Private Wealth Management

Instructions:

• Answer 50 questions in 15 minutes.
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• Match each statement with the correct term.
• Don't refresh. All questions and answers are randomly picked and ordered every time you load a test.

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. characteristics of cautious investor

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2. What are the two sources of wealth?
Achieves diversification slowly over time - capital gains taxes avoided to extent of matching gains and harvesting losses
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) active 2) passive
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. How does the nature of human capital affect the demand for life insurance?
The more equity-like - the less the demand for life insurance
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) source of wealth 2) measure of wealth 3) stage of life
- 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


4. What are investment objectives and constraints?
Objectives = required return; risk tolerance - Constraints = time horizon - tax concerns; liquidity needs - legal/regulatory; unique circumstances
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
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
Can be used for clarification if questions areise about specific invesetment decisions - should outline a process for dispute resolution


5. What is tax alpha?
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
Implied assets
1) foundation phase 2) accumulation phase 3) maintenance phase 4) distribution phase
Extra investment value created by effective tax management


6. What are the disadvantages of completion portfolios for low basis stock?
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
Must have a very large portfolio or be willing to borrow - may take a long time to diversifiy completely
Total wealth = financial assets + human capital
The testator


7. sources of wealth
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
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
Taxes paid on the gain (long or short position) when an asset is sold or purchased
Self confident - Gather information from a wide variety of sources to make their own decisions - Willing to take risk


8. What progressive tax regimes do not have favorable treatment for interest income/dividend income/capital gains?
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 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
Can be used for clarification if questions areise about specific invesetment decisions - should outline a process for dispute resolution
INTEREST = heavy interest tax; light capital gain tax DVIDIDEND = heavy capital gain tax; light capital gain tax CAPITAL GAIN = heavy capital gain tax


9. characteristics of cautious investor

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10. benefits of IPS to manager
Upside potential of hedged position limited - regulatory risk (avoid constructive sale - some risk exposure required)
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
Number of years to retirement/death - investable assets - annual liquidity requirement - specific amount (if any) needed at a future date
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


11. psychological profiling
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
Both increase with longer holding periods and higher returns
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)
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


12. What are ways that individuals can avoid probate?
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
Taxes paid on the gain (long or short position) when an asset is sold or purchased
Joint ownership with rights of survivorship - living trusts - retirement plans - life insurance - other means that transfer assets without the need for a will
The client's psychological profile


13. What are the general legal and regulatory considerations for individuals?
Immediate diersification - ability to borrow (monetize) - at end of partnership receive proportional share of pool
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
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
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


14. What are the main types of investors?
Triggers tax on unrealized capital gains - requires liquidity - shares must be publicly traded or have low restrictions on sale
To earn a total ______-tax __________ return of ______% covering: -expense 1 -expense 2 -expense n
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)
Excess capital


15. Describe an individualistic investor personality type.
- 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 reduction in return caused by the payment of taxes
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
INTEREST = heavy interest tax; light capital gain tax DVIDIDEND = heavy capital gain tax; light capital gain tax CAPITAL GAIN = heavy capital gain tax


16. As desire to leave an estate increases...
Demand for life insurance increases
Excess capital
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
Depends on the investor's goals and time horizon and the volatility the portfolio can bear b/f those goals are jeopardized


17. What are the main characteristics of chritable gifts?
1) Taxes - outright sale produces large capital gains taxes 2) Psychological factors - client might have emotional attachment or not care about diversification
Upside potential of hedged position limited - regulatory risk (avoid constructive sale - some risk exposure required)
- cautious - methodical - individualistic - spontaneous
- gifts to charitable organizations are not taxed - donor is allowed to take a tax deduction in the amount of the gift


18. What are the advantages of the monte carlo approach to portfolio construction?
Transferring assets directly to a third generation avoids possible double taxation
Methodical - cautious - individualist - spontaneous
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
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


19. What happens to both tax drag $ and tax drag % with holding period changes and return changes?
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
Both increase with longer holding periods and higher returns
The client's psychological profile
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


20. What are the disadvantages of hedging for low basis stock?
Achieves diversification slowly over time - capital gains taxes avoided to extent of matching gains and harvesting losses
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) Taxes - outright sale produces large capital gains taxes 2) Psychological factors - client might have emotional attachment or not care about diversification
Upside potential of hedged position limited - regulatory risk (avoid constructive sale - some risk exposure required)


21. As probability of death increases...
Number of years to retirement/death - investable assets - annual liquidity requirement - specific amount (if any) needed at a future date
Demand for life insurance decreases
The demand for life insurance increases - regardless of age
Joint ownership with rights of survivorship - living trusts - retirement plans - life insurance - other means that transfer assets without the need for a will


22. How is mortality risk typically hedged?
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
1) source of wealth 2) measure of wealth 3) stage of life
Hedged with life insurance - think of the life insurance as a replacement for lost human 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


23. What should an investor use in mean-variance optimization
Risk tolerance = as risk tolerance increases - demand for life insurance decreases
Excess capital
Should use accrual-equivalent returns and after-tax risk
Taxes paid on the gain (long or short position) when an asset is sold or purchased


24. What is the general relationship b/t a client's perception of wealth and risk willingness?
To earn a total ______-tax __________ return of ______% covering: -expense 1 -expense 2 -expense n
Early career 8accumulating education - developing skills - above-average ability to take risk
Excess capital
A positive relationship


25. What are the equity holding life risk attributes for an investor?
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)
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
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
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


26. What are the psychological issues of low basis stock held by an executive?
- 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
- gifts to charitable organizations are not taxed - donor is allowed to take a tax deduction in the amount of the gift
Methodical - cautious - individualist - spontaneous
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


27. What are the main characteristics of the maintenance phase of life?
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)
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 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
Retired - focus on lifestyle maintenance and security - preservation of wealth - shortening time horizon and declining risk tolerance


28. What is typically considered when imposing an exit tax?
Demand for life insurance decreases
- 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
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
Both increase with longer holding periods and higher returns


29. What are the main characteristics of the maintenance phase of life?
Depends on the investor's goals and time horizon and the volatility the portfolio can bear b/f those goals are jeopardized
1) Taxes - outright sale produces large capital gains taxes 2) Psychological factors - client might have emotional attachment or not care about diversification
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
Retired - focus on lifestyle maintenance and security - preservation of wealth - shortening time horizon and declining risk tolerance


30. Define capital gains taxes.
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
Triggers tax on unrealized capital gains - requires liquidity - shares must be publicly traded or have low restrictions on sale
1) foundation phase 2) accumulation phase 3) maintenance phase 4) distribution phase


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

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32. benefits of IPS to client
Income rising - assets growing - long time horizon - above-avg. ability to take risk
- 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
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 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


33. What is human capital?
Portfolio size incr. = ability up - Liquidity needs up = ability down - Time horizon up = ability up - Spending importance down = ability up
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
HC = PV of future labor income
Methodical - cautious - individualist - spontaneous


34. What are the diversification techniques for low basis stock?
The client's psychological profile
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) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging
HC = PV of future labor income


35. What are the main characteristics of fixed annuities?

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36. What are the equity holding life risk attributes for an executive?
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
The testator
Client is a foundign family member - the firm still bears the family name - the shares were acquired by a loved one
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


37. What is HIFO accounting?
Using HIFO accounting - an investor assumes the lot with the highest tax basis was sold to either maximize the loss for harvesting or minimize the taxable gain
1) credit method 2) exemption method 3) deduction method
INTEREST = heavy interest tax; light capital gain tax DVIDIDEND = heavy capital gain tax; light capital gain tax CAPITAL GAIN = heavy capital gain tax
Lock up period (7-10 yrs) - must hold >20% illiquid assets - lack of control (no changes - manager determines asset mix) - original cost basis


38. What risks must be considered when discussing each concentrated investor category?
Hedged with life insurance - think of the life insurance as a replacement for lost human capital
Immediate diersification - ability to borrow (monetize) - at end of partnership receive proportional share of pool
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today
1) specific risk (unsystematic risk) 2) market risk (systematic risk) 3) residual risk (counterparty risk and regulatory risk)


39. What are the four broad categories of investor personality types (BB&K)?
Taxes paid on the gain (long or short position) when an asset is sold or purchased
Achieves diversification slowly over time - capital gains taxes avoided to extent of matching gains and harvesting losses
Demand for insurance decreases; less human capital to replace
- cautious - methodical - individualistic - spontaneous


40. What progressive tax regimes do not have favorable treatment for interest income/dividend income/capital gains?
Extra investment value created by effective tax management
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
INTEREST = heavy interest tax; light capital gain tax DVIDIDEND = heavy capital gain tax; light capital gain tax CAPITAL GAIN = heavy capital gain tax
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


41. characteristics of foundation stage
Young -Building a foundation for future wealth -above avg risk tolerance
1) source of wealth 2) measure of wealth 3) stage of life
Demand for life insurance increases
Total wealth = financial assets + human capital


42. What are the advantages of the monte carlo approach to portfolio construction?
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
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
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
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


43. What are the different types of trusts?
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
To earn a total ______-tax __________ return of ______% covering: -expense 1 -expense 2 -expense n
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
It is expenseive - time consuming - public


44. stages of life
1) foundation phase 2) accumulation phase 3) maintenance phase 4) distribution phase
1. foundation 2. accumulation 3. maintenance 4. distribution
The more equity-like - the less the demand for life insurance
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


45. What are the different stages of life?
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) foundation phase 2) accumulation phase 3) maintenance phase 4) distribution phase
Objectives = required return; risk tolerance - Constraints = time horizon - tax concerns; liquidity needs - legal/regulatory; unique circumstances
Lock up period (7-10 yrs) - must hold >20% illiquid assets - lack of control (no changes - manager determines asset mix) - original cost basis


46. Calculating the required return component is driven by what 2 elements?
To earn a total ______-tax __________ return of ______% covering: -expense 1 -expense 2 -expense n
1) growing the portfolio (capital gains) 2) liquidity needs - total return approach
Sources of wealth - measure of wealth - stage of life
Excess capital


47. What are the main characteristics of the foundation phase of life?
Upside potential of hedged position limited - regulatory risk (avoid constructive sale - some risk exposure required)
1) credit method 2) exemption method 3) deduction method
Demand for life insurance increases
Early career 8accumulating education - developing skills - above-average ability to take risk


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

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49. situational profiling

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50. 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
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) 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)
Methodical - cautious - individualist - spontaneous