Reg SHO

In olden days a short sale could only be executed at a price that was higher than the previous price for the security, or at the same price if the price before had been an "uptick." Reg SHO now requires that before executing a short sale, broker-dealers have to locate the securities so that the laws of supply and demand are not distorted by "naked short selling" in which people sell stock that doesn't even exist short, artificially depressing its price. If the broker-dealer executes a short sale without reasonably believing the shares can be delivered by the lender, they have violated the rule.

In May 2010 Reg SHO is being updated to impose a temporary version of the old uptick rule that applies when a "circuit breaker" is tripped for a particular security. Starting in May, if a security drops during the day by 10% or more below its most recent closing price, short sellers will not be able to sell short at or below the current best bid price for the security. In other words, people “selling long,” which means selling the shares they own, will have priority and will be able to liquidate their holdings before short sellers can jump onto the pile. As the SEC states in their unique brand of English: a targeted short sale price test restriction will apply the alternative uptick rule for the remainder of the day and the following day if the price of an individual security declines intra-day by 10% or more from the prior day’s closing price for that security. By not allowing short sellers to sell at or below the current national best bid while the circuit breaker is in effect, the short sale price test restriction in Rule 201 will allow long sellers, who will be able to sell at the bid, to sell first in a declining market for a particular security. As the Commission has noted previously in connection with short sale price test restrictions, a goal of such restrictions is to allow long sellers to sell first in a declining market. In addition, by making such bids accessible only by long sellers when a security’s price is undergoing significant downward price pressure, Rule 201 will help to facilitate and maintain stability in the markets and help ensure that they function efficiently. It will also help restore investor confidence during times of substantial uncertainty because, once the circuit breaker has been triggered for a particular security, long sellers will have preferred access to bids for the security, and the security’s continued price decline will more likely be due to long selling and the underlying fundamentals of the issuer, rather than to other factors.

Painful Options Question

As I was saying in today's Friday Free Broadcast, the Series 7 questions on options will often not involve calculations. For many people, questions similar to the one below are among the most difficult because they force the test taker to really know how options work:

Which of the following option series trades at the highest premium?
A. ABC Apr 30 put
B. ABC Apr 40 put
C. ABC May 45 put
D. ABC Jun 45 put


Okay, it seems there may be information missing. Unfortunately, there isn't. No stock price provided in the question? There's your clue--it can't matter what the stock price is. The test is hard, but it's not a rigged game. If the stock price were required to answer the question, it would be provided. It wasn't provided, so it doesn't matter. Why doesn't it matter? Because puts with higher strike prices are worth more money, period. No matter where the stock is right now, the right to sell it for $45 is worth more than the right to sell it for $40 or $30. So, the answer has to be the May 45 put or the Jun 45 put. Which one gives the buyer more time to win? The Jun 45 put. That's the one that's worth the most.




ANSWER: d

Comments

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Every little thing

I've passed my Series 65 exam within the past two years, so if I wanted to I could register as an investment adviser. I have no criminal or disciplinary activity in my past, so I would definitely be granted a license by the State of Illinois Securities Department to start telling people what to do with their money or managing their brokerage accounts in exchange for a percentage of assets. But, unfortunately, my record-keeping skills are atrocious. I'm always getting notices from the IL Dept. of Revenue about late filings, penalties, and interest. I'll print my monthly account statement for the Roth IRA but inexplicably forget to print statements for the SIMPLE IRA. So, I stink at keeping records, and record keeping is a big deal for both advisers and broker-dealers. On Friday mornings, I usually go to the FINRA website and see what kind of rule violations are going on in the industry. For the firms, it's usually a lack of good record-keeping that gets them in trouble. They fail to report trades to TRACE (corporate bonds), or they submit reports that are inaccurate. Every little thing has to be perfect, as AXA Advisors discovered recently, according to this disciplinary action summary I'm reading right now. Apparently, on a few trades in municipal securities, the firm reported to the RTRS system that they had acted in a "principal" capacity, when, in reality, they had acted in an "agency" capacity. This, of course, also caused the firm to deliver customer trade confirmations that were inaccurate. Penalty? $20,000 fine.
Geeze. If you read the summary, you'll notice that AXA didn't bother to argue--they used AWC (acceptance, waiver, and consent) to settle the matter. On the other hand, I saw that in another case, the respondents appealed the NAC decision to the SEC, and are now appealing the SEC decision to the federal appellate courts.
However, we can only have so much fun with one blog post, and it's time for me to head to the office pretty soon, anyway.

Ending My Margin Adventure

So my margin account adventure ended with a wimper, not a bang. I just logged into my TD Ameritrade account and saw that the "margin balance," or what the exam calls the "debit register" or "debit balance," is at zero. After selling the 90 shares of HSP (Hospira) for $4,723 on March 1, the "DR" or "margin balance" sat stubbornly at eight or nine dollars, increasing gradually with the margin interest charges. Too lazy to deposit money into the account, I just waited for the next dividend payment to come in, and on April 1 and April 7 three little dividends came in--$5.60, $5.50, and $7.60--from Northern Trust, Bancorp South, and Merck, respectively. They're all marked "qualified dividends," which means that--until and unless Congress and the President (fiscal policy) take the kinder, gentler tax rate of 15% away--those little payments are darned tax efficient, even if this is just a taxable brokerage account. Your exam calls this type of investment account a "margin account," but that just means it's approved for margin. IF I want or need to, I can purchase securities on margin or borrow money against the value of my stock and bond assets. However, I have never bought securities "on margin," and I have only taken one margin loan against "SMA."
So, what did I learn from my 10-month adventure in margin?

1. Being forced to sell stock to pay the margin loan is really stupid. Those 90 shares of Hospira that I sold to pay off the loan would have generated $1,000 in dividends over my holding period and possibly increased in value by 50-100%.
2. The real world uses different terminology than the Series 7, but the concepts are exactly the same as what you study for your exam. My account doesn't use the term "SMA," or "debit balance," but you quickly get used to the terms "available funds for trading" and "margin balance."
3. I will never use margin again.

My adventure was highly educational, and the $4,000 loan was totally necessary when I took it. But, if you see me blogging about another adventure in margin, please remind me that I no longer engage in that sort of foolishness.

I could borrow $4,790.72 from "SMA" right now with just a few clicks of the mouse, but I won't do it. Just like I won't walk down to the liquor store at the end of the block this evening. Nothing illegal about either activity, but as someone who has experienced both destructive pursuits, I can say with confidence that I'm better off without it.

Felonies and FINRA registration

Get HELP with your SERIES 7 EXAM HERE
A customer recently emailed a question to me that touches on an important testable point: statutory disqualification. Here is the question:

I have been charged with felony forgery in the past year. I received probation and did not inform my firm. When my broker-dealer found out, they updated my U5 and terminated me. Now FINRA is investigating me for failing to update my U4 with the felony forgery information. My criminal information is now on BrokerCheck. Can I realistically get hired in the business again?

RESPONSE:
Forgery is directly related to the securities industry and would be a big problem whether a felony or a misdemeanor. There are bad-boy agents out there who will sell a deferred annuity to an unsuspecting senior citizen, then tell the customer to sell the thing and conceal the nasty surrender charge by forging the client's signature on the paperwork to do the annuity sale or switch. Also, so much sensitive information is provided by clients to registered reps that any crimes of dishonesty are major red flags to FINRA. To follow up by failing to update your U-4 with the negative information also hurts, because, in their eyes, it's another blatant form of dishonesty. Then again, if you cooperate with the investigation, maybe they'll suspend you, which is temporary. A bar is also very likely, unfortunately, and--unfortunately--a bar means "game over" in FINRAspeak. Wish I could be more upbeat about the situation, but it doesn't look good. Still, why not wait to see how the investigation ends up. Talk to an attorney who works in this area. More bad news: your state Administrator is likely to also take action if FINRA alerts them of any disciplinary decisions. Be sure to cooperate with all the regulators and try to get some good advice and/or representation by an attorney, who will want his or her retainer upfront. Be sure to be sitting down when they quote their retainer. Cooperating with FINRA can only help, while refusing to cooperate will keep people out of the business permanently every single time. You might want to go to http://www.finra.org/ and look up the enforcement section and discplinary orders. Read through the recent cases that led to temporary suspensions and permanent bars to get a feel of how things generally turn out. I wish the violation were more of a goof-up than two separate acts of dishonesty. "A member, in the conduct of his business shall observe high standards of commercial honor. . . " is the basic creed of FINRA and all the other self-regulatory organizations. Without trust, the system can't function.

Series 7 Exam Help

Hanging tough

It's early on a cold, rainy Sunday morning in Chicago. The calendar declares that "spring" has begun, yet the snow-covered ground plus my hat and gloves still point hard toward winter. It's easy to get discouraged on a day like this, to give up on being productive and start planning an elaborate afternoon revolving around deep dish pizza, DVDs, the Sun-Times, and a seldom-used sofa that's just crying out to be broken in this afternoon.
But no. That's not how things go in general. Yesterday, with cold wind and a wet snow pelting my face, I ran 4 miles through a local cemetery. Today, I'll give myself a break and merely work myself into a sweaty stupor at the local gym. Most test prep companies have dozens of writers and editors churning out their exam manuals and practice questions, but at Pass the Test, there is only one person producing all the practice questions, books, audio cd's, DVDs, and on-demand classes. In two days, that person is going to be 46 years old, which is why that person needs to stay in shape. A little rain and snow? Dress for the weather and snarl at the elements. A little tired on a Sunday afternoon? Sounds like a trip to the gym is in order.
The Series 7 is mostly an endurance event. You might think of it as one test, but it's really equivalent to a semester of college, 12-15 credit hours' worth of hard work. You need to be in shape physically, mentally, and emotionally for this challenge. I can't think of a better time to start an exercise routine. To start drinking more water than coffee, to start eating more vegetables and fewer potato chips, and to start cooking rather than ordering meals. The 3-4 months it will take to study for your exam would be a great time to start spending more time exercising than watching television. No time? Listen to our audio lectures as you walk, ride, run, etc. Our ExamCram questions will soon be available as an I-phone application; maybe you could ride the exercise bike while working practice questions a few times each week. Talk about getting the mind and body in shape!
The Series 7 involves a lot more than scheduling a test date, skimming a big, thick textbook, taking a few practice questions, and expecting to pass. Unless you're a genius, that approach will lead to a 30-day stay in the penalty box. If you think it's stressful studying for your first attempt, imagine the stress you'll feel studying after you've already failed the thing. With your company threatening to fire you and your bills piling up left and right. On the other hand, if you take a holistic, disciplined, diligent approach to this endurance event, success is almost assured.
So, what's it going to be?