Series 65 and Series 66 questions with TWO right answers?

Sometimes I hear tutoring clients state in frustration that "test questions often have a good answer and then a better answer." What is actually the case is that test questions have an answer that SORTA works and an answer that ACTUALLY works. Let's take a look at what you'll encounter at the exam center:
To determine how gross margins may have affected net margins, an investor using fundamental analysis techniques would examine the corporation's 
A) balance sheet 
B) income statement 
C) 8K 
D) 1041

DISCUSSION: We can rule out "1041," a tax form used by trusts and estates. We can rule out "balance sheet," too, as that is a static snapshot showing financial strength in terms of assets and liabilities. The results of operations over the quarter or the year are found on the income statement. Yes, but the income statement is also contained in an 8K! Therefore, there are 2 RIGHT ANSWERS!!!
Maybe not. Even if we cling to "8K" as an answer, what is our answer based on--the fact that we would open up the 8K for only one reason--to look at the income statement.
Upon further review, we see that the two answers are not equal. 8K kinda/sorta works, while income statement closes the deal, without question.
A good question will force you to think a while--which is okay, since you are entering a thinking person's profession. Good luck out there, people!

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Asset Allocation and Diversification for the Series 65 and Series 66 exams

A diversified portfolio of stocks would not contain all technology or pharmaceutical companies, for example. If there were a number of oil company stocks, they would be diversified between domestic and international companies, producers of oil and refiners of oil. They would not all be small cap or large cap. A bond portfolio would not be all triple-A-rated or all junk, but would instead be diversified throughout different maturities, credit quality, and issuers that don’t all come from the same industry. Asset allocation and diversification are somewhat related portfolio management techniques. Where they differ is that asset allocation puts set percentages of capital into various types of stocks, bonds, and cash to achieve strategic goals in regards to risk and reward. Within those allocations, we use diversification to balance the risk of one investment with the characteristics of another. So, 20% large-cap growth, 20% mid-cap growth, 30% small-cap growth, and 30% long-term bond is an asset allocation. Drill down into the “20% large-cap growth” category, and the various companies owned would come from different industries in order to maintain diversification.

Don't Make Assumptions

Some exam candidates want quick black-and-white answers. If they read something about "10 years" in terms of the Administrator's ability to deny/suspend/revoke a license, many want to memorize that number and apply it automatically. Unfortunately, it doesn't work that way--sometimes people are let into the industry in spite of recent felonies, and sometimes people with certain misdemeanors are kept out indefinitely. The idea is that if you apply for a license and have felony convictions or specific misdemeanor convictions, the state can use those facts to deny your application, unless they decide otherwise. In the textbooks I mention that LLCs are associated with "limited life," unlike corporations . Many exam candidates become uneasy at that statement. Wait--wait! My brother owns an LLC and it doesn't expire on any particular date! That's not quite what we're saying. In an LLC the operating agreement has a section called "Dissolution and Termination." In an LLC of which I am a member, this section states that the whole thing will be dissolved either on the date fixed for termination or by unanimous written agreement by the members. If the LLC were formed to produce a movie, we would dissolve it fairly quickly. On the other hand, if we were Five Guys Burgers and Fries, LLC, we would have no plans to shut down anytime soon, but their operating agreement surely lists certain events that would trigger dissolution of the LLC. Of course, as a private company, that is not information available to the general public, so I will not make the mistake of bothering them with an email. In any case, take in new information slowly and thoughtfully. Avoid jumping to conclusions. Did you just read that you can avoid a penalty, or did you think the text said you could take the money out tax-free? Big difference, right? The exam will exploit our tendency to rush through the questions. Your job is to slow everything down both as you study and as you take--and pass--your Series 65 or Series 66 exam.

SEC Issues Stop Order to Prevent Northern California Company From Issuing Stock

Just like the Administrator at the State level, the SEC sometimes issues stop orders when they don't like what they see--or don't see--in a registration statement for an offer of securities. Let's take a look: Washington D.C., April 23, 2014 — The Securities and Exchange Commission today issued a stop order to prevent a Northern California-based company from issuing stock after including false and misleading information in its amended registration statement for an initial public offering (IPO). Stop orders prevent the sale of privately held shares to the public under a registration statement that is materially misleading or deficient. If a stop order is issued, no new shares can enter the market under that registration statement until the company has corrected the deficiencies or misleading information. According to the SEC’s stop order against Comp Services Inc., its registration statement fails to disclose the identity of the control person and promoter behind the company, and falsely states that Comp Services earned revenue for providing computer services even though the company has never earned any revenue. The registration statement has been amended 10 times, most recently in December 2013. “Comp Services gave investors a false and misleading portrayal of the company as they were deciding whether or not to invest,” said Michele Wein Layne, director of the SEC’s Los Angeles Regional Office. “This stop order ensures that Comp Services stock cannot be sold in the public markets under this misleading registration statement.” Comp Services consented to the issuance of the stop order, which also triggers the bad actor disqualifications to prohibit Comp Services from engaging or participating in any unregistered offering conducted under Rule 506 of Regulation D for a five-year period. The SEC’s investigation, which is continuing, has been conducted by Roberto Tercero and Spencer Bendell in the Los Angeles office.

Insurance agents giving investment advice in the State of Tennessee

Insurance agents selling fixed and indexed annuities have been operating in a gray area in many states for many years now. The definition of "investment adviser" under state securities law, remember, looks something like this:“Investment adviser” means any person who, for compensation, engages in the business of advising others, either directly or through publications or writings, as to the value of securities or as to the advisability of investing in, purchasing, or selling securities, or who, for compensation and as a part of a regular business, issues or promulgates analyses or reports concerning securities." Right there, you can probably see how easy it would be for a state regulatory office to determine that an indexed annuity salesperson is in the business of advising others. . . as to the advisability of . . . selling securities. Therefore, he is not acting just as an insurance product salesman; he's acting as an unregistered investment adviser if he tells people to liquidate mutual funds and put the proceeds into his safe-money product. While many states wait for someone to step out of line and then handle it on a case-by-case basis, the State of Tennessee has come right out and stipulated what an insurance agent can do versus what a securities representative can do. As we see from their bulletin "Licensing and/or Registration Requirements and Permitted Activities," an "Insurance-Only Person" and a "Securities-Only Person" cannot engage in the same activities. The bulletin, at http://www.tn.gov/securities/documents/InfoPostWebREQUEST052213.pdf is something I encourage you to read regardless of your state. While you might be surprised to see what is prohibited for an "insurance-only person," you might also be surprised to see the prohibitions for those who are considered "securities-only persons." For example, a securities-only person may NOT "discuss the cost versus benefits of insurance in specific terms" and may NOT recommend specific allocations, in dollars or percentages, between insurance and securities investments. Probably more important, though, an insurance-only person may NOT discuss risks specific to the consumer's individual securities portfolio and may NOT recommend the liquidation of specific investments/securities to fund the purchase of an annuity/insurance product.

What does "per capita" mean in estate planning?

A quick follow-up to the post on the term "per stirpes" here, since the Series 65 exam and Series 66 exam could easily bring up the terms. If a will or revocable trust states that the beneficiaries inherit their shares "per stirpes," if a beneficiary has died by the time the deceased passes on, his or her share will go to his or her descendants. That way, if there are three beneficiaries, the estate will be divided into thirds, period. On the other hand, if the beneficiaries inherit their share of the estate "per capita," a "head count" is taken of all the living beneficiaries at the time of death. If there are three beneficiaries named in the will or trust but one has already died, then the assets are divided among just the remaining two.

Online Classes for Series 65 and Series 66 Exams

No matter which materials you have, I recommend that you sign up now for our live online classes for the Series 65 and Series 66 exams. We present the exam material in digestible bites of information that you can review on your own time at your own pace by watching the recording. No instructor-at-the-whiteboard or talking heads. This is full-color animation, photos, and voiceover, making the material understandable and often interesting.
Seriously. Best of all, you can ask questions during the session!
Use the link at the end of this post to get on board and put the Series 65 or Series 66 exam behind you. Sign Up Now!

What is Per Stirpes, Please?

The Series 65 and Series 66 exams ask a handful of questions about estates and trusts, and you could end up seeing the phrase per stirpes on a test question. In fact, you'll likely bump into it in your financial planning activities, so it is worth knowing even if it doesn't show up. As I just pulled from a Transfer on Death Beneficiary Agreement for a brokerage account, " the term 'per stirpes' shall mean the following:
if any primary or contingent Beneficiary does not survive the account owner, but leaves surviving descendants, any share otherwise payable to such Beneficiary shall instead be paid to such Beneficiary's surviving descendants."
And, there you have it. If a will, a trust, or a transfer on death account name a beneficiary, the term "per stirpes" means that if that beneficiary is to be paid but has passed away, his or her share passes to his or her own beneficiaries. Pass the Series 66 exam

Capital Gains and Capital Losses on Real Estate Sales

The Series 65 and Series 66 exams might ask a question or two about the tax implications of selling real estate, so let's look at some key issues here. First, if you sell your primary residence at a loss, you get no tax benefit whatsoever. Therefore, if your house is so underwater at this point that you will never sell it for a gain, you might consider turning it into a rental property and finding other digs. This way, you can take depreciation on the property, which will cancel out some or all of the rent you receive for tax purposes. And, when you sell at a loss, you can use that to offset taxable income. I'm not saying that would be cause for a case of Dom Perignon, but it might turn a bad situation into something a little more beneficial.
On the other hand, if you have a house that will sell for a capital gain, you might be able to avoid paying any tax on it at all. But, you have to be able to go back 5 years from the date of sale and show that you both owned the house for any 2 years during that period and used the house for any 2 years during that period. These 2-year periods do not have to be continuous and they do not have to happen at the same time. For example, I'm sitting on a house with some real equity at the moment. While I have used the house for two years at this point, starting as a renter, I have only owned it since last November 1st. Therefore, to turn any capital gain into a tax-free gain, I need to own the place for another 21 months. That means I can either live here for 21 months, or rent the place out for some or all of that time.
Either way, if I sell a year from this coming November and realize, say, a $75,000 capital gain it will all be tax-free. If I didn't establish the two-year ownership period going forward and sold for a $75,000 capital gain, on the other hand, the IRS would tax it at either 15% or 20%, meaning I would keep only $63,750 if taxed at 15% or just $60,000 if taxed at 20%.
There are ways around having to both own and use a residence for 2 of the previous 5 years and still get the tax-free capital gain, but I don't qualify for any of them. If interested, check out www.irs.gov "selling your house". pass your series 65 NOW!

Shark Tank and The Profit

To understand different investment approaches, one could watch two "reality TV" shows, both of which I caught last night: Shark Tank, and The Profit. In the Shark Tank, venture capitalists listen to start-up companies make pitches for capital in exchange for a percentage of equity in the business. Usually, the venture capitalists--the "sharks"--invest somewhere between $50,000 and $500,000 for a minority interest in the company. They are only interested in businesses that are already doing well, where the entrepreneur is kicking butt and seems able to adapt and solve problems without melting down. The companies have an interesting brand that either solves a problem or fills a niche, and their sales are growing. The best ways to turn off the spigot of capital from the sharks is to do any of the following individually or in any combination: fudge on your numbers, report either small or shrinking sales, reveal that after 10 years of hard struggle your business still makes no profit. The "sharks" are venture capitalists who invest in businesses long before any thought of an IPO to public investors, so whatever "growth investors" in public equities are looking for, so are the sharks--only more so. They are looking for a great idea, a great founder, and a business model that can easily be duplicated and scaled with a little bit of help from their rather large wallets. If they have to pay a little premium to get in, so be it. What's a few thousand bucks when we're clearly about to make millions here?
On the other hand, in The Profit, we see an investor named Marcus Lemonis who wants to take an equity stake in businesses that used to be great or could be great if only someone could come in and do some key fix-ups. See, growth investors like the sharks are out as soon as they hear even one problem, while turnaround specialists are investors interested only in companies with problems.
If Marcus, the turnaround specialist, sees, say, a pizza restaurant doing $2 million in sales yet still managing to lose $400,000 a year, he's probably interested already. When he takes a closer look, maybe he finds a pretty decent staff of waitresses and pizza chefs, but sees immediately that the delivery personnel and the store manager are weak. There is no advertising, the restaurant looks tired and dated, and no one can even see the sign from the highway that passes by the place. While the sharks don't have time to fix all these problems, the turnaround specialist now sees his opportunity. As he loves to remind the viewer, he only focuses on the three P's--product, process, and people. The product must be great to do $2 million in revenue, so that's probably not the issue. As far as the process, Marcus probably quickly invests in new pizza ovens that crank out more pies in less time, and then either re-trains the delivery drivers, equips them with GPS, or both. The first two p's (product and process) are easy--he then has to deal with the scary part, the people.
He's only in charge for one week, so he has to either turn a currently lousy employee into an asset or replace him quickly. Many currently lousy managers are just being human--they don't communicate well; they don't handle constructive criticism; they like to fudge the numbers and then get defensive about it, etc.. Unlike a therapist, who would use a gradual soft-sell approach, Marcus confronts the current problem  head-on, usually with as much rudeness as one can get by with without getting punched. After the tears (if female) or threats of violence (if male) the entrepreneur usually comes to recognize that he or she is actually part of the problem and is going to have to listen to the rich guy driving the flashy red sports car if they want to hang onto the business without dragging down the employees and the mom who foolishly took out the second mortgage to keep the thing afloat.
So, Marcus is taking on much more risk than what we call a "value investor," like Warren Buffett. Warren Buffett would not invest money with any of the shifty, defensive people that Marcus routinely works with. For Mr. Buffett, the business is already doing well and is being run by people he trusts implicitly. How much hands-on management does he then do in the acquired companies?
None. If he had to go in and shape things up, he wouldn't be investing in the first place. Warren Buffett doesn't refer to himself as a "value investor," actually--he just likes to buy great companies at currently marked-down prices. That tends to rule out growth stocks, as they simply can't be purchased at an attractive price. But it doesn't mean he sits there with a stock screener pouncing when price-to-book or price-to-cash-flow ratios drop to a certain pre-set multiple.
In any case, every investor mentioned above is doing about $3 billion better than I am, so let me get back to my little Simple IRA and see what I can do to boost my total return for the year. Sign Up for Online Classes That Make Sense

What is CAPM?

CAPM or the Capital Asset Pricing Model is something I would expect you to define rather than calculate on your Series 65 or Series 66 exam. But, the exam will throw out a few tough calculations, so let's figure out the expected return of KKD common stock based on CAPM, just in case. CAPM uses just three numbers: risk-free rate, beta, expected market return. Why does it do that? Because the idea behind CAPM is that investors expect to be compensated not just for the risk they're taking but for the time value of money, too. Therefore, the expected return is just a function of assuming that the investment will receive the riskless rate of return plus a "risk premium." That risk premium is basically just a function of the expected market return and the beta of the stock. So, KKD has a beta of 2. The expected market return is 9%. The rate on 3-month T-bills is 1%. Let's plug in those numbers:

1% PLUS 2-TIMES-9-MINUS-2-TIMES-1%.

Usually we see that in parentheses, but the strange "formula" above shows the order of the operations. Take 1% and hold that thought. Take two times nine (18) minus two times one (2) to get 16. Add 1 plus 16, and Krispy Kreme (KKD) common stock has an expected return of 17%. Pass your exam!