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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. characteristics of cautious investor

2. Any amount above core capital is considered what?
Achieves diversification slowly over time - capital gains taxes avoided to extent of matching gains and harvesting losses
Extra investment value created by effective tax management
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
Excess capital

3. As wealth increases...
A will (also known as a testament)
Demand for life insurance decreases
Income rising - assets growing - long time horizon - above-avg. ability to take risk
The decedent's estate

4. What are the diffferent types of tax jurisdictions?
Valuation discounts can reduce the value of wealth transfers - so high net worth indiiduals utilize them whenever possible to minimize transfer taxes
The more equity-like - the less the demand for life insurance
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
- cautious - methodical - individualistic - spontaneous

5. What are the main characteristics of variable annuities?

6. What progressive tax regimes do not have favorable treatment for interest income/dividend income/capital gains?
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
INTEREST = heavy interest tax; light capital gain tax DVIDIDEND = heavy capital gain tax; light capital gain tax CAPITAL GAIN = heavy capital gain tax
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification
- tax drag% > tax rate - as investment horizon increases - tax drag $ and tax drage % increase - as investment return increases - tax drag $ and tax drag % increase

7. What are the problems that financial advisers can face with low basis stock?
Joint ownership with rights of survivorship - living trusts - retirement plans - life insurance - other means that transfer assets without the need for a will
1) Taxes - outright sale produces large capital gains taxes 2) Psychological factors - client might have emotional attachment or not care about diversification
- does not ordinarily exhibit the same attachments to the firm as an entrepreneur or top executive - does not have any degree of control either
- 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

8. Why would someone want to use a valuation discount?
Valuation discounts can reduce the value of wealth transfers - so high net worth indiiduals utilize them whenever possible to minimize transfer taxes
The decedent's estate
Risk tolerance and decision-making style
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

9. Any amount above core capital is considered what?
The decedent's estate
Excess capital
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) foundation phase 2) accumulation phase 3) maintenance phase 4) distribution phase

10. 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
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
When a decedent leaves no will or if the will is deemed invalid
1) growing the portfolio (capital gains) 2) liquidity needs - total return approach

11. What are the advantages of the monte carlo approach to portfolio construction?
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)
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
Transferring assets directly to a third generation avoids possible double taxation
Immediate diersification - ability to borrow (monetize) - at end of partnership receive proportional share of pool

12. What are the advantages of hedging for low basis stock?
To earn a total ______-tax __________ return of ______% covering: -expense 1 -expense 2 -expense n
A positive relationship
Can be implemented quickly - can facilitate low cost borrowing (to monetize) - borrowing costs may be tax-deductible
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

13. As wealth increases...
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
Retired - focus on lifestyle maintenance and security - preservation of wealth - shortening time horizon and declining risk tolerance
Demand for life insurance decreases
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

14. What are the benefits of an IPS to the client?
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
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today
Should use accrual-equivalent returns and after-tax risk
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

15. characteristics of individualist investor
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
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
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

16. four types of investors
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
Demand for insurance decreases; less human capital to replace
Methodical - cautious - individualist - spontaneous
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

17. What are the main characteristics of fixed annuities?

18. How is demand for insurance affected by risk tolerance - financial wealth - probability of death - age - and bequest desire?
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
Objectives = required return; risk tolerance - Constraints = time horizon - tax concerns; liquidity needs - legal/regulatory; unique circumstances
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
Risk tolerance = as risk tolerance increases - demand for life insurance decreases

19. template for return objective
Must partner with an outside - unrelated investor - lock up period - taxesdeferred but not avoided - potential regulatory (IRS) risk
1. foundation 2. accumulation 3. maintenance 4. distribution
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
To earn a total ______-tax __________ return of ______% covering: -expense 1 -expense 2 -expense n

20. What are the main characteristics of chritable gifts?
HC = PV of future labor income
- gifts to charitable organizations are not taxed - donor is allowed to take a tax deduction in the amount of the gift
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
When a decedent leaves no will or if the will is deemed invalid

21. What is intestate?
The client's psychological profile
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
Joint ownership with rights of survivorship - living trusts - retirement plans - life insurance - other means that transfer assets without the need for a will
When a decedent leaves no will or if the will is deemed invalid

22. Living expenses in retirment can be referred to as what?
- gifts to charitable organizations are not taxed - donor is allowed to take a tax deduction in the amount of the gift
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
Implied liabilities
High need for financial security - High need to avoid losses - Don't like to make own investment decisions - Don't trust others to make investment decisions - either - Tend to select least volatile assets - Low asset turnover - Frequently miss invest

23. What are the diffferent types of tax jurisdictions?
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) 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
When a decedent leaves no will or if the will is deemed invalid
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

24. When dealing with low basis stock - emotional issues can arise from what?
Client is a foundign family member - the firm still bears the family name - the shares were acquired by a loved one
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
Taxes paid on the gain (long or short position) when an asset is sold or purchased
1. foundation 2. accumulation 3. maintenance 4. distribution

25. What is core capital?
Demand for life insurance decreases
Client is a foundign family member - the firm still bears the family name - the shares were acquired by a loved one
The amount of assets (i.e.present value) necessary to meet all future liabilities
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

26. What is the eifference in willingness to take risk between active and passive wealth creators?
A will (also known as a testament)
Must partner with an outside - unrelated investor - lock up period - taxesdeferred but not avoided - potential regulatory (IRS) risk
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
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

27. What are the advantages of an outright sale of low basis stock?
The government shares in both gains and losses
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification
A positive relationship
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

28. What are the psychological issues of low basis stock held by an executive?
When a decedent leaves no will or if the will is deemed invalid
The client's psychological profile
- 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
Sources of wealth - measure of wealth - stage of life

29. Human capital is sometimes referred to as what?
1) foundation phase 2) accumulation phase 3) maintenance phase 4) distribution phase
Implied assets
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 rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either

30. What are the main characteristics of the accumulation phase of life?
Income rising - assets growing - long time horizon - above-avg. ability to take risk
1) source of wealth 2) measure of wealth 3) stage of life
- 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
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

31. characteristics of spontaneous investor

32. characteristics of distribution phase
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
The client's psychological profile
It is expenseive - time consuming - public
1) specific risk (unsystematic risk) 2) market risk (systematic risk) 3) residual risk (counterparty risk and regulatory risk)

33. What happens to both tax drag $ and tax drag % with holding period changes and return changes?
- 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
1) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging
Both increase with longer holding periods and higher returns
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

34. What are the disadvantages of hedging for low basis stock?
INTEREST = heavy interest tax; light capital gain tax DVIDIDEND = heavy capital gain tax; light capital gain tax CAPITAL GAIN = heavy capital gain tax
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
Upside potential of hedged position limited - regulatory risk (avoid constructive sale - some risk exposure required)
Transferring assets directly to a third generation avoids possible double taxation

35. What are the different retirment risks and how can they be hedged?
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
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)
- 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) 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

36. Describe asset segregation in a behavioral finance context.
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
Joint ownership with rights of survivorship - living trusts - retirement plans - life insurance - other means that transfer assets without the need for a will
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
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

37. stages of life
High need for financial security - High need to avoid losses - Don't like to make own investment decisions - Don't trust others to make investment decisions - either - Tend to select least volatile assets - Low asset turnover - Frequently miss invest
1. foundation 2. accumulation 3. maintenance 4. distribution
Sources of wealth - measure of wealth - stage of life
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

38. Describe biased expectations in a behavioral finance context.
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 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
Wealth transfer stage - focus on tax min. with trusts and foundations
Methodical - cautious - individualist - spontaneous

39. Describe asset segregation in a behavioral finance context.
- cautious - methodical - individualistic - spontaneous
Sources of wealth - measure of wealth - stage of life
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today
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. The client's risk tolerance (mostly willingness) is affected by what personal characteristics?
Wealth transfer stage - focus on tax min. with trusts and foundations
Triggers tax on unrealized capital gains - requires liquidity - shares must be publicly traded or have low restrictions on sale
It is expenseive - time consuming - public
1) source of wealth 2) measure of wealth 3) stage of life

41. Generally - how does portfolio size - liquidity - time horizon - and/or importance of spending affect ability to tolerate risk?
1) active 2) passive
Immediate diersification - ability to borrow (monetize) - at end of partnership receive proportional share of pool
Excess capital
Portfolio size incr. = ability up - Liquidity needs up = ability down - Time horizon up = ability up - Spending importance down = ability up

42. What is an equity collar? What is the purpose of the underlying 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
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today
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
The more equity-like - the less the demand for life insurance

43. characteristics of spontaneous investor

44. What are the equity holding life risk attributes for an investor?
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
Implied assets
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
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

45. All costs associated with probate are born by whom?

46. Describe biased expectations in a behavioral finance context.
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
Implied liabilities
The amount of assets (i.e.present value) necessary to meet all future liabilities
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

47. What are the advantages of private exchange funds for low basis stock?
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
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
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 government shares in both gains and losses

48. What are the disadvantages of completion portfolios for low basis stock?
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
Must have a very large portfolio or be willing to borrow - may take a long time to diversifiy completely
Demand for life insurance increases
Triggers tax on unrealized capital gains - requires liquidity - shares must be publicly traded or have low restrictions on sale

49. How is demand for insurance affected by risk tolerance - financial wealth - probability of death - age - and bequest desire?
Risk tolerance = as risk tolerance increases - demand for life insurance decreases
1) growing the portfolio (capital gains) 2) liquidity needs - total return approach
1) credit method 2) exemption method 3) deduction method
Lock up period (7-10 yrs) - must hold >20% illiquid assets - lack of control (no changes - manager determines asset mix) - original cost basis

50. In contrast to standard finance (MPT) - behavioral finance assumes individuals do what?
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) growing the portfolio (capital gains) 2) liquidity needs - total return approach
Risk tolerance and decision-making style
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