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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 advantages of an outright sale of low basis stock?
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification
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
Excess capital
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

2. Living expenses in retirment can be referred to as what?
Risk tolerance and decision-making style
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today
Implied liabilities
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

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

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4. How is demand for insurance affected by risk tolerance - financial wealth - probability of death - age - and bequest desire?
- 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
- 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
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
Risk tolerance = as risk tolerance increases - demand for life insurance decreases

5. Why do individuals often take steps to avoid probate?
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
Wealth attained through inheritance - windfalls - long steady employment - etc. - might have less experience and less understanding of risk/return - might require investment education
It is expenseive - time consuming - public
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either

6. characteristics of maintenance phase
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
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
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 government shares in both gains and losses

7. What are the four broad categories of investor personality types (BB&K)?
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
- 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
Demand for insurance decreases; less human capital to replace
- cautious - methodical - individualistic - spontaneous

8. What risks must be considered when discussing each concentrated investor category?
To earn a total ______-tax __________ return of ______% covering: -expense 1 -expense 2 -expense n
1) specific risk (unsystematic risk) 2) market risk (systematic risk) 3) residual risk (counterparty risk and regulatory risk)
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
The risk of a premature death with accompanying loss of future human capital

9. What are the diffferent types of tax jurisdictions?
Self confident - Gather information from a wide variety of sources to make their own decisions - Willing to take risk
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
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
Can be used for clarification if questions areise about specific invesetment decisions - should outline a process for dispute resolution

10. What are the different global tax regimes and their respective ordinary income tax structure?
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
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
Methodical - cautious - individualist - spontaneous
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)

11. What are the two sources of wealth?
Valuation discounts can reduce the value of wealth transfers - so high net worth indiiduals utilize them whenever possible to minimize transfer taxes
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today
Determine: the client's contraints - as well as risk/return objectives - the best strategy - given capital market expectations for achieving the client's objectives - the appropriate strategic (long term) asset allocation which meets those goals
1) active 2) passive

12. What are the different stages of life?
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
Multiple-security holding with one superstar - the result is a concentrated equity position - high specific risk - diversifies from concentrated - active and core concentrations into passive index positions
1) foundation phase 2) accumulation phase 3) maintenance phase 4) distribution phase
The decedent's estate

13. What is the most common estate planning tool?
- 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
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
A will (also known as a testament)
The government shares in both gains and losses

14. typical IPS elements
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
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
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
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

15. What is the eifference in willingness to take risk between active and passive wealth creators?
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 partner with an outside - unrelated investor - lock up period - taxesdeferred but not avoided - potential regulatory (IRS) risk
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
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

16. What happens to both tax drag $ and tax drag % with holding period changes and return changes?
Both increase with longer holding periods and higher returns
Relies on hard facts -decisions tend to be conservative in nature -more risk averse -thinking/analysis
Implied assets
It is expenseive - time consuming - public

17. What are typical characteristics of passive recipients of wealth?
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
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
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 attained through inheritance - windfalls - long steady employment - etc. - might have less experience and less understanding of risk/return - might require investment education

18. The client's risk tolerance (mostly willingness) is affected by what personal characteristics?
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
The risk of a premature death with accompanying loss of future human capital
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

19. What are the main characteristics of fixed annuities?

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20. As probability of death increases...
- 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
Hedged with life insurance - think of the life insurance as a replacement for lost human capital
The demand for life insurance increases - regardless of age
Methodical - cautious - individualist - spontaneous

21. How is mortality risk typically hedged?
Hedged with life insurance - think of the life insurance as a replacement for lost human capital
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
Depends on the investor's goals and time horizon and the volatility the portfolio can bear b/f those goals are jeopardized
1) foundation phase 2) accumulation phase 3) maintenance phase 4) distribution phase

22. What are the benefits of an IPS to the client?
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
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
The decedent's estate
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

23. What are the psychological issues of low basis stock held by an entrepreneur?
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
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
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
Client is a foundign family member - the firm still bears the family name - the shares were acquired by a loved one

24. situational profiling - considerations
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
Methodical - cautious - individualist - spontaneous
Sources of wealth - measure of wealth - stage of life
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

25. What are the advantages of the monte carlo approach to portfolio construction?
A will (also known as a testament)
Income rising - assets growing - long time horizon - above-avg. ability to take risk
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
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

26. characteristics of spontaneous investor

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27. Calculating the required return component is driven by what 2 elements?
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
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
- a subjective assessment of financial well-being based on perceived wealth
1) growing the portfolio (capital gains) 2) liquidity needs - total return approach

28. Living expenses in retirment can be referred to as what?
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
Implied liabilities
Must partner with an outside - unrelated investor - lock up period - taxesdeferred but not avoided - potential regulatory (IRS) risk
The amount of assets (i.e.present value) necessary to meet all future liabilities

29. characteristics of individualist investor
The testator
Self confident - Gather information from a wide variety of sources to make their own decisions - Willing to take risk
Relies on hard facts -decisions tend to be conservative in nature -more risk averse -thinking/analysis
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

30. What are the main types of investors?
1) growing the portfolio (capital gains) 2) liquidity needs - total return approach
Early career 8accumulating education - developing skills - above-average ability to take risk
Implied liabilities
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)

31. Describe biased expectations in a behavioral finance context.
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)
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
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
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

32. How does the nature of human capital affect the demand for life insurance?
1. foundation 2. accumulation 3. maintenance 4. distribution
- 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
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

33. What is intestate?
Should use accrual-equivalent returns and after-tax risk
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
Early career 8accumulating education - developing skills - above-average ability to take risk
When a decedent leaves no will or if the will is deemed invalid

34. Describe an individualistic investor personality type.
Diligently gather the best possible investment info - tend to be conservative and - since they base decision on facts - they rarely form emotional attachments to investments - continually seek better info to confirm past investment decisions
It is expenseive - time consuming - public
Taxes paid on the gain (long or short position) when an asset is sold or purchased
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

35. What are the equity holding life risk attributes for an investor?
The demand for life insurance increases - regardless of age
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
Relies on hard facts -decisions tend to be conservative in nature -more risk averse -thinking/analysis
Wealth attained through inheritance - windfalls - long steady employment - etc. - might have less experience and less understanding of risk/return - might require investment education

36. template for return objective
Joint ownership with rights of survivorship - living trusts - retirement plans - life insurance - other means that transfer assets without the need for a will
Implied assets
To earn a total ______-tax __________ return of ______% covering: -expense 1 -expense 2 -expense n
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. What are the main characteristics of the distribution phase of life?
Wealth transfer stage - focus on tax min. with trusts and foundations
INTEREST = heavy interest tax; light capital gain tax DVIDIDEND = heavy capital gain tax; light capital gain tax CAPITAL GAIN = heavy capital gain tax
1) source of wealth 2) measure of wealth 3) stage of life
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

38. Describe the different types of double taxation conflicts.
1) Taxes - outright sale produces large capital gains taxes 2) Psychological factors - client might have emotional attachment or not care about diversification
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
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
Young -Building a foundation for future wealth -above avg risk tolerance

39. What are typical characteristics of passive recipients of wealth?
Implied liabilities
Wealth attained through inheritance - windfalls - long steady employment - etc. - might have less experience and less understanding of risk/return - might require investment education
Early career 8accumulating education - developing skills - above-average ability 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

40. What are wealth taxes.
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
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
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

41. What are the disadvantages of public exchange funds for low basis stock?
Transferring assets directly to a third generation avoids possible double taxation
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
Lock up period (7-10 yrs) - must hold >20% illiquid assets - lack of control (no changes - manager determines asset mix) - original cost basis
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

42. characteristics of methodical investor
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
Relies on hard facts -decisions tend to be conservative in nature -more risk averse -thinking/analysis
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
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. Describe an individualistic investor personality type.
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
Number of years to retirement/death - investable assets - annual liquidity requirement - specific amount (if any) needed at a future date
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
Must have a very large portfolio or be willing to borrow - may take a long time to diversifiy completely

44. What are the equity holding life risk attributes for an entrepreneur?
The testator
The more equity-like - the less the demand for life insurance
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
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

45. What are the main characteristics of the accumulation phase of life?
- a subjective assessment of financial well-being based on perceived wealth
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)
Income rising - assets growing - long time horizon - above-avg. ability to take risk
Both increase with longer holding periods and higher returns

46. four types of investors
Methodical - cautious - individualist - spontaneous
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
Triggers tax on unrealized capital gains - requires liquidity - shares must be publicly traded or have low restrictions on sale
Excess capital

47. Generally - how does portfolio size - liquidity - time horizon - and/or importance of spending affect ability to tolerate risk?
Taxes paid on the gain (long or short position) when an asset is sold or purchased
Wealth attained through inheritance - windfalls - long steady employment - etc. - might have less experience and less understanding of risk/return - might require investment education
Lock up period (7-10 yrs) - must hold >20% illiquid assets - lack of control (no changes - manager determines asset mix) - original cost basis
Portfolio size incr. = ability up - Liquidity needs up = ability down - Time horizon up = ability up - Spending importance down = ability up

48. What is core capital?
1) specific risk (unsystematic risk) 2) market risk (systematic risk) 3) residual risk (counterparty risk and regulatory risk)
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
The amount of assets (i.e.present value) necessary to meet all future liabilities
To earn a total ______-tax __________ return of ______% covering: -expense 1 -expense 2 -expense n

49. What are the problems that financial advisers can face with low basis stock?
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
1) Taxes - outright sale produces large capital gains taxes 2) Psychological factors - client might have emotional attachment or not care about diversification
Young -Building a foundation for future wealth -above avg 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

50. What are the diversification techniques for low basis stock?
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
1) growing the portfolio (capital gains) 2) liquidity needs - total return approach
1. foundation 2. accumulation 3. maintenance 4. distribution
1) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging