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Private Wealth Management

Subjects : personal-finance, business-skills

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. sources of wealth
Can be implemented quickly - can facilitate low cost borrowing (to monetize) - borrowing costs may be tax-deductible
Income rising - assets growing - long time horizon - above-avg. ability to take risk
The demand for life insurance increases - regardless of age
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

2. benefits of IPS to manager
1) active 2) passive
The client's psychological profile
A will (also known as a testament)
Provides clarification in the event of questions regarding suitability -process for resolution of disputes with client -helps identify issues to be resolved to avoid problems

3. Describe the equity holding life three stages from the perspective of the stock.
Number of years to retirement/death - investable assets - annual liquidity requirement - specific amount (if any) needed at a future date
The government shares in both gains and losses
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
Starts as a private stock held by an entrepreneur - Sold publicly in IPO (now held by exec - still major part of wealth - less specific risk b/c more mature) - Contributes less and less specific risk as other securities are added to portfolio - ends

4. What are the disadvantages of an outright sale of low basis stock?
Triggers tax on unrealized capital gains - requires liquidity - shares must be publicly traded or have low restrictions on sale
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
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)
Risk tolerance = as risk tolerance increases - demand for life insurance decreases

5. What happens to both tax drag $ and tax drag % with holding period changes and return changes?
Acts as an operational guideline that represents the long-term - best interests of the investor - the process is dynamic and can incorporate changed circumstances (review at least annually) - the IPS allows continuity over time and portability to new
Forced heirship rules (children have the right to parents' estate) - community property rights (each spouse has right to 1/2 the estate) - separate property rights (each spouse's estate considered separately)
Both increase with longer holding periods and higher returns
- cautious - methodical - individualistic - spontaneous

6. What are the disadvantages of public exchange funds for low basis stock?
Lock up period (7-10 yrs) - must hold >20% illiquid assets - lack of control (no changes - manager determines asset mix) - original cost basis
The client's psychological profile
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
The client's psychological profile

7. What is the general relationship b/t a client's perception of wealth and risk willingness?
Income rising - assets growing - long time horizon - above-avg. ability to take risk
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
A positive relationship
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either

8. What are the problems that financial advisers can face with low basis stock?
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
A will (also known as a testament)
1) Taxes - outright sale produces large capital gains taxes 2) Psychological factors - client might have emotional attachment or not care about diversification
Wealth attained through inheritance - windfalls - long steady employment - etc. - might have less experience and less understanding of risk/return - might require investment education

9. What is the difference between a deterministic approach and a monte carlo approach to portfolio construction?
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
HC = PV of future labor income
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today
More risk toelrant than than methodical investors - do their own research; very confident in their ability to make investment decisions - confidence in their ability to achieve their long-term investment objectives - unlike methodical investors - th

10. characteristics of distribution phase
1) Taxes - outright sale produces large capital gains taxes 2) Psychological factors - client might have emotional attachment or not care about diversification
Implied assets
Retirement -Wealth has been accumulated -Liabilities paid off -Investor looking to live off of portfolio and/or considering distributions to others -need + ability to bear risk really starts to decline
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

11. What are the diffferent types of tax jurisdictions?
Depends on the investor's goals and time horizon and the volatility the portfolio can bear b/f those goals are jeopardized
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
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

12. What are the different types of trusts?
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
- gifts to charitable organizations are not taxed - donor is allowed to take a tax deduction in the amount of the gift
Retirement -Wealth has been accumulated -Liabilities paid off -Investor looking to live off of portfolio and/or considering distributions to others -need + ability to bear risk really starts to decline
Upside potential of hedged position limited - regulatory risk (avoid constructive sale - some risk exposure required)

13. What is the difference b/t a required and desired return objective?

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14. As wealth increases...
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
Self confident - Gather information from a wide variety of sources to make their own decisions - Willing to take risk
Demand for life insurance decreases
Depends on the investor's goals and time horizon and the volatility the portfolio can bear b/f those goals are jeopardized

15. Why do individuals often take steps to avoid probate?
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)
It is expenseive - time consuming - public
- tax drag% > tax rate - as investment horizon increases - tax drag $ and tax drage % increase - as investment return increases - tax drag $ and tax drag % increase
Client is a foundign family member - the firm still bears the family name - the shares were acquired by a loved one

16. What are the two sources of wealth?
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
Lock up period (7-10 yrs) - must hold >20% illiquid assets - lack of control (no changes - manager determines asset mix) - original cost basis
The client's psychological profile
1) active 2) passive

17. How is mortality risk typically hedged?
Must partner with an outside - unrelated investor - lock up period - taxesdeferred but not avoided - potential regulatory (IRS) risk
Self confident - Gather information from a wide variety of sources to make their own decisions - Willing to take risk
Hedged with life insurance - think of the life insurance as a replacement for lost human capital
1) credit method 2) exemption method 3) deduction method

18. Who is responsible for gains/losses in a taxable (accrual taxation) account?
The testator
The government shares in both gains and losses
Long stock position + long put + short call - long put protects downside (like purchasing insurance) - short call generates income to at least partially offset the cost of the put
1) credit method 2) exemption method 3) deduction method

19. What is the eifference in willingness to take risk between active and passive wealth creators?
Valuation discounts can reduce the value of wealth transfers - so high net worth indiiduals utilize them whenever possible to minimize transfer taxes
Investors have too much confidence in their ability to forecast - they tend to discount or even ignore info that does not support their choices - they interpret info based on their current frame of mind and the medium through which it is received
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
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification

20. Any amount above core capital is considered what?
Forced heirship rules (children have the right to parents' estate) - community property rights (each spouse has right to 1/2 the estate) - separate property rights (each spouse's estate considered separately)
- Deemed disposition = amount is usually based on the gains on assets leaving - as if the individuals sold the assets and realized the gains - Shadow period = could include a tax on income earned for a period after leaving
HC = PV of future labor income
Excess capital

21. How does the nature of human capital affect the demand for life insurance?
- 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
Provides clarification in the event of questions regarding suitability -process for resolution of disputes with client -helps identify issues to be resolved to avoid problems
The more equity-like - the less the demand for life insurance
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

22. What is the person called that transfers assets through a will?
Portfolio size incr. = ability up - Liquidity needs up = ability down - Time horizon up = ability up - Spending importance down = ability up
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
The risk of a premature death with accompanying loss of future human capital

23. benefits of IPS to client
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
A positive relationship
The testator
Implied assets

24. What are the general legal and regulatory considerations for individuals?
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
Starts as a private stock held by an entrepreneur - Sold publicly in IPO (now held by exec - still major part of wealth - less specific risk b/c more mature) - Contributes less and less specific risk as other securities are added to portfolio - ends
1) source of wealth 2) measure of wealth 3) stage of life
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

25. characteristics of accumulation phase
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
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
Relies on hard facts -decisions tend to be conservative in nature -more risk averse -thinking/analysis

26. characteristics of individualist investor
Can be implemented quickly - can facilitate low cost borrowing (to monetize) - borrowing costs may be tax-deductible
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
Can be used for clarification if questions areise about specific invesetment decisions - should outline a process for dispute resolution
Self confident - Gather information from a wide variety of sources to make their own decisions - Willing to take risk

27. What are the different stages of life?
Risk tolerance = as risk tolerance increases - demand for life insurance decreases
Starts as a private stock held by an entrepreneur - Sold publicly in IPO (now held by exec - still major part of wealth - less specific risk b/c more mature) - Contributes less and less specific risk as other securities are added to portfolio - ends
Objectives = required return; risk tolerance - Constraints = time horizon - tax concerns; liquidity needs - legal/regulatory; unique circumstances
1) foundation phase 2) accumulation phase 3) maintenance phase 4) distribution phase

28. What risks must be considered when discussing each concentrated investor category?
1) foundation phase 2) accumulation phase 3) maintenance phase 4) distribution phase
Risk tolerance and decision-making style
1) specific risk (unsystematic risk) 2) market risk (systematic risk) 3) residual risk (counterparty risk and regulatory 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

29. What are the diversification techniques for low basis stock?
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
Lock up period (7-10 yrs) - must hold >20% illiquid assets - lack of control (no changes - manager determines asset mix) - original cost basis
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) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging

30. The client's risk tolerance (mostly willingness) is affected by what personal characteristics?
Can be implemented quickly - can facilitate low cost borrowing (to monetize) - borrowing costs may be tax-deductible
1) source of wealth 2) measure of wealth 3) stage of life
More subjective than situational profiling -helps to understand how an investor perceives risk and return. -Bridges the differences between traditional finance and behavioral finance -Methodical - cautious - individualist - spontaneous
Depends on the investor's goals and time horizon and the volatility the portfolio can bear b/f those goals are jeopardized

31. What are the main characteristics of the foundation phase of life?
Early career 8accumulating education - developing skills - above-average ability to take risk
The decedent's estate
Self confident - Gather information from a wide variety of sources to make their own decisions - Willing to take risk
- gifts to charitable organizations are not taxed - donor is allowed to take a tax deduction in the amount of the gift

32. What are the benefits of an IPS to the adviser?
- tax drag% > tax rate - as investment horizon increases - tax drag $ and tax drage % increase - as investment return increases - tax drag $ and tax drag % increase
Portfolio size incr. = ability up - Liquidity needs up = ability down - Time horizon up = ability up - Spending importance down = ability up
Investors have too much confidence in their ability to forecast - they tend to discount or even ignore info that does not support their choices - they interpret info based on their current frame of mind and the medium through which it is received
Can be used for clarification if questions areise about specific invesetment decisions - should outline a process for dispute resolution

33. What are the disadvantages of hedging for low basis stock?
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
More risk toelrant than than methodical investors - do their own research; very confident in their ability to make investment decisions - confidence in their ability to achieve their long-term investment objectives - unlike methodical investors - th
Wealth transfer stage - focus on tax min. with trusts and foundations
Upside potential of hedged position limited - regulatory risk (avoid constructive sale - some risk exposure required)

34. What is the most common estate planning tool?
- cautious - methodical - individualistic - spontaneous
- gifts to charitable organizations are not taxed - donor is allowed to take a tax deduction in the amount of the gift
Must have a very large portfolio or be willing to borrow - may take a long time to diversifiy completely
A will (also known as a testament)

35. What are the general legal and regulatory considerations for individuals?
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
1) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging
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)
Demand for life insurance increases

36. characteristics of accumulation phase
The testator
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
1. foundation 2. accumulation 3. maintenance 4. distribution
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

37. What are typical characteristics of active wealth creators?
When a decedent leaves no will or if the will is deemed invalid
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
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)
- 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

38. How is demand for insurance affected by risk tolerance - financial wealth - probability of death - age - and bequest desire?
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today
Risk tolerance = as risk tolerance increases - demand for life insurance decreases
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
The amount of assets (i.e.present value) necessary to meet all future liabilities

39. What are the four broad categories of investor personality types (BB&K)?
- cautious - methodical - individualistic - spontaneous
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
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
1) active 2) passive

40. characteristics of spontaneous investor

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41. What is mortality risk?
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
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
The risk of a premature death with accompanying loss of future human capital
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)

42. What are the main characteristics of the distribution phase of life?
Provides clarification in the event of questions regarding suitability -process for resolution of disputes with client -helps identify issues to be resolved to avoid problems
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification
Wealth transfer stage - focus on tax min. with trusts and foundations
- 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

43. Describe asset segregation in a behavioral finance context.
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
- if you sell a security to harvest its loss and then reinvest the proceeds in a very similar security - the selling price fo the old security becomes the tax basis for the new security - in that case - the loss harvest only delays the payment of t
Extra investment value created by effective tax management
Retired - focus on lifestyle maintenance and security - preservation of wealth - shortening time horizon and declining risk tolerance

44. 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)
Income rising - assets growing - long time horizon - above-avg. ability to take risk
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
1) active 2) passive

45. Describe a spontaneous investor personality type.
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
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
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
Early career 8accumulating education - developing skills - above-average ability to take risk

46. Describe a methodical investor personality type.
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
Must partner with an outside - unrelated investor - lock up period - taxesdeferred but not avoided - potential regulatory (IRS) risk
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
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

47. What are the 3 categories of investors when discussing concentrated positions?
Long stock position + long put + short call - long put protects downside (like purchasing insurance) - short call generates income to at least partially offset the cost of the put
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)
Risk tolerance = as risk tolerance increases - demand for life insurance decreases
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

48. What is another name for a variable prepaid forward and What is its main purpose?
The more equity-like - the less the demand for life insurance
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today
INTEREST = heavy interest tax; light capital gain tax DVIDIDEND = heavy capital gain tax; light capital gain tax CAPITAL GAIN = heavy capital gain tax
Long stock position + long put + short call - long put protects downside (like purchasing insurance) - short call generates income to at least partially offset the cost of the put

49. What are the main characteristics of chritable gifts?
- gifts to charitable organizations are not taxed - donor is allowed to take a tax deduction in the amount of the gift
Joint ownership with rights of survivorship - living trusts - retirement plans - life insurance - other means that transfer assets without the need for a will
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
The decedent's estate

50. Describe biased expectations in a behavioral finance context.
The reduction in return caused by the payment of taxes
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification
Investors have too much confidence in their ability to forecast - they tend to discount or even ignore info that does not support their choices - they interpret info based on their current frame of mind and the medium through which it is received