Series 66 Addendum May 2012

Transcription

1 Series 66 Addendum May 2012 This Addendum should be used only after you have completed reading the 42nd Edition of the Series 66 Study Manual and have taken our final exams. It consists of a few pages of text designed to supplement the Study Manual as well as additional questions with explanations. The Regulatory Outline has not changed. This Addendum represents STC s continuing commitment to provide the most up-to-date content to our clients. ATTENTION: Since some of the information from these questions is not found in the Study Manual, we strongly recommend that you read the explanations to these questions carefully. If at any time you have questions about content, call our instructor Hotline at STC-EXAM.

2 Copyright 2012 Securities Training Corporation. ALL RIGHTS RESERVED. No part of this publication may be reproduced, stored in a retrieval system, or transmitted, in any form or by any means, electronic, mechanical, photocopying, recording, or otherwise, without the prior written permission of Securities Training Corporation (STC). This copyrighted material was designed for your personal use only and is sold under the agreement that this course material, or any part thereof, will not be sold, shared, or distributed, by any means whatsoever, to another individual without the prior written, or as required by law or by any regulatory authority, consent of Securities Training Corporation; 17 Battery Place, New York, NY This material is designed to provide accurate and authoritative information in regard to the subject matter covered. The information provided does not constitute a recommendation for the purchase or sale of any securities, the modification of a securities portfolio or the offering of investment advice. This material is sold with the understanding that the publisher is not engaged in rendering legal or investment advisory services. STC cannot make any representation that the information provided herein will constitute compliance with the guidelines, regulations or requirements of the SROs, the SEC, state regulators, or any other governing authority. Compliance with all regulatory requirements is the sole responsibility of each member firm. It is expressly understood that STC is not responsible for any fines, penalties, forfeitures, or any other liabilities which may arise or be imposed related to compliance with any regulatory requirements. Copyright Securities Training Corporation, All Rights Reserved. 2

3 Federal Covered Securities The chart on page 2-10 has been updated. Please add the following information to Chapter 5 Qualified Client Performance fees (percentage of profit) are generally prohibited, but are allowed for qualified clients. The financial test for qualified clients has been adjusted upward to: P Assets under management of at least $1 million or P A net worth of more than $2 million Description Before Dodd-Frank After Dodd-Frank Assets Under Management (First Threshold) Less than $25 million Adviser must register with the state Less than $100 million Adviser must register with the state Assets Under Management (Second Threshold) Assets Under Management (Third Threshold) Adviser required to register in multiple states Employee Benefit Plan Size $25 million up to $30 million Adviser may choose to register with either the state or the SEC $30 million or more Adviser must register with the SEC If required to register in 30 or more states, advisers can register with the SEC instead Pension consultants to employee benefit plans with $50 million or more in assets must register with the SEC $100 million up to $110 million Adviser may choose to register with either the state or the SEC $110 million or more Adviser must register with the SEC If required to register in 15 or more states, advisers can register with the SEC instead Pension consultants to employee benefit plans with $200 million or more in assets must register with the SEC Copyright Securities Training Corporation, All Rights Reserved. 3

4 Please add the following information to Chapter 12 Net Present Value Example WTW Construction has decided to venture into the moat building business. The equipment needed, a Moat-o-Maker, is going to cost $100,000. WTW has already received orders to build one moat in each of the next six years, which will result in a positive cash flow of $25,000. WTW s internal rate of return is 10%. How will WTW determine if investing in the Moat-o-Maker is a good decision? WTW should complete a net present value (NPV) calculation. WTW can determine the present value of the future cash flows and compare the total to the amount of money invested. If the difference is positive, the equipment is worth the investment. If the result is negative, WTW should not invest in the Moat-o-Maker. Let us look at the result. Amount invested $100,000 Internal rate of return 10% Expected annual cash flow $25,000 Number of years invested 6 Year Cash Flow Present Value Calculation Present Value 1 $25,000 $25,000 (1.10) $22,727 2 $25,000 $25,000 (1.10) 2 $20,661 3 $25,000 $25,000 (1.10) 3 $18,782 4 $25,000 $25,000 (1.10) 4 $17,075 5 $25,000 $25,000 (1.10) 5 $15,522 6 $25,000 $25,000 (1.10) 6 $14,111 Cost of equipment $100,000 Total present value of future cash flows $108,878 Net present value $8,878 Since the NPV is positive, WTW should move forward with the purchase of the Moat-o-Maker. Copyright Securities Training Corporation, All Rights Reserved. 4

5 Series 66 Additional Questions 1. All of the following risks are considered types of unsystematic risk, EXCEPT: a. Political risk b. Business risk c. Credit risk d. Market risk 2. Rather than utilizing a custodian, an investment adviser chooses to maintain custody of customer assets. According to the Investment Advisers Act of 1940, the adviser is required to: a. Verify client funds and submit to an unannounced annual audit by a CPA b. Submit to an unannounced annual audit by the SEC c. File Form ADV-E with the SEC d. Have a qualified custodian verify the clients' funds and securities 3. Which of the following would NOT be important when analyzing the issuer and price of a fixedincome security? a. The current and anticipated rate of inflation b. The investor's age c. The issuer's balance sheet d. The prevailing interest rate set by the Federal Reserve Board 4. All of the following are examples of derivatives, EXCEPT: a. CBOE call options b. Interest-rate swaps c. UIT municipal bond units d. XYZ common stock warrants 5. The investment policy statement of a qualified retirement plan is best characterized as a: a. List of transactions that the plan's fiduciaries are prohibited from performing b. Written document that describes the plan's investment objectives and guidelines c. Written document that, if distributed to participants in 404(c) plans, relieves fiduciaries of liability for investment losses d. Required document of permissible investments, otherwise known as the legal list 6. Which of the following is the BEST description of a hedge fund? a. A stock club with 30 investors who each decide on the securities in which to invest b. An investment adviser that manages the assets of 10 high-net-worth investors c. A partnership of 55 high-net-worth investors in which only one of the partners manages the fund for a fee d. A venture capital firm raising capital for a new business 7. Which one of the following statements regarding variable annuities is FALSE? a. Investors may invest in various asset classes inside of a variable annuity b. On average, mutual funds have lower fees and expenses than annuities c. In a variable annuity, your investment grows tax-deferred d. On average, variable annuities have lower fees and expenses than mutual funds 8. A 70-year-old retiree is very risk-averse, but needs to generate investment income. She is not wealthy and is in a low tax bracket. Which of the following investments will BEST meet her needs? a. A long-term municipal bond fund b. A growth mutual fund c. A certificate of deposit d. A diversified portfolio of stocks with covered calls written against them 9. Under the Uniform Securities Act, all of the following individuals meet the definition of an agent, EXCEPT: a. A person selling stocks that are listed on the NYSE b. A person advising clients about securities for compensation c. A person effecting securities transactions and not receiving commissions d. A person representing an insurance company in the sale of variable annuities Copyright Securities Training Corporation, All Rights Reserved. 5

6 10. A small business owner enters your office with multiple insurance policies issued by many different companies. She has over $600,000 of coverage that expires in five years. Which of the following statements BEST describes the policies? a. The policies are term life b. The policies are whole life c. The policies are variable universal life d. The policies are variable life 14. Limited partners of a real estate limited partnership would be limited to a potential loss of: a. Their initial investment plus any unpaid amounts to which they had committed to pay b. Their initial investment plus any real estate shared by the partners c. Their initial investment plus the total amount of money borrowed by the partnership d. Their initial investment 11. An IAR is experiencing financial difficulties and asks one of his clients for a loan. After the client tells the IAR that she does not have any funds available to loan, the IAR recommends that the client sell some of her securities holdings and then lend him the money. According to the Uniform Securities Act, the IAR has: a. Acted in an unethical manner and violated his fiduciary duty b. Churned the client's account c. Commingled the client's assets with his own d. Converted the client's cash for his own use 12. Which of the following persons would be required to register as an investment adviser under the Uniform Securities Act? a. A federal covered adviser b. An accountant who provides investment advice that is incidental to her tax practice c. A bank's trust department that provides feebased investment advice d. The publisher of a financial periodical that responds to each subscriber with personalized investment advice 13. Under the Uniform Securities Act, which of the following advisers meets the definition of a federal covered adviser? a. An adviser whose recommendations are solely based on exchange-traded securities b. An adviser who has a place of business in only two states c. An adviser who is registered with the SEC under the Investment Advisers Act of 1940 d. An adviser whose recommendations are solely based on U.S. government securities 15. Which of the following statements is FALSE regarding discounted cash flow methods used to evaluate an investment? a. Net present value is a discounted cash flow method b. Internal rate of return is a discounted cash flow method c. Holding period return is a discounted cash flow method d. Discounted cash flow calculations consider cash inflows, outflows, and the time value of money 16. An investment adviser typically charges its clients $500 for an initial meeting, which includes a needs assessment. In order to attract more clients, the adviser decides to advertise a special deal. Free of charge for new clients who pay the $500 fee, the adviser will reimburse clients for the costs associated with preparing their state and federal tax returns. Under which of the following circumstances would this advertisement be acceptable? a. The adviser states that this is a limited time offer and discloses when it ends b. The adviser removes the word free since the client must pay $500 for this service c. The adviser files the advertisement with the SEC and receives approval d. The adviser offers this free service to all advisory clients 17. Which of the following is considered to be part of an investment adviser's fiduciary duty? a. To ensure that disputes are settled through arbitration b. To ensure that all investment advice is impartial and disinterested c. To ensure that client accounts are managed in an identical manner d. To ensure that orders are separated by client Copyright Securities Training Corporation, All Rights Reserved. 6

7 18. Under the Investment Advisers Act of 1940, a solicitor may not receive a cash payment unless: a. The solicitor is registered as an investment adviser b. The solicitor is affiliated with the firm and registered as an investment adviser representative c. The solicitor is paid an amount that is less than $500 per year d. The solicitor has a written agreement in place with the investment adviser for whom he solicits 19. An advisory client owns a small business and inquires about whether he should set it up as a partnership or a corporation. Which of the following would be the BEST reason to set up a partnership? a. The owners have limited liability b. It is easy to raise capital and attract new investors in a partnership c. There is free and unrestricted transfer of shares d. Setting up a partnership is easier than establishing a corporation 20. All of the following details regarding a Coverdell Education Savings Account are TRUE, EXCEPT: a. Contributions are limited to $2,000 annually b. Contributions are always tax-deductible c. Taxpayers whose income is above a stated level are not allowed to make contributions d. Withdrawals are generally tax-free if used for educational purposes 21. An investment adviser representative (IAR), who is also a member of a tennis club, offers club members discounted fees if they hire his firm to manage their money. The adviser makes full disclosure of this fact in both the brochure and in its ADV Part 2. Which of the following statements is TRUE? a. Discounted fee arrangements are a violation of the Uniform Securities Act b. This arrangement would be a violation since the fees paid by nonmembers would be excessively higher than the fees paid by members c. Discounted fee arrangements are allowed, but not in this case since nonclub members are being discriminated against d. This is an ethical practice since the details of the discounts have been properly disclosed in the brochure and ADV Part Which of the following securities may have their registration denied or revoked by the Administrator? a. Securities issued by a nonprofit organization b. Municipal bonds c. Stock issued by a bank that is chartered in a different state d. U.S. Treasury bonds 23. An investment adviser is registered in State A and transacts business through a broker-dealer that is registered in State A and with the SEC. What may the Administrator in State A require the brokerdealer to file with its office? a. Copies of all financial statements that are required by the SEC b. Its personal financial statements if it is owned as a sole proprietorship c. Copies of all of its tax returns for the past six years d. Its personal tax return for the past year if it is owned as a sole proprietorship Copyright Securities Training Corporation, All Rights Reserved. 7

8 24. Which of the following statements is TRUE regarding the Capital Asset Pricing Model (CAPM)? a. CAPM is used to calculate risk-adjusted rates of return b. CAPM is used to calculate total return c. CAPM is used to compare expected rates of return d. CAPM is used to compare average rates of return 25. A client of a broker-dealer calls his agent and informs him that he is interested in buying a specific stock when the price is right. The client has just left town on vacation and cannot be reached when news breaks that the agent believes will drive the price of the stock significantly higher. What should the agent do in this situation? a. Ask his supervisor for discretionary authority and, if granted, execute the trade b. Buy the security in his own account and then sell it to the client at the same price when he returns c. Do nothing since he is unable to reach the client d. Execute the trade since the current price is the best price 26. An employee of an investment company is negotiating a contract with an investment adviser. The adviser wants to charge the company a 2% management fee plus 20% of any appreciation realized in any given quarter. The investment company is not opposed to the idea, but in order to comply with the law, the company must: a. Consist of stockholders who are all qualified clients b. Have assets under management of at least $1 million or a net worth of more than $2 million c. Have a majority owner who is a qualified client d. Primarily consist of stockholders who would be considered qualified clients 27. If an investor owns a portfolio of fixed-income securities, to which of the following risks would an investor be subject? I. Interest-rate risk II. Inflation risk III. Credit risk IV. Opportunity risk a. I only b. I, II, and III only c. I, III, and IV only d. I, II, III, and IV 28. Which feature of a deferred compensation plan is generally considered to be a disadvantage? a. The plan must be made available to all employees regardless of tenure b. The plan has a short vesting period c. Unless the plan is funded by the end of the year, the employer will be subject to harsh penalties for breaching its fiduciary duty d. The plan is not tax-deductible 29. Which of the following positions would expose the customer to the greatest possible loss? a. Buy 1,000 shares of Netflix at 200 and sell 10 Netflix July 210 calls b. Buy 10 Netflix June 200 calls and sell 10 Netflix June 220 calls c. Buy 1,000 shares of Netflix at 200 and buy 10 Netflix June 200 puts d. Short 1000 shares of Netflix at 200 and buy 10 Netflix July 210 calls 30. An investment adviser's client base is limited to insurance companies. If the adviser has its only office in State A, with whom must it register? a. With the SEC under the Investment Advisers Act of 1940 and with State A using the coordination method under the Uniform Securities Act b. With the SEC under the Investment Advisers Act of 1940 and notice file with State A c. With the SEC under the Investment Advisers Act of 1940 only d. With State A under the Uniform Securities Act, but not with the SEC under the Investment Advisers Act of 1940 Copyright Securities Training Corporation, All Rights Reserved. 8

9 31. An advisory firm has thirty individuals who are registered as IARs. What record is the investment adviser required to keep in regard to its IARs? a. The initial application for each IAR b. A copy of the driver's license or passport for each IAR c. A copy of the fingerprints obtained from law enforcement for each IAR d. The securities screening and background check for each IAR 32. According to the Uniform Securities Act, when do all broker-dealer registrations expire? a. When all offices in the state are closed b. When the broker-dealer no longer has any clients in the state c. On the anniversary date of their original registration filing d. On December Two years ago, in her personal account, a portfolio manager invested in, and continues to hold, stock that was issued through a private placement. Today, the company is going public and she recommends that same company's stock to her clients. The portfolio manager has just: a. Violated FINRA's new issue rule b. Engaged in insider trading c. Created a conflict of interest d. Commingled customer cash 34. Under the Uniform Securities Act, all of the following statements are TRUE regarding the requirements for investment advisers that have a place of business in a state, EXCEPT: a. They may be required to file financial reports with the Administrator b. They must retain records as required by the Administrator c. The Administrator will inspect their books and records annually d. They are required to update their registration statement promptly if it becomes materially inaccurate 35. Under the Securities Act of 1933, with whom are nonexempt issuers required to file registration statements? a. FINRA b. Only the state in which the issuer is headquartered c. Only the state in which the securities will be sold d. SEC 36. According to NASAA's model rules, which of the following is NOT required to be disclosed to a client when an investment adviser renews or extends its contract? a. The formula used to calculate its investment advisory fee b. The length of the contact c. Any prepaid fees or penalties assessed to clients who elect to cancel the contract d. The investment adviser's level of experience 37. Which of the following statements is/are TRUE of an investment adviser who takes custody of cash and securities belonging to its customers? I. The funds must be deposited into one or more separate accounts that only contain customer funds. II. The adviser may combine customer cash with its own if proper disclosure is made. III. The adviser must also be registered as a broker-dealer with the Administrator. IV. The adviser must disclose to its clients both the location and manner in which the securities are held. a. II only b. I and III only c. I and IV only d. II, III, and IV only 38. Which of the following terms BEST describes the process for calculating future value? a. Annualizing b. Discounting c. Amortizing d. Compounding Copyright Securities Training Corporation, All Rights Reserved. 9

10 39. According to the Uniform Prudent Investor Act, when a trustee makes an investment decision for a trust with multiple beneficiaries, it would be considered suitable when evaluating: a. The beneficiaries' investment strategies and the needs of the entire portfolio b. The individual trade and the beneficiaries' needs c. Both the trustee's overall strategy and the needs of the entire portfolio d. The beneficiaries' needs and investment strategies 40. Which of the following would NOT be considered an income strategy? a. One that always excludes covered call writing b. One that sacrifices growth c. One that includes mostly bonds and preferred stocks in a portfolio d. One that minimizes risk while seeking steady income 41. A portfolio manager has recently taken his client's equity holdings out of technology stocks and moved them into manufacturing stocks. The manager has historically moved client funds from one industry to another during defined periods. What is this type of strategy called? a. Dollar cost averaging b. Sector rotation c. Asset rebalancing d. Portfolio rebalancing 42. Every investment advisory contract must be in writing and it must include which of the following provisions? a. A statement that assignment of the contract is prohibited b. A statement that defines the length of time for which the services are contracted c. A statement that limits the investment adviser's liability to $500,000 per client d. A statement that fully explains the percentage of the capital gains that will be shared with the adviser 43. Under the Uniform Securities Act, even if an investment adviser representative has no place of business in a state, he must register there if all of his clients are: a. Other investment advisers b. Large employee benefit plans c. Accredited investors d. Mutual funds 44. A wrap fee program is best described as: a. A program in which a client pays a flat fee for investment advice b. A program in which a client pays a flat fee for both transaction costs and investment advice c. A program in which a client pays for services as he uses them d. A program that, for a fee, provides guaranteed returns 45. When an investor buys a call option, she is considered: I. To have a leveraged position II. To be protected if she is currently short the underlying stock III. To have limited risk IV. To be bullish a. I and II only b. I, II, and IV only c. I, III, and IV only d. I, II, III, and IV 46. An efficient market is one with: a. Narrow or small spreads between the bid and ask prices b. Computerized trading and reporting c. A trading floor d. Uniform rules and procedures 47. When managing a portfolio of bonds, which of the following would be considered a passive investment strategy? a. Buy and hold b. A bond barbell strategy c. An immunization strategy d. An interest-rate anticipation strategy Copyright Securities Training Corporation, All Rights Reserved. 10

11 48. Which of the following should NOT be considered by an investment adviser that is managing the assets of a trust? a. How inflation may impact the value of the trust's investments b. The general condition of the stock and bond markets c. The grantor's tax situation d. The beneficiary's investment needs and other financial resources 49. If a company registers its offering with a state Administrator using coordination, it would also file a registration statement under which federal act? a. The Securities Act of 1933 b. The Securities Exchange Act of 1934 c. The Investment Company Act of 1940 d. None of the above, since it would be an exempt transaction 50. Under the Uniform Securities Act, an IA would MOST LIKELY need to be registered in a state if it has no place of business in the state but its: a. Clients are all investment advisers b. Clients are all considered accredited investors c. Clients are all banks or insurance companies d. Business communication is directed to five or fewer individual potential clients 51. Which of the following is the BEST hedging strategy if a client is long 1,000 shares at $42? a. Short 45 puts b. Long 40 puts c. Short 40 calls d. Long 45 calls 52. Under the Investment Company Act of 1940, which of the following situations requires shareholder approval? I. A mutual fund enters into a contract with an underwriter. II. A mutual fund adviser wants to deviate from its investment policy. III. A mutual fund wants to terminate the existing contract with its investment adviser. IV. A mutual fund wants to use the fund's assets to pay for the cost of distributing shares. a. I only b. II and IV only c. I, III, and IV only d. All of the above 53. An investment adviser representative (IAR) who works for a federal covered investment adviser has engaged in trading that was considered excessive in regard to both the size and frequency of the trades. According to NASAA's model rule, who is responsible in this situation? a. The rules would only apply to the IA b. The rules would only apply to the IAR c. The rules would apply to both the IAR and IA d. The IA would not be responsible since the SEC is the only regulator with jurisdiction over the adviser's activities 54. Which of the following elements are required for an investment contract to be considered a security? I. An investment of money II. An expectation of profits III. A common enterprise IV. Efforts made by a third party a. I and II only b. I, II, and III only c. I, II, and IV only d. I, II, III, and IV Copyright Securities Training Corporation, All Rights Reserved. 11

12 55. A married couple received a $50,000 cash wedding gift and would like to use the money as a down payment on a new home. They anticipate closing on the new home within six months. Which of the following investment(s) would be suitable? I. A money-market mutual fund II. A bank-insured CD III. A diversified portfolio of blue chip stocks a. I only b. II only c. I and II only d. I, II, and III 56. According to the Uniform Securities Act, is an agent of a broker-dealer required to provide its clients with disclosure of a material public fact about an issuer? a. No, since the fact has already been made public and is in the news b. No, since the agent's broker-dealer must check the fact first and preapprove any disclosure c. Yes, firms must provide clients with a written disclosure of all facts for decision-making purposes d. Yes, if the agent's other comments to the customer could be considered misleading without the additional public information 57. Which TWO of the following are characteristics of hedge funds? I. They are mutual funds. II. They are typically sold through a private placement. III. IV. They are registered and heavily regulated. They use leverage, derivatives, short positions, and invest in illiquid asset classes. a. I and III b. I and IV c. II and III d. II and IV 58. An investor who resides in State Y is visiting State X. Before returning to his home, he meets with a friend who is an agent registered in State X. While at a restaurant in State X, the agent convinces the client buy a specific security. Rather than waiting until the client gets home, the agent convinces the client to buy the security now. The client agrees, pays for the purchase, and is told that the confirmation will be sent to his home in State Y. If the agent sold this client an unregistered nonexempt security, which of the following statements is TRUE? a. The Administrators of State X and State Y may take action against the agent b. The Administrator of every state in which the agent is registered may take action against the agent c. Only the Administrator of State Y may take action against the agent d. Only the Administrator of State X may take action against the agent 59. For an investor in the 35% federal tax bracket who is looking to minimize tax liabilities, what would be of LEAST interest? a. Whether to invest in actively managed funds or index funds b. The investment ideas and methodologies of a prospective mutual fund manager c. The percentage of the fund's portfolio that is kept in cash d. The benefits of taxable versus tax-free bonds 60. An investment adviser wants to gain access to equity initial public offerings (IPOs). In order to have more IPO choices, the adviser contacts Jane who is not affiliated with the firm. Jane is not registered with any state Administrator or with the SEC. Jane will charge the firm a finder's fee for any investment secured through her service. Under the Investment Advisers Act of 1940, why is Jane prohibited from accepting payment? a. Because she must be registered as a brokerdealer to sell securities to individuals b. Because the IA could has gone outside its normal broker-dealer research group who could have performed the same service for a lower cost c. Because the investment is not suitable and the clients have never expressed interest in IPOs d. Because Jane is acting as a solicitor for the adviser when she finds the IPOs Copyright Securities Training Corporation, All Rights Reserved. 12

13 61. A federal covered investment adviser currently has five clients in State A. The IA would be required to make a notice filing with the Administrator in State A if it now enters into an advisory contract with which of the following? a. A mutual fund with assets of $1 million and 250 clients b. A bank's trust department using the adviser to manage $250,000 of account assets c. An inter vivos trust account set up for a relative d. A government-authorized investment authority created to manage state funds 62. A broker-dealer is registered in every state, but its only office is located in State X. The Administrator in State X sends a notice to the broker-dealer's compliance department indicating that it is going to audit the books and records of the firm. Does the Administrator in State X have the authority to audit the firm? a. No, broker-dealers may only be audited by the SEC b. Yes, because the Administrator has authority over every broker-dealer c. Yes, because the broker-dealer is registered in State X d. No, because the broker-dealer has no place of business in State X 63. An investment adviser is registered in State X. A new employee is recently hired as an investment adviser representative (IAR), but had previously worked for an adviser in State Y. The IAR still directs client communications with 22 of her clients from State Y, but no longer has a place of business there. Under the Uniform Securities Act, the IAR would be required to register in State Y if six or more of the clients are: a. Insurance companies b. Broker-dealers c. Highly qualified wealthy investors with a net worth of more than $1 million d. Qualified institutional investors 64. According to the USA, if the ownership of a registrant changes, it must do which of the following? a. Notify the Administrator at the time of renewal b. Promptly file a new application with the Administrator c. Promptly file a correcting amendment with the Administrator d. Provide notification of the change to the Administrator by altering its books and records 65. Which of the following is NOT a leveraged investment strategy? a. Buying stock in a margin account b. Investing in a portfolio of securities that were financed with borrowed money c. Borrowing money in an effort to magnify both gains and losses d. Investing in a company with a large amount of debt outstanding 66. An IA has chosen a new money manager to handle one of its client's assets. This manager was selected because of its expertise. Two years later, the money manager changes its approach and begins to make very speculative trades that are unsuitable for the client based on his risk profile. The client loses half of his investment and writes a complaint letter. In this situation, what should the adviser have done? a. Required the money manager to obtain the adviser's consent to change its management style b. Monitored the money manager's activities and detected that the trading was unsuitable c. Reminded the client that it is not managing his money and is not liable d. Informed the client that any complaints should be forwarded to the money manager 67. What is a mid-cap stock called if it has a P/E ratio of 29, while stocks of other similar companies are selling with a P/E ratio of only 19? a. A blue-chip stock b. A consumer goods stock c. A value stock d. A growth stock Copyright Securities Training Corporation, All Rights Reserved. 13

14 68. Which of the following would NOT be an important consideration when conducting a capital needs assessment for a client? a. The rate of inflation b. The client's future anticipated earnings c. The client's life expectancy and retirement needs d. The amount of anticipated volatility in the marketplace 69. The difference between the current ratio calculation and the quick asset ratio calculation is that the quick asset ratio excludes which of the following? a. Current assets b. All assets c. Inventories d. Money-market investments 70. Regarding equity-indexed annuities, which of the following statements is FALSE? a. If the index declines in value, there is a floor as to how much an investor may lose b. If the index increases in value, there is a cap as to how much an investor may gain c. Performance is typically linked to a stock index d. Supervision of the firm's sales practices is not required since these are insurance products 71. Which of the following characteristics may be attributed to a traditional exchange market? I. Prices are determined by auction. II. Prices are determined through negotiation. III. Market makers are called specialists or designated market makers. IV. Securities are referred to as listed. a. I only b. I and IV only c. I, III, and IV only d. II, III, and IV only 72. Which of the following may be included in an advertisement created by an investment adviser (IA)? a. A testimonial from a satisfied customer b. A telephone number that individuals may call to obtain a list of the recommendations made by the IA in the last six months c. A chart that recommends specific stocks to buy or sell this year d. A no-strings-attached offer to furnish a list of all the recommendations made by the IA in the last two years 73. When considering implementing a buy-and-hold strategy for a bond portfolio, a manager should consider which of the following? a. Selecting bonds that mature on the same date b. Only selecting callable bonds c. Only selecting investments with high ratings and yields d. Selecting bonds based on certain criteria and determining their appropriateness by comparing their prices to similar bonds 74. Which of the following is a common feature of a private 457 plan? a. The plans do not follow ERISA guidelines, but are considered qualified b. Employers may discriminate or exclude certain employees from the plan c. Catch-up contributions must be allowed for everyone over 50 years of age d. Deferral elections must be made before April A broker-dealer is a syndicate member involved in a firm-commitment underwriting of a highly anticipated upcoming initial public offering (IPO). During the underwriting, the broker-dealer holds onto some of the shares in order to sell them at a later date since the shares are expected to rise in value. The broker-dealer's conduct is: a. Acceptable if the issuer approves of the trade b. Unethical and prohibited under the Uniform Securities Act c. Allowable only if the shares will be listed on a national exchange d. Acceptable since the broker-dealer is accepting risk that the shares may fall in value Copyright Securities Training Corporation, All Rights Reserved. 14

15 76. Under the Uniform Securities Act, all of the following are exempt from registration as an investment adviser EXCEPT an IA: a. That is owned by a fraternal nonprofit organization b. That has five or fewer clients in the state, but is actively soliciting for more clients c. That limits its advice to clients that are insurance companies in the state d. That owns an accounting practice and occasionally provides advice that is an incidental part of its accounting practice 80. According to the Uniform Securities Act, which of the following statements best describes what it means for a security to be registered? a. The securities and issuer have received Administrator approval b. The information filed with the Administrator has been reviewed by the government and deemed both accurate and acceptable c. The security may be legally offered or sold in the state d. The company's financial condition and business practices are considered sound 77. Which of the following risks would have the greatest impact on a U.S. Treasury zero-coupon bond with an 18-year maturity? a. Liquidity risk b. Market risk c. Reinvestment risk d. Inflationary risk 81. If an adviser wants to evaluate a publicly traded firm's ability to pay down its short-term debt, which ratio would be most appropriate? a. P/E Ratio b. Sharpe Ratio c. Debt Coverage Ratio d. Current Ratio 78. Which of the following statements is TRUE regarding tenancy in common? a. If an owner dies, the assets are directly transferred to the other owner(s) b. Due to the nature of the agreement, each individual's interest is generally more freely transferable c. This form of ownership is only permitted for equal ownership between two married individuals d. If an owner dies, the assets bypass the probate process 79. Under the Investment Advisers Act of 1940, if an individual wants to create her own investment advisory firm, with which authority would she need to file the application? a. The Administrator b. The North American Securities Administrators Association (NASAA) c. The Financial Industry Regulatory Authority (FINRA) d. The Securities and Exchange Commission (SEC) 82. Why would an investment adviser perform a capital needs analysis for a client? a. To determine how much income the client will need at retirement b. To determine how to best reduce the client's tax liability c. To determine how much disposable income the client has available to purchase insurance d. To determine how much insurance the client needs in order to fund future financial goals 83. All of the following would be reasons for a state Administrator to revoke an IA's registration, EXCEPT: a. The adviser filed for personal bankruptcy four years ago b. Discovery that the adviser had violated the Investment Company Act of 1940 c. The adviser was subject to a misdemeanor conviction of securities fraud d. Discovery that the IA violated CFTC rules or regulations established by the Commodities Exchange Act Copyright Securities Training Corporation, All Rights Reserved. 15

16 84. According to the Uniform Securities Act, which of the following securities are exempt from registration? a. Stock issued by a FINRA member firm b. Debentures issued by a Canadian bank c. Stock issued by a state-regulated railroad company d. Preferred stock sold to investors in the same state in which the firm is incorporated 85. An IAR is calculating the internal rate of return (IRR) of a client's investment. While performing the calculation, the IAR assumes that the reinvestment rate of cash flows will equal: a. The nominal interest rate b. The fed funds rate c. The inflation rate d. The internal rate of return (IRR) 86. Kyle and Christina have been friends since high school. Christina is an agent of a broker-dealer, while Kyle is a wealthy musician. Together they open a joint brokerage account. They each deposit $30,000 and agree to split any profits equally. What are the regulations for this arrangement? a. It is acceptable as long as Kyle agrees to it in writing and releases Christina from all liability b. It is acceptable if Kyle, Christina, and Christina's broker-dealer agree to it in writing c. It is acceptable if Kyle and Christina's brokerdealer agree to it in writing; however, since Christina is an agent, she does not need to agree in writing d. This arrangement is never acceptable 87. When would a variable annuity be most suitable for a client? a. When the client wants capital appreciation or growth over a long period b. When the client wants a fixed rate of return c. When the client wants an inflation-adjusted rate of return d. When the client wants to receive a predictable amount of income at retirement 88. Weldon Shalls, an investor, has a portfolio that provides him with a steady stream of income and some capital appreciation. Weldon believes he should diversify his portfolio by investing in an instrument that can provide additional income and the ability to absorb a portion of the investment's expenses. What type of investment vehicle will Weldon most likely choose? a. Real estate investment trust b. Mortgage bond c. Real estate limited partnership d. Listed call options 89. Which of the following statements are TRUE regarding the administrative proceedings under the Uniform Securities Act? I. Denial orders issued by the Administrator are final, binding, and may not be appealed II. Administrators are not permitted to retroactively enforce orders and revocations III. Administrators are permitted to issue summary orders denying certain exemptions IV. The burden of proof for qualifying for an exemption is on the party claiming the exemption a. I and II only b. I, II, and IV only c. II and III only d. II, III, and IV only 90. A variable life insurance contract would be appropriate for all of the following clients, EXCEPT: a. A client who is willing to take market risk b. A client who feels that traditional insurance products do not provide adequate returns c. A client who has sufficient savings to meet her short-term goals d. A client who is young and has just started a family Copyright Securities Training Corporation, All Rights Reserved. 16

17 91. Dan is the CEO of MKM Advisers and also a member of the local golf club. Dan has found that his club membership has provided MKM Advisers with a number of new clients and referrals. In an effort to continue building relationships, Dan decides to charge lower fees to members of the golf club than what nonmembers are charged. The services MKM provides are the same for all of its customers. MKM Advisers provides full disclosure of the special fee arrangement for golf club members in its advisory contracts and in Form ADV Part 2. Based on Uniform Securities Act regulations, which statement BEST describes MKM Advisers' fee arrangement? a. It is always acceptable and does not violate the USA b. For equal services, it discriminates against nonclub members in an unfair manner and is prohibited under the USA c. It causes nonmembers to be charged excessively and is prohibited under the USA d. Since it is properly disclosed in all contracts and in Form ADV Part 2, the arrangement does not violate the USA 92. Which TWO of the following statements are TRUE? I. A customer will sell at the ask. II. A customer will sell at the bid. III. A customer will buy at the bid. IV. A customer will buy at the ask. a. I and II b. II and III c. I and III d. II and IV 93. The owner of a sole proprietorship is responsible for which of the following activities? a. Filing K-1 Forms with the SEC b. Reporting quarterly performance to stockholders c. The hiring of a chief financial officer d. Accurately maintaining all of the necessary business records 94. Which of the following types of risk would have the greatest impact on a 20-year corporate bond during the first year of the investment? a. Interest-rate risk b. Liquidity risk c. Market risk d. Inflation risk 95. Which of the following return calculations removes the distortions caused by the deposit and withdrawal of capital from an investment account over time? a. Time-weighted return b. Dollar-weighted return c. Expected return d. Current yield 96. According to the Uniform Securities Act, the Administrator may require federal covered advisers to: a. Register in every state in which they have a branch office b. Give notice or notice file in any state where they transact business with six or more individual retail clients c. Register with the Administrator in any state where they transact business with six or more individual retail clients d. Do nothing because the Administrator has no jurisdiction 97. Which of the following would be considered a sale of securities? I. A car dealership gives each customer a gift of one free share of stock for buying a new car. II. An investor converts a bond into 50 shares of common stock. III. A minor is named as a beneficiary of a trust containing common stock. IV. An individual inherits a security from the estate of a deceased parent. a. I only b. I and II only c. II, III, and IV only d. I, II, III, and IV Copyright Securities Training Corporation, All Rights Reserved. 17

18 98. An investment adviser will NOT violate NASAA's model rules by charging a different fee to different clients for the same advisory service if: a. The fees are reasonable based on industry standards and are disclosed b. It discloses that the fees are negotiable c. It receives written acceptance from each client d. It provides separate and distinct contracts to each client 99. A firm that is expecting to take its shares public has recently hired a new employee to assist in selling shares to investors. According to the Uniform Securities Act, which of the following statements is TRUE? a. The employee does not have to be registered since the shares are being registered b. The employee is automatically considered to be registered since he was hired before the firm registered c. If the issuer is going to sell stock, it must first register as a broker-dealer d. The employee would be required to register in any state in which he solicits investors 100. A client contacts a firm and indicates his desire to buy a call option on a stock that he already owns. Why would the investor buy a call option on the stock? a. He wants to hedge his position b. He wants to generate income and increase his rate of return c. He wants the ability to buy more shares at a guaranteed price in case the stock goes up d. He wants to reduce his losses 102. Which of the following is dissolved when an owner dies? a. A corporation b. A general partnership c. An S Corporation d. A trust 103. A customer buys a premium bond that is callable. Which of the following would be least beneficial for the customer? a. The bond is called at its par value in five years b. The bond is called at its par value in ten years c. The bond is called at its par value in fifteen years d. The bond is called at its par value in twenty years 104. A growth fund's portfolio manager is analyzing potential common stocks. Generally, she would give which of the following the MOST consideration? a. A company's price-to-book value b. A company's year-to-year earnings momentum c. A company's size d. A stock's current dividend yield 105. All of the following are characteristics of forward contracts, EXCEPT: a. Delivery and settlement of the contracts occurs immediately b. The contracts are negotiated off of an exchange c. The contracts cannot be offset d. The amount and type of the delivered commodity are negotiable 101. Related to a transaction, which of the following actions would cause it to be subject to the laws of State Z? I. The offer and acceptance occur in State Z. II. The offer originates over the phone from State Z and is directed to State A. III. The offer is mailed from State A, directed to State Y, and accepted in State Z. IV. The offer originates over the phone from State Y and the sale occurs in State A. a. I and II only b. II and III only c. I, II, and III only d. I, II, III, and IV 106. According to the Uniform Securities Act, investment advisers must maintain books and records that include which of the following? a. A roster of anyone who attended a seminar conducted by the adviser b. All copies of stock certificates owned by clients c. All originals of stock certificates owned by clients d. All originals and copies of advertisements and sales literature used by the adviser Copyright Securities Training Corporation, All Rights Reserved. 18

19 107. Which of the following would NOT be defined as an affiliated person under the Investment Company Act of 1940? a. An insider who owns more than 10% of an investment company's shares b. An officer or director of an investment company c. The outside legal counsel for an investment company d. An employee of an investment company 108. Kristine has created a business of providing advice regarding the pricing of Nasdaq-listed stocks, but does not effect any of her clients' trades. According to the Uniform Securities Act, she must comply with which of the following? I. Rules related to the broker-dealer's registration II. III. Antifraud provisions Rules related to investment adviser registration a. II only b. I and II only c. II and III only d. I, II, and III 109. According to the USA, if an investment adviser wants to charge a fee based on the average value of a client's portfolio, the fee: a. Is prohibited unless permitted by the Administrator b. Is permitted unless prohibited by the Administrator c. Is always permitted d. Is always prohibited 110. A client creates a limited liability company (LLC). Which TWO of the following statements are TRUE? I. Like a corporation, LLCs provide investors with limited liability. II. The owners who manage the LLC are personally responsible for all debts that are incurred. III. The income earned by the company is taxed like a corporation. IV. The income flows through to investors and is taxed like a partnership. a. I and II b. I and III c. I and IV d. II and IV Copyright Securities Training Corporation, All Rights Reserved. 19

20 Series 65 Explanations 1. (D) Remember, market risk is a form of systematic risk and cannot be avoided by securities investors. For example, if the overall stock market is declining, this will negatively affect all of the stocks in the market. Conversely, unsystematic risk is able to be reduced through appropriate diversification. (67459) 2. (A) If an IA acts as a qualified custodian and holds customer cash and securities, the assets must be subject to an unannounced annual audit by a CPA. At the completion of the audit, the CPA (not the IA) must file Form ADV-E. Choice (b) is incorrect because the SEC lacks sufficient resources to audit every IA on an annual basis. (67626) 3. (B) An investor's age has no effect on the price of a bond. All of the other items listed would impact the value of a bond that trades in the market. For instance, the issuer's balance sheet gives insight into what it owns compared to what it owes at a specific point in time. (67467) 4. (C) Unit investment trusts (UITs) are a type of investment company. UIT units represent a direct investment in a fixed portfolio of securities and are not considered derivatives. All of the other choices are considered derivatives. (67686) 5. (B) The investment policy statement of a qualified retirement plan describes the plan's investment objectives and strategies. For instance, it might describe what kinds of assets to purchase, and what the plan's risk tolerance, time horizons, and long-term goals are. The legal list is a type of state statute that limits fiduciaries to certain types of investments. In contrast, qualified retirement plans are subject to the prudent expert standard outlined in ERISA. (62760) 6. (C) Hedge funds are commonly set up as limited partnerships (LPs). A limited partnership is open to a limited number of investors and generally requires a very large minimum initial investment. The fund manager (general partner) makes all investment decisions, while the other owners (limited partners) have no input and limit their activities to contributing capital. (67670) 7. (D) Mutual funds are often an investment selection within a variable annuity contract. And, since the investor would pay for the cost of the annuity in addition to the costs associated with operating the mutual fund, variable annuities typically have higher fees and expenses. (67480) 8. (C) Since the client is risk-averse, needs income, and is concerned about her principal fluctuating, the best choice is a certificate of deposit. All of the other choices are unsuitable because they are either too speculative or they are taxfree, which provides her with little benefit since she is in a low tax bracket. (67499) 9. (B) An agent is an individual who represents a broker-dealer or an issuer in effecting securities transactions. The person in choice (b) is not an agent since she is providing advice and not effecting securities transactions. It is important to note that the type or amount of compensation received is not a factor in determining whether a person is an agent. (67586) 10. (A) A term life policy expires at the end of a period. The other choices are forms of insurance that are permanent and do not have a specific term. (70127) Copyright Securities Training Corporation, All Rights Reserved. 20

21 11. (A) These actions are unethical and possibly illegal. However, since the IAR is not recommending that the client trade excessively in an effort to generate commissions, this is not a case of churning. Additionally, it is not commingling or conversion since the customer being asked to lend money to the IAR. (67597) 12. (D) Federal covered advisers and trust companies are not subject to registration under the Uniform Securities Act. Lawyers, accountants, teachers, engineers, and publishers are also exempt provided their securities advice is incidental and not timed and tailored to a specific client. In choice (d), the publisher has tailored its investment advice and would therefore be subject to registration. (67617) 13. (C) If an investment adviser registers with the SEC, it is considered federal covered under the Uniform Securities Act. Based on the information provided, the other advisers would not necessarily be federal covered investment advisers. The Investment Advisers Act of 1940 specifically excludes U.S. government securities advisers, choice (d), from the definition of an investment adviser. Therefore, these advisers would be required to register at the state level. (67624) 14. (A) The liability for limited partners may not exceed their initial investment amount plus any agreed-upon future contributions. Generally, limited partners are not liable for the debts of the partnership. However, there are rare cases in which a limited partner will cosign on a loan for the partnership. In such a case, the limited partner's liability is increased. (67739) 15. (C) Holding period return does not discount or compound cash flows. Holding period return is calculated by adding any income, plus capital gains, minus capital losses, and dividing by the value of the initial investment. (67546) 16. (B) In order to advertise a service as free, it must have no strings or fees attached. In this instance, individuals are required to pay $500 to receive the reimbursement for the costs associated with preparing their state and federal tax returns. This is considered a deceptive advertising practice. (67474) 17. (B) Fiduciaries are obligated to put their clients' interests and needs ahead of their own and to offer impartial advice that is tailored to each client's specific goals. Since each client has her own objective, it is a violation of an IA's fiduciary duty to manage all accounts in the same way. Although many IAs separate client orders and require the clients to enter into arbitration, these are not part of their fiduciary duty. (67609) 18. (D) Before soliciting on behalf of an investment adviser, the Investment Advisers Act of 1940 requires solicitors and advisers to have a written agreement in place. The solicitor may be affiliated with the IA or a separate independent entity. Under the Uniform Securities Act, the requirements for solicitors may be different. For example, although it is not required under federal law, a state Administrator may require third-party solicitors to register as an investment adviser representative (IAR). (67635) 19. (D) A partnership is easy to establish and operate, while corporations require more reporting and administration. Partnerships generally do not allow for the free transfer of shares and, if a partner manages the business enterprise, he may be liable for the debts of the partnership. (67478) 20. (B) Contributions to a Coverdell Education Savings Account (CESA) are limited to $2,000 annually and are never taxdeductible. Additionally, contributions are not allowed if the contributor's income exceeds a certain amount. Withdrawals from the account are tax-free if used for qualified educational expenses. (67689) 21. (D) It is not a violation of the Uniform Securities Act to offer discounted fees to advisory clients provided the nature of the discounts are fully disclosed to both the Administrator and clients. (67611) Copyright Securities Training Corporation, All Rights Reserved. 21

22 22. (A) Generally, states are not permitted to revoke an exemption that has been granted under the Securities Act of However, nonprofit securities (choice a), exchange-listed securities, and investment contracts for employeebenefits plans may be denied registration by the state Administrator. (67570) 23. (A) State Administrators may not require broker-dealers to provide more documentation than what is required under federal (SEC) guidelines. (67688) 24. (C) The Capital Asset Pricing Model (CAPM) is used to find an optimal portfolio by comparing the relationship between risk (as measured by standard deviation) and the expected rate of return. To meet a client's needs, the optimal portfolio is the one with the highest expected rate of return that represents the lowest amount of risk. (67491) 25. (C) Trading in a customer's account without his prior written authorization is considered unethical. In this situation, since the client did not consent to the trade by granting written authorization, the agent may do nothing. The compliance department may not approve an unauthorized trade. It is also unethical and a violation of securities regulations to place the trade in one brokerage account, with the intent to subsequently transfer the shares into the client's account upon his return. (67643) 26. (B) Investment advisers may only charge performance-based fees to clients who are qualified. A qualified client is one who has at least $1 million of assets under management with the adviser or has a net worth of at least $2 million. To determine net worth, the value of a client's primary residence and any associated mortgage are excluded. (67629) 27. (D) All of the risks listed apply to fixed-income securities. Interest-rate risk is the risk that a security's value will change due to a change in interest rates. Inflation risk is the chance that the cash flows from an investment will not be worth as much in the future because of changes in purchasing power due to inflation. Credit risk represents the risk that an investor will experience a loss of principal due to a borrower's failure to repay a loan or otherwise meet a contractual obligation. Opportunity risk is the risk that a better opportunity may present itself after an irreversible decision has been made. (67482) 28. (D) Deferred compensation plans are nonqualified and funded with after-tax dollars. These plans are not available to all employees and do not require immediate funding. (67465) 29. (A) In choice (a), the customer is writing covered calls by purchasing the stock and writing an equal number of call options. If the price of the stock falls to zero, the call options will expire worthless, but the customer would have a significant loss on the long stock position. The breakeven price is the cost of the stock minus the premium received from the call options. Choice (b) is a net debit spread in which the maximum loss is the net premiums paid. Choice (c) is a protective put in which the maximum loss is the cost of the premiums since the strike price is equal to the cost of the stock. Choice (d) is a hedged position since the customer could exercise the call options to close out the short stock position, incurring only a 10-point loss on each contract. (67757) 30. (D) In this example, since the investment adviser is dealing exclusively with insurance companies, it is exempt from registration under the Investment Advisers Act of However, the IA would likely be required to register in State A because it has an office there. (67585) 31. (A) Investment advisers are only required to keep the initial application for each IAR. Fingerprints and background information are collected for the registered representatives (agents) of broker-dealers, not for IARs. (67593) Copyright Securities Training Corporation, All Rights Reserved. 22

23 32. (D) Under the Uniform Securities Act, all registrations expire annually on December 31. Thereafter, they must be renewed by the firm. (67693) 33. (C) In this situation, the portfolio manager has created a conflict of interest. If her clients buy the initial public offering (IPO) stock, the offering will be successful, which would allow her to cash out the investment she had acquired through the private placement. None of the other violations apply in this situation. (67490) 34. (C) An Administrator will not inspect the books and records of an investment adviser on an annual basis. However, if an IA has custody of customer funds, an independent public accountant must perform an annual audit. All of the other choices are true. (67596) 35. (D) If issuers do not qualify for an exemption from the Securities Act of 1933, they are required to register with the SEC. Broker-dealers and their registered representatives file their registration statements with FINRA, while the Administrator handles all filings required under the Uniform Securities Act. (67678) 36. (D) When renewing an advisory contract, a firm is required to disclose the formula used to calculate its advisory fee, the amount of the fees, and the length of the contract. The adviser's experience level is not required to be disclosed. Advisers are not disciplined or subject to additional disclosures simply because they are new to the industry. (67505) 37. (C) Firms that maintain custody of customer assets must satisfy these guidelines: (1) Customer funds must be segregated, (2) The location of assets must be disclosed in writing and, (3) The records must be audited annually. When a firm has custody of customer cash and securities, it is required to be a qualified custodian. Broker-dealers, banks, and trust companies may be recognized as qualified custodians and may, therefore, hold cash and securities belonging to customers. Since these different entities may serve as qualified custodians, it is incorrect to state, as in choice (III) that the adviser may only maintain custody if it is also registered as a broker-dealer. (67653) 38. (D) To calculate future value, cash flows are compounded to determine the expected value at a future date. The process of compounding involves periodically reinvesting earnings on the principal. Amortization is an accounting term used to describe how a company recognizes certain costs/expenses over multiple years. Annualizing is a situation where a return for a certain period is projected out over the year. Since interest is not always compounded on an annual basis, choice (d) is the best answer. (67616) 39. (C) While the trustee must manage the trust with an investment strategy that takes into account the beneficiaries' needs, his decisions should be based on the objectives of the trust. Rather than evaluating the transactions separately, they must be examined within the context of the entire portfolio in order to determine if they are suitable. (67461) 40. (A) Eliminating covered call writing would not be appropriate for an income strategy. Writing covered calls is a conservative method of generating additional income in a portfolio. All of the other choices are consistent with an income strategy. (67668) 41. (B) Sector rotation is the switching from one industry (sector) into another as the economy changes. Dollar cost averaging is investing the same dollar amount over a fixed period, regardless of the price changes. Rebalancing strategies involve buying and selling to keep the portfolio's asset mix consistent over the long term. (67590) Copyright Securities Training Corporation, All Rights Reserved. 23

24 42. (B) An investment adviser's contract must be in writing and clearly disclose the specific length of time that it is in force. Provided customer consent is obtained, advisory contracts may be assigned to another advisory firm. Advisory contracts may not include a clause which attempts to limit an adviser's liability. Also, an adviser is prohibited from sharing in a client's capital gains unless the client is qualified and meets specific financial criteria. (67615) 43. (C) An investment adviser representative is required to register in any state in which he has an office or has six or more noninstitutional customers. The language of the Uniform Securities Act does not define an accredited investor as a type of institutional investor. Investment advisers, employee benefit plans, and mutual funds are examples of institutional investors. (67620) 44. (B) Wrap fee programs are advisory programs that bundle advisory services and trading costs together. By paying a single annual fee, which is typically less than 2.5% of the client's assets under management, the client receives various advisory services as well as the ability to execute trades without paying additional commissions or fees. (67512) 45. (D) When an investor buys a call option (derivative), she has a leveraged position since, for a relatively low cost, the contract allows her to buy 100 shares of stock at a specific price. This ability to buy stock at a preset price makes her bullish (i.e., she wants the stock to rise). If the investor has a short stock position, the purchase of a call option provides her with protection. The protection comes from the fact that she may exercise her call option and use the stock that she receives to cover the short stock position. Since buyers of options cannot lose more than the cost of the option, they have limited liability. (67650) 46. (A) Liquid or efficient markets tend to have a large amount of trading activity and narrow spreads (bid and ask prices that are close to each other). While narrow spreads are a sign of an efficient market, wide spreads are a sign of an inefficient market. (67548) 47. (A) A buy-and-hold strategy is a passive one in which the portfolio generally remains fixed with very little turnover. Barbell, immunization, and interest-rate anticipation strategies all require a portfolio manager to actively rebalance the portfolio at various points in time or due to changing market conditions. (67463) 48. (C) The trustee has a fiduciary duty to manage the assets in a reasonable manner and to act in the best interest of the beneficiaries. The grantor endows the trust and, unless he is a beneficiary, is not considered a client. Therefore, the trustee would not consider the grantor's tax needs. (67500) 49. (A) Under the Uniform Securities Act, registration by coordination is generally used for initial public offerings (IPOs). New issues, including IPOs, are required to register with the SEC under the Securities Act of (67574) 50. (B) If an IA has no place of business in a state, it would only be required to register in that state if it provides advisory services or directs business communications to more than five noninstitutional (individual) clients there. If an advisory firm is state-regulated and has a large number of accredited investors in a state, it will most likely be required to register in that state. Remember, the Uniform Securities Act does not recognize accredited investors as institutional investors. (67628) 51. (B) If the investor wants to hedge against downside moves in a stock, he should buy put options. Purchasing the outof-the-money put options is cost-effective (lower premium) and therefore is an efficient hedging strategy. Buying calls on stock owned is considered a bullish strategy. Selling or shorting call options only provides downside protection to the extent of the premium received. (67756) Copyright Securities Training Corporation, All Rights Reserved. 24

25 52. (B) The Investment Company Act of 1940 requires shareholder approval for a company to make changes to its investment policy statement or to have the cost of underwriting or distributing shares paid from the fund's assets (12b-1 fees). The other two choices involve decisions that are made by the fund's board of directors. To fire the adviser, the board must approve of the action, while approval by a majority of the board's disinterested members is required to establish a contract with an underwriter. (67622) 53. (C) NASAA's Model Rule on Unethical Business Practices applies to all investment advisers and investment adviser representatives. Even though a firm may be a federal covered adviser, it does not receive a safe harbor from the antifraud provisions of the Uniform Securities Act. (67636) 54. (D) The test of whether an investment meets the definition of a security was established by a Supreme Court case (referred to as the Howey Test). All of the four choices listed are required parts of the test. (67601) 55. (C) Since both money-market mutual funds and bank-insured certificates of deposit are very conservative and liquid investments, they would be the best choices for this couple. A stock portfolio would expose the couple to market risk and would therefore be unsuitable based on their short time horizon and capital preservation need. (67630) 56. (D) Material facts are the facts that investors need in order to make informed investment decisions. Agents should make a good faith effort to fully and fairly disclose all material facts during sales presentations. While it may not be possible to disclose every fact, omitting a material fact in order to make an investment appear more attractive is a violation. (67641) 57. (D) Hedge funds are generally sold through a private placement and are exempt from most regulations. In many cases, hedge funds leverage their portfolios and attempt to earn higher-than-average returns by investing in derivatives and illiquid securities or assets. (67592) 58. (A) Typically, an offer or sale of securities is regulated in the state from which it originates and the state to which it is directed, which in this question is State X. Therefore, the Administrator of State X will clearly have the authority to take action. However, in situations where a resident of one state is encouraged or enticed to leave his home state and a trade is subsequently effected, the Administrator of the client's home state generally reserves the right to regulate the trade. Without this jurisdiction, an agent could potentially encourage clients to cross state boundaries in order to create a safe haven outside of the Administrator's reach. Therefore, since the client resides in State Y, the Administrator in State Y is also typically able to provide protection under the Uniform Securities Act. (67665) 59. (B) If a client in a high tax bracket is concerned about tax liability, analyzing the ideas and trading methods of a prospective manager would be the least important concern. However, for an investor interested in minimizing taxes, index funds would be a better choice than actively managed funds. An index fund's portfolio is passively managed with little turnover. Also, if a large percentage of a fund's portfolio is held in cash, it may be indicative of a passive manager who is attempting to minimize capital gains. (67723) 60. (D) Since Jane is assisting the IA, she is considered a solicitor and there must be a written agreement in place with the firm for which she is soliciting. Making payments to solicitors is allowed provided such an agreement exists and is disclosed to clients. Choice (a) is incorrect because Jane is not selling securities directly to individual investors and is, therefore, not required to register as a broker-dealer. (67577) Copyright Securities Training Corporation, All Rights Reserved. 25

26 61. (C) If a federal covered investment adviser has more than five individual clients in any one state, notice filing is required by the adviser. Adding the trust would bring the IA to six clients and would trigger the notice filing requirement. Financial institutions, regulated investment companies, and other investment advisers are excluded for the purposes of counting clients. Inter vivos is a legal term referring to a transfer or gift made during a person's lifetime, as opposed to a testamentary transfer (a gift that takes effect on death). (67664) 62. (C) Administrators have jurisdiction or authority over all securities professionals who are registered in their state or who offer, sell, or hold themselves out to potential clients in their state. Since the broker dealer is registered in State X, the Administrator in State X has the ability to audit and subpoena its books and records and to compel testimony. (67651) 63. (C) Under the Uniform Securities Act, investment advisers and investment adviser representatives are exempt from registration in a state if they have no place of business in the state and all of their clients are institutional investors. Examples of institutional investors include broker-dealers, banks, insurance companies, qualified employee trusts, and other investment advisers. Remember, there is no registration exemption for advisers simply based on the fact that their clients are wealthy or have a high net worth. (67645) 64. (C) Whenever there is a material change of ownership for a registrant, a correcting amendment to its registration must be filed with the Administrator promptly. While registrants are not required to file a new application, they may not wait until the time of their annual renewal to notify the Administrator of the change. (67677) 65. (D) When a person leverages a portfolio, he acquires a loan in order to buy more securities. This activity is done in a margin account, which allows him to magnify his investment results by increasing the number of shares or bonds that he is able to purchase. Investing in a company that has issued a great deal of debt, such as a utility company, is not a leveraged portfolio strategy. (67472) 66. (B) When an investment adviser directs its clients' assets to another adviser (sometimes referred to as a subadviser), it is the responsibility of the adviser to monitor these accounts to ensure that the subadviser is acting in the clients' best interests. (67477) 67. (D) Growth stocks tend to have higher P/E ratios due to the premium investors are willing to pay for the potential future growth in earnings. On the other hand, value companies tend to have lower P/E ratios than other similar companies. (67687) 68. (D) A capital needs assessment analyzes a client's future goals and needs. Retirement planning, college funding, and the risk of death before meeting a savings goal are all considered. A client's life expectancy, the rate of inflation, and her earnings will all affect the capital needs assessment. Market volatility may influence the securities on which recommendations are based, but not the capital needs assessment. (67498) 69. (C) The quick ratio formula is (current assets - inventories) / current liabilities. (67475) 70. (D) Although they are insurance products, equity-indexed annuities are subject to many FINRA rules. Broker-dealers must always have adequate controls in place to supervise the sales activities of their RRs. The product is issued with both a floor (that limits loss on the downside) and a cap (that limits the gain on the upside). (67494) 71. (C) Exchange markets, such as the NYSE, are considered auction-style markets. Only securities that are listed are eligible for trading on an exchange. A specialist or designated market maker is the member responsible for providing quotes on the exchange. (67501) Copyright Securities Training Corporation, All Rights Reserved. 26

27 72. (D) Investment adviser advertisements may not make reference to past recommendations unless they offer to furnish all of the recommendations made over at least the last year. Also, specific investment advice and the use of testimonials are generally not permitted in IA advertising. (67654) 73. (D) When implementing a buy-and-hold strategy with bonds, portfolio managers generally consider whether the bonds are valued fairly in comparison to other similar bonds. Also, since the portfolio is comprised of bonds, the manager would focus only on bonds, not other general investments. Selecting only bonds that are callable or bonds with the same maturity is not desirable. Instead, laddered (staggered) maturities would generally be a better approach for the manager. (67672) 74. (B) Private 457 plans for nongovernmental employers, such as unions, hospitals, and charitable organizations, may limit who is eligible to participate. Government 457 plans allow for the catch-up provision, while private 457 plans do not. Both private and government 457 plans are governed by ERISA guidelines. (67749) 75. (B) This situation is known as withholding and is prohibited by both the Uniform Securities Act and the Securities Act of When a broker-dealer participates in a firm-commitment underwriting, it must sell the shares at the public offering price (POP) as soon as possible. (67598) 76. (B) If an investment adviser actively solicits more than five individual customers in a state, registration is required there. There are a number of situations in which a person may provide advice and yet not be required to register as an investment adviser. Some examples include professionals (e.g., the CPA in this question) whose advice is incidental, advisers whose only clients are insurance companies or other institutions, and firms that do not receive compensation (i.e., nonprofits). (67690) 77. (D) Since a bond's return may not keep pace with the rate of inflation, Treasury securities with long maturities are subject to inflationary risk. This may cause the real rate of return to be less than anticipated over a long period. The Treasury market is very liquid and stable. Zero-coupon bonds protect investors from reinvestment risk, since they do not provide interest payments. Reinvestment risk is defined as the risk that a bond's future coupons will not be reinvested at the same interest rate as when the bond was initially purchased. (67473) 78. (B) In an account with a tenancy-in-common arrangement, the assets may or may not be equally divided. When an owner dies, his ownership interest in the account is included in his estate and is subject to probate. The benefit of a tenancy-in-common arrangement is that it makes it easier to transfer assets to other investors when one person dies. There is no requirement that the owners of a tenancy-in-common account be a married couple. (67511) 79. (D) An investment adviser registering under the Investment Advisers Act of 1940 would register with the SEC. In this question, if the advisory firm is required to register in a state, it would do so with an Administrator under the provisions of the Uniform Securities Act. On the other hand, broker-dealers may be required to register with both FINRA and an Administrator. (67591) 80. (C) The Administrator does not rule on the accuracy or adequacy of any filing, nor does the government offer decisions on the investment merit or financial condition of an issuer. Essentially, when regulators grant a registration, it allows for the lawful offering and sale of securities within their jurisdiction. (67646) 81. (D) The best measure of short-term liquidity is the current ratio, which is calculated by dividing current assets by current liabilities. Although the debt coverage ratio also measures liquidity, it actually includes all debt-both shortterm and long-term. (67580) Copyright Securities Training Corporation, All Rights Reserved. 27

28 82. (D) A capital needs analysis is used to determine the amount of insurance a client needs to purchase today in order to fund her future financial goals. For example, if the client dies prematurely and the value of her investments are not sufficient to pay for her child's college education, life insurance is needed to fund the difference. (67613) 83. (A) Personal bankruptcy is not an event that leads to the revocation of a registration. However, any violation of securities laws or industry regulations, or conviction within the last 10 years for any felony or securities-related misdemeanor, is grounds for revocation of a registration. Although the Commodities Exchange Act and the CFTC govern futures trading, a commodities violation would be grounds for the loss of a securities registration. (67663) 84. (C) Common carriers, such as railroads and shipping companies, are exempt from registration under the Uniform Securities Act. While securities issued in the same state in which the firm is incorporated may be exempt from the Securities Act of 1933, they are usually required to register with the state. Agencies of the Canadian government and domestic U.S. banks are also exempt from registration, but securities issued by Canadian banks receive no such exemption. (67607) 85. (D) The internal rate of return (IRR) assumes all cash flows are invested at the internal rate of return. The IRR is the rate that makes the discounted value of cash inflows and outflows equal to zero. If an investor is choosing between two investments, she should choose the one with the higher IRR. (67741) 86. (B) In order to share in a customer's account, an agent must obtain permission from her employer and the customer. Since the agent will be investing, she is also considered a customer and will also be required to give permission. Additionally, profits and losses must be shared proportionately, based on the amounts both parties contribute to the account. (67656) 87. (A) Variable annuities are suitable for clients who are willing to invest for the long term and want to invest in the markets. The investment objective of variable annuities is capital appreciation (growth). Since a variable annuity's performance is tied to the market, its return is unpredictable and is not based on inflation. (67454) 88. (C) Investing in a limited partnership is considered a passive activity. Investors must understand the tax treatment for partnerships. Income and losses generated by the partnership is absorbed by the investor. All tax information is required to be reported on Form K-1 by the partnership. (67758) 89. (D) Choice (I) is not true since orders issued by the Administrator may be appealed within 60 days. All of the other choices are true statements. (67588) 90. (C) A client who has saved enough money to meet a goal does not need to purchase insurance for that goal. Variable life is suitable for clients who have long time horizons, are willing to assume risk, and want superior market-based returns. Variable life insurance policies provide a market-based return, while traditional life insurance policies provide a fixed or guaranteed return. (67457) 91. (D) Provided proper disclosure is made, charging clients different fees is not prohibited. The fee arrangement must be disclosed to the Administrator or the SEC in Form ADV Part 2 and also specifically disclosed to clients in their advisory contracts. (67657) 92. (D) When trading securities in the secondary market, investors sell at the bid price and buy at the ask (offering) price. (67489) Copyright Securities Training Corporation, All Rights Reserved. 28

29 93. (D) A sole proprietorship does not have stockholders, federal reporting requirements, or a chief financial officer. Partnerships and S Corporations file Form K-1, not sole proprietorships. The owner is required to maintain all necessary books and records in the event of an audit by the IRS or State Department of Revenue. (67545) 94. (A) A change in interest rates would most likely have the greatest impact on the bond in the first year of the investment. If interest rates were to go up or down, that could dramatically change the bond's price. The risk presented by inflation would be significant over a longer term. Liquidity risk is the risk that a security cannot be traded quickly enough in the market to prevent a loss (or make the required profit). Market (systematic) risk is the risk that a security's value may decline over a given period due to economic changes or other events that impact large portions of the market. (67479) 95. (A) Time-weighted returns eliminate biases caused by the inflow or outflow of investor money. It is often used to compare the performance of money managers. On the other hand, dollar-weighted returns provide a better idea of how an individual investor has done over time by eliminating the biases caused by superior performance in one year or inferior performance in another. (67709) 96. (B) The Administrator may require federal covered investment advisers to notice file if they transact business with more than five noninstitutional clients over a 12-month period. Notice filing is not a form of registration. Instead, it is the process of a federal covered adviser sharing information with the Administrator that it has filed with the SEC. (67640) 97. (A) If an individual is required to pay for an item in order to receive a free security, then the security investment is not actually free. The required payment would constitute a sale of the security. The other examples involve either the gift or transfer of securities and would not be considered a sale. (67621) 98. (A) NASAA's model rules require that advisory fees be reasonable based on industry standards. Disclosing a fee and receiving written acceptance from a client does not assure that an adviser has met its fiduciary requirement. Even if a client agrees to an excessive fee, it is still excessive and may be a violation. (67625) 99. (D) In this question, the employee is considered an agent of the issuer. Since the stock is going to be sold publicly, the shares are required to be registered along with the employees of the issuer selling them. There are situations in which employees may be exempt from registration; however, registration is generally required if shares are being sold to the public. (67599) 100. (C) When buying a call option on a stock, the client is able to buy the underlying security at a specific price. He would buy a call option if he believes the price of the security is going to increase. In this situation, buying a call does not generate income, hedge risk, or increase the rate of return. (67452) 101. (C) A securities transaction is subject to a state's securities laws if the offer originates in, is directed to, or is accepted in the state. Of the choices listed, only choice (IV) has all of the action occurring outside of State Z. (67572) 102. (B) General partnerships generally dissolve when an owner becomes mentally incapacitated or dies. All of the other entities listed have continuity of life. (67549) 103. (A) If the bonds are called in five years at par, the premium paid for the bond would be amortized over the shortest time period. This would result in the investor realizing a lower yield than if the bond were called after a longer period of time. It is important to note that MSRB rules require a municipal firm to disclose to a customer the lowest possible yield that the customer can realize. On a premium bond (as in this example), the lowest yield will result from the bond being called at par in the shortest time period. (67754) Copyright Securities Training Corporation, All Rights Reserved. 29

30 104. (B) A key consideration for a growth investor is a company's earnings momentum (growth). On the other hand, a value investor would look for stocks with a low price-to-book value and high current dividend yield, while also considering the company's size. (67468) 105. (A) A forward contract is an agreement to buy and sell commodities at a future time and place. Forwards are over-thecounter contracts that will be negotiated off of a futures exchange. All aspects of the contract are negotiated between the buyer and seller, including the price, type of commodity, and amount, as well as the time and place of delivery. (67571) 106. (A) If an investment adviser conducts an informational seminar, it is required to maintain a list of all attendees. If investment advisers do not maintain custody of a customer's assets, they would not be required to keep stock certificates. IAs only need to retain advertisements that are sent to 10 or more persons. (67698) 107. (C) According to the Investment Company Act of 1940, an affiliated person is considered any officer, director, partner, copartner, or employee of the investment company. The term also includes any person who directly or indirectly owns, controls, or holds, with power to vote, 5% or more of the outstanding securities. (67614) 108. (C) If a person gives advice about listed securities but does not effect any transactions, she is required to register as an IA, but not as a broker-dealer. Since Kristine is not working for a registered investment adviser, she would need to satisfy IA registration requirements in order to provide this type of advisory service. It is important to remember that if an IAR works for a registered investment adviser, she is exempt from registration as an investment adviser. An IAR (employee of the advisory firm) is not held to the same registration requirement as the adviser (firm) itself. Also, the antifraud provisions apply to all securities and registered personnel. (67674) 109. (B) Asset-based fees are one of the most common methods that investment advisers use to charge their clients. Under the Uniform Securities Act, these types of fees are allowed provided they have stated time periods. Since Administrators may create rules prohibiting any type of fee, it would be incorrect to state that they are always permitted. (67658) 110. (C) Limited liability companies provide investors with limited risk. In other words, they may lose no more than their investment. Unlike corporations, LLCs are tax-efficient since they do not pay income taxes. Instead, the investors are required to pay taxes on the income earned by the company. (67484) Copyright Securities Training Corporation, All Rights Reserved. 30