Series 65 Securities Characteristics Practice Questions

Correct answer: D. Currency (exchange rate) risk, because the underlying dividends and share value are converted from yen to dollars.

An ADR is dollar-denominated for trading and dividend payment convenience, but the underlying asset is still a foreign security. The depositary bank converts foreign-currency dividends and, ultimately, the underlying share value into dollars at prevailing exchange rates, so a decline in the yen relative to the dollar reduces the dollar value of dividends and the ADR's price even if the stock is flat in yen terms. ADR holders also retain other foreign risks such as political and economic risk in the home country, and settlement follows normal U.S. equity conventions, not an extended cycle.

• A. Wrong: this is the classic misconception the question is testing; dollar-denominated trading does not remove currency risk from the underlying foreign asset.
• B. Wrong: ADR holders typically have limited or no direct voting rights (the depositary bank holds the underlying shares), not double the rights of ordinary shareholders.
• C. Wrong: ADRs settle under standard U.S. equity settlement conventions, not an extended cycle.
• D. Correct: because the underlying value and dividends originate in yen, dollar/yen exchange rate movements directly affect the ADR's dollar value and dividend income.

Correct answer: D. Revenue bond

Revenue bonds are backed by the income generated from a specific project or facility — here, toll revenue from the bridge — rather than by the issuer's general taxing power. General obligation bonds are backed by the full faith, credit, and taxing power of the municipality.

• A. GO bonds rely on the issuer's taxing power, not project-specific revenue like tolls.
• B. Special tax bonds are backed by a specific tax (e.g., excise tax), not project user fees like tolls.
• C. Moral obligation bonds involve a non-binding pledge of legislative support, not project revenue like tolls.
• D. Correct — repayment tied to a specific revenue-generating project is the hallmark of a revenue bond.

Correct answer: D. Stronger than under statutory (straight) voting, since the shareholder may cast all of their voting power for a single director candidate

Cumulative voting allows a shareholder to multiply their shares by the number of open board seats and cast all resulting votes for one candidate, which strengthens minority shareholders' ability to secure at least one board seat. Statutory (straight) voting requires votes to be spread evenly across candidates for each seat, which favors majority shareholders.

• A. This reverses the actual effect — cumulative voting strengthens, not weakens, a minority shareholder's ability to elect a director compared to statutory voting.
• B. Common shareholders (and often preferred, depending on the class) typically vote for the board; it isn't a matter reserved exclusively to preferred shareholders.
• C. Cumulative and statutory voting produce materially different outcomes for minority shareholders; they are not identical.
• D. Cumulative voting lets a shareholder cast all their combined votes (shares × open board seats) for a single candidate, concentrating voting power in a way statutory voting doesn't allow, which strengthens a minority holder's chance of electing at least one director.

Correct answer: D. The investor must report imputed ('phantom') interest income annually as the original issue discount accretes, even though no cash is received

Under original issue discount (OID) rules, holders of taxable zero-coupon bonds must recognize a portion of the discount as ordinary interest income each year as it accretes toward par, even though no cash is actually received until maturity — commonly called 'phantom income.'

• A. This describes tax deferral, which doesn't apply to taxable zero-coupon bonds held outside a tax-advantaged account; the IRS requires annual reporting of accreted discount even without cash interest.
• B. The lack of a stated coupon doesn't make the accretion tax-free; the accreted original issue discount on a taxable corporate zero is taxed annually as imputed interest income (only certain issuers, such as municipal issuers, produce tax-exempt zeros).
• C. The gain is not deferred to a single year and taxed as capital gain; it is recognized annually as ordinary interest income under OID rules, even if the bond is held for more than one year.
• D. Correct. The IRS treats the annual accretion of original issue discount (OID) on a zero-coupon bond as imputed 'phantom' interest income, taxable each year even though the investor receives no actual cash until maturity.