SIE Quick Facts

A customer owns only one stock. She sells it and reinvests in an S&P 500 Index Fund. What risk has she reduced?

Business (non-systematic) risk because diversification reduces the impact of problems affecting any one company.

A customer owns hundreds of stocks through mutual funds but fears a market crash. What risk remains?

Systematic (market) risk because diversification cannot eliminate market-wide declines.

Why would a portfolio manager use index options?

To hedge systematic market risk affecting a diversified portfolio.

A portfolio is concentrated in only a few companies. What risk is most significant?

Non-systematic risk because company-specific events have a larger impact.

Which investment is more appropriate for someone concerned about preserving capital: short-term Treasuries or technology stocks?

Short-term Treasuries because they have lower volatility and less capital risk.

A company wants to issue stock to raise capital from investors. Which market participant assists with the process?

An investment banker who structures and distributes securities offerings.

Why do broker-dealers maintain information barriers between departments?

To prevent material non-public information from flowing between investment banking research and trading.

A company's shareholder records need updating after shares change ownership. Which entity handles this function?

The transfer agent.

What is the registrar's role in the securities market?

To ensure that a corporation does not issue more shares than it is authorized to issue.

A trader buys stock on one market and simultaneously sells it on another market at a higher price. What activity is taking place?

Arbitrage.

A bond is backed by tolls generated from a bridge project. What type of bond is this?

A revenue bond because repayment depends on project revenues.

A municipal bond is backed by the issuer's taxing power rather than a specific project. What type of bond is it?

A General Obligation bond.

Why are GO bonds generally viewed as safer than revenue bonds?

Because repayment is supported by taxation rather than one project's financial success.

Where should an investor look for municipal bond disclosures and trade information?

EMMA.

A 4 percent bond trades at $950. Why is its yield greater than 4 percent?

The investor receives the same $40 annual interest while paying less than par value.

Why do long-term bonds have greater interest-rate risk than short-term bonds?

Their prices are more sensitive to changes in interest rates over time.

Which bond typically experiences the greatest price change when interest rates move?

A long-term zero-coupon bond.

Why is a callable bond advantageous to the issuer when interest rates fall?

The issuer can refinance by calling the higher-rate debt and issuing new lower-rate debt.

How much annual interest does a 6 percent corporate bond pay?

$60 annually on a $1000 par value bond.

How are Treasury securities taxed?

Interest is taxable federally but exempt from state and local taxation.

Why are Treasury securities considered free of default risk?

They are backed by the full faith and credit of the U.S. government.

During liquidation why do preferred shareholders receive payment before common shareholders?

Preferred stock has a higher claim on assets than common stock.

Why is preferred stock generally less volatile than common stock?

Because it pays a fixed dividend and behaves more like a fixed-income investment.

What advantage does cumulative preferred stock provide investors?

Missed dividends must be paid before common shareholders can receive dividends.

Why do ADRs involve risks not found in many domestic stocks?

They are exposed to currency fluctuations and political risks in foreign countries.

What is restricted stock?

Unregistered stock acquired through a private placement.

How long must restricted stock generally be held before sale under Rule 144?

At least six months.

A customer expects a significant rise in a stock but wants limited risk. Which strategy is most appropriate?

Buying a call option.

A customer owns stock and wants downside protection. Which strategy acts like insurance?

Buying a put option.

What is the maximum loss for an option buyer?

The most the buyer can lose is the premium paid.

What is the maximum gain for an option seller?

The most the seller can earn is the premium received.

A call has a strike price of $50 and a premium of $4. What is the breakeven point?

$54.

A put has a strike price of $60 and a premium of $5. What is the breakeven point?

$55.

Why does an out-of-the-money option have no intrinsic value?

Because exercising it would provide no economic benefit at current prices.

How are stock index options settled?

Through cash settlement rather than delivery of shares.

What option protects a short stock position?

A long call.

What option protects a long stock position?

A long put.

A customer wants to buy a stock only if it falls to a particular price. Which order is appropriate?

A buy limit order.

A customer wants to protect a profitable long stock position from a major decline. Which order is designed for this purpose?

A sell-stop order.

A customer is short stock and wants protection from a large rally. Which order should be used?

A buy-stop order.

What happens when a stop order is triggered?

It becomes a market order.

Why do limit orders not guarantee execution?

The stock may never reach the specified limit price.

Why do index funds typically have lower operating expenses than actively managed funds?

They require less research and portfolio management.

What causes the difference between NAV and POP?

The sales charge or load.

Why would an investor sign a Letter of Intent?

To qualify for breakpoint discounts on future mutual fund purchases.

When is NAV calculated?

Once each business day after the market closes.

Why do mutual funds not trade continuously during the day like stocks?

They are purchased and redeemed through the fund company at NAV.

What is the primary risk difference between an ETF and an ETN?

ETNs have issuer credit risk because they are unsecured debt obligations.

Why do hedge funds appeal primarily to accredited investors?

They often use leverage complex strategies and involve greater risk and illiquidity.

What advantage do REITs offer income-focused investors?

They distribute most of their income to shareholders.

What determines the cash value of a variable life insurance policy?

The performance of the investments in the separate account.

Why is a variable annuity considered a security?

Its value depends on investment performance rather than a guaranteed return.

What is a 1035 Exchange used for?

To transfer one insurance contract to another without immediate taxation.

Why are 529 plans popular education savings vehicles?

Qualified withdrawals are federally tax-free.

What feature makes prepaid tuition plans attractive?

They help protect against future tuition increases.

Must the donor and beneficiary of a 529 plan live in the state sponsoring the plan?

No state residency is not required.

What agreement allows a broker-dealer to pledge customer securities to a bank?

The hypothecation agreement.

Why can't one spouse automatically withdraw money from the other's individual account?

Written authorization is required.

Why does a custodial account use the child's Social Security number?

Because the assets legally belong to the child.

A retiree has substantial pension income but only $1500 in earned income. What limits IRA contributions?

IRA contributions are based on earned income so the limit would be $1500.

What is the benefit of a JTWROS account?

Assets automatically pass to the surviving owner.

Why is a privacy notice required under Regulation SP?

To explain how customer information is collected protected and shared.

A customer requests that her mail be held while traveling. What must occur before the request can be honored?

The request must be in writing and the firm must have procedures preventing mail tampering.

Why are institutional suitability requirements less stringent than retail suitability requirements?

Institutions are generally expected to evaluate investment risks independently.

What does SIPC protection cover?

Customer securities and cash at a failed broker-dealer.

Why are commodity futures not covered by SIPC?

Because SIPC protects securities accounts rather than commodity positions.

An RR is indicted for fraud but not convicted. What is the firm's responsibility?

The event must be reported to FINRA but the RR may generally continue working until conviction.

What is front-running?

Trading based on knowledge of a pending customer order before that order is executed.

What is selling away?

Participating in private securities transactions without firm approval.

What is freeriding?

Buying securities and then using later sale proceeds to pay for the purchase.

Why is pump-and-dump considered fraudulent?

It manipulates investors by artificially inflating a stock before selling it.

What are the four phases of the business cycle?

Expansion Peak Contraction and Trough.

Why would the Federal Reserve buy Treasury securities during an economic slowdown?

To increase money supply and stimulate economic activity.

What is the only interest rate directly set by the Federal Reserve?

The Discount Rate.

What defines a recession?

Two consecutive quarters of declining GDP.

How does a trade surplus affect a country's currency?

The currency tends to appreciate because foreign buyers demand more of it.

Why do stocks generally perform better than bonds during periods of high inflation?

Companies may increase revenues and earnings as prices rise while fixed bond payments lose purchasing power.

What are Blue Sky Laws?

State securities laws based on the Uniform Securities Act.

What organization guarantees exchange-listed options?

The Options Clearing Corporation.

What purpose does a transfer agent serve?

Maintains shareholder records and assists with ownership transfers.

What purpose does a custodian bank serve for a mutual fund?

It safeguards the fund's cash and securities.

What is a breakpoint sale violation?

Failing to give an investor a sales charge discount for which they qualify.

What type of mutual fund share class commonly uses a CDSC?

B shares.

What is a no-load mutual fund?

A fund with no front-end load no deferred sales charge and minimal 12b-1 fees.

What is a debenture?

An unsecured corporate bond backed only by the issuer's creditworthiness.

What are T-Bills primarily used for?

Short-term cash management and money-market investing.

Why are money-market funds considered relatively stable?

They invest in short-term high-quality debt instruments.

What is the primary purpose of a SAR?

To report suspicious activity that may involve money laundering or financial crimes.

What report is required for cash transactions over $10000?

A Currency Transaction Report.

What is insider trading?

Trading while in possession of material non-public information.

What is a red herring?

A preliminary prospectus distributed before an offering becomes effective.

What is the difference between a primary and secondary offering?

Primary offerings raise capital for the issuer while secondary offerings sell existing shares for current shareholders.

Why is an IPO considered a primary market transaction?

Because securities are being sold to the public for the first time.

Can mutual fund shares be purchased on margin?

They must generally be purchased with cash rather than margin borrowing.

What is a Coverdell ESA used for?

Saving for qualified education expenses with tax advantages.

Why do ETFs trade throughout the day?

Because they trade in the secondary market like stocks.

What is a DPP?

A Direct Participation Program that passes income and losses directly to investors.

Why are limited partnerships considered illiquid?

They are long-term investments with limited resale markets.

What is political risk?

Risk that government actions laws or regulations negatively affect an investment.

What is liquidity risk?

The risk of not being able to sell an investment quickly at a fair price.