Series 65 Practice Exam

1. An adviser recommends a strategy to a client with a five-year time horizon and low risk tolerance. Which allocation is most consistent with that profile?

• A. A majority in short and intermediate high-quality fixed income with a modest equity allocation
• B. A concentrated position in small-capitalization growth equities
• C. Primarily long-dated zero-coupon bonds
• D. Primarily commodity futures and leveraged funds

2. An investor sells a stock at a loss and repurchases substantially identical shares eleven days later. What is the tax consequence?

• A. The loss is disallowed under the wash sale rule and added to the basis of the new shares
• B. The loss is converted into a long-term capital loss
• C. The loss is deductible but the new shares receive a zero basis
• D. The loss is fully deductible because more than ten days elapsed

3. Under ERISA Section 404(c), a plan fiduciary can obtain relief from liability for participant investment losses if which condition is satisfied?

• A. The plan uses only actively managed funds
• B. The plan guarantees a minimum annual return
• C. Participants exercise control over their accounts and are offered a broad range of investment alternatives with adequate information
• D. The plan invests exclusively in employer stock

4. A client in a high tax bracket holds both a taxable bond fund and a growth stock fund, and has both a taxable account and an IRA. Which asset location is generally most tax efficient?

• A. Hold the taxable bond fund in the IRA and the growth stock fund in the taxable account
• B. Hold the growth stock fund in the IRA and the bond fund in the taxable account
• C. Split both funds equally between the two accounts
• D. Asset location has no effect on after-tax outcomes

5. An investor contributes a fixed dollar amount monthly to a mutual fund regardless of price. What is the mathematical effect of this strategy?

• A. The average cost per share is lower than the average of the prices paid
• B. It guarantees a profit in a declining market
• C. The average cost per share equals the average price
• D. It eliminates market risk entirely

6. An investor in the 32 percent federal tax bracket is comparing a corporate bond yielding 6 percent to a tax-free municipal bond. What municipal yield would be equivalent on an after-tax basis?

• A. 4.08 percent
• B. 6.00 percent
• C. 8.82 percent
• D. 1.92 percent

7. Which characteristic distinguishes a Roth IRA from a traditional IRA?

• A. Contributions are made after tax and qualified distributions are tax free
• B. Required minimum distributions must begin at the same age as a traditional IRA for the original owner
• C. Earnings are taxed annually as they accrue
• D. Contributions are always deductible regardless of income

8. A portfolio has a beta of 1.3. The risk-free rate is 3 percent and the expected market return is 9 percent. Under the capital asset pricing model, what is the expected return of the portfolio?

• A. 10.8 percent
• B. 11.7 percent
• C. 12.0 percent
• D. 7.8 percent

9. An investment adviser is developing a recommendation for a 58-year-old client with a large concentrated position in her employer's stock. Which risk should be addressed first?

• A. Concentration risk, because both her human capital and her portfolio depend on one employer
• B. Reinvestment risk on future coupon payments
• C. Currency risk from foreign operations
• D. Prepayment risk on mortgage-backed holdings

10. Under the semi-strong form of the efficient market hypothesis, which type of analysis would be expected to fail to produce excess returns?

• A. No form of analysis is affected under semi-strong form
• B. Technical analysis only
• C. Both technical analysis and fundamental analysis using public information
• D. Analysis based on material nonpublic information only

11. A client asks an adviser to explain the difference between time-weighted and dollar-weighted returns. Which statement is accurate?

• A. Time-weighted return removes the effect of client cash flows and is the better measure of manager skill
• B. Dollar-weighted return removes the effect of cash flows and measures manager skill
• C. The two always produce identical results
• D. Time-weighted return measures the client's actual experience including deposits

12. A client's portfolio is rebalanced back to target weights whenever an asset class drifts more than five percentage points from target. Which approach is this?

• A. Strategic asset allocation with threshold rebalancing
• B. Tactical asset allocation based on market forecasts
• C. Dollar cost averaging
• D. Constant ratio laddering

13. An investor holds appreciated stock and dies. What generally happens to the cost basis for the heir under current federal law?

• A. It is stepped down to the decedent's original purchase price
• B. It is reset to zero
• C. It carries over unchanged from the decedent
• D. It is stepped up to fair market value at the date of death

14. An investor holds 100 shares of a stock and buys one put option on that stock. What is this strategy called and what does it accomplish?

• A. A protective put, which limits downside while retaining upside
• B. A covered call, which generates income and caps upside
• C. A straddle, which profits from volatility in either direction
• D. A collar, which requires no premium outlay

15. A retirement plan promises a participant a specified monthly benefit at retirement based on salary and years of service. Which type of plan is this and who bears the investment risk?

• A. A defined benefit plan; the employer bears the investment risk
• B. A defined contribution plan; the employee bears the investment risk
• C. A defined benefit plan; the employee bears the investment risk
• D. A profit sharing plan; the risk is shared equally

16. An investor owns a stock currently trading at 50 dollars and wants to automatically trigger a sale if the price falls to 45 dollars, to help limit potential losses. Which order type is designed for this purpose?

• A. A limit order to sell at 45 dollars, guaranteeing execution at that exact price
• B. A stop order, which becomes a market order once the stock trades at or through 45 dollars
• C. An immediate-or-cancel order requiring instant full execution
• D. A short sale order requiring an uptick

17. An investor owns 100 shares of a stock and sells one call option against that position. What is the PRIMARY purpose of this covered call strategy?

• A. To eliminate all downside risk on the stock position
• B. To generate additional income from the premium while capping upside potential above the strike price
• C. To guarantee unlimited upside in exchange for a small premium
• D. To hedge against currency risk on a domestic holding

18. A graph plots portfolios offering the highest expected return for each level of risk, or equivalently the lowest risk for each level of expected return. What is this set of optimal portfolios called?

• A. The security market line
• B. The efficient frontier
• C. The yield curve
• D. The capital allocation line's risk-free segment

19. An investor wants to buy a stock but only if the price falls to a specific level or lower, and is willing to wait rather than buy immediately at the current market price. Which order type should the investor use?

• A. A limit order
• B. A market order
• C. A stop order
• D. An all-or-none order without a price restriction

20. An investor borrows shares and sells them short, anticipating a price decline. If the stock instead rises sharply and continues rising, what is the investor's loss exposure?

• A. Losses are capped at the original sale proceeds
• B. Losses are capped at the margin deposit posted with the broker
• C. Losses are capped at twice the initial short sale value
• D. Losses are theoretically unlimited, because there is no ceiling on how high the stock price can rise

21. A client's advisory account bundles investment advice, trade execution, and custody into a single all-inclusive asset-based fee rather than paying separate commissions for each transaction. What is this type of arrangement called?

• A. A margin account
• B. A prime brokerage account
• C. A wrap fee account
• D. A cash management account

22. An investor buys securities using a margin loan from the broker-dealer, putting up only a portion of the purchase price in cash. How does this MOST directly affect the investor's risk profile?

• A. It eliminates the risk of loss beyond the cash invested
• B. It converts market risk into credit risk borne solely by the broker-dealer
• C. It magnifies both potential gains and potential losses relative to an all-cash purchase
• D. It reduces volatility of returns compared to an all-cash purchase

23. A target-date retirement fund gradually shifts its asset allocation from mostly equities toward mostly fixed income as the target retirement year approaches. What is this asset allocation pattern called?

• A. A glide path
• B. A yield curve
• C. An efficient frontier
• D. A style drift

24. According to modern portfolio theory, combining assets that are not perfectly positively correlated into a portfolio, rather than holding a single asset, PRIMARILY achieves what benefit?

• A. A guaranteed increase in expected return
• B. Elimination of all investment risk
• C. A reduction in overall portfolio risk for a given level of expected return
• D. Elimination of systematic market risk

25. An adviser is selecting a second holding to pair with an existing equity position specifically to reduce overall portfolio volatility through diversification. Based on modern portfolio theory, which correlation coefficient between the two holdings would provide the greatest risk-reduction benefit?

• A. A correlation coefficient of positive 1.0, since perfectly matched price movement maximizes diversification benefit
• B. A correlation coefficient of negative 1.0, since the two holdings move in opposite directions and offset each other's swings
• C. A correlation coefficient of 0.5, since moderate positive correlation always outperforms any other pairing
• D. A correlation coefficient of 0.0 provides less diversification benefit than a coefficient of positive 1.0

26. Which of the following correctly pairs a Series 65 exam parameter with its official value?

• A. Registration fee — $180
• B. Number of scored questions — 187
• C. Passing score — 92 of 130 scored questions
• D. Time limit — 130 minutes

27. When must an investment adviser deliver its brochure to a new advisory client?

• A. At the first annual review following the contract
• B. Before or at the time of entering into the advisory contract
• C. Only upon the client's written request
• D. Within 120 days after the contract is signed

28. An adviser proposes to act as principal, selling a security from its own inventory to an advisory client. What does the Advisers Act require?

• A. Written disclosure and client consent obtained before completion of each such transaction
• B. Disclosure on the next quarterly statement
• C. Only the approval of the adviser's chief compliance officer
• D. Nothing beyond the trade confirmation

29. An adviser directs client brokerage to a firm that provides research the adviser uses in managing accounts. Under what statutory provision may this be permissible?

• A. It is permissible without condition because the adviser chooses the broker
• B. It is permitted only if the client personally selects the broker
• C. It is prohibited in all circumstances
• D. The Section 28(e) safe harbor for soft dollar arrangements, if the research is eligible and the commission is reasonable

30. An investment advisory contract may not be assigned to another adviser without which of the following?

• A. The client's consent
• B. The Administrator's written approval
• C. A ninety-day notice period only
• D. Nothing; advisory contracts are freely assignable

31. An investment adviser is a fiduciary. Which obligation follows most directly from that status?

• A. A duty to act in the client's best interest and to disclose or eliminate material conflicts
• B. A duty to guarantee the client will not lose money
• C. A duty to obtain the highest return available in the market
• D. A duty to trade only through affiliated broker-dealers

32. Which statement about an investment adviser representative's registration is accurate under state law?

• A. An IAR of a federal covered adviser may still be required to register in a state where the IAR has a place of business
• B. IARs of federal covered advisers are never required to register with any state
• C. IAR registration is handled exclusively by the SEC in all cases
• D. IARs need not register anywhere if the adviser is properly registered

33. An adviser recommends that a client roll a 401(k) into an IRA the adviser will manage for a fee. What conflict must be addressed?

• A. The adviser earns compensation from the rollover, so the recommendation's basis and the comparison to leaving assets in the plan must be disclosed
• B. There is no conflict because rollovers are always in the client's interest
• C. The conflict is eliminated if the IRA fee is lower than the plan's fee
• D. The conflict is eliminated once the rollover is complete

34. An investment adviser representative wants to send a client a projection showing the portfolio will earn 9 percent annually for the next twenty years. What is the issue?

• A. There is no issue if 9 percent equals the historical average
• B. The projection is acceptable if the client signs a waiver
• C. Projections are prohibited under all circumstances
• D. Presenting a projected return as assured is misleading; assumptions and their limitations must be clearly disclosed

35. An adviser publishes an advertisement featuring a client testimonial. Under the modern marketing framework, what is generally required?

• A. Testimonials are banned outright with no exceptions
• B. Nothing, provided the testimonial is truthful
• C. Only the adviser's name need appear
• D. Clear disclosure of whether the promoter is a client and whether compensation was paid, plus oversight of the arrangement

36. Under the Investment Advisers Act, when is an adviser generally deemed to have custody of client assets?

• A. Whenever it has discretionary trading authority
• B. When it holds client funds or securities, or has authority to withdraw them from a client account
• C. Only when it physically possesses stock certificates
• D. Only when it acts as trustee of a family trust

37. Under the Investment Advisers Act of 1940, an adviser must deliver a brochure describing its business, fees, conflicts and disciplinary history. Which document serves this purpose?

• A. Form 13F
• B. Form ADV Part 2A
• C. Form ADV Part 1
• D. Form U4

38. An adviser learns that a client has become incapacitated and a family member asks the adviser to take instructions from her instead. What is the appropriate action?

• A. Liquidate the portfolio to cash and await instructions
• B. Continue managing under the existing discretionary authority indefinitely without any inquiry
• C. Take instructions only from a person with documented legal authority, such as a power of attorney or guardianship
• D. Accept the family member's instructions if she is the closest living relative

39. An adviser wishes to charge a fee based on a share of capital gains in a client's account. Under the Advisers Act, when is this generally permitted?

• A. Only for qualified clients meeting asset or net worth thresholds, and other limited categories
• B. For any client whose account exceeds 25,000 dollars
• C. Never, under any circumstances
• D. For any client who consents in writing

40. Before recommending an investment strategy, an investment adviser representative gathers information about a client's financial situation, investment objectives, risk tolerance, and time horizon. This process is required primarily to satisfy which obligation?

• A. The soft dollar disclosure obligation
• B. The proxy voting obligation
• C. The suitability obligation
• D. The best execution obligation

41. An investment adviser has no place of business in a particular state but has a small number of retail clients who happen to reside there. Many states provide an exemption from adviser registration in this scenario known as:

• A. The federal covered exemption
• B. The institutional-only exemption
• C. The accredited investor exemption
• D. The de minimis exemption, based on having very few clients in the state

42. An investment adviser representative learns that a large client order is about to be entered that will likely move a security's price, and personally trades in that security ahead of the client's order to profit from the anticipated price move. This practice is called:

• A. Front running
• B. Scalping only when applied to research recommendations
• C. Dollar-cost averaging
• D. Portfolio hedging

43. An investment adviser wants to enter orders in a client's account without obtaining the client's approval for each individual transaction. What must the adviser obtain before exercising this authority?

• A. Verbal approval renewed before each trade
• B. A notarized power of attorney filed with the SEC before every transaction
• C. Approval from a state securities administrator for each trade
• D. Written discretionary authorization from the client

44. An investment adviser pays a third party a cash fee for referring new clients to the adviser. Under the applicable marketing rules, what must generally happen for this arrangement to be permissible?

• A. The solicitor must be a registered broker-dealer with no other qualification needed
• B. The referral must be verbal only, with no written agreement
• C. The fee must be paid entirely by the referred client rather than the adviser
• D. The arrangement must be disclosed to the client, generally through a written agreement describing the compensation

45. A state securities administrator adopts a model rule listing specific practices, such as unauthorized trading and misrepresentation of qualifications, that constitute dishonest or unethical conduct by investment advisers. This type of guidance is typically issued by:

• A. NASAA, through its model rules adopted by state administrators
• B. The Federal Reserve Board
• C. The Municipal Securities Rulemaking Board
• D. The Public Company Accounting Oversight Board

46. A broker-dealer provides investment advice to clients, but that advice is solely incidental to its brokerage business, and it receives no special compensation specifically for the advice. Under this circumstance, the broker-dealer is generally:

• A. Required to register as an investment adviser regardless of compensation structure
• B. Automatically deemed a fiduciary identical to a registered adviser
• C. Required to deliver a brochure identical to that of a registered adviser
• D. Excluded from the definition of investment adviser under the incidental advice exclusion

47. A federal covered adviser has clients residing in a particular state. Even though the adviser registers with the SEC rather than the state, what is the state generally permitted to require of the adviser?

• A. Full state registration identical to a state-registered adviser
• B. A separate state examination for all advisory representatives
• C. Nothing at all, since federal registration preempts any state involvement
• D. A notice filing and payment of applicable state fees

48. A securities issuer seeks to register an offering with a state securities administrator. Under the Uniform Securities Act, registration may generally be accomplished by which of the following methods?

• A. Registration by qualification, coordination, or notification, depending on the offering's circumstances
• B. Registration solely through federal covered exemption
• C. Registration only by direct petition to NASAA
• D. Registration only through a self-certification filed with the issuer's transfer agent

49. An investment adviser manages assets under management above a certain threshold set by federal law. As a result, the adviser is generally required to register with which regulator rather than with individual states?

• A. The Securities and Exchange Commission, becoming a federal covered adviser
• B. Every state in which it has a single client
• C. The Municipal Securities Rulemaking Board
• D. The Financial Industry Regulatory Authority

50. An investment adviser representative executes an unusually high volume of trades in a client's account, generating substantial fees, without any corresponding investment rationale tied to the client's objectives. This practice is known as:

• A. Front running
• B. Window dressing
• C. Churning
• D. Portfolio rebalancing

51. A bond is issued with a provision allowing the issuer to redeem it before maturity, typically when interest rates have fallen. From the investor's perspective, the PRIMARY disadvantage of this feature is:

• A. The investor must pay a penalty to keep the bond
• B. The investor may have to reinvest the returned principal at lower prevailing rates
• C. The bond's credit rating automatically drops to default
• D. The investor loses all accrued interest

52. An investor holds a portfolio of long-term, high-quality corporate bonds. If prevailing market interest rates rise sharply, what is the MOST direct effect on the current market value of these existing bonds?

• A. Their coupon payments will automatically increase to match new rates
• B. Their market value will generally rise because the issuer's credit improves
• C. Their market value is unaffected because they are high-quality
• D. Their market value will generally fall because their fixed coupons become less attractive

53. Which security is designed to protect an investor against inflation by adjusting principal in line with the Consumer Price Index?

• A. Treasury bills
• B. Fixed-rate corporate debentures
• C. Treasury Inflation-Protected Securities
• D. Treasury STRIPS

54. An investor holds a variable annuity during the accumulation phase. Who bears the investment risk?

• A. The contract owner
• B. The separate account custodian
• C. The insurance company
• D. The state guaranty association

55. An investor buys a call option on a stock. What is the maximum loss and the maximum gain?

• A. Maximum loss is the premium paid; maximum gain is theoretically unlimited
• B. Maximum loss is unlimited; maximum gain is the premium received
• C. Both loss and gain are limited to the strike price
• D. Maximum loss is the strike price; maximum gain is the premium

56. Two bonds have identical credit quality and yield, but one matures in three years and the other in twenty. If interest rates rise sharply, what happens?

• A. The twenty-year bond falls more in price because it has greater duration
• B. The three-year bond falls more because it must be reinvested sooner
• C. Both fall by the same percentage since yields are equal
• D. Neither changes in price because credit quality is unchanged

57. A client wants exposure to commercial real estate with daily liquidity and without direct property management. Which vehicle best fits?

• A. A publicly traded REIT
• B. A direct participation program in raw land
• C. A non-traded private placement partnership
• D. A residential mortgage on a personal residence

58. A client wants exposure to a foreign company's shares without dealing in foreign currency settlement or a foreign exchange. Which instrument is designed for this?

• A. An American Depositary Receipt
• B. A forward contract on the foreign currency
• C. A Eurodollar deposit
• D. A Treasury STRIP

59. An investor buys shares of a fund that trades on an exchange throughout the day at prices that may differ from net asset value, and that does not continuously issue new shares to the public. What type of fund is this?

• A. A closed-end fund
• B. An open-end mutual fund
• C. A unit investment trust
• D. A variable annuity subaccount

60. A stock has a required return of 10 percent, just paid an annual dividend of 2 dollars, and dividends are expected to grow at 4 percent perpetually. Using the constant growth dividend discount model, what is the intrinsic value?

• A. 34.67 dollars
• B. 33.33 dollars
• C. 50.00 dollars
• D. 20.00 dollars

61. An investor is concerned that a bond issuer may redeem a high-coupon bond early if interest rates fall, forcing reinvestment at lower rates. What feature creates this exposure?

• A. A call provision
• B. A put provision
• C. A conversion feature
• D. A sinking fund prohibition

62. Which characteristic distinguishes preferred stock from common stock?

• A. A fixed dividend rate and priority over common in liquidation, generally without voting rights
• B. A guaranteed dividend that must be paid every year
• C. Priority over bondholders in liquidation
• D. Greater potential for capital appreciation than common

63. For a bond trading at a premium, what is the correct ranking of yields from highest to lowest?

• A. Current yield, nominal yield, yield to call, yield to maturity
• B. All four yields are equal for a premium bond
• C. Yield to call, yield to maturity, current yield, nominal yield
• D. Nominal yield, current yield, yield to maturity, yield to call

64. A municipal bond is backed by the revenue generated from a toll bridge rather than the taxing power of the issuer. What type of bond is it?

• A. A revenue bond
• B. A general obligation bond
• C. A double-barreled bond
• D. A Treasury note

65. An investor purchases a bond with a 5 percent coupon at a price of 90. What is the current yield?

• A. 5.56 percent
• B. 5.00 percent
• C. 4.50 percent
• D. 9.00 percent

66. A client compares two mutual funds with similar strategies and holding periods. Fund M charges a front-end sales charge deducted at purchase; Fund N charges no sales load. All else equal, how does Fund M's sales charge affect the client's initial investment?

• A. It reduces the dollar amount actually invested in the fund below the amount the client paid
• B. It increases the number of shares purchased for the same dollar outlay
• C. It has no effect on the amount invested, only on annual expenses
• D. It is refunded if the fund underperforms its benchmark

67. Two bonds have identical duration, but Bond X exhibits greater convexity than Bond Y. For a large change in interest rates, how does Bond X's price typically respond compared to Bond Y's?

• A. Bond X's price will respond identically to Bond Y's in both directions
• B. Bond X's price will fall more when rates fall
• C. Bond X's price will rise more when rates fall and fall less when rates rise, compared to Bond Y
• D. Bond X's price will be unaffected by large rate changes

68. A corporate bond issue includes a formal legal contract specifying the issuer's obligations, covenants, and the appointment of an independent party to protect bondholders' interests. What are this contract and appointed party called?

• A. The indenture and the trustee, respectively
• B. The prospectus and the underwriter
• C. The registration statement and the transfer agent
• D. The offering memorandum and the custodian

69. A conservative investor wants a pooled investment vehicle that seeks to maintain a stable share price, invests in short-term high-quality debt instruments, and offers same-day liquidity. Which investment BEST fits this description?

• A. A long-term bond fund
• B. A balanced fund
• C. A money market mutual fund
• D. A high-yield bond fund

70. An investor buys a put option on a stock, paying a premium. What is the investor's maximum possible loss and maximum possible gain on this position?

• A. Maximum loss is limited to the premium paid; maximum gain is substantial, realized if the stock falls significantly toward zero
• B. Maximum loss is unlimited; maximum gain is limited to the premium received
• C. Both maximum loss and maximum gain are limited to the premium paid
• D. Maximum loss is limited to the strike price; maximum gain is unlimited

71. A retiree wants predictable, guaranteed periodic payments from an annuity and is willing to accept the insurer's general account crediting rate rather than market-linked returns. Which annuity type is MOST appropriate?

• A. A variable annuity invested in equity subaccounts
• B. An indexed annuity linked to an equity benchmark with no guaranteed minimum
• C. A deferred variable annuity with no guaranteed income rider
• D. A fixed annuity, where the insurer bears investment risk and guarantees the payment amount

72. Unlike a traditional open-end mutual fund, an exchange-traded fund's shares outstanding change primarily through:

• A. Direct daily purchases and redemptions with retail investors at net asset value
• B. In-kind creation and redemption of large share blocks by authorized participants
• C. Board-approved share buybacks funded by fund cash reserves
• D. Periodic stock splits declared by the fund's transfer agent

73. An investor places an order to buy shares of an open-end mutual fund at 2:00 p.m., before the fund's daily pricing cutoff. At what price will the order be executed?

• A. The prior day's closing net asset value
• B. A price negotiated directly with the fund's portfolio manager
• C. The average of the day's high and low net asset values
• D. The next calculated net asset value, determined after the market closes that day

74. A pooled investment vehicle uses leverage and short selling, charges a performance fee, and is generally limited to accredited investors and qualified purchasers. Which characteristic MOST distinguishes this vehicle's liquidity from a registered open-end mutual fund?

• A. It offers daily redemption at net asset value like a mutual fund
• B. It is traded continuously on a national exchange
• C. It typically imposes lock-up periods and limited redemption windows
• D. It must redeem shares within one business day of request

75. A mutual fund's prospectus discloses an ongoing annual charge used to compensate for marketing, distribution, and shareholder servicing expenses, deducted from fund assets. What is this charge called?

• A. A contingent deferred sales charge
• B. A 12b-1 fee
• C. A redemption fee
• D. A management advisory fee

76. A client is concerned that a bond issuer might fail to make scheduled interest or principal payments. Which type of risk is the client describing?

• A. Purchasing-power risk
• B. Liquidity risk
• C. Credit (default) risk
• D. Reinvestment risk

77. Two mutual funds have identical average annual returns over five years, but Fund X has a much higher standard deviation of returns than Fund Y. Which statement BEST characterizes the difference?

• A. Fund X has experienced greater volatility around its average return
• B. Fund X is guaranteed to outperform Fund Y going forward
• C. Fund Y carries more systematic risk than Fund X
• D. Standard deviation measures only downside losses, so Fund X lost more money

78. A U.S. investor buys securities denominated in a foreign currency. Even if the securities perform well in local-currency terms, the investor's realized return in U.S. dollars can be reduced by:

• A. An adverse move in the exchange rate between the foreign currency and the dollar
• B. An increase in the domestic risk-free rate only
• C. The issuer paying a higher dividend
• D. The securities becoming more liquid

79. An investor buys shares in a small company whose stock trades infrequently with wide bid-ask spreads. When she tries to sell a large position quickly, she can only do so at a substantially lower price. This situation MOST directly illustrates:

• A. Inflation risk
• B. Liquidity risk
• C. Legislative risk
• D. Currency risk

80. An investor holds common stock rather than a bond of the same corporation. In the event the company is liquidated, how does the common stockholder's claim compare to that of the bondholder?

• A. The common stockholder has a residual claim paid only after creditors, including bondholders, are satisfied
• B. The common stockholder is guaranteed repayment of principal
• C. The common stockholder and bondholder are paid at the same time
• D. The common stockholder is paid before the bondholder

81. A retiree relies on a fixed nominal income from a long-term bond ladder. Over a prolonged period of rising consumer prices, what is the PRIMARY risk to this income stream?

• A. The bonds will default
• B. The purchasing power of the fixed payments will decline
• C. The bonds will become more liquid
• D. The issuer will call the bonds at a premium

82. Which characteristic BEST distinguishes systematic (market) risk from unsystematic (nonsystematic) risk?

• A. Systematic risk affects the market as a whole and cannot be diversified away, while unsystematic risk is specific to an issuer and can be reduced through diversification
• B. Both types of risk are fully eliminated by holding a single security
• C. Systematic risk can be eliminated through broad diversification, while unsystematic risk cannot
• D. Unsystematic risk applies only to government bonds

83. When comparing two investments, an analyst notes that Investment A has a higher expected return than Investment B but also a higher expected variability of outcomes. This relationship BEST illustrates which fundamental principle?

• A. Higher potential returns are generally associated with higher risk (the risk-return tradeoff)
• B. Risk and return are unrelated to one another
• C. Lower-risk investments always produce higher returns
• D. Variability of outcomes reduces expected return to zero

84. A company reports net income of 5 million dollars and has 2 million shares outstanding, trading at 40 dollars. What is the price-to-earnings ratio?

• A. 16
• B. 8
• C. 20
• D. 12.5

85. A portfolio returned 11 percent while its CAPM-predicted return was 9 percent. What does the 2 percent difference represent?

• A. Positive alpha, the return in excess of that explained by systematic risk
• B. Beta, the portfolio's sensitivity to market moves
• C. The Sharpe ratio
• D. Standard deviation of returns

86. Which of the following is generally classified as a leading economic indicator?

• A. The average duration of unemployment
• B. Industrial production
• C. Building permits for new private housing
• D. The prime rate charged by banks

87. A yield curve slopes downward, with short-term rates exceeding long-term rates. What is this shape called and what does it often signal?

• A. An inverted curve, historically associated with expectations of slowing growth
• B. A normal curve, associated with strong expansion
• C. A flat curve, indicating indifference to maturity
• D. A humped curve, indicating a liquidity shortage at the long end

88. An investor wants to know approximately how long it will take to double an investment earning 8 percent annually. Using the rule of 72, what is the answer?

• A. About 9 years
• B. About 15 years
• C. About 12 years
• D. About 6 years

89. The Federal Reserve wishes to tighten monetary policy. Which action is consistent with that objective?

• A. Reducing the reserve requirement
• B. Lowering the discount rate
• C. Selling government securities in the open market
• D. Purchasing government securities in the open market

90. An adviser compares two portfolios using the Sharpe ratio. What does this measure express?

• A. Excess return over the risk-free rate per unit of total risk, measured by standard deviation
• B. Excess return per unit of systematic risk, measured by beta
• C. Total return without adjustment for risk
• D. The correlation between the portfolio and its benchmark

91. Which financial ratio measures a company's ability to meet short-term obligations using only its most liquid assets, excluding inventory?

• A. The debt-to-equity ratio
• B. The quick ratio, or acid test
• C. Return on equity
• D. The current ratio

92. An economy has experienced two consecutive quarters of declining real GDP, rising unemployment and falling corporate profits. Which phase of the business cycle does this describe?

• A. Contraction
• B. Expansion
• C. Peak
• D. Trough

93. Which type of risk cannot be reduced through diversification across many securities?

• A. Systematic risk, also called market risk
• B. Regulatory risk affecting one industry
• C. Business risk specific to one company
• D. Financial risk from a single issuer's leverage

94. Two assets have a correlation coefficient of negative 1.0. What is the diversification implication?

• A. They move in exactly opposite directions, offering the greatest possible risk reduction
• B. They move identically, offering no risk reduction
• C. They are unrelated, offering moderate risk reduction
• D. Correlation has no bearing on portfolio risk

95. An economy experiences stagnant growth and high unemployment occurring simultaneously with rising prices. What is this condition called?

• A. Deflation
• B. Hyperinflation
• C. Disinflation
• D. Stagflation

96. The Federal Reserve wants to increase the money supply and lower short-term interest rates. Which open market operation is consistent with this goal?

• A. Raising the discount rate
• B. Raising the reserve requirement for member banks
• C. Selling Treasury securities to primary dealers
• D. Buying Treasury securities in the open market, injecting reserves into the banking system

97. A government increases infrastructure spending and cuts taxes to stimulate economic growth during a slowdown. This describes an example of which type of policy, as opposed to action taken by the central bank?

• A. Monetary policy
• B. Fiscal policy
• C. Regulatory policy
• D. Trade policy

98. An adviser is selecting a second asset to add to a portfolio for diversification purposes. Compared to an asset with a correlation coefficient of positive 1.0 to the existing portfolio, an asset with a correlation coefficient near 0 would:

• A. Provide greater diversification benefit, since its returns move largely independently of the existing portfolio
• B. Provide no diversification benefit, since any correlation below 1.0 offers identical benefit
• C. Increase overall portfolio risk more than an asset with correlation of positive 1.0
• D. Guarantee a negative return whenever the portfolio's other assets rise

99. An index measures households' optimism about current and future economic conditions, based on survey responses regarding employment prospects and spending plans. Economists commonly classify this index as:

• A. A leading economic indicator, since shifts in sentiment often precede changes in actual spending
• B. A lagging economic indicator, since it only reflects economic conditions after they occur
• C. A coincident economic indicator, moving exactly with current GDP
• D. An unrelated statistical measure with no forecasting value

100. The Federal Reserve raises the percentage of deposits that banks must hold in reserve rather than lend out. What is the PRIMARY effect of this action on the banking system's lending capacity?

• A. It directly sets the interest rate banks charge borrowers
• B. It reduces the amount of funds banks have available to lend, tightening credit conditions
• C. It increases the amount of funds banks have available to lend
• D. It has no effect on lending capacity, only on bank profitability