FINRA Series 7 — All Questions

In a limited partnership, the general partner:

• a.Has personal liability limited to the amount invested, as the limited partners do
• b.Is a passive investor who must stay out of management to keep liability protection
• c.Has unlimited personal liability but is barred from running the business day to day
• d.Manages the business and has unlimited personal liability for partnership debts✓

The general partner runs the partnership and bears unlimited personal liability for its debts. Liability limited to the amount invested is the limited partner's position, not the general partner's. Staying passive to keep liability protection also describes a limited partner, who can lose that protection by taking an active management role. A general partner is not barred from management; managing the business is its role.

A customer buys $30,000 of marginable stock in a margin account meeting the Reg T 50% requirement. If the market value later rises to $40,000, the equity in the account is:

• a.$40,000
• b.$15,000
• c.$25,000✓
• d.$20,000

At purchase the customer deposits 50% of $30,000 = $15,000 equity and borrows $15,000 (the debit balance, which stays fixed). Equity always equals market value minus the debit: $40,000 - $15,000 = $25,000. Trap: $15,000 is the original equity and also the unchanged debit, not the current equity; $40,000 is the market value, not the equity; $20,000 has no basis in the account's figures.Regulation T, 12 CFR 220.12 (50 percent initial margin)

Under Regulation T, which of the following must generally be purchased for cash rather than on margin at initial purchase?

• a.Common stock listed on the NYSE that trades above five dollars per share
• b.New issues (for roughly the first 30 days) and standard listed options✓
• c.Shares listed on the Nasdaq Stock Market and exchange-listed corporate bonds
• d.U.S. Treasury notes and other exempted securities such as municipal bonds

A broker-dealer that sold in the distribution of a new issue may not extend credit on it for 30 days (Exchange Act Section 11(d)(1)), and standard listed options are not margin securities under Regulation T, so both are bought for cash. Exchange-listed stock, Nasdaq-listed stock, exchange-listed bonds and exempted securities such as Treasury and municipal bonds are all marginable, so their purchase may be financed.Regulation T, 12 CFR 220.2 (definition of margin security); Exchange Act Section 11(d)(1), 15 U.S.C. 78k(d)(1)

FINRA rules direct firms, at account opening, to make a reasonable effort to obtain the name of a 'trusted contact person' primarily to:

• a.Grant that person authority to place trades in the account
• b.Guarantee the account against investment loss
• c.Make that person a co-owner of the account
• d.Help the firm respond to suspected financial exploitation or diminished capacity, especially for senior investors✓

Under FINRA Rules 4512 and 2165, the trusted contact lets a firm reach someone if it suspects financial exploitation or diminished capacity, and it may place a temporary hold on suspicious disbursements. The trusted contact receives no trading authority and no ownership interest, ruling out choices a and c.FINRA Rule 4512

Class A shares of a mutual fund typically feature:

• a.A level annual load through a higher 12b-1 fee, plus a one-year back-end charge of about 1%
• b.A front-end sales load with lower ongoing 12b-1 fees, often best for large, long-term investments✓
• c.A back-end charge that declines each year, higher 12b-1 fees, and conversion to Class A after several years
• d.No sales charge of any kind, available only to institutions with a very large minimum investment

Class A shares charge a front-end load (reduced by breakpoints) but carry lower ongoing 12b-1 fees, making them cost-effective for large or long-horizon purchases. A level load paid through a higher annual 12b-1 fee with a short back-end charge describes Class C. A declining back-end charge with higher 12b-1 fees that later converts to Class A describes Class B. A no-load share sold to institutions with a large minimum describes an institutional class.Investment Company Act of 1940

A mutual fund has total assets of $100 million, total liabilities of $2 million, and 4 million shares outstanding. Its net asset value (NAV) per share is:

• a.$25.00
• b.$24.00
• c.$24.50✓
• d.$25.50

NAV per share = (total assets - total liabilities) / shares outstanding = ($100M - $2M) / 4M = $98M / 4M = $24.50. Trap: $25.00 (choice a) forgets to subtract the $2M in liabilities. NAV is calculated at least once daily and mutual fund orders are priced forward at the next computed NAV.Investment Company Act of 1940

In a regular-way purchase of a bond between coupon dates, accrued interest is:

• a.Deducted from the price and paid by the seller to the buyer
• b.Added to the price for corporate and municipal bonds only, while Treasury bonds trade flat
• c.Added to the price and paid by the buyer to the seller only when the bond is bought at a discount
• d.Added to the price and paid by the buyer to the seller✓

The buyer reimburses the seller for interest earned since the last coupon date, so accrued interest is added to the purchase price and flows from buyer to seller; the buyer is then made whole by receiving the full coupon at the next payment. Reversing the flow, so the seller pays, is wrong. It does not depend on whether the bond is a Treasury or sits at a discount: Treasuries accrue interest too (actual/actual), while corporate and municipal bonds accrue on a 30/360 basis.

For a bond purchased at a premium that is also callable, the lowest (most conservative) yield used to price it is generally the:

• a.Yield to maturity
• b.Yield to call✓
• c.Current yield
• d.Nominal (coupon) yield

On a premium bond, yield to call is lower than yield to maturity because the premium is lost more quickly if the bond is called early. Dealers price premium callable bonds to the lower yield (yield to worst) to protect the investor. For a discount bond, the higher yield to maturity is the worst case instead.

A U.S. Treasury note quoted at 99.16 is priced at:

• a.$99.16 per $1,000 of par
• b.$991.60 per $1,000 of par
• c.$1,016.00 per $1,000 of par
• d.$995.00 per $1,000 of par✓

Treasury notes and bonds are quoted in 32nds, so '99.16' means 99 and 16/32 = 99.50% of par = $995.00 per $1,000. Trap: reading the .16 as hundredths (choice b) gives $991.60, but Treasuries use 32nds, not the decimal percentage-of-par convention used for corporate bond dollar quotes.

FINRA's 5% policy on markups, markdowns, and commissions is best described as:

• a.A flexible guideline requiring that charges be fair and reasonable given all the facts, not a fixed cap✓
• b.A hard ceiling under which any markup above 5% is automatically a violation and any markup below 5% is automatically fair
• c.A guideline that applies only to municipal bond trades, which the MSRB alone enforces
• d.A limit on the compensation underwriters may receive, set at 5% of the offering proceeds

The 5% policy is a guideline, not an absolute limit: markups, markdowns, and commissions must be fair and reasonable considering price, transaction size, security type, and the effort involved, so some charges may reasonably fall below or above 5%. Treating 5% as a rigid ceiling or as a safe harbor is the classic mistake. The policy is not limited to municipal bonds, and it is not an underwriting-compensation cap.FINRA Rule 2121

An investor buys 1 DEF 40 call for a premium of 4. What is the maximum loss on this long call position?

• a.$400✓
• b.Unlimited
• c.$3,600
• d.$4,000

A long call buyer can lose no more than the premium paid. The premium of 4 points times the 100-share contract multiplier equals $400 (OCC standard equity contract = 100 shares). If DEF stays at or below 40, the call expires worthless and the entire loss is the $400 premium.

An investor buys 1 DEF 40 call for a premium of 4. What is the breakeven point at expiration?

• a.$40
• b.$36
• c.$4.04
• d.$44✓

For a long call, breakeven = strike price + premium paid = 40 + 4 = $44. The stock must rise above $44 before the buyer recovers the premium and earns a net profit (standard listed-option call breakeven).

An investor writes (sells) 1 uncovered GHI 45 call for a premium of 3. What are the maximum gain and the breakeven point?

• a.Maximum gain $300; breakeven $42
• b.Maximum gain $4,200; breakeven $48
• c.Maximum gain unlimited; breakeven $48
• d.Maximum gain $300; breakeven $48✓

A short call's maximum gain is the premium received, $300, kept if the stock closes at or below the 45 strike. Breakeven = strike + premium = 45 + 3 = $48. The call writer's gain is capped at the premium while the risk above breakeven grows.

An investor writes (sells) 1 uncovered GHI 45 call for a premium of 3. What is the maximum potential loss?

• a.$4,200
• b.$300
• c.Unlimited✓
• d.$4,500

An uncovered (naked) call writer faces theoretically unlimited loss because a stock's price has no ceiling, yet the writer must deliver shares at the 45 strike no matter how high the market rises. The $300 premium only partially offsets this exposure.

An investor buys 1 JKL 25 put for a premium of 1.50. What is the maximum gain on this long put?

• a.Unlimited
• b.$150
• c.$2,350✓
• d.$2,500

A long put gains as the stock falls, but the stock can fall no lower than zero. Maximum gain = (strike - premium) x 100 = (25 - 1.50) x 100 = $2,350, realized if the stock goes to zero and the holder exercises to sell at 25.

An investor buys 1 JKL 25 put for a premium of 1.50. What is the breakeven point at expiration?

• a.$23.50✓
• b.$25.00
• c.$26.50
• d.$23.85

For a long put, breakeven = strike price - premium paid = 25 - 1.50 = $23.50. The stock must fall below $23.50 for the put buyer to profit after recovering the premium.

An investor writes (sells) 1 MNO 60 put for a premium of 5. What is the maximum possible loss?

• a.$500
• b.$5,500✓
• c.$6,000
• d.Unlimited

The worst case for a short put is the stock falling to zero: the writer must buy at 60 while the shares are worthless, losing 60 points offset by the 5-point premium = 55 points = $5,500. A short put's loss is large but finite (a stock cannot fall below zero), unlike a naked short call.

An investor writes (sells) 1 MNO 60 put for a premium of 5. What are the maximum gain and the breakeven point?

• a.Maximum gain unlimited; breakeven $55
• b.Maximum gain $500; breakeven $65
• c.Maximum gain $5,500; breakeven $55
• d.Maximum gain $500; breakeven $55✓

A short put's maximum gain is the premium received, $500, kept if the stock stays at or above the 60 strike. Breakeven = strike - premium = 60 - 5 = $55, below which the writer begins to lose.

An investor buys 1 PQR 40 call for 6 and sells 1 PQR 50 call for 2 (a debit call spread). What is the maximum gain?

• a.$400
• b.$600✓
• c.$1,000
• d.Unlimited

The net debit is 6 - 2 = 4 points. Maximum gain = difference in strikes - net debit = (50 - 40) - 4 = 6 points = $600, realized if the stock is at or above 50 at expiration. In any vertical spread, max gain + max loss = the strike difference.

Using the same debit call spread (buy 1 PQR 40 call for 6, sell 1 PQR 50 call for 2), what is the maximum loss?

• a.Unlimited
• b.$400✓
• c.$600
• d.$1,000

The maximum loss on a debit spread is the net premium paid: 6 - 2 = 4 points = $400, lost if both calls expire worthless with the stock at or below 40.

Using the same debit call spread (buy 1 PQR 40 call for 6, sell 1 PQR 50 call for 2), what is the breakeven point?

• a.$46
• b.$44✓
• c.$40
• d.$50

For a debit call spread, breakeven = lower strike + net debit = 40 + 4 = $44. Above $44 the spread turns a net profit, up to its maximum at the higher strike.

An investor sells 1 STU 20 call for 5 and buys 1 STU 25 call for 2 (a bear/credit call spread). What is the maximum gain?

• a.$500
• b.$200
• c.Unlimited
• d.$300✓

A credit call spread's maximum gain is the net credit received = 5 - 2 = 3 points = $300, kept if both calls expire worthless (stock at or below 20). This bearish spread profits when the stock stays low.

Using the same credit call spread (sell 1 STU 20 call for 5, buy 1 STU 25 call for 2), what is the maximum loss?

• a.Unlimited
• b.$500
• c.$300
• d.$200✓

Maximum loss = difference in strikes - net credit = (25 - 20) - 3 = 2 points = $200, incurred if the stock rises to or above 25. Buying the higher-strike call caps what would otherwise be unlimited naked-call risk.

Using the same credit call spread (sell 1 STU 20 call for 5, buy 1 STU 25 call for 2), what is the breakeven point?

• a.$23✓
• b.$17
• c.$25
• d.$22

For a credit call spread, breakeven = lower strike + net credit = 20 + 3 = $23. The spread is profitable as long as the stock stays below $23 at expiration.

An investor sells 1 VWX 50 put for 4 and buys 1 VWX 45 put for 1 (a bull/credit put spread). What are the maximum gain and maximum loss?

• a.Maximum gain $300; maximum loss $200✓
• b.Maximum gain $200; maximum loss $300
• c.Maximum gain $500; maximum loss $500
• d.Maximum gain $300; maximum loss unlimited

Net credit = 4 - 1 = 3 points = $300 maximum gain, kept if both puts expire worthless (stock at or above 50). Maximum loss = strike difference - net credit = (50 - 45) - 3 = 2 points = $200. This bullish spread profits when the stock stays up.

An investor buys 1 YZA 70 put for 5 and sells 1 YZA 60 put for 1 (a bear/debit put spread). What is the maximum gain?

• a.$1,000
• b.Unlimited
• c.$600✓
• d.$400

Net debit = 5 - 1 = 4 points. Maximum gain = strike difference - net debit = (70 - 60) - 4 = 6 points = $600, achieved if the stock is at or below 60. Owning the higher-strike put makes this spread bearish.

Using the same debit put spread (buy 1 YZA 70 put for 5, sell 1 YZA 60 put for 1), what is the breakeven point?

• a.$74
• b.$64
• c.$66✓
• d.$60

For a debit put spread, breakeven = higher strike - net debit = 70 - 4 = $66. Below $66 the spread profits, to a maximum at the lower strike of 60.

An investor buys 1 BCD 80 call for 3 and buys 1 BCD 80 put for 2 (a long straddle). What is the maximum loss?

• a.Unlimited
• b.$300
• c.$8,000
• d.$500✓

A long straddle's maximum loss is the total premium paid, 3 + 2 = 5 points = $500, occurring if the stock closes exactly at 80 so both options expire worthless. The straddle buyer profits from a large move in either direction (buying volatility).

Using the same long straddle (buy 1 BCD 80 call for 3 and 1 BCD 80 put for 2), what are the two breakeven points?

• a.$85 and $75✓
• b.$83 and $77
• c.$88 and $72
• d.$80 and $80

Total premium is 5 points. Upside breakeven = strike + total premium = 80 + 5 = $85; downside breakeven = strike - total premium = 80 - 5 = $75. The stock must move outside the $75-$85 range for a net profit.

An investor sells 1 EFG 100 call for 4 and sells 1 EFG 100 put for 3 (a short straddle). What is the maximum gain?

• a.$10,000
• b.Unlimited
• c.$700✓
• d.$300

A short straddle's maximum gain is the total premium received, 4 + 3 = 7 points = $700, realized if the stock closes exactly at the 100 strike. The seller profits from low volatility but faces large losses on a big move in either direction.

Using the same short straddle (sell 1 EFG 100 call for 4 and 1 EFG 100 put for 3), what are the two breakeven points?

• a.$110 and $90
• b.$100 and $100
• c.$107 and $93✓
• d.$104 and $96

Total premium collected is 7 points, so breakevens are strike +/- total premium: 100 + 7 = $107 and 100 - 7 = $93. The short straddle keeps a profit only while the stock stays between $93 and $107.

An investor buys 100 shares of HIJ at $52 and sells 1 HIJ 55 call for a premium of 2 (a covered call). What is the maximum gain?

• a.Unlimited
• b.$500✓
• c.$300
• d.$200

If the stock is called away at 55, the gain equals stock appreciation plus premium: (55 - 52) + 2 = 5 points = $500. The written call caps upside at $500 no matter how high the stock climbs, in exchange for the premium income.

Using the same covered call (buy 100 HIJ at $52, sell 1 HIJ 55 call for 2), what is the breakeven point?

• a.$52
• b.$50✓
• c.$54
• d.$57

For a covered call, breakeven = stock cost - premium received = 52 - 2 = $50. The premium lowers the effective cost basis and provides a small downside cushion.

Using the same covered call (buy 100 HIJ at $52, sell 1 HIJ 55 call for 2), what is the maximum loss?

• a.$5,000✓
• b.$200
• c.$5,200
• d.$500

The worst case is the stock falling to zero: the investor loses the $52 cost but keeps the $2 premium, for a net loss of 50 points = $5,000. A covered call reduces, but does not eliminate, downside risk on the stock.

An investor buys 100 shares of KLM at $40 and buys 1 KLM 35 put for a premium of 1 (a protective put). What is the maximum loss?

• a.$600✓
• b.$4,100
• c.$100
• d.$500

Maximum loss = (stock cost - put strike + premium) x 100 = (40 - 35 + 1) x 100 = $600. Below the 35 strike the put lets the investor sell at 35, so losses are capped like insurance.

Using the same protective put (buy 100 KLM at $40, buy 1 KLM 35 put for 1), what is the breakeven point?

• a.$35
• b.$39
• c.$41✓
• d.$40

For a protective put, breakeven = stock cost + premium paid = 40 + 1 = $41. The put premium raises the price the stock must reach before the hedged position is profitable, while upside remains open.

An NOP 25 put trades at a premium of 4 while the stock is at 22. The option's intrinsic value and time value are:

• a.Intrinsic value $0, time value $4
• b.Intrinsic value $1, time value $3
• c.Intrinsic value $4, time value $0
• d.Intrinsic value $3, time value $1✓

A put's intrinsic value = strike - stock price when in the money = 25 - 22 = 3. Time value = premium - intrinsic value = 4 - 3 = 1. The put is in the money by 3 points, with $1 of remaining time value.

A put option has intrinsic value (is 'in the money') when:

• a.The premium has fallen to zero
• b.The underlying stock pays no dividend
• c.The stock's market price is above the strike price
• d.The stock's market price is below the strike price✓

A put gives the right to sell at the strike, so it has intrinsic value (is in the money) when the stock trades below the strike. A call is in the money when the stock is above the strike, which is the classic buyer/seller reversal trap in choice a.

A listed equity option is quoted at a premium of 2.75. What is the total dollar cost to buy one contract (before commissions)?

• a.$275✓
• b.$27.50
• c.$2,750
• d.$2.75

Each standard equity option contract covers 100 shares, so the dollar cost = premium x 100 = 2.75 x 100 = $275. The 100-share multiplier converts the quoted point premium into dollars.

When a broad-based stock index option is exercised, settlement is made by:

• a.A cash payment equal to the in-the-money amount times the index multiplier✓
• b.No settlement, because index options cannot be exercised
• c.Physical delivery of an ETF share
• d.Physical delivery of every stock in the underlying index, in the exact share weightings, transferred from the writer to the holder

Index options are cash-settled: the writer pays the holder the difference between the index level and the strike, multiplied by the contract multiplier. There is no delivery of the underlying stocks, unlike physically settled equity options.

An investor buys 1 QRS 55 call for 2 and buys 1 QRS 45 put for 1 (a long combination). What is the maximum loss?

• a.$300✓
• b.Unlimited
• c.$1,000
• d.$200

Like a straddle, a long combination's maximum loss is the total premium paid: 2 + 1 = 3 points = $300. The position uses different strikes but still profits only on a large move up (above the call strike) or down (below the put strike).

An investor who is bearish on a stock but wants to limit risk to a known amount would most appropriately:

• a.Write an uncovered call, which carries unlimited risk
• b.Buy the stock on margin
• c.Buy a put option on the stock✓
• d.Sell a cash-secured put

Buying a put profits when the stock falls, with risk limited to the premium paid. Writing a naked call is also bearish but exposes the investor to unlimited loss, and buying stock or selling a put are bullish, so they do not fit a risk-limited bearish view.

A $1,000 par bond with a 7% coupon is trading at a price of 140. What is the current yield?

• a.7.00%
• b.5.00%✓
• c.6.40%
• d.9.80%

Current yield = annual coupon / market price = $70 / $1,400 = 5.00%. Because the bond trades at a premium (above par), the current yield is below the 7% coupon rate.

A $1,000 par bond with a 6% coupon is trading at a price of 75. What is the current yield?

• a.4.50%
• b.8.00%✓
• c.6.00%
• d.7.50%

Current yield = annual coupon / market price = $60 / $750 = 8.00%. At a discount (below par), the current yield exceeds the 6% coupon, and yield to maturity would be higher still.

An investor in the 25% federal tax bracket owns a 3% municipal bond. What is its taxable-equivalent yield?

• a.2.25%
• b.3.75%
• c.4.00%✓
• d.3.00%

Taxable-equivalent yield = municipal yield / (1 - tax rate) = 3% / (1 - 0.25) = 3% / 0.75 = 4.00%. A taxable bond must yield 4% to match the after-tax return of this 3% municipal.

An investor in the 35% federal tax bracket owns a 5% municipal bond. What is its taxable-equivalent yield?

• a.7.69%✓
• b.6.75%
• c.5.00%
• d.3.25%

Taxable-equivalent yield = municipal yield / (1 - tax rate) = 5% / (1 - 0.35) = 5% / 0.65 = 7.69%. The higher the investor's bracket, the greater the value of the municipal's tax exemption.

A taxable corporate bond yields 8%. For an investor in the 30% federal tax bracket, the approximate after-tax yield is:

• a.5.60%✓
• b.2.40%
• c.11.43%
• d.8.00%

After-tax yield = taxable yield x (1 - tax rate) = 8% x (1 - 0.30) = 8% x 0.70 = 5.60%. This is compared with a municipal's yield to decide which is better after taxes. The 11.43% figure is the reverse taxable-equivalent computation (8% / 0.70).

A convertible bond has a $1,000 par value and a conversion price of $25. What is the conversion ratio?

• a.25 shares
• b.250 shares
• c.40 shares✓
• d.4 shares

Conversion ratio = par value / conversion price = $1,000 / $25 = 40 shares. Each bond can be exchanged for 40 shares of the issuer's common stock.

A convertible bond with a conversion ratio of 40 shares is trading at a market price of $1,200. What common stock price represents parity?

• a.$30.00✓
• b.$40.00
• c.$48.00
• d.$25.00

Parity stock price = bond market price / conversion ratio = $1,200 / 40 = $30.00. If the stock trades above $30, converting and selling the shares would be worth more than the bond's current price.

A convertible bond has a conversion ratio of 40 shares, and the common stock trades at $32. What is the parity price of the bond?

• a.$800
• b.$1,200
• c.$1,280✓
• d.$1,320

Parity price of the bond = stock price x conversion ratio = $32 x 40 = $1,280. This is the bond value implied by the stock; if the bond trades below $1,280 an arbitrage opportunity may exist.