Uniform Investment Adviser Law Examination

Leading indicators change before the economy as a whole changes, making them useful for predicting future economic activity. Examples include building permits, stock market performance, the money supply (M2), and the index of consumer expectations. A decline in leading indicators may signal an upcoming recession.

Lagging indicators change after the economy has already begun to follow a particular pattern. Examples include the unemployment rate, corporate profits, consumer price index (CPI), and the average duration of unemployment. These indicators confirm trends that are already underway. Coincident indicators move in step with the economy and include GDP, industrial production, and personal income.

The Federal Reserve uses three primary tools to conduct monetary policy. Open market operations (buying and selling Treasury securities) is the most frequently used tool -- buying securities injects money into the economy (expansionary), while selling securities removes money (contractionary).

The discount rate is the interest rate the Fed charges member banks for short-term loans. Lowering it encourages borrowing and expands the money supply. The reserve requirement is the percentage of deposits banks must hold in reserve. Lowering it allows banks to lend more, expanding credit. In practice, the Fed primarily relies on open market operations and the federal funds rate target to implement policy.

Open-end mutual funds continuously issue and redeem shares at their net asset value (NAV), calculated once daily at market close. They offer diversification, professional management, and liquidity, but may carry sales loads (front-end or back-end) and ongoing expense ratios.

ETFs (Exchange-Traded Funds) trade on exchanges throughout the day like stocks, typically track an index, and generally have lower expense ratios than actively managed mutual funds. Their market price may differ slightly from NAV. Closed-end funds issue a fixed number of shares through an IPO and then trade on exchanges. They can trade at a premium or discount to NAV, use leverage, and do not redeem shares directly from the fund.

Investment advisers must understand how options can be used for hedging (reducing risk) and income generation. A covered call strategy involves writing (selling) call options on stocks already owned, generating premium income while capping upside potential -- suitable for clients seeking additional income in a flat or mildly bullish market.

A protective put involves buying put options on stocks already owned, providing downside protection (like insurance) while maintaining upside potential. The cost is the premium paid. Advisers must ensure that any options strategy is suitable for the client's investment objectives, risk tolerance, and financial situation, and that the client understands the risks involved.

Modern Portfolio Theory (MPT), developed by Harry Markowitz, holds that rational investors will construct portfolios to maximize expected return for a given level of risk. The key insight is that an asset's risk and return should be evaluated not in isolation, but by how it contributes to the overall portfolio's risk and return.

By combining assets with low or negative correlation, investors can reduce portfolio risk without proportionally reducing expected returns. The efficient frontier represents the set of optimal portfolios that offer the highest expected return for each level of risk. Portfolios below the efficient frontier are suboptimal because they do not provide enough return for their level of risk.

A Traditional IRA offers tax-deductible contributions (subject to income limits if covered by an employer plan), with earnings growing tax-deferred. Withdrawals in retirement are taxed as ordinary income. Required minimum distributions (RMDs) must begin at age 73. Withdrawals before age 59 1/2 generally incur a 10% early withdrawal penalty plus income tax.

A Roth IRA is funded with after-tax dollars (contributions are not deductible), but qualified withdrawals in retirement are entirely tax-free. There are no RMDs during the owner's lifetime. Roth IRAs have income eligibility limits for direct contributions. A Roth is generally more advantageous for younger investors or those who expect to be in a higher tax bracket in retirement.

Investment advisers owe a fiduciary duty to their clients, which is the highest standard of care in the financial industry. This means the adviser must always act in the client's best interest, disclose all material conflicts of interest, and not place their own interests ahead of the client's. The fiduciary standard applies at all times, not just at the point of recommendation.

The suitability standard, historically applied to broker-dealers, requires that recommendations be suitable for the client based on their profile but does not require that the recommendation be in the client's best interest. Under Regulation Best Interest (Reg BI), broker-dealers must now act in the client's best interest at the time of recommendation, narrowing but not eliminating the gap between the two standards.

Form ADV Part 1 contains information about the investment adviser's business, ownership, clients, employees, business practices, affiliations, and disciplinary history. It is filed electronically with the SEC (via IARD) or state regulators and is publicly available.

Form ADV Part 2A (the "firm brochure") is a plain-English document that must be delivered to prospective clients before or at the time of entering into an advisory contract. It describes services, fees, investment strategies, conflicts of interest, and disciplinary information. Part 2B (the "brochure supplement") provides information about specific advisory personnel who will work with the client. Both must be updated annually and offered to existing clients.