Series 66

Series 66 LEM

Kaplan

📚 GENRE: Business & Finance

📃 PAGES: 611

✅ COMPLETED: March 23, 2021

🧐 RATING: ⭐⭐

Buy Book

Short Summary

The Kaplan Series 66 License Exam Manual is designed to help individuals pass the NASAA Series 66 exam. The LEM includes information about broker-dealer and RIA registration at the state and federal levels. It also contains information about stocks, bonds, and options.

Book Notes 📑

*Did not take chapter-by-chapter notes on this one. Running list below.

  • Uniform Securities Act (State Law): the Consent to Service must be sent to the Administrator with the initial registration application 
    • This form is a formal legal agreement that allows the Admin to accept subpoenas on behalf of the applicant and not have to chase them around.
    • Filed by everybody: IA, IAR, BD, Agent
    • Is not renewed annually 
  • USA: Most books/records for IAs must be maintained 5 years, the first 2 in the principal office
    • Must be kept until end of year (Dec. 31)
    • Ex. Record originated March 2015. This must be kept until at least Dec. 31, 2020
  • Dodd-Frank Act of 2010: Once a pension consultant’s AUM reaches $200 million, gotta register with either the SEC or state 
  • IAR: An employee of an IA (SEC or State registered) who makes recommendations must register as an IAR, regardless of the client.
    • Supervisors only must register when they supervise IARs
  • Investment Advisors (IA): Registering at State and Federal level seems to be almost the exact same. File Form ADV. 
    • File with Admin – state IA
    • File with SEC – federal IAs 
    • Only the state IA files Form ADV Part 1B (Brochure supplements)
  • Bond Duration: Measures how sensitive a bond will be to changes in interest rates.
    • The higher the coupon, the shorter the duration. 
    • The shorter the maturity, the shorter the duration. 
    • Short years to maturity and bigger coupons are LEAST vulnerable to interest rate risk/shifting interest rates 
    • Zero Coupon is most sensitive 
  • USA: Government bonds issued by other nations, like Canada, are exempt securities under USA. Securities issued by Canadian political subdivisions (Like Montreal or Ontario) are also exempt. 
    • As are securities issued by national gov. (not munis or provinces) with nations who US has diplomatic relations
  • Exam Wording: “Wide range of services” means the person’s main business is not giving advice
  • Investment Counsel: Two criteria must be met to use this wording 
    • Primary business must be rendering investment advice 
    • Must give continuous advice to clients based on their individual needs
  • Punishment: Admin can take the following actions against a person’s registration: 
    • Revocation 
    • Bar/suspension 
    • Restriction of activity 
  • Brochures: If a brochure has been changed in a material way, the delivery date is 120 days after end of adviser’s fiscal year for all IAs
    • If no material changes, no delivery needed
  • IA: Investment Advisor Assignment
    • Occurs whenever a majority interest in an advisor changes hands in a partnership 
    • Cant do this without customer consent!! This is stated in the advisory contract. 
      • Pledging contracts as collateral for a loan is considered an assignment. 
  • IAs: If organized as a partnership, must notify clients promptly if any of the partners leaves the firm or someone is added
    • Not necessary for a corporation unless a full change of ownership 
  • Record Keeping: 
    • Inactive: BDs and IAs must keep records for 3 years after termination of business
    • Active: BDs = 3 yrs. IAs = 5 yrs
  • Exempt Transactions: Solicited trades with individuals are not exempt transactions, even when the security being traded is exempt
    • They try to fool you with this 
  • Fees: When a IA changes it’s fee structure, it has to notify clients at least 30 days in advance
    • Has to give copy of fee schedule to clients no later than account opening
    • Existing clients don’t always have to change their fee structure. It’s up to the IA. 
  • Advertising:
    • Entanglement: Firm is entangled with the preparation of a third-party post (on FB for example)
    • Adoption: BD endorsed or approved the content posted by a third party. Didn’t participate in making the content.
  • Offer to Sell = Any activity conducted in an effort to dispose of a security for value 
    • “A gift of assessable stock” is considered an offer AND a sale
    • Prospectus is an offer. Tombstone ad or red herring is not.
    • Warrants and rights are an offer
    • Loaning/pledging of securities are not an offer or a sale
    • Securities given as a bonus are an offer
  • A Sale = Contract or transaction for value 
  • USA Admin Powers: An Admin can deny, suspend, revoke the registration of a security via a stop order if it is the public’s best interest. Grounds include: 
    • Willful violations of the USA act
    • Illegal business activity by issuer
    • An offering that defrauds purchasers
    • Unreasonable compensation by promoters, underwriters, sellers
    • Registration requirements not being met
    • Nonpayment of filing fees
  • Brochure (USA): If an IA accepts more than $500 in prepaid fees 6 months or more in advance of services, a balance sheet must be in the brochure (Part 2 of Form ADV) 
  • Divorce: If married for 10 years, the ex-spouse is entitled to full spousal social security benefits unless remarried. 
  • Sharpe Ratio = Actual Rate of Return – Risk Free Rate / Standard Deviation
    • Any question asking about the RISK-ADJUSTED RETURN will be using the Sharpe Ratio
    • Sharpe Ratio measures the excess return above the risk free rate (fund’s return minus the risk free rate) on a stock compared to its total risk 
    • The higher the better
  • Gift Tax: Paid by donor and paid based on market value of the securities on date of the gift 
    • For the person receiving the gift, your cost basis is the same as the donor’s 
    • 15k Max gift donation. 30k for couple. Can give unlimited gifts to a spouse.
  • Defined Benefit Plan: Retirement benefit based on two things:
    • Final Salary
    • Number of Years of Service
  •  Efficient Market Hypothesis: The thought that you can’t beat the market and you might as well throw darts because all investors have equal access to the same market info and it’s “priced in.” Three forms:
    • Weak Form: Price and volume, historic prices are already priced in. Technical analysis won’t help you. Fundamental will. 
    • Semi-Strong: All public info is already reflected in security prices making fundamental analysis useless. Only private info will help.
    • Strong: Even of you have inside information, it ain’t gonna help you. All public and private (inside info) is already reflected in current stock prices. Throw darts. 
  • Zero Coupon Bonds
    • Trade flat
    • Greatest sensitivity to interest rate changes
    • LONGEST DURATION
  • Short duration = less price sensitivity
    • Short maturity and high coupons
  • Form ADV-E: Must be completed by IAs that have custody of client funds or securities 
    • Gives opportunity for surprise annual audit/examination by an accountant
  • USA: A state Admin would do the following (in order) if he suspects a IA is violating the act:
    • Cease and Desist order 
      • With or without prior notice or hearing (summarily)
    • Seek a court injunction 
      • Admin CANNOT issue an injunction without the court 
  • Trade Error: “Agents don’t fix errors, firms do”
  • IA Record Keeping: IAs have to keep the following records:
    • List of discretionary (and custody?) accounts
      • So if they fall under minimum net capital/net worth, the admin knows how much trouble the firm is in
    • Emails
    • Bank records 
    • Security Record (only IAs that have custody)
  • Social Media: Static vs Interactive Content:
    • Static: Needs preapproval. Can only be changed by originator. Cannot be commented on by others.
      • Banner, bio
    • Interactive: doesn’t need preapproval. Can be reused by others and can be commented on by others. Can be changed by originator or others.  
      • social media post
  • USA: Right of Recession is issued when a BD accidentally makes an improper/illegal sale to a customer. This letter offers to buy back the security plus interest and legal fees. Client has 30 days to respond to accept or reject the offer or else they waive their right to bring court action.
  • Form ADV Part 1: 
    • Name of IA’s business
    • Form of business (partnership, Corp, etc.)
    • How the IA will be compensated 
    • Info about control people (officers, directors, partners)
  • Form ADV Part 2: 
    • Brochure
    • Balance sheet here (if you’ve got custody or discretion)
    • IA’s fee structure
    • Investment policies
    • Types of investments made 
    • Delivery Requirements 
      • USA: 48 hours in advance of contract or client has 5 days to terminate contract with no penalty and refund
      • IA40: at or before the contract signing 
  • USA: If you don’t have a place of business in a state, a state IA is exempt from registration in the state if:
    • Dealing with institutional customers like banks, insurance companies, employee benefit plans, etc. with assets of over $1 mil.
      • Accredited investors are not considered one of the big guys
  • IA Transactions With Advisory Clients (Acting as a BD to execute after advising the trade): 
    • Must obtain client consent and provide written disclosure of the IA’s capacity in the trade no later than the completion (settlement date) of the trade 
    • If the IA is also a BD, and the transaction with the advisory client is unsolicited, only disclosure needed is the firm’s capacity on the confirmation.
  • Federal Covered IAs: Their IARs only have to be registered in the state where there is a place of business, regardless of where clients are located
    • IAs that are federally covered ($110 in AUM and up) only have to register with the SEC. only have to notify and submit notice filing fees with the Administrator in their state where they have a place of business 
    • For IARs, you have to register in the state where you have a business regardless of whether your IA is federally covered or not 
  • Violation of the Investment Advisors Act of 1940:
    • Up to $10k fine
    • Up to 5 years in prison 
    • Revocation or suspension of your registration 
  • Customer Account Discretion:
    • IAs = Can make discretionary trades using oral consent for a period of 10 days from the initial discretionary trade. This is like a”placeholder” while waiting for written authorization. 
    • BDs = Must have written authorization before the first discretionary trade 
  • Performance Based Fee: State and Federal levels are on the same page here. It isn’t allowed. There is a provision where it is allowed. A Client must have either:
    • $1 mil in assets managed by the advisor OR
    • Net worth in excess of $2.1 mil
    • If using joint assets, only those with a spouse are allowed (not a cousin, for example) 
    • Must be for at least 1 year
    • Must be compared to a benchmark (SnP 500)
    • Only a State IA has to make “incentive” disclosure 
  • Returns:
    • Dollar-Weighted: Evaluates Investor performance 
    • Time-Weighted: Evaluates Portfolio Managers performance 
  • Alimony = eligible as income for an IRA and tax deductible for ex-spouse who has to pay it (Pre 2019). 
    • This is not the case now.
  • Child Support = Not considered income for the recipient and not tax deductible for the ex-spouse who has to pay it
  • Social Security: To be eligible:
    • 40 covered quarters of employment
    • May begin at age 62
    • 8% bonus for starting at age 70?
  • Social Security: If a couple was married for 10 years, ex spouse is entitled to full SS benefits. If the man then remarries, the new spouse also is entitled to full SS benefits. 
  • Specialist (or DMM) works on the exchange
    • Market Maker works on the OTC market 
    • “Exchange Specialist”
    • “Over the Counter Market Maker”
  • Defined Benefit Plan: Basically a fixed, lump sum payment is promised to the employee at retirement. Investment performance doesn’t matter, unlike a defined contribution plan. Risk is on the employer because of this. 
  • Traditional IRA: if you are covered under an employee sponsored program and you make a ton of dough, only a portion of your contribution will be allowed to be tax deductible 
    • Can still contribute. Just might not be fully deductible 
  • In a 401k plan, an employer that complies with ERISA Section 404(c) basically gives the employee the investment risk by giving them the power to make investment decisions 
    • Must offer at least 3 investing funds/possibilities/options 
    • Must allow for change in investments at least QUARTERLY
  • NSMIA: Designed to eliminate dual registration for IAs and regulation of securities 
    • Securities issued by any investment company under the Investment Company of 1940 act are federal covered. If advising on these, you register with feds 
    • Reg D private placements are federal covered 
    • If an issuer has common stock listed on the NYSE, equal and senior securities are federal covered 
  • USA: To appeal an Admin’s order, a registered person has 60 days to file an appeal 
    • At the federal level (SEC) it’s also 60 days and you file at the US Court of Appeals 
  • Sharing Commissions: To share commissions agents must:
    • Be registered as an agent with the same BD or an affiliated BD
    • Be registered in the state where the transaction is made
    • If these two things are true, Agent A and Agent B can share commissions and no disclosure is needed because this isn’t relevant to the client
  • Examples of Fraud under USA:
    • Inaccurate market quotes
    • Inaccurate statements of earnings or projected earnings
    • Inaccurate statements about commissions, markups, markdowns
    • Implying approval by the SEC or Admin 
    • Using rumors or inside info to induce transactions
    • Indicating approval of a security by a regulatory body 
    • Failure to describe important facts (material facts) and risks 
  • CAPM = Capital Asset Pricing Model
    • Used to determine required rate of return 
    • Must be compensated for systematic risk
      • Compare beta to market return 
    • Formula (Expected Return): Risk-Free Rate + beta x (market return — risk free rate)
    • Answer gives you a required rate of return that you need to get to justify the risk you’re taking 
  • Taxation: Progressive vs Regressive
    • Progressive: Taxes increase for higher income people 
      • Personal income tax
      • Gift tax
      • Estate tax
    • Regressive: Everyone pays the same rate. Effects lower income people more.
      • Sales tax
      • Fuel tax
  • Taxation: Marginal vs Effective 
    • Marginal: The rate you pay on the next dollar
    • Effective: The average tax bracket you land in
  • Notification: As an IAR, If you go work for a federal registered IA, it is up to you to notify the state Admin that you have been hired and if you leave the firm
  • IAs that have custody:
    • Notify Admin (don’t need permission) 
    • Must segregate securities
    • Keep in safe place 
    • Deposit client funds in bank accounts that contain only client funds
    • Report to clients every 3 months with statements (Quarterly statements)
    • Annually arrange for an independent audit by independent accountant. Form ADV-E.
    • Clients must be notified in writing if their stuff is being moved 
    • Must upload a balance sheet to Form ADV Part 2A each year
      • Not needed for federal IA 
  • Punishment:
    • USA (Criminal): 5-5-3: 5-year statute of limitations, $5,000 max fine, up to 3 years imprisonment
  • USA: Broker Dealer Definition: Does not include: 
    • Agent
    • Issuer
    • Bank, savings institutions, trust company
  • Registration Materials: If material information changes, gotta amend it on registration materials promptly.
    • Something like location or change in business structure. I like the location example in Kap video
  • USA Admin Powers: The Admin cannot issue injunctions. It can:
    • Suspend a security registration if excessive fees or commissions are part of the offering
    • Cooperate with other Admins by enforcing subpoenas from other states
    • Impound proceeds of an offering in an escrow account until the issuer received a specified amount  
    • Void almost anything unless it has to do with a federal security or something involving the federal level
  • Trusts: Revocable Trust means the grantor (settlor) retains control of the assets. Can revoke it if desired.
    • The grantor can be the beneficiary and trustee in a revocable trust 
    • As long as the grantor has the power directly or indirectly to control the trust, he is treated as the owner
    • The grantor can be taxed on trust income if the grantor either actually or constructively receives the income.
  • Net Estate is the Taxable Estate
    • Assets left to spouse and all debts can be reduced to arrive at net/taxable estate
    • Gross Estate is all of it added up and doesn’t include liabilities in the calculation 
  • IA: If an advisor anticipates having at least $100 million AUM in first 120 days, it is eligible to become a federal covered advisor by registering with SEC
  • The De Minimus rule goes out the window if you are meeting with prospects and not existing clients 
  • The De Minimus Exemption is only a state IA and IAR thing. It doesn’t apply to BDs and Agents at all. If you serve even 1 person (who is not one of the big guys or a snowbirder/vacationer) in a different state as a BD/Agent, gotta register. 
  • Associated Persons: Clerical and administrative jobs at an IA are not considered “associated”. If you’re only giving and receiving info, not considered “associated”. Don’t have to register. 
    • Partners, officers, directors are associated people
  • If you are an IAR with a federal covered IA, it doesn’t matter where your clients are, you don’t have to register at the state level unless you have a place of business in one of the states. Only if you have a place of business do you have to register in the state for a IAR that is with a federal covered IA
  • BDs: You are a BD in the state if you have a place of business in the state 
    • If not, you are excluded from being a BD if your clients are:
      • Institutions 
      • Insurance companies
      • Other BD
      • One of the big guys 
  • Cease and Desist Order: Issued by Admin (USA) to immediately stop a particular action. Can come from federal, state, or judicial body though. Comes from Admin under USA.
    • Can be issued with or without a hearing and prior notice. But hearing must be an option for the accused at a later date.
    • Courts issue injunctions if the cease and desist order is ignored
  • Futures Contract: Includes:
    • Quantity of commodity
    • Quality 
    • Delivery price
    • Time for delivery 
    • Location 
  • Natural Person: Remember the 3 that aren’t:
    • Minor
    • Someone judged incompetent
    • Deceased individual 
  • Variable Annuities: Once a payout option is selected, it cannot be changed
  • IRR: Mostly used with investments that produce predictable, consistent cash flows (dividend companies, bonds, preferred stock)
    • Matches the initial investment with the PV of future cash flows
    • Investments are acceptable when IRR is greater than investor’s required rate of return 
      • NPV would be positive here
  • Exempt Securities: Do not have to file advertising and sales literature with the Admin
  • Disclosure: If you use a third party research report to make a recommendation to a client, gotta disclose. If you’re using it to support your recommendation, you don’t. 
  • IA Advertising: Advertising past recommendations requires:
    • Minimum 1 year past performance charting
    • Deduction of fees shown
    • Disclose specific group of clients that the recommendation applied to
    • Show actual market conditions at the time
  • Agents: Can share in profits/losses with a client without a financial contribution to the portfolio if you have consent of customer and the BD
    • This is not allowed for IARs!!
  • Advertising: Entanglement is adoption taken one step further. This is when the firm or a rep contributes to the third-party info and then posts it.
  • BDs and Agents: When representing a BD, you cannot sell anything (anything!) without being registered. 
    • If selling on behalf of an issuer, there are exempt securities and exempt transactions that allow you to be exempt from registration as an agent
  • Admin: Can deny registration for:
    • Conviction of any felony or conviction of any securities misdemeanor in past 10 yrs
    • Conviction is the key word here
  • Refer to April 4 test #33 for good info on internet advertising requirements by NASAA
  • USA Exempt Transactions: With preorganization certificate or subscription, no money changes hands while the seller of a private placement receives payment. 
    • Offers are limited to 10 in a private placement (retail or institutional)
    • Subscribers limited to 10 in a preorganization certificate (retail or institutional) 
  • ADV Part 2A: Advisor is asked if fees are negotiable. You can have different fee structures for different people as long as it is disclosed here on the brochure 
  • Surety Bonds: Admin may require Agents, BDs, and IAs to post surety bonds if they have discretion over (agent) or custody (IA, BD) over customer funds or securities
    • These essentially provide insurance to the customer in case you default or something
  • IA: If you hire a third party solicitor, gotta deliver a solicitor document along with the brochure to clients
    • The client then must sign and date acknowledgement of the IA’s brochure and solicitor’s written document prior to or at the time of entering into an advisory contract with the firm 
  • Admin Powers: Admin cannot issue injunctions. Only courts do this.
  • Content: Static vs Interactive
    • Static: Remains posted until changed by the firm or individual who established the account
    • Interactive: Real-time communications
  • Rule of 72: Divide 72 by number of years it takes for money to double. Gives an earnings rate. 
  • Admin Jurisdiction: Jurisdiction is granted to Admins in the state the offer originated (Agent calls client from NY) and the state an offer was accepted (Client accepts offer while in Indiana)
  • Person: Easiest to remember what isn’t a natural person:
    • Minor
    • Mentally unstable 
    • Deceased person 
  • CAPM: Two components
    • Stock risk premium: Return needed to invest in a certain stock 
    • Market risk premium: Return needed to invest in market in general 
  • Substantial Prepayment of Fees = MORE THAN $500 for 6 or more months in advance (USA). Requires balance sheet.
    • 1200 and 6 (IA40)
  • Only state IAs have to provide balance sheet to clients in Form ADV Part 2 when having custody. Not federal IAs.
    • BDs fill out Form BD
  • IA: When organized as a partnership, must promptly notify clients of any change in membership within a reasonable time. This promise is part of the advisory contract with the client.
  • Discount rate = current market interest rate
  • Hearings must be made in 15 days if an Admin summarily suspends a registration
    • Appeals to an Admin order: 60 days
  • Brochure: If material changes to the brochure, SEC requires IA to deliver an amended brochure to clients within 120 days of end of fiscal year.
    • Material changes to Form ADV Part 1 require prompt notification 
  • Asset Allocation: Strategic vs Active/Tactical 
    • Strategic: at least annually, manager reabalances
    • Active/Tactical: Attempts to time the market. Rebalances often
  • Efficient Frontier: Characteristics 
    • Offers the most return for a given amount of risk
    • Offers the least risk for a given amount of return
  • Federal IA: Registration effective 45 days after filing and remains effective until withdrawn by advisor or canceled, suspended, revoked by SEC. Renewal: Annually. Determined by fiscal year.
    •  State: Effective noon of the 30th day and needs renewal every December 31. 
  • Returns: 
    • Internal Rate of Return: Compounds returns and factors in time value of money
    • Real Rate: Considers inflation rate
    • Total Return: realized and unrealized capital appreciation + income/dividends 
  • IA: If you advise pension funds/retirement plans:
    • Under $200 mil: You register with state 
    • Over $200 mil: Register with feds
  • Insider Trading: Officer, Director, or Stockholder holding more than 10% of voting shares. Also immediate family. 
  • Unethical Behavior: It is prohibited to not put a trade with a client on the books and records unless you get written authorization by the BD before executing the trade
  • Admins have jurisdiction in the state:
    • An offer originated
    • An offer was directed/received
    • An offer was accepted
  • When we talk about soliciting business from the public in a state, this means trying to get their business. Cant do it if you’re not registered in the state (this goes for state IAs and BDs)
  • IA40 Prepayment Fees: If you charge $1200 up to 6 months or more in advance, you have to include a balance sheet in Part 2 of Form ADV 
  • Record Keeping: 
    • Investment Advisor Act of 1940 (Federal): For IAs, 5 years from end of fiscal year, 2 years in easily accessible location in principal office
      • BDs: 3 years and 5 years
    • USA (State): For IAs, 5 and 2
  • ADV-E = Surprise Examination. Think custody.
    • Part of having custody comes with an ANNUAL surprise audit 
  • QDRO: Think qualified employer plan. Think divorce and ex spouse. Think exempt from 10% early withdrawal penalty.
  • Variable Life Insurance: Can be switched to whole life policy anytime during first 24 months. Free look period.
    • Face amount can’t be changed from original amount if you switch 
  • IA Custody: checks made out to a 3rd party must be forwarded to the party within 3 business days or else it’s custody
    • Stock certificates must be returned back to owner in 3 business days or else custody
  • Custody: Comingling customer securities/funds is a prohibited practice 
    • Must update clients about where their funds are quarterly 
  • Registration:
    • 1940 Act (Federal): Within 45 days
    • USA (State): By Noon of 30th day
  • Withdrawal:
    • IA40: 60 days
    • USA: 30 days 
  • Sharing of Client Profits: 
    • BDs: Can share profits with a customer if written consent from client and employing firm
    • IAs: This is not allowed at all. Makes sense because IAs give advice (no profits to make/share)
  • Borrowing Money: Allowed if lender is in the business of lending $. Like a bank or savings and loan 
  • Lending Money: As an IA, cannot loan $ to a customer unless the loan is made through a regulated lender like an affiliated broker dealer or bank. Unethical under NASAA.
    • Makes sense because IA don’t handle a lot of money. They give advice. 
  • Rescission: Cuatomer has 30 days to accept or reject. After that, rights of recovery/ability to sue are forfeited
    • Firm returns the customers money plus interest (at the state’s determined rate) less income from the investment. Legal fees too.
  • IA Brochure: For State IAs, must be delivered to client 48 hours before contract is entered into. If not, client has 5 days to terminate without penalty if they want. USA
    • IA40: Just have to deliver the brochure at or before the agreement is signed
    • If the client does elect to terminate the contract, firm must return all up front fees except the amount proportionate to the time the contract was in effect
  • Bond Duration: With bond duration, it’s basically a measure of how sensitive a bond will be to a shift in interest rates. The longer a bond’s duration, the more it’s price is affected by changes to interest rates.
    • Low coupon + long maturity = higher duration
    • This is because the longer it takes for you to receive your cash flows, the more risky it is in regard to possible shifts in interest rates. With low coupons and long durations, it’s going to take you longer to receive your cash flows. Thus, these have higher bond durations 
    • Zero coupon bond has the highest bond duration. It is the most sensitive to interest rate shifts. This is because it doesn’t pay a coupon and it’s price is completely dependent on interest rates.
  • Estate Tax is due 9 months after death
    • Amount of taxes will be based on value of assets at time of death or exactly 6 months later, whichever is less
    • If estate passes to spouse who is US citizen, tax free transfer. If it’s to a non-US spouse, only a limited amount will pas tax free
  • Statute of Limitations: 
    • USA Civil: Sooner 3 years after act or 2 years after discovery 
    • USA Criminal: 5 Years (5-5-3)
    • Federal Civil: Sooner of 1 year after discovery or 3 years after infraction
    • Federal Criminal: 
  • Prepayment of Fees: Under USA, this is considered as MORE THAN $500 6 months in advance 
    • Does this require a balance sheet in form adv part 2? Yes.
  • Dividend Discount Model (Equity) = Annual Income divided by expected rate of return 
    • If you see the grandma question, remember to multiply the monthly income by 12 to get annual income 
  • Discounted Cash Flow: Think Debt Securities (Bonds). You need the coupon rate, maturity length, and principal (PAR VALUE)
    • Do not need current market price of the bond!!
  • Futures: When you BUY a futures contract, you’re locking in a price to buy at (bullish, consumers). When you SELL a futures contract you’re locking in a price to sell (bearish, producers)
  • Viatical Settlement: Think life insurance. When a terminally ill person wants to sell their contract to be able to spend that money how they want before they pass, they sell the contract and the life insurance company gives them the cash benefit, which is usually much less than the death benefit 
  • Brochure Form ADV Part 2: You need to submit a balance sheet if you’re going to have custodyand collect a substantial prepayment of fees ($500 6 months or more in advance under USA)
    • IA40: Balance sheet not needed for custody 
  • Advisor Act of 1940: Insolvency NOT a reason for revocation
    • USA: Insolvency IS a reason for revocation 
  • Cash Referrals (IAs):
    • Advisors Act of 1940: Allowed. Need a written agreement in place with the third party that spells out disclosures
    • USA: Not allowed 
  • Record Retention Under USA:
    • Broker Dealers: 3 Years
    • IAs: 5 Years
    • Recent 2 years in readily accessible location (at home office)
  • If you only give advice on US Government (treasury) securities, you are federally covered and don’t have to register with states
  • Mutual Funds: 12b-1 fee can’t go over 0.25% or else you can’t call yourself a no-load fund. 
    • These fees are associated with advertising and marketing the fund
    • Usually Class C
  • Borrowing from Clients: Can only do this from clients who are in the business of lending $. Think banks, broker dealers, affiliates. 
  • Sharing in Profits with a Customer: 
    • BD: Allowed. Need written permission from customer and BD
    • IAs: Not allowed 
  • Clients can never sign away their rights!
  • GRAT: Grantor Retained Annuity Trust
    • Designed to pass assets to beneficiaries in a way that minimizes estate tax
    • Ownership remains with grantor so all income is taxed to the grantor 
  • Current Ratio: Current Assets/Current Liabilities
    • Balance Sheet Current Asset Items Include:
      • Cash
      • Marketable Securities (like bonds inside of 1 year) 
      • Account Receivable
      • Inventory 
    • Current Liabilities:
      • Accounts payable
      • Short-term debt
      • Dividends
      • Notes payable 
      • Income taxes owed
    • With Quick Ratio, do the same thing but don’t include inventory
  • BDs: Notify Admin promptly if a material change occurs on the Part 1A registration form
  • Variable Life Insurance: The death benefit is guaranteed by the general account. The cash value fluctuates with the separate account’s performance 
  • Total Return includes realized and unrealized gains and losses in the calculation. Income as well.
  • Client Compensation for Illegal Activity
    • Cost of purchase/advice
    • Interest at state’s rate
    • Legal Fees (attorney fees and court costs)
    • Less income received on the security 
  • An IA must provide disclosure to his client if there is even a hint of conflict of interest 
  • Index (or Equity) Based Annuity: Has a participating rate and a cap rate. Does not participate in losses if the index loses money. 
    • Likely to be on test. When doing it, watch out for the cap rate and watch out for the fact that the investor will not lose money when the index returns a negative 
  • Life Insurance:
    • Whole Life: 
      • Everything is guaranteed. Death benefit, cash value, fixed premiums 
    • Variable Life:
      • Fixed premiums. Minimum guaranteed death benefit. Fluctuating cash value. General account and separate account. 
    • Variable Universal
      • Flexible Premiums (can skip payments. Can overfund). No guarantees. No guaranteed death benefit. No guaranteed cash value. 
    • Term Life
      • Good for fixed period of time
  • Life Insurance: The Needs Analysis doesn’t need to look at market fluctuations because of guaranteed death benefit
    • Needs Analysis determines $ that would be needed to cover the client’s stuff in the event of an individual’s sudden passing 
  • Trusts: Types
    • Simple: Income must be distributed annually 
    • Complex: May accumulate income over time 
      • Think of the example Brian Lee mentioned of the kid actor getting rich
    • Life: Created and runs while someone/the grantor is living 
    • Testamentary: Created and runs after the grantor dies. Established by the person’s will. Details of trust known by the executor. 
  • Trusts: Players
    • Grantor/Settlor: Provides the assets of the trust. Can be the trustee and/or beneficiary 
    • Trustee: Follows the Investment Objectives of the trust!! Doesn’t follow what the beneficiaries’ may want/request.
    • Beneficiaries: If one dies, assets go to their heirs (aka remainderman)
      • Per Stirpes: Remainderman get their parent’s/beneficiaries amount from the trust spilt equally among them
  • USA: Securities registration is active for 1 year after effective date
    • Can amend to offer more shares but CANNOT change the offering price, commissions, or underwriter’s compensation 
  • USA Exempt Transactions: Issuer to underwriter transactions are exempt but, other than that, no transaction that  benefits an issuer is exempt
  • IAs: $350 max political contribution as long as person is eligible to vote for candidate. $150 if he’s not.
  • Real Rate of Return = Inflation Adjusted Return
    • Capital Appreciation + income – inflation 
  • Total Return = Realized and Unrealized Capital Appreciation + Income
  • Holding Return: Income + Value at end of period — value at start of period / value at start of period
  • Efficient Frontier: Think Modern Portfolio Theory. It’s a set of optimal portfolios given risk and return levels for each portfolio. Efficient Set. 
    • You want to be on the efficient frontier 
  • Modern Portfolio Theory: Diversification lowers risk. You want negatively correlated securities.
  • Asset Classes: Derivatives (options, futures) and mutual funds ARE NOT asset classes.
    • Real estate, commodities, stocks, bonds, cash are
  • Estate Taxes: At Death
    • Taxes are based on estate value at day of death OR 6 months later, whichever is less
    • Must pay estate taxes within 9 months 
  • 457 Plan: Think City, State, Gov. Workers 
  • Referrals: For BDs,Can be paid to certain professionals as long as it is a nominal amount and is the same amount for any referral. And you have written contract with the 3rd party.
    • Cash referrals not allowed for IAs
  • Investing Constraints: TTLLU (Time Horizon, Taxes, Liquidity, Laws, Unique)
  • JTWROS: The spousal gift exclusion is unlimited for US citizen spouse
  • UGMA and UTMA: Once assets are given to the minor, the grantor no longer has access to those funds, can’t get them back. Irrevocable. 
    • UGMA: Age of Majority (Differs in each state) is when the assets can be accessed by the minor
    • UTMA: Can designate up until age 25 
  • TOD: May be called a Payment on Death (POD) on test. This account allows the grantor to have access to the funds while alive and they transfer to the beneficiary upon death 
  • 404(c): Must satisfy:
    • At least 3 diversified investment options
    • Must be able to transfer among investment options at least quarterly 
    • Sufficient info must be provided to participants to allow for informed decision making
    • This puts the risk on the employees/plan participants 
  • 3rd Party Solicitation: Under the IA Act of 40, third party solicitors do not have to be registered as IARs and therefore can’t receive sales-related compensation
    • This is unlike the USA, where solicitors are required to be registered as IARs
  • Registration: An IA has a choice of registering with feds or state if they advise or are a pension consultant to an employee benefit plan that has at least $200 million in AUM
  • Advisory Contracts Include:
    • Term of contract
    • Amount of Fee/Fee Formula
    • Amount to be refunded if advisory fee is prepaid and contract is terminated
    • Whether the contract grants discretion 
    • A clause preventing contract assignment without consent 
  • Admin Jurisdiction: Admins have this wherever: 
    • An offer originated
    • An offer was received
    • An offer was accepted
  • BD Definition: Person engaging/effecting in securities transaction for business of others or themselves
  • Agent Definition: You are an agent if you Accept or Place orders for securities transactions
    • Administrative or clerical staff do not register. NOTE — Instead of these terms, they will likely use “sales assistant” or “intern”
  • Ethical Practices: Use of RIA and IAR title and “SEC Approved” is not allowed
    • Registered Investment Advisor is? 
  • Dow Jones is the only price weighted index
  • BDs: Must indicate their capacity on the trade confirmation, sent no later than the settlement date
    • Markup: You buy from a BDs Inventory
    • Mark Down: You sell to a BD
    • Commission = Agent
  • Advisory Contract: 
    • USA: contract must be in writing
    • IA40: Can be written or oral
    • USA: Fees must be competitive
    • IA40: Fees must be reasonable 
  • Brochure: Only state IAs file brochure supplements (Form ADV Part 1B)
  • All IAs = deliver brochure to clients within 120 days of end of fiscal year. No material changes, no need to send it
  • IA40: Exempt from the brochure rule:
    • Advisor to investment company
    • Advisor to insurance company
    • Advisor who only provides impersonal advice an an annual charge of $500 or less
  • IAs: Can never use testimonials 
    • Cannot use SPECIFIC past recommendations in ads. Though, you can refer to ALLrecommendations in a given time period (if there is a disclaimer that no assurance of the same results)
  • IAs: Can offer free services, but no strings attached. Those who the ad is imposed on must not be obligated to do anything.
  • IAs: Executing a trade as a principal after giving advice on the trade requires both DISCLOSURE and CONSENT from the customer before THE COMPLETION OF THE TRADE.
  • Forwards and Futures:
    • Forward: Less liquid. Non standardized/customized. Not traded on an exchange. 
    • Futures: More liquid. Trade on exchanges. Clearinghouse guarantees performance of buyer and seller. Standardized terms. 
  • Recordkeeping: There are no recordkeeping requirements for IARs and Agents under the USA
    • For BDs: 3 years 
    • IAs: Most records must be maintained for at least 3 years after termination of the firm at principal office
  •  Financial vs NonFinancial Considerations:
    • Financial: Think finances and quantifiable items
    • NonFinancial: Think attitude
  • Hedge Funds: Give out offering document, which might be referred to as a prospectus on the test
  • 457 Plan: Can make withdrawals at any age without a penalty
  • Consent to Service:
    • Signed at time of application
    • Never expires. Never has to be resigned. 
  • Felony CONVICTION or Securities related misdemeanor in last 10 years could be cause for denial of registration by the Admin 
  • USA Registration Process: Under the USA, registration process is the same for Agents and IARs
    • Same requirements are needed by BDs and State IAs except for fingerprints and passing a test
    • Ways BDs and State IAs registration differs from Agents and IARs:
      • IAs: Must meet net worth/capital set by state of $35k (custody) or $10k (discretion)
      • BDs: Must meet net capital requirements that are set by SEC. This is because BDs register at state and federal level, so SEC has final say on this matter.
      • Post surety bonds: Like insurance for fraud and theft. NOTE — Cash or securities can be accepted in lieu of surety bond 
      • Successor Firm Situation: Successor firm must refile registration with Admin but not pay filing fee until Dec. 31
  • Post Registration Requirements (BDs and State IAs under the USA): 
    • Record Keeping:
      • IA: 5 and 2 (readily accessible)
      • BD: 3 and 2 (readily accessible) 
      • Microfilm
      • Electronic (unalterable. Read only)
      • Written supervisory procedures must be in place to maintain data storage and data protection and protect from cyber attacks
    • Advertising: Always file with home office state
    • Net Capital Requirements: Always meet those of your home office state (State IA)
  • IA40 Registration Process: This would pertain to Federal Covered IAs
    • File Form ADV with SEC. Just like State IA does with Admin.
      • Name
      • Education
      • Affiliation
      • Net Capital Requirement = NONE
    • Effective: 45 Days
    • Withdrawal: 60 Days
  • IA40: All IAs must submit Brochure aka Form ADV Part 2
    • State: At least 48 hours before contract is signed or else client can terminate within 5 days without penalty and get a refund
      • Resend only if material changes (120 days end of FY) or customer requests it
    • Federal: At or prior to contract signing
      • Must resend annually if material changes (within 120 days of fiscal year end)
  • Advisory Contract: 
    • No contract assignment allowed unless you get written client consent 
    • In partnership, client notification in reasonable time is required if any of the partners leaves or is added
  • Federal Covered Securities: Only register with SEC
    • Stock listed on an exchange (NYSE, Nasdaq, American..)
    • Investment Company Issues
    • OTC Bulletin Board/Pink Sheets ARE NOT federally covered
    • Still have to pay filing fees with states (NOTICE FILING)
  • Admin Powers: If an Admin deems it in public’s best interest, it can:
    • Deny
    • Revoke
    • Suspend
    • Lack of Experience? – No
    • Insolvency? – Yes (Under USA)
    • Felony Conviction Inside 10 years? – Yes 
    • Disjointed from other Reg. Authority? – Yes
    • Lack of experience, knowledge, and training – Yes 
  • If a BD is suspended, so are all agents 
  • Cease and Desist: Used by Admin to halt persons
    • Stop Order = Used on securities 
  • SEC Release 1092: These are also IAs/IARs and must register: 
    • Financial Planner
    • Sports Entertainment Agent 
    • Pension Consultant 
  • Communications: 
    • Testimonials NOT ALLOWED for IAs
      • Allowed for BDs under certain conditions 
    • RIA and IRA not allowed for your individual title. Only for firms.
    • SEC approval – can’t say this
    • Past performance history — ALL past recommendations must be included. Cant cherry pick. If you’re gonna show past performance, gotta show them all
  • Compensation:
    • Discounted fee structure (client’s fees go down with more AUM) is allowed, but must disclose in the brochure 
  • Performance Based Fee Exception:
    • 2.1 mil net worth or 1 mil AUM
    • Hedge Funds / Investment Companies
    • P.B.F Based on:
      • % Net Gain
      • Specific Time Period
      • Compared to Benchmark (SnP 500)
  • Precious Metals (Commodities): Gold, Silver, Platinum
    • Not securities 
  • Qualified Plans:
    • Defined Benefit
    • Defined Contribution
    • Profit Sharing
    • Keogh 
    • Pension Plans
  • IRA: Can withdraw up to $10k for purchase of first principal residence
  • Rebalancing involves getting the account back to its original percentage mix (not original portfolio value)
  • Flexible Spending Account: Deductible doesn’t matter. 
    • HSA: Must be high deductible plan
  • IAs: Loans can’t be made to clients unless the firm is in the business of lending money
  • Testimonials: Agents and BDs can use these if it meets FINRA standards
    • IAs = never
  • Ethics: If you make personal investments that are consistent with your recommendations, it’s not a violation of IA40 
  • NPV: The difference between the sum of the discounted cash flows that are expected from an investment and its initial cost
    • See screenshot for good expl. 
  • IRR = Same as Yield to Maturity 
    • IRR assumes reinvestment will be made at the Yield to Maturity rate 
  • Debt to Equity: Debt/Total capitalization 
  • Average Cost Question: 
    • Step 1: Add up total $ invested over all periods 
    • Step 2: Find out how many shares you bought. Do this by dividing amount invested for each individual period by price of the security during the period 
    • Step 3: Once you have the shares divide the shares by the total amount invested over all periods 
  • QDRO: Which of the following is a court order from a pension plan to pay a third party (ex spouse)
    • QDRO
  • IAs: Only can lend $ to people affiliated with the firm (like an IAR)
  • Record Keeping: For IAs, it’s 5 and 2 under the USA and IA40 
  • Limited Partnership = Most common structure for venture capital  and virtually all private equity, including hedge funds 
  • Life Insurance: Proceeds are tax free when the person dies
    • Variable Annuity: Anything above cost basis (what you’ve paid with premiums) is taxed at OI when the person dies 
  • Securities Registrations
    • Qualification (One state only)
      • Effective when Admin says
    • Coordination: (Multiple States and SEC)
      • Effective when SEC says
    • Notice Filing
      • For federal covered securities (investment company issues, securities listed on an exchange)
    • Required on registration statement:
      • Total amount of security to be offered in the state
      • Stop order from another state (if one exists)
      • Intended use of proceeds
    • Usually effective for one year. Can be more if you can’t seem to sell all the securities 
      • Can increase number of shares to offered if the sales are going well, but cannot increase the price or the commissions to the underwriter 
    • Admin can require the security to be deposited in escrow and proceeds impounded until the issuer receives a specific amount
  • Securities Registration: Registration can be filed by:
    • Issuer
    • A Broker Dealer
    • An interested party, like a selling stockholder 
    • Admin may require issuer to file quarterly reports 
  • ADV-W: Must be filed by a federal IA within 180 days of end of fiscal year if its AUM drops below $90 mil when it files its annual registration amendment 
    • USA Withdrawal: 30 days (30 days to register)
    • IA40 Withdrawal: 60 days (45 days to register) 
  • IA40: Civil Statute of limitations
    • Sooner of 3 years after sale and 1 year after discovery 
    • For State IA (USA): 3 and 2
  • IA40: Annual registration renewal should happen within 90 days of end of fiscal year 
    • USA: Every December 31
  • Testimonials: 
    • IAs: Never Allowed
    • BDs: Allowed under conditions. Disclose:  
      • Testimonial may not represent the experience of others customers
      • Testimonial is no guarantee of future performance
      • If more than $100 is paid to the person for the testimonial, must disclose 
  • Form ADV Part 1A: State and Federal IA file this 
    • Business name
    • Current affiliates of control persons
    • Form of business (partnership, Corp,etc)
    • Education background
    • Nature of business 
    • Balance Sheet
    • Discretion?
    • Compensation?
    • Criminal Record 
  • Update Form ADV annually: Within 90 days of fiscal year or (for state IA), Dec. 31
  • Form ADV Part 1B: State covered IA only files this. These are Supplemental materials. 
  • Form ADV Part 2: The Brochure
    • Must be updated annually at same time as Form ADV Part 1
    • All IAs: Send to clients within 120 days of end of fiscal year, unless no material changes
    • Must include balance sheet if:
      • USA: $500 prepayment fees 6 months in advance + custody
      • IA40: $1200 prepayment fees 6 months in advance (no balance sheet needed if you have custody)
    • Prompt amendment is needed for material changes ??
  • ERISA prohibits transaction on behalf of a party with interests adverse to the retirement plan. Fiduciary can deny the trustee’s orders 
  • Tangible Assets (Ex. Gold) = Hedge vs inflation 
  • The substantial prepayment rule IS MORE THAN $500 covering AT LEAST the next 6 months
  • Alpha: Difference between actual beta performance and historic beta. This indicates outperformance. 
    • Positive Alpha = Outperformed
  • NPV: FV – PV
    • NPV will be dependent on the IRR (rate of return) 
    • If you get more IRR than expected, positive NPV
    • NPV > 0 = Positive NPV  
  • Agency Cross Transaction:
    • Must disclose and Need Written Consent before the trade 
    • Can only recommend the trade to one party not both
    • Annually, an IA must publish a summary of the account that reveals the total # of these transactions and the total commission received from them
  • Safe Harbor Section 28(e): Commission dollars from BDs to IAs
    • Must offer direct research benefit to the IA
  • Types of Business Entities: 
    • Sole Proprietorship
      • Like an individual account.
      • Could lose it all
      • Income and loss passes through 
      • Taxed on income (personal tax return, 1140)
    • LLC
      • Combines Limited liability with flow through of profits and losses 
      • LLC owners are “members” not “shareholders”
      • Members not personally liable for the debts of the LLC 
      • Unlimited # of members allowed 
      • No double taxation (flow)
      • Survive death of owner
    • S Corp
      • Corporation style that offers investors limited liability 
      • Profits and losses pass through 
      • Only 100 shareholders allowed (all must be residents)
      • Can only deduct what you put in for tax purposes 
      • No double taxation (flow)
      • Survive death of owner
    • General Partnership 
      • Two or more people 
      • Easy to form easy to dissolve 
      • Not suited for raising a lot of $
      • Profits and losses flow through the entity level
      • Full liability
      • No double taxation (flow)
    • Limited Partnership
      • Only liable for what you invested 
    • C Corp
      • Separate entity from the owners
      • Taxed as an entity (shareholders are then taxed again when dividends are paid out)
      • Easiest way to raise large amounts of dough 
      • Most difficult setup 
      • Corporation’s officers and directors (owners) are shielded from personal liability for the corp’s debts and losses. Shareholders also shielded.
      • Look at corporation’s financial needs and objectives when determining suitability  
      • Taxed on income (Form 1120)
      • Survive death of owners 
      • Easiest to transfer 
      • All the others are flow through, so the C Corp is the best for retaining earnings (doesn’t flow through to owners)
  • IAs: Cash referrals allowed to 3rd party solicitors. Need disclosure.
  • NPV: The PV minus what the investment is available to you for. You want a positive NPV.
    • When current market rate (like 4%) and IRR (4%) are the same, NPV is 0