IAR Investment Vehicles 3 — Questions and Answers
Question 1: An investor in a variable annuity's accumulation phase owns which of the following?
- Fixed-dollar guaranteed account
- Accumulation units in separate account sub-accounts (Correct answer)
- Annuity units paying fixed monthly income
- Direct shares of the insurance company
Correct answer: Accumulation units in separate account sub-accounts
During the accumulation phase, variable annuity contributions purchase accumulation units whose value fluctuates with the performance of chosen sub-accounts.
Question 2: Which type of municipal bond is backed solely by the revenue generated from a specific project such as a toll road?
- General obligation bond
- Revenue bond (Correct answer)
- Treasury bond
- Agency bond
Correct answer: Revenue bond
Revenue bonds are repaid exclusively from income generated by the specific project financed, with no pledge of the issuer's taxing power.
Question 3: A collateralized mortgage obligation (CMO) tranche labeled 'PAC' (planned amortization class) is designed to:
- Absorb all prepayment risk from the CMO structure
- Provide stable cash flows within a defined prepayment band (Correct answer)
- Pay the highest yield of all CMO tranches
- Mature before all other tranches regardless of prepayments
Correct answer: Provide stable cash flows within a defined prepayment band
PAC tranches receive predictable cash flows within a specified prepayment range, with companion tranches absorbing excess prepayment or extension risk.
Question 4: When comparing Treasury STRIPS to regular Treasury bonds, which statement is accurate?
- STRIPS pay semiannual coupons at a higher rate
- STRIPS are created by separating coupon payments from principal (Correct answer)
- STRIPS have higher reinvestment risk than coupon bonds
- STRIPS cannot be held in tax-deferred accounts
Correct answer: STRIPS are created by separating coupon payments from principal
STRIPS (Separate Trading of Registered Interest and Principal Securities) are created when broker-dealers separate individual coupon payments and the principal from Treasury bonds.
Question 5: Which investment vehicle pools investor capital to take controlling stakes in private companies with intent to restructure and eventually exit?
- Hedge fund
- Private equity fund (Correct answer)
- Venture capital fund
- Business development company
Correct answer: Private equity fund
Private equity funds acquire controlling interests in companies, implement operational improvements or financial restructuring, then exit through sale or IPO.
Question 6: A convertible bond's conversion premium is calculated as:
- (Conversion price − current stock price) / current stock price
- (Convertible bond price − conversion value) / conversion value (Correct answer)
- Par value minus current market price
- Annual coupon divided by conversion ratio
Correct answer: (Convertible bond price − conversion value) / conversion value
Conversion premium equals the excess of the convertible bond's market price over its conversion value, expressed as a percentage of conversion value.
Question 7: Which statement about American Depositary Receipts (ADRs) is correct?
- ADRs are denominated in foreign currencies and traded abroad
- ADRs allow US investors to trade foreign company shares in US dollars on US exchanges (Correct answer)
- ADRs eliminate all foreign currency risk for US investors
- ADRs are issued directly by foreign governments
Correct answer: ADRs allow US investors to trade foreign company shares in US dollars on US exchanges
ADRs are negotiable certificates issued by US depositary banks representing shares of foreign companies and traded in US dollars on US exchanges.
IAR Investment Vehicles 3
An investor in a variable annuity's accumulation phase owns which of the following?