Free IFC Risk Management Questions and Answers — Questions and Answers
Question 1: What does suitability mean?
- Understanding the personal and financial knowledge of the client.
- Recommendations are not based on the personal and financial knowledge of the client.
- Recommendations are appropriate for the client’s unique situation and investment objectives. (Correct answer)
- The investor’s major concerns are addressed.
Correct answer: Recommendations are appropriate for the client’s unique situation and investment objectives.
Suitability means ensuring that all recommendations are appropriate for the client’s unique situation and investment objectives. It also means that recommendations are based on a personal and financial knowledge of the client and knowledge of the investment products being recommended.
Question 2: Which organization regulates mutual and investment funds?
- Investment Industry Regulatory Organization of Canada.
- Bourse de Montreal.
- Securities commissions. (Correct answer)
- Mutual Fund Dealers Association.
Correct answer: Securities commissions.
The responsibility of regulating mutual funds lies with the securities commissions. The Mutual Fund Dealers Association regulates dealers of mutual funds, but not the mutual fund itself.
Question 3: What stage in the business cycle typically has increasing wages, rising inflation, rising interest rates with slowing sales, and decreasing business investment?
- Peak (Correct answer)
- Trough
- Expansion
- Recovery
Correct answer: Peak
The top of the cycle is called a peak. A peak is characterized by the following activities: demand begins to outstrip the capacity of the economy to supply it; wages increase; inflation rises; interest rates rise and bond prices fall; sales begin to decline; business investment slows, and stock market activity begins to decline.
Question 4: Based on the financial planning pyramid, what security would be appropriate for a very aggressive investor?
- Foreign stocks
- Commodities
- Over the Counter (OTC) Securities (Correct answer)
- Tax shelters
Correct answer: Over the Counter (OTC) Securities
As a visual aid, the planning pyramid helps you show clients how mutual funds fit into the investment universe. A very aggressive investor could consider investments such as OTC Securities.
Question 5: Your client earns $100,000 from employment and $10,000 from investments each year. Her bills total $95,000 annually. What is her discretionary income?
- $10,000
- $15,000 (Correct answer)
- $20,000
- $5,000
Correct answer: $15,000
Discretionary income eligible for savings and investments is the difference between the amount of money coming in fromemployment and other sources and the amount of money going out to pay bills. In this example, $100,000 + $10,000 - $95,000 = $15,000.
Question 6: What bias results in investors valuing an asset that they own over an asset that another individual owns?
- Endowment (Correct answer)
- Representativeness
- Risk aversion
- Status Quo
Correct answer: Endowment
People who are subject to endowment bias place more value on an asset they hold property rights to than on an asset they do not hold property rights to.
Question 7: What response would a loss-averse investor be most likely to choose in selecting a preferred investment return scenario?
- A 75% chance of losing $1,000, and a 25% chance of losing nothing.
- A 25% chance of gaining $2,000, and a 75% chance of losing nothing. (Correct answer)
- An assured loss of $750.
- A 5% chance of gaining $1,500, and a 95% chance of losing $800.
Correct answer: A 25% chance of gaining $2,000, and a 75% chance of losing nothing.
The loss-averse investor will choose a lower potential of loss over a more rational choice. In this example, a 25% chance of gaining $2,000 and a 75% chance of losing nothing has the lowest possible loss potential, and will typically be the statement selected by the loss-averse investor.
Question 8: What bias would influence an investor’s decision to continue to hold an unprofitable investment despite little likelihood of an improvement in the investment’s value?
- Loss aversion (Correct answer)
- Representativeness
- Availability
- Status quo
Correct answer: Loss aversion
Loss aversion bias states that people generally feel a stronger impulse to avoid losses than to acquire gains. Loss aversion can prevent people from unloading unprofitable investments, even when they see little to no prospect of a turnaround.
Question 9: Joanne’s earned income last year was $45,000 and her pension adjustment was $2,500. She has $2,000 in carry forward registered retirement savings plan (RRSP) room for the current taxation year. What is Joanne’s maximum tax-deductible RRSP contribution amount for the current year?
- $12,600
- $8,100
- $5,600
- $7,600 (Correct answer)
Correct answer: $7,600
Joanne’s tax-deductible RRSP contribution room would be calculated as (18% × $45 000) - $2,500 + $2,000 = $7,600.
Question 10: Rebecca, an investor in a 40% marginal tax bracket, receives $1,200 in Canadian dividends eligible for the dividend tax credit. What is the dividend tax credit that applies to this income?
- $480
- $662.40
- $248.73 (Correct answer)
- $1,200
Correct answer: $248.73
The taxable amount of the dividend is the income received plus a 38% gross-up amount. In this example, $1,200 + ($1,200 ×38%) = $1,656. The dividend tax credit is 15.02% of the grossed-up amount, in this example, $1,656 × 15.02% = $248.73.
Question 11: Which form of investment income is taxed at an investor’s marginal tax rate?
- Capital gains
- Canadian dividend income
- Capital losses
- Foreign dividend income (Correct answer)
Correct answer: Foreign dividend income
Foreign dividend income is not eligible for any dividend tax credit and is taxed at an investor’s marginal tax rate.
Free IFC Risk Management Questions and Answers
What does suitability mean?