Mutual Fund A, B, C Shares, UITs, etc.

When you recommend mutual funds to investors, part of your suitability obligation is to help determine the proper share class. An investor with, say, $100,000 and a long time horizon should be purchasing A-shares. She will knock down the front-end sales charge with her quantity purchase, and her expenses going forward will be significantly lower than on B- and C-shares. B-shares are suitable for an investor with a long time horizon and a smaller amount to invest. This investor will avoid the front-end sales charge, and as long as she holds the shares 6 or 7 years, the back-end sales charge will go away, and then her shares will convert to A-shares with their lower operating expenses. She will pay higher operating expenses, but due to her small amount of $ to invest, she couldn't reach a breakpoint on A-shares, anyway. This is her best option. C-shares charge high operating expenses, and, unlike B-shares, these things do not convert to A-shares. So, they are generally for investors with a short time horizon. We don't want to keep hitting them with high annual expenses for very long, but if the investor will only hold the shares, say, three years, C-shares are ideal. No need to hit her up with a big front-end sales charge if she's only going to hold the fund a few years. As long as the investment is under, say, $500,000, C-shares will be suitable for a short-term investment. And that implies that a larger investment--even over the short-term--would be more suitable in A-shares, since the front-end load would be knocked down so low and then the investor would also enjoy the low operating expenses going forward. In other words, it's freaking complicated. And that's why many firms end up getting fined millions of dollars and returning millions of dollars to over-charged customers. They don't have adequate training and supervision in place. The rep's don't know enough about the various share classes, or maybe--just maybe--they prefer making the highest compensation possible, regardless of what's best for the customer. When you read the news release at the link below, please know that I am absolutely not bashing Wachovia here--heck, I'm a Wells Fargo shareholder (they own them now), and I also sell a lot of Pass the 65 and 66(c) books, DVD's etc. to Wachovia employees all across the country. Every firm out there could provide us with dozens of similar fines and mishaps--the securities industry is complicated. No one can stay on the right side of the regulatory line all the time. I don't see a need to explain the UIT angle, since the FINRA news release does such an excellent job of bringing up the testable points. Check out the news release at :
http://www.finra.org/Newsroom/NewsReleases/2009/P117836

Income Statement and Balance Sheet

The Series 65 and 66 will likely ask several questions requiring you to know the difference between a company's income statement and balance sheet. A company's income statement shows the results of operations over a financial quarter or over the fiscal year. It starts with revenue then deducts every cost and expense including taxes until we get to the "bottom line," known as "profit" or "net income after taxes." If you want to see the company's sales (revenue) and profits, look on the income statement.
If you want to see the company's financial health, look at the balance sheet. The balance sheet is a snapshot of the company's financial condition. Assets such as cash and securities, inventory, and equipment are listed on the "plus side," with liabilities such as deferred wages and accounts payable listed on the "minus side." The difference between a company's assets and liabilities is the net worth of the company, called "stockholders' equity" or "shareholders' equity."
Who reads income statements and balance sheets? Fundamental analysts. A fundamental analyst looks at the fundamentals of the company, including: revenue, earnings-per-share, book value, dividend payout, and profit margins. A fundamental analyst studies financial statements. He or she could invest in growth stocks, value stocks, a blend of each, whatever. But if he arrives at his stock picks through this school of thought, he is a fundamental analyst, and he is an active investor. A passive investor would not try to pick one company over another--he or she would use indexes almost exclusively.
Many students struggle with the difference between fundamental and technical analysis. We've already sketched fundamental analysis. Notice how it involves looking at a company's fundamentals. Technical analysis, on the other hand, studies the market data connected to the stock itself. A technical analyst doesn't care what the company makes or does, he just tracks the movement of the company's stock in terms of price, volume, and other market data. If he's talking about support and resistance, the 200-day moving average, or a head-and-shoulders pattern, he's a technical analyst. He's just tracking the stock price or movement of a particular index. A fundamental analyst, on the other hand, studies a particular company or industry sector in terms of sales, profits, growth trends, etc.

Unregistered, non-exempt securities

First, I want to say CONGRATULATIONS to one of our three current followers-of-the-blog. In case he's a humble guy I won't name him, but I hope he'll comment to this post to take credit for GETTING A 91% ON THE SERIES 66 exam. Maybe he has a few tips and/or warnings for those brave souls about to face the opponent at the testing center.

Wow. 91%. Way to go, (name withheld for now).

Second, I want to prove to you that what you're studying under the "Uniform Securities Act" and SRO regulations is directly related to the so-called "real world." I remember the first time I heard an instructor imply that the phrase "soliciting sales of unregistered, non-exempt securities" has "nothing to do with the real world."

Wrong.

Way wrong.

If you click on the link below you will see just how seriously you could mess up your career if you sold unregistered securities. I'll let you experience this one in the native tongue. If you have questions, as always, please post them.

http://www.finra.org/Newsroom/NewsReleases/2009/P117712

Statute of limitations

Keep emailing your questions. As you can see, students bring up issues that the whole community may be working on.

QUESTION:
Question ***** states that the investor has 6 years to bring suit. What happened to 2 years from discovery or 3 years from trade and 5 years for criminal statute of limitations?

RESPONSE:
Another good one, Helen. 5 years is for criminal prosecution. If I swindle investors here in Chicago, the IL Attorney General or Cook County State's Attorney has 5 years to bring a criminal case against me. If I'm a swindled investor, I can sue the sellers/promoters in civil court if I bring suit within 2 years of discovery/never more than 3 years from the event.

Then there is an SRO called NASD/FINRA. FINRA has an arbitration procedure (not civil court). A client has 6 years to file a claim before the more informal arbitration panel. There are no appeals in arbitration, unlike in civil court. Of course, FINRA is only an option if you're going after a registered person/firm. Civil court is there for all the crazy offerings of securities by individuals and businesses who are not registered. Jimmy's Juice Bar offers "promissory notes" to gullible investors--they're not a broker-dealer registered with anyone. The investors who lose money on the fraudulent offer of "securities" can try to recover what they paid, plus interest, in civil court. And, good luck to those poor saps, who will likely never see a dime.

An agent terminates from a broker-dealer

QUESTION:
I have been doing the tests; one of the questions is: An agent in the state is fired, who has to notify administrator? Help!!

RESPONSE:
This is actually easier than it seems.
The question usually goes like this: If an agent is terminated by a broker-dealer in the state and takes a position with another broker-dealer in the state, who must notify the Administrator? Answer: both broker-dealers and the agent. What this means is the broker-dealer from whom he is terminating files a U-5 (which the agent fills out, too), and the new firm fills out a U-4 (which the agent fills out, too.) BTW, you can look at these forms at http://www.nasaa.org/ under "industry and regulatory resources" then "uniform forms."

Here is what the Uniform Securities Act has to say about this topic:
Sec. 201. [REGISTRATION REQUIREMENT.] (a) It is unlawful for any person to transact business in this state as a broker-dealer or agent unless he is registered under this act.
(b) It is unlawful for any broker-dealer or issuer to employ an agent unless the agent is registered. The registration of an agent is not effective during any period when he is not associated with a particular broker-dealer registered under this act or a particular issuer. When an agent begins or terminates a connection with a broker-dealer or issuer, or begins or terminates those activities which make him an agent, the agent as well as the broker-dealer or issuer shall promptly notify the [Administrator].

Gift tax question

QUESTION: Taxation question (loophole or just plain bad news?): If Parents of client want to give money to their child, can they give it by paying off things like the child's house, car, etc? Or will it be subject to taxes?

RESPONSE: One the one hand, parents can give their children as much money as they want--but if they give more than the "annual gift tax exclusion," the excess is subject to gift taxes. For 2008, the maximum was $12,000; for 2009, it's $13,000. So, if the parents give each child $13,000 this year, there is nothing to file, and no gift taxes to pay. If they give them $100,000 each, the excess is subject to gift tax rates. Paying off a car loan would not qualify for an exception to gift tax rules, as far as I know--though I'm not a CPA or tax professional. The exceptions that the test might bring up would include paying someone's tuition or medical expenses--these don't count as gifts as long as the payment is made directly to the education or medical provider. So, to wrap up--if the "kid" owes $13,000 on the car, the parents can either pay the holder of the loan or give the "kid" $13,000. They don't have to worry about gift taxes based on the size of the gift. The purpose of the gift isn't relevant here. If the loan is more than $13,000, though, the excess above the annual gift tax exclusion is subject to gift taxes. Also, if husband and wife file separately on their income taxes, they can each give the kid $13,000. See http://www.irs.gov/ and search on "gift taxes," for more information on that. Just wondering, have the parents considered letting their kids pay their own damned bills? There are charities that try to cure cancer, help the homeless, feed the hungry, etc. Not really what you're asking, of course, and probably not what your clients would want to hear. It probably does explain why I don't work directly in the financial services industry--not sure that clients would want to hear the unvarnished truth and sarcasm never seems to work successfully as a sales tool.

If you pay someone a referral fee do they have to be registered?

QUESTION: If you pay someone a referral fee do they have to be registered? Can they be a client and also get paid a referral fee? I know this all has to be disclosed to clients but if you could help me on the rules.

RESPONSE: in nearly every state, if the investment adviser pays a referral fee to anyone, that individual or firm is required to register as a "solicitor" or an "investment adviser representative." On the exam, you'll probably get a question about a real estate professional or CPA who receives a referral fee in exchange for recommending that clients use the services of an investment adviser. If so, tell the test that this individual or firm should register as an investment adviser representative of that IA. In the real world, I believe there are five states that do not require solicitors to register--instead, they would hold the adviser responsible for the solicitor's activities. I believe Missouri is one of the five states with no registration requirement for solicitors. In that case, the adviser would simply need to be sure that the solicitor is not someone who has been disciplined by securities regulators, convicted of any felony or any securities-related misdemeanor in the past 10 years. The solicitor needs to deliver the adviser's ADV Part 2 (disclosure brochure) and also a copy of the solicitor's brochure that explains to the prospect the details of his relationship to the adviser. In most states the solicitor needs to be registered as a representative of the IA. In a handful of states, registration is not required.