FINRA SIE — Securities Industry Essentials — All Questions

A preliminary prospectus (red herring) circulated during the cooling-off period does NOT contain which item?

• a.A description of the issuer's business
• b.The names of the underwriters
• c.Risk factors of the offering
• d.The final public offering price✓

A red herring omits the final public offering price (and the final proceeds to the issuer); it does include the business description, underwriters, and risk factors. It is used to solicit non-binding indications of interest during the cooling-off period.

When the SEC declares a registration statement effective, it is:

• a.Guaranteeing that every disclosure in the registration statement is accurate, complete, and current
• b.Endorsing the merits of the security as a sound investment for retail buyers
• c.Confirming that the required disclosures appear to have been made, without approving the security✓
• d.Insuring purchasers against any loss on the newly registered shares for one year

SEC effectiveness only means the required disclosures appear to have been made. The SEC does not guarantee accuracy, endorse the security's merit, or insure buyers against loss — claiming it "approved" a security is itself a violation.

Regulation D private placements are sold primarily to:

• a.Any member of the general public
• b.Accredited investors✓
• c.Qualified institutional buyers only
• d.Residents of the issuer's own state only

Regulation D private placements are sold mainly to accredited investors, who meet income or net-worth thresholds. Under Rule 506(b) an issuer may also sell to up to 35 non-accredited purchasers who are financially sophisticated, but may not advertise publicly; under Rule 506(c) the issuer may advertise, but every purchaser must be a verified accredited investor. Sales to the general public require registration. Qualified-institutional-buyer-only resales are the Rule 144A market, and own-state-only offerings are the intrastate exemption, not Regulation D.17 CFR 230.506

A brokerage firm fails, and a customer's fully paid securities are missing from the firm. Which organization is designed to protect the customer in this situation?

• a.The FDIC
• b.The Federal Reserve
• c.SIPC✓
• d.The MSRB

SIPC protects a customer's cash and securities when a brokerage firm fails, up to statutory limits. The FDIC covers bank deposits, the Fed conducts monetary policy, and the MSRB writes municipal rules — none of them replaces missing brokerage assets.

To add money to the banking system and put downward pressure on interest rates, the Federal Reserve will:

• a.Buy government securities in the open market✓
• b.Raise the reserve requirement
• c.Sell government securities in the open market
• d.Raise the discount rate

Buying government securities in the open market injects money into the banking system and pushes rates down. Selling securities, raising the reserve requirement, and raising the discount rate all tighten policy and push rates up.

Adjusting federal tax rates and government spending to influence the economy is an example of:

• a.Monetary policy set by the Federal Reserve Board
• b.Fiscal policy set by Congress and the President✓
• c.Open market operations run by the New York Fed desk
• d.A self-regulatory function performed by FINRA

Taxing and spending decisions are fiscal policy, controlled by Congress and the President. Monetary policy and open market operations belong to the Federal Reserve; this is not an SRO function.

A yield curve on which short-term interest rates are higher than long-term rates is described as:

• a.Normal
• b.Flat
• c.Ascending
• d.Inverted✓

When short-term rates exceed long-term rates, the curve is inverted — an unusual shape that has historically often preceded recessions. A normal curve slopes upward; a flat curve shows little difference across maturities.

The Municipal Securities Rulemaking Board (MSRB):

• a.Insures municipal bonds against default
• b.Examines member broker-dealers and directly enforces its own rules against them
• c.Writes rules for municipal securities but relies on others to enforce them✓
• d.Issues municipal bonds on behalf of cities

The MSRB writes rules for municipal securities but does not enforce them; FINRA and the SEC handle enforcement. The MSRB does not insure or issue bonds.

A recession is commonly defined as:

• a.A single quarter of rising unemployment
• b.Any stock-market decline of 10% or more
• c.Two consecutive quarters of declining GDP✓
• d.A sustained period of rising consumer prices

The common rule of thumb for a recession is two consecutive quarters of declining GDP. Rising unemployment, a market drop, or rising prices (inflation) are related economic signals but are not the definition.

A private company sells newly created shares to the public for the first time. This transaction is:

• a.An initial public offering in the primary market✓
• b.A secondary-market trade
• c.A private placement of restricted securities under Regulation D
• d.An exempt intrastate offering

A company's first public sale of newly created shares is an initial public offering in the primary market, where the issuer receives the proceeds. It is not a secondary trade, a private placement, or an intrastate exemption.

Which statement best distinguishes common stock from preferred stock?

• a.Common stock has the lowest claim in liquidation, while preferred has none
• b.Common stock pays a fixed dividend, while preferred pays a variable payout
• c.Common stockholders usually have voting rights, while most preferred stockholders do not✓
• d.Preferred stock carries the vote on director elections, while common stock does not

Common stockholders usually vote; most preferred stockholders do not. Common has the lowest liquidation claim (not "none"), common dividends are variable while preferred are fixed, and preferred generally lacks a vote — so the other choices are reversed.

In a corporate liquidation, which class is paid last?

• a.Common stockholders✓
• b.Secured bondholders
• c.General (unsecured) creditors
• d.Preferred stockholders

Common stockholders are paid last in a liquidation, after secured creditors, general creditors, and preferred stockholders. Owners always stand behind creditors.

A debenture is best described as:

• a.A bond secured by a first lien on the issuer's real property
• b.A bond backed by a pledge of specific rolling-stock equipment
• c.An unsecured bond backed by the issuer's general credit✓
• d.A residual ownership share in the issuing corporation

A debenture is an unsecured bond backed only by the issuer's general credit and promise to pay. Mortgage and equipment bonds are secured; a share of ownership describes stock, not a bond.

Market interest rates rise after an investor buys a bond. The price of the existing bond will most likely:

• a.Fall✓
• b.Rise
• c.Stay exactly the same
• d.Rise to par and then fall

By the price–yield seesaw, when rates rise, existing bond prices fall. The bond's fixed coupon is now below market, so its price drops to make its yield competitive.

For a bond purchased at a discount, which yield is the highest?

• a.Yield to maturity✓
• b.Nominal yield
• c.Current yield
• d.All the yields are equal

For a discount bond the yields rank nominal < current < YTM, so yield to maturity is the highest because the investor also gains the price appreciation to par. (For a premium bond the order reverses.)

Which security is considered to carry essentially no credit (default) risk because it is backed by the full faith and credit of the U.S. government?

• a.A U.S. Treasury bond✓
• b.A corporate debenture
• c.A municipal revenue bond
• d.Commercial paper

A U.S. Treasury bond is backed by the full faith and credit of the government and is treated as essentially free of default risk. A debenture, a revenue bond, and commercial paper all carry credit risk.

Which of the following carries the full faith and credit of the U.S. government?

• a.FNMA (Fannie Mae) mortgage-backed securities
• b.FHLMC (Freddie Mac) mortgage-backed securities
• c.Corporate commercial paper
• d.GNMA (Ginnie Mae) mortgage-backed securities✓

GNMA (Ginnie Mae) securities carry the government's full faith and credit. FNMA and FHLMC are government-sponsored enterprises whose securities are not directly government-guaranteed; commercial paper is corporate.

The interest paid on most municipal bonds is:

• a.Taxed federally above the corporate bond rate
• b.Taxable in the issuer's own home state
• c.Generally exempt from federal income tax✓
• d.Guaranteed by the federal government

Municipal bond interest is generally exempt from federal income tax, which is its defining advantage. It is not federally guaranteed, and it is often (not always) state-tax-exempt for residents.

Shares of an open-end mutual fund are:

• a.Traded on an exchange throughout the day at a premium or discount to NAV
• b.Fixed in number after the initial offering
• c.Priced once per day at net asset value using forward pricing✓
• d.Priced continuously throughout the trading day

Open-end mutual fund shares are priced once daily at NAV using forward pricing (the next computed NAV). Exchange trading at a premium/discount and continuous intraday pricing describe closed-end funds and ETFs; open-end share counts are not fixed.

Unlike an open-end fund, a closed-end fund:

• a.Trades on an exchange and can sell above or below its NAV✓
• b.Continuously issues new shares and redeems existing shares at NAV
• c.Prices its shares at net asset value at the daily close
• d.Has no fixed share count, so the total grows and shrinks

A closed-end fund trades on an exchange and its market price can be above or below NAV. Continuous issuance/redemption at NAV and an unfixed share count describe open-end funds.

A mutual fund share class that charges a front-end sales load at the time of purchase is:

• a.Class C
• b.A no-load fund
• c.Class A✓
• d.Class B

Class A shares carry a front-end sales load paid at purchase (usually with lower ongoing expenses). Class C is a level load, Class B is back-end (CDSC), and a no-load fund has no sales charge.

Which product holds a basket of securities but trades throughout the day on an exchange like a stock?

• a.A traditional open-end mutual fund
• b.A unit investment trust (UIT)
• c.A fixed annuity
• d.An exchange-traded fund (ETF)✓

An ETF holds a basket of securities but trades intraday on an exchange like a stock. A mutual fund and a UIT do not trade continuously; a fixed annuity is an insurance product.

A unit investment trust (UIT) is characterized by:

• a.An actively managed portfolio that trades securities frequently
• b.A fixed portfolio held for a set term with no active manager✓
• c.Continuous issuance of new shares to investors at the daily NAV
• d.Daily exchange trading at a premium or discount to the fund's NAV

A UIT holds a fixed portfolio for a set term with no active manager. It does not actively trade, continuously issue shares, or trade at a premium/discount like a closed-end fund.

A variable annuity is considered a security because:

• a.The insurer guarantees a fixed minimum annual rate of return
• b.The owner bears the investment risk of the subaccounts✓
• c.It is insured by the FDIC for up to $250,000 per depositor
• d.Its account value is floored at the sum of the premiums paid

A variable annuity is a security because the owner bears the investment risk of the subaccounts. A fixed annuity (insurer bears the risk) is not a security; annuities are not FDIC-insured and can lose value.

A call option gives its holder the right to:

• a.Sell the underlying security if its price falls below the strike price
• b.Buy the underlying security at the exercise price✓
• c.Buy the underlying security at the market price on the expiration date
• d.Collect the stock's dividends

A call gives its holder the right, but not the obligation, to buy the underlying security at the strike price. Selling the underlying security is the right a put gives, and a call has no price-drop trigger. On exercise the holder pays the strike price, not the market price on the expiration date. An option holder collects no dividends and has no vote until the shares are actually bought through exercise.

The writer (seller) of an option:

• a.Pays a premium in exchange for the right to buy or sell the underlying security
• b.Has risk limited to the premium paid at the time of purchase
• c.Can refuse an assignment by returning the premium to the holder
• d.Receives a premium and takes on an obligation if the option is exercised✓

The writer receives the premium and takes on the obligation to perform if exercised. The buyer pays the premium and has limited risk; a writer can indeed be assigned.

Which type of risk affects the entire market and cannot be eliminated through diversification?

• a.Business risk
• b.Credit risk
• c.Liquidity (marketability) risk
• d.Systematic (market) risk✓

Systematic (market) risk affects the whole market and cannot be diversified away. Business, credit, and liquidity risks are unsystematic and can be reduced by diversifying.

Diversifying a portfolio across many companies and industries is most effective at reducing:

• a.Interest-rate risk
• b.Unsystematic (company-specific) risk✓
• c.Inflation risk
• d.Systematic risk affecting the broad market

Diversification reduces unsystematic (company-specific) risk by spreading exposure across many holdings. Interest-rate, inflation, and broad market risks are systematic and remain.

Purchasing-power (inflation) risk is generally greatest for:

• a.Common stocks of growing companies
• b.Directly owned real estate
• c.Physical commodities
• d.Long-term fixed-income securities✓

Inflation (purchasing-power) risk is greatest for long-term fixed-income securities, whose fixed payments lose real value as prices rise. Stocks, real estate, and commodities can rise with inflation.

Compared with a right, a warrant typically:

• a.Has a very short life and is priced below the market price
• b.Is issued only to the company's existing shareholders at a discount price
• c.Has a longer life and an exercise price initially above the market✓
• d.Settles only in cash rather than being exercised for shares

A warrant has a longer life and an exercise price initially above the market, often issued as a sweetener. Short life, below-market pricing, and existing-shareholder distribution describe rights.

An American Depositary Receipt (ADR) allows a U.S. investor to:

• a.Buy municipal bonds whose interest is exempt from federal, state, and local income tax
• b.Avoid all market risk
• c.Receive a dividend that is guaranteed by the federal government
• d.Hold shares of a foreign company that trade in U.S. dollars, subject to currency risk✓

An ADR lets a U.S. investor hold a foreign company's shares priced in U.S. dollars, carrying currency risk. It is not tax-free, risk-free, or federally guaranteed.

If an issuer skips a dividend on its cumulative preferred stock, the missed dividend:

• a.Is permanently forfeited by the preferred shareholder
• b.Accumulates and must be paid before any common dividend✓
• c.Automatically converts into common shares of the issuer
• d.Must be redirected to the issuer's bondholders instead

On cumulative preferred, a skipped dividend accumulates and must be paid before any common dividend. It is not lost (that is straight/noncumulative preferred), does not auto-convert, and is not redirected to bondholders.

Because a convertible bond can be exchanged for common shares, it usually:

• a.Pays a higher coupon than a comparable nonconvertible bond
• b.Has no stated maturity date, unlike a straight bond
• c.Must be secured by a first lien on the issuer's assets
• d.Pays a lower coupon than a comparable nonconvertible bond✓

The conversion feature is valuable, so a convertible bond usually pays a lower coupon than a comparable nonconvertible bond. It still has a maturity and need not be secured.

Municipal bonds are generally most attractive to investors who are in:

• a.The lowest tax brackets
• b.The highest tax brackets✓
• c.A tax-exempt retirement account
• d.A foreign tax jurisdiction

Because muni interest is tax-free, munis benefit high-tax-bracket investors most. Low brackets gain little, and holding a tax-free bond inside a tax-exempt retirement account wastes the advantage.

Which of the following is a money market instrument?

• a.Commercial paper✓
• b.A 30-year Treasury bond
• c.Common stock
• d.A convertible debenture

Commercial paper is short-term (one year or less) corporate debt — a money market instrument. A 30-year bond and a convertible debenture are long-term debt; common stock is equity.

A real estate investment trust (REIT):

• a.Passes both its income and its operating losses through directly to its investors
• b.Pools capital to invest in income-producing real estate and trades like a stock✓
• c.Is an insurance contract that pays lifetime income
• d.Guarantees investors a fixed rate of return

A REIT pools capital to invest in income-producing real estate and trades like a stock. It does not pass through losses (unlike a DPP), is not an insurance contract, and does not guarantee a return.

A direct participation program (limited partnership) is distinctive because it:

• a.Trades continuously on a national exchange and is highly liquid
• b.Gives the limited partners unlimited personal liability for its debts
• c.Passes both income and losses through to the limited partners✓
• d.Is guaranteed against loss by the general partner's own capital

A DPP (limited partnership) passes both income and losses through to the limited partners. It is illiquid, limited partners have limited (not unlimited) liability, and there is no loss guarantee.

The par value of a typical corporate bond, repaid at maturity, is conventionally:

• a.$100
• b.$1,000✓
• c.$500
• d.$10,000

A corporate bond's conventional par value is $1,000, the amount repaid at maturity. The other figures are not the standard par.

A fixed annuity differs from a variable annuity in that a fixed annuity:

• a.Exposes the owner to the market risk of the underlying investment subaccounts
• b.Guarantees a fixed rate, with the insurer bearing the investment risk✓
• c.Must be registered with the SEC and sold only with a prospectus
• d.Contains no insurance component, only investment subaccounts

A fixed annuity guarantees a fixed rate, with the insurer bearing the investment risk — an insurance product. Market exposure, securities registration, and "no insurance component" describe a variable annuity.

An investor who buys a put option is most likely expecting the underlying stock to:

• a.Fall in price✓
• b.Rise sharply
• c.Begin paying a higher dividend
• d.Stay exactly flat

A put buyer profits when the underlying falls — a bearish position (the right to sell at the strike). A call buyer is bullish; dividends and a flat market are not the point of a put.

A market order is characterized by:

• a.Execution only at a specified price or better
• b.Remaining dormant until a trigger price is reached
• c.A guarantee of a specific execution price
• d.Immediate execution at the best available price✓

A market order executes immediately at the best available price, prioritizing speed over price. Price-specific execution describes a limit order; dormant-until-triggered describes a stop order; no order guarantees a price.

A customer places a buy limit order at $50. The order will:

• a.Fill only at $50 or lower, and may not fill at all✓
• b.Fill immediately at the best price currently available
• c.Convert into a market order as soon as it is entered
• d.Fill at $50 or higher, tracking the offer upward

A buy limit at $50 fills only at $50 or lower and may never fill if the market stays above it. It does not fill immediately, become a market order, or fill above the limit.

Under current rules, regular-way settlement for most securities occurs:

• a.On the same day as the trade
• b.Two business days after the trade date (T+2)
• c.One business day after the trade date (T+1)✓
• d.Three business days after the trade date (T+3)

Regular-way settlement is now T+1 — one business day after the trade (SEC Rule 15c6-1, since May 28, 2024). Same day is a cash settlement; T+2 and T+3 are outdated.

When a firm arranges a trade between a customer and a third party without taking the security into its own inventory, it is acting as a(n):

• a.Principal earning a markup
• b.Market maker on both sides
• c.Underwriter of a new issue
• d.Agent earning a commission✓

Arranging a trade with a third party without holding inventory makes the firm an agent earning a commission. A principal uses its own inventory and earns a markup; this is neither a market-making nor an underwriting role here.

A firm that sells a customer securities out of its own inventory is acting as a principal and is compensated through:

• a.A separate, disclosed commission
• b.A markup built into the price✓
• c.An annual 12b-1 fee
• d.An advisory wrap fee

Selling from its own inventory, the firm is a principal compensated by a markup in the price. A commission is agency compensation; 12b-1 and wrap fees are unrelated.

A trade confirmation must disclose:

• a.The customer's personal income tax bracket for the year
• b.The firm's total quarterly revenue
• c.The names of the firm's other customers
• d.Whether the firm acted as agent or principal✓

A confirmation must disclose whether the firm acted as agent or principal (Rule 10b-10), so the customer knows how the firm was paid. The other items are not confirmation disclosures.

To be entitled to a declared cash dividend, an investor must own the stock:

• a.Before the ex-dividend date✓
• b.On the payable date
• c.On the declaration date only
• d.Any time after the record date

To receive a dividend, an investor must own the shares before the ex-dividend date. Owning on the payable date, the declaration date only, or after the record date is too late.

In a joint account held as tenants with right of survivorship (JTWROS), when one owner dies, that owner's share:

• a.Passes to the deceased owner's estate under the will
• b.Is forfeited to the brokerage firm holding it
• c.Must be liquidated by the firm within thirty days
• d.Passes automatically to the surviving owner(s)✓

In JTWROS, a deceased owner's share passes automatically to the surviving owner(s). Passing to the estate describes tenants in common; the firm does not take it, and no forced sale occurs.

In a tenants-in-common (TIC) account, a deceased owner's share passes to:

• a.The deceased owner's estate✓
• b.The surviving co-owners automatically
• c.The brokerage firm
• d.The SEC

In tenants in common, a deceased owner's share passes to that owner's estate, not to the co-owners. That automatic transfer to survivors is the JTWROS feature.

A custodial account under UGMA/UTMA:

• a.May name several minors as beneficiaries at once
• b.Has one custodian and one minor beneficiary✓
• c.Is controlled by the minor from the day it opens
• d.Reverts to the donor once the minor is 18

A UGMA/UTMA account has one custodian and one minor beneficiary, and the assets become the minor's at the age of majority. It cannot name multiple minors, the minor does not control it initially, and it does transfer at majority.