NASAA Series 66 — All Questions

Government National Mortgage Association (GNMA / Ginnie Mae) pass-through securities:

• a.Pay interest that is entirely exempt from federal, state, and local income taxation for holders
• b.Pass through monthly principal and interest, with a U.S. government guarantee✓
• c.Return the entire principal in one lump sum at a fixed maturity date
• d.Carry only an implied government backing, as Fannie Mae securities do

Ginnie Mae pass-throughs distribute monthly payments of principal and interest from a pool of mortgages, and the timely payment is backed by the full faith and credit of the United States. Their interest is fully taxable, so it is not exempt like municipal interest. They amortize monthly rather than paying principal in a lump sum, and unlike Fannie Mae and Freddie Mac securities the backing is an explicit guarantee, not an implied one. Because homeowners can prepay, holders face prepayment risk.12 U.S.C. 1721(g)

Interest income received from a corporate bond is generally:

• a.Taxed at the long-term capital gains rate
• b.Tax-free if reinvested
• c.Exempt from federal tax but subject to state and local tax
• d.Fully taxable as ordinary income✓

Corporate bond interest is fully taxable as ordinary income at the federal, state, and local levels. This contrasts with municipal bond interest (generally federally tax-exempt) and Treasury interest (exempt from state and local tax). After-tax yield comparisons are central to suitability.

A resident of a state who buys a municipal bond issued within that same state generally receives interest that is:

• a.Taxed only at the local municipal level
• b.Exempt from federal and that state's income tax✓
• c.Fully taxable at every level
• d.Subject to federal income tax but exempt from that state's income tax

Interest on a municipal bond is generally exempt from federal income tax, and when the investor resides in the issuing state, it is usually also exempt from that state's income tax (often called 'triple tax-exempt' when local taxes also do not apply). Out-of-state munis are typically federally exempt but state-taxable.

An investor in the 32% federal tax bracket is considering a municipal bond yielding 4%. The taxable-equivalent yield is approximately:

• a.12.5%
• b.4.32%
• c.2.72%
• d.5.88%✓

Taxable-equivalent yield equals the tax-free yield divided by (1 minus the tax bracket): 4% / (1 - 0.32) = 4% / 0.68 = 5.88%. A taxable bond would need to yield about 5.88% to match the muni after tax. Higher brackets make municipal bonds relatively more attractive.

A corporate bond yields 6% and the investor is in the 25% tax bracket. The investor's approximate after-tax yield is:

• a.6.00%
• b.8.00%
• c.1.5%
• d.4.5%✓

After-tax yield equals the taxable yield times (1 minus the tax bracket): 6% x (1 - 0.25) = 4.5%. This is the yardstick for comparing a taxable corporate bond against a tax-free municipal bond. Here a muni yielding more than 4.5% would be the better after-tax choice.

Commercial paper is BEST described as:

• a.A long-term secured bond issued by a corporation specifically to finance major capital expenditures and expansion
• b.A municipal note issued by a local government in anticipation of future property-tax revenue
• c.Short-term, unsecured corporate debt sold at a discount, maturing in 270 days or less✓
• d.A negotiable certificate of deposit that a commercial bank issues to its individual retail customers

Commercial paper is short-term, unsecured corporate debt issued at a discount to meet immediate financing needs, with maturities of 270 days or less (which exempts it from Securities Act registration). It is a common money-market instrument. Only strong-credit corporations can issue it economically.

A banker's acceptance (BA) is a money-market instrument primarily used to:

• a.Facilitate international trade by guaranteeing payment for goods✓
• b.Give retail investors a federally insured bank deposit
• c.Provide long-term financing for plant and equipment
• d.Allow a municipality to borrow against anticipated tax revenue for the coming year

A banker's acceptance is a time draft guaranteed by a bank, used chiefly to finance international trade by assuring the exporter of payment. It is short-term and trades at a discount in the money market. Its bank guarantee makes it a relatively low-risk instrument.

In a repurchase agreement (repo), a dealer:

• a.Sells securities and agrees to buy them back later at a higher price✓
• b.Buys securities now and agrees to resell them later for more
• c.Borrows securities from a customer to cover a short sale and pays a fee for the loan
• d.Sells securities outright to the counterparty with no obligation to buy them back

In a repo the dealer sells securities and agrees to repurchase them shortly afterward at a slightly higher price; the difference is effectively short-term interest. Buying securities with an agreement to resell is the reverse repo, the other side of the same transaction. Borrowing securities for a fee is a stock loan, and an outright sale carries no repurchase commitment.

Class A mutual fund shares are typically characterized by:

• a.A front-end sales load paid at purchase, often reduced by breakpoints✓
• b.A higher ongoing 12b-1 fee with no charge at purchase
• c.No sales charge and the lowest annual operating expense ratio
• d.A contingent deferred sales charge that declines to zero over several years of holding

Class A shares charge a front-end sales load at the time of purchase but typically carry lower ongoing 12b-1 fees, and they offer breakpoint discounts for larger investments. They generally suit long-term investors who can reach breakpoints. Class B and C shares shift the cost structure to deferred or level loads.

Class B mutual fund shares generally impose:

• a.A front-end sales charge deducted from the investor's initial purchase amount, with lower annual fees
• b.A level sales charge on redemption that never declines, however long shares are kept
• c.A contingent deferred sales charge that declines the longer the shares are held✓
• d.No sales charge at purchase or sale, only an annual 12b-1 fee

Class B shares carry a contingent deferred sales charge (back-end load) that falls the longer the investor holds, often reaching zero after several years, and typically a higher 12b-1 fee; many convert to Class A later. A charge deducted at purchase describes Class A, a charge that never declines describes a level-load share, and having no sales charge at all is the no-load structure.FINRA Rule 2341(d)

Class C mutual fund shares are usually LEAST appropriate for an investor who:

• a.Intends to hold the investment for a very long time horizon✓
• b.Expects to move in and out of the fund within a short time frame
• c.Wants to avoid a front-end sales load at purchase
• d.Is uncertain how long the money will stay invested and may need to redeem within a few years

Class C shares carry a level load, including higher ongoing 12b-1 fees for as long as the shares are held, so their cumulative cost makes them poorly suited to an investor with a very long horizon, for whom Class A shares (with breakpoints) are usually cheaper overall. Class C can be economical for an investor who expects to sell within a short period, who is unsure how long the money will be invested, or who wants to avoid a front-end sales load.

A mutual fund breakpoint is:

• a.A contingent deferred sales charge on shares sold within a set period
• b.The dollar level at which a fund stops charging its annual 12b-1 fee
• c.The holding period after which Class B shares convert to Class A shares
• d.A reduced sales charge that applies once an investment reaches set dollar levels✓

A breakpoint is a dollar threshold at which the front-end sales charge on Class A shares falls; larger investments earn lower percentages, and investors can reach breakpoints through lump sums, letters of intent or rights of accumulation. A charge on early redemption is a contingent deferred sales charge, not a breakpoint. A breakpoint has nothing to do with when the 12b-1 fee ends or when a share class converts, which are driven by time held.FINRA Rule 2341(d)(1)(C)

A 'breakpoint sale' violation occurs when a representative:

• a.Recommends an amount just below a breakpoint to earn a higher commission✓
• b.Discloses all available breakpoint discounts before a large purchase
• c.Uses a letter of intent to help a client reach a breakpoint over 13 months
• d.Aggregates a family's combined holdings to qualify for a lower sales charge

A breakpoint sale is the unethical practice of recommending a purchase just under a breakpoint so the client pays a higher sales charge and the rep earns more commission. It denies the client an available discount. Representatives must instead inform clients of breakpoints they could reach.

A letter of intent (LOI) for a mutual fund purchase allows an investor to:

• a.Qualify for a breakpoint discount by pledging to invest a set amount within 13 months✓
• b.Qualify for a breakpoint by counting the current value of shares already owned
• c.Switch into another fund in the same family and pay no sales charge on the switch
• d.Reinvest distributions without a sales charge

A letter of intent gets the reduced sales charge of a breakpoint by committing to invest the required total within 13 months; it can be backdated up to 90 days, and if the investor falls short the fund collects the higher charge from escrowed shares. Counting shares already owned is rights of accumulation, exchanging within a fund family is an exchange privilege, and reinvesting distributions without a charge is the reinvestment privilege.

Rights of accumulation permit a mutual fund investor to:

• a.Count the current value of existing holdings toward reaching a new breakpoint✓
• b.Commit to invest a set amount within 13 months to reach a breakpoint
• c.Exchange into another fund in the same family with no new load
• d.Reinvest distributions at net asset value with no sales charge

Rights of accumulation let an investor count the existing fund holdings, measured by current value (or in some funds cost), toward a breakpoint on new purchases, earning a lower sales charge. Unlike a letter of intent there is no time limit or advance commitment. Committing to buy a set amount over 13 months is the letter of intent, switching funds within a family is an exchange privilege, and reinvestment of distributions at no charge is a separate privilege.FINRA Rule 2341(b)(7)

A mutual fund's net asset value (NAV) per share is calculated as:

• a.Total assets divided by shares outstanding, without subtracting liabilities
• b.Total assets minus total liabilities, divided by shares authorized
• c.Net assets divided by shares outstanding, plus the maximum sales charge
• d.Total assets minus total liabilities, divided by shares outstanding✓

NAV per share is total assets minus total liabilities, divided by the shares outstanding, and it is computed once a day after the close. Leaving out liabilities overstates it, and dividing by authorized rather than outstanding shares uses the wrong share count. Adding the sales charge produces the public offering price of a load fund, not the NAV.

An open-end fund has a net asset value of $9.30 and a public offering price of $10.00. The sales charge, expressed as a percentage of the public offering price, is:

• a.0.70%
• b.9.30%
• c.7.0%✓
• d.7.53%

The sales charge percentage equals (POP - NAV) / POP = ($10.00 - $9.30) / $10.00 = $0.70 / $10.00 = 7%. The sales charge is always measured against the public offering price, not the NAV. FINRA caps mutual fund sales charges at 8.5% of the POP.

A mutual fund's 12b-1 fee is:

• a.An annual fee deducted from fund assets to cover distribution and marketing✓
• b.A redemption penalty imposed on investors who sell their shares within the first year
• c.A performance fee earned only when the fund beats its benchmark
• d.A one-time charge paid to the underwriter when the fund is first brought to market

A 12b-1 fee is an annual charge deducted from fund assets to pay for distribution, marketing, and sometimes shareholder servicing. It reduces the investor's net return every year. Because it is ongoing, high 12b-1 fees weigh most heavily on long-term holders (as with Class C shares).

Under FINRA rules, the maximum sales charge on the purchase of an open-end mutual fund is:

• a.8.5% of the public offering price✓
• b.9.0% of net asset value
• c.5.0% of the amount invested
• d.There is no maximum; a fund may set any sales load it chooses

FINRA limits the maximum sales charge on a mutual fund to 8.5% of the public offering price, and even that maximum is only available if the fund offers breakpoints, rights of accumulation, and dividend reinvestment at NAV. Most funds charge less. The cap protects investors from excessive loads.

A key structural difference between an ETF and a traditional open-end mutual fund is that an ETF:

• a.Can be bought or sold only once a day at a price set after the close
• b.Pays no management fee, because its shares are bought and sold in the secondary market
• c.Always trades at a price exactly equal to NAV, because arbitrage removes any gap between them
• d.Trades intraday on an exchange at prices that may differ from NAV✓

Exchange-traded funds trade throughout the day on an exchange like stocks, so their market price can sit at a premium or discount to NAV, and intraday orders such as limits and stops are available. Mutual funds are priced only once a day, at NAV after the close. An ETF still charges an expense ratio, and although arbitrage by authorized participants keeps its price close to NAV, it does not guarantee that the two are always equal.

ETFs are often more tax-efficient than comparable mutual funds largely because:

• a.Qualified-dividend treatment applies to every ETF distribution without exception
• b.The in-kind creation and redemption process limits taxable capital-gains distributions✓
• c.They hold only municipal securities, so all of their income is exempt from federal income tax
• d.Selling ETF shares is not a taxable event for the shareholder

ETFs use in-kind creation and redemption with authorized participants, so low-basis securities can be handed out without a taxable sale, which minimizes capital-gains distributions. ETF distributions are not all qualified dividends, and ETFs are not limited to municipal securities. Shareholders still owe tax on gains when they sell their own shares.26 U.S.C. 852(b)(6)

A closed-end fund is trading at a 'discount.' This means its current market price is:

• a.Above its net asset value per share
• b.Below its net asset value per share✓
• c.Fixed by the fund's board regardless of supply and demand
• d.Exactly equal to its net asset value at all times

A closed-end fund has a fixed number of shares that trade on an exchange, so market forces can push the price below NAV (a discount) or above NAV (a premium). It does not redeem shares at NAV the way an open-end fund does. Persistent discounts are a well-known feature of many closed-end funds.

When comparing two index funds that track the same benchmark, the more important factor for long-term net returns is usually the fund's:

• a.Last year's return, since the leader is likely to lead again
• b.Manager tenure, since experienced managers beat the index
• c.Asset size, since larger funds earn higher gross returns
• d.Expense ratio, since lower ongoing costs directly raise net returns✓

Two funds tracking the same index earn nearly the same gross return, so the one with the lower expense ratio should deliver higher net returns, because costs compound against the investor every year. Last year's return is not a reliable predictor, an index fund has little manager discretion to reward tenure, and a larger fund does not earn a higher gross return from the same index.

A key tax feature of a variable annuity during the accumulation phase is that:

• a.All investment gains are tax-free, both while invested and at withdrawal
• b.Contributions are fully deductible
• c.Earnings grow tax-deferred until withdrawal✓
• d.The investor pays tax each year on the subaccounts' growth

In a variable annuity, earnings in the separate account grow tax-deferred during accumulation; no tax is due until money is withdrawn. Contributions to a non-qualified annuity are made with after-tax dollars, so they are not deductible. This deferral is a key selling point compared with taxable accounts.

Withdrawals from a non-qualified variable annuity are taxed on a LIFO basis, meaning:

• a.The cost basis comes out first, taxed at capital gains rates
• b.Earnings are considered withdrawn first and taxed as ordinary income✓
• c.Each withdrawal is split evenly between earnings and return of basis
• d.The entire withdrawal is treated as a tax-free return of principal first

Under Section 72(e) of the Internal Revenue Code, a withdrawal from a non-qualified annuity before annuitization is taxed to the extent it is allocable to earnings, meaning the cash value above the investment in the contract. Earnings are therefore treated as coming out first and are taxed as ordinary income; the cost basis is returned tax-free only after all earnings are out (last in, first out). Withdrawals before age 59½ can also draw a 10% additional tax on the taxable portion under Section 72(q). Gains never get capital-gains treatment, basis does not come out first, withdrawals are not split evenly, and they are not tax-free just because some of the money is principal.26 U.S.C. §72(e)(2)(B), (e)(3)

In a variable annuity's payout phase, the assumed interest rate (AIR) is:

• a.The separate account's actual net investment return during the payout phase, after all fees
• b.A benchmark used to determine the changing amount of each variable payment✓
• c.The fixed rate that the insurer credits to its general account for fixed-annuity contracts
• d.A guaranteed minimum return that the insurer promises, so that no payment can ever fall

The assumed interest rate is a benchmark set at annuitization: if the separate account's actual return beats it, the next payment rises, and if it falls short, the payment declines. It is not the account's actual return, which is what is compared against it. It is not the general-account rate used for fixed annuities, and it is not a guaranteed minimum, since variable payments can fall.

Variable life insurance differs from whole life insurance primarily because:

• a.The cash value is held in the insurer's general account, earning a fixed guaranteed rate
• b.The death benefit is fixed and never changes, while only the cash value varies
• c.The policyholder bears no investment risk because the insurer guarantees the cash value
• d.The cash value and death benefit vary with separate-account investment performance✓

In variable life insurance the premiums are invested in separate-account subaccounts, so both the cash value and the death benefit fluctuate with investment performance, subject to a guaranteed minimum death benefit. A general-account cash value at a fixed rate is whole life. The death benefit also varies, and the policyholder bears the investment risk, which is why variable life is a security.

A Section 1035 exchange allows an investor to:

• a.Roll a 401(k) balance into an annuity and deduct the full amount from income
• b.Withdraw annuity earnings before age 59½ without the 10% penalty tax
• c.Convert a traditional IRA to a Roth IRA with no income recognized
• d.Transfer the cash value of one annuity or life policy into another without current tax✓

A Section 1035 exchange lets a policyholder swap one insurance or annuity contract for another of a permitted type without recognizing current gain; cost basis and tax deferral carry over. It does not create a deduction for a plan rollover, remove the early-withdrawal penalty, or waive tax on a Roth conversion.26 U.S.C. 1035(a)

A surrender charge on a deferred annuity is:

• a.An annual fee the insurer deducts to cover mortality and expense risks under the contract
• b.A charge the insurer imposes for withdrawing funds during the early contract years✓
• c.A sales charge deducted from each premium payment at the time the owner makes it
• d.A federal tax penalty automatically applied to every annuity withdrawal made before the age of 59½

A surrender charge is the fee an insurer deducts when the owner withdraws more than the permitted free amount, or surrenders the contract, during the early contract years; it typically declines each year and eventually disappears. It is not the annual mortality-and-expense charge, which is deducted every year whether or not money is withdrawn, and it is not a front-end sales charge taken from each premium payment. It is also separate from the 10% additional federal tax under Section 72(q) on taxable early withdrawals, which is owed to the IRS and does not go to the insurer. Surrender periods and charges are key suitability factors.

Compared with a mutual fund, a variable annuity offers which feature that a mutual fund does NOT?

• a.Professional management of a diversified portfolio of investments
• b.Tax-deferred growth plus an insurance guarantee such as a minimum death benefit✓
• c.Exemption from federal securities registration because the contract is issued by an insurer
• d.A guarantee that subaccount principal cannot lose value in a market decline

A variable annuity wraps investment subaccounts in an insurance contract, adding tax-deferred growth and insurance features such as a guaranteed minimum death benefit that a mutual fund lacks. Professional management is common to both. A variable annuity is a security and must be registered, and subaccount principal is not guaranteed, so it can lose value. Annuities also carry higher fees and surrender charges.

An investor buys one call option and pays a $3 premium. The maximum loss on this long call position is:

• a.The difference between the strike price and the market price
• b.The strike price times 100 shares, the amount needed to exercise the call
• c.Unlimited, because the stock could keep rising
• d.Limited to the $3 premium paid ($300 total)✓

The most a call buyer can lose is the premium paid: $3 per share, or $300 for the 100-share contract, if the option expires worthless. The strike price times 100 shares is only what the buyer would pay if the call were exercised, and exercising happens only when it benefits the buyer, so it is not the loss on the option. The gap between strike and market price is the option's intrinsic value, which can only help the holder. Unlimited loss belongs to the uncovered call writer, while for the buyer it is the profit potential that is theoretically unlimited.

The maximum potential gain for the buyer of a put option occurs when:

• a.The underlying stock falls to zero, so the gain equals the strike price minus the premium paid✓
• b.The stock rises sharply above the strike price, so the gain is unlimited, as with a long call
• c.The stock is at the strike price at expiration, when time value is at its greatest
• d.The underlying stock falls to zero, so the gain equals the strike price plus the premium paid

A put buyer profits as the stock falls, so the maximum gain occurs if the stock drops to zero: the gain equals the strike price minus the premium paid. Unlimited gain belongs to a long call, not a put. A stock at the strike at expiration leaves the put with no intrinsic value, and the premium is a cost to the buyer, so it is subtracted from the gain rather than added.

An investor who owns 100 shares of a stock buys one put on that same stock. This 'protective put' strategy is designed to:

• a.Obligate the investor to sell the shares at the strike price at expiration
• b.Generate current income from the premium received for writing the put
• c.Increase leverage on the position and magnify gains if the stock rises sharply
• d.Limit downside loss on the stock while retaining upside potential✓

Buying a protective put on stock already owned sets a floor on losses at the strike price (less the premium paid) while leaving the upside intact, much like buying insurance for the position. The cost is the premium, which the investor pays rather than collects, so the strategy does not produce premium income; collecting premium comes from writing options. The put gives the owner the right, not the obligation, to sell at the strike price, so nothing obliges the investor to sell at expiration, and the put adds protection rather than leverage. It suits an investor who is bullish long term but wants short-term downside protection.

The writer (seller) of an option:

• a.Receives the premium and takes on the obligation to perform if assigned✓
• b.Can never lose more than the premium received for writing the option
• c.Has the right, but not the obligation, to exercise before expiration
• d.Must always own the underlying security before writing a call or put

An option writer receives the premium and accepts the obligation to perform if the holder exercises and the writer is assigned: delivering shares on a call or buying shares on a put. The writer's loss can exceed the premium, up to unlimited for an uncovered call. Having the right but not the obligation describes the buyer, and writers can sell uncovered options.

A primary tax characteristic of a direct participation program (DPP) is that it:

• a.Passes income, gains, and losses through directly to investors✓
• b.Allows losses to offset the investor's wages and portfolio income without limit
• c.Is taxed as a corporation, with income taxed at the entity level
• d.Passes income through but keeps losses inside the partnership

A direct participation program, usually a limited partnership, is a flow-through entity: income, gains, deductions and losses pass directly to the investors with no entity-level tax. Losses do not offset wages and portfolio income without limit, because passive-activity rules restrict them. Keeping losses at the entity level describes a REIT, and corporate taxation at the entity level is the double taxation a DPP avoids.

In a limited partnership, a limited partner's liability is generally:

• a.Limited to the capital invested plus any recourse debt assumed✓
• b.Unlimited, extending to the partner's personal assets
• c.Limited to the capital invested, and unaffected even if the partner takes an active role in managing the business
• d.Equal to that of the general partner, who manages the business day to day

A limited partner's liability is generally limited to the amount invested plus any recourse debt personally assumed, in exchange for giving up management control. Unlimited personal liability is the general partner's, not the limited partner's, and the limited partner is not equal to the general partner. A limited partner who takes an active part in managing the business can lose the limited-liability protection, so that protection is not unaffected by management activity. This limited-liability feature is central to the direct participation program structure.

A mortgage REIT differs from an equity REIT in that a mortgage REIT primarily:

• a.Owns mortgaged apartment buildings and collects the rents
• b.Constructs new housing developments and sells the finished homes
• c.Lends to property owners or invests in mortgages, earning interest✓
• d.Owns and operates income-producing commercial real estate such as malls and office towers

A mortgage REIT invests in real estate debt, meaning mortgages and mortgage-backed securities, and earns its income from the interest, so it is highly sensitive to interest rates. An equity REIT instead owns and operates income-producing properties such as malls and office towers; owning mortgaged buildings and collecting rent is also an equity-REIT activity, even though the properties carry mortgages. A homebuilder constructs and sells housing, which is not what a REIT does. Some hybrid REITs combine both approaches.

Unlike a limited partnership, a REIT:

• a.Passes income through to shareholders but does not pass through losses✓
• b.Must invest only in mortgage securities and may not own real property directly
• c.Pays corporate income tax on all of its income before it pays any dividends
• d.Passes both its income and its losses through to its shareholders

A REIT avoids corporate-level tax by distributing at least 90% of its taxable income, so income flows through, but unlike a limited partnership a REIT does not pass losses through. Equity REITs own real property, so there is no mortgage-only limit. REITs do not pay corporate tax on distributed income, and passing losses through is the limited partnership feature.

A futures contract is BEST described as:

• a.A swap in which two parties exchange payment streams
• b.A warrant issued by a corporation giving the holder the right to buy its stock at a fixed price
• c.A binding obligation to buy or sell an asset at a set price on a future date✓
• d.The right, but not the obligation, to buy or sell a specified asset at a set price at a future date

A futures contract is a standardized, exchange-traded agreement that obligates both parties to transact a specified asset at a set price on a future date. The obligation distinguishes it from an option, which grants only a right. A swap exchanges payment streams rather than an asset, and a warrant is a corporation's long-term right to buy its own stock.

A forward contract differs from a futures contract mainly because a forward is:

• a.A privately negotiated, customized agreement not traded on an exchange✓
• b.Marked to market daily, with gains and losses settled in each party's account
• c.A standardized contract that a clearinghouse guarantees and an exchange lists
• d.Always settled in cash at maturity, never by physical delivery of the underlying

A forward contract is a private, customized agreement between two parties, negotiated directly and not traded on an organized exchange, which introduces counterparty risk. Futures, by contrast, are standardized, exchange-traded, guaranteed by a clearinghouse, and marked to market daily. Forwards are not limited to agricultural commodities, and they may be settled by physical delivery as well as in cash. Both lock in a price for future delivery.

Hedge funds are generally BEST described as:

• a.Low-risk pooled vehicles that invest only in government bonds and federally insured bank deposits
• b.Privately offered, lightly regulated funds limited to accredited or qualified investors✓
• c.Federally guaranteed accounts that fully protect investors against any possible loss of their principal
• d.Registered open-end investment companies that are sold to the general public and offer daily liquidity

Hedge funds are private investment pools that rely on exemptions from registration and are therefore limited to accredited or qualified (sophisticated) investors. They use strategies such as leverage, short selling, and derivatives, and are lightly regulated, illiquid, and higher-risk. They are unsuitable for most retail investors.

A tax anticipation note (TAN) issued by a municipality is:

• a.A short-term note repaid from the proceeds of a later long-term bond issue
• b.A short-term note repaid from expected grant revenue
• c.A long-term bond repaid over 30 years from a specific project's revenue
• d.A short-term instrument repaid from expected future tax collections✓

A tax anticipation note is a short-term municipal instrument issued to bridge timing gaps and repaid from anticipated tax receipts. A note repaid from a later long-term bond sale is a bond anticipation note, one repaid from grants is a grant anticipation note, and a long-term project-financed bond is a revenue bond.

Because it pays a fixed dividend, the market price of a straight (non-convertible) preferred stock tends to:

• a.Increase whenever market interest rates rise
• b.Rise with the issuer's earnings growth, much like its common stock
• c.Move inversely with interest rates, much like a long-term bond✓
• d.Remain permanently fixed at par regardless of credit market conditions

Because straight preferred pays a fixed dividend, its price behaves like a fixed-income security and moves inversely to interest rates — rising when rates fall and falling when rates rise. It has significant interest-rate risk and limited upside. This is why preferred is often grouped with bonds for analysis.

Treasury STRIPS are created by:

• a.Pooling residential home mortgages and passing the monthly payments through to the investors who hold them
• b.Adjusting a Treasury bond's principal each year to keep pace with the reported rate of consumer inflation
• c.Combining several different corporate bonds together into a single diversified pass-through security
• d.Separating a Treasury bond's coupon and principal into individual zero-coupon securities✓

STRIPS (Separate Trading of Registered Interest and Principal of Securities) are created by stripping a Treasury bond's coupon payments and principal apart and selling each as a separate zero-coupon security. They pay no current interest and are bought at a discount. Holders owe annual tax on imputed ('phantom') interest.

A corporate bond is quoted at 98. This means the bond is priced at:

• a.$98 per bond
• b.A yield to maturity of 9.8%
• c.$980 per $1,000 of face value✓
• d.98% of the annual coupon interest

Bonds are quoted as a percentage of par (face) value, so a quote of 98 means 98% of $1,000, or $980 — a discount to par. A quote above 100 would indicate a premium. Corporate and municipal bonds are typically quoted in this percentage-of-par format.

The four phases of the business cycle, in order, are:

• a.Growth, maturity, decline, and renewal
• b.Inflation, deflation, stagflation, and recovery
• c.Expansion, peak, contraction, and trough✓
• d.Bull market, bear market, correction, and rally

The business cycle moves through expansion (growth), a peak, contraction (recession), and a trough before the next expansion begins. Recognizing the phase helps advisers position portfolios, since different sectors lead at different points. The cycle's timing and length are irregular, not fixed.

Fiscal policy refers to the use of:

• a.Bank reserve requirements controlling how much banks may lend
• b.Interest-rate targets and open-market operations set by the central bank
• c.Currency-exchange interventions to stabilize the currency
• d.Government spending and taxation to influence the economy✓

Fiscal policy is the use of government spending and taxation decisions — made by Congress and the President — to influence economic activity. It is distinct from monetary policy, which the Federal Reserve conducts through interest rates and the money supply. The two often work together to manage the economy.

Which of the following is a tool of the Federal Reserve's monetary policy?

• a.Open-market operations — buying and selling government securities✓
• b.Setting federal income tax rates for individuals and corporations
• c.Deciding federal spending on infrastructure and defense programs
• d.Establishing tariffs on imported goods to protect domestic industries

Open-market operations — the buying and selling of government securities — are the Fed's primary monetary-policy tool, alongside the discount rate and reserve requirements. Buying securities adds reserves and eases policy; selling drains reserves and tightens it. Taxes, spending, and tariffs are fiscal or trade matters, not monetary tools.

To stimulate a weak economy, the Federal Reserve would MOST likely:

• a.Sell Treasury securities in the open market to withdraw reserves
• b.Raise the interest rate it pays on reserve balances to encourage banks to hold them
• c.Buy government securities in the open market, adding reserves and lowering rates✓
• d.Increase the discount rate charged on loans to depository institutions

To ease policy and stimulate growth the Fed buys government securities in the open market, which adds reserves, lowers short-term rates and supports borrowing and spending. Selling securities, raising the interest rate on reserve balances and raising the discount rate would each tighten policy. The reserve-requirement option was dropped because the requirement has been 0% since March 2020.

The discount rate is the interest rate:

• a.The Federal Reserve charges member banks that borrow from it✓
• b.The U.S. Treasury pays on newly auctioned Treasury bills
• c.That banks charge their most creditworthy corporate borrowers for short-term needs
• d.That commercial banks charge one another for overnight loans of reserves

The discount rate is the interest rate the Federal Reserve charges member banks that borrow directly from it through the discount window. Lowering it encourages bank borrowing and eases credit; raising it does the opposite. It is separate from the federal funds rate, which is a bank-to-bank rate.