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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. Generally - how does portfolio size - liquidity - time horizon - and/or importance of spending affect ability to tolerate risk?
Should use accrual-equivalent returns and after-tax risk
- 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
1) Taxes - outright sale produces large capital gains taxes 2) Psychological factors - client might have emotional attachment or not care about diversification
Portfolio size incr. = ability up - Liquidity needs up = ability down - Time horizon up = ability up - Spending importance down = ability up

2. 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
Wealth transfer stage - focus on tax min. with trusts and foundations
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
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)

3. In contrast to standard finance (MPT) - behavioral finance assumes individuals do what?
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
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
Total wealth = financial assets + human capital
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

4. Describe the equity holding life three stages from the perspective of the stock.
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
Excess capital
A will (also known as a testament)
Joint ownership with rights of survivorship - living trusts - retirement plans - life insurance - other means that transfer assets without the need for a will

5. 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
Early career 8accumulating education - developing skills - above-average ability to take risk
Triggers tax on unrealized capital gains - requires liquidity - shares must be publicly traded or have low restrictions on sale
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

6. What are the 3 categories of investors when discussing concentrated positions?
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
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
1) credit method 2) exemption method 3) deduction method
- a subjective assessment of financial well-being based on perceived wealth

7. What are the diversification techniques for low basis stock?
Demand for life insurance increases
Methodical - cautious - individualist - spontaneous
Number of years to retirement/death - investable assets - annual liquidity requirement - specific amount (if any) needed at a future date
1) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging

8. What is the person called that transfers assets through a will?
- does not ordinarily exhibit the same attachments to the firm as an entrepreneur or top executive - does not have any degree of control either
Extra investment value created by effective tax management
The testator
Number of years to retirement/death - investable assets - annual liquidity requirement - specific amount (if any) needed at a future date

9. characteristics of foundation stage
Upside potential of hedged position limited - regulatory risk (avoid constructive sale - some risk exposure required)
Early career 8accumulating education - developing skills - above-average ability to take risk
Young -Building a foundation for future wealth -above avg risk tolerance
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

10. What is the general relationship between tax drag% and tax rate when capital gains taxes are deferred and B=1; and as investment horizon increases and return increases?
A will (also known as a testament)
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
The risk of a premature death with accompanying loss of future human capital
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

11. What are investment objectives and constraints?
Young -Building a foundation for future wealth -above avg risk tolerance
Self confident - Gather information from a wide variety of sources to make their own decisions - Willing to take risk
- 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
Objectives = required return; risk tolerance - Constraints = time horizon - tax concerns; liquidity needs - legal/regulatory; unique circumstances

12. What happens to both tax drag $ and tax drag % with holding period changes and return changes?
Young -Building a foundation for future wealth -above avg risk tolerance
Both increase with longer holding periods and higher returns
Valuation discounts can reduce the value of wealth transfers - so high net worth indiiduals utilize them whenever possible to minimize transfer taxes
Objectives = required return; risk tolerance - Constraints = time horizon - tax concerns; liquidity needs - legal/regulatory; unique circumstances

13. Define capital gains taxes.
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)
Implied assets
Taxes paid on the gain (long or short position) when an asset is sold or purchased
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either

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

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15. What are the diversification techniques for 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
- cautious - methodical - individualistic - spontaneous
1) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging
- cautious - methodical - individualistic - spontaneous

16. The client's risk tolerance (mostly willingness) is affected by what personal characteristics?
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
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
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) source of wealth 2) measure of wealth 3) stage of life

17. What is another name for a variable prepaid forward and What is its main purpose?
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today
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
Provides clarification in the event of questions regarding suitability -process for resolution of disputes with client -helps identify issues to be resolved to avoid problems
1) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging

18. Equation for total wealth.
Total wealth = financial assets + human capital
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
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
INTEREST = heavy interest tax; light capital gain tax DVIDIDEND = heavy capital gain tax; light capital gain tax CAPITAL GAIN = heavy capital gain tax

19. Why would an individual try to use generation skipping in estate planning?
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
1) Taxes - outright sale produces large capital gains taxes 2) Psychological factors - client might have emotional attachment or not care about diversification
Can be implemented quickly - can facilitate low cost borrowing (to monetize) - borrowing costs may be tax-deductible
Transferring assets directly to a third generation avoids possible double taxation

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

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21. What are the main types of investors?
Risk tolerance = as risk tolerance increases - demand for life insurance decreases
A positive relationship
The amount of assets (i.e.present value) necessary to meet all future 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)

22. What are ways that individuals can avoid probate?
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
Joint ownership with rights of survivorship - living trusts - retirement plans - life insurance - other means that transfer assets without the need for a will
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
- gifts to charitable organizations are not taxed - donor is allowed to take a tax deduction in the amount of the gift

23. As age increases..
Implied assets
- tax drag% > tax rate - as investment horizon increases - tax drag $ and tax drage % increase - as investment return increases - tax drag $ and tax drag % increase
Demand for insurance decreases; less human capital to replace
Demand for life insurance decreases

24. What are the problems that financial advisers can face with low basis stock?
It is expenseive - time consuming - public
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
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

25. 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
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification
Must have a very large portfolio or be willing to borrow - may take a long time to diversifiy completely
- 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

26. characteristics of individualist investor
Extra investment value created by effective tax management
Can be implemented quickly - can facilitate low cost borrowing (to monetize) - borrowing costs may be tax-deductible
Self confident - Gather information from a wide variety of sources to make their own decisions - Willing to take risk
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

27. What are the disadvantages of an outright sale of low basis stock?
Extra investment value created by effective tax management
1) specific risk (unsystematic risk) 2) market risk (systematic risk) 3) residual risk (counterparty risk and regulatory risk)
Triggers tax on unrealized capital gains - requires liquidity - shares must be publicly traded or have low restrictions on sale
Depends on the investor's goals and time horizon and the volatility the portfolio can bear b/f those goals are jeopardized

28. Living expenses in retirment can be referred to as what?
Achieves diversification slowly over time - capital gains taxes avoided to extent of matching gains and harvesting losses
Implied liabilities
Retired - focus on lifestyle maintenance and security - preservation of wealth - shortening time horizon and declining risk tolerance
1) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging

29. sources of wealth
Sources of wealth - measure of wealth - stage of life
The amount of assets (i.e.present value) necessary to meet all future liabilities
Wealth transfer stage - focus on tax min. with trusts and foundations
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

30. When should you use a tax-exempt versus a tax-deferred account?
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
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either
Can be implemented quickly - can facilitate low cost borrowing (to monetize) - borrowing costs may be tax-deductible
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

31. What is the most common estate planning tool?
Can be used for clarification if questions areise about specific invesetment decisions - should outline a process for dispute resolution
Both increase with longer holding periods and higher returns
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
A will (also known as a testament)

32. What are the different methods of relief from double taxation?
Upside potential of hedged position limited - regulatory risk (avoid constructive sale - some risk exposure required)
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
1) credit method 2) exemption method 3) deduction method
Implied assets

33. What are wealth taxes.
HC = PV of future labor income
Income rising - assets growing - long time horizon - above-avg. ability to take risk
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
Demand for insurance decreases; less human capital to replace

34. How is demand for insurance affected by risk tolerance - financial wealth - probability of death - age - and bequest desire?
1. foundation 2. accumulation 3. maintenance 4. distribution
Extra investment value created by effective tax management
Risk tolerance = as risk tolerance increases - demand for life insurance decreases
Young -Building a foundation for future wealth -above avg risk tolerance

35. Define tax drag.
The reduction in return caused by the payment of taxes
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)
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
Sources of wealth - measure of wealth - stage of life

36. 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
When a decedent leaves no will or if the will is deemed invalid
A will (also known as a testament)
1) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging

37. What are the different global tax regimes and their respective ordinary income tax structure?
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) 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)
When a decedent leaves no will or if the will is deemed invalid
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

38. What are the disadvantages of private exchange funds for low basis stock?
Sources of wealth - measure of wealth - stage of life
Must partner with an outside - unrelated investor - lock up period - taxesdeferred but not avoided - potential regulatory (IRS) risk
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
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

39. What are the main characteristics of variable annuities?

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40. characteristics of accumulation phase
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
1. foundation 2. accumulation 3. maintenance 4. distribution
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
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification

41. What is the general relationship between tax drag% and tax rate when capital gains taxes are deferred and B=1; and as investment horizon increases and return increases?
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
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
Sources of wealth - measure of wealth - stage of life
Excess capital

42. What are the disadvantages of public 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
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)
Lock up period (7-10 yrs) - must hold >20% illiquid assets - lack of control (no changes - manager determines asset mix) - original cost basis
Implied liabilities

43. situational profiling

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44. As age increases..
1) source of wealth 2) measure of wealth 3) stage of life
Taxes paid on the gain (long or short position) when an asset is sold or purchased
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
Demand for insurance decreases; less human capital to replace

45. What are the main characteristics of the distribution phase of life?
Number of years to retirement/death - investable assets - annual liquidity requirement - specific amount (if any) needed at a future date
Wealth transfer stage - focus on tax min. with trusts and foundations
Young -Building a foundation for future wealth -above avg risk tolerance
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

46. If human capital is equity-like/fixed-income like - how should you generally allocate financial assets?
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
The testator
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

47. benefits of IPS to client
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
Risk tolerance and decision-making style
- a subjective assessment of financial well-being based on perceived wealth
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

48. Why do individuals often take steps to avoid probate?
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
The decedent's estate
It is expenseive - time consuming - public
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

49. 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
The reduction in return caused by the payment of taxes
The risk of a premature death with accompanying loss of future human capital
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

50. What risks must be considered when discussing each concentrated investor category?
1) specific risk (unsystematic risk) 2) market risk (systematic risk) 3) residual risk (counterparty risk and regulatory risk)
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
The demand for life insurance increases - regardless of age
Triggers tax on unrealized capital gains - requires liquidity - shares must be publicly traded or have low restrictions on sale