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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. What are the main characteristics of the maintenance phase of life?
Young -Building a foundation for future wealth -above avg 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
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
Retired - focus on lifestyle maintenance and security - preservation of wealth - shortening time horizon and declining risk tolerance

2. Describe an individualistic investor personality type.
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 testator
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
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

3. What is human capital?
HC = PV of future labor income
The risk of a premature death with accompanying loss of future human capital
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)
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

4. characteristics of maintenance phase
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
Both increase with longer holding periods and higher returns
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) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging

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

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6. What risks must be considered when discussing each concentrated investor category?
Can be used for clarification if questions areise about specific invesetment decisions - should outline a process for dispute resolution
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) specific risk (unsystematic risk) 2) market risk (systematic risk) 3) residual risk (counterparty risk and regulatory risk)
1) source of wealth 2) measure of wealth 3) stage of life

7. Equation for total wealth.
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
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
Total wealth = financial assets + human capital
Early career 8accumulating education - developing skills - above-average ability to take risk

8. What is the eifference in willingness to take risk between active and passive wealth creators?
Lock up period (7-10 yrs) - must hold >20% illiquid assets - lack of control (no changes - manager determines asset mix) - original cost basis
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
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
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

9. As desire to leave an estate increases...
Can be used for clarification if questions areise about specific invesetment decisions - should outline a process for dispute resolution
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
Demand for life insurance increases
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today

10. characteristics of cautious investor

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11. Describe a cautious investor personality type.
Implied assets
The government shares in both gains and losses
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
HC = PV of future labor income

12. What are the advantages of public exchange funds for low basis stock?
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)
The amount of assets (i.e.present value) necessary to meet all future liabilities
Immediate diersification - ability to borrow (monetize) - at end of partnership receive proportional share of pool
Early career 8accumulating education - developing skills - above-average ability to take risk

13. What is intestate?
When a decedent leaves no will or if the will is deemed invalid
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification
- cautious - methodical - individualistic - spontaneous
Retired - focus on lifestyle maintenance and security - preservation of wealth - shortening time horizon and declining risk tolerance

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

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15. What are the different stages of life?
Valuation discounts can reduce the value of wealth transfers - so high net worth indiiduals utilize them whenever possible to minimize transfer taxes
1) foundation phase 2) accumulation phase 3) maintenance phase 4) distribution phase
1) growing the portfolio (capital gains) 2) liquidity needs - total return approach
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

16. What are the equity holding life risk attributes for an executive?
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either
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
Hedged with life insurance - think of the life insurance as a replacement for lost human capital
Early career 8accumulating education - developing skills - above-average ability to take risk

17. Human capital is sometimes referred to as what?
Income rising - assets growing - long time horizon - above-avg. ability to take risk
1. foundation 2. accumulation 3. maintenance 4. distribution
Young -Building a foundation for future wealth -above avg risk tolerance
Implied assets

18. 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
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
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
A will (also known as a testament)

19. What are the advantages of hedging for low basis stock?
Can be used for clarification if questions areise about specific invesetment decisions - should outline a process for dispute resolution
Can be implemented quickly - can facilitate low cost borrowing (to monetize) - borrowing costs may be tax-deductible
Valuation discounts can reduce the value of wealth transfers - so high net worth indiiduals utilize them whenever possible to minimize transfer taxes
Hedged with life insurance - think of the life insurance as a replacement for lost human capital

20. Investor questionnaires help to determine what?
Risk tolerance and decision-making style
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either
Depends on the investor's goals and time horizon and the volatility the portfolio can bear b/f those goals are jeopardized
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

21. Living expenses in retirment can be referred to as what?
1) specific risk (unsystematic risk) 2) market risk (systematic risk) 3) residual risk (counterparty risk and regulatory risk)
Implied liabilities
It is expenseive - time consuming - public
The more equity-like - the less the demand for life insurance

22. Who is responsible for gains/losses in a taxable (accrual taxation) account?
The government shares in both gains and losses
- a subjective assessment of financial well-being based on perceived wealth
Sources of wealth - measure of wealth - stage of life
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

23. Describe biased expectations in a behavioral finance context.
Both increase with longer holding periods and higher returns
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
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
Wealth transfer stage - focus on tax min. with trusts and foundations

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

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25. If human capital is equity-like/fixed-income like - how should you generally allocate financial assets?
- a subjective assessment of financial well-being based on perceived wealth
Income rising - assets growing - long time horizon - above-avg. ability to take risk
Must partner with an outside - unrelated investor - lock up period - taxesdeferred but not avoided - potential regulatory (IRS) 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

26. benefits of IPS to client
- 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
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
Sources of wealth - measure of wealth - stage of life
Must have a very large portfolio or be willing to borrow - may take a long time to diversifiy completely

27. What are the diversification techniques for low basis stock?
- 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
Demand for insurance decreases; less human capital to replace
1) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging
Total wealth = financial assets + human capital

28. What are the main characteristics of the distribution phase of life?
Depends on the investor's goals and time horizon and the volatility the portfolio can bear b/f those goals are jeopardized
Must have a very large portfolio or be willing to borrow - may take a long time to diversifiy completely
Wealth transfer stage - focus on tax min. with trusts and foundations
- 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

29. What is the general relationship b/t a client's perception of wealth and risk willingness?
The government shares in both gains and losses
A positive relationship
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today
Valuation discounts can reduce the value of wealth transfers - so high net worth indiiduals utilize them whenever possible to minimize transfer taxes

30. characteristics of foundation stage
Young -Building a foundation for future wealth -above avg risk tolerance
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
The decedent's estate
Can be used for clarification if questions areise about specific invesetment decisions - should outline a process for dispute resolution

31. 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
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
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
Should use accrual-equivalent returns and after-tax risk

32. 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) Taxes - outright sale produces large capital gains taxes 2) Psychological factors - client might have emotional attachment or not care about diversification
Depends on the investor's goals and time horizon and the volatility the portfolio can bear b/f those goals are jeopardized
Number of years to retirement/death - investable assets - annual liquidity requirement - specific amount (if any) needed at a future date

33. Define tax drag.
The reduction in return caused by the payment of taxes
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
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)
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

34. What are the different types of trusts?
Objectives = required return; risk tolerance - Constraints = time horizon - tax concerns; liquidity needs - legal/regulatory; unique circumstances
1) Taxes - outright sale produces large capital gains taxes 2) Psychological factors - client might have emotional attachment or not care about diversification
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) 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

35. What is the eifference in willingness to take risk between active and passive wealth creators?
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
- a subjective assessment of financial well-being based on perceived wealth
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

36. benefits of IPS to client
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
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
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
Wealth attained through inheritance - windfalls - long steady employment - etc. - might have less experience and less understanding of risk/return - might require investment education

37. What happens to both tax drag $ and tax drag % with holding period changes and return changes?
1) credit method 2) exemption method 3) deduction method
Both increase with longer holding periods and higher returns
1) credit method 2) exemption method 3) deduction method
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

38. What are the disadvantages of public exchange funds for low basis stock?
Hedged with life insurance - think of the life insurance as a replacement for lost human capital
Lock up period (7-10 yrs) - must hold >20% illiquid assets - lack of control (no changes - manager determines asset mix) - original cost basis
1) foundation phase 2) accumulation phase 3) maintenance phase 4) distribution phase
The reduction in return caused by the payment of taxes

39. Describe the equity holding life three stages from the perspective of the stock.
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today
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
Valuation discounts can reduce the value of wealth transfers - so high net worth indiiduals utilize them whenever possible to minimize transfer taxes
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

40. What are the general legal and regulatory considerations for individuals?
- 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
Early career 8accumulating education - developing skills - above-average ability to take risk
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
Transferring assets directly to a third generation avoids possible double taxation

41. What is HIFO accounting?
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
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
Methodical - cautious - individualist - spontaneous
- does not ordinarily exhibit the same attachments to the firm as an entrepreneur or top executive - does not have any degree of control either

42. 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
Valuation discounts can reduce the value of wealth transfers - so high net worth indiiduals utilize them whenever possible to minimize transfer taxes
Valuation discounts can reduce the value of wealth transfers - so high net worth indiiduals utilize them whenever possible to minimize transfer taxes
1) active 2) passive

43. What are the two sources of wealth?
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 decedent's estate
1) active 2) passive
1) source of wealth 2) measure of wealth 3) stage of life

44. What are typical characteristics of active wealth creators?
- 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
Retired - focus on lifestyle maintenance and security - preservation of wealth - shortening time horizon and declining risk tolerance
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
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

45. What are the equity holding life risk attributes for an investor?
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
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) 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
Must partner with an outside - unrelated investor - lock up period - taxesdeferred but not avoided - potential regulatory (IRS) risk

46. Describe asset segregation in a behavioral finance context.
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
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
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
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)

47. What are the different types of trusts?
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) 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
Taxes paid on the gain (long or short position) when an asset is sold or purchased
Transferring assets directly to a third generation avoids possible double taxation

48. What are the advantages 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
Taxes paid on the gain (long or short position) when an asset is sold or purchased
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
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification

49. What are investment objectives and constraints?
The decedent's estate
Objectives = required return; risk tolerance - Constraints = time horizon - tax concerns; liquidity needs - legal/regulatory; unique circumstances
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
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

50. 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
Income rising - assets growing - long time horizon - above-avg. ability to take risk
HC = PV of future labor income
The decedent's estate