Private Wealth Management

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• Answer 50 questions in 15 minutes.
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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?
Portfolio size incr. = ability up - Liquidity needs up = ability down - Time horizon up = ability up - Spending importance down = ability up
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
A positive relationship
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


2. As wealth increases...
Demand for life insurance decreases
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either
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
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


3. What are the 3 categories of investors when discussing concentrated positions?
1) foundation phase 2) accumulation phase 3) maintenance phase 4) distribution phase
Both increase with longer holding periods and higher returns
Self confident - Gather information from a wide variety of sources to make their own decisions - Willing to take risk
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


4. What are the main characteristics of the maintenance phase of life?
- does not ordinarily exhibit the same attachments to the firm as an entrepreneur or top executive - does not have any degree of control either
Retired - focus on lifestyle maintenance and security - preservation of wealth - shortening time horizon and declining 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
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


5. What are the main characteristics of fixed annuities?

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6. When dealing with low basis stock - emotional issues can arise from what?
Achieves diversification slowly over time - capital gains taxes avoided to extent of matching gains and harvesting losses
Retired - focus on lifestyle maintenance and security - preservation of wealth - shortening time horizon and declining risk tolerance
A positive relationship
Client is a foundign family member - the firm still bears the family name - the shares were acquired by a loved one


7. Why would an individual try to use generation skipping in estate planning?
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
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
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
Transferring assets directly to a third generation avoids possible double taxation


8. What are the diffferent types of tax jurisdictions?
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
Achieves diversification slowly over time - capital gains taxes avoided to extent of matching gains and harvesting losses
The government shares in both gains and losses
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


9. What is human capital?
- gifts to charitable organizations are not taxed - donor is allowed to take a tax deduction in the amount of the gift
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
- 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
HC = PV of future labor income


10. Describe asset segregation in a behavioral finance context.
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification
- a subjective assessment of financial well-being based on perceived wealth
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
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


11. characteristics of cautious investor

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12. What are the main characteristics of variable annuities?

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13. What are the main characteristics of variable annuities?

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14. What are the equity holding life risk attributes for an entrepreneur?
Income rising - assets growing - long time horizon - above-avg. ability to take risk
The testator
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
- 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


15. Describe biased expectations in a behavioral finance context.
A positive relationship
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
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
Must partner with an outside - unrelated investor - lock up period - taxesdeferred but not avoided - potential regulatory (IRS) risk


16. What progressive tax regimes do not have favorable treatment for interest income/dividend income/capital gains?
Relies on hard facts -decisions tend to be conservative in nature -more risk averse -thinking/analysis
HC = PV of future labor income
Young -Building a foundation for future wealth -above avg risk tolerance
INTEREST = heavy interest tax; light capital gain tax DVIDIDEND = heavy capital gain tax; light capital gain tax CAPITAL GAIN = heavy capital gain tax


17. When calculating a required return - you typically must identify what?
Number of years to retirement/death - investable assets - annual liquidity requirement - specific amount (if any) needed at a future date
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
- a subjective assessment of financial well-being based on perceived 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


18. What is the eifference in willingness to take risk between active and passive wealth creators?
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
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
The more equity-like - the less the demand for life insurance
Demand for life insurance decreases


19. What are the disadvantages of private exchange funds for low basis stock?
Must partner with an outside - unrelated investor - lock up period - taxesdeferred but not avoided - potential regulatory (IRS) risk
1) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging
Excess capital
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


20. 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
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
- gifts to charitable organizations are not taxed - donor is allowed to take a tax deduction in the amount of the gift
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


21. What is the reinvestment caveat when considering tax loss harvesting?
Number of years to retirement/death - investable assets - annual liquidity requirement - specific amount (if any) needed at a future date
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
- 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
Achieves diversification slowly over time - capital gains taxes avoided to extent of matching gains and harvesting losses


22. What is the difference between a deterministic approach and a monte carlo approach to portfolio construction?
Deterministic = use point estimates to generate a forecasted value such as an expected return or terminal value Monte Carlo = use probability distributions of inputs to generate expected returns with accompanying probability distributions
Wealth attained through inheritance - windfalls - long steady employment - etc. - might have less experience and less understanding of risk/return - might require investment education
- cautious - methodical - individualistic - spontaneous
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


23. Human capital is sometimes referred to as what?
Implied assets
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) Entrepreneur - large position in 1 private stock 2) Executive - large position in 1 public stock 3) Investor - large positions in 1 successful public stock
Tax drag % = tax rate - as the investment horizon increases - tax drag is unchanged - as the investment return increases - tax drag is unchanged - as the investment horizon increases - value of the tax deferral increases - as the inestment return inc


24. What are the psychological issues of low basis stock held by an executive?
Self confident - Gather information from a wide variety of sources to make their own decisions - Willing to take risk
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either
- the higher in the ranks - the more the executive acts like an entrepreneur - the more control = the more attached the executie is to the firm
1) 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)


25. What is typically considered when imposing an exit tax?
Depends on the investor's goals and time horizon and the volatility the portfolio can bear b/f those goals are jeopardized
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
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
- 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


26. What are the diversification techniques for low basis stock?
1) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging
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
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
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


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

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28. Calculating the required return component is driven by what 2 elements?
Both increase with longer holding periods and higher returns
1) growing the portfolio (capital gains) 2) liquidity needs - total return approach
Demand for insurance decreases; less human capital to replace
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


29. What are the different stages of life?
Can be used for clarification if questions areise about specific invesetment decisions - should outline a process for dispute resolution
Objectives = required return; risk tolerance - Constraints = time horizon - tax concerns; liquidity needs - legal/regulatory; unique circumstances
Transferring assets directly to a third generation avoids possible double taxation
1) foundation phase 2) accumulation phase 3) maintenance phase 4) distribution phase


30. What is intestate?
1) active 2) passive
The government shares in both gains and losses
When a decedent leaves no will or if the will is deemed invalid
1) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging


31. What are the two sources of wealth?
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
1) foundation phase 2) accumulation phase 3) maintenance phase 4) distribution phase
Triggers tax on unrealized capital gains - requires liquidity - shares must be publicly traded or have low restrictions on sale
1) active 2) passive


32. What are the disadvantages of private exchange funds for low basis stock?
The more equity-like - the less the demand for life insurance
Must partner with an outside - unrelated investor - lock up period - taxesdeferred but not avoided - potential regulatory (IRS) risk
Methodical - cautious - individualist - spontaneous
Retired - focus on lifestyle maintenance and security - preservation of wealth - shortening time horizon and declining risk tolerance


33. characteristics of maintenance phase
- does not ordinarily exhibit the same attachments to the firm as an entrepreneur or top executive - does not have any degree of control either
1) credit method 2) exemption method 3) deduction method
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either
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


34. Why would an individual try to use generation skipping in estate planning?
- tax drag% > tax rate - as investment horizon increases - tax drag $ and tax drage % increase - as investment return increases - tax drag $ and tax drag % increase
Can be used for clarification if questions areise about specific invesetment decisions - should outline a process for dispute resolution
Depends on the investor's goals and time horizon and the volatility the portfolio can bear b/f those goals are jeopardized
Transferring assets directly to a third generation avoids possible double taxation


35. Define tax drag.
When a decedent leaves no will or if the will is deemed invalid
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
Young -Building a foundation for future wealth -above avg risk tolerance
The reduction in return caused by the payment of taxes


36. sources of wealth
Transferring assets directly to a third generation avoids possible double taxation
1) active 2) passive
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
Must partner with an outside - unrelated investor - lock up period - taxesdeferred but not avoided - potential regulatory (IRS) risk


37. What are the benefits of an IPS to the client?
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
Valuation discounts can reduce the value of wealth transfers - so high net worth indiiduals utilize them whenever possible to minimize transfer taxes
Excess capital
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


38. What are ways that individuals can avoid probate?
Demand for insurance decreases; less human capital to replace
Achieves diversification slowly over time - capital gains taxes avoided to extent of matching gains and harvesting losses
Joint ownership with rights of survivorship - living trusts - retirement plans - life insurance - other means that transfer assets without the need for a will
1) Taxes - outright sale produces large capital gains taxes 2) Psychological factors - client might have emotional attachment or not care about diversification


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

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40. four types of investors
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
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
Methodical - cautious - individualist - spontaneous
Objectives = required return; risk tolerance - Constraints = time horizon - tax concerns; liquidity needs - legal/regulatory; unique circumstances


41. What are the advantages of completion portfolios for low basis stock?
The government shares in both gains and losses
Achieves diversification slowly over time - capital gains taxes avoided to extent of matching gains and harvesting losses
Transferring assets directly to a third generation avoids possible double taxation
Wealth transfer stage - focus on tax min. with trusts and foundations


42. How is mortality risk typically hedged?
Retired - focus on lifestyle maintenance and security - preservation of wealth - shortening time horizon and declining risk tolerance
Hedged with life insurance - think of the life insurance as a replacement for lost human capital
A positive relationship
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification


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


44. What are the benefits of an IPS to the adviser?
INTEREST = heavy interest tax; light capital gain tax DVIDIDEND = heavy capital gain tax; light capital gain tax CAPITAL GAIN = heavy capital gain tax
Can be used for clarification if questions areise about specific invesetment decisions - should outline a process for dispute resolution
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
Must partner with an outside - unrelated investor - lock up period - taxesdeferred but not avoided - potential regulatory (IRS) risk


45. typical IPS elements
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
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
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
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


46. Describe the equity holding life three stages from the perspective of the stock.
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
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
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
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


47. If human capital is equity-like/fixed-income like - how should you generally allocate financial assets?
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
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
The reduction in return caused by the payment of taxes
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


48. What is core capital?
The amount of assets (i.e.present value) necessary to meet all future liabilities
1) growing the portfolio (capital gains) 2) liquidity needs - total return approach
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
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


49. What are the main characteristics of the distribution phase of life?
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
Wealth transfer stage - focus on tax min. with trusts and foundations
Should use accrual-equivalent returns and after-tax risk
Wealth attained through inheritance - windfalls - long steady employment - etc. - might have less experience and less understanding of risk/return - might require investment education


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

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