Private Wealth Management

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• 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. What are the main characteristics of the maintenance phase of life?
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
Retired - focus on lifestyle maintenance and security - preservation of wealth - shortening time horizon and declining risk tolerance
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
1) credit method 2) exemption method 3) deduction method


2. What are the main characteristics of fixed annuities?

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3. What are the main characteristics of variable annuities?

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4. What are the main characteristics of fixed annuities?

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5. What are the advantages of public exchange funds for low basis stock?
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
Sources of wealth - measure of wealth - stage of life
Relies on hard facts -decisions tend to be conservative in nature -more risk averse -thinking/analysis
Immediate diersification - ability to borrow (monetize) - at end of partnership receive proportional share of pool


6. What are the different retirment risks and how can they be hedged?
Upside potential of hedged position limited - regulatory risk (avoid constructive sale - some risk exposure required)
Income rising - assets growing - long time horizon - above-avg. ability to take risk
The demand for life insurance increases - regardless of age
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)


7. What are the different stages of life?
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
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today
Anticipate individual investors' concerns and risk tolerance by specifying the investor's source of wealth - measure or adequacy of wealth in relation to needs - and stage of life -observables - reasonably objective
1) foundation phase 2) accumulation phase 3) maintenance phase 4) distribution phase


8. template for return objective
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) 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
Extra investment value created by effective tax management
To earn a total ______-tax __________ return of ______% covering: -expense 1 -expense 2 -expense n


9. What are the equity holding life risk attributes for an entrepreneur?
Early career 8accumulating education - developing skills - above-average ability to take 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
Upside potential of hedged position limited - regulatory risk (avoid constructive sale - some risk exposure required)
Number of years to retirement/death - investable assets - annual liquidity requirement - specific amount (if any) needed at a future date


10. Human capital is sometimes referred to as what?
Methodical - cautious - individualist - spontaneous
Implied assets
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either
1. foundation 2. accumulation 3. maintenance 4. distribution


11. What progressive tax regimes do not have favorable treatment for interest income/dividend income/capital gains?
- 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
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
1) active 2) passive


12. What is the general relationship between tax drag% and tax rate when capital gains taxes are deferred and B=1; and as investment horizon increases and return increases?
1) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging
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
Extra investment value created by effective tax management
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


13. What is the most common estate planning tool?
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
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
Implied liabilities
A will (also known as a testament)


14. Describe a spontaneous investor personality type.
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
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
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
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


15. What are the four broad categories of investor personality types (BB&K)?
The amount of assets (i.e.present value) necessary to meet all future liabilities
- cautious - methodical - individualistic - spontaneous
A will (also known as a testament)
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


16. What are the different global tax regimes and their respective ordinary income tax structure?
Objectives = required return; risk tolerance - Constraints = time horizon - tax concerns; liquidity needs - legal/regulatory; unique circumstances
A positive relationship
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)
Both increase with longer holding periods and higher returns


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

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18. What risks must be considered when discussing each concentrated investor category?
A will (also known as a testament)
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
Transferring assets directly to a third generation avoids possible double taxation
1) specific risk (unsystematic risk) 2) market risk (systematic risk) 3) residual risk (counterparty risk and regulatory risk)


19. characteristics of distribution phase
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
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
1) specific risk (unsystematic risk) 2) market risk (systematic risk) 3) residual risk (counterparty risk and regulatory risk)
Can be used for clarification if questions areise about specific invesetment decisions - should outline a process for dispute resolution


20. What is the general relationship between tax drag% and tax rate with accrual taxes; and as investment horizon increases and return increases?
Upside potential of hedged position limited - regulatory risk (avoid constructive sale - some risk exposure required)
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
Valuation discounts can reduce the value of wealth transfers - so high net worth indiiduals utilize them whenever possible to minimize transfer taxes
- tax drag% > tax rate - as investment horizon increases - tax drag $ and tax drage % increase - as investment return increases - tax drag $ and tax drag % increase


21. What are the diversification techniques for low basis stock?
1) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging
- 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
- cautious - methodical - individualistic - spontaneous
To earn a total ______-tax __________ return of ______% covering: -expense 1 -expense 2 -expense n


22. Who is responsible for gains/losses in a taxable (accrual taxation) account?
Total wealth = financial assets + human capital
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
Implied liabilities
The government shares in both gains and losses


23. 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
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
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
- cautious - methodical - individualistic - spontaneous


24. What are the advantages of an outright sale of low basis stock?
Excess capital
- gifts to charitable organizations are not taxed - donor is allowed to take a tax deduction in the amount of the gift
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification
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)


25. When should you use a tax-exempt versus a tax-deferred account?
Can be implemented quickly - can facilitate low cost borrowing (to monetize) - borrowing costs may be tax-deductible
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either
The reduction in return caused by the payment of taxes
Client is a foundign family member - the firm still bears the family name - the shares were acquired by a loved one


26. As wealth increases...
Demand for life insurance decreases
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
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


27. What should an investor use in mean-variance optimization
Taxes paid on the gain (long or short position) when an asset is sold or purchased
Should use accrual-equivalent returns and after-tax risk
A will (also known as a testament)
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


28. What are the disadvantages of completion portfolios for low basis stock?
1) credit method 2) exemption method 3) deduction method
The client's psychological profile
Must have a very large portfolio or be willing to borrow - may take a long time to diversifiy completely
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


29. psychological profiling
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
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
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
Retired - focus on lifestyle maintenance and security - preservation of wealth - shortening time horizon and declining risk tolerance


30. What is measure of wealth?
Anticipate individual investors' concerns and risk tolerance by specifying the investor's source of wealth - measure or adequacy of wealth in relation to needs - and stage of life -observables - reasonably objective
Must partner with an outside - unrelated investor - lock up period - taxesdeferred but not avoided - potential regulatory (IRS) risk
- a subjective assessment of financial well-being based on perceived wealth
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


31. What is the general relationship between tax drag% and tax rate when capital gains taxes are deferred and B=1; and as investment horizon increases and return increases?
Transferring assets directly to a third generation avoids possible double taxation
- 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
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
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


32. What are the equity holding life risk attributes for an executive?
Implied assets
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
Demand for life insurance decreases
Joint ownership with rights of survivorship - living trusts - retirement plans - life insurance - other means that transfer assets without the need for a will


33. What is another name for a variable prepaid forward and What is its main purpose?
Must have a very large portfolio or be willing to borrow - may take a long time to diversifiy completely
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
Should use accrual-equivalent returns and after-tax risk
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today


34. What is core capital?
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
The amount of assets (i.e.present value) necessary to meet all future liabilities
HC = PV of future labor income
Demand for insurance decreases; less human capital to replace


35. What are the advantages of the monte carlo approach to portfolio construction?
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
- tax drag% > tax rate - as investment horizon increases - tax drag $ and tax drage % increase - as investment return increases - tax drag $ and tax drag % increase
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
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


36. What are the four broad categories of investor personality types (BB&K)?
- cautious - methodical - individualistic - spontaneous
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
- 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
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today


37. When calculating a required return - you typically must identify what?
Number of years to retirement/death - investable assets - annual liquidity requirement - specific amount (if any) needed at a future date
Objectives = required return; risk tolerance - Constraints = time horizon - tax concerns; liquidity needs - legal/regulatory; unique circumstances
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
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either


38. What is tax alpha?
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
Extra investment value created by effective tax management
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
1) growing the portfolio (capital gains) 2) liquidity needs - total return approach


39. In contrast to standard finance (MPT) - behavioral finance assumes individuals do what?
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
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
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
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


40. What are investment objectives and constraints?
1) Taxes - outright sale produces large capital gains taxes 2) Psychological factors - client might have emotional attachment or not care about diversification
Objectives = required return; risk tolerance - Constraints = time horizon - tax concerns; liquidity needs - legal/regulatory; unique circumstances
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
Demand for life insurance increases


41. Describe asset segregation in a behavioral finance context.
1) active 2) passive
The reduction in return caused by the payment of taxes
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
The more equity-like - the less the demand for life insurance


42. What is HIFO accounting?
Triggers tax on unrealized capital gains - requires liquidity - shares must be publicly traded or have low restrictions on sale
When a decedent leaves no will or if the will is deemed invalid
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


43. What are the main characteristics of chritable gifts?
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
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
- gifts to charitable organizations are not taxed - donor is allowed to take a tax deduction in the amount of the gift
- cautious - methodical - individualistic - spontaneous


44. How is demand for insurance affected by risk tolerance - financial wealth - probability of death - age - and bequest desire?
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
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
1) growing the portfolio (capital gains) 2) liquidity needs - total return approach
Risk tolerance = as risk tolerance increases - demand for life insurance decreases


45. What are the equity holding life risk attributes for an executive?
- 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
1) foundation phase 2) accumulation phase 3) maintenance phase 4) distribution phase
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
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


46. characteristics of accumulation phase
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)
Typically very loyal to the firm - views the concentrated position as a positive - does not desire diversification - b/c feels in control of the future - as entrepreneurs delegate more and more control to others - they strive for more and more divers
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
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


47. Describe asset segregation in a behavioral finance context.
- 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
Risk tolerance = as risk tolerance increases - demand for life insurance decreases
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
Client is a foundign family member - the firm still bears the family name - the shares were acquired by a loved one


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

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49. characteristics of spontaneous investor

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50. psychological profiling
The risk of a premature death with accompanying loss of future human capital
- cautious - methodical - individualistic - spontaneous
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
Young -Building a foundation for future wealth -above avg risk tolerance