Series 4 Practice Exam

Series 4

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Question 1

In the instance in which a retail customer wishes to open an account to conduct options trading activities, the account must be approved:

A
Not later than at the time the initial order is accepted
B
At or prior to the time the ODD is furnished to the customer
C
Prior to the acceptance of the initial order
D
Within 15 calendar days of the initial trade in the account
Question 1 Explanation: 
An account must be approved in order for an order to be placed and accepted.
Question 2

The Options Clearing Corporation can most accurately be portrayed as fulfilling which of the below duties?

A
It provides certificates to evidence both long and short option positions
B
It provides a fair and orderly market for the trading of option contracts
C
It assures clearing member firms that option contracts will be honored when exercised
D
It assigns exercise notifications to investors
Question 2 Explanation: 
OCC’s primary function is to make sure that, when an option is exercised, the writer lives up to their obligation to perform according to the terms of the contract.
Question 3

In accordance with the uniform practice code pertaining to the contents of confirmations, which of the below information is required on an option confirmation form?

A
Whether the trade is an opening or closing transaction
B
The aggregate exercise price
C
The precise time of execution of the transaction
D
Whether the transaction is the initial transaction in the account
Question 3 Explanation: 
Of these four choices, only option A includes information on a confirmation.
Question 4

If an option client is long 1 RAL Nov 85 put contract, to create a bullish vertical spread would require which of the following actions?

A
Go long a different option type
B
Go short a different option type
C
Go long a different option series
D
Go short a different option series
Question 4 Explanation: 
A different type of option would be a call instead of a put – that would not answer this question. Writing a put option with a different strike price, therefore a different SERIES of option, would create a vertical spread.
Question 5

When a member firm is disseminating recordings to clients encouraging them to consider options strategies to enhance their portfolio returns:

A
ROP approval is not a requirement
B
BOM review is mandatory
C
These are deemed retail communications requiring SRO approval
D
OCC review and approval is required
Question 5 Explanation: 
Not only would ROP approval at the B/D level be required for retail communications of this type, but SRO approval would be necessary as well.
Question 6

A hedging strategy suitable for an import/export business which expects to be paid in a specific foreign currency would most likely be:

A
Long straddles in the options of that foreign currency
B
Long puts in that foreign currency
C
Long calls in that foreign currency
D
Collars in that foreign currency
Question 6 Explanation: 
The concern when being paid in foreign currency is the value of that currency will decline by the time payment is received – long puts on that currency would be the best hedge.
Question 7

An option trader looking to reduce their short option position would be well advised to place which of the below orders?

A
Closing purchase
B
Closing sale
C
Opening purchase
D
Closing their account
Question 7 Explanation: 
A closing purchase will close out a short position in an option contract.
Question 8

On March 1st, a client purchases 20 call option contracts as their initial transaction in their option account. On March 20th, the client wishes to enter a closing sale transaction of those 20 contracts; however, the client has not signed and returned the special option agreement form.

A
The trade cannot be processed
B
The client’s account will be closed
C
The transaction can be processed as requested
D
None of the above
Question 8 Explanation: 
The trick here is that, although the 15 calendar day period has elapsed and the client has not yet signed and returned the special option agreement form, closing out positions already taken is permitted – opening NEW positions would not be permitted until the agreement is signed and returned to the member firm.
Question 9

If a customer has an already-established brokerage account at your firm, and they have granted written discretionary authority to the RR handling the account, should the customer wish to engage in covered options strategies:

A
No further discretionary authorization is required
B
An additional discretionary authorization is required to initiate options activity
C
Verbal discretion would be sufficient for each option transaction
D
Discretionary trading is not permitted for options trading of any kind
Question 9 Explanation: 
A discretionary authorization already executed for a regular brokerage account does not extend to options accounts – separate authorization is required.
Question 10

A long put position is basically the risk-equivalent of which of the following?

A
A short call
B
Long stock/long put
C
Short stock/short put
D
Short stock/long call
Question 10 Explanation: 
Risk equivalency questions are asking what maximum loss exposure of a position is. In the case of a long put, one can lose the premium. Shorting stock and going long a call to hedge it exposes the investor to a maximum loss of the long call premium, depending on where the strike price of the long call is set compared to the CMV at which the stock was shorted. It is the best of the four choices.
Question 11

A client with a long call position will qualify to receive a cash dividend on the underlying shares of stock under which of these conditions?

A
The client engages in a closing sale transaction prior to the ex-date
B
The client tenders an exercise notice on or after the ex-date
C
The client tenders an exercise notice prior to the ex-date
D
Go long the stock on or after the ex-date
Question 11 Explanation: 
Investors with long call positions will not receive cash dividends. However, if the investor exercised the call prior to the ex-dividend date, they will be an owner of record on the record date and receive the cash dividend.
Question 12

In accordance with SRO uniform practice code requirements pertaining to customer account statements, uncovered option positions held in client accounts must be reported to the client:

A
Weekly
B
Monthly
C
Quarterly
D
As of the expiration date of the uncovered option position
Question 12 Explanation: 
The SRO rules require quarterly statements be sent to customers, unless there is activity in their account, in which case monthly statements will be sent. There is no indication in this question of any activity in the account; thus, quarterly at a minimum is required.
Question 13

A short call position has a risk-equivalency of which of the below?

A
Long put
B
Short stock/short put
C
Long stock/long put
D
Short stock/long call
Question 13 Explanation: 
A short call carries unlimited risk of loss. Short stock combined with a short put carries unlimited risk of loss – it is the best choice.
Question 14

An option customer has sent a letter of complaint to your branch. Which of the following will be the appropriate way to handle the complaint?

A
Send the complaint to the firm’s central file within 30 days and maintain a copy of the letter of complaint in the branch
B
Initiate arbitration proceedings
C
Notify the SRO of the complaint
D
Contact the complainant and make them whole for any losses they have suffered
Question 14 Explanation: 
SRO rules require that answer A is the proper procedure.
Question 15

All of the below records must be maintained at the branch level as well as the principal supervisory office level, except:

A
Background information regarding customers
B
Customer complaints
C
Customer account statements
D
Customer confirmations
Question 15 Explanation: 
Your B/D may have house rules which will call for customer confirms to be kept at both the branch and a principal supervisory office, but SRO rules do not require it.
Question 16

When a customer who is long 1000 shares of ABC common shorts 15 calls, this is most commonly referred to as:

A
Short hedging
B
Going short against the box
C
Ratio writing
D
Ratio hedging
Question 16 Explanation: 
Writing one call for each 100 shares long in the account is covered call writing. When more calls are written than one per 100 shares in the account, as in this question, writing 15 calls but only owning 1000 shares, five of those shorted calls are naked/uncovered – this is ‘ratio writing.’
Question 17

A long call has a risk-equivalency of which of these positions?

A
Long stock/long put
B
Long stock/short call
C
Short stock/long call
D
Short put
Question 17 Explanation: 
Going long a put one can lose the premium. Going long stock and long a put on that stock exposes the client to a maximum loss of the put premium, depending on the CMV of the stock and the strike price of the put – it is the best of the choices.
Question 18

The automatic exercise by exclusion rules of the CBOE are best described as:

A
Requiring all out of the money contracts be allowed to expire
B
Requiring all in the money contracts be exercised at expiry
C
Requiring all in the money contracts be exercised at expiry in the absence of an exception notification from the client with the expiring long position
D
Requiring all short option positions be exercised where the underlying stock is in the money by the strike price plus premium in the case of a call, and strike price minus premium in the case of a put
Question 18 Explanation: 
Though answer B is not untrue, answer C is a more thorough response – when an option is at least one penny per share in the money at expiration, it will be exercised, unless the long contract holder has issued exception instructions to their brokerage firm to NOT exercise the contract unless certain additional parameters are met.
Question 19

In a ‘fast’ market, all of the following actions by floor officials will be permissible except:

A
Suspending the firm quote rule
B
Allowing clerks to execute orders
C
Assigning certain classes of option contracts to a different ‘post’
D
Halting trading in the underlying instrument
Question 19 Explanation: 
Floor officials at the options exchange have substantial powers; however, they do not have the authority or power to halt trading in the underlying stock on its principal exchange.
Question 20

In order to open a discretionary options account, all of the below would be a requirement except:

A
A margin agreement
B
An account agreement
C
Written authorization
D
Limited power of attorney
Question 20 Explanation: 
A margin agreement has nothing to do with a client granting discretionary written authorization to their B/D.
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