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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 benefits of an IPS to the adviser?
The demand for life insurance increases - regardless of age
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
Client is a foundign family member - the firm still bears the family name - the shares were acquired by a loved one

2. When should you use a tax-exempt versus a tax-deferred account?
Wealth attained through inheritance - windfalls - long steady employment - etc. - might have less experience and less understanding of risk/return - might require investment education
The amount of assets (i.e.present value) necessary to meet all future liabilities
The testator
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either

3. What are the different global tax regimes and their respective ordinary income tax structure?
Total wealth = financial assets + human capital
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)
Client is a foundign family member - the firm still bears the family name - the shares were acquired by a loved one
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

4. What is typically considered when imposing an exit tax?
1) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging
Risk tolerance = as risk tolerance increases - demand for life insurance decreases
Sources of wealth - measure of wealth - stage of life
- 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

5. What is the person called that transfers assets through a will?
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
The testator
Must have a very large portfolio or be willing to borrow - may take a long time to diversifiy completely
1) active 2) passive

6. What are investment objectives and constraints?
The demand for life insurance increases - regardless of age
Objectives = required return; risk tolerance - Constraints = time horizon - tax concerns; liquidity needs - legal/regulatory; unique circumstances
Wealth attained through inheritance - windfalls - long steady employment - etc. - might have less experience and less understanding of risk/return - might require investment education
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

7. What are the advantages of private exchange funds for low basis stock?
Hedged with life insurance - think of the life insurance as a replacement for lost human capital
Wealth transfer stage - focus on tax min. with trusts and foundations
Excess capital
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

8. What are the disadvantages of completion portfolios for low basis stock?
Must have a very large portfolio or be willing to borrow - may take a long time to diversifiy completely
- 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
- 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
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today

9. What are the different retirment risks and how can they be hedged?
Demand for life insurance increases
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)
The reduction in return caused by the payment of taxes
INTEREST = heavy interest tax; light capital gain tax DVIDIDEND = heavy capital gain tax; light capital gain tax CAPITAL GAIN = heavy capital gain tax

10. 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
Iinvestors analyze ind. investments on a stand-alone basis - do not consider how the asset will affect portfolio risk and return - manifests itself as mental accounting/pyramiding - lack of diversification
1) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging
Demand for life insurance decreases

11. four types of investors
Taxes paid on the gain (long or short position) when an asset is sold or purchased
Methodical - cautious - individualist - spontaneous
Risk tolerance and decision-making style
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

12. The client's risk tolerance (mostly willingness) is affected by what personal characteristics?
The risk of a premature death with accompanying loss of future human capital
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)
Implied assets
1) source of wealth 2) measure of wealth 3) stage of life

13. What are the advantages of the monte carlo approach to portfolio construction?
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
Risk tolerance and decision-making style
Lock up period (7-10 yrs) - must hold >20% illiquid assets - lack of control (no changes - manager determines asset mix) - original cost basis
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

14. What is the general relationship b/t a client's perception of wealth and risk willingness?
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) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging
A positive relationship
When a decedent leaves no will or if the will is deemed invalid

15. What are the main characteristics of variable annuities?

16. What are the diffferent types of tax jurisdictions?
Methodical - cautious - individualist - spontaneous
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
The risk of a premature death with accompanying loss of future human 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

17. Describe asset segregation in a behavioral finance context.
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
Excess capital
Implied assets

18. What are the different methods of relief from double taxation?
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
1) credit method 2) exemption method 3) deduction method
Early career 8accumulating education - developing skills - above-average ability to take risk
1) growing the portfolio (capital gains) 2) liquidity needs - total return approach

19. What are typical characteristics of passive recipients of wealth?
1) credit method 2) exemption method 3) deduction method
Wealth attained through inheritance - windfalls - long steady employment - etc. - might have less experience and less understanding of risk/return - might require investment education
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
INTEREST = heavy interest tax; light capital gain tax DVIDIDEND = heavy capital gain tax; light capital gain tax CAPITAL GAIN = heavy capital gain tax

20. What are the steps involved in creating an IPS?

21. benefits of IPS to manager
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
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
When a decedent leaves no will or if the will is deemed invalid
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 difference between a deterministic approach and a 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)
Taxes paid on the gain (long or short position) when an asset is sold or purchased
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
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

23. What is core capital?
The amount of assets (i.e.present value) necessary to meet all future liabilities
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
Should use accrual-equivalent returns and after-tax risk
Should use accrual-equivalent returns and after-tax risk

24. What is intestate?
Achieves diversification slowly over time - capital gains taxes avoided to extent of matching gains and harvesting losses
When a decedent leaves no will or if the will is deemed invalid
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
1) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging

25. characteristics of individualist investor
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
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
Self confident - Gather information from a wide variety of sources to make their own decisions - Willing to take risk
Joint ownership with rights of survivorship - living trusts - retirement plans - life insurance - other means that transfer assets without the need for a will

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

27. Any amount above core capital is considered what?
Retired - focus on lifestyle maintenance and security - preservation of wealth - shortening time horizon and declining risk tolerance
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
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
Excess capital

28. What is another name for a variable prepaid forward and What is its main purpose?
1) specific risk (unsystematic risk) 2) market risk (systematic risk) 3) residual risk (counterparty risk and regulatory risk)
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today
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
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

29. How does the nature of human capital affect the demand for life insurance?
Income rising - assets growing - long time horizon - above-avg. ability to take risk
Risk tolerance and decision-making style
The more equity-like - the less the demand for life insurance
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

30. What are the main characteristics of the foundation phase of life?
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
Early career 8accumulating education - developing skills - above-average ability to take risk
Implied liabilities
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

31. What are the benefits of an IPS to the adviser?
Can be used for clarification if questions areise about specific invesetment decisions - should outline a process for dispute resolution
Upside potential of hedged position limited - regulatory risk (avoid constructive sale - some risk exposure required)
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
Sources of wealth - measure of wealth - stage of life

32. What is human capital?
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification
Wealth attained through inheritance - windfalls - long steady employment - etc. - might have less experience and less understanding of risk/return - might require investment education
The more equity-like - the less the demand for life insurance
HC = PV of future labor income

33. characteristics of distribution phase
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
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
Young -Building a foundation for future wealth -above avg risk tolerance
The decedent's estate

34. What are the main characteristics of the foundation phase of life?
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either
Triggers tax on unrealized capital gains - requires liquidity - shares must be publicly traded or have low restrictions on sale
Early career 8accumulating education - developing skills - above-average ability to take risk
Income rising - assets growing - long time horizon - above-avg. ability to take risk

35. Define tax drag.
Demand for insurance decreases; less human capital to replace
The reduction in return caused by the payment of taxes
- 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

36. Describe an individualistic investor personality type.
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)
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
Immediate diersification - ability to borrow (monetize) - at end of partnership receive proportional share of pool
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

37. Who is responsible for gains/losses in a taxable (accrual taxation) account?
The government shares in both gains and losses
1) source of wealth 2) measure of wealth 3) stage of life
1) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging
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

38. What are the advantages of an outright sale of low basis stock?
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
To earn a total ______-tax __________ return of ______% covering: -expense 1 -expense 2 -expense n
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification
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

39. What are ways that individuals can avoid probate?
Immediate diersification - ability to borrow (monetize) - at end of partnership receive proportional share of pool
Joint ownership with rights of survivorship - living trusts - retirement plans - life insurance - other means that transfer assets without the need for a will
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
Young -Building a foundation for future wealth -above avg risk tolerance

40. What is HIFO accounting?
Hedged with life insurance - think of the life insurance as a replacement for lost human capital
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
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
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

41. What are the main characteristics of the accumulation phase of life?
- 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
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
1) growing the portfolio (capital gains) 2) liquidity needs - total return approach
Income rising - assets growing - long time horizon - above-avg. ability to take risk

42. What are the different methods of relief from double taxation?
1) credit method 2) exemption method 3) deduction method
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
Immediate diersification - ability to borrow (monetize) - at end of partnership receive proportional share of pool
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

43. benefits of IPS to client
Must have a very large portfolio or be willing to borrow - may take a long time to diversifiy completely
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
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
Early career 8accumulating education - developing skills - above-average ability to take risk

44. What are investment objectives and constraints?
The decedent's estate
- 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
Objectives = required return; risk tolerance - Constraints = time horizon - tax concerns; liquidity needs - legal/regulatory; unique circumstances
- gifts to charitable organizations are not taxed - donor is allowed to take a tax deduction in the amount of the gift

45. As desire to leave an estate increases...
Upside potential of hedged position limited - regulatory risk (avoid constructive sale - some risk exposure required)
Demand for life insurance increases
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
Taxes paid on the gain (long or short position) when an asset is sold or purchased

46. Investor questionnaires help to determine what?
Risk tolerance and decision-making style
Depends on the investor's goals and time horizon and the volatility the portfolio can bear b/f those goals are jeopardized
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
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

47. 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
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
Sources of wealth - measure of wealth - stage of life
Demand for life insurance decreases

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

49. What are the equity holding life risk attributes for an investor?
Risk tolerance = as risk tolerance increases - demand for life insurance decreases
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
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
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

50. Why would an individual try to use generation skipping in estate planning?
- 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
Relies on hard facts -decisions tend to be conservative in nature -more risk averse -thinking/analysis
The client's psychological profile
Transferring assets directly to a third generation avoids possible double taxation