Private Wealth Management

Instructions:

• Answer 50 questions in 15 minutes.
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• Match each statement with the correct term.
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This is a study tool. The 3 wrong answers for each question are randomly chosen from answers to other questions. So, you might find at times the answers obvious, but you will see it re-enforces your understanding as you take the test each time.

1. Describe the different types of double taxation conflicts.
Diligently gather the best possible investment info - tend to be conservative and - since they base decision on facts - they rarely form emotional attachments to investments - continually seek better info to confirm past investment decisions
1) Residence-residence = 2 individuals claim residence for the same individual 2) Source-Source = 2 countries claim authority over the same income (i.e. multinational company) 3) Residence-Source = individual is subject to residence jurisdiction and
Demand for life insurance increases
Active wealth creators typically have an above-avg. willingness to take risk - passive recipients of wealth typically have an average or below-average willingness to take risk


2. What is the most common estate planning tool?
Implied liabilities
Demand for life insurance increases
A will (also known as a testament)
Triggers tax on unrealized capital gains - requires liquidity - shares must be publicly traded or have low restrictions on sale


3. What are the four broad categories of investor personality types (BB&K)?
If board of director member = inside - prudent investor rules usually applies - recommend legal counsel for setting up personal trust or family foundation - if a trust - balance the needs of income beneficiaries and remainderment
- cautious - methodical - individualistic - spontaneous
Determine: the client's contraints - as well as risk/return objectives - the best strategy - given capital market expectations for achieving the client's objectives - the appropriate strategic (long term) asset allocation which meets those goals
To earn a total ______-tax __________ return of ______% covering: -expense 1 -expense 2 -expense n


4. characteristics of methodical investor
Iinvestors analyze ind. investments on a stand-alone basis - do not consider how the asset will affect portfolio risk and return - manifests itself as mental accounting/pyramiding - lack of diversification
1) common progressive (progressive) 2) heavy dividend tax (progressive) 3) heavy capital gain tax (progressive) 4) heavy interest tax (progressive) 5) light capital gain tax (progressive) 6) flat and light (flat) 7) flat and heavy (flat)
Relies on hard facts -decisions tend to be conservative in nature -more risk averse -thinking/analysis
1) source of wealth 2) measure of wealth 3) stage of life


5. What are investment objectives and constraints?
The government shares in both gains and losses
- does not ordinarily exhibit the same attachments to the firm as an entrepreneur or top executive - does not have any degree of control either
Objectives = required return; risk tolerance - Constraints = time horizon - tax concerns; liquidity needs - legal/regulatory; unique circumstances
Lock up period (7-10 yrs) - must hold >20% illiquid assets - lack of control (no changes - manager determines asset mix) - original cost basis


6. characteristics of individualist investor
1) Financial market risk (reduced with efficient diversification) 2) Longevity risk (hedged w/ annuities) 3) Savings risk (hedged by employing a savings program and consuming less)
Tax drag % = tax rate - as the investment horizon increases - tax drag is unchanged - as the investment return increases - tax drag is unchanged - as the investment horizon increases - value of the tax deferral increases - as the inestment return inc
Self confident - Gather information from a wide variety of sources to make their own decisions - Willing to take risk
Client is a foundign family member - the firm still bears the family name - the shares were acquired by a loved one


7. In contrast to standard finance (MPT) - behavioral finance assumes individuals do what?
The client's psychological profile
Earnings start to accelerate -Expenses increase - but so do savings -Long time horizon over which to recover from short-term losses -above-average risk tolerance
Joint ownership with rights of survivorship - living trusts - retirement plans - life insurance - other means that transfer assets without the need for a will
1) exhibit loss aversion rather than risk aversion 2) exhibit biased expectations rather than rational expectations 3) tend to segregate investments rather than considering them in a portfolio perspective


8. If human capital is equity-like/fixed-income like - how should you generally allocate financial assets?
Should use accrual-equivalent returns and after-tax risk
If human capital is equity-like - allocate financial assets more to fixed income - if the human capital is fixed-income like - allocate financial assets more to equities
- extrepreneurs - for example - are usually familiar with taking business risk - they are willing to take risk b/c they feel they control their business and personal circumstances
Most risk averse/least risk tolerant - primary focus is financial security: preservation of wealth - hard to advise - can over-analyze - slow in making decisions and then changing investments - low portfolio turnover/volatility


9. Define tax drag.
- extrepreneurs - for example - are usually familiar with taking business risk - they are willing to take risk b/c they feel they control their business and personal circumstances
The reduction in return caused by the payment of taxes
Implied assets
Achieves diversification slowly over time - capital gains taxes avoided to extent of matching gains and harvesting losses


10. What are the disadvantages of public exchange funds for low basis stock?
1) growing the portfolio (capital gains) 2) liquidity needs - total return approach
Portfolio size incr. = ability up - Liquidity needs up = ability down - Time horizon up = ability up - Spending importance down = ability up
Lock up period (7-10 yrs) - must hold >20% illiquid assets - lack of control (no changes - manager determines asset mix) - original cost basis
Fixed income streat set at inception - usually no inflation adjustment - so real value falls over time - usually illiquid (can't withdraw funds) - lock in at the prevailing rate - which might be historically low


11. What are the advantages of completion portfolios for low basis stock?
Implied assets
Using HIFO accounting - an investor assumes the lot with the highest tax basis was sold to either maximize the loss for harvesting or minimize the taxable gain
Achieves diversification slowly over time - capital gains taxes avoided to extent of matching gains and harvesting losses
Must partner with an outside - unrelated investor - lock up period - taxesdeferred but not avoided - potential regulatory (IRS) risk


12. What are the advantages of completion portfolios for low basis stock?
Can be used for clarification if questions areise about specific invesetment decisions - should outline a process for dispute resolution
A positive relationship
Achieves diversification slowly over time - capital gains taxes avoided to extent of matching gains and harvesting losses
Required = critical financial objectives (e.g. living expenses - kids' college expenses) Desired = objectives the client would like to meet (e.g. - large bequests to family or charity - early retirement)


13. situational profiling - considerations
Upside potential of hedged position limited - regulatory risk (avoid constructive sale - some risk exposure required)
Relies on hard facts -decisions tend to be conservative in nature -more risk averse -thinking/analysis
If human capital is equity-like - allocate financial assets more to fixed income - if the human capital is fixed-income like - allocate financial assets more to equities
Sources of wealth - measure of wealth - stage of life


14. What are the different stages of life?
Triggers tax on unrealized capital gains - requires liquidity - shares must be publicly traded or have low restrictions on sale
The risk of a premature death with accompanying loss of future human capital
To earn a total ______-tax __________ return of ______% covering: -expense 1 -expense 2 -expense n
1) foundation phase 2) accumulation phase 3) maintenance phase 4) distribution phase


15. What is the person called that transfers assets through a will?
1) credit method 2) exemption method 3) deduction method
The testator
An investor focuses on gains and losses - prefer certain (riskless) gains and uncertain losses - are willing to face incerased risk to avoid losses - causes investors to exhibit risk-seeking behavior
Relies on hard facts -decisions tend to be conservative in nature -more risk averse -thinking/analysis


16. How does the nature of human capital affect the demand for life insurance?
The more equity-like - the less the demand for life insurance
1) foundation phase 2) accumulation phase 3) maintenance phase 4) distribution phase
Wealth attained through inheritance - windfalls - long steady employment - etc. - might have less experience and less understanding of risk/return - might require investment education
A positive relationship


17. What are the main characteristics of the maintenance phase of life?
Must have a very large portfolio or be willing to borrow - may take a long time to diversifiy completely
Retired - focus on lifestyle maintenance and security - preservation of wealth - shortening time horizon and declining risk tolerance
Demand for life insurance increases
1) active 2) passive


18. What are typical characteristics of passive recipients of wealth?
- tax drag% > tax rate - as investment horizon increases - tax drag $ and tax drage % increase - as investment return increases - tax drag $ and tax drag % increase
1) Traders (all gains short term) 2) Active investors (less churn - some gains taxed at reduced rates) 3) Passive investor (buy and hold - most gains are deferred) 4) Exempt investors (no investment taxes)
- the higher in the ranks - the more the executive acts like an entrepreneur - the more control = the more attached the executie is to the firm
Wealth attained through inheritance - windfalls - long steady employment - etc. - might have less experience and less understanding of risk/return - might require investment education


19. Generally - how does portfolio size - liquidity - time horizon - and/or importance of spending affect ability to tolerate risk?
Portfolio size incr. = ability up - Liquidity needs up = ability down - Time horizon up = ability up - Spending importance down = ability up
1) credit method 2) exemption method 3) deduction method
Should use accrual-equivalent returns and after-tax risk
Self confident - Gather information from a wide variety of sources to make their own decisions - Willing to take risk


20. When calculating a required return - you typically must identify what?
- extrepreneurs - for example - are usually familiar with taking business risk - they are willing to take risk b/c they feel they control their business and personal circumstances
Single publicly traded mature company stock or vested options - greater appetite for specific risk due to higher degree of control - less residual risk - b/c the firm is more mature - less liquidity risk - but may have restrictions - desires tax effi
Client description -purpose of IPS -identification of duties - responsibilities -formal statement of objectives and constraints -calendar schedule for portfolio performance and IPS review -performance measures and benchmarks -considerations for devel
Number of years to retirement/death - investable assets - annual liquidity requirement - specific amount (if any) needed at a future date


21. Calculating the required return component is driven by what 2 elements?
Taxes paid on the gain (long or short position) when an asset is sold or purchased
The risk of a premature death with accompanying loss of future human capital
Demand for life insurance decreases
1) growing the portfolio (capital gains) 2) liquidity needs - total return approach


22. characteristics of individualist investor
Objectives = required return; risk tolerance - Constraints = time horizon - tax concerns; liquidity needs - legal/regulatory; unique circumstances
Must have a very large portfolio or be willing to borrow - may take a long time to diversifiy completely
Self confident - Gather information from a wide variety of sources to make their own decisions - Willing to take risk
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today


23. As age increases..
It is expenseive - time consuming - public
Demand for insurance decreases; less human capital to replace
1) Source jurisdiction = country levies taxes on all income generated within its borders - whether by citizens or foreigners 2) Residence jurisdiction = a country taxes income of its residents whether generated inside or outside the country (most pre
Wealth attained through inheritance - windfalls - long steady employment - etc. - might have less experience and less understanding of risk/return - might require investment education


24. characteristics of spontaneous investor

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25. What is the general relationship between tax drag% and tax rate with accrual taxes; and as investment horizon increases and return increases?
- tax drag% > tax rate - as investment horizon increases - tax drag $ and tax drage % increase - as investment return increases - tax drag $ and tax drag % increase
The government shares in both gains and losses
1) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging
Decisions should be optimal -process is dynamic - thus factors in changing circumstances -focus on long-term objectives -new investment advisors should be able to use the IPS


26. What are the main types of investors?
1) Traders (all gains short term) 2) Active investors (less churn - some gains taxed at reduced rates) 3) Passive investor (buy and hold - most gains are deferred) 4) Exempt investors (no investment taxes)
1) Financial market risk (reduced with efficient diversification) 2) Longevity risk (hedged w/ annuities) 3) Savings risk (hedged by employing a savings program and consuming less)
Deterministic = use point estimates to generate a forecasted value such as an expected return or terminal value Monte Carlo = use probability distributions of inputs to generate expected returns with accompanying probability distributions
1) active 2) passive


27. What is the most common estate planning tool?
A will (also known as a testament)
Active wealth creators typically have an above-avg. willingness to take risk - passive recipients of wealth typically have an average or below-average willingness to take risk
Quick to make decisions in the heat of moment (don't want to miss opportunities) - High PTO - Focus on return w/out considering risk - Don't consider themselves experts - Don't trust professionals
1) Residence-residence = 2 individuals claim residence for the same individual 2) Source-Source = 2 countries claim authority over the same income (i.e. multinational company) 3) Residence-Source = individual is subject to residence jurisdiction and


28. Who is responsible for gains/losses in a taxable (accrual taxation) account?
The government shares in both gains and losses
Should use accrual-equivalent returns and after-tax risk
Excess capital
- does not ordinarily exhibit the same attachments to the firm as an entrepreneur or top executive - does not have any degree of control either


29. What are the advantages of private exchange funds for low basis stock?
Determine: the client's contraints - as well as risk/return objectives - the best strategy - given capital market expectations for achieving the client's objectives - the appropriate strategic (long term) asset allocation which meets those goals
- a subjective assessment of financial well-being based on perceived wealth
Can borrow and/or use derivatives to diversify - ability to borrow (monetize) increased - owners retain upside potential of the original investment - not required to hodl illiquid assets - partners can change fund composition
Should use accrual-equivalent returns and after-tax risk


30. When dealing with low basis stock - emotional issues can arise from what?
Demand for life insurance increases
Methodical - cautious - individualist - spontaneous
Deterministic = use point estimates to generate a forecasted value such as an expected return or terminal value Monte Carlo = use probability distributions of inputs to generate expected returns with accompanying probability distributions
Client is a foundign family member - the firm still bears the family name - the shares were acquired by a loved one


31. characteristics of maintenance phase
1) source of wealth 2) measure of wealth 3) stage of life
Entrepreneurial activity (likely to have highly concentrated portfolio) -inheritance - one-time windfalls (may be more willing to diversify) -built up over long periods of safe employment (e.g. middle mgr - easier to divest than huge entrepreneurial
Investors begin to shift portfolios into less volatile assets -Reduced focus on accumulating additional wealth and more focus on preserving current wealth -Reduced ability to recover from market downturns -diminishing risk tolerance
- cautious - methodical - individualistic - spontaneous


32. What is loss aversion?
Multiple-security holding with one superstar - the result is a concentrated equity position - high specific risk - diversifies from concentrated - active and core concentrations into passive index positions
1) exhibit loss aversion rather than risk aversion 2) exhibit biased expectations rather than rational expectations 3) tend to segregate investments rather than considering them in a portfolio perspective
Should use accrual-equivalent returns and after-tax risk
An investor focuses on gains and losses - prefer certain (riskless) gains and uncertain losses - are willing to face incerased risk to avoid losses - causes investors to exhibit risk-seeking behavior


33. sources of wealth
Entrepreneurial activity (likely to have highly concentrated portfolio) -inheritance - one-time windfalls (may be more willing to diversify) -built up over long periods of safe employment (e.g. middle mgr - easier to divest than huge entrepreneurial
The more equity-like - the less the demand for life insurance
Immediate diersification - ability to borrow (monetize) - at end of partnership receive proportional share of pool
Valuation discounts can reduce the value of wealth transfers - so high net worth indiiduals utilize them whenever possible to minimize transfer taxes


34. How is demand for insurance affected by risk tolerance - financial wealth - probability of death - age - and bequest desire?
Self confident - Gather information from a wide variety of sources to make their own decisions - Willing to take risk
Risk tolerance = as risk tolerance increases - demand for life insurance decreases
- cautious - methodical - individualistic - spontaneous
Valuation discounts can reduce the value of wealth transfers - so high net worth indiiduals utilize them whenever possible to minimize transfer taxes


35. What are the main characteristics of fixed annuities?

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36. What are the main characteristics of variable annuities?

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37. What risks must be considered when discussing each concentrated investor category?
1) specific risk (unsystematic risk) 2) market risk (systematic risk) 3) residual risk (counterparty risk and regulatory risk)
Most risk tolerant - fear that failing to respond to changing market conditions will negatively impact their portfolio - constantly adjust their portfolios in response to changing market conditions - tend to doubt investment advice. - high turnover a
Relies on hard facts -decisions tend to be conservative in nature -more risk averse -thinking/analysis
Determine: the client's contraints - as well as risk/return objectives - the best strategy - given capital market expectations for achieving the client's objectives - the appropriate strategic (long term) asset allocation which meets those goals


38. As desire to leave an estate increases...
Demand for life insurance decreases
Demand for life insurance increases
Distribution of outcomes provides a better indication of the risk/return tradeoff - show the tradeoff b/t short-term risk and ability meet long-term goals - incorporates the impact of taxes and the compounding effect of reinvestment - can build in f
Wealth attained through inheritance - windfalls - long steady employment - etc. - might have less experience and less understanding of risk/return - might require investment education


39. An investor's ability to take risk depends on what?

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40. characteristics of spontaneous investor

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41. What are the psychological issues of low basis stock held by an investor?
- does not ordinarily exhibit the same attachments to the firm as an entrepreneur or top executive - does not have any degree of control either
1) credit method 2) exemption method 3) deduction method
A will (also known as a testament)
Tax drag % = tax rate - as the investment horizon increases - tax drag is unchanged - as the investment return increases - tax drag is unchanged - as the investment horizon increases - value of the tax deferral increases - as the inestment return inc


42. Describe asset segregation in a behavioral finance context.
- tax drag% > tax rate - as investment horizon increases - tax drag $ and tax drage % increase - as investment return increases - tax drag $ and tax drag % increase
1) Residence-residence = 2 individuals claim residence for the same individual 2) Source-Source = 2 countries claim authority over the same income (i.e. multinational company) 3) Residence-Source = individual is subject to residence jurisdiction and
Entrepreneurial activity (likely to have highly concentrated portfolio) -inheritance - one-time windfalls (may be more willing to diversify) -built up over long periods of safe employment (e.g. middle mgr - easier to divest than huge entrepreneurial
Iinvestors analyze ind. investments on a stand-alone basis - do not consider how the asset will affect portfolio risk and return - manifests itself as mental accounting/pyramiding - lack of diversification


43. What should an investor use in mean-variance optimization
Should use accrual-equivalent returns and after-tax risk
1) Residence-residence = 2 individuals claim residence for the same individual 2) Source-Source = 2 countries claim authority over the same income (i.e. multinational company) 3) Residence-Source = individual is subject to residence jurisdiction and
Demand for life insurance increases
Early career 8accumulating education - developing skills - above-average ability to take risk


44. Living expenses in retirment can be referred to as what?
Methodical - cautious - individualist - spontaneous
Self confident - Gather information from a wide variety of sources to make their own decisions - Willing to take risk
Implied liabilities
Methodical - cautious - individualist - spontaneous


45. What are the 3 categories of investors when discussing concentrated positions?
Lock up period (7-10 yrs) - must hold >20% illiquid assets - lack of control (no changes - manager determines asset mix) - original cost basis
If human capital is equity-like - allocate financial assets more to fixed income - if the human capital is fixed-income like - allocate financial assets more to equities
1) Entrepreneur - large position in 1 private stock 2) Executive - large position in 1 public stock 3) Investor - large positions in 1 successful public stock
Joint ownership with rights of survivorship - living trusts - retirement plans - life insurance - other means that transfer assets without the need for a will


46. What are wealth taxes.
1) Traders (all gains short term) 2) Active investors (less churn - some gains taxed at reduced rates) 3) Passive investor (buy and hold - most gains are deferred) 4) Exempt investors (no investment taxes)
Single privately-held stock - high degree of control - immature firm - very high unsystematic risk - face significant residual risk - limited or restricted liquidity - zero cost basis in the original investment - desires tax efficient transfer to hei
Multiple-security holding with one superstar - the result is a concentrated equity position - high specific risk - diversifies from concentrated - active and core concentrations into passive index positions
Tax on the entire value of assets held - principal + earnings - not just earnings - has the same effect as an accrual tax - only taxes are paid at a (usually) reduced rate


47. What is the person called that transfers assets through a will?
Most risk averse/least risk tolerant - primary focus is financial security: preservation of wealth - hard to advise - can over-analyze - slow in making decisions and then changing investments - low portfolio turnover/volatility
The testator
Using HIFO accounting - an investor assumes the lot with the highest tax basis was sold to either maximize the loss for harvesting or minimize the taxable gain
- extrepreneurs - for example - are usually familiar with taking business risk - they are willing to take risk b/c they feel they control their business and personal circumstances


48. What are the diffferent types of estate ownership rights?

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49. What is the eifference in willingness to take risk between active and passive wealth creators?
1) revocable trust = the settlor can rescind the trust and resume ownership of the assets 2) irrevocable trust = the settlor relinquishes ownership and control 3) fixed trust = pattern of distributions to the beneficiaris is predetermined by the sett
Active wealth creators typically have an above-avg. willingness to take risk - passive recipients of wealth typically have an average or below-average willingness to take risk
Most risk tolerant - fear that failing to respond to changing market conditions will negatively impact their portfolio - constantly adjust their portfolios in response to changing market conditions - tend to doubt investment advice. - high turnover a
Payments are based on the performance of a mixed-asset class portfolio selected by the investor (client) - investor receives a fixed number of 'units' each period - value of each unit increases (decreases) during periods of rising (falling) market re


50. What are the benefits of an IPS to the adviser?
Can be used for clarification if questions areise about specific invesetment decisions - should outline a process for dispute resolution
The demand for life insurance increases - regardless of age
1. foundation 2. accumulation 3. maintenance 4. distribution
Diligently gather the best possible investment info - tend to be conservative and - since they base decision on facts - they rarely form emotional attachments to investments - continually seek better info to confirm past investment decisions