series 7 notes

 
series seven notes     # very very incomplete 
                       # my series 57 notes are complete http://kenics.net/financial/series_55_notes/ 
 
equity 
 - standardized than fixed income 
 - valuation complex 
fixed income 
 - more customized asset class (less liquidity for each product) 
 - valuation can be more mathematically derived 
FX 
 - harder to price. many factors (world economy, etc) 
 
[deriv - products based on underlying products like equity, fixed income, index, commodity, ETF/ADR, etc] 
 
ETF/ADR 
 - ETF pricing can be done with NAV calc 
 - ADR is usually the issuing company (like JPM) owns real underlying assets in foreign stock. 
forward/future 
- they are the same thing, while forward contract detail is individually negotiated contract by contract, future contract is structured/defined by authoritative entity (like stock exch) 
options 
 - harder to price, though some established model exists (black sholes) 
swaps : 
 - swap various kinds of cash flows 
credit deriv 
 - CDS, etc 
 
 
 
############################### 
#####   Debt securities   ##### 
############################### 
 
an investor purchases 5M ABC J&J 15 8s of '21 
==> 5M means five $1000 bonds. 
 
term   maturity: 
serial maturity: 
ballon maturity: 
 
Moodys       S&P, Fitch 
----------------------- bank/investment grade 
Aaa          AAA 
Aa[1-3]      AA(+|-) 
A[1-3]       A(+|-) 
Baa[1-3]     BBB(+|-) 
----------------------- speculative/junk grade 
Ba[1-3]      BB(+|-) 
B[1-3]       B(+|-) 
Caa[1-3]     CCC(+|-) 
Ca           CC 
C            C 
 
 
NY 
CY 
YTM 
YTC 
 
yield curve: 
normal (positive)   yield curve: longer maturity bond has higher yield. -> economic expansion. interest rates will rise. 
inverted (negative) yield curve: overheating economy. rates will fall. 
flat yield curve: when economy is on peak. no change in interest rate is expected. 
 
if gov and corporate bonds interest rates widen, -> recession is expected. 
                                          narrow,-> expansion is expected. 
 
 
conversion parity: 
 
lien : entitlement 
 
# the order of secure-ness 
----- secured bonds (collateral) 
morgage bonds 
-- open end indenture 
-- closed end indenture 
-- prior lien bonds 
collateral trust bond (issuer's collateral is other companies securities) 
equipment trust certificate 
----- below is unsecure 
debenture bond 
subordinated debenture 
income bond: always trade flat(i.e. no accrued interested) only pays interest when money is available. 
guaranteed bond: backed by other company other than issuer. like parent company. makes it extra safe. 
income bonds: aka adjustment bonds. usually issued by a company reorganizing or bankruptcy. pays interest only when money is available. missed interest does not accumulate. 
 
zero coupon bond: no reinvestment risk. 
 
most gov securities (including T-bill/note/bond) are in book-entry form: i.e. no physical certificates exist. 
Treasury securities settle T+1 
T-Bills: issued at discount from par. no interest payment. (maturity 4,13,26 weeks: 6 months top). quoted at "yield" basis. 
T-Notes: issued/quoted/traded as a percentage of par in 1/32s (maturity  2-10 years) 
T-Bonds: issued/quoted/traded as a percentage of par in 1/32s (maturity 10-30 years) 
Tresury Receipt: zero coupon bond created by "brokerage" firms based on T-Notes/Bonds. not backed by US gov. quoated in yield. 
STRIPs: zero coupon bond backed by US gov. separate inerest and principal. quoted in yield. 
TIPS: tresury inflation protection issues. fixed interest rate, but dynamic principal. 
purchasing power risk : inflation risk. CPI. 
 
 
competitive bids: 
non-competitive bids: 
Dutch auction: competitive and non-competitive bids. accept from the highest bids till filled, then all bidders pay at the lowest accepted bid price/yield. 
 
call premium = diff btwn call price and par 
 
GNMA (ginnie mae) - taxable at all 3 levels. backed by US gov. 
 
 
dated date: when interest accrual begins. prev payment day is day 1. 
corporate muni: 30/360 calendar. T+3 
US tresury    : real calender.   T+1 
 
## 
##  CMO: 
## 
-- PO: principal only 
-- IO: interest only 
-- PAC: protection against both prepayment risk and extension risk 
-- TAC: protection against only prepayment risk 
-- Zero-tranche: lowest tranche. most volatile. 
-- inverse floater CMO: another bad tranche. sub prime. volatile. high interest. 
 
===> CMO is complex driv. thus performance characteristics CANNOT be compared to other securities. 
===> trade OTC, at $1000 unit. 
===> corporate bonds. 3-level tax. 
 
tranche == slice 
 
## 
## Non-marketable US gov. securities:   non-mkt-able means No secondary mkt. 
## 
series EE bond: fixed interst rate for 30yrs. tax only at federal. 
series I  bond: protect against inflation (purchasing power) risk like TIPS 
 
 
## 
##  money market: short-term (less than one year) liquid 
## 
 
money mkt <=> capital mkt 
 
- repurchange agreement (repo) 
- reverse repo 
- bankers acceptance (BA). used in international trade. up to 270 days. trade goods as collateral. quoted in yield. 
- commercial paper (promissory notes). 
--- direct paper (directly issued corporate short term notes, without dealer). high quality ones are called prime paper. 
--- dealer paper 
--- tax exempt paper : muni 
- certificate of deposit (CD) : banks issue CDs (min unit $100,000) 
--- non negotiable CD # Not traded in secondary mkt, not money mkt security 
--- negotiable CD. another un-secured commercial paper. 
--- brokered CDs. Broker can alter CD terms. and thus FDIC insuarance will NOT apply here. 
--- step-up/down CDs. interest rate adjust up or down. 
 
## 
##  interest rates 
## 
- federal funds rate :  LIBOR US-version. rate which large US banks charge each other for over night loans ($1 mil or more) 
- prime rate : rate US banks charge to high-credit corporations. (for unsecured loans) 
- discount rate : rate FRB charges to member banks 
- broker loan rate (== call money rate == call loan rate) : rate US banks charge broker/dealers who want to lend to margin account customers. 
 
            High -------------------------------------- Low 
prime rate  >  call loan rate  >  discount rate  >  fed funds rate(most volatile)  >  non-neg CD rate 
 
 
Euro-dollars: US dollars deposited in outside-US banks. 
Euro-yen    : yen deposited in banks outisde japan. 
 
"euro" means outside. 
 
euro bond: bond issued outside the country of issuer. 
euro-dollar bond: euro-bond issued in US currency. protects against currency risk. note:  US gov. does NOT issue euro bond. 
 
interbank market: for banks to do FX, settle trades, etc. "unregulated" "decentralized" mkt 
 
sovereign debt: gov debt issued outside origin country in a "foreign" currency. 
 
TRACE: trade reporting and compliance engine 
- FINRA approved reporting system for OTC traded "corporate" bonds. 
- both sides must report 
- within 15 min of trade 
 

#  other debt securities 

-- ELN : equity linked notes. return based on equity performance 
-- ILN : index linkednotes. return based on index performance. 
-- PPN : principal protected notes. if held to maturity, at least investors initial investment is returned. un-secured. FINRA cautions it is not as safe as it sounds, and not suitable for moderate/conservative investors. because unsecured means it depends on credits and faith of issuer. 
 
 
################################### 
#####   Municipal securities   #### 
################################### 
 
muni mkt is illiquid in general. cos people buy muni for tax exemption, not for high freq trading. hold one hour with 5 min recall. 
pension funds never invest in muni, because they get tax exemption already. 
 
state     ; main source is income tax. NO ad valorem tax (on assessed value, not market value) 
city,town ; can impose property tax 
 
property tax uses the unit "mill"  one mil is $1 per 1000     # 10 bips 
 
new issues of muni: ONLY thru book-entry form or fully-registered-form. (no principal only form, no bearer form) 
 
debt limit of municipality: only for GO bonds, this is the limit for municipality to be able to have "outstanding" 
 
OS: official statement. mandatory. (like prospectus) customer must receive it on or before settlement date. 
legal opinion: tex-exempt status, and legality (not cover economic feasibility, marketability) 
 
industrial development bond (IDB) is backed by faith/credit of corporations (not municipality). thus private purpose bond = subject to AMT (alternative manimum tax) rule. 
 
condemnation(seizure of property by publick authority) is considered catastrophe and applies only to revenue bond. 
 
PHA (public housing authority) : guaranteed by US gov. AAA 
NHA (new housing authority) is rated AAA because US gov guarantess some contribution to secure the bonds. 
 
special assessment bond: a revenue bond. for only ppl(property owner) who benefit from the project(improvement). 
 
Short term notes (for short term financing. usually less than 12 months, in theory can be 3 to 36 months) 
- TANs (tax anticipation notes) - to finance to even out cash flow btwn tax collection periods. 
- RANs (revenue anticipation notes) - similar. 
- BANS (bond anticipation notes) - similar. 
variable rate demand obligation (VRDO): aka reset bonds. price remains stable around par. 
Auction Rate security (ARS): non-profit long-term variable rate bond, tied to short-term interest rate. reset rate aka clearing rate, determined via Dutch auction method. 
 
coverage ratio: for revenue bond, this is how many times the annual revenue covers debt services. if revenue 12mil, debt service (both interest and princial payment) is 6 mil. then 12/6 = 2.  above 2 is good. 
 
Bond Buyer index. 
revdex - weekly. 25 rev bonds with 30yr maturity. 
 
special tax bond is considered NOT self-supporting bond. and can be not-directly related to the projects. 
 
foreclosure : take over morgage collateral property as a result of not paying the debt. 
 
## 
## syndicate 
## 
 
NIC : net interest cost 
TIC : true interest cost (adjusted for time value) 
 
spread         = mgmt fee + total takedown 
total takedown = concession + additional takedown 
reallowance    = approx half concession # for interested firms to buy muni bonds at discount aka reallowance 
 
writing the sacel: process of determining the reoffer price 
 
syndicate: 
- western: only responsible for its assigned share (divided liability) 
- eastern: share the remaining bonds proportionally 
===> via the agreement among underwriters 
 
a good faith deposite: 1-2 % of par, returned by issuer to syndicate mgr if bid unsuccessful. for winning syndicate, issuer does not return. 
 
syndicate allocation priority: 
- presale order   (takedown split for all) 
- group net order (takedown split for all) 
- designated order 
- member order 
 
total debt     = self_supporting debt(=revenue bond) + sinking fund + net direct debt 
net total debt = net direct debt + overlapping debth 
 
net   revenue pledge: expense first, then debt service (both by issuer) 
gross revenue pledge: debt service first by issuer, then expenses(operation & maintenance) by user 
 
broker's broker protect the customer identity. only deals in secondary mkt. 
 
A Tax levy, under United States Federal law, is an administrative action by the Internal Revenue Service (IRS) under statutory authority, without going to court, to seize property to satisfy a tax liability. 
 
## 
##  MSRB 
## 
 
MSRB regulates underwriters, BD, investors, but NOT issuers. 
gift : up to $100 per person in one year. 
 
 
 
###################################### 
####          Options            ##### 
###################################### 
 
aka wasting asset (value depreciates over time) 
 
type  : put or call 
class : for each stock (e.g. IBM) there 2 clases: put or call 
series: within a class, a series is a unique combination of "strike price" and "exp date" 
style : americal     or  european 
        (most equity)    (some FX options) 
 
a contract    : 100 shares. (in equity option) 
premium quote : per share basis 
- NOTE: dont forget to multiply by 100 to know the money amount for a contract. 
 
exp: 3rd Fri of exp month. usually 9-months from issue. 
LEAPS: long term equity anticipation, up tp 39 months.(exp can be customized at the beginning) 
 
equity options trading end at 16:00 EST on last trading day. 
 

#   attitude 

 long call : bullish 
 short call: bearish (or neutral) 
 long put  : bearish 
 short put : bullish (or neutral) 
 
 

# long(buy) call 

- speculation 
- deferring a decision 
- deversification 
- hedge against short stock position   # good 
- max gain (unlimited) 
- max loss (premium) 
 

# write(sell) call 

- speculation 
- lock in sale price (plus premium) 
- hedge against long stock position # kind of 
- max gain (premium) 
- max loss (unlimited) 
 
# long(buy) put 
- speculation 
- deferring a decision 
- hedge against long stock position   # good 
- max gain (strike price - premium) 
- max loss (premium) 
 
# write(sell) put 
- speculation 
- lock in buy price (reduced by premium) 
- hedge against short stock position   # kind of 
- max gain (premium) 
- max loss (strike price - premium) 
 

#  hedging 

 
to hedge long  stock position, long put (or to a limited degree) wrote call 
to hedge short stock position, long call(or to a limited degree) short put 
 
===> popular exam topic. 
===> they give you example combinations, and you calc max gain, max loss, breakeven point. 
 
 
 
 
                      CALL                               PUT 
-------------------------------------------------------------------------------------- 
in the money    : mkt price > strike price               mkt price < strike price 
at the money    : mkt price = strike price               same 
out of the money: mkt price < strike price               mkt price > strike price 
break even      : mkt price = strike price + premium     mkt price = strike price - premium 
intrinsic value : abs(mkt price - strike price)          abs(strike price - mkt price)        # dont forgt * 100 
time value      : premium - intrinsic value              same 
parity          : premium = intrinsic value              same 
 
 
====> be careful when calculating intrinsic value, etc, count the number of contracts, and multiply by 100 
====> be careful not to mistake "call" vs "put" 
 
 
 
factors affecting premium 
-- volatility (the more volatility the higher premium). most influential factor. 
-- amount of intrinsic value (i.e. mkt value of underlying stock price) 
-- time remaining until exp (the more time the more premium) 
-- interest rate 
 
e.g. 
 
given an option contract with strike price X and premium Y, and mkt value Z, and as time passes by, if Z remains, then Y should theoretically go down. due to time till exp shortens. 
 

# closing the position 

- expire 
- exercise  # happends when "in the money" not necessarily mean profit.  settle T+3 
- sell/buy options contract you bought/sold. (aka "closing transaction") # depending on premium, you make profit. 
 
NOTE: purchase & sale of options settle T+1 (all options, both equity and others) 
     i.e.  T+1 for trading, T+3 for exercise 

# cashless collar : limit downside risk by limiting upside risk. 

e.g. 
long 100 shares of ABC at 50 
long a 45 put at 3 
write a 55 call at 3 
===> net cost is zero. 
===> cannot lose or make more than $500 
 
 
uncovered = naked 

# ratio call writing : writing more calls than the long stock position covers. 

 
 
spread      : you both long and short the same class. e.g. call spread, or put spread 
straddle    : you long(or short) both put & call of the same series (= same strike price & exp) e.g. long straddle, or short straddle. 
combination : similar to straddle. a call and a put with diff strike prices and/or exp. (cheaper to establish than long straddles if both options are out of the money). there can be a long combination and a short combination. 
 
===> premium can be diff for each series. 
 

#  spread 

 
call spread: 
put spread : 
 
vertical(price) spread          : strike price diff   # most common. 
horizontal(time/calender) spread: exp diffZ 
diagonal spread                 : both strike price and exp diff 
 
debit spread : premium of long is bigger than premium of short. (you lose money in net cost) 
credit spread: premium of long is less than premium of short. (you gain money in net cost as you open the spread position) 
 
===> you get any of the above combinations. 
 
e.g.  debit call spread : bullish. 
                        : you want premium-diff to widen, then you exercise to profit 
      credit call spread: bearish 
                        : you want premium-diff to narrow, then they expire, you profit 
      debit put spread  : bearish 
                        : you want premium-diff to widen, then you exercise to profit 
      credit put spread : bullish 
                        : you want premium-diff to narrow, then they expire, you profit 
 
===> mkt attitude is intuitive. 
===> be ready to calc max gain, max loss, breakeven point. # practice problems. 
 
NOTE with call option, lower strike price means higher premium 
     with put  option, higher strike price means higher premium 
 
## 
##  straddle 
## 
 
long straddle : you expect volatility 
short straddle: you expect little volatility 
 
==> premium of call and put for the same series can be different. 
==> again, expect questions on (1) max gain, (2) max loss, (3) breakeven point 
 
            long straddle                        short straddle 
---------------------------------------------------------------- 
max gain :  unlimited                            total premiums 
max loss :  total premiums                       unlimited 
breakeven:  strike + total premiums(call side)   same 
            strike - total premiums(put side)    same 
 
NOTE: combination is similar. 
 
 
## 
##  index option 
## 
 
broad based index: SP100 (OEX), SP500(), major mkt index(XMI) 
narrow based index: industry specific indices 
VIX: fear index 
 
- multiplier of $100 
- settle in cash (instead of underlying security) 
- exp 3rd Fri of exp month 
- T+1 settlement for both exercise and trading 
 
- broad based index puts can be used as hedge against systemic risk for a portfolio. (portfolio insurance) 
  or index calls can be used to generate income. (speculative) 
 
Beta: volatility compared to market in general. 
      portfolio with 1.2 beta means, when the mkt moves up/down 10%, the portfolio may move 12% up/down. 
 
 
## 
##  interest rate options (yields of T-bills/notes/bonds) 
## 
 
- european style. 
- strike price 35 means yield 3.5 %  (10 point = 1%, 1 point = $100) 
 
 
## 
##  foreign currency (FX) options 
## 
 
- european style. 
- exporters use to hedge against their own currency appreciation. 
- quote in cents (one point is 0.01 cents, except for JPY which is 0.0001) 
- one point = $100 
- listed FX options at NASDAQ OMX 
- exp: 3rd Fri of exp month 
- settle T+1 for both trading & exercise 
 
e.g. 
Toyota sells cars to US retailers. If Toyota fears Yen might appreciate, then buy yen puts to lock in purchase price. 
but there is not options on US dollar, so Toyota just buys calls on yen. 
importers buy calls to hedge. 
 
 
## 
##  option mkts 
## 
 
listed options : CBOE, NASDAQ, etc 
OTC            : terms negotiated individually 
 
- if a security is halted, then its options will halt too. 
- exp 3rd Fri of month actually means the following Saturday. so 3rd Fri of month is the "last trading day' 
(NOTE: in Feb. 2015, this actually moved to Fri evening!!) 
- exercise is automated for in-the-money option AT exp. (unless you instruct otherwise to OCC) 
 
position limits: contract size limit on either side (1) buy calls &  sell puts. (2) buy puts & sell calls. 
exercise limits: similar. (within 5 biz day window) 
===> imposed by OCC, applies to individual accounts, rep acting in concert. 
===> strike price & exp dont matter. only total size on either side. 
 
"act in concert" : acting together with knowledge on each others activity, or having one person control multiple accounts. 
 
DPM (designated primary market maker): just like equity. CBOE has DPM. 
 
OCC: standardize the mkt, issue options, and guarantee exercise. 
     assigns member firms to customers exercise on "random" basis. 
     B/D can then choose customers on random or FIFO basis. 
 
OCC options disclosure document: doc that explains risk of options trading. Must be sent to customer at/before account approval. 
options agreement : customer must sign it within 15 days of account approval. 
RoP: registered options principal(supervisor) who can approve accounts. 
 
customer requests -> rep reviews, sends OCC disclosure doc -> account approved by RoP -> customer signs agreement doc(within 15 days of accnt approval) 
 
===> note customer can start trading after account approval, even BEFORE he signs agreement doc. (so max 15 days) 
     if customer does not sign agreement doc, after 15 days, he can only close. 
     also, any options literature must be accompanied/proceeded by OCC disclosure doc 
 

# stock split, stock dividend for equity options adjustment. 

===> intuitive. 
 
e.g.  2:1 split 
1 ABC 50 call 
2 ABC 25 call 
 
e.g.  3:2 split 
1 ABC 50 call 
1 ABC 33.2 call    # instead of making 1.5 contract, we say 1 contract = 150 shares 
 
e.g. 5% stock dividend  # just like odd split 
1 ABC 50 call 
1 ABC 50/1.05 call      # 1 contract = 105 shares 
 
 
- for every options trade, the rep must indicate (1) open or close (2) covered or uncovered 
 

#  open interest: total number of outstanding contracts 

 
put/call ratio:   indicates bear/bull ness of mkt sentiment. 
 
options mkt manipulation: capping, supporting, pegging, front running. 
 
 

#  tax on options 

 
short term capital gain or loss. 
NOTE: for LEAPS, sellers still report short term, but buyers must report long-term. (if contract is held for more than 12 months) 
 
IRS does not allow tricks to get long-term tax. i.e. if you own a stock for less than 12 months, and long puts, then the gain will be considered short term even after you keep that stock for over 12 months. 
 
married put:  if you buy a stock, and buy a put option on the same day as hedge. 
              premium is included in the stock cost basis, thus even if the put expires, no capital loss on the put is recognized. 
 
 
 
 
 
 
############################### 
#####   customer account   #### 
############################### 
 
cold call: 8am - 9pm in customer time zone. (do not call list) 
 
new account form: (FINRA, MSRB rules)    #  minor & legally incompetent (and OFAC SDN) cannot open 
- name 
- address 
- occupation 
- net worth, asset 
- investment objectives 
- social security 
- corporate insider(affiliate) status: director, officer, 10% shareholder of publicly listed companies. 
- employment status at other broker/dealer (customer must notify both, executing firm must notify employer, send copy of trade reports, statements, etc. all in writing, upon request. MSRB requires confirmation sent to employer, and others upon request..) 
- etc 
 
=====> must be signed by a principal (NOT customer, NOT rep) 
=====> if customer does not disclose all info (especially, asset, investment objectives, etc) then rep can only do "unsolicited" trades. 
=====> account approval by a principal ONLY promptly AFTER the first trade. 
 
USA Patriot Act of 2001: 
- verify CIP (customer identification program) 
--- OFAC, SDN 
--- ONLY passport or driver license, NOT SSN, NOT birth certificate 
 
updating accounts 
- must finish within 30 days of opening. (copy sent to customer) 
- correction must finish within 30 days of notice 
- update evert 36 months (3 years) 
 
Regulation S-P: privacy protection guideleines by SEC (email encryption, notification, disclosure, etc) 
 
 
trading authorization (aka "power of attorney") 
-- discretionary (see below) 
-- custodial (adult for minor) 
-- fiduciary (third party, maybe to let pro do it, or let family cover for legally incompetent person) 
NOTE: only a court can decalar a person legally incompetent. 
------------------------------------------------------- 
 full power of attorney    : enter buy/sell order, plus withdraw funds 
 limited power of attorney : enter buy/sell order only 
------------------------------------------------------- 
NOTE: "durable" power of attorney will survive declaration of mental incompetence. 
 
 
payment and delivery 
-- transfer and ship (registered and held by customer) 
-- transfer and hold/safekeepkiing (registered to customer, but broker/dealer holds them) 
-- hold in street name (registered and held by broker/dealer. BD is nominal/named owner. customer is beneficiary owner.) 
-- delivery VS payment (aka DVP, normally done by institutional accounts. cash on delivery (COD) settlement.) 
-- DRS (direct registration system. registered and held at issuer book entry form, done by DTC, depository trust company, which is like a transfer agent) 
 
mailing insturction: 
-- customer can instruct. (e.g. to mail to power of attorney person, etc) 
-- account statement must be sent at least every 3 months (or 1 month for active account) 
-- for options & penny stock accounts, must be 1 month regardless. 
-- BD can hold if customer travels. with a written instruction (up to 2 months on domestic trip, or 3 months for international trip) 
-- emails (FINRA rules). encryption, verification, electronic copy in static form. (non-editable form) 
 
 
account types: 
-- (special) cash   # pays in full. e.g.  individual/coporate retirement account, custodian (UGMA/UTMA) 
-- margin           # borrows money 
-- corporate        # 
-- fee-based        # as opposed to commission-baed 
-- managed/wrap-fee # investment advisotry account. rep does all sorts of things, including portfolio mgmt, asset allocation, etc for fee. 
-- prime brokerage  # one central "primer broker" deals in all sorts of services, with executing brokers who do trading. 
                     (suitable for sophisticated investor like hedge funds who want all sorts of service and facilitation) 
-- numbered account # for celebrities. no alias, nickname, but number or a symbol is ok for anonimity. (needs a written ownership statement) 
 
multiple accounts: possible, but a customer must they gurantee each other. (thus only one account really in a way) 
                                (aka guaranteed account) 
 
account transfer 
-- TIF (transfer instruction form) 
-- carrying firm has 1 biz day to validate, and 3 biz days to transfer the account. 
   (customer can place orders to new firm once validated) 
 
 
corporate account: requires 2 docs 
- corporate charter   : proves legality of the corporation 
- corporate resolution: proves who from corp can trade, and if it can trade on margins. 
 
account: 
- commission : RoP must be careful about churning. 
- fee based  : suitable for frequent trading customer. like institutional investor. 
 
discretionary accounts: must be requested by customer. # rep needs at least "limited" power of attorney 
(1) security (which stock, bond, etc) 
(2) quantity 
(3) action (buy|sell) 
 
all discretionary trades must be indicated as such. all records must be kept. 
all discretionary trades must be approved by supervisor "promptly after" execution, in writing. 
all discretionary accounts must be reviewed frequently (no definite time cycle). # to guard against "churning" etc 
 
"(market) Not-Held" order: customer specifies all 3, but leaves "time" and "price" to the rep to execute. 
                           (even if the trade loses money, rep is "not-held" liable) 
 
 
account ownership types: 
-- individual(single) 
-- joint                 # NOTE: minor / legal incompetent CANNOT be a tenant 
-- corporate 
-- partnership 
 
ToD (transfer on death) account: individual account with a named benefitiary. 
 
Death of account holder: 
- account frozen, marked "deceased" 
- all open orders cancelled, and wait for instructions from court/executor of the estate. 
- no need to proactively contact attorney/benefitiary. 
- 3rd party authorization(including discretionary) revoked. 
- need death certificate, letters testamentary, inheritance tax waivers 
 
joint account: 
-- "join account agreement" form must be signed by all 
-- JTWROS (joint tenants with rights of survivorship) : equal partnership. withdraw cash/check must be done by BOTH partys names. 
-- TIC (tenants in common) : can be unequally divided partnership. if a tenant dies, his assets go to his "estate". 
 
note: 'community property' - some state jurisdiction stipulate any property obtained during marriage is automatically JTWROS. 
 
partnership account: 
-- two or more individuals, who are not-incorporated. shared by designated partners. kind of like corporate account. 
-- partnershipt (amendment) agreement 
 
fiduciary/custodian (=trustee) account: 
-- a trust account 
-- UGMA/UTMA (uniform gift/transfer to minors act) : ONLY one INDIVIDUAL custodian, minor's SSN on the account. minor is owner. 
-- registered in minor's name. CANNOT be in street name. 
-- age of majority:  UGMA 18 yrs old.  UTMA 18-25 yrs old. 
-- fiduciary/custodian act "prudent investor" 
---- only "cash" account. no margin trading 
---- must reinvest cash (from dividends, interests, etc) 
---- must follow "legal list" of securies published by state. # No commodity futures, naked options, etc 
---- ok to authorize 3rd party rep to make investment decisions. 
---- may lend money to minor but cannot borrow from it. 
---- custodian may be reimbursed for (reasonable) expense. 
-- a donor (who donates gifts/securities, unlimited, can be the custodian or anyone adult) cannot take back: called "indefeasible title" 
-- a minor pays tax at "parent" tax rate, until age 18 
-- if minor dies, asset goes into minor's estate. NOT custodian/parent estate. 
-- if custodian dies, court or donor appoints a new custodian. 
 
NOTE: fiduciary is a broad term that includes executor of an estate, administrator of a trust, custodian of UGMA/UTMA, conservator for a legally incompetent person, etc 
 
 
 
################################## 
####      Margin Account      #### 
################################## 
 
investor can borrow money from broker, by pledging collateral. (== leverage) 
 
long  margin account: customer borrow money (pays interest, principal) 
short margin account: customer borrow securities. in fact, short sell can ONLY be done with margin account. because you need to borrow securities. 
 
==> BD can earn interest income, higher commission. 
 
margin    : amount of equity that must be deposited to buy securities in a margin account 
marginable: securities that can be used as collateral in a margin account. 
 
can be purchased on margin AND marginable: 
- listed equity 
- OTC approved by FRB 
- warrants 
 
cannot be purchased on margin AND non-marginable    # but still ok to purchase with 100% cash 
- options  # except for LEAPS option (75% deposit required, but when exp gets within 9 months, 100% deposit) 
- rights 
- OTC not approved by FRB 
- insurance contracts 
- mutual funds                 #  these two become marginable 
- new issues                   #  AFTER 30 days 
 
NOTE: for option spreads, only max loss needs deposited. 
      e.g. for a debit put spread of net debit 6.25, $625 is required, because that is the max loss. 
 
 
margin account: 
 
-- risk disclosure doc     # tells customer about all sorts of margin trading risk, 
---- loss can be leveraged more than customers initial deposit. 
---- customer not entitled to choose which securities to sell if margin call not met. 
---- no extension in time for margin call. 
---- firms can change margin requirement without advance notice. 
 
-- margin agreement 
---- hypothecation agreement   # securities as collateral. all customer securities held in "street name" 
---- credit agreement          # rate of interest, its calculation, etc 
---- loan consent agreement    # (optional) lets BD to lend customer security to other customers (for short sale) 
 
 
FRB regulates 
- Reg T: credit from broker/dealer. initial capital requirement: 50% (above $2000) within 5 biz days after trade/purchase. 
- Reg U: credit from bank 
- Reg X: credit from oversea 
 
NOTE: Reg-T applies to both cash and margin accounts. 
NOTE: Reg-T does NOT apply to US T-bill/note/bond, municipal securities, gov agency issues. 
 
portfolio margin: Reg-T/U/X do not apply. net-risk based margin trading.(instead of each underlying stock position) much more complex, can be riskier. 
 
FINRA regulates: 
- "initial" equity requirement: $2000 
 
====> thus you must satisfy both FINRA and Reg-T "initial" deposit min requirement.  # to be distinguished from 'maintenance' requirement. 
 
For long position: 
   purchase price X       minimum margin 
--------------------------------------------- 
          X < $2000       actual purchase price   # here if it is for "short" then becomes $2000 per FINRA rule 
  $2000 < X < $4000       $2000                   # FINRA rule 
  $4000 < X               50% of X                # Reg-T rule 
 
 
Margin Call: when you dont meet deadline (e.g. 5 biz day deposit requirement), account gets frozen for 90 days. 
 
"freeriding" : when you purchase and sell before payment of the purchase. prohibited. if you violate, then 90-day freeze. 
 
 
 
#### 
####   long margin account 
#### 
 

#  "marking to the market" 

for the minimum equity requirement, BD re-calc the equity debt ratio (usually) every business day, using close price. 
===> this process is called "marking to the market" 
 
 
LVM : long market value 
DR  : debt register 
EQ  : equity           # 50% initially (by FRB), 25% for maintenance (FINRA) 
 
LVM - DR = EQ 
 
minimum "maintenance requirement" is 25% for LONG margin account.  (30% for SHORT margin account) 
 
NOTE: LVM may move up & down, but DR does NOT change without customer action. 
 
 
if EQ goes below 50% (Reg-T), then the account is "restricted" 
when in restricted status: 
===> any securities you sell, 50% of proceeds must go to reduce DR. (aka "retention requirement") that 50% is added to SMA as well. 
     (also interest & dividends add to SMA) 
===> any more purchase must meet 50% requirement for those new shares. 
===> to withdraw securities, customer must deposite 50% cash worth. 
 
if EQ goes below 25% of LVM (FINRA), then maintenance "margin call" !! 
===> customer must deposit cash or securities (4/3 of the margin call amount). 
===> otherwise, BD will liquidate LVM (4 times of the margin call amount) 
 
NOTE: given DR, you can always calculate the min LVM for reg-T, FINRA 25% border. 
     MMV : "maintenance market value" 
     -- min LVM before margin call  == DR / 0.75 
 
 
Excess Equity                    : equity exceeding Reg-T amount 
SMA (special memorundum account) : excess equity that does NOT decrease unless customer use it (to buy more securities, or withraw cash) 
                                   Reg-T says SMA is max(current_EE,current_SMA) 
                                   SMA is an extra line of credit, aka 'buying power'  # you can use this until you hit maintenance call. 
                                   note: non-required cash deposite & dividends add to SMA. 
                                         similarly, non-required marginable security deposit, and selling LVM : 50% adds to SMA 
 
e.g. suppose you use all SMA to add to DR. 
     then per Reg-T 50% rule, you can add the equal ammount to EQ. thus you can add 2 * SMA to LVM 
 
 
### 
###   pattern day trading 
### 
 
day trading : buy sells the same security on the same day. 
pattern day trading: 4 or more day trades over a 5 biz day period. 
 
==> minimum equity requirement for pattern day trader is $25000 on any day when day trading happens. 
    (maintenance margin requirement is the same 25%) 
 
buying power for day trader is  4 * maintenance margin excess (== amount above 25% maintenance margin) 
==> note, for normal customer, buying power is 2 * SMA 
 
 
### 
###  short margin account 
### 
 
similar to long margin account. 
 
the diffs are : 
- the short seller must pay dividends to the lender. 
- FINRA min rule is $2000 from the get go. 
- minimum maintenance requirement is 30%    # not 25% 
 
SMV : short market value 
CR  : credit register 
EQ  : equity 
 
CR - SMV  = EQ 
 
##  minimum maintenance requirement  (short margin account) 
- for stock under $5 per share, max(100%,$2.5 per share) 
- for stock at/above $5 per share, max(30%,$5 per share) 
 
 
### 
###  combined margin account 
### 
 
just combined. if any calc question, calc them separately, then add them up. 
 
EQ = (LVM - DR) + (CR-SVM) 
 
## 
##  margin account commingle 
## 
 
with customer's written permission (part of hypothecation), a member firm may commingle multiple margin accounts, for bank financing purpose, etc. 
firm may NOT commingle customer account with firm's account securities. 
 
customer hypothecates securities (pledge them as collateral for loans) 
firm may re-hypothecate them to get loans from banks. this rehypothecation limit is 140% of customer margin account DR. (Reg-U) 
 
 
 
 
 
###################################### 
####    issuing new securities    #### 
###################################### 
 
act 1933   : primary mkt 
act 1934   : secondary mkt  (created SEC)  # mandate exchanges to SEC-register 
Maloney act: created FINRA, MSRB, CBOE, etc 
 
act 1933 : aka 
- Paper act 
- Full Disclosure act 
- new issues act 
- prospectus act 
- Truth in Securities act 
 
SEC registration statement (includes prospectus) 
- company busines description, name address, etc 
- coporate affiliate details (officer, director, 10% shareholder) 
- capitalization, balance sheet (equity, debt) disclosure 
- amount of offering and how the proceeds will be used 
- whether the company is involved in legal proceddings 
NOTE: underwriter can help, but it is issuer's responsibility to be accurate. 
 
Cooling-ff period: 
- begins after registration statement submission. 
- 20 calendar days 
- cannot solicit/take orders. 
- cannot advertise (EXCEPT for tombstone) 
- OK to collect indication of interest (via below). 
     to publish tomb stone ad 
     to publish 'preliminary' prospectus (= red herring) which excludes "offer price" and "effective date" 
 
note: registration statement submitted to state (not SEC) is called "blue skying" 
 
"Effective day" 
- begins adter cooling off period 
- offering may begin 
- ok to advertise 
- prospectus must be delivered to investor by trade confirmation. 
 
Due Diligence : underwriter (book runner) must do this by the end of cooling off period. 
                - examine the stability, feasibility, proceeds usage plan, legality etc. 
 
(final) Prospectus: 
- SEC disclaimer      # SEC does NOT approve/guarantee/endorce, SEC simply permits/clears the sale/distribution. 
- desciption of the business (history, management, risks, any material financial/legal info disclosure) 
- offer details("offer price", "effective date", proceeds usage, etc) 
- whether stabilization is planned 
NOTE: issuer/underwriter/seller CANNOT modify/highlight/summarize/add notes to prospectus. (federal law) 
note: prospectus must be delivered by ALL members to buyer if the security goes to secondary mkt 
      - within 90 days of IPO for OTC pink, or any other non-nasdaq OTC (OTCBB) 
      - within 25 days of IPO for NYSE/NASDAQ, other exchange 
 
 
primary offering  : offering of securities where the proceeds goto the issuer 
secondary offering: proceeds goto the shareholder (who got the securities from primary/secondary offering) 
split offering    : aka combined distribution. it is a combination of primary & secondary offerings. 
shelf offering    : like primary offering, but issuer can issue over a span of 3 years. 
 
 
equity research/report (ONLY for company with $1 bil or more 'revenue') 
- must wait AFTER effective date, as below: 
                           syndicate mgr |  other syndicate members/seller 
-------------------------------------------------------------------------- 
for IPO                 :  45 days       |  25 days 
for additional offering :  10 days       |  0 days 
-------------------------------------------------------------------------- 
 
 
## 
##  underwriting 
## 
NOTE: underwriters for "non-exempt corporate securities (270-days or less)" must be FINRA member investment banks. Not commercial banks (who can still do municipal underwriting). 
 
(1) competitive bidding 
(2) negotiation underwriting 
 
offer price: determinant factors 
- overrall mkt situation 
- PE ratio (price-to-earnings) of similar companies 
- company financial situation (debt ratio, dividend, earnings, etc) 
- indication of interest 
- underwriter's spread 
 
Stabilization: syndicate may bid at offer price (NOT higher) to stabilize the offering. 
               if syndicate bid price exceeds offer price (= pegging, fixed) : illegal 
               stabilizating bid not allowed if already sold out. (otherwise levy a syndicate penalty bid) 
 
Underwriting Agreement(UA): btwn issuer and syndicate (spread, etc) 
syndicate agreement(letter): btwn syndicate members. allotment, etc. western(divided), eastern(undivided) 
syndicate manager: lead book runner, lead(top) left 
selling gruop agreement: btwn underwriter and selling group (allotment, concession, etc) 
 
 
Firm Commitment : aka LOI (letter of intent):  underwriter agrees to buy/sell securities by a certain date. (big risk for underwriter) 
- market_out clause: special condition in which offering can be cancelled (like issuer goes rogue) 
- basically, underwriters can bail out if something out of their control happens that affects the investment quality of the securities. otherwise they must adhere. 
- "stand-by" a type of firm committment where underwriter agrees to buy unexercised rights issue. 
 
Best Effort: underwriter only does its best. not gonna buy unsold securities. 
-- all_or_none (AON) : sell all or cancel the underwriting 
-- mini_max : floor and ceiling 
 
===> Firm Commitment: principal capacity 
===> Best Effort    : agency capacity 
 
underwriting proceeds: money for issuer 
spread               : diff btwn public offer price and the price underwriter buys from issuer 
- syndicate manager fee: 10-20 % 
- underwriting fee     : 20-30 % 
- selling concession   : 50-60 % 
 
Over Allotment option (Green Shoe option) 
- if agreed in underwriting agreement btwn issuer and underwriter, underwriter may sell 15% more shares than originally planned. (if mkt demand warrants it) 
 

# EXEMPTION from 1933 SEC registration 

 
exempt 'secutities' or exempt 'transaction' => exempt ! 
 
exemmpt secutiries: 
- US gov securities 
- municipal bonds 
- commercial paper/ banker's acceptance (less than 270 days) 
- commercial bank (NOT bank holding company, so Citi Bank is exempt, but City Group is not) 
- building & loan (S&L) securities 
- NPO 
 
exempt transaction: 
- Reg A: coporate offering less than $5 mil in 12-month window. 
--- "offering circular" (notice of sale) instead of prospectus. same 20-day cooling period. 
- Reg S: oversea offering: must be Non-US residents (ok to be US citizen). 
--- seasoning period 40-day for Debt, 12-month for Equity for re-sale within USA. or no seasoning period for resale at offshore(non-US) exchange. 
- Reg D: private placement 
- Rule 147: intra-state (single state) offering 
- Rule 144, 144a, 145 
 
Rule 147: intra-state 
- 80% of revenue from state 
- 80% of assets in state 
- 80% of proceeds spent in state 
- sold to ONLY state residents 
- 9-months seasoning, then resale ok to ANY one. 
 
Reg D: private placement   (stock sold is called "lettered stock" "legend stock" "restricted stock" "Unregistered stock") 
- accredited investor (unlimited) 
--- individual with $1 mil net worth, or $200k annual income for a person, or $300k annual income for a married couple (for past 2 years) 
--- officer/director of the "issuer" 
--- corporations 
- non-acredited investor (max 35) 
NOTE: amount of capital raised is unlimited. 
- can be sold via Rule 144 
 
Rule 144 
- selling via Rule 144 will SEC-register security. 
- restricted security : SEC-unregistered security. like via Reg-A/D/S, or dividend(stock option) etc. 
-- control secuity     : owned by coporate insider/affiliate : director/officer/10% shareholder 
 
===> restricted stock : ok to re-sell any volume AFTER 6 months. 
===> control stock    : AFTER 6 months, still 
                        - can NOT sell more than 1% of outstanding shares within 90 days 
                        - can NOT sell more than average-weekly-volume(of past 4 weeks) within 90 days 
                        - NOTE: this volume limit always applies to insider AFTER SEC registration 
                                also insiders can NOT short-sell their company stock (obviously) 
Rule 144a: 
- QIB (qualified institutional buer): more than $100 mil assets, can freely trade among QIBs. 
 
 
Rule 145" 
- to protect shareholder 
- for merger & aqcuisition, transfer/exchange/reclassification of company assets. MUST get shareholder approval. 
 
FINRA rule 5130 
- protect public, restricted person prohibition 
-- for IPO of "common stock" , issuer/underwriter/employee/portfolio mgr/affiliates/family are restricted. 
-- spinning : practice of allocating IPO stock to future business partners to attrack them. prohibited. 
 
 
 
####################################### 
####      Trading Securities       #### 
####################################### 
 
security exchange act of 1934 : regulates secondary mkt, including: 
- exchanges, OTC (must be registered) 
- SEC  # does NOT regulate commodity futures (and other exempt securities) 
- FRB 
- broker/dealer 
- trading (short sale, insider, etc) 
- client account 
- filing of 10-Q, 10-K 
 
exchange mkt (= auction mkt)   : NYSE, regioinal exchanges    (double-auction pricing)  # double -> ask & bid 
OTC (= second mkt)             : Nasdaq, OTC pink, OTC BB    (inter-dealer network) 
third mkt (= Nasdaq inter-mkt) : for 'exchange listed' stock to be traded OTC (via BD inventory, inter-BD OTC) 
                                 (must be reported to Consolidated Tape within 90 sec of execution) 
4th mkt (= ENC)                : open 24hrs. no mkt maker. just direct auction matching. 
ATS (alternative trading system: dark pool (= no mkt impact, anonymous) 
 
NYSE : aka Big Board 
 
Nasdaq: 
- global select mkt 
- global mkt 
- capital mkt 
 
FINRA TRF (trade reporting facility) 
- listed exchange trade, Nasdaq trades 
- OTC trades (including broker negotiated cross trades) 
- trade comparison, clearing 
 
Broker: agency trader    #  commission 
Dealer: principal trader (aka "position trader" cos it takes long/short positions)    # mark-up/down 
 
when customer buys from you, you add your profit (mark-up) on top of inter-dealer offer price. 
--> total price is called "net price" that customer pays 
similarly, when customer wants to sell to you, you mark-down 
 
both B/D MUST dislose to clients its role (broker or dealer) and its commission/mark-up/down 
(except if it's dealer for non-nasdaq securities, then no disclose) 
 
priority 
- price, time, size (larger order gets priority !) 
DMM: 
- 'priority'  : first-come first-served 
- 'precedence': larger size order 
- 'parity'    : random 
 
DMM 
- can be both agent/principal (but not at the same time) 
- must keep two-way quote at ALL times. 
- can take spread as profit 
- (needs to have substantial financial resources to MM) 
- must prioritize & display customer quote (SEC rule) 
 
SLP : supplimentary mkt maker. 
- only needs to show two-way quotes for 5% of trading day. 
- gets rebates (like DMM) for trades it makes. 
- no agency trading. purely princial trading. 
 
trader 
(1) floor broker     : (= commission house broker, CHB) like goldman sachs, morgan stanley, etc 
(2) 2-dollar broker  : help floor broker for commission (= independent broker) 
(3) DMM              : designated market maker (= specialist) 
(4) registered trader: exchange member 
 
Mkt-wide circuit breaker: 
- level 1 halt:  7% drop in SP500 (before 15:25, then 15-min halt) 
- level 2 halt: 13% drop in SP500 (before 15:25, then 15-min halt) 
- level 3 halt: 20% drop in SP500 (halt for the day) 
 
arbitrage: 
- mkt arbitrage (inter-mkt, inter-currency) 
- convertible arbitrage: recall parity price 
- risk arbitrage: e.g. M&A, buyer's price goes down, the acquired company price goes up. etc 
 
order type 
- mkt order 
- limit order 
- stop (loss) order : trigger(activate/elect) mkt order 
- stop limit order  : trigger(activate/elect) limit order 
 
                      exchange      OTC 
----------------------------------------------- 
- mkt order         : most common | most common 
- limit order       : DMM handles | accepted             # both as GTC or a-day-order 
- stop (loss) order : accepted    | some dealers accept  # both as GTC or a-day-order 
- stop limit order  : accepted    | some dealers accept  # both as GTC or a-day-order 
 
support & resistance levels 
 
buy stop order: 
- protects against loss from short posisiton 
- establish long position before breakout of resistance level occurs 
 
sell stop order 
- protects against loss from long position 
- establish short position before breakout of support level occurs 
 
sent below mkt value:  ===> important because, orders at/below mkt value will be adjusted down on ex-date (reduce by dividend amount). 
- buy order                                    (customer can specify do-not-reduce order: DNR order) 
- sell stop order                       NOTE: if stock-split, DMM will adjust ALL open orders. 
- sell stop limit order                       if reverse stock-split, ALL open orders are "cancelled" 
 
sent above mkt value: 
- sell order 
- buy stop order 
- buy stop limit order 
 
 
"stock ahead" : means customer order didnt get filled because other customer order got filled (maybe timing was faster for the other customer) 
                the other customer's stock was ahead. 'nothing done, stock ahead' 
 
order protection: SEC Reg NMS (national mkt system) 
                  must prioritize/fill customer order if DMM wants to buy/sell at the same price 
 
lot size : 100 (in US mkt) 
- delivery must be in the round lot fo 100 
- if a buy order 100 shares of Apple at $30, and there is 20% stock div, then it does NOT become 120 shares at $25. it becomes 100 shares at $25. the additional shares are in the customers account but cannot be part of an open order. 
 
time-sensitive order 
- a day order: effective for the day (then cancelled) 
- GTC (good-till-cancel)  # expires at the last trading day of Apr/Oct 
- at-the-open / market-on-close 
- Not-Held order : customer does NOT specify time & price. floor trader decides. (can NOT be placed with DMM). a-day-order unless customer says GTC. 
- FOK (fill or kill) : obsolete. fill ALL all at one or cancel all. 
- IOC (immediate or cancel) : partial fill is allowed. 
- AON (all or none): like FOK, but not immediately, so it can be a day order or GTC. (obsolete) 
- OCO (one cancels the other): two orders, if one is executed, the other is cancelled. 
- DNS (do not ship): do not go to NBBO. only list in NYSE 
 
Reg SHO: 
- stock must be "located" i.e. borrowed/. naked short sell is prohibited 
- short sell must be identified as "long" or "short" 
 
Super Display Book (SDBK) 
- NYSE order routing/execution system (handles 75% of daily flow) 
- all NYSE stock is covered. 
- handles both pre/post-open orders. 
 
CTS (consolidated tape system) : 
- consolidates last trade price/size reported by all US exchanges & FINRA (equity) 
- network-A & network-B 
- shown price does not include commission, mark-up/downs 
- SLD (=delay = out-of-sequence), OPD(= open delay), HALT(=halt) 
 
 

#  OTC : negotiated mkt (as opposed to auction-bidding mkt) 

 
- Nasdaq (national association of securities dealers automated quatation) service 
- regulated by SEC, FINRA, SRO (self-regulatory organization) 
- many market makers for each stock name. (while NYSE has only one DMM for each name) 
-- firm quote (= bonafide quote) : DMM must be ready to buy/sell at the quote it displays. violation is called "backing away" 
-- subject quote : aka tentative quote. not firm quote, waiting for confirmation by MM 
-- recognized quote: proper round lot quotes, as opposed to odd-lot which must be indicated as such. 
-- qualified quote: quotes conditional for back away. just like subject quote 
--- workout quote : estimated quote, cannot guarantee. 
--- nominal quote : theoretical quote values. informational. 
 
Non-Nasdaq (OTC Pink & OTC BB) 
- three-quote rule: unless at least two MM displaying quotes, MM who receives orders must speak to at least three other dealers to determine the price. 
 
in general, the wider the spread, the less liquid the stock is. 
 
OATS: 
- order audit trail system (FINRA) for Nasdaq 
- records a life of a trade, frmo order entry to execution 
 
5% mark-up policy (FINRA): 
- ONLY guideline for MM (applies to BOTH mark-up/downs & commission, including risk-less simultaneous transaction) 
- does NOT apply to IPO, mutual funds, variable annuity contracts, municipal securities (cos they have 'prospectus' or 'OS') 
- should be based on "inside" quote (= mkt best bid/ask), NOT firm's quote 
 
order filling: 
(1) dealer  - principal : must display mark-up to customer 
(2) brokder - agency 
(3) riskless_simultaneous transaction: you buy from one customer and sell to the other. 
(4) proceeds transaction: a cusotmer sells one stock, and buys another. (this is considered "one" trade. canNOT charge double commissions/mark-ups) 
 
 
Nasdaq Quote service: 
- level 1: inside mkt (best bid/offer only) 
- level 2: all depth of quotes from all MMs 
- level 3: both L1 & L2 (for MM to update quotes, not investor) 
 
 
US mkt: min tick size is $ 0.01 
 
quote :  14.50 - 15 means bid price is $14.50, and ask price is $15.00 
 
 
 
############################################ 
####     Brokerage Support Services     #### 
############################################ 
 
flow 
- order dept (wire room) 
- purchase & sales (P&S) dept 
- margin dept (credit dept) 
- cashier dept (cage) 
 
NSCC (national securities clearing corporation) 
 
Order Ticket 
- customer account number 
- rep ID numer 
- whether order is "solicited" or "unsolicited" 
- whether order is discretionary 
- symbol, price, quantity, action 
- option (covered, uncovered) 
- order type (GTC, market, day order, etc) 
- account type (cash or margin) 
- time 
 
Correction             # should be reported to FINRA, and records kept for 3 yrs 
(1) cancel and rebill 
- error noticed before execution 
- requires supervisor approval 
(2) incorrect execution 
- goto compliance who decides what to do, case-by-case basis 
(3) incorrect report 
- execution correct, but report wrong 
- customer still responsible for payment 
 
Trade Confirmation 
- must be sent at/before Settlement Date 
-- trade date 
-- account number 
-- rep ID numer 
-- symbol 
-- BOT/SLD  # bought or sold 
-- price 
-- quantity 
-- yield 
-- CUSIP 
-- amount (income before commission) 
-- commission 
-- net amount (after commission) 
-- capacity : whether principal or agency. (if principal & Nasdaq, markups must be disclosed) 
              (canno be both at the same time) 
 
Customer Account Statement: 
- must be sent at least "quarterly" 
- if any activity, must be "monthly" 
- if penny stock (or option account) included, then "monthly" regardless. 
 
disclosure of financial condition: 
- upon request by customer or other member firm who has cash/security deposite, a member firm must disclose "balance sheet". (NOT income statement) 
 
Settlement Date: 
- when ownership transfers 
- buyer must pay seller 
- regulated by UPC (= uniform practice code) 
- Regular Way settlement 
-- T+3 : equity, corporate securities, municipals, gov agency securities 
-- T+1 : gov T-bill/note/bond, options 
-- T+0 : cash, money mkt securities 
-- T+5 : Reg-T 
 
Seller's Option Contract: in case buyer cannot deliver T+3, seller gets to choose any day after T+4.  (similar deal for Buyer's Option Contract) 
 
When-Issued trades: some bonds (e.g. municipal bonds) are sold before they are issued. so the settlement date is unknown until later, so when-issued confirmation canNOT include accrued interest. i.e. for when-issued trades, we cannot know; 
(1) settlemend date 
(2) accrued interest 
(3) total dollar amount due at settlement date 
 
Reg-T: 
- paying (not delivery=settlment date) is due 2 biz days after transaction. 
- if fail to deliver by 5th biz day, firm can still reqest for "extention" from DEA (designated examining authority) 
- if decide to liquidate(close-out) position, then account is "frozen" for 90 days. 
-- customer must pay/deposit in full BEFORE any more purchase/short sell, then un-frozen after 90 days. 
 
Proxy department 
- proxy : limited power of attorney, who is given the right to vote on shareholder's behalf. (like absentee ballot) 
- automatically revoked if stockholder attends the mtg/votes 
- proxy solicitation: proxy contestants must register with SEC. any one who gives stockholder unsolicited advice must register with SEC also. 
- member firms that hold shares in street name(nominal owner), can act as proxy, must fwd all the info to shareholder(benefitial owner). 
-- if shareholder does not instruct, then member firm can vote on his behalf for minor matters. 
-- but for important votes(merger, additional share issue, etc), member firm cannot vote, must abandon its vote. 
 
DK (= don't know) 
- in 'inter-dealer' trade, both sides submit transaction to ATC (= automated confirmation transaction) system 
- if conflict (info doesnt match), then the systems will DK the trade. 
- can be used in within a dealer work flow. like wire room cannot recognize the account number, etc. 
 
Due Bills 
- if customer buys stock before ex-date, he is entitled to dividend, but if mishandled, and settlement was delayed till after record date, then seller gets the dividend. then the broker sends "due bill" to claim the dividend "hey, give it to the buyer" 
 
"Good Delivery" clearing rule 
- certificates must be round lot of 100 
e.g. for 600-share deal, 6 75-share certificates and 6 25-share certificates are ok. but not 10 $60 certificates 
     (exception is odd lot) 
- overdelivery & underdelivery are no good 
- partial delivery is ok, assuming the rest comes thru 
- Bond delivery is in the unit of $1000 or $5000 
- fail-to-deliver: if seller fails to deliver, buyer firm can buy from the mkt and charge the diff/loss. 10 days after the settlement date, if still not delivered, then the seller's firm MUST buy security from the mkt, and deliver. 
 
Certificate negotiability (validity) 
- assignment (endorsed by signature) shows how the owner is. signature (or separate doc "stock power of substitution") is required. 
- alteration 
- signature guarantee (can be done by 'transfer agent' like bank, exch member, etc) 
- signature requirement (must match) 
 
Reclaimation: 
- if bad delivery is discovered later, then the buyer can send back securities. 
- window is 15-day after delivery date for minor irregularities 
- 30 months for bigger problems (like transfer agent rejects) 
 
 
 
 
################################## 
####    Investment Company    #### 
################################## 
 
investment company act of 1940 
 
investment company pools investors money, and invest in securiteis. 
- diversification 
- liquidity 
- professonal mgmt (for fee) 
 
5 players 
- BOD 
- investment adviser (= portfolio manager) : fee 
- custodian (clerical function, holding shares, safekeeping) (usually a commercial bank): fee 
- transfer agent : issue/redeem/cancel/conirm/record : fee (can be the same as custodian) 
- underwriter (= sponsor/distributor) 
 
info 
- prospectus 
- financial reports (BS, income statement, portfolio, BOD comp, etc) 
- additional disclosure : statement must be sent "semiannually" 
 
 
(1) face amount certificate (= FAC)   # just like zero-coupon debt. obsolete today. 
(2) unit investment trust (= UIT) 
(3) management investment company 
- closed-end : like corporation 
- open-end : mutual funds 
 
 
UIT: 
- no active portfolio mgr/fee. no BOD. 
- composition of portfolio is "fixed" 
- not traded in secondary mkt 
- fixed UIT : bond (when it pays coupon, matures, then interest/principal goto share holders) 
- non-fixed UIT: buys mutual funds underneath 
- shares redeemable 
 
Mgmt investment company; 
- diversified VS undiversified : diversified means 75% rule: 75% must be invested in companies other than itself/affiliates. at most 5% can be one company, the fund does not own more than 10% of one company outstanding shares. 
==> applies to both closed-end and open-end 
 
Closed-end mgmt company:  just like corporation 
- has one-time IPO (for a fixed number of shares, with prospectus) 
- trades in secondary mkt 
- can issue common stock, preferred, bonds, dividends, etc  # NOTE shares not redeemable 
- ex-date decided by FINRA/exch 
- can be purchased on margin 30 days after IPO 
- no fractional shares 
 
 
Open-end mgmt company: 
- no fixed number of shares. can issue as many shares as customer demands (still register with SEC). continous primary offering. 
- no secondary mkt. directly bought/redeemed with company. i.e. (all sale must be accompanied with prospectus) 
- POP (public offer price) = NAV + sales charge 
- dividend, ex-date by BOD 
- full & fractional shares 
- issue only "common shares" 
- redeems shares (at NAV) : 7-day notice 
- not marginable (can be collateral after 30 days) 
- no short sell 
- no switching (no churning) 
 
ETF : both UIT & open-end mgmt investment company (but neither) 
- creation unit (a large block of shares), then split and sold in secondary mkt 
- investor can sell at secondary mkt or sell the creation unit back to the company(then get redeemed into actual shares) 
- Compared to Mutual Funds 
-- ease of trading : exch traded = secondary mkt 
-- pricing : real-time, not once-at-EOD (fwd pricing): if you decalre you sell, then you sell at the "next" EOD-NAV 
-- margin : can be bought on margin 
-- operational/maintenance cost : significantly lower 
-- tax efficiency : capital gains not realized until you sell them, unlike mutual funds who distrib gains to you 
- leveraged ETF 
- inverse ETF 
- meant to be short or intermediate investment vehicle 
 
Mutual Funds 
- stock funds 
-- growth funds 
-- income funds 
-- combination funds (both growth and income) 
-- sector funds (= specialized funds) 
-- special situation funds (like stock of companies with merger/invention, etc ) 
-- index funds 
-- foreign stock funds 
- bond funds 
-- tax free(exempt) bond funds : muni, etc 
-- US gov / agency funds : T-bill, GInnie Mae, etc 
- balanced funds (both stock and bond) 
- asset allocation funds (portfolio mgr actively reshuffles: stock/bond/money mkt) 
- dual-purpose 
- money mkt funds : "no load" open-end mutual funds 
- life-cycle funds : funds of funds 
 
"no load" : no sales / liquidation(redeem) fee.  only annual maintenance fee (12b-1) 
            NOTE: if 12b-1 is less than 0.25%, then it is also "no load" 
 
Mutual Funds : comparison 
- performance 
- cost 
-- sales load (= sales charge) : aka 'front-end load' 
-- expense ratio (= mgmt fee, 12b-1,  "2%" means you pay $2 for every $100) 
- portfolio turnover (100% means portfolio content changes completely in one year, incurs more commissions/markups, etc) 
  (so this is really part of the cost) 
- services (check, transfer, withdrawal, etc) 
 
NAV (like bid price) per share. NOTE: NAV does NOT change when funds bought/redeemed. only changes per underlying securities mkt move 
POP (like ask price) 
sales charge : POP - NAV  (expressed in a percentage of "POP") : max is 8.5% 
             : called "front-end load" if charged at the beginning. otherwise 'backend load' : cannot exceed 8.5% in total 
backend load : aka 'contingent deferred load' 
12b-1        : maintenance/ops "asset based" fee charged "quarterly" and approved "annually" 
NOTE: closed-end funds do NOT have sales charge. only brokerage commission or markups/downs. 
 
 
Reduction in Sales Charges : if sales charge at 8.5%, then the fund MUST offer the below. 
(1) breakpoints : the more you buy, the cheaper sales charge(POP) gets. (POP you see on ad is the highest POP) 
                  breakpoint sales is prohibited. 
                  ONLY available to indivisdual (includes corp/trust) but not a club (= parent and non-minor child) 
--- letter of intent : you pledge to reach the amount within 13 months window, can backdate for 90 days too. 
                       not legally binding. if customer renags, fund liquidates customer portfolio to cover sales charge 
(2) rights of accumulation: 
--- share appreciation: 
--- aggregate accounts: inter-dealer, inter-account (aka combination priviledge) 
(3) automatic re-investment of distrib at NAV 
 
mutual funds invest in shares: 
Class-A : front-end load with breakpoints, and low 12b-1 
Class-B : backend earlier 
Class-C : backend later 
Class-D : level-load and redemption fee 
 
 
 
 
######################################## 
####      economics & analysis      #### 
######################################## 
 
business cycle 
-- expansion (you wanna own "cyclical stock" = technology, auto-mobile/manufacture companies, etc) 
-- peak  (you wanna own defensive recession proof stock: utility, food companies, etc) 
-- contraction (recession: 2 consecutive quarters of negative GDP.  depressions is 6 quarters + above-15% unemployment) 
-- trough (bottom) 
 
inflation: price rises.   (dont wanna own bonds) 
deflation: price falls. 
stagnation: prolonged slow growth. (to be followed by high unemployment) 
stagflation: inflation + stagnation. 
CPI: consumer price index (uses "constant dollar" rather than "actual dollar") 
 
interest rates: (lowest to highest) 
-- fed fund rate    : overnight interbank rate (most volatile, daily updates, set by mkt, NOT by fed) MOST volatile 
-- discount rate    : lending rate by fed to bank (set by fed) 
-- broker call rate : lending rate by bank to broker/dealer (= determines the margin loan rate) 
-- prime rate       : lending rate by bank to credit-worthy customers 
 
economic indicators: 
- leading: stock mkt, building permits, money supply(M2) 
- lagging: corporate profits, unemployment rate 
- coincident(current): industrial production index, monthly non-farm(non-agricultural) payroll 
 
economic theories 
- Keynesian theory : Keynes said active gov involvement is vital. 
- monetarist theory: Friedman said "monery supply" is vital. (still gov involvement, but moderately) 
- supply side economics: less gov involvement (less tax, less gov spending), let mkt optimize. 
 
monetary supply: M1, M2, M3 
 
monetary policy: tools of "FRB"             # fiscal policy (like tax, budgets) is done by congress & president 
(1) FOMC (federal open mkt committee) 
- to ease, fed buys US gov securities 
- to tighten, fed sells US gov securities 
(2) discount rate 
to ease, lower the rate 
to tighten, increase the rate 
(3) bank reserve requirement (federal funds) 
- to ease, lower the requirement 
- to tighten, increase the requirement 
 
fiscal policy: (affects stock mkt, interest rates) # decided by congress/president 
- federal spending/budgeting 
- taxation 
 
dis-intermediation: when people deposit money to commercial banks, who then in turn invest in stuff, that is intermediary. but if people directly invest in stock, bonds, then that is disintermediation. known to happen when FRB tightens money supply, and interest rate rises. then these securities yield higher rates than bank deposites. 
 
international monetary factors: 
- balance of payments (surplus or deficit) 
- balance of trades (affected by interest rate diff btwn countries, which affect FX rates) 
 
 
technical analysis : aka "market timers" 
- trading volume 
- trendline (open close high low) 
- consolidation (when stock price stays within a narrow range) 
- reversals (from down to up: saucer.  from up to down: inverted saucer) 
- head-and-shoulder 
- support and resistance levels 
- overbought/oversold: e.g. when SP500 index falls, but the number of rising price names are more than that of falling price names. oversold !! (correction will happen) 
 
technical mkt theories 
- Dow theories: primary trend(one year or more), secondary trend(3-12 weeks), short-term fluctuations(hour to days) 
- odd lot theory 
- short interest theory 
- modern portfolio theory (MPT) 
- random walk & efficient mkt theory 
 
DJIA : down jones industrial average (30 industrial stocks) 
 
 
fundamental analysis: 
- industry analsys 
-- defensive(recession proof) industry : utility, food, pharmaceuticals. 
-- cyclical industry  : sensitive to biz cycles. tech/IT companies, manufacture, etc 
-- growth industry    : like recent online SNS/game, or biotech (normaly pays little dividend, cos they wanna reinvest and expand) 
-- special situation stock: ver batim 
 
corporate analysis: 
- financial statements 
-- balance sheet (asset = liabilities + equity)    # equity = net worth       # asset = current(=liquid) asset, fixed asset, other asset. 
--- depraciating assets (e.g. equipment) 
- capital structure 
--(1) long-term debt 
--(2) stock # common & preferred 
--(3) capital in excess of par 
--(4) retained earnings (surplus)  # earnings(surplus) not paied out in dividends 
==> financial levearage: long-term debt VS equity ratio.  if long-term is higher, then it is called "leveraged" i.e. risky. 
 
private equity 
 
income statement:  revenue & expense 
- operating income == EBIT (earnings before interest & tax) 
- EBT (earnings before tax) 
- EBITDA(EBITA, depreciation & amortization) 
- interest expense (after paying interest on debt, company's taxable income is reduced. interest expense is NOT part of operating expense) 
- net income after tax. # div is paid out of NIAT. 
- EPS : (earnings per share) = earnings available to "common" stock / outstanding shares 
 
financial ratios: 
(1) capitalization ratio 
(2) liquidity ratio 
(3) valuation ratio 
 
- capitalization ratios: XYZ-ratio means  XYZ/capitalization 
-- debt(bond) ratio: over entire capitalization 
-- common stock ratio: 
-- preferred stock ratio: 
-- debt-to-equity ratio: this is debt/equity = leverage ratio 
 
- liquidity ratio: 
working capital = current assets - current liabilities 
current ratio   = current assets / current liabilities 
quick assets    = current assets - inventory 
acid_test(quick) ratio = quick assets / current liabilities        # more stringest measurement of liquidity than current ratio 
cash asset ratio = cash / current liabilities 
debt service ratio = EBIT / (annual interest + principal payment) 
book value per share : (assets - liabilities - preferred stock) / outstanding shares   # company's theoretical liquidation value per share 
 
valuation ratio: 
- EPS 
- EPS after dilution 
- dividend per share 
- current yield = div per share / current stock price 
- dividend payout ratio = div per share / EPS 
- PE (price to earnings) ratio : PE = current stock price / EPS     # speculative companies have very high(low) PE. growth companies have higher PE than cyclical companies. 
- inventory turnover ratio: how efficiently inventory is turned over. 
 
 
## 
##  tips / advice 
## 
 
i took the exam and passed in july 2015. 
 
in restrospect, i feel, like many other exams in the US, one can actually pass this test without really understanding the materials as long as he/she spends at least a week going thru at least 1000 practice problems. 
 

  1. 2015-07-05 20:36:36 |
  2. Category : financial
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