: Common stock that has historically paid dividends
Securities that have an agreed rate of return, such as bonds, notes, money market instruments, and other debt instruments, are deemed fixed-income securities. Preferred stock acts in many ways like a bond in that it has a fixed dividend rate, making it a fixed-income security. Common stock may or may not pay a dividend depending on the board of directors. Common stock is not deemed a fixed-income security.
- Because common stock can be sold or given away, it is considered to be
- Preemptive
- Freely transferrable
- Voted by proxy
- Limited in liability
Correct answer: Freely transferrable
Common stock is freely transferable to anyone who wants to buy it or receive it as a gift. In this regard, shareholders have the right to sell or give away their shares without permission of the corporation.
- Under the rules, a penny stock is defined as an unlisted, security trading at less than
- $2 per share on three consecutive days.
- $5 per share.
- $2.50 per share on three consecutive days.
- $1 per share.
Correct answer: $5 per share.
Securities and Exchange Commission (SEC) rules define penny stocks as those that are unlisted on an exchange or Nasdaq trading at less than $5 per share.
- Common stockholders owning dividend paying stocks are exposed to
- Current income risk but not market risk
- Market risk and current income risk
- Market risk but not current income risk
- Neither market risk nor current income risk
Correct answer: Market risk and current income risk
In owning common shares, the investor stands to lose current income through dividend reduction or suspension (current income risk), as well as capital loss, should the market price decline (market risk).
- In the dividend disbursement process three of the four critical dates are determined by the board of directors (BOD) but one is determined by either Financial Industry Regulatory Authority (FINRA) for OTC stocks or the exchange for listed stocks. Which one is it?
- Declaration
- Payable
- Ex-dividend
- Record
Correct answer: Ex-dividend
Declaration, record, and payment dates are determined by the board of directors (BOD), but FINRA, or the exchange, determines the ex-dividend date.
- Someone who purchases shares of a corporation's common stock has
- Neither liability nor voting rights
- Limited liability and voting rights
- No liability and no voting rights
- Unlimited liability and voting rights
Correct answer: Limited liability and voting rights
Common stockholders enjoy limited liability in that they can only lose what was invested. They are in no way responsible for any debt of the corporation. Voting rights are one of the key benefits for common shareholders.
- Common shareholders have the right to
- No access to a company's books and records
- Access a company's books and records with Securities and Exchange Commission (SEC) permission
- Full access to a company's books and records
- Limited access to a company's books and records
Correct answer: Limited access to a company's books and records
By virtue of owning the company's common stock, shareholders have a limited right to review the company's books and records. For example, they have the right to examine the minutes of meetings of the board of directors (BOD).
- Regarding transferability for common shares, which of the following is true?
- Shares can be sold without the permission of the corporation but may never be simply given away.
- Shares can be sold or given away without the permission of the corporation.
- Shares can be sold or given away but only with the permission of the corporation.
- Shares can be sold but not given away, unless the permission of the corporation is received first.
Correct answer: Shares can be sold or given away without the permission of the corporation.
Shareholders have the right to sell or give away their shares without permission of the corporation.
- Which of the following is an example of an equity security?
- Equipment trust certificates
- Debentures
- Mortgage bonds
- Preferred shares
Correct answer: Preferred shares
Both common and preferred shares are equity securities. Each of the other choices represents a debt instrument.
- All corporations will issue
- Common stock
- Common and preferred stock
- Different classes of common stock
- Preferred stock
Correct answer: Common stock
All corporations will issue common stock, of which there can be only one class, but not all corporations issue preferred stock. Corporations that choose to issue preferred shares can issue more than one class.
- A customer has held an account with a broker-dealer for over one year. A registered representative associated with the firm recommends the purchase of an unlisted security trading at $3.50. What documentation, if any, is required prior to the trade?
- Both suitability and disclosure statements must be obtained.
- A disclosure statement is required, but not a suitability statement.
- No documentation is required.
- A suitability statement is needed, but not a disclosure statement.
Correct answer: A disclosure statement is required, but not a suitability statement.
Established customers are exempt from the suitability statement requirement but not from the disclosure requirements when penny stocks are being solicited. An established customer is someone who has held an account with the broker-dealer for at least one year (and has made a deposit of funds or securities); or has made at least three penny stock purchases of different issuers on different days.
- Before effecting an initial penny stock transaction for a new customer, the registered representative must do all of the following except
- Confirm that a margin account has been established
- Confirm whether the person is an established customer
- Obtain a signed risk disclosure document from the customer
- Obtain a signed suitability statement from the customer
Correct answer: Confirm that a margin account has been established
According to penny stock rules, registered representatives must provide disclosure information to all penny stock buyers which customers must sign. In addition, they must determine suitability based on financial information, investor experience, and objectives supplied by the buyer. Investors who are not considered established customers (new customers, as in this case) must sign a suitability statement as well. No rule prohibits penny stock purchases on margin, but there is no requirement that they be done in a margin account either.
- Voting rights are a privilege generally afforded to
- Preferred shareholders only
- Common shareholders only
- Neither common nor preferred shareholders
- Both common and preferred shareholders
Correct answer: Common shareholders only
One of the differences between common and preferred shareholders is that preferred shareholders generally have (with few rare exceptions) no voting rights.
- In order to receive a declared dividend a shareholder must be an owner of record at the close of business on the
- Record date
- Ex-dividend date
- Payable date
- Declaration date
Correct answer: Record date
Shareholders must be owners of the stock on or before the record date in order to receive the current dividend.
- A common stock shareholder's residual right to corporate assets refers to which of the following?
- During the dissolution of corporate assets, common shareholders will be paid first— before debtholders and preferred shareholders are paid.
- During the dissolution of corporate assets, common shareholders will be paid if there are any funds left after debtholders and preferred shareholders are paid.
- During the dissolution of corporate assets, common shareholders will be paid if any funds are left after preferred shareholders are paid but before debtholders are paid.
- During the dissolution of corporate assets, common shareholders will be paid if any funds are left after debtholders are paid but before preferred shareholders are paid.
Correct answer: During the dissolution of corporate assets, common shareholders will be paid if there are any funds left after debtholders and preferred shareholders are paid.
For common shareholders, having a residual right to corporate assets means that they will only be paid in the event of a corporate dissolution if there are any funds left after debtholders and preferred shareholders are paid.
- A shareholder feels strongly about some of the issues to be voted on at the next shareholder meeting but is unable to attend. Which of the following is true?
- The shareholder will need to attend in person in order to vote.
- The shareholder must relinquish the right to vote at this meeting.
- The shareholder must deliver the vote in person but can do so before the date of the meeting.
- The shareholder can vote by proxy.
Correct answer: The shareholder can vote by proxy.
If unable to attend a shareholder meeting, shareholders can vote by an absentee ballot, known as a proxy. Delivery of the proxy can be made online or by mail.
- Common shareholders have the right to receive an audited set of financial statements of the company's performance
- Each quarter
- Monthly
- Biannually
- Annually
Correct answer: Annually
While a company can supply this information as often as they want to shareholders, it is only required that an audited report be received on an annual basis.
- By electing a board of directors (BOD), stockholders have
- A say in the company's management but are not involved in the day-to-day details of its operations
- Neither a say in the company's management nor a say in any of the day-to-day details of its operations
- A say in the day-to-day details of its operations but no say in the management selected to carry out those operations
- A say in the company's management and all day-to-day details of its business operations
Correct answer: A say in the company's management but are not involved in the day-to-day details of its operations
By electing a BOD, stockholders have a say in the company's management but are not involved in the day-to-day details of its operations
- A penny stock is best described as
- An exchange-listed stock valued at less than $5 per share
- An unlisted stock valued at less than $5 per share
- An unlisted stock valued at less than $2 per share
- An unlisted stock valued at less than $1 per share
Correct answer: An unlisted stock valued at less than $5 per share
A penny stock is an unlisted (not listed on a U.S. stock exchange) security offered at less than $5 per share.
- The decision to pay a dividend rests with
- Shareholders, which is why it is guaranteed
- Shareholders but is not guaranteed because they can vote against paying one
- The board of directors (BOD) but is not guaranteed
- The board of directors (BOD) and is guaranteed
Correct answer: The board of directors (BOD) but is not guaranteed
The decision to pay a dividend rests with the BOD but is not guaranteed. The declaration to pay a dividend may or may not occur. When it does occur, the amount can decrease, increase, or remain unchanged from the previous dividend.
- Transactions where the penny stock rules are applicable would be those that
- Are either solicited or unsolicited
- Are neither solicited nor unsolicited transactions
- Are solicited
- Are unsolicited
Correct answer: Are solicited
Unsolicited transactions (those not recommended by the broker-dealer or registered representative) are exempt from the penny stock rules. Solicited transactions are nonexempt, and the rules therefore apply.
- Once a dividend is initially declared by the board of directors (BODs), any future dividend payments
- Are not guaranteed to be paid, but if they are paid, they must be at least equal to the initial declaration
- Carry no guarantee of payment in any amount
- Are guaranteed to be paid in at least the same amount as the initial declaration
- Are guaranteed to be paid, but no amount is stipulated
Correct answer: Carry no guarantee of payment in any amount
While the potential to share in the company's profits by receiving dividends is considered one of the benefits of equity ownership, one of the risks is the possibility of dividend income decreasing or ceasing entirely. Dividends are not guaranteed in any way.
- Purchasers of common stock may generally look to all of the following risks associated with that investment except
- Reduction in dividend payout
- Low priority
- Market risk
- Interest rate risk
Correct answer: Interest rate risk
Investors in common stock face market risk, in that the market value of the security may fall, and business difficulties may lead to possible reduction or elimination of the dividend—and even bankruptcy leading to loss of principal. If the firm is bankrupted, a company's debt and preferred shares are considered senior securities and will have residual rights to corporate assets upon dissolution prior to common shareholders. Interest rate risk applies to preferred shares, bonds, and other fixed-income securities, but common stock generally bears little risk due to fluctuations in interest rates.
- An investor interested in quarterly income should invest in
- Corporate bonds
- Utility company stock
- STRIPS.
- Treasury bonds.
Correct answer: Utility company stock
Utility stocks generally pay quarterly dividends, whereas corporate and Treasury bonds pay interest semiannually. STRIPS pay at maturity.
- All of the following are possible actions of an investor who has received stock rights except
- Sell the rights for a short-term capital gain or loss
- Hold the rights for a possible long-term capital gain
- Exercise the rights to purchase the new stock at a discount
- Allow the rights to expire unexercised
Correct answer: Hold the rights for a possible long-term capital gain
A long-term capital gain would require a holding period of more than one year. Rights expire four–six weeks after issue, so this would not be possible.
- How long must customer complaints be kept on file by the broker-dealer?
- Two years
- Four years
- As long as the firm is in business
- Three years
Correct answer: Four years
The rule requires customer complaints to be kept on file for four years.
- Securities acquired through some means other than a registered public offering are known as
- Convertible
- Control
- Restricted
- Affiliate's stock
Correct answer: Restricted
Restricted securities are those acquired through some means other than a registered public offering. Securities purchased via a private placement are an example. These securities may not be sold (are restricted) until they have been held fully paid for six months.
- A preemptive right for existing shareholders is best described as
- The right to purchase shares in an amount that would keep a shareholder's proportionate ownership in the corporation unchanged when a company issues additional shares
- The right for the board of directors (BOD) to preempt existing shareholders and only allow them to purchase the newly issued additional shares after the board has purchased the shares they want
- The right that allows new investors to purchase shares before existing shareholders when a company issues additional shares
- The right for the board of directors (BOD) to preempt existing shareholders from purchasing additional shares so that they may be used for paying stock dividends by the corporation
Correct answer: The right to purchase shares in an amount that would keep a shareholder's proportionate ownership in the corporation unchanged when a company issues additional shares
Existing shareholders have what is known as a preemptive right, which is the right to maintain their proportionate share of ownership in the corporation if the company wants to issue additional shares.
- List the dates associated with dividend payment in their proper order.
- Record date, declaration date, ex-dividend date, pay date
- Declaration date, ex-dividend date, record date, pay date
- Declaration date, pay date, ex-dividend date, record date
- Declaration date, record date, ex-dividend date, pay date
Correct answer: Declaration date, ex-dividend date, record date, pay date
The declaration date is the day the board of directors meets to declare the dividend. The ex-dividend date is the first day that a purchaser of the stock is too late to get the dividend. The record date is the day the shareholder must be on the records of the company to receive the dividend, and the checks are mailed on the pay date.
- Mr. Smith purchases 2% of MES Corporation's common stock. Four years later Mrs. Smith purchases 9% for her own account. Which of the following is true?
- Only Mr. Smith, as the initial shareholder, would be considered a control person.
- Neither Mr. or Mrs. Smith is considered a control person.
- Because she owns more shares, only Mrs. Smith is considered a control person.
- Both Mr. and Mrs. Smith are considered control persons.
Correct answer: Both Mr. and Mrs. Smith are considered control persons.
If a 10% or more interest is held by immediate family members, then all those family members owning voting stock are control persons. In this instance the combined ownership is more than 10% (2% + 9% = 11%).
- Restricted securities may not be sold until they have been held fully paid for
- One year
- Six months
- Two years
- One month
Correct answer: Six months
Restricted securities may not be sold until they have been held fully paid for a period of six months. This applies to both affiliates and nonaffiliates, but affiliates would be subject to volume restrictions.
- An investor looking to speculate in penny stocks would be exempt from the suitability statement requirement under which of the following circumstances?
- The investor is already exempt from the risk disclosure requirements.
- The investor is an established customer.
- The investor's account is approved for margin purchases.
- The investor has already received the risk disclosure statement.
Correct answer: The investor is an established customer.
Established customers are exempt from the penny stock suitability statement requirement. An established customer is someone who has held an account with the broker-dealer for at least one year (and has made a deposit of funds or securities); or has made three purchases of qualifying penny stocks that occurred on separate days and involved different issuers. No one is exempt from the risk disclosure requirements.
- Which of the following sell transactions is not subject to the holding period restriction specified in SEC Rule 144?
- Stock acquired by a corporate affiliate in a private placement
- Stock acquired in the OTC market by a corporate affiliate
- Unregistered stock acquired by a nonaffiliate under an investment letter
- Unregistered stock acquired by a corporate affiliate in a stock option program
Correct answer: Stock acquired in the OTC market by a corporate affiliate
The holding period rule applies only to unregistered stock, which may or may not be control stock. Unregistered stock results from either private placements or the exercise of a corporate stock option. Because this question asked which securities were not subject to the Rule 144 holding period, only stock acquired in the OTC market by a corporate affiliate is the correct answer. However, the affiliated person is subject to volume restrictions.
- For registered shares held by an affiliate (known as control stock), which of the following applies?
- No holding period or any volume restrictions
- No holding period, but volume limits always apply
- Six-month holding period, with sales allowed freely thereafter
- Six-month holding period, with volume limits thereafter
Correct answer: No holding period, but volume limits always apply
Control stock would be registered shares held by an affiliate. There is no holding period, but there will always be volume limits for as long as the individual is an affiliate.
- Under penny stock rules, what is required for a broker-dealer to consider an investor an established customer?
- Open cash account for six months or more
- Signed transaction agreement
- At least three separate penny stock purchases
- Signed risk disclosure statement
Correct answer: At least three separate penny stock purchases
Under penny stock rules, investors are established customers if they have deposited funds or securities in an account for at least one year before the penny stock transaction, or have purchased at least three different penny stocks from the same broker-dealer.
- Common dividends may be
- Declared, increased, reduced, or suspended by the shareholders
- Declared or suspended by the board of directors (BOD), with increases and reductions decided by the shareholders
- Declared or increased only by the board of directors (BOD)
- Declared, increased, reduced, or suspended by the board of directors (BOD)
Correct answer: Declared, increased, reduced, or suspended by the board of directors (BOD)
Common dividends may be declared, increased, reduced, or suspended at the discretion of the BOD. Shareholders have no vote on these dividend matters.
- A certificate issued by a company granting its owner the right to purchase securities from the issuer at some specified price years into the future would best be described as
- A proxy
- A warrant
- A rights certificate
- A call option
Correct answer: A warrant
A rights certificate is a very short-term security that grants the holder the right to buy the common stock of the company at a price lower than the current market price. A warrant is a long-term security that grants its owner the right to purchase securities from the issuer at a specified price that is higher than the current market price at the time the warrants are issued and at some point, in the future. Note that while the exercise price is higher than the current market value when the warrants are issued, it is hoped that the exercise price will be below current market value when the warrants are eventually exercised.
- Which of the following statements about rights and warrants is true?
- Rights are short term; warrants are long term.
- Rights are long term; warrants are short term.
- Rights and warrants are both long term.
- Rights and warrants are both short term.
Correct answer: Rights are short term; warrants are long term.
A security with a termination, maturity, or expiration date that is one year or less from the date of issue is said to be short term. Rights offerings have a lifetime of four to six weeks, which makes them short term. If the end date is more than a year from the issue date, the security is long term. Warrants have expiration dates typically two to five years from the date of issue, which makes them long term.
- MAS Corporation has enjoyed an extremely profitable year. It has been determined that those owning the MAS 4% preferred, participating to 6% preferred shares, will receive the full participating dividend. The participating shareholders will receive an additional dividend of
Correct answer: 2%.
The stated MAS preferred dividend is 4%, participating up to 6%. In this year, when it has been determined that they should receive the full participating dividend, they will receive the additional participating 2%.
- All else being equal, which of the following preferred would pay the highest dividend?
- Cumulative preferred
- Straight preferred
- Callable preferred
- Participating preferred
Correct answer: Callable preferred
Callable preferred is a benefit to the issuer—not the investor—so callable has to pay a higher dividend than the others because the other features are neutral or benefit the investor.
- A Japanese computer chip manufacturer wants to attract U.S equity investors. Which of the following securities would help the issuer to accomplish this goal?
- Foreign depositary receipts
- American depositary receipts (ADRs)
- Global stocks
- Yen-based stocks
Correct answer: American depositary receipts (ADRs)
ADRs are a type of equity security designed to simplify foreign investing for Americans. An ADR is created when shares are purchased in the foreign company's home market. These shares are then deposited in a foreign branch of a U.S. bank and a receipt (the ADR) is created. The ADR provides U.S. investors with a convenient way to diversify their holdings beyond domestic companies.
- Which statement describes rights and warrants?
- Rights are short term; warrants are long term.
- Both rights and warrants are long term.
- Both rights and warrants are short term.
- Rights are long term; warrants are short term.
Correct answer: Rights are short term; warrants are long term.
Stock rights, also known as preemptive rights or subscription rights, are issued to current stockholders in the event more stock is to be sold. This allows them to purchase the new stock at below the current market price for a period of four to six weeks before the stock is offered to the public. Hence, they are short term. Warrants may be issued at any time and allow the holder to purchase the stock at a price above the current market, for a period of typically two years or more. Hence, they are long term. The hope with warrants, of course, is that the market price will rise above the exercise price before the warrant expires.
- An investor has just received stock rights in the mail allowing the purchase of 250 shares of a stock offering at a discount. With these rights, the investor may take any of the following actions except
- Purchase 125 shares at double the discount
- Exercise some rights and sell the rest
- Sell some rights and let the rest expire unexercised
- Sell the rights for a portion of their value
Correct answer: Purchase 125 shares at double the discount
Once an investor has received stock rights, the rights may be exercised in whole or in part, sold on the open market in whole or in part, allowed to expire in whole or in part, or some combination of these. The discount, however, stands as offered and may not be manipulated.
- Preferred shareholders have
- No voting or preemptive rights
- Voting rights only
- Preemptive rights only
- Both voting and preemptive rights
Correct answer: No voting or preemptive rights
Preferred shareholders have no voting rights, nor do they have preemptive rights, which is the right to maintain the same percentage ownership in the corporation should additional shares be issued.
- What is the primary purpose of an issuer sponsoring an American depositary receipt (ADR)?
- These securities are created to facilitate foreign investment in U.S. companies.
- These securities are created to provide tax relief for U.S. investors.
- These securities are created to attract a U.S. investor base.
- These securities permit the issuer to avoid Securities and Exchange Commission (SEC) jurisdiction.
Correct answer: These securities are created to attract a U.S. investor base.
ADRs are a type of equity security designed to simplify foreign investing for Americans. An ADR is created when common shares are purchased in the foreign company's home market. These shares are then deposited in a foreign branch of a U.S. bank and a receipt (the ADR) is created. The ADR trades in the U.S and is denominated in U.S. currency making the process of buying a foreign stock much easier for an American investor. ADRs are subject to U.S. securities regulations.
- The potential that inflation will devalue the fixed dividend income payments received by preferred shareholders is known as
- Interest-rate risk
- Market risk
- Purchasing power risk
- Decreased dividend risk
Correct answer: Purchasing power risk
Remember that the fixed dividends received by preferred shareholders are a stated percentage of par value. Purchasing power risk is the possibility that the income produced via the fixed dividend received will not purchase as much in the future for preferred shareholders as it does today due to inflation.
- When the board of directors (BOD) declares a dividend,
- Owners of preferred shares must be paid before any payment is made to common shareholders
- Owners of preferred shares must be paid at least the same amount as any payment made to common shareholders
- Owners of preferred shares are paid only after any payment is made to common shareholders
- Owners of common shares must be paid at least the same amount as any payment made to preferred shareholders
Correct answer: Owners of preferred shares must be paid before any payment is made to common shareholders
When the BOD declares dividends, owners of preferred shares must be paid before any payment is made to common shareholders. This is known as the dividend preference allotted to preferred shareholders. There is no relationship between the amounts paid to preferred shareholders and common shareholders.
- What is the tax status of a dividend paid to a U.S.-based American depositary receipts (ADR) investor?
- These dividends are only taxable to foreign buyers.
- These dividends are tax free.
- These dividends may be taxed by both the foreign country and the United States.
- These dividends are tax deferred.
Correct answer: These dividends may be taxed by both the foreign country and the United States.
Dividends paid to a U.S. investor may be subject to a withholding tax by the home country of the underlying foreign stock issuer. In many cases, the amount of tax withheld by the foreign government is applied as a credit against the investor's U.S. tax liability. Note: Any trading profits (capital gains) from the ADR would only be taxable here in the United States.
- An investor needs to decide whether or not they would like to maintain their percentage of ownership in a company that has decided to increase the number of outstanding shares. Which of the following is the best description of what is taking place?
- Warrants will be distributed to existing stockholders and they will have two to five years to decide whether or not to buy the stock at the strike price.
- Warrants will be distributed to existing stockholders with an exercise price equal to the current market value.
- Rights will be distributed to existing stockholders with an exercise price lower than the current market value.
- Rights will be distributed to existing stockholders; they have only two options: exercise the rights or let them expire.
Correct answer: Rights will be distributed to existing stockholders with an exercise price lower than the current market value.
Preemptive rights entitle existing common stockholders to maintain their proportionate ownership shares in a company by buying newly issued shares before the company offers them to the general public. They are offered with an exercise price lower than the current market value and are issued (typically) for a period of four to six weeks (30–45 days). Existing shareholders who receive rights have three options: they may be exercised, sold in the secondary market, or allowed to expire at the end of their subscription.
- Which of the following preferred stocks' price would remain most stable in an environment of changing interest rates?
- Participating preferred
- Straight preferred
- Nocumulative preferred
- Adjustable rate preferred
Correct answer: Adjustable rate preferred
Adjustable rate preferred dividend resets when interest rates change so the price remains stable.
- Each of the following is considered a control person under Securities and Exchange Commission (SEC) Rule 144 except
- Corporate officers and directors
- Those persons who own 5% or more of the total beneficial interest of a company's common stock
- Those persons who own 10% or more of the total beneficial interest of a company's common stock
- Another company that owns 10% or more of the company's equity securities
Correct answer: Those persons who own 5% or more of the total beneficial interest of a company's common stock
Control securities are those owned by directors, officers, or persons (which include corporations, trusts, etc.) who own or control 10% or more of the issuer's equity securities. Those persons who own 5% or more of the total beneficial interest of a company's common stock are not deemed control persons under this rule.
- An affiliate has held restricted shares fully paid for six months. In anticipation of the desire to divest the shares, the affiliate should know that
- No limit on the number of shares that can be sold will be imposed
- While no longer restricted, all sales of these shares must be approved by the issuer's board of directors (BOD)
- Any shares sold will be subject to volume restrictions if still an affiliate
- The shares are no longer restricted, having been held fully paid for six months
Correct answer: Any shares sold will be subject to volume restrictions if still an affiliate
Although held fully paid for six months, the sales of these shares would be subject to volume restrictions for as long as this individual is an affiliate. If the individual was not an affiliate, the shares held fully paid for six months could now be sold completely unrestricted.
- The primary purpose of American depositary receipts (ADRs) is to facilitate the trading of
- U.S. stocks in foreign markets.
- Foreign stocks in U.S. markets.
- Foreign stocks in both domestic and foreign markets
- Domestic stocks in both foreign and domestic markets
Correct answer: Foreign stocks in U.S. markets.
ADRs facilitate the trading of foreign stocks in U.S. markets.
- While preferred shares tend to be less volatile than common shares, one type of preferred is noted as being even more stable in price than the others. This would be
- Convertible
- Participating
- Callable
- Adjustable rate
Correct answer: Adjustable rate
Because the dividend payment adjusts to current interest rates, the price of the stock remains relatively stable. In other words, it is the return that fluctuates rather than the price.
- Which of the following best describes the trade execution of American depositary receipts (ADRs)?
- Trades are executed domestically in a foreign currency.'
- Trades are executed overseas in a foreign currency.
- Trades are executed overseas in U.S dollars.
- Trades are executed domestically in U.S. dollars.
Correct answer: Trades are executed domestically in U.S. dollars.
ADRs are often listed on a securities exchange such as the NYSE or Nasdaq and trade throughout the day. Trades in these securities are dollar denominated. ADRs trade and settle in the same fashion as a traditional U.S.-based common stock.
- As interest rates rise, prices of preferred stock will
- Rise
- Remain unaffected
- Fall
- Become volatile
Correct answer: Fall
Because it pays a fixed dividend, preferred stock is interest-rate sensitive. As rates rise, prices of preferred stocks tend to fall and vice versa.
- Under the provisions of Rule 144, what percentage of outstanding stock may a control person sell every 90 days?
Correct answer: 1%
Rule 144 pertaining to the sale of restricted or control stock allows for the sale of 1% of the outstanding shares or the weekly average of the last four weeks' trading volume (whichever is greater), every 90 days.
- An affiliate holding unregistered shares can sell under Rule 144
- As often as wished
- One time a year
- Two times a year
- Four times a year
Correct answer: Four times a year
Rule 144 allows an affiliate to sell the greater of 1% of the outstanding shares or the average of the last four weeks' trading volume with each Form 144 filing. The filing is good for 90 days (three months), which would allow for as many as four filings per year.
- Rule 144 stipulates that after holding restricted stock fully paid for six months, an affiliate may begin selling shares
- Subject to volume restrictions within any 90-day period
- Completely unrestricted
- Subject to the volume restrictions on any single day
- At the discretion of the issuer's board of directors (BOD)
Correct answer: Subject to volume restrictions within any 90-day period
Rule 144 stipulates that after holding restricted stock fully paid for six months, an affiliate may begin selling shares but is subject to volume restrictions within any 90-day period.
- Preferred shareholders who expect missed dividend payments to be eventually paid are most likely to own
- Callable preferred stock
- Convertible preferred stock
- Cumulative preferred stock
- Straight preferred stock
Correct answer: Cumulative preferred stock
Cumulative preferred stock accrues payments due its shareholders that have been missed in the event dividends are reduced or suspended.
- A preferred shareholder's priority claim on assets is the preferred shareholder's priority standing over
- Bondholders
- Common shareholders only
- Employees of the corporation
- Creditors of the corporation
Correct answer: Common shareholders only
A preferred shareholders priority claim on assets is the preferred shareholders priority standing over common shareholders only. Employees of the corporation, debt (bond) holders and other creditors would all have claims on assets settled before preferred shareholders.
- An investor owns 4% preferred stock participating to 6%. This means the investor
- Must receive at least 6% each year
- Must receive an additional 4% in any year the board declares the 6% participating be paid
- Could receive an additional 6% over the stated 4% dividend if the board declares it
- Could receive an additional 2% over the stated 4% dividend if the board declares it
Correct answer: Could receive an additional 2% over the stated 4% dividend if the board declares it
If a preferred stock is described as 4% preferred participating to 6%, the company pays its holders up to 2% in additional dividends in profitable years if the board of directors declares it.
- When shareholders owning participating preferred shares receive the additional participating amount, this was determined by
- Securities and Exchange Commission (SEC) mandate.
- The vote of all other preferred class shareholders
- Common shareholders
- The board of directors (BOD)
Correct answer: The board of directors (BOD)
Additional dividends in profitable years payable to participating preferred shareholders is at the direction of the BOD. Just as a dividend is declared, the BOD would declare any participating dividend to be paid.
- For those owning preferred classes of stocks, priority of asset dissolution refers to
- The order in which preferred shareholders receive dividend payments when declared
- The order in which preferred shareholders are paid in the event of a bankruptcy liquidation
- The order in which preferred shareholders receive dividend payments and the order in which preferred shareholders are paid in the event of a bankruptcy liquidation
- The order in which the board of directors (BOD) declares dividend payments
Correct answer: The order in which preferred shareholders are paid in the event of a bankruptcy liquidation
Priority at dissolution refers to the priority that preferred stockholders have over the claims of common stockholders on any assets remaining after creditors have been paid when assets are being liquidated.
- Which of the following features of preferred stock allows the holder to reduce the risk of inflation?
- Noncumulative
- Cumulative
- Callable
- Convertible
Correct answer: Convertible
Fixed-dollar investments, such as bonds and preferred stock, are subject to inflation risk, which is the risk that the fixed interest or dividend payments will be worth less over time in terms of purchasing power. The ability to convert to common stock, which tends to keep pace with inflation, offsets this risk.
- A convertible feature for preferred shares allows the owner to exchange the shares
- For as many bonds as the issuer is willing to issue at that point in time
- For the preferred shares of another issuer
- For a fixed number of shares of the issuing corporation's common stock
- For a fixed number of bonds issued by the corporation
Correct answer: For a fixed number of shares of the issuing corporation's common stock
The conversion feature for preferred shares has fixed terms allowing the owner to convert the shares (exchange them) for a specified number of the same issuers common shares.
- Mr. Smith bought an American depositary receipt (ADR) in a French company at $13.03 and recently sold the shares for $24.88. How would this trading profit be taxed?
- The profit is taxed as income in France only.
- The profit is taxed as a capital gain in the United States only.
- The profit is taxed as income in the United States only.
- The profit is not taxed because ADRs are tax-exempt securities.
Correct answer: The profit is taxed as a capital gain in the United States only.
Any trading profits (capital gains) from an ADR would only be taxable here in the United States. A capital gain is the profit realized when buying then selling the shares. Remember, dividends paid to a U.S. investor may be subject to a withholding tax by the home country of the underlying foreign stock issuer. In many cases, the amount of tax withheld by the foreign government is applied as a credit against the investor's U.S. tax liability.
- Which of the following securities is the underlying asset used to create an American depositary receipt (ADR)?
- Preferred shares
- Bonds
- Common shares
- Warrants
Correct answer: Common shares
Which of the following securities is the underlying asset used to create an American depositary receipt (ADR)?
- A customer owns cumulative preferred stock (par value of $100) that pays an 8% dividend. The dividend has not been paid this year and was missed in the two previous years. If the company wants to pay a dividend to common shareholders, how much must the company pay this customer per share first?
Correct answer: $24
If the company is going to pay a common stock dividend, it must pay the preferred dividends first, including all dividends in arrears (missed). There are $16 due in back dividends for the two years missed, in addition to $8 this year, for a total of $24.
- A shareholder owns preferred shares that allow for the possibility of receiving more than the stated dividend. This type of preferred share would be known as
- Callable preferred stock
- Participating
- Convertible
- Adjustable
Correct answer: Participating
In addition to the fixed stated dividend, participating preferred stock offers its owners the possibility of receiving a share of corporate profits that remain after all dividends and interest due other securities are paid.
- LMN Corporation has a $60 par, 4% preferred stock currently trading at $45 per share. Its annual dividend is
- $24.00.
- $1.80.
- $2.40.
- $4.00.
Correct answer: $2.40.
For preferred shares, the annual dividend is stated as a percentage of par. In this case, 4% of par value of $60 equals $2.40.
- Which of the following statements is correct concerning currency risk when investing in an American depositary receipt (ADR)?
- Currency risk is eliminated because the securities are dollar denominated.
- Currency risk is still a factor when purchasing an ADR.
- U.S. investors are protected from currency risk by the depositary bank.
- U.S. investors are protected from currency risk by the underlying foreign corporation.
Correct answer: Currency risk is still a factor when purchasing an ADR.
ADRs are issued and pay dividends in U.S. dollars eliminating the complications of currency conversion. However, ADRs are still subject to currency risk. Why? The company pays dividends in its home currency, and the issuing bank pays out those dividends in U.S. dollars. When the exchange rate changes, the amount these dividends (in U.S. dollar terms) will fluctuate as well. Also, the value of the ADR itself will rise and fall with the value of the underlying foreign stock which is partially due to currency swings.
- The rate on an adjustable preferred stock would most likely be indexed to
- The Treasury bill (T-bill) rate
- The Consumer Price Index (CPI)
- The Dow Jones Industrial Average (DJIA)
- The Producer Price Index (PPI)
Correct answer: The Treasury bill (T-bill) rate
The dividend on an adjustable-rate preferred stock is tied to a particular benchmark interest rate, and the Treasury bill rate is a common benchmark. The CPI, the PPI, and the DJIA are not interest rates.
- Preferred shares have
- Characteristics of both equity and debt securities
- Only the characteristics matching those of equity securities
- Characteristics of neither equity nor debt securities
- Only the characteristics matching those of debt securities
Correct answer: Characteristics of both equity and debt securities
Preferred shares are equity securities, but not only do they have the characteristics of equity securities, they share some of the characteristics of debt securities as well. The most notable characteristic is that a preferred stock's annual dividend represents its fixed rate of return, like the fixed rate of return for a bond (debt security).
- MMS Corporation has 7% callable preferred shares outstanding. Over the past few years, benchmark interest rates have declined and hovered close to 3%. Which of the following is true?
- The issuer is likely to reduce the fixed dividend to 3%.
- The 7% shares are likely to be called.
- More 7% callable shares should be issued.
- The issuer will covert these shares to common stock.
Correct answer: The 7% shares are likely to be called.
When interest rates fall, callable preferred shares are likely to be called. This allows the issuer to cease the higher dividend payments and reissue shares with lower dividend payments that align more with the current interest-rate environment. With interest rates now at 3%, the issuer would have no desire to issue more 7% shares, nor could they reduce the fixed dividend on these 7% shares. If the shares were convertible, conversion would be at the discretion of the shareholders, not the issuer.
- MJS Corporation has called in its 6% preferred shares. Owners of these shares should expect that
- The shares will continue to trade in the open market
- Dividend payments will cease on the call date
- Dividend payments will continue until the owner chooses to turn in the shares
- The shares will be resold to new investors
Correct answer: Dividend payments will cease on the call date
When a corporation calls in preferred shares, the shares stop trading and dividend payments cease on the call date.
- Different categories of preferred shares offered by an issuer
- Must all be convertible shares
- All have preference over the issuer's common shares
- Must all be callable shares
- All must have the same fixed dividend rate
Correct answer: All have preference over the issuer's common shares
Separate categories of preferred shares may differ in several ways, including dividend rate and profit participation privileges. However, all maintain preference over common stock shares issued.
- A preferred stock dividend is stated as a percentage of
- Current market value
- The 52-week average share price
- Par value
- The company’s net worth
Correct answer: Par value
A preferred stock dividend is stated as a percentage of its par value, which is assumed as $100 for preferred shares, unless it has been stated differently.
- A corporation needs to build a new manufacturing facility costing several hundred million dollars. In which of the following markets could this new capital be raised?
- Government bond market
- Secondary market
- Municipal bond market
- Capital market
Correct answer: Capital market
Capital markets are a source of financing for corporations, municipalities, and governments. Capital can be raised by issuing equities or debt and offering the securities to investors in an initial public offering (IPO) or an additional public offering (APO). Note that bonds might be issued by a municipality or the federal government to raise money, but corporations (as noted in this question) do not issue government bonds, either federal or municipal.
- A company is considering raising capital without going through the registration process requirements mandated by the Securities Act of 1933. To be exempt from the act, which of the following offerings might they employ?
- Additional public offering (APO)
- Private (nonpublic) securities offering
- Initial public offering
- Shelf offering
Correct answer: Private (nonpublic) securities offering
Issuers wanting relief (exemption) from the registration provisions of the Securities Act of 1933 can offer securities privately. These securities offerings are often called private placements.
- Each of the following may be traded on an exchange except
- Life insurance
- Bonds
- Options
- Equities
Correct answer: Life insurance
All types of financial assets and investment instruments are traded among buyers and sellers on securities exchanges. Stocks (equity securities), bonds (debt securities), options (derivative securities), currencies, and more are traded on exchanges and other securities markets every business day. Life insurance is not a security and may not be traded.
- Which of the following is true regarding the primary market?
- It is regulated by the Securities Act of 1934.
- Price is determined by supply and demand.
- Issuer transactions occur in the primary market.
- The NYSE is an example of a primary market.
Correct answer: Issuer transactions occur in the primary market.
The primary market is where securities are sold to the investing public through issuer transactions. It is regulated by the Securities Act of 1933. The NYSE is an example of a secondary market where price is determined by supply and demand.
- A corporation sells shares to the investing public in order to raise capital. This is known as
- An issuer transaction
- A secondary market transaction
- An exchange market execution
- A primary, or investor-to-investor, transaction
Correct answer: An issuer transaction
The primary market is where securities are sold to the investing public by the issuer wishing to raise capital. These are known as primary market or issuer transactions.
- Which of the following statements is true?
- Municipalities, the federal government, and corporations can raise funds in the capital markets.
- Only municipalities can raise funds in the capital markets.
- Only corporations can raise funds in the capital markets.
- Only the federal government and municipalities can raise funds in the capital markets.
Correct answer: Municipalities, the federal government, and corporations can raise funds in the capital markets.
Capital markets are a source of financing for corporations, municipalities, and governments.
- The primary purpose of the Securities Act of 1933 is to
- Require full and fair disclosure in connection with the sale of securities to the public
- Regulate all persons associated with industry member firms
- Authorize the designated self-regulatory organizations (SROs) to enforce securities rules and regulations
- Provide a basis for the regulation of exchanges and electronic trading venues
Correct answer: Require full and fair disclosure in connection with the sale of securities to the public
The primary purpose of the Securities Act of 1933 is to require full and fair disclosure in connection with the sale of securities to the public.
- Regarding primary offerings, which of the following is true?
- A corporation can have only one primary offering—the initial public offering (IPO).
- There is no limit to the number of primary offerings a corporation can issue.
- A corporation can have two primary offerings—the initial public offering (IPO) and an additional public offering (APO).
- After its initial public offering (IPO), a corporation can have only one more primary offering—its subsequent primary offering (SPO).
Correct answer: There is no limit to the number of primary offerings a corporation can issue.
While a corporation can have only one IPO, there is no limit to the number of SPOs or APOs it can issue. IPOs, SPOs, and APOs are all primary offerings—those where the offering proceeds go to the issuer.
- The Securities Act of 1933 requires that
- Both exempt and nonexempt new issues be registered with the Securities and Exchange Commission (SEC) before public sale
- Registration with the Securities and Exchange Commission (SEC) before public sale can be made be an option for all new issues
- All new issues be exempted from registration with the Securities and Exchange Commission (SEC) so that they may be sold to the public
- A new issue, unless specifically exempted from the Act, be registered with the Securities and Exchange Commission (SEC) before public sale
Correct answer: A new issue, unless specifically exempted from the Act, be registered with the Securities and Exchange Commission (SEC) before public sale
While some new issues can be exempt from registration, the Securities Act of 1933 requires that a new issue, unless it is specifically exempted from the act, be registered with SEC before public sales can be made.
- Private placements are primarily sold to
- Investment bankers
- Individuals who do not meet the definition of accredited investor
- Institutional investors
- General public investors
Correct answer: Institutional investors
Institutional investors are the overwhelming majority of buyers in private placements, although private placement securities may be sold to small numbers of wealthy individuals who meet certain criteria (accredited investors).
- For nonexempt securities being offered to the public for the first time by a corporate issuer, which of the following would be applicable?
- Securities Act of 1933 regulating securities traded in the secondary market
- Securities Act of 1934 regulating securities that must be offered by prospectus
- Securities Act of 1933 regulating issues that must be offered by prospectus
- Securities Act of 1934 regulating issues that must be offered by prospectus
Correct answer: Securities Act of 1933 regulating issues that must be offered by prospectus
Nonexempt securities are those that must be registered with the Securities and Exchange Commission (SEC) under the Securities Act of 1933. The Securities Act of 1933 mandates that offerings of these securities must be made by prospectus.
- Which of the following best describes a prospectus?
- It is a truth-in-lending document required whenever a loan is made to an issuer via the purchase of its debt securities.
- It is a full and fair disclosure of all material information and facts regarding the issuance of securities.
- It is a useful but not mandatory document showing detailed information intended to offer investors adequate reason to purchase shares.
- It is a document, required by securities law, which offers limited information about an issuer's securities to be offered to the public.
Correct answer: It is a full and fair disclosure of all material information and facts regarding the issuance of securities.
The Securities and Exchange Commission (SEC) requires full and fair disclosure of all material information and facts regarding the issuance of securities. This disclosure is done via a prospectus, which is required to provide investors enough information to make fully informed buying decisions.
- Securities sold in an issuer-related transaction would best be described as
- A primary offering
- A balance of payments
- A split offering
- A secondary offering
Correct answer: A primary offering
When an issuer offers stock and the proceeds from the sale are added to the company's capital, it is called a primary offering. By contrast, a secondary offering is one in which one or more shareholders in the corporation sell all or a portion of their equity holdings to the public. The proceeds of a secondary offering are paid to the selling shareholder(s), not the company.
- Assets offered and traded in the securities markets can include all of the following except
- Equities
- Life insurance
- Currencies
- Derivative products
Correct answer: Life insurance
Equities (stocks), bonds, currencies, and derivative products like options can be offered and traded in the financial markets. Insurance is not an asset that can be traded in the financial markets.
- A company with previously issued shares outstanding wants to issue more shares to the public. These new shares are issued in what is known as
- A secondary market offering
- An additional public offering (APO).
- An initial public offering (IPO)
- A secondary registration
Correct answer: An additional public offering (APO).
The first time that a company issues shares to the public, it engages in an IPO. Later offerings are known as subsequent primary offerings (SPOs) or APOs. The IPO and any SPO or APO are all issuer transactions and are, therefore, done in the primary market.
- A company is looking to raise additional capital to fund an expansion plan. The company's senior management chooses to issue additional bonds to the general public. The best expression to explain this type of offering would be
- A primary offering
- A secondary offering
- A private securities offering
- An initial public offering (IPO)
Correct answer: A primary offering
A primary offering is one in which the proceeds raised go to the issuing corporation, municipality, or government. The corporation in this case looks to increase its liquid capital by offering bonds. Primary offerings of bonds may be made by an issuer publicly, as is the case, or privately. This question points to an additional public offering (APO) of securities, not an initial public offering.
- All of the following names describe the Securities Act of 1933 except
- The Prospectus Act.
- The Exchange Act.
- The Truth in Securities Act.
- The Full and Fair Disclosure Act.
Correct answer: The Exchange Act.
The Exchange Act is the Securities Exchange Act of 1934 and covers the secondary markets. The Securities Act of 1933 covers the primary market and requires full and fair disclosure on new issues by providing a prospectus to the investor.
- Regarding the sale of a new issue, a customer is considered a restricted person if the person is
- Working as a salesperson who works for the issuing firm's underwriter
- Working as a salesperson for a supplier of the issuing corporation
- A grandparent of an associated person of a member firm
- Working as a private investigator collecting information on the issuing firm's competitors
Correct answer: Working as a salesperson who works for the issuing firm's underwriter
Restricted persons include Financial Industry Regulatory Authority (FINRA) member firms and their associated persons, such as a salesperson working for an underwriter, plus immediate family members. Immediate family members do not include aunts and uncles or grandparents.
- Regarding the purchase of new equity issues (IPOs), restricted persons may
- Purchase shares of a new issue only if they are employed by a broker-dealer as a registered representative
- Purchase shares of a new issue only if they work for a bank
- Purchase shares of a new issue only in amounts that are not substantial in relation to the total number of shares being issued
- Not purchase shares of a new issue
Correct answer: Not purchase shares of a new issue
Persons characterized as restricted persons are prohibited from purchasing shares of new issues in any quantity. If one is already restricted, working for a bank or a broker-dealer does not exempt them from the rule.
- A registered representative provides financial support and housing at her home for her grandfather. Regarding the purchase of new issues,
- The registered representative is restricted, but her grandfather is not
- Both persons are considered restricted
- Neither are considered restricted
- The grandfather is restricted, but the registered representative is not
Correct answer: Both persons are considered restricted
Working for a broker-dealer, the registered representative is considered restricted. While grandparents of restricted persons are generally not considered restricted, anyone being provided financial support and/or living under the same roof as a restricted person (as is the case here) is also restricted.
- Which of the following statements with regard to the issuance of securities is true?
- The cooling-off period beginning when a registration statement is filed with the Securities and Exchange Commission (SEC) can't last longer than 20 days.
- The Securities Act of 1933 provides criminal penalties for fraud.
- Once a registration statement has been filed with the Securities and Exchange Commission (SEC) it should be expected that the securities could be sold to the public within two business days.
- While the Securities and Exchange Commission (SEC) is reviewing a registration statement for a new offering of securities, the underwriters are permitted to solicit and accept orders for the securities from the public.
Correct answer: The Securities Act of 1933 provides criminal penalties for fraud.
The Securities Act of 1933 (also known as the Paper Act, Full Disclosure Act, New Issues Act, Truth in Securities Act, and Prospectus Act) ensures that the investing public is fully informed about a security and its issuer when the security is offered on the primary market. The act provides criminal penalties for fraud in the issuance of new securities. The SEC review period, known as the cooling-off period, must last a minimum of 20 days before the SEC releases the securities for sale to the public (effective date). Solicitations and the acceptance of orders may never occur before the effective date.
- Rules to protect the investing public during the public offering process include all of the following except
- Limiting the number of shares of an initial public offering (IPO) that may be purchased by the issuing company's employees
- Securities industry insiders may not take advantage of their insider status to gain access to new issues for their own benefit
- Member firms may not withhold securities in a public offering for their own benefit
- Members must offer the securities at the public offering price
Correct answer: Limiting the number of shares of an initial public offering (IPO) that may be purchased by the issuing company's employees
No rule limits the number of shares that an issuer can direct to persons who are employees of the issuer.
- A company's management team has agreed to issue additional shares of common stock in part to provide an employee stock ownership plan. It is agreed the issuance of the stock is not urgent and can wait until more favorable market conditions exist. What type of registration is most suitable under these conditions?
- A shelf registration
- An expansion registration
- An employee stock ownership plan (ESOP) registration
- A shadow registration
Correct answer: A shelf registration
The Securities Act of 1933 permits issuers to quickly raise money in the capital markets when needed or when market conditions are just right. For example, if a company files a shelf registration statement with the Commission, there is no intention to immediately sell the securities. However, when the right time arrives—either interest rates are at a likely low point or funds are needed to complete a project—the company can in essence, take the securities from the shelf without the delay of registering with the Securities and Exchange Commission (SEC), as that has already been done. Shelf registration (shelf offering) is available for both primary and secondary offerings.
- During the cooling off period, underwriters would be allowed to do all of the following except
- Distribute a preliminary prospectus
- Take orders
- Take indications of interest
- Publish a tombstone
Correct answer: Take orders
During the cooling off period, sales are not allowed.
- Which of the following would be allowed during the cooling off period?
- Taking orders
- Allocating shares to investors
- Distributing a prospectus
- Distributing a red herring
Correct answer: Distributing a red herring
No selling or soliciting is allowed during the cooling off period. Distributing a red herring (a preliminary prospectus) is allowed.
- In the capital markets, securities such as stocks and bonds can be
- Offered by both public and private sectors
- Purchased and sold by individuals only
- Purchased and sold by institutions only
- Offered by the public sector only
Correct answer: Offered by both public and private sectors
In capital markets, both public and private sectors sell securities in order to raise funds. These securities can be bought and sold (traded) in the capital markets by individuals and institutions alike.
- If an officer of a bank with the authority to purchase and sell securities on behalf of the bank wants to purchase new issues, which of the following statements is true?
- The officer may not purchase a new issue unless the amount he wishes to purchase is considered small in relation to the total offering.
- The officer may purchase a new issue because anyone is allowed to purchase new issues.
- The officer may not purchase a new issue because he is considered a restricted person.
- The officer may purchase a new issue because no banking rules prohibit it.
Correct answer: The officer may not purchase a new issue because he is considered a restricted person.
Under the rules regarding the purchase of new issues, bank officers would generally be characterized as restricted persons. They may not, therefore, purchase new issues.
- An officer of a broker-dealer firm would be categorized as a restricted person if that individual attempted to purchase
- A municipal bond in a state where the officer does not reside
- Closed-end funds on the secondary market
- Call or put options on a stock in the secondary market
- A new issue initial public offering (IPO) at the public offering price
Correct answer: A new issue initial public offering (IPO) at the public offering price
As restricted persons, officers of broker-dealer firms or other institutional investors are prohibited from purchasing a new issue (IPO) at the public offering price.
- For primary and secondary markets, which of the following is true?
- In the secondary market, securities transactions cannot take place on an exchange.
- In the primary market, securities are purchased from and sold to individual investors.
- In the secondary market, all sales proceeds go to the issuer.V
- In the primary market, securities are sold to the public and the issuer receives the sale proceeds.
Correct answer: In the primary market, securities are sold to the public and the issuer receives the sale proceeds.
In the primary market, the issuer of the securities receives the proceeds generated by the sale of the securities. In the secondary markets, such as an exchange or over-the-counter (OTC) securities trade between investors, one sells securities to another, and the issuer is not involved in the transaction.
- Public offerings of securities are regulated under
- The Securities Act of 1934
- Financial Industry Regulatory Authority (FINRA)'s communications with the public rules.
- The Securities Act of 1933
- The Consumer Protection Act
Correct answer: The Securities Act of 1933
In a public offering, securities are offered and sold to the investing public. Public offerings of securities are regulated under the Securities Act of 1933.
- The XYZ Company is looking to offer shares of its common stock to the public. Which of the following laws enacted by Congress would have the most relevance to the issuance of these securities?
- The Securities Investors Protection Act of 1970
- The Investment Company Act of 1940
- The Securities Act of 1933.
- The Trust Indenture Act of 1939
Correct answer: The Securities Act of 1933.
The Securities Act of 1933, also known as the Paper Act or Prospectus Act, is the bedrock of all modern securities law. It requires issuers looking to make a public offering of securities to provide full and fair disclosure of all material facts about the company and the securities being offered. The company does this by registering its securities with the U.S. Securities and Exchange Commission (SEC), often with the aid of accountancy firms, securities attorneys, and underwriters. Part of the registration process for newly offered securities is the publishing of a prospectus which all prospective investors must receive at or prior to purchase.
- For the primary market, which of the following is true?
- All U.S. exchanges are primary markets where price is determined by supply and demand.
- All U.S. exchanges are primary markets where securities are offered at a public offering price.
- Issuer transactions occur in the primary market, and securities are offered at a public offering price.
- Issuer transactions occur in the primary market, and price is determined by supply and demand.
Correct answer: Issuer transactions occur in the primary market, and securities are offered at a public offering price.
The primary market, regulated by the 1933 Securities Act, is where securities are offered by issuers (issuer transactions) at an offering price. The sales proceeds of these transactions go to the issuer.
- A prospectus displays which of the following?
- A guarantee insuring against loss
- Performance predictions for a minimum of three years
- The Securities and Exchange Commission (SEC) endorsement
- Description of how the proceeds will be used
Correct answer: Description of how the proceeds will be used
A prospectus will not contain performance predictions, may not imply endorsement of the SEC, nor will it contain guarantees of gains or guarantees against loss.
- All of the following are restricted persons except
- Finders and fiduciaries acting on behalf of the underwriters
- Individual owning 5% of a member firm
- Employees of members
- Portfolio managers
Correct answer: Individual owning 5% of a member firm
Rules prohibit member firms from selling public offering stock in equities to any account in which restricted persons are beneficial owners. Restricted persons include Financial Industry Regulatory Authority (FINRA) members, employees of member firms, finders and fiduciaries acting on behalf of the underwriters, portfolio managers, and any person owning 10% or more of a member firm. Also included are the immediate family members of any restricted persons.
- An offering is defined as the sale of a security. Regarding offerings, all of the following are true except
- Offerings of stocks can be made to the investing public
- Offerings of bonds can be made to the investing public
- Offerings can be identified by who is selling the securities issuer or investor
- Corporate securities can only be offered in public securities offerings
Correct answer: Corporate securities can only be offered in public securities offerings
Both stocks and bonds can be made available to the investing public through an offering. Different types of offerings are identified by who is selling the securities—an issuer or another investor. Securities offered by corporations for sale to the investing public are sold to investors through either public or private securities offerings.
- The ATOP Company is planning to offer shares of both common and preferred stock to the investing public in order to raise operating capital intended to be used for expansion. Which of the following laws enacted by Congress would be the most relevant when issuing these equity securities to the public?
- The Trust Indenture Act of 1939
- The Investment Company Act of 1940
- The Securities Investors Protection Act of 1970
- The Securities Act of 1933
Correct answer: The Securities Act of 1933
The Securities Act of 1933, is also known as the Paper Act, Prospectus Act, or New Issues Act. This federal law requires that issuers who want to raise capital by making a public offering of securities to the public, provide full and fair disclosure of all material facts about the company and the securities being offered.
- Ensuring that the investing public is fully informed about a security and its issuing company when shares are first sold in the primary market is covered under which of the following federal acts?
- Securities Exchange Act of 1934
- Uniform Securities Act
- Securities Act of 1933
- Investment Company Act of 1940
Correct answer: Securities Act of 1933
Companies looking to offer securities to the public must provide a prospectus to those who are approached to purchase the shares. This requirement ensures that the investing public is fully informed about a new security and its issuing company.
- Which of the following acts requires the registration of most new issues?
- The Securities Act of 1933
- The Securities Investor Protection Act of 1970
- The Securities Market Improvement Act of 1975
- The Securities Exchange Act of 1934
Correct answer: The Securities Act of 1933
The Securities Act of 1933 requires the registration of most new issues; the Securities Exchange Act of 1934 created the SEC; the Securities Investor Protection Act of 1970 created the SIPC; the Securities Market Improvement Act of 1975 created the MSRB.
- A preliminary prospectus is used to solicit
- Sales before the effective date
- Sales after the effective date
- Indications of interest before the effective date
- Indications of interest before the registration filing date
Correct answer: Indications of interest before the effective date
A preliminary prospectus cannot be distributed before the registration date. Between the registration and effective dates, it is used to solicit or gauge indications of interest. After the effective date, sales can be solicited and a final prospectus would be available and must be used to do so.
- A tombstone announcement may contain all of the following except
- Names of the underwriters
- Type of security
- Number of shares offered
- An offer to sell the securities
Correct answer: An offer to sell the securities
No offer to sell can be made with a tombstone announcement. A tombstone is just information that an offer is coming to the market.
- An indication of interest given by an investor during the cooling-off period is
- An investor's binding commitment to purchase some of the issue after the security comes out of registration
- An investor's binding commitment to purchase some of the issue immediately
- An investor's declaration of potential interest in purchasing some of the issue after the security comes out of registration
- An investor's declaration of potential interest in purchasing some of the issue immediately
Correct answer: An investor's declaration of potential interest in purchasing some of the issue after the security comes out of registration
An indication of interest given by an investor during the cooling-off period is the investor's declaration of a nonbinding potential interest to purchase some of the issue after the security comes out of registration (after the effective date).
- Regarding the registration statement filed with the Securities and Exchange Commission (SEC) when new securities are to be issued, all of the following are true except
- A description of how the proceeds raised from the sale will be used must be disclosed
- The names and addresses of company officers and directors, their salaries, and a five-year business history of each must be shown
- Underwriters may assist the issuer in preparing and filing the registration statement
- The accuracy and adequacy of the registration documents is the responsibility of the underwriters
Correct answer: The accuracy and adequacy of the registration documents is the responsibility of the underwriters
While underwriters (broker-dealers and investment bankers) may assist the issuer in preparing and filing the registration statement, the accuracy and adequacy of the registration documents is the responsibility of the issuer. Full disclosure is also made on a number of issues, including but not limited to names and addresses of company officers and a description of how the sale proceeds will be used.
- The statement "These securities have not been approved or disapproved nor have any representations been made about the accuracy or the adequacy of the information" is
- Placed by the issuer in the preliminary prospectus
- Mandated to be in the final prospectus by the Securities and Exchange Commission (SEC)
- Is the disclaimer placed by the underwriters in a tombstone advertisement
- Mandated by the Financial Industry Regulatory Authority (FINRA) to be placed in both the preliminary and final prospectus
Correct answer: Mandated to be in the final prospectus by the Securities and Exchange Commission (SEC)
Commonly known as the Securities and Exchange Commission's disclaimer, the SEC mandates that it be found in the final prospectus.
- Which of the following would most closely match the meaning of a red herring?
- A registration statement
- Prospectus
- A tombstone advertisement
- A preliminary prospectus
Correct answer: A preliminary prospectus
A preliminary prospectus is also known as a red herring. The red herring does not include key information about the issue such as price and the number of shares offered. The term is derived from the disclaimer printed in red on the cover page.
- An investor requests a preliminary prospectus for a new issue. Regarding the document which of the following is true?
- Receipt of it is a commitment that the underwriters will sell securities to the recipient.
- The final price for the securities is published within it.
- It is made available between the registration date and the effective date.
- It can be deemed an offer to sell securities to the public.
Correct answer: It is made available between the registration date and the effective date.
The preliminary prospectus (red herring) is a prospecting tool used to gauge indications of interest. It is made available to those who request it between the registration date and the effective date (cooling-off period). Receiving it is not a commitment to purchase shares and making it available is not a commitment to sell shares to the recipient. No final price would be found on a preliminary prospectus.
- An underwriter is placing a tombstone advertisement for a company's new issue. A prospective investor might expect to see all of the following information on the advertisement except
- The number of shares to be sold
- The names of the underwriting members
- The type of security to be sold (stock or bond)
- The names of the company's officers
Correct answer: The names of the company's officers
Information on a tombstone, those advertisements allowed to be placed prior to the effective date, is limited to; name of issuer, type of security, number of shares to be sold, public offering price or expected range, and names of the underwriters or group.
- During the cooling-off period of a new registration filed with the Securities and Exchange Commission (SEC)
- A red herring may be given to prospective investors
- Indications of interest received are binding on the broker-dealers
- Sales literature may be distributed with the preliminary prospectus
- Tombstone advertisements may not be published
Correct answer: A red herring may be given to prospective investors
During the minimum 20-day cooling-off period, tombstone ads may be published, and a preliminary prospectus, also known as a red herring, may be distributed to prospective investors. Sales literature may not be distributed and indications of interest are not binding on either the investor or broker-dealer.
- Which of the following will not be found in a final prospectus?
- Statement that the Securities and Exchange Commission (SEC) neither approves nor disapproves of the issue
- Effective date and offering price
- Business plan and use of the proceeds
- Agreement among underwriters
Correct answer: Agreement among underwriters
The agreement among underwriters is not a part of a prospectus.
- Regarding the purchase of a new equity issue, an account where a restricted person has a beneficial interest would be allowed to purchase the new shares at the public offering price
- Without restriction
- Never
- Only if the interest exceeds 15%
- Only if the interest does not exceed 10%
Correct answer: Only if the interest does not exceed 10%
Restricted persons will be able to have an interest in an account (one that is not wholly their own) that purchases new equity issues as long as no more than 10% of the account's beneficial owners are restricted persons.
- Which of the following choices would best describe a follow-on offering?
- An initial public offering (IPO) that has additional shares added by the issuer on the effective date
- An offering to the employees of the issuing company
- The common stock that is issued attached to a rights offering
- An issue of shares by a public company that is already listed on an exchange
Correct answer: An issue of shares by a public company that is already listed on an exchange
A follow-on public offer (FPO) is an issue of shares by a public company [registered and reporting to the Securities and Exchange Commission (SEC)] that is currently listed on an exchange and has previously gone through the IPO process. FPOs are popular methods for companies to raise additional equity capital in the capital markets through a stock issue.
- When choosing to issue additional bonds to the general public in order to raise more capital, a corporate issuer is engaging in
- A secondary offering
- An initial public offering
- A primary offering
- A private securities offering
Correct answer: A primary offering
A primary corporate offering is one in which the proceeds raised go to the issuing corporation. Primary offerings of bonds may be made by an issuer to the general public as an initial public offering (IPO) or, as is the case here, in an additional public offering (APO). Both are primary offerings.
- Which of the following offerings is most likely exempt from the registration requirements of the Securities Act of 1933?
- Additional public offerings (APOs)
- Private (nonpublic) securities offerings
- Shelf offerings
- Initial public offerings (IPOs)
Correct answer: Private (nonpublic) securities offerings
Public securities offerings must be registered under the Securities Act of 1933. These would include IPOs, APOs, and shelf offerings. Issuers choosing to offer securities privately may find relief (are exempt) from the registration provisions of the Securities Act of 1933.
- The Securities Act of 1933 protects investors who buy new issues by doing all of the following except
- Regulating the underwriting and distribution of primary and secondary issues
- Requiring an issuer to provide full and fair disclosure
- Requiring the licensing of persons affiliated with broker-dealers
- Providing criminal penalties for fraud in the issuance of new securities
Correct answer: Requiring the licensing of persons affiliated with broker-dealers
Licensing of individuals associated with broker-dealers is mandated under the Securities Exchange Act of 1934. The Securities Act of 1933 protects investors who buy new issues regulating, among other things, registration of new issues, underwriting, full disclosure, and the potential for fraud in the issuance of securities.
- Rules regarding restricted persons state that each of the following is considered immediate family except
- Parents
- A brother or a sister
- A mother-in-law or a father-in-law
- An aunt or an uncle
Correct answer: An aunt or an uncle
Rules regarding restricted persons define immediate family as spouses, parents, siblings, in-laws, and children. Aunts and uncles and grandparents are excluded (not considered immediate family).
- In a split offering,
- Shares are issued from the corporation and sold by existing shareholders
- Shares are issued to existing shareholders only
- Shares are sold by existing shareholders only
- All shares are issued to the public from existing shareholders
Correct answer: Shares are issued from the corporation and sold by existing shareholders
In a split offering, shares are sold to the public. These shares come from both the corporation (issuer) and existing shareholders. These offers are also called combination offers.
- Under the de minimis exemption, an initial public offering of common stock may be sold to an account where restricted persons have a beneficial interest as long as their interest in the account does not exceed
Correct answer: 10%.
If the beneficial interests of restricted persons do not exceed 10% of an account, the account may purchase a new equity issue.
- Raising funds is generally accomplished by corporations through the issuance of stock (equity) or bonds (debt). This is done in
- The funding market
- The secondary market
- The currency market
- The capital market
Correct answer: The capital market
The issuance of stock or bonds by corporations to raise new funds takes place in the capital market.
- Restricted persons are not allowed to purchase an IPO of common stock. All of the following are restricted persons except
- Broker-dealers
- Any person owning 10% or more of a member firm
- Registered representatives
- The grandparent of a restricted person
Correct answer: The grandparent of a restricted person
Immediate family to a restricted person is a restricted person. This includes parents, in-laws, spouses, siblings, children, or any other individual to whom the person provides material support. Aunts and uncles as well as grandparents are not considered immediate family. If, however, one of these individuals lives in the same household as a restricted person, that individual would be a restricted person.
- A corporation increases capitalization by selling shares of stock which can either come from a new issue or previously authorized but unissued shares. Total stock outstanding must
- Never equal the number of shares issued
- Always equal the number shares authorized
- Always be greater than the number of shares issued
- Never exceed the number of shares authorized
Correct answer: Never exceed the number of shares authorized
A corporation's bylaws state the maximum number of shares authorized to be issued. Therefore, issued shares, those in the hands of public shareholders (outstanding shares) can never exceed the number of shares that were authorized. While those outstanding shares can therefore never be greater than the number of shares issued they could equal the number of shares issued.
- Mrs. Jones is an employee of a member firm and as such is a restricted person regarding the purchase of new issues. She belongs to an investment club and has a 1% interest in the club's brokerage account. The investment club
- Is a restricted account and will not be allowed to purchase equity shares of an IPO
- Is a restricted account but will be allowed to purchase equity shares of an IPO
- Is not a restricted account but will not be allowed to purchase equity shares of an IPO
- Is not a restricted account and will be allowed to purchase equity shares of an initial public offering (IPO)
Correct answer: Is not a restricted account and will be allowed to purchase equity shares of an initial public offering (IPO)
Because the restricted person's interest in the club's brokerage account does not exceed 10%, the investment club account is not considered a restricted account. If not restricted, the club can purchase shares of an equity issue at the public offering price if it chooses to.
- Six days into the cooling-off period, an issuer receives a deficiency letter from the Securities and Exchange Commission (SEC) requesting clarification and corrections. Once the issuer submits these, and assuming that they satisfy the deficiency, the cooling-off period will resume. With no other deficiencies arising, the issue should become effective in
- 8 days.
- 15 days.
- 20 days.
- 14 days.
Correct answer: 14 days.
When the issuer submits the corrections necessary to satisfy the deficiency letter, the 20-day cooling-off period picks up where it left off; in this case, from six days, which means that the issue should be effective 14 days later.
- A tombstone advertisement would be expected to include all of the following information except
- The price or price range at which the securities are expected to be offered
- An advisory that the advertisement is neither an offer to sell nor a solicitation of an offer for any of these securities
- Any inherent risks associated with the offering or the issuer offering the securities
- The name of the issuer and underwriters if they are being used to assist in the offering
Correct answer: Any inherent risks associated with the offering or the issuer offering the securities
While any inherent risks associated with the issuer or the securities the issuer is offering would be expected to be shown in a prospectus, they would not be expected to be found nor is it required that they be shown in a tombstone advertisement. Each of the remaining answer choices shows information expected to be shown in these ads.
- Which of the following situations may not be disclosed to a potential buyer while a security is in registration?
- There will be a road show in New York City in May.
- The issue is being offered through ABC Investment Bank.
- The issue is expected to be priced in early June.
- A brokerage report shows the security is properly undervalued.
Correct answer: A brokerage report shows the security is properly undervalued.
Brokerage reports may not be distributed while a security is in registration. Expected dates for pricing and road shows (due diligence meetings) may be communicated to potential buyers. The underwriters are named in the issue's registration statement.
- A final prospectus contains all of the following except
- The use of the proceeds
- History of the business
- Description of the management
- SEC approval.
Correct answer: SEC approval.
The SEC neither approves nor disapproves a final prospectus; they allow the issue to become effective. Beware of any approval language when referring to a regulator.
- If it finds that the registration statement needs revision, expansion, or to have corrections made, the Securities and Exchange Commission (SEC) may suspend the review of the new issue and issue a deficiency letter. Once the issuer submits a corrected registration statement, the 20-day cooling-off period
- Begins anew
- Considered over allowing the registration to be effective
- Is increased by 10 business days to accommodate review of the new information
- Resumes where it had left off
Correct answer: Resumes where it had left off
The SEC neither approves nor disapproves a final prospectus; they allow the issue to become effective. Beware of any approval language when referring to a regulator.
- State registration is not required if the transaction is exempt. An example of an exempt transaction would be
- One involving municipal bonds
- One that is solicited
- One that is unsolicited
- One involving U.S. government bonds.
Correct answer: One that is unsolicited
Purchases and sales that are unsolicited (unsolicited transactions) are exempt under the blue-sky (state securities) laws. Municipal bonds and U.S. government bonds are examples of exempt securities, not transactions.
- Regarding the issuance of new securities to the public, which of the following is true?
- The Securities and Exchange Commission (SEC) review of a new issues filing must always be longer than 20 days.
- The Securities Act of 1933 provides criminal penalties for fraud.
- Underwriters are permitted to accept orders for securities during the Securities and Exchange Commission (SEC) review period.
- Registrations become effective within 10 business days of Securities and Exchange Commission (SEC) filing.
Correct answer: The Securities Act of 1933 provides criminal penalties for fraud.
The Securities Act of 1933, which provides for criminal penalties for fraud in the issuance of new securities, ensures that investors are fully informed about a security and its issuer when the security is offered to the public. The SEC review or cooling-off period must last a minimum of 20 days before the SEC releases the securities for sale to the public (effective date). Solicitations and the acceptance of orders may never occur before the effective date.
- During the cooling-off period, underwriters may not
- Distribute sales literature or advertising material
- Place a tombstone advertisement
- Distribute a preliminary prospectus
- Take indications of interest
Correct answer: Distribute sales literature or advertising material
During the cooling-off period, underwriters may not distribute sales or advertising literature regarding the securities to be offered. However, they may distribute a preliminary prospectus intended to gather indications of interest and place tombstone ads.
- After the issuer files a registration statement with the Securities and Exchange Commission (SEC), the time known as the cooling-off period begins. This allows a registration to become effective as early as
- 20 calendar days after the date the SEC has received it.
- 20 business days after the date the SEC has received it.
- 40 business days after the date the SEC has received it.
- 40 calendar days after the date the SEC has received it.
Correct answer: 20 calendar days after the date the SEC has received it.
Once the registration statement has been received by the SEC, a cooling-off period begins and it must last at least 20 calendar days. This allows the registration to become effective as early as 20 calendar days after the date the SEC has received it.
- After the filing of a registration for a new issue with the Securities and Exchange Commission (SEC), and still in the registration's cooling-off period, broker-dealers may
- Give a red herring to prospective investors
- Distribute sales literature with the preliminary prospectus
- Never publish tombstone advertisements
- Take binding indications of interest received from prospective investors
Correct answer: Give a red herring to prospective investors
During the cooling-off period, red herrings (preliminary prospectuses) may be distributed and tombstone advertisements may be published. Indications of interest can be taken but are nonbinding on all parties. Sales literature may not be distributed during the cooling-off period.
- When an investor receives a final prospectus, the expectation should be that one of the following would not be found. Which is it?
- The intended use of the proceeds raised in the offering
- All known risks to purchasers of the stock
- The Securities and Exchange Commission's (SEC's) verification of accuracy
- The effective or offering date
Correct answer: The Securities and Exchange Commission's (SEC's) verification of accuracy
The SEC does not verify the adequacy or accuracy of any information found in the prospectus. To the contrary, the prospectus will contain the SEC disclaimer which reads: "These securities have not been approved or disapproved by the SEC nor have any representations been made about the accuracy or the adequacy of the information."
- The prospectus delivery requirement, access equals delivery, is satisfied when
- The final prospectus has been filed with the Securities and Exchange Commission (SEC) and is available on the SEC's website for investors to see
- A red herring is initially sent by mail to investors during the cooling-off period
- The preliminary prospectus has been filed with FINRA and is therefore available on FINRA's website for investors to see
- The final prospectus has been filed with Financial Industry Regulatory Authority (FINRA) and is available on FINRA's website for investors to see
Correct answer: The final prospectus has been filed with the Securities and Exchange Commission (SEC) and is available on the SEC's website for investors to see
Beyond physical delivery of a paper prospectus, access equals delivery is the industry standard for meeting the final prospectus delivery requirements. It is deemed to be satisfied when the final prospectus has been filed with the SEC and is therefore available on the SEC's website for investors to log in and see. This standard does not apply to delivery of a preliminary prospectus before the effective date.
- Underwriters acting as principals and committing to purchase any unsold shares for the syndicate account would best be described as being engaged in
- An initial public offering (IPO)
- A primary
- A best efforts
- A firm commitment
Correct answer: A firm commitment
In a firm commitment underwriters contract with the issuer to buy its securities, acting as principals rather than agents. They are committing to purchase any unsold shares for the syndicate account. In this type of underwriting, it is the underwriters who are at risk for any shares they cannot sell to the public, not the issuer. The issuer knows that ultimately all of the securities will be sold, and all of the capital needed will be raised.
- A select pair or group of companies organized to underwrite corporate or municipal securities is best known as
- A syndicate
- An investment club
- A market maker
- An introducing broker-dealer
Correct answer: A syndicate
A syndicate is two or more broker-dealers (investment bankers) which work with an issuer through, for example, the registration process in the case of corporate securities and bring the issuer's securities to the market by selling them to investors. There are syndicates that specialize in underwriting municipal bonds. The members of a syndicate are also known as the underwriters or collectively the underwriting group.
- Tombstone ads
- Must be placed in all new offerings
- Are offers to sell securities to the public
- Are permitted before the effective date
- Are disclosures detailing all the information shown in a prospectus
Correct answer: Are permitted before the effective date
Tombstone ads are the only form of advertising that is permitted from the time the registration statement is filed with the Securities and Exchange Commission (SEC) and the effective date of the offering. While they are not mandatory for new issues, they can be used as an announcement and description of the securities to be offered, showing only minimal information. They are not an offer to sell the securities.
- Which type of underwriting is characterized by the broker-dealer buying the entire issue from the issuer and then reoffering it to the public?
- Best efforts
- Mini max
- Firm commitment
- All-or-none
Correct answer: Firm commitment
In a firm commitment, the underwriter buys the entire offer into inventory and then redistributes it to the public.
- In a combination (or split) offering,
- New shares are issued from the corporation and existing shares are sold by shareholders
- Shares are issued from existing shareholders only
- All shares are issued from existing shareholders to the public
- Shares are issued to existing shareholders only
Correct answer: New shares are issued from the corporation and existing shares are sold by shareholders
In a split offering, shares are issued to the public. These shares come from both the corporation and existing shareholders—hence the split.
- A member firm receives an order to purchase shares in a common stock initial public offering (IPO) from another broker-dealer for a customer. Regarding restricted persons, the member must
- Refuse to accept the order
- Obtain a statement witnessed by a notary representing that the buyer is not restricted
- Obtain a list of all of the broker-dealer clients to determine eligibility
- Obtain a written representation that the buyer is not a restricted person
Correct answer: Obtain a written representation that the buyer is not a restricted person
When receiving an order to buy a new equity issue, a member must obtain a written representation that purchasers are in compliance with rules regarding sales of new issues to restricted persons (i.e., they are not restricted persons).
- In an underwriting where fixing a minimum dollar amount to be sold in order to move forward with the entire offering is most commonly referred to as
- All or none (AON)
- De minimis
- Firm commitment
- Mini-max
Correct answer: Mini-max
A mini-max offering is a best efforts underwriting setting a floor or minimum, which is the least amount the issuer needs to raise in order to move forward with the underwriting, and a ceiling or maximum on the dollar amount of securities the issuer is willing to sell.
- Capital markets can be characterized by all of the following except
- They would include stock and bond markets
- Securities traded in them can be bought and sold by both individuals and institutions
- Entities can utilize them to finance both long- and short-term capital needs
- They are utilized by the public sector only
Correct answer: They are utilized by the public sector only
In capital markets, both public and private sectors sell securities (stocks and bonds) to raise funds to finance both long-and short-term initiatives. Both individuals and institutions can trade securities in these markets.
- A person who looks to provide advice to a city government concerning the issuance of municipal debt securities would best be described as
- A market maker
- An investment adviser
- A municipal securities representative
- A municipal advisor
Correct answer: A municipal advisor
A municipal advisor is a person that provides advice to or on behalf of a municipal entity with respect to municipal products or the issuance of municipal securities.
- Certain investors are deemed accredited when they have a net worth of
- $1 million, not including net equity in the primary residence.
- $200,000.
- $1 million.
- $500,000, not including net equity in the primary residence.
Correct answer: $1 million, not including net equity in the primary residence.
An accredited investor is defined as a natural person who has a net worth of $1 million or more, not including net equity in a primary residence; or has had an annual income of $200,000 or more in each of the two most recent years (or $300,000 jointly with a spouse) and who has a reasonable expectation of reaching the same income level during the current year.
- A corporate issuer of common stock has decided that it wants an agreement that its underwriter must either raise all of the capital needed or cancel the underwriting. To best accommodate this the underwriting should be
- A firm commitment
- A mini-max
- An immediate of cancel
- An all or none (AON)
Correct answer: An all or none (AON)
In an AON underwriting, the issuing company has determined that it wants the underwriter to sell all of the shares required to raise all of the capital needed or cancel the underwriting. Because of the uncertainty over the outcome of an AON offering, any funds collected from investors during the offering period must be held in escrow pending final disposition of the underwriting.
- A company that offers sales of another company's securities would best be described as
- A transfer agent
- An underwriter
- A market maker
- An issuer
Correct answer: An underwriter
A broker-dealer (investment banker) that works with an issuer to bring the issuer's securities to the market by offering the securities for sale to investors is best described in this context as an underwriter.
- Which of the following would take place in the primary market?
- Securities bought and sold on the NYSE
- Securities sold on both the OTC and NYSE
- Securities sold to the public by the issuer
- Securities bought and sold on the OTC
Correct answer: Securities sold to the public by the issuer
When an issuer is selling its securities, that is a primary market transaction.
- A municipal advisor does which of the following activities?
- Advises municipalities on selling securities
- Advises institutions on selling municipal bonds
- Advises municipalities on buying securities
- Advises institutions on buying municipal bonds
Correct answer: Advises municipalities on selling securities
A municipal advisor acts under contract with a municipality, providing advice on the structure and sale of the municipality's securities. A municipal advisor may not switch from that role to the role of an underwriter on an issue the advisor has consulted on.
- The access equals delivery rule applies to
- The final prospectus and aftermarket delivery obligations
- The final prospectus delivery requirements during the cooling-off period
- All prospectuses delivered before the registration date
- The preliminary prospectus delivery requirements during the cooling-off period
Correct answer: The final prospectus and aftermarket delivery obligations
The access equals delivery rule applies to the final prospectus and aftermarket prospectus delivery obligations. It does not apply to preliminary prospectuses. No prospectus can be delivered before the registration date.
- Primary market transactions would include which of the following?
- Sale of $10 million of corporate stock by a broker-dealer acting as a market maker
- Sale of $10 million of corporate bond by a broker-dealer acting as an underwriter
- Sale of $10 million of U.S. Treasury bonds by a broker-dealer acting as a market maker
- Sale of $10 million of municipal bonds by a broker-dealer acting as a market maker
Correct answer: Sale of $10 million of corporate bond by a broker-dealer acting as an underwriter
Market makers are broker-dealers who sell out of their own account in the secondary market. Underwriters are broker-dealers who help issuers bring their securities to market in the primary market.
- Which of the following calls for the underwriters to buy securities from the issuer acting as an agent, not as principal?
- Initial public offering
- Firm commitment underwriting
- Follow-on offering
- Best efforts underwriting
Correct answer: Best efforts underwriting
In a best efforts underwriting the underwriters (syndicate) buy securities from the issuer acting simply as an agent, not as principal. This means that the underwriter is not committed to purchasing the shares and is therefore not at risk. The underwriter acts as an agent contingent on its ability to sell shares in either a public offering or a private placement.
- Sales for new issues of securities may be solicited
- After the cooling-off period
- Before, during, or after the cooling-off period, if done with a final prospectus
- Before the cooling-off period
- During the cooling-off period
Correct answer: After the cooling-off period
Sales can only be solicited after the cooling-off period (upon the effective date). Solicitations of all sales must be done with a final prospectus.
- When the Securities and Exchange Commission (SEC) clears securities for sale to the investing public, this is
- The time upon which the SEC approves the securities
- The due date
- The effective date
- The exudate
Correct answer: The effective date
The effective date is when the SEC clears an issue to be sold to the public; the registration becomes effective. At no time does the SEC approve, disapprove, or make any representation that the information in the registration documents is accurate.
- The federal law requiring companies offering public equity or debt securities to provide a prospectus to investors is known as
- The Securities Exchange Act of 1934
- The Securities Investors Protection Act of 1970
- The Securities Act of 1933
- The Trust Indenture Act of 1939
Correct answer: The Securities Act of 1933
The Securities Act of 1933 is also known as the Prospectus Act. With limited exceptions, companies looking to offer securities to the public must provide a prospectus to those who are approached about purchasing those securities. A prospectus is a disclosure document that provides key information about the company.
- Which of the following best describes a final prospectus?
- Meets the full and fair disclosure requirements of the Securities Act of 1933
- Filed with the Securities and Exchange Commission (SEC) but is never made available to the general public
- Must be refiled with the SEC on an annual basis
- Used to solicit indications of interest in a new issue during the cooling-off period
Correct answer: Meets the full and fair disclosure requirements of the Securities Act of 1933
A prospectus is a disclosure document meant for distribution to the public. It must constitute full and fair disclosure of all material facts about the issuer and the security. Only a preliminary prospectus or tombstone ads can be used during the cooling-off period.
- A preliminary prospectus (red herring)
- Will show the final offering price
- May be used to gather indications of interest
- May not be distributed during the cooling-off period
- If requested by an investor serves as a binding order to purchase shares
Correct answer: May be used to gather indications of interest
The preliminary prospectus (red herring) can be used as a prospecting tool, allowing issuers and underwriters to gather nonbinding indications of interest. It must be made available and is intended to be distributed to any customer who expresses interest in the securities during the cooling-off period. There is no final price shown in a preliminary prospectus.
- Securities regulations that are called blue-sky laws refer to those at
- Both the state and the federal level
- The state level
- Neither the state nor the federal level
- The federal level
Correct answer: The state level
These are state laws that pertain to the issuance and trading of securities within that state. They are known as blue-sky laws because of a statement made by a Kansas Supreme Court justice who referred to "speculative schemes that have no more basis than so many feet of blue sky."
- A tombstone advertisement placed before the effective date can
- Only be placed by those assisting the issuing company in the underwriting
- Be placed by the issuer directly or by the underwriters
- Always be deemed to be an offer to sell the securities
- Only be placed by the issuing company
Correct answer: Be placed by the issuer directly or by the underwriters
Tombstone advertisements can be placed by either the issuer or the underwriters and are the only ads that can be placed before the registration's effective date. They are not an offer or solicitation to sell the securities.
- Underwriters who are assisting an issuer in bringing securities to the investing public can do which of the following between the time the registration was filed with the Securities and Exchange Commission (SEC) and the effective date?
- Mail sales literature to those who have expressed an interest in purchasing the securities.
- Distribute a preliminary prospectus to the investing public.
- Solicit orders from investors to purchase the securities.
- Make a binding offer to sell the securities.
Correct answer: Distribute a preliminary prospectus to the investing public.
The time between the registration filing date with the SEC and the effective date is known as the cooling-off period. During this time, a preliminary prospectus may be distributed to gauge investor interest but no offers to sell the securities can be made and no orders to purchase the securities can be taken. While a preliminary prospectus and tombstone ad can be used, sales and advertising literature specific to the securities cannot be.
- Your client, Mary Quinn, wants to place an order to sell a stock in her portfolio when the current price is 45, but she is only willing to sell if she can sell for at least 47. Which order should she place?
- A sell stop limit order
- A sell stop order
- A market order
- A sell limit order
Correct answer: A sell limit order
Sell limit orders are placed above the current market price and fill at the stated price or higher. Market orders fill at the next available price. Sell stop and sell stop limit orders are not triggered until the market drops to or through the stop price.
- A market order to buy must be executed when and at what available price?
- Immediately, at the highest
- Within 24 hours, at the highest
- Immediately, at the lowest
- Within 24 hours, at the lowest
Correct answer: Immediately, at the lowest
Market orders carry the idea of immediate execution at the best available price. A market order to buy would require execution at the lowest available price.
- Which of the following best describes how a sell stop at 39 order would be filled?
- The next price above 39 after the market rises to 39
- The next available price after the market price rises to 39
- The next price below 39 after the market falls to 39
- The next available price after the market price falls to 39
Correct answer: The next available price after the market price falls to 39
Sell stop orders are placed below the current market price and become market orders once the price touches or passes through the stop price.
- Your client, Jane Anderson, has owned QRS for a few years but has now turned bearish on QRS. What transaction would you recommend?
- Buy QRS to open
- Buy QRS to close
- Sell QRS to open
- Sell QRS to close
Correct answer: Sell QRS to close
Because Anderson already owns the stock, this would be a closing transaction, and because she is bearish it would be a sell.
- Which of the following best describes how a market order to buy would fill if placed when the market price of the stock was at 40?
- The next available price
- The next available price above 40
- The next available price below 40
Correct answer: The next available price
Market order always gets the next available price, regardless of if it is a buy or sell and regardless of price.
- Which of the following best describes how a buy stop at 39 would fill?
- The next available price after the market price rises to 39
- The next price above 39 after the market price rises to 39
- The next price below 39 after the market price falls to 39
- The next available price after the market price falls to 39
Correct answer: The next available price after the market price rises to 39
A buy stop order becomes a market order and fills at the next available price once it touches or passes through the stop price.
- A customer enters the following order: Sell 1,000 shares of XYZ at 23. Which of the following executions would the customer accept?
Correct answer: 23.50
When selling at a limit price (23), the customer will accept that price or better (higher for sell orders). Given the customer is willing to accept 23, any price of 23 or higher (in this case 23.50) is an acceptable execution.
- Your client, Alice Tate, with no other positions in her margin account, is bearish on ABC stock. Which of the following transactions would you recommend?
- Sell ABC to open
- Sell ABC to close
- Buy ABC to open
- Buy ABC to close
Correct answer: Sell ABC to open
Because there are no other positions, this would be an opening transaction and selling the stock would be bearish.
- "An order is entered by a customer to sell at 30 stop limit. Once the order is entered, the stock trades in the following sequence: 32, 29, 31, and 33. The order would be executed and the investor would receive a price of"
Correct answer: 31.
This is a sell stop order with a limit of 30. Once the stock trades at 30 or lower, the order is elected (triggered) and becomes a live working order. This occurs at 29. The order will then be executed at its limit (30) or better. This occurs at 31.
- A customer enters a market order. This type of order can be
- A buy or sell order to be executed at a specified limit
- A sell order only to be executed at a specified price
- A buy or sell order to be executed at the next available price
- A buy order only to be executed at the next available price
Correct answer: A buy or sell order to be executed at the next available price
Market orders can be either directions to buy or sell and are executed at the next available price. Market orders have no limits regarding price paid (buy) or received (sell).
- A GTC order is left unexecuted at the end of the trading day on the last business day of April. Which of the following is true?
- The order will be automatically canceled.
- The order will only continue working through the opening of the next business day.
- The customer must give specific instructions to cancel the order so that it will not continue as a good working order.
- The order will be automatically renewed.
Correct answer: The order will be automatically canceled.
All GTC orders if unexecuted will be automatically canceled on the last business day of April and the last business day of October. If the customer wishes to have the order continue working beyond that date, it must be reentered after the automatic cancelation.
- How long can a good 'til canceled order remain in force without being reconfirmed by the customer?
- 36 months
- 6 months
- 24 months
- 12 months
Correct answer: 6 months
Good 'til canceled orders historically have been canceled at the end of April and October. Some firms will cancel them more frequently, but for the order to stay in effect longer than six months, the customer would need to reinstate or reconfirm the order.
- Your client, Randall Stephens, has been bearish on LMN stock and sold it short several months ago. He now believes the company is in a good position for a turnaround and wants to change his strategy on LMN. What should he do to implement his new strategy?
- Buy to close his existing position and open a new long position in the stock
- Sell short QRS to close his existing position
- Sell an equal number of shares to his existing position
- Buy an equal number of shares to his existing short position
Correct answer: Buy to close his existing position and open a new long position in the stock
Buying to close will eliminate his existing position, but if he now wants to engage in a bullish strategy on LMN, he would need to buy additional shares.
- Which of the following best describes how a market order to sell would fill if placed when the price of the stock is a 40?
- The next available price
- The next available price below 40
- The next available price above 40
- Only at 40
Correct answer: The next available price
Market order always get the next available price, regardless of if it is a buy or sell and regardless of price.
- Who must reconfirm a good 'til canceled order for it to stay in force more than six months?
- No one; they will remain in force until the customer cancels it
- The specialist on the NYSE
- The customer who placed the order
- The broker-deaker who accepted the order
Correct answer: No one; they will remain in force until the customer cancels it
Good 'til canceled orders historically have been canceled at the end of April and October. Some firms will cancel them more frequently, but for the order to stay in effect longer than six months, the customer would need to reinstate the order.
- Unless otherwise specified, the size of a firm quote is
- 500 shares.
- 100 shares.
- 10,000 shares.
- 1,000 shares.
Correct answer: 100 shares.
This is according to a FINRA rule.
- Which of the following best describes the size of a quote?
- It tells the number of shares that were traded in the OTC market the prior day.
- It tells the number of shares that were traded on the NYSE that day.
- It tells the number of shares the broker-dealer is willing to buy or sell at that price.
- It tells the number of shares the broker-dealer has in inventory.
Correct answer: It tells the number of shares the broker-dealer is willing to buy or sell at that price.
The size of a quote is the number of shares a dealer has available to trade or is willing to buy at the quoted price.
- If left unexecuted, a good til cancel (GTC) order will automatically be canceled when?
- On the first business day of April and the first business day of October
- On the cancel date specified by the customer at the time the order is entered
- On the last business day of April and the last business day of October
- On the last business day of June and the last business day of December
Correct answer: On the last business day of April and the last business day of October
GTC orders are valid until executed or canceled. Any GTC orders left unexecuted are automatically canceled on the last business day of April and the last business day of October. If the customer wishes to have the order remain working beyond those specific days, the customer must reenter the order.
- A customer is given a quote for ABC as: 17.00 – 17.25 6×12. This quote indicates the customer can
- Purchase 1,800 shares at $17.25 per year
- Sell 600 shares for $17 per share
- Sell 1,200 shares at $17.25 per share
- Purchase 1,200 shares for $17 per share
Correct answer: Sell 600 shares for $17 per share
Customers can purchase at the offer (the lowest price someone else is willing to sell) and sell at the bid (the most someone else is willing to sell). With this in mind, the customer can buy up to 1,200 shares at $17.25 or sell up to 600 shares at $17.
- The ask price represents
- The price the broker-dealer is willing to sell for
- One of the prices set by FINRA
- One of the prices set by the SEC
- The price the broker-dealer is willing to buy for
Correct answer: The price the broker-dealer is willing to sell for
FINRA and the SEC do not set prices; broker-dealers post their own prices. The broker-dealer buys at the bid and sells at the ask. The customer buys at the ask and sells at the bid.
- Which of the following regarding income is true?
- Salary, bonuses, interest, and dividends are all investment income.
- Salary or bonuses are portfolio income; interest and dividends are investment income.
- Salary, bonuses, interest, and dividends are all portfolio income.
- Salary or bonuses are earned income; interest and dividends are investment income.
Correct answer: Salary or bonuses are earned income; interest and dividends are investment income.
SIE Domain 3 (Quiz 1): Understanding Trading, Customer Accounts, and Prohibited Activities
- Earned income includes which of the following?
- Child support paid to a divorced spouse
- Interest income earned on a bond
- Dividends earned on a mutual fund
- A year-end bonus
Correct answer: A year-end bonus
Earned income includes wages, salary, tips, bonuses, and income from active participation in a trade or business.
- For tax purposes, investment income is
- Always taxed at the capital gains tax rate
- Normally taxed as ordinary income
- Always taxed at the highest ordinary income tax rate
- Never taxable at ordinary income tax rates
Correct answer: Normally taxed as ordinary income
Investment income is that which is earned from one's investments. Sometimes called portfolio income, it would include dividends, interest, and short term capital gains derived from the sale of securities. Investment income is included in ordinary income for income tax purposes. Long-term capital gains are taxed at the capital gains tax rate.
- An investor has some stock held in street name and has just received proxy statements forwarded by the broker-dealer for an upcoming shareholders' meeting. If the investor wishes the shares to be voted as recommended by the issuer's management, which of the following must the investor do?
- Nothing in this case
- Inform the broker-dealer by letter or phone call how the shares are to be voted
- Sign and return the proxy statements by the tenth day before the meeting
- Sign and return the proxy statements by the fifth day before the meeting
Correct answer: Sign and return the proxy statements by the tenth day before the meeting
Signing and returning proxy statements to a broker-dealer for stock held in street name is enough to get the shares voted as recommended by the issuer's management, as long as the broker-dealer receives the statements by the tenth day before a shareholders' meeting. If the shares are to be voted in some other way, the investor must specify the desired changes.
- An investor owning 400 shares of stock receives notice that the stock will be split. When the split is complete, the customer owns 1,200 shares of stock. The split must have been
- A forward, even split
- A reverse, even split
- A reverse, uneven split
- A forward, uneven split
Correct answer: A forward, even split
Because the customer ended up owning more shares, the split must have been a forward split. Because the number of shares was increased by an integral factor (three in this case) the split was an even split. Three shares were received for every one previously owned.
- Caleb McCann got a tip from his brother Nate on XYZ stock two months ago. Caleb hasn't previously been investing in the stock market but has been watching this stock since he got the tip from his brother. Caleb is now very bullish on XYZ and wants to place a trade. Which of the following would you recommend?
- Sell XYZ to close a long position
- Buy XYZ to close out a short position
- Sell XYZ to open a short position
- Buy XYZ to open a long position
Correct answer: Buy XYZ to open a long position
Because McCann has no existing position, this would be an opening transaction, and if bullish on the stock it, would be a purchase.
- Which of the following would be required for a good 'til canceled order to remain in force for more than six months?
- Nothing; it stays on the books until the customer cancels it
- The customer would need to reconfirm the order
- The broker-dealer would need to reconfirm the order for it to remain in force
- The specialist on the NYSE would need to reconfirm the order
Correct answer: The customer would need to reconfirm the order
Good 'til canceled orders historically have been canceled the end of April and October. Some firms will cancel them more frequently, but for the order to stay in effect longer than six months, the customer would need to reinstate the order.
- John Christensen places a buy limit order at 42 when the market price of the stock is at 45. Which of the following best describes how the order would fill?
- The order can only be filled at a price of 42 or lower
- The order would be filled between when the stock price is between 42 and 45
- The order would be filled immediately because the market price is already above 42
- The order would be filled at the next available price after the stock price drops to 42
Correct answer: The order can only be filled at a price of 42 or lower
Buy limit orders are placed below the current market price and fill at the stated price or lower.
- If a shareholder does not wish to attend an annual stockholders' meeting, but still wishes to vote, the shareholder may confer a limited power of attorney on another party to vote the shares. This power is known as
- A stand-in
- A proxy
- A voting power
- A substitute
Correct answer: A proxy
Most voting shareholders choose not to undertake the travel, expense, inconvenience, and time away required to attend a shareholders' meeting. Having someone else vote the shares is called voting by proxy and is a way to stay at home but still have a voice in crucial corporate decisions.
- Which of the following would lead to a standardized cost-base adjustment for stockholders?
- Spin-off
- Dividend
- Takeover
- Merger
Correct answer: Dividend
Scheduled, common events such as dividend declarations, issuance of rights and warrants, and forward and reverse stock splits are accompanied by standardized adjustment of the stock's cost base. Unique events such as corporate mergers, takeovers and spin-offs are dealt with in a nonstandardized case-by-case manner that depends on the individual circumstances. Ideally, the outcome is what is best for the stockholder and the company.
- Shares must be borrowed in order to
- Buy to open a position
- Sell short to open a position
- Buy to close a position
- Sell short to close a position
Correct answer: Sell short to open a position
When selling short, an investor is opening a position (a short position). Selling short means selling shares not yet owned. In order to do so, the shares must be borrowed first.
- Selling shares not yet borrowed or located to be borrowed is
- Known as closing a short sale with a purchase
- Known as a short sale and is prohibited
- Known as a naked short sale and is prohibited
- Known as closing a position with a sale and is prohibited
Correct answer: Known as a naked short sale and is prohibited
In order to open a position with a short sale, the shares to be sold must be borrowed or located to be borrowed first. Not doing so is known as selling short naked (naked short sale) and is prohibited.
- Which of the following is true regarding short sales?
- Selling short involves purchasing the shares first.
- Selling short involves selling shares not yet owned.
- Selling shares not yet owned is prohibited.
- Selling short means selling less shares than were purchased.
Correct answer: Selling short involves selling shares not yet owned.
Short sales involve selling shares not yet owned. This is permitted. When selling short, investors are borrowing the shares to be sold, which must be replaced later by buying them. Investors who sell short are bearish, hoping the shares go down in value so that they can be purchased later at a lower price than they were initially sold for.
- What is the spread on a stock quote?
- The range of prices the stock has shown over the course of one trading day
- The profit margin for an individual trade
- The broker-dealer's commission charges for the transaction
- The difference between the bid price and the ask price or offer
Correct answer: The difference between the bid price and the ask price or offer
A quote consists of a bid and an ask price. Dealers post their bid price—the price they are willing to pay for a stock—and their ask price—the price at which they are willing to sell the stock. The spread is the difference between the two.
- Ownership of a security indicates that one is
- Short the position and bearish
- Short the position and bullish
- Long the position and bullish
- Long the position and bearish
Correct answer: Long the position and bullish
Owning a security means that one is long the position. When one is long (owns) the security, the person is bullish, anticipating it will go up in value in the hopes of selling it later at a higher price than it was purchased for.
- An opening transaction can be
- A short sale only
- Either a buy or a sell
- A buy only
- A sell only
Correct answer: A buy only
An opening transaction can be either a buy or a sell. Which one will determine the investor's market attitude—bullish when buying to open a position and bearish when selling to open a position (selling short).
- The spread a dealer makes is best described as
- The total commission
- The ask plus the bid
- None of these
- The ask minus the bid
Correct answer: The ask minus the bid
The spread is what a dealer makes as a markup when he sells from his inventory if he buys at the bid and sells at the ask. A commission is charged in an agency transaction.
- An investor with no existing positions in MMS stock sells 100 shares. This is
- A long bearish position
- A short bearish position
- A short bullish position
- A long bullish position
Correct answer: A short bearish position
With no other existing positions, this sale transaction would have to be opening a position. Sell to open a position = short = bearish.
- An investor who has a short position in 500 shares of JKH common stock would eliminate that position by
- Entering an opening purchase order for 500 shares of JKH
- Entering a closing purchase order for 500 shares of JKH
- Entering a closing purchase order for 500 shares of ABC
- Entering a closing sale order for 500 shares of JJK
Correct answer: Entering a closing purchase order for 500 shares of JKH
In order to eliminate a position, long or short, the investor always takes an action opposite that of the one that began (opened) the position. Therefore, we always close the position with a closing order. In the case of a short position, we began with a sale, so we close with a purchase of the same security that was initially sold short—in this case, 500 shares of JKH.
- All of the following are bullish positions except
- Long warrants
- Long stock
- Long calls
- Short stock
Correct answer: Short stock
Bullish, anticipating that the security's price will rise, is associated with owning the security—having a long position. Therefore, owning securities that can be converted into the stock, such as being long calls, rights, or warrants, would also be considered bullish positions.
- Meeting the location requirements and the borrowing of securities when a customer wants to sell short is done by
- The customer or entity that the shares will be borrowed from
- The broker-dealer on behalf of the short-selling customer
- The purchaser of the securities being sold short
- The customer who wants to sell short
Correct answer: The broker-dealer on behalf of the short-selling customer
Meeting the location requirements and the borrowing of securities is done by the back office of the broker-dealer on behalf of the short-selling customer. Meeting these requirements is not something the short-selling customer would undertake without a broker-dealer.
- Which of the following transactions has the most risk?
- Selling short
- Short against the box
- Buying to open
- Selling to close
Correct answer: Selling short
Short against the box is when a customer owns the shares she wants to sell, but borrows some additional shares, sells the borrowed shares, and then covers the short position with shares already owned. Historically it was a tax strategy, but it doesn't work as well anymore with the tax law change. There is no loss potential. Buying to open can cause a loss of the amount invested; selling short has unlimited loss potential.
- Subject to market liquidity, which of the following orders is most likely to be executed immediately?
- All-or-none (AON) order
- Fill-or-kill order
- Market order
- Limit order
Correct answer: Market order
When a liquid market exists, buy or sell market orders are executed at the best available price immediately.
- A closing transaction can be
- Either a buy or a sell
- A sell only
- A short sale
- A buy only
Correct answer: Either a buy or a sell
A closing transaction can be either a buy or a sell, depending on what the opening (initial) transaction was. The closing transaction will always be the opposite of the opening one—buy to open, sell to close or sell to open, buy to close.
- Shares to sell short have been located in order to be borrowed. Once sold short, these shares will be known as
- Covered
- Uncovered
- Naked
- Closed
Correct answer: Covered
Selling short requires borrowing or locating the shares to be borrowed first. These shares, because they have already been located to be borrowed, are known to be covered.
- Selling long is equivalent to which of the following?
- Selling to close
- Selling short
- Selling to open
- Selling to open then buying to close
Correct answer: Selling to close
When a customer owns a position and then sells that position, that is referred to as selling long or selling to close.
- A customer who is short against the box may close the position by all the following except
- Depositing the fair market value of the shorted stock into his account
- Combining purchases of stock with stock already owned by the customer
- Covering the short with the stock in his account
- Purchasing twice the stock in the open market
Correct answer: Depositing the fair market value of the shorted stock into his account
A customer who is short against the box owns the stock he shorted. As a result, the customer may use his owned stock to cover the short position, buy back the short position in the open market, or any combination of the two. The customer cannot simply deposit funds into his account.
- Potential risks of owning common stock include all of the following except
- Unlimited liability
- Business risk
- Market risk
- Low priority in liquidation
Correct answer: Unlimited liability
As a common stockholder, an investor cannot lose more than she invested.
- When investors open a position by going long the security, they can close the position by
- Opening a new position in the security
- Buying the security
- Selling the security short
- Selling the security
Correct answer: Selling the security
Going long a security means that it was purchased. If a position was opened by purchasing the security, it would be closed by selling it.
- An investor notices that a bond originally bought at 95 some years ago is now trading at a price of 88. The investor sells the bond, then buys it back the next day for 88.5 with the intention of declaring a loss from the original purchase and sale on this year's tax return. This would be known as
- Supporting, and taking the loss is allowed
- A wash sale, and taking the loss is prohibited
- Pegging and is taking the loss allowed
- Matched orders, and taking the loss is prohibited
Correct answer: A wash sale, and taking the loss is prohibited
Quickly repurchasing a security that was just sold for a loss is recognized as having the intention to take advantage of the loss for tax purposes but not lose the income or potential for future gains from the security. This is known as a wash sale and taking the loss is prohibited. For the loss to be allowed, the investor must wait at least 30 days before repurchase. Matched orders, pegging, and supporting are all prohibited activities meant to manipulate stock prices.
- A customer wishes to sell short 1,000 shares of ABC. Prior to executing the order, the registered representative must
- Receive permission from the customer to borrow shares
- Receive principal permission to execute the trade
- Locate shares that can be lent to effect the sale
- Have the customer pledge personal collateral to cover the sale
Correct answer: Locate shares that can be lent to effect the sale
Regulation SHO requires that prior to executing any short sale, the broker-dealer must locate the shares borrowed. Shorting stock uncovered is a violation of Regulation SHO and may result in disciplinary action against the member firm.
- Which of the following would not be considered ordinary income for tax purposes?
- Gains gotten from the sale of securities
- Salary and commissions
- Rents from income properties
- Dividends on common stock
Correct answer: Gains gotten from the sale of securities
Gains gotten from the sale of securities is an example of capital gains for tax purposes. All the others are considered ordinary income.
- A customer who is bullish on ABC would most likely
- Sell ABC long
- Buy ABC long
- Sell ABC short
- Buy ABC short
Correct answer: Buy ABC long
When a customer is bullish, the customer expects the price to go up. Because trades are profitable when purchases are made at low prices and sales are made when prices are high, a customer would want to buy ABC long. Buying stock short is not a real trading strategy.
- Which of the following transactions has the least risk?
- Selling to open
- Buying to open
- Short against the box
- Selling short
Correct answer: Short against the box
Short against the box is when a customer owns the shares she wants to sell but borrows some additional shares, sells the borrowed shares, and then covers the short position with shares already owned. Historically it was a tax strategy, but it doesn't work as well anymore with the tax law change. There is no loss potential. Buying to open can cause a loss of the amount invested; selling short and selling to open have unlimited loss potential.
- Short sellers have
- Unlimited profit and loss potential
- Unlimited profit potential and limited loss potential
- Limited profit and loss potential
- Limited profit potential and an unlimited loss potential
Correct answer: Limited profit potential and an unlimited loss potential
Short sellers are bearish—wanting to see the stock go down in value. Because stock could only go down as far as zero, the profit for a short seller is limited to the difference between the price the stock was shorted at and zero. By contrast, the risk for a short seller is that the stock goes up in value and there is no limit to how high the stock might rise, giving the short seller potentially unlimited losses.
- Which of the following orders can be used to close a short position in CDT stock that consists of 1,000 shares?
- Buy 1,000 shares of CDT
- Write 10 CDT call options
- Sell 1,000 shares of CDT
- Buy 10 CDT call options
Correct answer: Buy 1,000 shares of CDT
To close a short position consisting of 1,000 shares of CDT stock, one would need to purchase 1,000 shares—buy 1,000 shares of CDT. Buying the call options would not close the position, but once owned, they could be exercised with the purchased shares then used to close the short position.
- An investor is long MJS stock. For this investor, which of the following is true?
- The risk is that the stock falls in price.
- The risk is that the stock goes up in price.
- Maximum loss can be unlimited.
- The risk is that the stock remains stable in price.
Correct answer: The risk is that the stock falls in price.
For an investor with a long stock position, the risk is that the stock falls in value. Maximum loss occurs at zero and is therefore limited to the amount paid for the stock when purchased.
- Blaine Smith has owned XYZ stock for several years and believes it is time to take his profit and invest that money in another stock. He should
- Buy XYZ to close
- Buy XYZ to open
- Sell XYZ to open
- Sell XYZ to close
Correct answer: Sell XYZ to close
When a client owns a stock and wants to get out of that position, he should sell the stock in a closing transaction.
- Your customer opens a position at 45 and then closes it later at 47. This represents
- A 47-point gain
- A 2-point gain
- A 2-point gain or loss
- A 2-point loss
Correct answer: A 2-point gain or loss
Because we do not know if the opening transaction was a buy or a sell from what we are told, this could be either a 2-point gain or loss. If the opening transaction was a buy, this represents a gain (bought at 45, sold at 47). But if the opening transaction was a sell, this represents a 2-point loss (sold at 45, bought back at 47).
- A registered representative suggests a trade to a customer which the customer agrees is suitable given their investment objectives. The order is entered. This transaction is
- Neither solicited or unsolicited and the order ticket should be marked as neither
- Solicited and the order ticket must be marked solicited
- Unsolicited and the order ticket should be marked unsolicited
- Solicited but the order ticket need not be marked in any special way
Correct answer: Solicited and the order ticket must be marked solicited
A transaction initiated by an agent or registered representative is known as a solicited transaction. Unsolicited transactions are those initiated by the customer. Order tickets should always be marked solicited or unsolicited.
- The locate requirement is an element of which of the following transactions?
- Buy to open a position.
- Buy to close
- Sell to close
- Sell to open
Correct answer: Sell to open
When selling short (selling to open), shares must be borrowed from the dealer. The dealer finding those shares that can be loaned to the seller is part of the locate requirement.
- A person who is vested with legal rights and powers to be exercised for the benefit of another is known as
- A dealer
- A broker
- A sponsor
- A fiduciary
Correct answer: A fiduciary
A fiduciary is expected to place the interest of the beneficial owner first and is morally and legally responsible for acting in that capacity.
- A client calls a registered representative and states that she lives in New York City and is looking for a bond that would be triple tax free in New York. The registered representative tells the client that his firm has some bonds in inventory that are from the Albany New York School District that would be triple tax free for the client. Which of the following would be the registered representative's best course of action?
- Determine suitability prior to placing the trade and mark the trade solicited.
- No suitability determination is required because these bonds will be tax free for the client and mark the trade unsolicited.
- No suitability determination is required because the bonds will be tax free for the client and mark the trade solicited.
- Determine suitability prior to the trade and mark the trade unsolicited.
Correct answer: Determine suitability prior to placing the trade and mark the trade solicited.
For a trade to be unsolicited, the client would need to specifically identify the bonds he wanted to purchase; instead the registered representative is the one who recommended these bonds, making the trade solicited. Suitability must be determined on solicited trades.
- A registered representative is explaining discretionary and nondiscretionary accounts to a customer. Only one of the following statements is accurate and can be made by the registered representative. Which is it?
- In a nondiscretionary account no order can be entered without your prior approval.
- In a discretionary account you will have the opportunity to approve any order I want to enter before I enter it.
- If I decide that the account should be a discretionary one you will no longer be able to enter orders yourself.
- I decide if the account should be set up as discretionary or nondiscretionary, but must do so in your best interest.
Correct answer: In a nondiscretionary account no order can be entered without your prior approval.
In a nondiscretionary account no order can be entered without the customer's prior approval. In a discretionary account the customer's prior approval is not required. Only the customer can decide if the account should be a discretionary one and grants that discretion with a limited power of attorney giving trading authorization to the registered representative. Even in a discretionary account the customer may still enter their own orders.
- Discretion given to a registered representative to make transactions applies to all of the following except
- The security for the transaction
- Timing and price only
- The number of shares or units for the transaction
- Whether to buy or sell
Correct answer: Timing and price only
Discretion is defined as the authority to decide, what security, the number of shares or units, and whether to buy or sell. Discretion does not apply to decisions regarding only the timing of an investment or the price at which it is bought or sold.
- With a discretionary account
- The customer may refuse any trades done by the party given the discretion
- The customer may still enter orders
- Churning is permitted by the party given the discretion
- A full power of attorney is needed on file to grant discretion
Correct answer: The customer may still enter orders
With a discretionary account the customer can continue to enter orders themselves. A trading authorization or limited power of attorney, not full power of attorney is required. The customer is bound to accept all trades done by the party given the discretion and churning, trades done only for the purpose of generating commissions, is never permitted.
- Which of the following are required in discretionary accounts?
- FINRA approval to open the account
- Prompt approval by a principal following each discretionary trade
- SEC approval to open the account
- Prior approval by a principal before each discretionary trade is placed
Correct answer: Prompt approval by a principal following each discretionary trade
The SEC and FINRA do not approve accounts. Approval of the trade is required promptly afterwards by a principal, not before.
- A customer called his registered representative to place a trade to buy 100 shares of ABC. The customer wants to put a limit on the order, but is unsure what would be an appropriate price. At the suggestion of the registered representative, the customer enters the order with a limit of $30. This trade was
- Unsolicited
- Solicited
- Not held
- Discretionary
Correct answer: Unsolicited
The customer, independent of the registered representative, placed the order, making it unsolicited. While the rep did advise on what an appropriate limit price would be, the customer ultimately placed the order instructions with the limit, and would not be considered discretionary.
- A registered representative enters a discretionary order for her clients account. All of the following are required except
- The order must be approved by a principal prior to entry
- A record of the order must be maintained
- The order should be included in those required to be reviewed frequently
- The order must be identified as or marked discretionary
Correct answer: The order must be approved by a principal prior to entry
Each discretionary order must be identified as such at the time it is entered for execution, a principal, officer or a partner of the BROKER-DEALER must approve each order promptly and in writing, but not necessarily before order entry, a record must be kept of all transactions including discretionary ones, and as with all trading activity, it is subject to frequent and systematic review by a designated supervisor or manager.
- All of the following are required for a discretionary account except
- The customer must authorize discretion
- All trades must be promptly approved by a principal at the firm
- The account must receive FINRA approval prior to the first trade
- A principal at the firm must authorize discretion
Correct answer: The account must receive FINRA approval prior to the first trade
FINRA approval is not required for opening accounts.
- James Thomas calls and is interested in buying some GNMA certificates and wants to know when payment will be due. You should tell him
- Trade date plus 1 business day
- Trade date plus 2 business days
- Trade date
- Trade date plus 3 business days
Correct answer: Trade date plus 1 business day
Since May 28, 2024, regular-way settlement for most securities — including agency mortgage-backed securities like GNMA certificates — is T+1 (one business day after trade date).
- Nate McCann is closing on a house tomorrow and wants to sell some securities to meet closing costs. He wants to know how soon he could get the money and what he needs to do. You should tell
- If he does the trade today he won't be able to get the money for 1 business day because regular way settlement is T+1
- If he does the trade today for cash settlement he could settle today
- If he does the trade today he won't be able to get the money for 3 business days because regular way settlement is T + 3
- If he does the trade today for cash settlement he would settle tomorrow
Correct answer: If he does the trade today for cash settlement he could settle today
Cash settlement is same day settlement.
- Your client, Jacob Riley, wants to purchase Treasury bonds and asks when he would need to pay for the bonds. You would tell him that regular way settlement for U.S. government bonds is
- Trade date
- Trade date plus 1 business day
- Trade date plus 3 business days
- Trade date plus 2 business days
Correct answer: Trade date plus 1 business day
U.S. government (Treasury) securities settle T+1 (next business day). Since May 28, 2024, the standard regular-way cycle for stocks and most bonds is also T+1.
- A term indicating that a security is tradable and all of the requirements of the contract to sell the security have been met and the security is ready to be transferred is
- Buyer's options
- Good delivery
- Regular way settlement
- Seller's option
Correct answer: Good delivery
To make settlement, good delivery must be made. Good delivery means that all the conditions of the contract have been met.
- Which of the following settlement arrangements has trade and settlement occurring on the same day?
- Buyer's option
- Seller's option
- Cash settlement
- Regular way settlement
Correct answer: Cash settlement
If both parties to the trade agree, and if the buyer has the cash on hand and the seller has the securities on hand, trade and settlement can take place on the same day. This is known as cash settlement.
- Some issuers issue securities in electronic form, while some securities have been issued in physical form. Which of the following statements are true in relation to electronic or physical form?
- All U.S. government securities are issued with physical paper certificates
- Corporate stocks can only exist in electronic form
- Corporate bonds have always been issued in electronic form
- All U.S. government securities are issued in book entry form
Correct answer: All U.S. government securities are issued in book entry form
Since the mid-1980s, all government securities have been in electronic form. All of the paper certificates have matured. Historically, corporate securities were issued in paper form and some still exist, but most of the bonds have matured that were issued in physical form. Some investors still hold paper stock certificates. Virtually all new securities are now issued in electronic form (book entry).
- When securities are bought and sold, ownership changes hands between the buyer and the seller
- Upon delivery of the trade confirmation
- On the transaction date
- On the settlement date of the transaction
- At an agreed time between both parties
Correct answer: On the settlement date of the transaction
When securities transactions occur, ownership changes hands between the two parties on the settlement date.
- Regular way settlement for common stock is
- Trade date plus 3 business days
- Trade date
- Trade date plus 1 business day
- Trade date plus 2 business days
Correct answer: Trade date plus 1 business day
Since May 28, 2024, regular-way settlement for common stock is T+1 (one business day after the trade date).
- An investor has a long position in OMQ stock. After selling the stock at a loss, the investor could purchase which of the following and not violate the wash sale rule?
- OMQ warrants
- OMQ call options
- OMQ put options
- OMQ convertible bonds
Correct answer: OMQ put options
In order to avoid violating the wash sale rule, investors selling a stock at a loss cannot purchase that same, or substantially identical, security within a 30-day period before or after the sale incurring the loss. Substantially identical would include anything that is exercisable or convertible into the same shares of stock, such as rights, warrants, call options, or a convertible bond. Purchasing the put options would not violate the wash sale rule because these can be exercised to sell the stock, not purchase it.
- The MSCI-EAFE Index tracks which of the following?
- Mid-cap stocks
- Foreign equities
- Municipal bonds
- Corporate bonds
Correct answer: Foreign equities
Maintained by MSCI Inc., the Europe, Australasia, and Far East (EAFE) Index is designed to track equity markets of developed economies, excluding the United States and Canada.
- Fingerprint records are required for each of the following employees of a registered broker-dealer except
- A receptionist greeting customers and directing them to the appropriate registered representative within the office
- Those whose duties are limited to supervising clerks who handle the books and records of the firm
- A clerk who handles customer physical securities
- A registered representative who sells or offers to sell municipal or government bonds
Correct answer: A receptionist greeting customers and directing them to the appropriate registered representative within the office
Certain broker-dealer employees (typically clerical) are exempt from the fingerprinting requirement, if they are not involved in securities sales, do not handle or have access to cash or securities or to the books and records of original entry relating to money and securities, or do not supervise other employees engaged in these activities.
- The U-4 form requires registered representatives to disclose all of the following except
- 10-year residency history.
- Any aliases
- Information on any criminal charges, even if found innocent
- 10-year employment history.
Correct answer: 10-year residency history.
The U- 4 form only requires a five-year residency history.
- An application for Financial Industry Regulatory Authority (FINRA) membership carries the applying firm's specific agreement to do which of the following?
- Pay a fixed yearly sum to the Securities and Exchange Commission (SEC)
- Comply with the association's rules and regulations
- Attend FINRA's annual regulatory conference
- Provide FINRA with periodic financial reports
Correct answer: Comply with the association's rules and regulations
Application for FINRA membership carries the applying firm's specific agreement to comply with the association's rules and regulations, comply with federal securities law, and pay dues and assessments to FINRA.
- When a new associated person is hired at a broker-dealer firm, which of the following is responsible for seeing that Form U-4 is completed and filed?
- The employing broker-dealer firm
- The new employee
- The local Financial Industry Regulatory Authority (FINRA) district office
- The Securities and Exchange Commission (SEC).
Correct answer: The employing broker-dealer firm
Though the new employee furnishes most of the information contained in Form U-4, it is the responsibility of the employing firm to arrange for the information to be placed on the form and filed.
- An individual would most likely be statutorily disqualified from working in the securities industry for which of the following reasons?
- Willful failure to disclose personal bankruptcy or unsatisfied liens
- Charged with driving under the influence of alcohol resulting in personal injury—a felony
- Conviction for misdemeanor assault
- Willful failure to disclose motor vehicle fines in excess of $1,000
Correct answer: Willful failure to disclose personal bankruptcy or unsatisfied liens
A willful misstatement or omission made on an application for membership or registration as an associated person is deemed a serious infraction of securities law that would likely lead to a statutory disqualification from the securities industry. The Form U-4 does not ask about motor vehicle fines per se. Felonies convictions have to be disclosed, as do misdemeanor convictions involving money or securities.
- Before submitting an application to enroll, part of the process for an associated person to engage in the investment banking or securities business, is to have the member firm that sponsors them ascertain the individuals
- Past 5 years of business/employment history
- Past 10 years of residential history
- Business reputation, character, education, and experience
- Highest level of education
Correct answer: Business reputation, character, education, and experience
Before submitting an application to enroll any person with Financial Industry Regulatory Authority (FINRA) as a registered representative, a member firm must ascertain the person's business reputation, character, education, qualifications, and experience. As part of the application process, the member firm must certify that it has made an investigation and that the candidate's credentials are in order.
- Which of the following is true regarding a registered person who wishes to move her registration from one broker-dealer to another?
- A person who has been registered more than 25 years is grandfathered in and no filings need to be made.
- If the registered person has taken and passed the Series 24 General Securities Principal Exam, no filings need be made.
- Only Form U-5 need be filed, separating the registered person from the existing employer.
- In no circumstances can a registration be transferred from one firm to another.
Correct answer: In no circumstances can a registration be transferred from one firm to another.
Transferring a registration from one member firm to another is not permitted. Should a person resign or be terminated, the member firm must file a Form U-5 with the Central Registration Depository (CRD) within 30 days of the termination date. A Form U-4 must then be filed by the new employer with all of the form's information requirements met.
- All of the following are required when completing Form U-4 except
- Employment history for the past 10 years
- Date of birth
- Legal name and any aliases used
- Educational degrees
Correct answer: Educational degrees
Among the extensive information required on Form U-4, residence history for the past five years, employment history for the past 10 years, legal name and any aliases and date of birth would all be listed. Educational degrees and marital status are not required, but full-time education is included in the 10-year employment history.
- Upon application for registration as a registered representative to ensure that any criminal past might be discovered by the employing firm, the Securities and Exchange Commission (SEC) requires
- The filing of a fingerprint card with the Securities and Exchange Commission
- Obtaining a credit report from an established credit reporting agencies
- A personal interview at the nearest Financial Industry Regulatory Authority (FINRA) district office
- The filing of a fingerprint card with the U.S. Attorney General.
Correct answer: The filing of a fingerprint card with the U.S. Attorney General.
A fingerprint card is required to be filed with the U.S. Attorney General to ensure that any criminal past that might result in statutory disqualification from association with a member firm is discovered.
- Automatic disqualification for registration from Financial Industry Regulatory Authority (FINRA) may occur if
- Misstatements are willfully made in an application for membership
- An associated person has been charged with a felony in the past 10 years
- An associated person has been charged with a felony in the past 5 years
- A DUI traffic violation is made by an associated person
Correct answer: Misstatements are willfully made in an application for membership
Misstatements willfully made in an application for membership or registration as an associated person will automatically disqualify an applicant from membership. A felony conviction (not charge), either domestic or foreign, or a misdemeanor conviction involving securities or money within the past 10 years will also automatically disqualify an applicant from membership. Note that FINRA will examine the circumstances around a disqualifying event before a final decision is made, but they take willful misstatements on the U-4 very seriously.
- All associated persons must be fingerprinted if they handle
- Direct mail programs
- New account forms
- Cold-call lists
- Cash and securities
Correct answer: Cash and securities
Any associated person put in a position that would have them handle cash or securities would be required to be fingerprinted.
- All of the following information is required to be provided on the Form U-4 except
- Disclosure of criminal arrests and charges
- 5-year residency history.
- Education (degrees or designations)
- 10-year employment history (including full- time education).
Correct answer: Education (degrees or designations)
Although there is a place to disclose certain earned professional designations such as CPA and CFA, there is no requirement to disclose education (degrees or designations). Time spent as a full-time student however would be included in the 10-year employment history.
- All of the following associated persons engaged in the investment banking and securities business are considered registered representatives, except
- Someone who trains others to supervise, solicit, or conduct business in securities
- Someone who serves on the board of directors
- Someone who supervises, solicits, or conducts business in securities
- Someone who solicits or otherwise conducts securities business
Correct answer: Someone who serves on the board of directors
All associated persons engaged in the investment banking and securities business are considered registered representatives, including any assistant officer who does not function as a principal; any individual who supervises, solicits, or conducts business in securities; and any individual who trains people to perform functions in those capacities. See the glossary for definitions of associated persons and registered representatives.
- Fingerprint cards are required by the Securities and Exchange Commission (SEC) to be filed with
- Any self-regulatory organization (SRO) approved by the SEC
- The SEC
- Financial Industry Regulatory Authority (FINRA).
- The U.S. Attorney General.
Correct answer: The U.S. Attorney General.
The SEC upon application for registration requires that fingerprint cards be filed with the U.S. Attorney General.
- Reporting requirements for representatives and principals who are to be registered with Financial Industry Regulatory Authority (FINRA) include filling out a Form U-4 when the individual is hired. All of the following are required to make the registration effective except
- Providing names and all aliases used
- Providing a 10-year employment history and 5-year residency history
- Disclosure of convictions of a spouse employed by a financial institution
- Passing the appropriate qualification exam(s)
Correct answer: Disclosure of convictions of a spouse employed by a financial institution
To register an associated person of a member firm with FINRA, the member fills out and submits Form U-4. Information required on Form U-4 is extensive and includes name, address, any aliases, 5-year residency history, 10-year employment history, and information on any charges, arrests, or convictions relating to the investment business for that individual (not spouses). Finally, registration cannot be effective until the person passes the appropriate qualification exam(s).
- To register an associated person with Financial Industry Regulatory Authority (FINRA), a member firm will fill out and submit which of the following forms?
- Form U-4
- Form 1040
- Form U-5
- Schedule C
Correct answer: Form U-4
To register an associated person of a member firm with FINRA, the member will fill out and submit a Form U-4. Registration can only be made effective after the person passes the appropriate qualification exam(s).
- An applicant who was unable to pass a Financial Industry Regulatory Authority (FINRA) qualifications exam three times would need to wait how long before another attempt would be permitted?
- 60 days
- 30 days
- 90 days
- 180 days
Correct answer: 180 days
Applicable to the first two attempts, if an individual fails to pass a FINRA qualification exam, a 30-day waiting period before the next attempt can be made is imposed. An unsuccessful third attempt requires a 180-day waiting period.
- A person may not act as a registered representative or principal unless Financial Industry Regulatory Authority (FINRA)'s eligibility standards regarding training, experience, and competence are met. In all of the following instances, a person may be statutorily disqualified from FINRA membership except
- Conviction of a DUI resulting in a fine and probation
- Disciplinary sanctions by a financial regulator in the United Kingdom
- Willful misstatements made in an application for membership
- Expulsion by the Chicago Board Options Exchange (CBOE) for violations of trading-floor rules
Correct answer: Conviction of a DUI resulting in a fine and probation
Disciplinary sanctions by the SEC, an self-regulatory organization (SRO), a foreign financial regulator, or the foreign equivalent of an SRO may be cause for statutory disqualification of FINRA membership. This would also be the case for willful misstatements made in an application for membership or a felony conviction, either domestic or foreign, or a misdemeanor conviction involving securities or money (not a DUI) within the past 10 years.
- All of the following people working for a registered broker-dealer would be required to be fingerprinted except
- A clerk handling all incoming mail
- The director of training
- A driver assigned to high-net-worth clients
- The chief compliance officer
Correct answer: A driver assigned to high-net-worth clients
Registered broker-dealers must have fingerprint records made for most of their employees, including all directors, officers, and partners, those involved in sales and those who handle cash or customer securities. While a clerk handling all incoming mail is likely to be to in a position to handle cash or securities coming to the broker-dealer, a driver is not.
- In which of the following circumstances would a firm be denied Financial Industry Regulatory Authority (FINRA) membership?
- The firm has been expelled or suspended by the foreign equivalent of an self-regulatory organization (SRO).
- The firm has only been in existence for three months.
- The firm plans to only allow registered representatives to invest in equities and fixed notes for their customers.
- The firm has only two principals and four registered representatives.
Correct answer: The firm has been expelled or suspended by the foreign equivalent of an self-regulatory organization (SRO).
Firms will be denied membership if the applicant has been expelled or suspended by another self-regulatory organization (SRO) or from the foreign equivalent of an SRO.
- Mary Alice McVey, a registered representative with a Financial Industry Regulatory Authority (FINRA) member broker-dealer, has recently remodeled her home and now has an area with a private entrance that she would like to use instead of commuting each day to her office 20 miles away. Under FINRA rules
- Registered representatives may not operate out of their homes
- She would only be permitted to see existing customers at her home
- This would be permitted with FINRA's approval
- This would be permitted with FINRA's approval, but she would have to work at least one day per week in the branch in order to ensure proper supervision
Correct answer: This would be permitted with FINRA's approval
FINRA rules provide for the ability of registered representatives to operate out of their residence in what is known as a home office. Approval from FINRA is required and the same rules that apply to any branch office would apply here.
- The firm element of a broker-dealer's continuing education (CE) requirement must be undergone by all registered persons who
- Have direct contact with the public
- Have not had such training in the past six months
- Have disciplinary actions pending
- Have purely clerical duties with the firm
Correct answer: Have direct contact with the public
A broker-dealer's continuing education (CE) program has a regulatory element and a firm element. The contents of the firm element are determined by the broker-dealer and must be met annually by all registered persons who have direct contact with the public.
- While an associated person may work for an entity other than the member firm, the employing member firm's permission is
- Required
- Requested
- Not required
- Not requested
Correct answer: Not required
If a registered person wants to be employed by or accept compensation from an entity other than the member firm, that person must provide prior written notice to the member. Note that notice must be made, but the employing member's permission is not being requested nor is it required.
- Should a registered representative enter into a private securities transaction that would entail earning compensation, the employing member will
- Have the opportunity to approve or disapprove of the associated person's participation
- Not require any notification because the compensation makes the transaction the responsibility of the accommodating firm
- Require a compensation split of least 50-50 with the associated person
- Provide all execution services for the transaction
Correct answer: Have the opportunity to approve or disapprove of the associated person's participation
If the private securities transaction involves compensation, the employing member may approve or disapprove the associated person's participation. While the employing member firm is responsible for all supervision regarding the transaction, it is not obligated and normally is not in a position to provide any services related to accommodating the transaction.
- A mutual fund company may offer noncash compensation to associates of broker-dealer firms in the form of attendance at a meeting or convention, provided that
- The meeting is held for the purpose of entertainment only and not for business purpose
- A record of compensation and meeting details is kept by the attendee member's firm
- Expenses of spouses or other guests of attendees are also met
- Attendance is conditional upon agreement to a predetermined sales target
Correct answer: The meeting is held for the purpose of entertainment only and not for business purpose
The firms whose associates attend the meeting must keep records of all noncash compensation and details of what went on at the meeting. Noncash compensation of this type will inevitably be at least indirectly business-related, but must not be conditional upon agreeing to meet some sales goal. Side trips and expenses of guests must be met by those in attendance, not the host of the meeting.
- Information on the Form U-4 is extensive and includes names (aliases) and addresses in addition to which of the following?
- 2 years employment and 3 years of residency history
- 10 years of residency and 5 years of employment history
- 3 years of employment and 3 years of residency history
- 5 years of residency and 10 years of employment history
Correct answer: 5 years of residency and 10 years of employment history
Information required on Form U-4 includes name, address, any aliases, 5-year residency history, and 10-year employment history.
- Members and non-members alike can look into a broker's service and qualifications record by accessing which of the following services?
- The Central Registration Depository
- Municipal Securities Rule Board (MSRB)
- BrokerCheck
- Form U-4
Correct answer: BrokerCheck
FINRA makes available some key information about firms and representatives through its BrokerCheck service. This is available to anyone by calling the BrokerCheck hotline or online.
- After receiving a written complaint letter from a client, a registered representative should.
- Forward copies immediately to Financial Industry Regulatory Authority (FINRA) or the appropriate self-regulatory organization (SRO)
- Contact the client immediately to attempt reaching a resolution to the issue
- Employ a thorough investigation and provide a report to the Securities and Exchange Commission (SEC)
- Turn the complaint over to the appropriate supervisor or principal
Correct answer: Turn the complaint over to the appropriate supervisor or principal
Any representative receiving a written customer complaint is required to turn the complaint over to a supervisor or principal without delay.
- Updates to the Form U4 such as a change in address, and that do not point to disciplinary action must be made promptly but no later than
- 10 business days.
- 90 days.
- 60 days.
- 30 days.
Correct answer: 30 days.
Any changes such as a change in address require filing an amended Form U4 with the Central Registration Depository (CRD) no later than 30 days after the member becomes aware of the changes.
- Registered broker-dealers must have fingerprint records for most of their employees and for which of the following?
- Drivers
- Doorman
- Receptionist
- Partners
Correct answer: Partners
Registered broker-dealers must have fingerprint records made for most of their employees, and all directors, officers, and partners. Those who are ancillary to the securities business and do not speak about securities with the investing public or who do not handle funds or securities are generally not required to be fingerprinted.
- Those persons employed by a Financial Industry Regulatory Authority (FINRA)-registered broker-dealer to do nothing other than provide training for its associated persons
- Need not be registered
- Must be registered as a representative
- Must be registered as a principal
- Are exempt from the firm element of the firm's continuing education requirement
Correct answer: Must be registered as a principal
Those who manage any part of a member's securities activities must be registered as a principal with FINRA, including those involved solely in training associated persons.
- FINRA firms must employee at least how many principals?
Correct answer: Two
The rule requires at least two principals, unless the firm only has one individual working for the firm.
- Firm element training requires member firms to prepare training how frequently?
- Biannually
- Quarterly
- Annually
- Semiannually
Correct answer: Annually
Firm element requires member firms to prepare an annual training plan, taking into account such factors as recent regulatory developments, the scope of the member's business activities, employee performance in the regulatory element, and its supervisory needs.
- The rules to prevent pay to play regarding contributions made to political parties, candidates, and elected officials by firms involved in the underwriting or sales of municipal securities are enforced by
- Financial Industry Regulatory Authority (FINRA).
- Federal Reserve Board (FRB).
- Securities and Exchange Commission (SEC).
- Municipal Securities Rule Board (MSRB).
Correct answer: Financial Industry Regulatory Authority (FINRA).
Having no authority to enforce the rules it enacts, the MSRB relies on FINRA to enforce its municipal securities rules. This would include the enforcement of the pay to play or play for pay rules regarding political contributions.
- All of the following regarding the firm element of a broker-dealer's continuing education (CE) requirement are true except
- It must take into account the scope of the member firm's business
- It comprises training for those who have direct contact with the public
- It is applicable to both registered representatives and registered principals
- It is prepared by Financial Industry Regulatory Authority (FINRA) for the member firm to administer
Correct answer: It is prepared by Financial Industry Regulatory Authority (FINRA) for the member firm to administer
The firm element of a broker-dealer firm's continuing education (CE) requirement is prepared by the member firm. It comprises training for those personnel who have direct contact with the public, and it must be completed by all registered persons. Among other things, it must take into account the scope of the firm's business.
- Any sale of securities outside an associated person's or the employing member firm's regular business is recognized as
- A nonissuer transaction
- An outside business activity
- An unsolicited transaction
- A private securities transaction
Correct answer: A private securities transaction
The Conduct Rules define a private securities transaction, also known as selling away, as any sale of securities outside an associated person's regular business and her employing member.
- Financial Industry Regulatory Authority (FINRA) has a continuing education requirement with the goal of making sure that all registered personnel are aware of industry changes. If a registered representative has just completed this year's regulatory element CE, the next time she will be required to complete the regulatory element is
- Two years from now
- Next year
- Within 120 days
- Three years from now
Correct answer: Next year
Since January 1, 2023 (FINRA Rule 1240, amended by Regulatory Notice 21-41), the regulatory element must be completed annually by December 31 for each registration category a person holds. Having just completed this year's regulatory element, she will next be required to complete it the following year.
- Passive investments do not fall under the definition of an outside business activity (OBA). Which of the following investments would be considered a passive investment?
- Limited partnership unit
- A partial ownership in a car dealership
- A partnership interest in a real estate brokerage firm
- A partnership interest in a local credit union
Correct answer: Limited partnership unit
A passive investment, such as the purchase of a limited partnership unit, is not considered an outside business activity (OBA). An associated person may make a passive investment for his own account without providing written notice to the employing broker-dealer.
- Each of the following activities would require prior written notification by an associated person to the employing broker-dealer except
- Offering to sell a limited partnership interest in an oil and gas drilling program
- Part-time work parking cars on the weekend at a local racetrack
- Becoming a limited partner in an oil and gas drilling program
- Acting as a real estate sales agent, limited to the sales of individual homes only
Correct answer: Becoming a limited partner in an oil and gas drilling program
Passive investments, such as the purchase of a limited partnership interest, are not considered outside business activity. An associated person may make a passive investment for his own account without providing written notice to the employing broker-dealer.
- If a registered representative is involved in a securities transaction outside the scope of employment with the firm, a practice known as selling away and will receive compensation for it, which of the following must see that the representative is properly supervised for the transaction?
- The firm where the trade will take place
- A Financial Industry Regulatory Authority (FINRA) examiner
- The employing firm
- None because there is no supervisory requirement
Correct answer: The employing firm
If a registered representative is to be compensated for a trade done through another firm, the employing firm must run the trade on its own books and see to it that the representative is properly supervised. The firm where the outside trade will take place is, of course, responsible only for the actions of its own registered representatives.
- Industry rules regarding political contributions intended to preserve investor confidence and market integrity apply to contributions made to
- Political parties, candidates for office, and elected officials
- Elected officials and political candidates only
- Political parties and third parties with connections to them only
- Political parties only
Correct answer: Political parties, candidates for office, and elected officials
All business should be awarded on the basis of merit only and not political favor gotten via contributions to political parties, elected individuals or candidates, or third parties with connections to those with political affiliations.
- How often must a representative complete the firm element continuing education (CE) requirement?
- Annually
- Biennially
- After the third anniversary of licensure and every two years thereafter
- After the second anniversary of licensure and every three years thereafter
Correct answer: Annually
Firm element CE is an annual requirement (each firm administers it under its yearly Needs Analysis and Written Training Plan). Since January 1, 2023, the regulatory element is also completed annually, by December 31 each year, for each registration held.
- Under FINRA's current rules, how frequently must a registered person complete the regulatory element of continuing education?
- Within 120 days of the person's second registration anniversary and then every 3 years thereafter
- Once, within 90 days of initial registration
- Annually, by December 31, for each registration category held
- Every two years on the anniversary of registration
Correct answer: Annually, by December 31, for each registration category held
Since January 1, 2023 (FINRA Rule 1240, amended by Regulatory Notice 21-41), the regulatory element must be completed annually, by December 31 each year, for each representative or principal registration category a person holds. This replaced the prior requirement to complete it within 120 days of the 2nd anniversary and every three years thereafter.
- An associated person is unable to work for any business other than his member firm without having the employing broker-dealer's
- Knowledge of the activity
- Assuming liability for that business
- Permission in writing
- Authorization by a principal
Correct answer: Knowledge of the activity
An associated person cannot work for any business (independent activity) other than his member firm without his employing broker-dealer's knowledge.
- The de minims exemption for MSRB rule G-37 would allow municipal financial professionals to make a contribution to a municipal candidate under certain conditions up to what dollar limit per election?
Correct answer: $250
The limit is $250 per election of candidates that the Municipal Finance Professional could vote for.
- Associated persons who wish to enter into a private securities transaction for which they will receive no compensation must
- Await the employer's approval before proceeding
- Open a new account to accommodate the transaction immediately
- Provide prior written notice to their employer
- Take steps to have the transaction supervised at the firm where it will occur
Correct answer: Provide prior written notice to their employer
Associated persons who wish to enter into a private securities transaction must provide prior written notice to their employer. Approval is only required when compensation will be paid. All supervision for the transaction is the responsibility of the employing member and not the firm accommodating the transaction.
- A municipal finance professional (MFP) is
- An employee of a Financial Industry Regulatory Authority (FINRA) member engaged in municipal security representative activities such as underwriting and trading
- Employed by a municipality (not elected) to oversee the issuance of municipal bonds
- An elected official of a municipality having some decision-making authority regarding who will underwrite the municipality's bonds
- An employee of the Municipal Securities Rule Board (MSRB) specializing in seeing that broker-dealers adhere to the MSRB rules and regulations regarding the sales of municipal bonds
Correct answer: An employee of a Financial Industry Regulatory Authority (FINRA) member engaged in municipal security representative activities such as underwriting and trading
As per the Municipal Securities Rulemaking Board (MSRB), a municipal finance professional (MFP) is an associated person of a member firm who is primarily engaged in municipal securities representative activities, including underwriting, sales and trading, or any other activity that involves communications with the public regarding municipals.
- Registered representatives who have not completed their regulatory element training in the prescribed time frame will have their registrations
- Suspended for a period of 60 days and reinstated when the requirements of the program are met
- Suspended and subject to a fine of not more than $500
- Permanently revoked and subject to criminal charges
- Deactivated by Financial Industry Regulatory Authority (FINRA) until the requirements of the program are met
Correct answer: Deactivated by Financial Industry Regulatory Authority (FINRA) until the requirements of the program are met
If a person fails to complete the regulatory element within the prescribed time period, FINRA will deactivate that person's registration until the requirements of the program have been met.
- A municipal finance professional wants to make a political contribution to a candidate for mayor in the town that she resides in. Under the MSRB pay-to-play rule, a contribution to this candidate
- Is prohibited
- Cannot exceed $100
- Can be in any amount
- Cannot exceed $250
Correct answer: Cannot exceed $250
Contributions of up to $250 per election are permitted to be made by municipal finance professionals (registered persons) eligible to vote for that official.
- In the event that a customer complaint is received it is essential that the appropriate personnel are notified immediately. Which of the following need not be notified or only notified regarding specific scenarios?
- The Financial Industry Regulatory Authority (FINRA)
- The branch manager in the location where the account is serviced
- The principal supervising the registered representative servicing the account
- The account's registered representative, if received by someone else
Correct answer: The Financial Industry Regulatory Authority (FINRA)
Whenever a customer complaint is received, it is essential that the proper personnel are notified. Persons who should be notified may include the account's representative, the account's principal, the branch manager, or a member of the compliance department. A notice to Financial Industry Regulatory Authority (FINRA) is required only in regards to certain scenarios, such as allegations of theft, forgery, misappropriation of funds, or securities.
- An amended Form U-5 must be filed and a copy sent to the former employee within how many days of discovery of the inaccuracy?
Correct answer: 30
If a broker-dealer discovers that a filed Form U-5 was inaccurate, an amended form must be filed and sent to the former employee within 30 days of the discovery of the inaccuracy.
- Someone responsible only for training associated persons at a Financial Industry Regulatory Authority (FINRA) member firm
- Need not hold any registration because training is the person's only function
- Must be registered as a principal of the firm
- Need not be registered because training is considered administrative
- Need only be registered as a registered representative
Correct answer: Must be registered as a principal of the firm
Anyone who manages or supervises any part of a member firm's investment banking or securities business must be registered as a principal with FINRA, including people involved solely in training associated persons.
- A registered representative has left one firm to join another. Sometime later, the former employer discovers that some information on Form U-5 filed at the time of termination was inaccurate. The firm need not file an amended U-5 if at least how much time has gone by?
- 2 years
- 30 days
- No stated time limit
- 5 years
Correct answer: No stated time limit
An amended U-5 form must be filed and a copy sent to the affected former employee within 30 days of discovery of the inaccuracy. It does not matter how long it has been since the employee's termination.
- A registered person has left the securities industry and now holds a manufacturing job. Under what circumstances may this formerly registered person continue to receive commissions from work done at the person's old firm?
- A contract must have been signed by the registered person and the firm specifying what commissions are still to be paid.
- Once the registered person has left the industry, the person must be treated like any member of the public and may not receive any further commissions.
- Any contract regarding continuing commissions must include the provision that the person's spouse must receive them in the event of the person's death.
- The person may only receive commissions from current trades done by those who were the person's customers during employment at the firm.
Correct answer: A contract must have been signed by the registered person and the firm specifying what commissions are still to be paid.
A registered person who has left the industry, whether through retirement or otherwise, is no longer registered and may not receive commissions for any new work from a Financial Industry Regulatory Authority (FINRA) member firm. If there are commissions from work done when the person was registered that have not yet been paid, they may be paid, provided that a written contract was signed by both parties specifying precisely what is due. The contract may, but is not required to, direct that continuing commissions be paid to the person's spouse in the event of the formerly registered person's death.
- An individual has been a registered representative with a national firm for the past three years. Another member firm makes an attractive offer in an attempt to lure this individual to join them. In order to do so, the paperwork necessary would be
- A Form U-5 from the previous employer
- A transfer of registration on Financial Industry Regulatory Authority (FINRA) form TRF
- Both a Form U-5 from the previous employer and a Form U-4 from the new one
- Completing a new Form U-4 with the new employer
Correct answer: Both a Form U-5 from the previous employer and a Form U-4 from the new one
Termination, for whatever reason, requires that the old firm file a Form U-5. Registration, whether for the initial or any subsequent one, requires filing of a Form U-4.
- When a registered person leaves the securities business, Financial Industry Regulatory Authority (FINRA) retains jurisdiction over that person for how long?
- 1 year
- 2 years
- In perpetuity
- 30 days
Correct answer: 2 years
If a terminated person becomes subject to a customer complaint or charges are brought against that person by FINRA, that person remains subject to FINRA jurisdiction for two years following termination.
- Registered representatives must complete or satisfy each of the following except
- The firm element
- The Form U-5
- State registration requirements
- The regulatory element
Correct answer: The Form U-5
Financial Industry Regulatory Authority (FINRA) requires that registered representatives complete both the regulatory and the firm elements of a continuing education (CE) program. In addition to satisfying FINRA requirements for registration, each state has its own requirements that must be satisfied before a representative can act in that state. A representative is not required to file a Form U-5. That form is filed by the member firm upon the termination of a registered representative for any reason. A copy will be provided to the departed representative.
- Noncash compensation exceeding the $100 annual limit to another member firm's employee is
- Permitted only if it is an ongoing occurrence such as season tickets
- Permitted if occasional
- Permitted because it excludes cash
- Never permitted
Correct answer: Permitted if occasional
The rules regarding gifts, gratuities, and compensation to another firm's employees permit occasional noncash expenditures that exceed the $100 limit. These might include dinners, seminars, tickets to entertainment events, or reminder advertising items. However, vacations or season tickets to cultural or sporting events are always violations.
- Municipal Securities Rule Board (MSRB) and Financial Industry Regulatory Authority (FINRA) rules specifically deter gaining political favor via contributions made to candidates, officials, or political parties. As such, if a political contribution is made to any of these entities then under the act, the firm may not provide advisory services to any government these individuals or parties represent for how long?
- Five years
- Three years
- Two years
- Six months
Correct answer: Two years
Rules within the Investment Advisers Act of 1940 are designed to deter what is commonly called the practice of pay to play or play for pay. In other words, gaining political favor via contributions made to political parties, elected officials, or candidates. If a political contribution to certain elected officials or candidates is made, an adviser may not provide advisory services to any government the adviser represents for a fee, for a period of two years.
- Failure to complete the regulatory element continuing education (CE) requirement within the allotted time period will result in
- Suspension of the individual until all CE requirements are met
- The registration being deactivated until the requirements are met
- An automatic extension request, which Financial Industry Regulatory Authority (FINRA) will normally be grant
- An automatic bar from the industry for three years
Correct answer: The registration being deactivated until the requirements are met
Failure to complete the regulatory element within the allowable time frame will lead to FINRA's deactivating that person's registration until the CE regulatory element is met.
- When is the electronic filing of all information on customer complaints by broker-dealers with Financial Industry Regulatory Authority (FINRA) due?
- Within 15 days of the end of each calendar year
- Semiannually, in June and December
- Within 30 calendar days of receipt of the complaint
- Within 15 days of the end of each calendar quarter
Correct answer: Within 15 days of the end of each calendar year
Broker-dealer firms must electronically report information on all customer complaints to FINRA within 15 days of the end of each calendar quarter. Both these filings and the complaints must be retained by the firm for 4 years.
- Regarding political contributions, limitations are place with the view to
- Deter gaining political favor by employing what is commonly known as pay to play
- Allow contributions to be made to any party without any possible loss of business
- Permit all contributions be made equally to all participating parties in an election
- Prohibit advisory services for a fee provided to any government the recipients represent for a period of 10 years after the contribution
Correct answer: Deter gaining political favor by employing what is commonly known as pay to play
The rule is designed to deter what is commonly called pay to play. It makes it unlawful for an adviser to receive compensation (fee) for providing advisory services to a government entity for a two-year period after the adviser makes a political contribution to a public official of a government entity.
- All of the following statements about a home office are true except
- Home offices are restricted to servicing existing customers only
- A home office is subject to a premise visit and review by principals of the firm and Financial Industry Regulatory Authority (FINRA) examiners
- The member firm must authorize the representative to open a home office
- A home office may be widely advertised as a place of business
Correct answer: Home offices are restricted to servicing existing customers only
Broker-dealers often allow registered representatives to operate a home office. Approval of the member firm and registration of the location with its self-regulatory organization (SRO) is required as it would be for any office associated with the broker-dealer. All normal business activities including opening new accounts and taking customer orders for the purchase and sale of securities would be permitted. Additionally, the home office address and telephone number may be advertised in any normal manner such as on business cards or through various media venues like newspapers and websites.
- Financial Industry Regulatory Authority (FINRA) rules regarding outside business activity (OBA) require that
- Prior written notice to the employing firm be provided
- All activities be coordinated between both employers
- All passive investments be reported under the rule
- Approval is gotten from FINRA or another self-regulatory organization (SRO)
Correct answer: Prior written notice to the employing firm be provided
Under FINRA's rules regarding outside business activity (OBA), prior written notice to the employing member is required.
- Gifts and gratuities directed to those who work at another firm may not be made by a member or associated person for amounts greater than
- $100 per year.
- $100 per individual per year.
- $250 per lifetime.
- $250 per year.
Correct answer: $100 per individual per year.
No member or associated person may give anything of value in excess of $100 per individual per year to any person, principal, employee, or representative of another person where such payment is in relation to the business of the employer of the recipient of the payment or gratuity.
- A municipal securities dealer has just made a contribution to the mayor's reelection campaign. How long must the firm wait before it can enter competitive bids on proposed bond issues by the city?
- No waiting period
- Can never underwrite a bond for the city again
- Two years
- Six months
Correct answer: No waiting period
If a potential bond issue is up for competitive bids, any firm may participate in the bidding process, because the city will select the best arrangement available. If it is a negotiated bid (not competitive), there is a two-year waiting period because a firm that has made a political contribution might have an unfair negotiating advantage over firms that have not.
- Financial Industry Regulatory Authority (FINRA)'s Conduct Rules regarding gifts and gratuities would permit a branch manager to
- Transfer ownership and the rights to a luxury box to the portfolio manager
- Invite a portfolio manager to see a popular Broadway show together
- Offer a portfolio manager two tickets to all shows for that theater season
- Offer two tickets to the portfolio manager if the portfolio manager directs trades to the branch manager's firm
Correct answer: Invite a portfolio manager to see a popular Broadway show together
A gift of tickets to a single event would be permitted under the Conduct Rules. A scenario where a representative of the firm accompanies the guest would fall under the heading of normal business dealings and the requirement that gifts be of no more than $100 in value is waived. None of the exceptions apply if the gift is contingent upon performance.
- Associated persons or registered representatives who want to work outside of their existing employment with their current broker-dealer may do so if they provide prior written notice to the member. In which of the following would notice not be required?
- Ownership equaling 5% interest in another financial services company is intended to be made.
- They will be involved in extensive fundraising activities for a charitable institution.
- They intend to serve only in the capacity of a director of another company with no compensation.
- The amount of total compensation expected from the outside employer is less than $7,500 per year.
Correct answer: They will be involved in extensive fundraising activities for a charitable institution.
If a registered person wants to be employed by or accept compensation from an entity other than the member firm, that person must provide prior written notice to the member. These affiliations would include serving as an officer or director of a company or owning any interest in another financial services company.
- In general, the first industry form that a new applicant for registration sees is the Form U-4. This lengthy form requests information about the applicant's I. name including any aliases. II. residency history back through the previous two years. III. 10-year employment history. IV. convictions, but not arrests, dealing with any securities related violations.
- III and IV
- I and III
- I and III
- II and IV
Correct answer: II and IV
The Form U-4 contains the applicant's name as well as any aliases used. Residence history is shown for the past five years and employment history for the past 10 years. Charges, arrests, and convictions for securities related violations must be disclosed.
- An applicant for registration was convicted of a misdemeanor within the past five years having to do with a motor vehicle driving infraction. For purposes of filing Form U4 for registration with a member firm, the applicant I. must list the conviction. II. need not list the conviction. III. would be automatically subject to statutory disqualification, whether the conviction was listed or not. IV. would not be subject to statutory disqualification.
- II and IV
- II and III
- I and III
- I and IV
Correct answer: II and IV
Non-securities-related misdemeanor convictions (such as a driving infraction) do not have to be reported on an applicant's Form U-4 when applying for registration. Securities- or money-related misdemeanors and felony convictions within the past 10 years must be reported. These disqualifies an applicant from registering (statutory disqualification).
- Firms applying for Financial Industry Regulatory Authority (FINRA) membership are required to I. agree to be in compliance with all federal securities laws. II. pay dues, assessments, and other charges the association levies. III. pass the appropriate qualification exam(s). IV. attend a FINRA annual conference no less frequently that once every three years.
- I and II
- II and III
- II and IV
- I and III
Correct answer: I and II
Firms must agree in their membership application that they will comply with all federal securities laws and make payment of dues and assessments when requested. Although qualification exams must be passed by individuals representing the firm, there is nothing requiring the firm itself to do so, nor is attendance at FINRA conferences required.
- A registered representative has left a firm and joined another. The new firm must obtain a copy of the Form U-5 filled out by the old firm. Where might the new firm obtain a copy of the form? I. From the new employee II. From the Securities and Exchange Commission (SEC) III. From Financial Industry Regulatory Authority (FINRA)'s Central Registration Depository (CRD) IV. From the representative's former employer
- I and III
- II and IV
- II and III
Correct answer: I and III
Copies of a new employee's Form U-5 may be obtained from the employee, or from FINRA's Central Registration Depository (CRD). Whichever the source, the firm must obtain the copy within 60 days of filing the new Form U-4 for the new employee.
- Which of the following would be unacceptable reasons for an officer of a member firm to make a contribution to the election campaign of a political candidate? I. The candidate is a member of the officer's political party. II. The candidate has promised to steer business to the officer's firm. III. The candidate is a close relative of a potential customer of the firm. IV. The officer approves of the policies and programs the candidate has proposed.
- I and III
- I and IV
- II and III
- II and IV
Correct answer: II and III
Political contributions may never be used to procure or enhance business.
- Which of the following constitute a private securities transaction, or selling away? I. A registered representative executes a trade for a customer in securities of a type normally handled by the representative's broker-dealer. II. A registered representative's sibling has some old bonds that the representative sells as a favor through a municipal securities broker. III. A registered representative helps an old school friend issue securities for a small business under formation. IV. A registered representative helps an acquaintance sell some inherited stock certificates without the acquaintance becoming a customer of the firm.
- II and IV
- I and III
- I and III
- III and IV
Correct answer: III and IV
A private securities transaction is any sale of securities outside the scope of the regular business of the associated person involved and of the broker-dealer firm. Such a transaction done for an immediate family member, however, does not fall under the definition.
- One of the Financial Industry Regulatory Authority (FINRA) Conduct Rules is concerned with private securities transactions. Under that rule, it would be correct to state that I. if the member approves the registered representative participating in a transaction for compensation, it must treat the transaction as if it is being done on its own behalf by entering the transaction on its own books and supervising the associated person during the transaction. II. as long as no compensation to the registered representative is involved, notification to the member is not required. III. sale of a securities product to the registered representative's mother where there is only nominal compensation is not covered under the rule. IV. if the member disapproves of the registered representative's participation in a transaction for compensation, the associated person may not participate in it.
- I and II
- III and IV
- I and IV
- II and III
Correct answer: I and IV
FINRA divides private securities transactions into two categories. If the associated person will receive compensation, the rules are more comprehensive requiring approval or disapproval. If approved, the firm must record the transaction on its books and records and supervise as if it were executed on behalf of the member firm. Trades with immediate family members are not included if there is no compensation. In other transactions where there is no compensation, written notice to the employer member is still required.
- An associated person of a Financial Industry Regulatory Authority (FINRA) member firm would not be considered a municipal finance professional (MFP) if involved solely in which of the following?
- Underwriting municipal securities for the firm
- Research involving municipal securities for the firm
- Municipal securities sales to customers
- Municipal securities communications with customers
Correct answer: Municipal securities sales to customers
Associated persons whose activities are limited solely to sales or have only clerical or ministerial functions are not MFPs. All the other activities would be associated with an MFP.
- In order for a registered representative of a member firm to receive any form of compensation, such as commissions, after terminating employment, all of the following statements are correct except
- Earnings from referred business from existing clients would be eligible for payment
- It would be permissible to pay continuing commissions to a surviving spouse
- The agreement must be entered into before the termination of employment
- There must be a contract in effect calling for these continuing commissions
Correct answer: Earnings from referred business from existing clients would be eligible for payment
Continuing commissions are permitted, but there is no requirement that they be offered. In order for a former registered representative to receive them, the terms must be spelled out in a contract entered into before termination. The contract may call for payment to heirs but cannot provide any compensation for business referred or introduced by an employee after that person ceases to be registered with the member.
- A registered representative has a customer who is interested in using options strategies such as spreads and straddles. The registered representative's firm does not offer options transactions as part of their existing business model. As such, the registered representative directs the customer to another broker-dealer that allows for option trading. This is
- An example of selling away
- An acceptable practice
- A private securities transaction
- An example of placing away
Correct answer: An acceptable practice
A private securities transaction is any sale of securities outside an associated person's regular business and his employing member. Private securities transactions are also known as selling away. However, in this example, the representative simply directed the customer to a firm that could handle the customer's request. As long as the representative recieved no compensation for this activity, the recommendation to go to another firm does not violate any industry regulation.
- A registered representative was guilty of an undetected minor rule violation during the last year of employment at a broker-dealer firm. The representative has now decided to leave the industry. For how long might the representative still be subject to fines or other sanctions by Financial Industry Regulatory Authority (FINRA) if the violation is belatedly detected?
- 6 months
- 30 calendar days
- 2 years
- FINRA no longer has jurisdiction
Correct answer: 2 years
FINRA retains jurisdiction over a registered person for two years after the person leaves the industry.
- Financial Industry Regulatory Authority (FINRA) is concerned about potential conflicts of interest in providing incentives or rewards for selling a sponsor's product. Which of the following situations regarding a product sponsors product training or education for outside RRs would FINRA disallow?
- A member firm's permission for its registered representatives to attend is required.
- A training location is chosen based on its being convenient for attendees to get to and its proximity to the main office.
- Spouses are included in the invitation with travel expenses paid for.
- Separate outings are planned in conjunction with the training at the expense of the attendees if they wish to participate.
Correct answer: Spouses are included in the invitation with travel expenses paid for.
FINRA deems payment or reimbursement by sponsors in connection with meetings held to train or educate representatives acceptable as long as certain requirements are met. These would include, but are not limited to, the following: the representative obtains the member firm's prior permission to attend, the location of the meeting is appropriate to the purpose of the meeting, there is no payment or reimbursement for a guest (e.g., a spouse) of the representative attending the meeting, and there is no payment or reimbursement for certain expenses incurred in connection with meetings, such as golf outings.
- If after a registered representative terminates the firm learns of something that should have been reported to the Central Registration Depository, how long does the firm have to make an amendment if that information would cause statutory disqualification?
- 45 days
- 20 days
- 10 days
- 30 days
Correct answer: 10 days
The rule requires notification within 10 days if the information involves statutory disqualification.
- A broker-dealer may allow a registered representative to work from home – that is, to have a home office. If this is the case, the registered representative must
- Not specify the office as a place of business in advertising
- Use the office only to perform clerical functions
- Expect the office to be treated like any branch office
- Carry out sales presentations in some other location
Correct answer: Expect the office to be treated like any branch office
If a registered representative works from home, the office must be subject to site review and visits to the premises by principals of the firm and Financial Industry Regulatory Authority (FINRA) examiners, may be specified in advertising of various kinds as a business office, and function in all ways like any other branch office of the firm.
- A representative of a dealer who solicits municipal securities business from an official of an issuer contributes $275 to the official's city council reelection campaign during the general election. Under what circumstance would the contribution invoke a ban on the dealer's municipal securities business with that issuer?
- The dealer seeks to engage in a negotiated underwriting with the issuer.
- The dealer seeks to engage in a competitive underwriting with the issuer.
- The representative resides in the official's city.
- The representative contributed $250 during the primary election.
Correct answer: The dealer seeks to engage in a negotiated underwriting with the issuer.
A representative of a dealer firm who gave any amount to the election campaign and then solicits a negotiated underwriting would likely cause a two-year ban on performing any work for that municipality. There are some exceptions. For example, if the representative lives in the municipality and is eligible to vote there, he may give up to $250 per election without triggering a ban.
- A U-5 form should be filed with the Central Registration Depository within how many days after termination of a registered representative?
- 30 days
- Next business day
- 10 business days
- 15 business days
Correct answer: 30 days
The U-5 form must be filed by the former employer within 30 days.
- To keep up with recent developments in the industry regarding regulatory changes and other requirements imposed by Financial Industry Regulatory Authority (FINRA), as well as needs identified by the broker-dealer firm, registered persons must fulfill the firm's
- Yearly sales development (SD) requirement
- Regulatory development (RD) requirement
- Continuing education (CE) requirement
- Requirement to hold yearly meetings of all office personnel
Correct answer: Continuing education (CE) requirement
Registered persons must undergo regular training in the securities industry. The regulatory element of this training is determined by FINRA and, since January 1, 2023, is completed annually (by December 31) for each registration category held. The firm element is determined by the broker-dealer firm and is also delivered annually. Together, the two elements meet the firm's continuing education (CE) requirement.
- A broker-dealer firm managing an initial public offering (IPO) wishes to give a gift to an associated person of one of the selling group members. Which of the following would be an unacceptable gift under the rules?
- A $150 leather briefcase with the broker-dealer's name and logo on it
- A dinner at an expensive restaurant with a representative of the broker-dealer
- A ticket to a major league ball game to attend with a principal of the broker-dealer
- A $125 designer edition fountain pen and desk holder
Correct answer: A $125 designer edition fountain pen and desk holder
Financial Industry Regulatory Authority (FINRA) member firms may not give business-related compensation to associated persons of other firms – compensation directly tied to sales or promises of sales – but may give an individual gifts whose value does not exceed $100 in a 12-month period. Tickets to a sporting event or dinner at an expensive restaurant may exceed the $100 limit if it is occasional, someone from the rewarding firm is present, and the employing firm has given its permission. Reminder advertising, items with the broker-dealer's name and/or logo, may also exceed the $100 limit, within reason, because it has a business purpose.
- A broker-dealer wants to give an employee of another firm a gift. This is permitted provided all of the following conditions are met except
- The gift or compensation doesn't exceed the annual $100 limit
- The gift or compensation is not conditional on sales
- The gift or compensation is preapproved by the firm's self-regulatory organization (SRO)
- The gift or compensation has the employing member firm's prior approval
Correct answer: The gift or compensation is preapproved by the firm's self-regulatory organization (SRO)
Firms may not distribute gifts, gratuities, or compensation to the employees of other member firms unless the compensation is not conditional on sales or promises of sales, it has the employing member's prior approval, and the compensation's total value does not exceed the annual limit of $100 per person. Approval of the self-regulatory body the firm reports to is not a requirement or condition.
- When an employee is either terminated from, or willfully leaves, a member firm, Form U-5 must be filed. Under these circumstances, which of the following is true?
- Under either circumstance, the employee is responsible for filing Form U-5.
- The employee is responsible for filing Form U-5 only when leaving the firm willfully.
- The employing firm is responsible for filing Form U-5 only if it has terminated the employee.
- Under either circumstance, the employing firm is responsible for filing Form U-5.
Correct answer: Under either circumstance, the employing firm is responsible for filing Form U-5.
Whenever a registered employee leaves a member firm under any circumstance, it is the employing member firm that is responsible for filing Form U-5.
- Regarding registered representatives working from their residence, commonly known as their home office, all of the following would be true except
- Home office address and telephone numbers may be used for normal advertising purposes
- The office is subject to a premise visit by Financial Industry Regulatory Authority (FINRA) examiners as often as they see fit
- Prospects would not be allowed to visit and be on the premises at this location
- The office would be subject to a premise visit and review by a principal of the firm
Correct answer: Prospects would not be allowed to visit and be on the premises at this location
Registered representatives are allowed to operate out of a home or residence, advertising the address and contact numbers. All normal business activities, including taking customer orders for the purchase and sale of securities, would be permitted. Additionally, it would be subject to a premise visit and review by principals of the firm and FINRA examiners as often as needed.
- An investment company wishes to provide incentives for registered representatives of several broker-dealer firms to sell their investment products. The company proposes to send some selected representatives to a sales training seminar. Which of the following would be acceptable features of the trip? I. The venue of the seminar is a resort in the Canary Islands. II. There is an incidental tour the representatives may attend at their own expense. III. The representatives may bring their spouses, whose expenses will also be paid. IV. The representatives must obtain their employing firms' permission to attend.
- I and III
- I and IV
- II and III
- II and IV
Correct answer: II and IV
The trip itself is acceptable in principle, because it has a business purpose. Having it in the Canary Islands would be inappropriate. Side tours, outings, and so on are acceptable, provided the guests pay their own expenses for them. Paying the expenses of guests would be inappropriate as well. Permission of the employing firm to attend is always required.
- Continuing education requirements are a part of the securities industry's ongoing commitment to furthering the knowledge base for registered representatives. Which of the following CE requirements are needed by a registered rep? I. Blue-sky requirement II. Registration requirement III. Firm element training IV. Regulatory element training
- I and III
- III and IV
- I and III
- II and IV
Correct answer: III and IV
Registered persons are required to participate in continuing education (CE) programs. The CE requirement has two components: a regulatory element and a firm element. Since January 1, 2023, the regulatory element must be completed annually, by December 31, for each registration category the person holds. The firm element requires member firms to prepare an annual training plan that takes into account such factors as recent regulatory developments, the scope of the member's business activities, the performance of its personnel in the regulatory element, and its supervisory needs.
- Which of the following regarding capital and money markets is true
- Money markets provide intermediate to long-term financing.
- Capital markets provide intermediate to long-term financing.
- Capital markets provide short-term financing.
- Money markets provide long-term financing.
Correct answer: Capital markets provide intermediate to long-term financing.
The capital market serves as a source of intermediate to long-term financing. The money market, on the other hand, provides short-term financing.
- Shelby Bogden, your client, purchased a 6% corporate bond with a current yield of 5%. The bond was purchased at
- Par
- A premium
- Below par
- A discount
Correct answer: A premium
A bond purchased at a premium will have a current yield below the coupon rate.
- Which of the following would constitute improper use of a customer's securities or funds? I: Agreeing to a stock purchase the representative thinks is beyond the client's means II: Selling a bond at the client's insistence during a period of high interest rates III: Lending securities for a short sale when the client has agreed to it on the phone IV: Borrowing a client's funds without permission, though it will be repaid the same day
- III and IV
- I and III
- II and IV
- I and II
Correct answer: III and IV
Though a customer may be ill-advised, complying with it does not constitute improper use. To lend securities without a signed loan consent agreement does constitute improper use, as does borrowing the client's funds without permission of the client, no matter how briefly the funds will be held.
- Which of the following would be included in a mutual fund's list of expenses? I: Shareholder records and service II: Investment advisor's fee III: Broker-dealer sales charges IV: Underwriter's sales loads
- I and II
- III and IV
- I and IV
- II and III
Correct answer: I and II
Costs to maintain shareholder records, costs to provide services to shareholders, and the investment adviser's fees are all expenses to the fund. The costs paid in the form of sales charges (loads) to an underwriter or broker-dealers selling mutual funds to the public may never be treated as an expense to the fund. They are expenses to the investor.
- Which of the following is a characteristic shared by both corporate debentures and income bonds
- Neither pay interest.
- Both must pay principal as it comes due.
- Both are a type of mortgage bond.
- Both are secured by assets of the corporation.
Correct answer: Both must pay principal as it comes due.
All bonds must pay principal when due. Income bonds, however, are not required to pay interest when due unless the earnings of the issuer are deemed to be sufficient and the board of directors (BOD) declares that interest payments be made.
- All of the following accounts are for unincorporated businesses except
- Corporate accounts
- Limited liability company accounts
- Partnership accounts
- Sole proprietorship accounts
Correct answer: Corporate accounts
Sole proprietorship accounts, partnership accounts, and limited liability companies are not incorporated. Corporations are incorporated.
- Regarding investment products, which of the following is true?
- Both derivatives and debt represent ownership in an issuing company.
- Derivative securities represent ownership in an issuing company.
- Debt securities represent ownership in an issuing company.
- Equity securities represent ownership in an issuing company.
Correct answer: Equity securities represent ownership in an issuing company.
Equity securities represent ownership in an issuing company and debt securities represent a loan to the issuing company, but derivative products, such as options, represent neither.
- Common shareholders wanting to vote on issues at a shareholder meeting can do so in all of the following ways except
- In person
- By proxy delivered by mail
- By telephone or text message
- By proxy delivered online
Correct answer: By telephone or text message
Common shareholders wanting to vote at a shareholder meeting can do so in person or in absentia, using a proxy delivered by mail or online. Voting by text or telephone would not be permitted.
- Exempt from the penny stock rules are
- Solicited transactions
- Unsolicited transactions
- Both solicited and unsolicited transactions
- All transactions
Correct answer: Unsolicited transactions
Unsolicited transactions (those not recommended by the broker-dealer or registered representative) are exempt from the penny stock rules. Solicited transactions are nonexempt and the rules therefore apply.
- An individual owning shares of a corporation's common stock would have all of the following rights except
- To review a list of stockholders
- To vote when unable to be present at a stakeholder meeting
- To vote for those who will serve on the board of directors (BOD)
- To declare dividends
Correct answer: To declare dividends
Common shareholders have a number of rights. While they may receive dividends, declaring dividends is a function of the BOD.
- A company's business operations are overseen by
- A board of directors (BOD) elected by bondholders
- Bondholders placed in position by the board of directors (BOD)
- Stockholders placed in position by the board of directors (BOD)
- A board of directors (BOD) elected by shareholders
Correct answer: A board of directors (BOD) elected by shareholders
Most corporations are organized in such a way that their stockholders regularly vote for and elect individuals to a BOD to oversee company business operations.
- When a company wants to issue additional shares of stock, the preemptive right given to existing shareholders allows those shareholders to
- Maintain their proportionate ownership in the corporation
- Pass on their proportionate ownership in the corporation to an heir
- Increase their proportionate ownership in the corporation
- Decrease their proportionate ownership in the corporation
Correct answer: Maintain their proportionate ownership in the corporation
In the event a corporation wants to issue additional shares of stock, the preemptive right given to existing shareholders allows the shareholders to maintain their proportionate ownership in the corporation by purchasing shares before the shares are available to new investors.
- A share of stock in the hands of a stockholder represents
- No entitlement to receive profits through dividends when distributed but the right to vote for who will serve on the board of directors (BOD)
- Entitlement to receive profits through dividends when distributed and the right to vote for who will serve on the board of directors (BOD)
- Neither the entitlement to receive profits through dividends when distributed nor the right to vote for who will serve on the board of directors (BOD)
- Entitlement to receive profits through dividends when distributed but not the right to vote for who will serve on the board of directors (BOD)
Correct answer: Entitlement to receive profits through dividends when distributed and the right to vote for who will serve on the board of directors (BOD)
Each share of stock entitles its owner to a portion of the company's earnings through dividends when distributed and a proportionate vote in major management decisions such as electing individuals to the BOD.
- Regarding the rights of a common stockholder, each of the following is true except
- Stockholders have a limited right to examine the minutes of meetings held by the board of directors
- Stockholders may never be part of the management of the company
- Stockholders can vote for those who will serve on the board of directors
- Stockholders have the right to receive audited financial statements annually
Correct answer: Stockholders may never be part of the management of the company
While stockholders have a voice in how the company is run, that voice is exercised through their vote for those who serve on the board of directors. Essentially, by electing a board of directors, stockholders have a say in the company's management but are not involved in the day-to-day details of its operations. However, there is no prohibition preventing a manager or director from owning stock in the company; their position is not directly related to their ownership of company stock.
- An officer of a public company buys 1,000 shares of the company's registered stock in the open market. Regarding the sale of these shares, the officer may sell
- Immediately, subject to Rule 144 volume limitations
- Immediately, with no volume restrictions
- Under Rule 144 only after a six-month holding period
- Only after leaving (becoming unaffiliated with) the company
Correct answer: Immediately, subject to Rule 144 volume limitations
Because the shares were purchased in the open market (already registered), the transaction is not a private placement and there is no required holding period. The officer, however, is an affiliate and is therefore subject to the reporting and volume limitations imposed when selling under Rule 144.
- An investor having no affiliation with CDS Company has just purchased shares that were sold subject to Rule 144. This investor
- Must wait six months before any sales can be made
- Can only sell subject to volume limits
- Must wait six months before selling shares subject to volume limits
- Can sell the shares unrestricted at any time
Correct answer: Can sell the shares unrestricted at any time
Selling shares under Rule 144 effectively registers the shares. In other words, buyers of stock being sold subject to Rule 144 are not subject to any restrictions if they choose to resell.
- A corporation is issuing a bond with an interest rate below that which is commonly being offered for this type of bond. To improve the bond's marketability without reducing the capital to be obtained, which of the following actions might the corporation take?
- Offer a warrant on the stock with each bond
- Offer the bond at a discount
- Offer a stock dividend to the current shareholders
- Conduct a rights offering for potential bond buyers
Correct answer: Offer a warrant on the stock with each bond
Warrants are sometimes offered as sweeteners attached to bond issues to improve the marketability of bond. Rights offerings and stock dividends do not apply in this case, and selling the bonds at a discount would be self-defeating because the issuer wouldn't be able to raise the needed capital.
- For restricted stock (unregistered) held by a nonaffiliated, which of the following applies?
- Six-month holding period, with volume limits thereafter
- No holding period, but volume limits always apply
- No holding period or any volume restrictions
- Six-month holding period, with sales allowed freely thereafter
Correct answer: Six-month holding period, with sales allowed freely thereafter
For restricted stock (unregistered) held by a nonaffiliated, a six-month holding period before any sales can be made applies. After the holding period, sales can be made freely.
- Securities and Exchange Commission Rule 144 regulates
- The sale of new issue securities in the primary market
- State-level (blue-sky) registration of securities
- Communications with public retail investors
- The sale of control and restricted securities
Correct answer: The sale of control and restricted securities
Securities and Exchange Commission Rule 144 regulates the sale of control and restricted securities in the secondary market. The rule stipulates the holding period, quantity limitations, manner of sale, and filing procedures when divesting of control or restricted shares.
- A corporation with 1 million shares of stock outstanding wishes to sell another 250,000 shares. When management conducts a rights offering, a shareholder owning 100 shares will be given stock rights to purchase how many additional shares?
- 125 shares
- 25 shares
- 250 shares
- 100 shares
Correct answer: 25 shares
Stock rights (also known as preemptive rights or subscription rights) give current shareholders the ability to preemptively purchase enough shares to maintain their proportionate ownership of the corporation. This prevents their dividend and voting power from being diluted. The shares outstanding in this case will go from 1,000,000 to 1,250,000. This investor must thus go from owning 100 shares out of 1,000,000 to 125 shares out of 1,250,000. This would require that the investor be able to purchase an additional 25 shares.
- A nonaffiliated owns 3% of an issuer's common stock. This person will be considered a control person if a spouse owns
- 2% of the issuer's common stock.
- 5% of the issuer's common stock.
- 8% of the issuer's common stock.
- Any shares of the issuer's common stock
Correct answer: 8% of the issuer's common stock.
If there is a 10% or more interest held by immediate family members, then all those family members owning voting stock are considered to be control persons.
- Restricted shares, those that are unregistered, meaning that they were not attained in a public offering, may be sold by a nonaffiliate
- After holding them for six months but then subject to volume restrictions
- Freely, with no holding period or volume restrictions
- At any time but with volume restrictions
- After holding them for six months and freely thereafter
Correct answer: After holding them for six months and freely thereafter
Nonaffiliates holding unregistered shares must wait six months before divesting of those shares, but because they are nonaffiliates, they may sell freely (without volume restrictions) thereafter.
- All of the following are considered control persons (owning control stock) except
- A director on the board of directors (BOD) owning 2% of the outstanding shares
- An unaffiliated shareholder owning 8% of the outstanding shares
- The corporation's CFO owning 1% of the outstanding shares
- An officer of the corporation owning less than 1% the outstanding shares
Correct answer: An unaffiliated shareholder owning 8% of the outstanding shares
By virtue of their positions, directors and officers are considered control persons and any stock they own, no matter how little, is considered control stock. To be considered a control person, an unaffiliated person would have to own 10% or more of the voting (outstanding) shares.
- For restricted stock (unregistered) held by an affiliate (insider), which of the following applies?
- No holding period or any volume restrictions
- Six-month holding period, with volume limits thereafter
- No holding period, but volume limits always apply
- Six-month holding period, with sales allowed freely thereafter
Correct answer: Six-month holding period, with volume limits thereafter
For restricted stock (unregistered) held by an affiliate (insider), there is a six-month holding period, with volume limits applicable thereafter. The volume limits would remain in effect for as long as the individual is an affiliate.
- Callable preferred stock is advantageous to the issuing company because it allows the company to
- Replace a higher, fixed-rate issue with a lower issue after the call date
- Take advantage of higher interest rates
- Issue fixed-rate securities at a yield lower than usual
- Call in the stock at less than par value and capture the difference as income
Correct answer: Replace a higher, fixed-rate issue with a lower issue after the call date
By issuing a callable preferred stock, a corporation can call in a high dividend payment issue and replace it with a lower one when interest rates have fallen. This feature allows the company to take advantage of reduced interest rates by calling in high-rate preferred issues and replacing them with lower ones.
- If a preferred shareholder received a $3.50 annual dividend each year, it could be assumed that
- These shares are trading at $35.00
- This is a 3.5% preferred class
- The common shareholders receive the same $3.50 annual dividend
- The shares had increased by 3.5% each year
Correct answer: This is a 3.5% preferred class
An annual dividend of $3.50 simply tells you that this is a 3.5% preferred class of stock (3.5%×par ($100) =$3.50) or ($3.50 ÷par ($100) =0.035). The current market value is not used to calculate the fixed dividend, nor does this dividend amount tell us what common shareholders received.
- What is the primary benefit for an American investor when purchasing an American depositary receipt (ADR)?
- Exemption from U.S. taxation
- Hedging currency risk
- Diversification
- Tax-deferred dividends
Correct answer: Diversification
ADRs are a type of equity security designed to simplify foreign investing for Americans. ADRs provide Americans with an easy way to invest in foreign companies that might otherwise be difficult or impossible to own. This overseas exposure provides investors with additional diversification within their portfolio.
- An investor owns 3% preferred stock participating to 6%. This means the investor
- Must receive a total of 9% in any year the board declares the 6% participating be paid
- Could receive an additional 3% over the stated 3% dividend if the board declares it
- Must receive at least 6% each year
- Could receive an additional 6% over the stated 3% dividend
Correct answer: Could receive an additional 3% over the stated 3% dividend if the board declares it
If a preferred stock is described as 3% preferred participating to 6%, the company pays its holders up to 3% in additional dividends in profitable years if the board of directors declares it.
- DEF Corporation has 4% noncumulative preferred stock outstanding. The company eliminated its dividend payments for the past three years but now is in a position to resume paying them again. Before paying common shareholders a dividend, the company would be required to pay the preferred shareholders
- Nothing
- $1.00.
- $2.50.
- $4.00.
Correct answer: $4.00.
With noncumulative preferred stock, missed or skipped dividends need not be paid or made up. However, in order to pay common shareholders in any year, preferred shareholders must receive their full dividend for that year. While it can be paid in one annual payment, quarterly, or however the board approves it to be paid, the total in this case would be $4.00. 4%×$100 par value =$4.00.
- Which of the following securities provides U.S. investors with a way to gain exposure to the common stock of a foreign issuer?
Correct answer: ADR
ADRs are a type of equity security that simplify foreign investing for Americans. An ADR is created when common shares are purchased in the foreign company's home market. These shares are then deposited in a foreign branch of a U.S. bank and a receipt (the ADR) is created. The ADR trades in the United States and is denominated in U.S. currency. A GNMA is a type of mortgage-backed security. A CMO is a mortgage-backed derivative. A STRIP is a zero-coupon Treasury security.
- Which of the following preferred stocks allows the issuer to pay the shareholders par and cease dividend payments following a stated period?
- Adjustable
- Callable
- Puttable
- Redeemable
Correct answer: Callable
The issuer can pay off callable preferred at any time after the call protection period, and dividends will cease.
- CDT Corporation has issued 4.5% callable preferred shares. If these shares are ever called in, stockholders should expect that the shares would be called in at
- Current market value
- Par value
- Par value or lower
- Par value or higher
Correct answer: Par value or higher
In return for the call privilege, the corporation may pay a premium exceeding the stock's par value at the time of the call. It's reasonable that a shareholder would expect to receive at least par value or higher in the event of a call.
- Regarding preferred stock, all of the following are true except
- The right to vote on corporate issues is not available for preferred shareholders
- Preferred shareholders are paid before common shareholders in the event of a corporate bankruptcy
- Preferred shareholders have no preemptive rights that precede the preemptive rights of common shareholders
- A corporation issuing common shares must issue at least one class of preferred shares
Correct answer: A corporation issuing common shares must issue at least one class of preferred shares
No corporation is required to issue any class of preferred stock. Preferred shareholders have no voting rights or preemptive rights but are paid before common shareholders in the event of a corporate dissolution.
- Which of the following preferred issues is most likely to fluctuate in line with the issuer's common shares?
- Callable preferred stock.
- Participating.
- Adjustable rate
- Convertible
Correct answer: Convertible
Convertible preferred shares can be converted into shares of the issuer's common stock. In this light, the value of a convertible preferred stock is linked to the value of the common stock and the convertible preferred share price tends to fluctuate in line with the common.
- A corporation that has issued cumulative preferred stock
- Pays the preferred dividend before paying the interest payments due on its outstanding bonds
- Pays past and current preferred dividends before paying dividends on common stock
- Pays only current dividends with no liability for missed or past-due dividends
- Pays only the current dividends on the preferred, before paying a dividend on the common and then pays any past-due dividends
Correct answer: Pays past and current preferred dividends before paying dividends on common stock
Dividends in arrears (those missed) on cumulative preferred have the highest priority of dividends to be paid. Current and unpaid past dividends on cumulative preferred stock must be paid before common stockholders can receive a dividend. Bond interest, however, is always paid before any dividends, preferred or common.
- Which of the following statements is correct concerning the pricing of American depositary receipts (ADRs)?
- ADRs are priced in foreign currency.
- ADR pricing is dollar-based using an end of day net asset value (NAV).
- ADR pricing is dollar-based and fluctuates throughout the day.
- ADR pricing is dollar-based using an end of day public offering price (POP).
Correct answer: ADR pricing is dollar-based and fluctuates throughout the day.
Many ADRs are listed on exchanges such as the NYSE or Nasdaq. ADRs trade throughout the day and settle in the same manner as would the shares of a U.S.-based company. ADRs are priced in U.S. dollars.
- An investor would expect which type of preferred stock to pay the highest stated dividend rate?
- Straight
- Callable
- Cumulative preferred stock.
- Convertible
Correct answer: Callable
With callable preferred stock, to compensate for the possibility that the shares may be called, the issuer pays a higher dividend than with straight preferred. Cumulative and convertible preferred have positive characteristics that would justify a lower fixed dividend than straight.
- The growth potential in the price of preferred shares is generally considered to be
- Less than that of the issuer's common shares
- Greater than that of the issuer's common shares
- Unrelated to the financial well-being of the issuer
- No different than that of the issuer's common shares
Correct answer: Less than that of the issuer's common shares
While the growth potential of both common and preferred shares can be tied to a company's financial well-being, preferred share growth is generally less than that of the common shares. The trade-off is that the preferred shares have preference with dividends received, enjoy a fixed rate of return via those dividends, and have a priority claim over common shareholders in the event of bankruptcy and the dissolution of assets.
- Interest-rate sensitivity for preferred shareholders should be understood to mean that
- When interest rates rise, so do the prices of preferred shares
- When interest rates rise, the prices for preferred shares can fall
- Preferred share prices are not impacted by (insensitive to) changes in interest rates
- When interest rates fall, so do the prices of preferred shares
Correct answer: When interest rates rise, the prices for preferred shares can fall
Preferred shares, like debt securities, are sensitive to and have an inverse relationship to interest rates. Rates up, prices down. Rates down, prices up.
- Past-due dividends on cumulative preferred shares
- Must be reallocated to common shareholders
- Can never be paid until common shareholders receive a dividend
- Are written off as nonpayable
- Accumulate on the company's books until paid
Correct answer: Accumulate on the company's books until paid
Past-due dividends on cumulative preferred stock accumulate on the company's books until the corporation's board of directors decides to pay them. When the company resumes dividend payments, cumulative preferred stockholders receive current dividends plus the total accumulated dividends in arrears (those that were missed) before any dividends may be distributed to common stockholders. Common shareholders have no claim on preferred dividends.
- During times when interest rates are rising, which of the following preferred are likely to pay a higher annual dividend?
- Adjustable rate
- Callable
- Participating
- Convertible
Correct answer: Adjustable rate
Adjustable-rate preferred dividends are tied to benchmark interest rates such as Treasury securities. As these rates fluctuate up and down, so do the dividends on the adjustable shares.
- An investor owns a bond carrying a 4% coupon. Interest rates in the marketplace have been moving downward and are currently at 2.5%. Given the current interest rates in the marketplace, this investor should see
- The price of the bond move higher
- The price of the bond be unchanged
- The coupon of the bond adjusted downward
- The price of the bond move lower
Correct answer: The price of the bond move higher
Prices of bonds trading in the secondary market have an inverse relationship to interest rates. As interest rates rise in the marketplace, the prices of bonds trading in the secondary market will fall, and as interest rates fall in the marketplace, the prices of bonds trading in the secondary market will rise. Once the coupon rate is established by the issuer, it remains unchanged throughout the life of the bond.
- When selling a bond, the issuer is taking
- A borrower's position
- A loaners position
- An equity position
- A creditors position
Correct answer: A borrower's position
Issuers of bonds are borrowing money from the purchaser of the bond.
- Assuming $1,000 par value, a bond priced at $1,200 is trading at
- Par
- Discount to premium
- A premium
- A discount
Correct answer: A premium
When a bond is priced above par value, it is trading at a premium (premium to par).
- An investor holds a 4% bond, callable in 8 years, and maturing in 12 years. The bond's current yield (CY) measures its annual coupon payment relative to
- Its value at maturity
- Its value when callable
- Par value
- Its market price
Correct answer: Its market price
The CY measures a bond's annual coupon payment (interest) relative to its market price, as shown in the following equation: annual coupon payment÷market price=current yield.
- An investor purchases a bond at $900 with a 5% coupon and a 5-year maturity. The bond has a current yield of
Correct answer: 5.6%.
Current yield is determined by dividing annual interest (coupon) payment by the current market price of the bond ($50 ÷ $900 =5.6%). Years to maturity is not a factor in calculating current yield.
- Which of the following would all be considered the same regarding yields on debt instruments?
- Stated, nominal, and yield to maturity
- Nominal, yield to call, and yield to maturity
- Nominal, coupon, and yield to call
- Stated, nominal, and coupon yields
Correct answer: Stated, nominal, and coupon yields
The interest rate the issuer has agreed to pay the investor is the coupon yield. The coupon yield is also called the stated or nominal yield.
- When shares are held in street name, this refers to the shares being
- Held in the name of the broker-dealer for the beneficial owner
- Restricted, and thus, nontransferable
- Held at the transfer agent for the beneficial owner
- Allowed to be sold only on the exchange where they were initially purchased
Correct answer: Held in the name of the broker-dealer for the beneficial owner
When shares are held in street name, they are being held in the name of the broker-dealer for the beneficial owner. This is done to facilitate payments and delivery. This does not encumber the shares regarding receipts of dividends or their transferability if sold.
- A stock trade took place on Tuesday, July 2. When would regular way settlement normally take place?
- Tuesday, July 2
- Wednesday, July 3
- Monday, July 8
- Friday, July 5
Correct answer: Wednesday, July 3
Regular-way settlement is T+1 (trade date plus one business day) since May 28, 2024. A trade on Tuesday, July 2 settles the next business day, Wednesday, July 3 (July 4 is not reached).
- A corporate stock is purchased on Friday, April 2, regular way. When will the trade settle?
- Wednesday, April 7
- Tuesday, April 6
- Monday, April 5
- Friday, April 2
Correct answer: Monday, April 5
Regular-way settlement is T+1 (trade date plus one business day) since May 28, 2024. A Friday, April 2 trade settles the next business day; skipping the weekend, that is Monday, April 5.
- Isaac James has some call options in his account that he would like to exercise. He wants to know when the resulting purchase of the stock would settle. You would tell him
- Trade date plus 3 business days
- Trade date
- Trade date plus 1 business day
- Trade date plus 2 business days
Correct answer: Trade date plus 1 business day
An option trade itself settles the next business day. When an option is exercised, the resulting stock transaction settles regular-way — now T+1 (one business day) since May 28, 2024.
- Your client, Teresa Jenson, calls and wants to purchase T-bills and wants to know when payment is due. You should tell her
- Trade date plus 1 business day
- Trade date plus 2 business days
- Trade date plus 3 business days
- Trade date
Correct answer: Trade date plus 1 business day
Treasury and money-market securities settle T+1 (next business day). Since May 28, 2024, the standard regular-way cycle is T+1 across most securities.
- Your customer has purchased $10,000 in U. S. Treasury bonds. These securities
- Will have evidence of ownership recorded in book-entry form
- Are required to be delivered in the form of physical paper certificates
- Cannot be delivered in physical certificates because they exceed the amount for paper certificate delivery
- Can be transferred in either physical or book-entry form in accordance with the purchasers request
Correct answer: Will have evidence of ownership recorded in book-entry form
All U.S. government securities no matter what the denomination or amount are delivered, transferred, and have ownership recorded in book-entry form.
- Your client is purchasing XYZ corporate bonds and wants to know when regular way settlement is. You should tell her
- Trade date plus 2 business days
- Trade date plus 1 business day
- Trade date
- Trade date plus 3 business days
Correct answer: Trade date plus 1 business day
Since May 28, 2024, regular-way settlement for corporate bonds is T+1 (one business day after trade date).
- Your client, Alice Tate, lives in Irvine, California, and wishes to purchase some bonds that would be both state- and federal-tax free for her. You recommend some school district bonds from Costa Mesa. She then asks when she would need to pay for the bonds. You should tell her
- Trade date plus 1 business day
- Trade date plus 2 business days
- Trade date
- Trade date plus 3 business days
Correct answer: Trade date plus 1 business day
Since May 28, 2024, regular-way settlement for municipal bonds is T+1 (one business day after trade date).
- Josie Reese, one of your clients with an option account, calls and asks you to remind her when she is required to settle if she bought a call today. You would tell her
- Trade date plus 2 business days
- Trade date
- Trade date plus 1 business day
- Trade date plus 3 business days
Correct answer: Trade date plus 1 business day
Options settle the next business day (T+1). Since May 28, 2024, the standard regular-way cycle is T+1 across most securities.
- Your client is buying municipal bonds and wants to know when payment is due. You should tell him
- Trade date
- Trade date plus 1 business day
- Trade date plus 2 business days
- Trade date plus 3 business days
Correct answer: Trade date plus 1 business day
Since May 28, 2024, regular-way settlement for municipal bonds is T+1 (one business day after trade date).
- An investor purchased and then sold a security eight months later for a gain. This gain
- Is considered to be a short-term gain, and it will be taxed at a more favorable rate than long-term gains
- Is considered to be a long-term gain, and it will be taxed at the same rate as the taxpayer's other ordinary income
- Is considered to be a long-term gain, and it will be taxed at a more favorable rate than short-term gains
- Is considered to be a short-term gain, and it will be taxed at the same rate as the taxpayer's other ordinary income
Correct answer: Is considered to be a short-term gain, and it will be taxed at the same rate as the taxpayer's other ordinary income
Positions closed within 12 months or less are considered short term. When a gain is realized, it will be taxed at the same rate as the taxpayer's other ordinary income. By contrast, a long-term capital gain is taxed at a favorable long-term rate.
- Regarding capital gains, which of the following is true?
- Short-term gains are those realized on positions held for 9 months or less.
- Long-term gains are those realized on positions held for 2 years or more.
- Short-term gains are those realized on positions held for 12 months or less.
- Long-term gains are those realized on positions held for 10 years or more.
Correct answer: Short-term gains are those realized on positions held for 12 months or less.
Profits on positions held 12 months or less are considered short-term gains. For those positions held longer than 12 months, the gains are considered long term and taxed at a more favorable rate.
- All of the following are taxable to the investor except
- Capital gains distributions
- Cash dividends
- Stock dividends
- Semiannual interest payments
Correct answer: Stock dividends
A stock dividend is payment of additional shares of the issuer to the stockholder rather than payment of cash. The price of the stock is adjusted so that the total value of the outstanding stock is the same before and after the dividend is paid. Stock dividends are thus not taxable.
- Current yield equals
- The annual income divided by the market price
- The stated rate divided by the par value
- The market priced divided by the annual income
- The par value divided by the stated rate
Correct answer: The annual income divided by the market price
Current yield equals the coupon rate (annual income) divided by the current market price. This is a very common formula on the test.
- Benjamin Jackson bought 100 shares of XYZ two years ago at $10 per share. The stock paid a $0.50 dividend each year and he sold the stock for $11. What percent was his total return?
Correct answer: 20%
The formula for total return is dividends plus capital gains divided by amount invested.
- An investor purchased an MJS Corporation 6% 20-year bond at issue for $950. Two years later, the investor sold the bond for $925. This investor experienced
- A $25 interest loss
- A $25 capital loss
- A $925 return on investment
- A $25 return on investment
Correct answer: A $25 capital loss
If a security is sold for less than the original purchase price, the difference is called a capital loss. This would apply to both equity and debt securities.
- Which of the following best describes the calculation for gains or losses for tax purposes?
- Proceeds minus dividend, plus cost basis
- Proceeds minus cost basis
- Proceeds plus cost basis
- Proceeds plus dividends, minus cost basis
Correct answer: Proceeds minus cost basis
Proceeds minus cost basis equals capital gains. The dividends are not part of the calculation for capital gains.
- Which of the following are true of long-term or short-term gains or losses?
- Holding a stock and selling above its cost basis if over 12 months later would be a long-term gain.
- Holding a stock and selling below its cost basis if held for over a year would be a short-term loss.
- Holding a stock and selling it above its cost basis if held for one year would be a long-term gain.
- Holding a stock and selling below its cost basis if held for one year would be a long-term loss.
Correct answer: Holding a stock and selling above its cost basis if over 12 months later would be a long-term gain.
For the holding period to be long term it must be more than one year.
- Betsy Bingham asks you what her current yield will be if she buys a 6% corporate bond at $1,200. The answer is
Correct answer: 5%.
The formula for current yield is the stated rate (coupon rate) divided by the current market price. $60 ÷ $1,200 =5%.
- Your client, Soren Aland, buys a 4% XYZ corporate bond. If his current yield is 5%, he bought the bond at
- Above par
- Par
- A discount
- A premium
Correct answer: A discount
A bond purchased at a discount will have a current yield above the coupon rate.
- Regarding the taxation of gains on securities, all of the following are true except
- Long-term gains are taxed at more favorable long-term rates
- Capital gains are associated with the sale of securities and other real assets
- Short-term gains are taxed at less favorable ordinary income tax rates
- Gains on securities for a position held at least 12 months are not taxable
Correct answer: Gains on securities for a position held at least 12 months are not taxable
Investment income, which includes capital gains realized on securities positons, is taxable. Depending on how long a security was held, the gains might be taxable at the investor's ordinary income tax rate (for short-term gains) or at a more favorable long-term rate if the position was held for longer than 12 months.
- Two years ago Lisa Smith sold short 100 shares at $50 per share and two years later bought them back for $55 per share. The stock paid a $2.50 dividend each year. How much did Smith gain or lose per share for tax purposes?
- A $5 loss
- A $5 gain
- A $10 gain
- No gain or loss
Correct answer: A $5 loss
The formula to calculate a gain or loss for tax purposes is the proceeds minus the cost basis. Smith bought the shares at $55 and sold at $50. The dividends are not included in the calculation of gain or loss for tax purposes.
- When interest rates in the marketplace move up, what happens to the coupon rate on existing bond?
- The coupon rate moves in the opposite direction.
- Nothing; it does not change.
- The coupon rate moves in the same direction.
- The movement depends on the duration of the bond.
Correct answer: Nothing; it does not change.
The coupon rate (the fixed rate, the nominal rate, the stated rate) is fixed when the bond is issued and does not change.
- A bond that is structured so that the principal of the whole issue matures at once is
- A balloon bond
- A term bond
- A series bond
- A serial bond
Correct answer: A term bond
With a term bond, the entire offer matures at the same time. A serial bond has portions maturing over a period of years. A balloon is a hybrid of a term and a serial maturity. Series is not a type of bond maturity.
- If a bond is trading at a premium, rank the following rates from low to high.
- Nominal yield, yield to maturity, current yield, coupon rate
- Yield to call, current yield, nominal yield, coupon rate
- Yield to call, yield to maturity, current yield, nominal yield
- Coupon rate, current yield, yield to maturity, yield to call
Correct answer: Yield to call, yield to maturity, current yield, nominal yield
The order from low to high is yield to call, yield to maturity, current yield, nominal yield.
- Which of the following statements regarding bond interest is true?
- Bond prices have an inverse relationship to interest rates.
- The par value of a bond will decrease as market interest rates fall.
- The par value of a bond will increase as market interest rates fall.
- Bond prices have a direct relationship to interest rates.
Correct answer: Bond prices have an inverse relationship to interest rates.
Bond prices have an inverse relationship to interest rates. If interest rates go up, bond prices for those bonds trading in the secondary markets will go down. Conversely, if interest rates decline, bond prices rise. Par value is a fixed number for the life of the bond.
- Bonds can typically be issued with
- Term, series, or balloon maturities
- Term, serial, or balloon maturities
- Term or balloon maturities only
- Term or series maturities only
Correct answer: Term, serial, or balloon maturities
The three types of maturities that bonds can typically be issued with are term, serial, or balloon maturities. Note that there is no series maturity type.
- Which of the following statements is most accurate about feature benefits?
- The put feature benefits both the issuer and investor.
- The put feature benefits the issuer; the call feature benefits the investor.
- The call feature benefits the issuer; the put feature benefits the investor.
- The call feature benefits both the issuer and investor.
Correct answer: The call feature benefits the issuer; the put feature benefits the investor.
The call feature allows the issuer to call in old bonds at a high rate of interest and then issue new bonds at a lower rate, similar to refinancing a high interest rate loan. The put feature allows the investor to sell the bond back to the issuer at par when the bond market value has declined, thus avoiding a loss.
- The market forces that typically drive the price of a bond trading in the secondary market would include all of the following except
- The price of the issuer's stock
- Supply or availability of the bond
- Interest rates
- Investors' demand for the bond
Correct answer: The price of the issuer's stock
Bond prices can be impacted by the usual market forces that impact securities in general, such as supply and demand. Additionally bond prices, they have an inverse relationship to interest rates.
- At the time of maturity, an investor realizes that the overall return on the investment was actually greater than the coupon rate stated on the bond when purchased. This most likely would have occurred because the bond had initially been purchased
- At a discount
- As a callable bond
- At a premium
- At par
Correct answer: At a discount
Bonds are redeemed at par. When a bond is purchased at a discount (less than will be received at the time the bond matures), that discounted amount will increase the overall return of the bond, making it greater than the coupon rate. If the discount bond is called before it matures, the increased return due to the discount purchase would still occur but would now be accelerated.
- The time to maturity for debt instruments
- Can be any length of time
- Can never be longer than 30 years
- Must always be between 5 and 30 years
- Can never be shorter than 5 years
Correct answer: Can be any length of time
While 5- to 30-year maturities are common, the length of time to maturity can be shorter or longer.
- A bond has been structured so that the principal of the entire issue matures on a single date. This is what type of bond?
- Balloon
- Serial
- Term
- Single maturity
Correct answer: Term
Term bonds are structured so that the principal of the entire issue is all payable on the same date—the maturity date.
- Which of the following would be least likely to directly impact a bonds yield?
- Time to maturity
- Number of bonds in the issue
- Current interest rates
- Issuer's credit quality
Correct answer: Number of bonds in the issue
A bond's yield expresses the cash interest payments in relation to the bond's value. Yield is determined by the issuer's credit quality, prevailing interest rates, time to maturity, and any features the bond may have. The number of bonds in a single issue is generally determined by how much capital the issuer needs to borrow at the time of issue, while its yield is something that will fluctuate as the bond trades in the secondary market and gets closer to maturity.
- A certificate stating a borrower's obligation to pay back a specific amount of money on a specific date to an investor is
- An ownership certification
- A bond
- A stock certificate
- A bond or stock power
Correct answer: A bond
A bond is best described as a certificate stating a borrower's obligation to pay back a specific amount of money on a specific date to an investor. A bond certificate also states the borrower's obligation to pay the investor a specific rate of interest for the use of the funds.
- The coupon rate on a debt security represents
- The principal amount loaned to the issuer
- The principal amount due to the investor at maturity
- The interest rate the investor has agreed to pay the issuer
- The interest rate the issuer has agreed to pay the investor
Correct answer: The interest rate the issuer has agreed to pay the investor
The coupon rate on a debt security represents the interest rate the issuer has agreed to pay the investor for use of the funds loaned to the issuer.
- Bonds can be issued with additional features attached, making them more attractive to investors. All of the following can be considered such features except
- Puttable
- Callable
- Convertible
- Maturity
Correct answer: Maturity
The features most commonly attached to a bond issue would be having the bond be callable, puttable ( a bond with a put feature), or convertible. Each of these features in its own way might make the issue more attractive to an investor. All bonds have a stated maturity, and as such, this would not be considered an additional feature.
- For a callable bond priced at a discount,
- Yield to maturity (YTM) will be lower than the yield to call (YTC)
- Yield to maturity (YTM) will equal yield to call (YTC)
- Yield to call (YTC) will be lower than the coupon
- Yield to call (YTC) will be lower than the current yield (CY)
Correct answer: Yield to maturity (YTM) will be lower than the yield to call (YTC)
For callable bonds trading at a discount, YTC will be the highest possible yield, higher than YTM, CY, and the coupon (stated or nominal) yield.
- Two benefits of owning preferred stock over common stock are
- Priority for payment of dividends ahead of wages and taxes and liquidation priority over wages
- Priority over subordinate bonds at liquidation and of dividends
- Priority at liquidation and payment of dividends
- Rising interest rates are a positive for market value and dividends are guaranteed
Correct answer: Priority at liquidation and payment of dividends
Liquidation and payment of dividends are two areas in which preferred stock has a benefit over common stock. Dividends are not guaranteed and rising interest rates are a negative. Preferred gets paid after debt, wages, and taxes.
- The coupon payable on a bond may also be referred to
- The stated or principal yield
- The nominal or principal yield
- The term or serial yield
- The stated or nominal yield
Correct answer: The stated or nominal yield
The coupon rate is also called the stated or nominal yield. It is the rate of interest the issuer has agreed to pay the investor for use of the funds loaned to the issuer.
- If a callable bond is priced at par, which of the following is true?
- Current yield (CY) is greater than yield to maturity (YTM).
- Current yield (CY) is less than yield to maturity (YTM).
- Current yield (CY) equals yield to call (YTC).
- Yield to maturity (YTM) is less than yield to call (YTC).
Correct answer: Current yield (CY) equals yield to call (YTC).
For any bond priced at par, all of the yields are equal; nominal = CY = YTM = YTC if callable.
- Which of the following expressions describes the current yield of a bond?
- Yield to maturity divided by current market price
- Yield to maturity divided by par value
- Annual interest (coupon) payment divided by par value
- Annual interest (coupon) payment divided by current market price
Correct answer: Annual interest (coupon) payment divided by current market price
The current yield on a bond is calculated by dividing the annual interest (coupon) payment by the current market price of the bond: Annual coupon payment÷market price=current yield.
- A serial bond is best described as
- Debt structured so that the principal of the whole issue matures at one time
- The issuer repaying part of the bond's principal before the final maturity date, but paying off the largest portion of the bond at maturity
- Bonds in which the principal is secured by food-quality grains
- Portions of bond principal scheduled to mature at intervals over a period of years until the entire balance has been repaid
Correct answer: Portions of bond principal scheduled to mature at intervals over a period of years until the entire balance has been repaid
A serial bond issue schedules portions of the principal to mature at intervals over a period of years until the entire balance has been repaid.
- All of the following are corporate secured bonds except
- Equipment trust certificates
- Debentures
- Mortgage bonds
- Collateral trust certificates
Correct answer: Debentures
Debentures are unsecured. Mortgage bonds are backed by property. Equipment trust certificates are backed by equipment. Collateral trust certificates are backed by securities.
- Par value for a bond is also known as
- Stated or coupon yield payable annually
- Principal value or the amount of interest the bond pays annually
- Face value or the amount a bond will be redeemed for at maturity
- Face value or the amount of interest the bond pays annually
Correct answer: Face value or the amount a bond will be redeemed for at maturity
Par value (usually $1,000) is the face value of a bond or the amount a bond will be redeemed for by the investor at maturity.
- Interest is best described as
- The amount the borrower receives from a lender
- The amount that an investor lends to a borrower
- A specific rate of return the lender pays the borrower over the life of the loan
- A specific rate of return the borrower pays the investor for use of the funds
Correct answer: A specific rate of return the borrower pays the investor for use of the funds
Interest is the rate of return above the principal sum received by a lender (investor) from a borrower. Interest is rate of return the investor receives for use of the funds over the life of the loan.
- An investor lending money to an entity receives back the principal amount of the loan on
- The record date
- The payable date
- The maturity date
- The interest payment date
Correct answer: The maturity date
The date that the principal amount of a loan is due to be paid back to an investor is known as the maturity date.
- The coupon for a bond is calculated as a percentage of
- Current market value for a bond
- Par value, usually $10 for a bond
- Par value, usually $100 for a bond
- Par value, usually $1,000 for a bond
Correct answer: Par value, usually $1,000 for a bond
The coupon rate on a bond is calculated as a percentage of par value. While par value can be any amount the issuer determines it to be, it is usually $1,000 for bonds and should be assumed to be so, unless it is indicated otherwise.
- An investor holds a 6% callable bond purchased at 105. If the issuer calls the bond before maturity, the yield to call (YTC) realized by the investor would be
- Greater the current yield (CY)
- Less than the coupon
- Greater than the yield to maturity (YTM)
- Equal to the yield to maturity (YTM)
Correct answer: Less than the coupon
When a bond purchased at a premium (105) is called before it matures, the accelerated premium loss is reflected in the calculated yield to call (YTC). In this light, remember that the YTC is always the lowest of all possible yields for premium bonds, less than the coupon, CY, and YTM.
- A bond has a 7% coupon and is currently offered at a price of 102. Which of the following yields could be the yield to maturity (YTM) for this bond?
Correct answer: 6.55%
For a bond trading at a premium (102), the ranking of yields from lowest to highest is yield to call (YTC), YTM, current yield, and nominal yield. Therefore, the YTM for this bond must be less than the nominal yield of 7%.
- If the dollar price of a municipal bond is 101 and the basis is 6.10, the nominal yield is
- Equal to the yield to maturity (YTM)
- 6.10.
- Greater than 6.10
- Less than 6.10
Correct answer: Greater than 6.10
For bonds trading at a premium (101), the nominal yield (or coupon) is higher than the basis (YTM). For bonds at a premium, yields from lowest to highest are yield to call (YTC), YTM, current yield, and nominal yield.
- With a balloon maturity,
- Only interest is paid on the final maturity date with principal paid on the serial dates
- The major portion of the principal debt is paid over scheduled seral maturity dates
- Interest only is paid on the serial dates with all principal paid on the final maturity date
- The major portion of the principal debt is paid on the final maturity date
Correct answer: The major portion of the principal debt is paid on the final maturity date
With a balloon maturity, the issuer repays part of the bond's principal before the final maturity date over scheduled serial maturity dates, but pays off the major portion of the bond principal on the final maturity date.
- An investor holds a 5% bond callable in six years and maturing in eight years. The bond's current yield (CY) measures its annual coupon payment relative to
- Its market price
- Its value at maturity
- Its value when callable
- Par value
Correct answer: Its market price
The CY measures a bond's annual coupon payment (interest) relative to its market price, as shown in the following equation: annual coupon payment÷market price=current yield.
- The relationship between fixed-income prices and prevailing interest rates is
- Inverse
- Adverse
- Reverse
- Coterminous
Correct answer: Inverse
As interest rates (yields) increase, the price of outstanding debt decreases and vice versa. The resulting relationship is called an inverse relationship.
- An investor owns a bond with a 3.5% nominal yield making semiannual interest payments. On each interest payable date, the investor can expect to receive how much?
- $17.50
- $350.00
- $35.00
- $175.00
Correct answer: $17.50
A bond with a nominal yield of 3.5% pays $35 in interest annually (3.5%×$1,000 par value). Given the bond makes semiannual interest payments, each of those payments would be in the amount of $17.50.
- When a bond is purchased at a discount the current yield will be
- The same as the nominal rate
- Lower that the stated rate
- Lower than the fixed rate
- Higher than the coupon rate
Correct answer: Higher than the coupon rate
The coupon rate, the stated rate, the fixed rate, and the nominal rate all mean the same thing. It is the amount the bond will pay each year. On a discount bond the current yield is always higher than the coupon rate.
- Your client, Dana McCann, just purchased a 20-year City of Salt Lake School District bond for $800. The bond has a stated rate of 4%. The current yield is
Correct answer: 5%.
The formula for current yield is the stated rate (coupon rate) divided by the current market price: $40 ÷ $800, which in this case equals 5%.
- An investor purchased 100 shares of Acme Shoelace stock for $20 per share. Four years later, the investor sold the stock for $28 per share. This investor would report these transactions, on a per share basis, as
- $20 return of capital, $28 return on investment.
- $20 cost base, $8 capital gain.
- $28 capital gain.
- $28 return on investment.
Correct answer: $20 cost base, $8 capital gain.
The price paid for a security is known as the cost base for the transaction. If the security is later sold for more than the cost base, the difference is a capital gain; if for less, it is a capital loss. This investor paid $20 per share, the cost base. Later, selling the stock for $28, the investor made an $8 capital gain per share. Of the total $28 price of the security, upon sale, $20 could also be called return of capital.
- When a bond is purchased at a premium, the current yield will be
- Higher than the stated rate
- Lower than the coupon rate
- The same as the nominal rate
- Higher than the fixed rate
Correct answer: Lower than the coupon rate
When a bond trades at a premium (above par), its current yield is lower than the coupon rate, because the fixed annual coupon is divided by a market price higher than $1,000 par.
- An investor notices that a bond purchased several years ago at 95 is now priced at 90. The investor sells the bond for 90, then immediately repurchases it for 90. This action is known as
- Matched orders
- Pegging
- Marking the close
- A wash sale
Correct answer: A wash sale
The investor's intent with this wash sale is to declare a $50 capital loss without changing positions on the bond. Immediate repurchase is not illegal, but it precludes declaring the loss for tax purposes. The investor must wait at least 30 days before buying the bond back, or the loss will be disallowed.
- Which of the following is a benchmark for small cap stocks?
- Dow Jones Industrial Average
- Wilshire 5000
- Standard and Poor's 500 Index
- Russell 2000® Index
Correct answer: Russell 2000® Index
The Russell tracks 2,000 small company stocks.
- Which of the following would be considered earned income?
- Interest received from a bond investment
- The premium kept from an unexercised short put
- Dividends received from a stock investment
- Bonus received from employment
Correct answer: Bonus received from employment
Earned income is received as the result of participating in trade or business, the generation and/or sale of goods and/or services—in other words, from work. The other choices are earnings from investments and are known as portfolio income.
- All of the following are investment income except
- Dividends from ADRs
- Dividends from a mutual fund
- Running a business
- Interest from a bond
Correct answer: Running a business
Earnings from running a business is considered earned income.
- What are the two basic types of return on an investment?
- Interest and principal
- Capital gains and income
- Dividends and interest
- Short term and long term
Correct answer: Capital gains and income
Upon the purchase of a security, the investors may receive dividends or interest, which are forms of income, or they may sell the security for a different price than was paid for it, which represents a capital gain or loss.
- Which of the following is a benchmark for large cap stocks?
- Standard and Poor's 500 Index
- Dow Jones Utilities Index
- Russell 2000® Index
- Wilshire 5000
Correct answer: Standard and Poor's 500 Index
The Standard and Poor's 500 Index is an index of 500 large companies.
- All of the following are true regarding market indexes except
- They are performance standards investors can monitor
- They track single stocks rather than hypothetical portfolios
- They can be used to compare against the performance of one's portfolio
- They can demonstrate the overall direction of the market
Correct answer: They track single stocks rather than hypothetical portfolios
Indexes such as the DJIA or the S&P 500 are hypothetical portfolios, not single stocks. While there's no single standard or benchmark, an index can be used as a performance standard one can monitor and therefore judge the performance of a portfolio or investment against. When we refer to the stock market's performance in general, we are most likely referring to the performance of an index or average that tracks stocks or bonds. These benchmarks can serve as an indicator of the overall direction of the market as a whole, or the direction of individual market sectors.
- Earned income would include all the following except
- Year-end bonuses
- Dividends earned on mutual funds
- Commission on sales for a real estate agent
- Tips
Correct answer: Dividends earned on mutual funds
Earned income includes wages, salary, tips, bonuses, and income from active participation in a trade or business.
- 6% XYZ debentures are trading for $1,200 while similarly rated bonds are being offered at 4.5%. What is the current yield on the 6% XYZ debentures?
Correct answer: 5%
Current yield is defined as the annual income (or coupon rate) from a bond divided by the bond's current market price ($60 ÷ $1,200 =0.05 or 5%). Accordingly, the current yield (5%) is lower than the coupon rate (6%) because the bond is trading at a premium.
