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chapter 6 upload Flashcards

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1
Q

What is the primary obligation of representatives regarding products and customers?

A

Have a firm understanding of both the product and the customer

Representatives must understand all investment vehicles and products, including DPPs and derivatives.

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2
Q

What must representatives demonstrate when selling a complex product?

A

Participation in appropriate training regarding the product’s characteristics, risks, and rewards

FINRA examiners may ask for evidence of this training.

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3
Q

Before recommending a security transaction for a noninstitutional customer, representatives must consider the customer’s:

A
  • Financial situation
  • Tax status
  • Investment objectives
  • Risk tolerance
  • Other holdings

The key is suitability and fair dealing.

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4
Q

True or false: Representatives can recommend securities without understanding the customer’s investment profile.

A

FALSE

Recommendations must be consistent with the customer’s investment profile.

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5
Q

What are some red flags indicating unsuitable recommendations by a registered representative?

A
  • Discrepancies in account documents
  • Numerous complaints against the representative
  • Use of corrective tape on documents
  • Mismatched customer signatures

Supervisors must monitor for these signs.

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6
Q

In the fraudulent sale of securities situation, what did Mr. Landis omit?

A

Material information about downgrades and credit watch

This omission led to a violation of FINRA Rules 2010 and 2020.

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7
Q

What should a firm do when a representative changes firms regarding mutual funds?

A

Review the representative’s ability to service or sell existing mutual funds

The firm must ensure that conflicts of interest do not impair judgment.

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8
Q

What is a Direct Participation Program (DPP)?

A

Typically a limited partnership providing flow-through tax consequences

DPPs carry high risk and illiquidity.

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9
Q

Examples of DPPs include:

A
  • Oil and gas programs
  • Real estate partnerships
  • Equipment leasing programs

These programs must disclose material facts for customer evaluation.

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10
Q

What is a roll-up in the context of DPPs?

A

An attempt to convert direct participation interests into marketable securities

Roll-ups seek to increase liquidity for illiquid DPPs.

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11
Q

What are the characteristics of a Real Estate Investment Trust (REIT)?

A
  • Manages a portfolio of real estate investments
  • Typically publicly traded
  • Must comply with Internal Revenue Code provisions

REITs are not considered flow-through investments like DPPs.

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12
Q

What are some risks associated with nontraded REITs?

A
  • Lack of liquidity
  • Share value transparency issues
  • Distributions may be paid from offering proceeds

These risks can affect investors’ ability to assess their investments.

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13
Q

What is the purpose of the Investment Company Act of 1940?

A

To protect investors from unfair dealings and regulate investment company management

This act was a response to the issues observed during the Great Depression.

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14
Q

What act gave the SEC regulatory power over investment companies and their activities?

A

Investment Company Act of 1940

This act was part of a series of laws enacted during the Great Depression to protect investors.

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15
Q

The Trust Indenture Act of 1939 requires issuers of U.S. and Canadian corporate debt securities to appoint what?

A

An independent and qualified trustee

The trustee acts on behalf of the holders of the securities and enforces the issuer’s obligations.

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16
Q

An investment company is defined as an issuer that engages in the business of investing in securities and owns investment securities exceeding what percentage of its total assets?

A

40%

This definition excludes government securities and cash items.

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17
Q

Name the three classifications of investment companies created by the Investment Company Act of 1940.

A
  • Face-amount certificate company
  • Unit investment trust
  • Management investment company

These companies pool public money for investment purposes.

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18
Q

True or false: A holding company is considered an investment company under the Investment Company Act of 1940.

A

FALSE

The definition of an investment company does not include holding companies.

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19
Q

What are the two types of management companies?

A
  • Open-end
  • Closed-end

Open-end companies continuously offer shares, while closed-end companies issue shares that trade in the secondary market.

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20
Q

What is a redeemable security?

A

Any security that entitles the holder to receive a proportionate share of the issuer’s current net assets

This definition typically refers to mutual funds, variable annuities, and unit investment trusts.

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21
Q

What is the sales load?

A

The difference between the price of a security to the public and the net proceeds received by the issuer

It accounts for various fees and expenses deducted from the sale.

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22
Q

What are the two types of unit investment trusts?

A
  • Fixed
  • Participating

Fixed trusts have a set portfolio, while participating trusts purchase shares of mutual funds.

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23
Q

Under the Investment Company Act of 1940, what is the 75-5-10 test for a diversified investment company?

A

At least 75% of total assets in non-affiliated securities, no more than 5% in any one issuer, and no more than 10% of voting securities of any one issuer

This test ensures diversification in investment companies.

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24
Q

What is required for a management company to issue securities to the public?

A

Registration with the SEC on Form N-IA and a minimum capital of $100,000

This ensures compliance with the Investment Company Act of 1940.

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25
What must open-end investment companies provide to shareholders periodically?
Semiannual and annual reports ## Footnote This requirement is mandated by the Investment Company Act of 1940.
26
What is the **net asset value (NAV)** per share of an investment company?
Total assets minus total liabilities divided by the number of shares outstanding ## Footnote NAV is a key measure of an investment company's value.
27
What is a **12b-1 fee**?
A fee charged for certain selling and distribution expenses of a fund ## Footnote It requires majority votes from shareholders and directors to be implemented.
28
What is the role of the **principal underwriter** in an investment company?
Responsible for the distribution of the investment company's shares ## Footnote The principal underwriter is often referred to as the fund's chief salesperson.
29
An **affiliated person** is defined as someone who owns what percentage of the outstanding voting securities of a company?
5% or more ## Footnote This includes officers, directors, and employees of the company.
30
What is a **separate account** in the context of variable contracts?
An account maintained by an insurance company for variable annuities or life insurance ## Footnote It is registered as an investment company under the act.
31
What majority vote is required to change an investment company's **investment objectives**?
A majority vote of the outstanding shares ## Footnote This is a requirement under the Investment Company Act of 1940.
32
What is a **back-end load** contingent deferred sales charge (CDSC)?
A charge taken out upon redemption of company shares ## Footnote This type of charge applies to certain mutual funds and is designed to discourage early withdrawals.
33
Under SEC Rule **12b-1**, what type of expenses can be charged to shareholders?
* Selling expenses * Distribution expenses ## Footnote Funds are generally prohibited from charging selling expenses to stockholders, but 12b-1 fees allow for certain exceptions.
34
What is required for a fund to charge **12b-1 fees**?
* Majority vote of shareholders * Majority vote of the board * Majority vote of outside directors ## Footnote 12b-1 fees must be reapproved annually and reviewed quarterly by the board of directors.
35
Funds that charge **12b-1 fees** must disclose what to shareholders?
The amounts charged to net assets ## Footnote These charges are computed annually but charged quarterly to shareholders.
36
What is the maximum permissible sales charge under **FINRA rules**?
8½% of the public offering price ## Footnote This limit applies to companies without an asset-based sales charge.
37
In a **front-end-loaded** company, how is the customer charged?
Public offering price (POP) = NAV per share + sales charge ## Footnote This means the customer pays the NAV plus an additional charge at the time of purchase.
38
In a **back-end-loaded** fund, how is the customer charged upon redemption?
NAV less a sales charge ## Footnote Sales charges for back-end load funds decline over time.
39
What is **late trading** in mutual funds?
An illegal practice allowing purchases after the market close ## Footnote This enables traders to benefit from knowledge of favorable news affecting stock prices.
40
What is the SEC's power regarding **redemptions** of redeemable investment company securities?
To suspend redemptions under extraordinary circumstances ## Footnote This can occur if markets are closed, preventing the computation of NAV.
41
What must a broker-dealer have to sell redeemable investment company securities?
A written sales agreement with the company or sponsor ## Footnote Both parties must be FINRA members.
42
What is the **anti-reciprocal rule** designed to prevent?
Conflicts of interest between members with selling agreements and portfolio transactions ## Footnote It prohibits favoring one fund over another based on commissions.
43
Under Section 19 of the Act of 1940, what must all distributions to shareholders be identified as?
* Dividends * Undistributed profits * Paid-in surplus ## Footnote This ensures transparency in the nature of distributions.
44
What is a **breakpoint** in mutual fund shares?
A quantity discount based on the dollar amount of a purchase ## Footnote The greater the investment, the lower the sales charge.
45
What are the characteristics of **Class A shares**?
* Front-end load * Lower 12b-1 fees * Breakpoint discounts available ## Footnote These shares are typically suited for long-term investors.
46
What happens to **Class B shares** after a certain period?
They convert to Class A shares ## Footnote This usually occurs after the back-end load expires.
47
What is a **letter of intent** in mutual funds?
A nonbinding agreement to qualify for breakpoints over 13 months ## Footnote It can be backdated for up to 90 days.
48
What is the purpose of **rights of accumulation** in mutual funds?
To allow investors to combine holdings for breakpoint eligibility ## Footnote This can include family members' investments in the same fund family.
49
What is a **sales charge discount**?
A reduction in the sales charge based on the investment amount ## Footnote Discounts are typically applied at certain investment thresholds.
50
What is a **breakpoint sale**?
A sale just under the breakpoint to avoid discounts ## Footnote This practice is a serious violation and can lead to sanctions.
51
What must members do with payments received from customers for mutual fund shares?
Transmit payments by the end of the second business day ## Footnote This ensures timely processing of transactions.
52
Sales charges may be waived for mutual fund exchanges from one fund to another fund within the same _______.
family of funds ## Footnote Funds within the same family may also qualify for rights of reinstatement (RoR).
53
What is the **name test rule** under SEC Rule 35d-1?
Requires that an investment company with a name suggesting a focus on a particular type of investment have at least 80% of its assets in that type of investment ## Footnote Examples include terms like small-cap, mid-cap, or large-cap.
54
True or false: A variable annuity guarantees a rate of return.
FALSE ## Footnote The customer's funds are at risk, but there is a chance at beating inflation.
55
What are the two types of annuities mentioned?
* Fixed Annuity * Variable Annuity ## Footnote Fixed annuities have a guaranteed rate of return, while variable annuities do not.
56
What is a **1035 exchange**?
A tax-free exchange between like contracts ## Footnote Allows policyholders to exchange their policies without tax liability.
57
What must a principal do before transmitting a customer's application for a deferred variable annuity?
Review and determine whether to approve the recommended purchase or exchange ## Footnote This must occur no later than seven business days after receiving a complete application.
58
What is the primary purpose of **FINRA's Rule 2330**?
To ensure suitability in the purchase and exchange of deferred variable annuities ## Footnote It applies to recommended purchases and exchanges of deferred variable annuities.
59
What are the **characteristics** of an investment adviser under the Investment Advisers Act of 1940?
* Provides investment advice on securities * Holds themselves out to the public as investment advisers * Receives compensation for investment advice ## Footnote There are exemptions and exclusions from this definition.
60
Name one **exemption** from registration for investment advisers.
* Advisers maintaining offices in only one state with clients all in that state ## Footnote They do not give advice on securities listed on any national exchange.
61
What is the difference between **exemptions** and **exclusions** in the context of investment advisers?
* Exemptions: Certain advisers are exempt from registration * Exclusions: Certain entities are not included in the definition of investment adviser ## Footnote Examples of exclusions include banks and publishers.
62
What is the **risk** associated with alternative funds compared to traditional mutual funds?
Exposure to risks beyond traditional stocks, bonds, and cash ## Footnote Alternative funds may hold non-traditional investments and employ complex strategies.
63
What is the **suitability** requirement for recommending a deferred variable annuity?
A reasonable basis to believe it is suitable for the customer ## Footnote This includes informing the customer of various features and risks.
64
What happens to annuitized variable annuity payments during a trading halt?
Payments continue during the payout period ## Footnote This is beneficial for retirees relying on those payments.
65
Who is exempt from registering with the **SEC**?
* Investment advisers whose only customers are insurance companies * Advisers whose clients are all in one state * Advisers who offer no advice on securities listed on national exchanges ## Footnote These exemptions apply under specific conditions outlined in the regulations.
66
The definition of **investment adviser** does not include which of the following?
* Banks and bank-holding companies * Publishers of bona fide newspapers or magazines * Brokers or dealers whose investment advice is incidental * Government securities advisers * Persons whose investment advice is incidental to their professions ## Footnote Each exclusion has specific criteria that must be met.
67
True or false: A broker-dealer can charge specifically for giving advice and still maintain their exclusion from being classified as an **investment adviser**.
FALSE ## Footnote If a broker-dealer charges separately for advice, they are considered an investment adviser.
68
What is a **DVP account**?
An account where payment for securities purchased or delivery of securities sold is made by an agent bank ## Footnote This setup reduces the risk of withheld delivery or payment during stressful market conditions.
69
What must a member have on file before accepting **DVP accounts**?
* Name and address of the agent * Account number of the customer on file with the agent ## Footnote This information is crucial for transaction processing.
70
What occurs in a **receive vs. payment (RVP)** transaction?
The dealer receives securities from the bank and makes a cash payment to the bank ## Footnote RVP is the mirror image of DVP.
71
Under **FINRA Rule 2231**, what is a significant exception regarding DVP/RVP transactions?
The firm may be exempt from sending quarterly statements if the customer's account is used solely for DVP/RVP transactions and the customer opts out ## Footnote Trade confirmations for DVP transactions must still be delivered no later than T+1.
72
What is the maximum number of calendar days a member has to obtain payment if delivery is delayed due to transaction mechanics?
35 calendar days from trade date ## Footnote This applies when the delay is not due to the customer's willingness or ability to pay.
73
What does **COD** stand for in trading terms?
Cash on Delivery ## Footnote It operates similarly to DVP transactions.
74
True or false: A seller is obligated to deliver securities on the second business day following the trade date.
FALSE ## Footnote A seller may deliver and collect proceeds on any day following the normal settlement date with proper notice.
Series 24 Flashcard
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