50 Products & Risks Practice Questions & Answers
Every Products & Risks practice question from the SIE / Series 7 Practice Test, with the correct answer and a short explanation.
Start practice test →1. Which statement best describes a key difference between common stock and preferred stock?
- A.Common stockholders normally have voting rights, while preferred stockholders usually do not✓ Answer
- B.Preferred stockholders always have voting rights, while common stockholders do not
- C.Preferred stock is a form of debt, while common stock is equity
- D.Common stock has a fixed dividend, while preferred stock does not
Common stock typically carries voting rights on corporate matters, whereas preferred stock generally has no vote but offers a fixed dividend and priority over common in dividends and liquidation.
2. In a corporate liquidation, which class has the LOWEST priority of claim on the company's assets?
- A.General creditors
- B.Common stockholders✓ Answer
- C.Preferred stockholders
- D.Secured bondholders
In liquidation the priority order is secured creditors, then general creditors, then bondholders, then preferred stockholders, and finally common stockholders, who are paid last.
3. A U.S. Treasury bond (T-bond) is backed by which of the following?
- A.Revenue from a government project
- B.The full faith and credit of the U.S. government✓ Answer
- C.A specific pool of mortgages
- D.Collateral pledged by a corporation
U.S. Treasury securities are backed by the full faith and credit of the federal government, making them the benchmark for credit (default) risk-free debt.
4. Interest paid on most municipal bonds (munis) is generally:
- A.Taxable only if the bond is sold at a gain
- B.Fully taxable at the federal level
- C.Exempt from federal income tax✓ Answer
- D.Subject to a flat 28% federal tax
Interest income from most municipal bonds is exempt from federal income tax, which is the primary appeal of munis to investors in higher tax brackets.
5. When market interest rates rise, the price of an existing fixed-rate bond will generally:
- A.Rise
- B.Fall✓ Answer
- C.Rise then immediately fall to par
- D.Stay exactly the same
Bond prices and interest rates move inversely, so when prevailing rates rise, the price of an existing lower-coupon bond falls to make its yield competitive.
6. A bond is currently trading at a discount (below par). Which statement about its yields is correct?
- A.Yield to maturity is lower than the coupon yield
- B.Current yield and yield to maturity are both higher than the nominal (coupon) yield✓ Answer
- C.The coupon yield is higher than the yield to maturity
- D.Current yield equals the coupon yield
For a bond bought at a discount, the yields rank nominal < current yield < yield to maturity, because the investor also gains from the price rising to par at maturity.
7. The holder (buyer) of a call option has the right to do what?
- A.Buy the underlying stock at the strike price✓ Answer
- B.Sell the underlying stock at the strike price
- C.Receive a fixed dividend from the issuer
- D.Force the writer to buy stock from them
A call option gives its holder the right, but not the obligation, to buy the underlying security at the strike price before expiration.
8. An investor who buys a put option is generally expecting the price of the underlying stock to do what?
- A.Fall✓ Answer
- B.Rise sharply
- C.Stay flat
- D.Pay a higher dividend
Buying a put is a bearish strategy: the holder profits when the underlying stock's price falls, because the put grants the right to sell at the higher strike price.
9. Which of the following is a defining feature of an open-end mutual fund?
- A.Shares are continuously issued and redeemed at net asset value (NAV)✓ Answer
- B.A fixed number of shares is issued and never redeemed
- C.It holds a fixed, unmanaged portfolio until termination
- D.Shares trade on an exchange throughout the day at market prices
An open-end mutual fund continuously issues new shares and redeems existing ones at NAV, which is calculated once per day after the market closes.
10. How does an exchange-traded fund (ETF) primarily differ from a traditional open-end mutual fund?
- A.An ETF cannot be bought on margin
- B.An ETF can only be bought or sold once per day at NAV
- C.An ETF guarantees a fixed rate of return
- D.An ETF trades on an exchange throughout the day at market prices✓ Answer
Unlike mutual fund shares priced once daily at NAV, ETF shares trade intraday on an exchange at market prices, which may be at a premium or discount to NAV.
11. Which statement best describes a unit investment trust (UIT)?
- A.It is actively managed by a portfolio manager who trades frequently
- B.It issues new shares continuously with no maturity date
- C.It holds a fixed portfolio of securities and has a set termination date✓ Answer
- D.It is a leveraged product that resets daily
A UIT holds a fixed, generally unmanaged portfolio of securities and terminates on a predetermined date, unlike an actively managed open-end fund.
12. Which type of risk is defined as the danger that the general level of a market will decline, affecting nearly all securities?
- A.Inflation (purchasing-power) risk
- B.Credit (default) risk
- C.Market (systematic) risk✓ Answer
- D.Reinvestment risk
Market risk, also called systematic risk, is the risk that broad market movements will cause the value of most securities to decline and cannot be eliminated by diversification.
13. Inflation risk (purchasing-power risk) is of greatest concern to holders of which security?
- A.A long-term fixed-rate bond✓ Answer
- B.A stock in a fast-growing company
- C.A short-term money market instrument
- D.A commodity-linked fund
Inflation risk hits long-term fixed-rate bonds hardest because their fixed interest payments lose purchasing power as prices rise over many years.
14. Credit (default) risk refers to the possibility that:
- A.Inflation will erode the real return
- B.Interest rates in the market will rise
- C.The issuer will fail to make interest or principal payments✓ Answer
- D.The investor cannot quickly sell the security
Credit or default risk is the risk that the bond issuer will be unable to make timely interest payments or repay principal at maturity; it is measured by credit ratings.
15. A stockholder receives the right to buy additional new shares at a set price, in proportion to current holdings, before they are offered to the public. This is known as:
- A.A warrant
- B.A preemptive right (rights offering)✓ Answer
- C.A stock dividend
- D.A call option
A preemptive right, exercised through a rights offering, lets existing shareholders buy new shares in proportion to their holdings to avoid dilution; rights are typically short-term and priced below market.
16. Compared with a stock right, a warrant is best characterized as:
- A.A long-term right to buy stock, usually with an exercise price above the current market price when issued✓ Answer
- B.A short-term right always priced below the current market price
- C.A form of senior secured debt
- D.An obligation to sell stock back to the issuer
A warrant is a long-term instrument (often years) giving the right to buy stock at a fixed price that is typically above the market price at issuance, whereas rights are short-term and priced below market.
17. An American Depositary Receipt (ADR) is used primarily to:
- A.Guarantee a fixed dividend to U.S. investors
- B.Convert corporate bonds into common stock
- C.Provide tax-exempt income like a municipal bond
- D.Facilitate U.S. trading of a foreign company's shares✓ Answer
An ADR is a negotiable certificate issued by a U.S. bank representing shares of a foreign company, allowing those shares to trade in U.S. markets in dollars; holders still face currency risk.
18. Which U.S. Treasury security is issued at a discount, pays no periodic interest, and has a maturity of one year or less?
- A.Treasury bond (T-bond)
- B.Treasury note (T-note)
- C.Treasury bill (T-bill)✓ Answer
- D.Treasury STRIPS
Treasury bills mature in one year or less, are sold at a discount to face value, and pay no coupon; the investor's return is the difference between the discounted purchase price and par at maturity.
19. A municipal general obligation (GO) bond is primarily backed by:
- A.Revenue from a specific toll road or facility
- B.The taxing power (full faith and credit) of the issuing municipality✓ Answer
- C.The full faith and credit of the U.S. federal government
- D.A pledge of corporate assets
A GO bond is backed by the full faith, credit, and taxing power of the issuing municipality, unlike a revenue bond, which is repaid only from the income of a specific project.
20. A municipal revenue bond differs from a general obligation bond mainly because it is:
- A.Repaid solely from the revenue generated by a specific project or facility✓ Answer
- B.Backed by the issuer's unlimited taxing power
- C.Always exempt from state as well as federal taxes for all investors
- D.Guaranteed by the U.S. Treasury
A revenue bond is serviced only by the income (revenue) from the specific project it finances, such as a toll bridge or airport, and is not backed by the municipality's general taxing power.
21. Which nationally recognized rating would indicate the HIGHEST credit quality for a bond?
- A.BB
- B.AAA (or Aaa)✓ Answer
- C.CCC
- D.B
AAA (S&P/Fitch) or Aaa (Moody's) is the highest credit rating, indicating the lowest default risk; ratings of BB/Ba and below are considered speculative (high-yield or 'junk').
22. A bond rated BB by S&P is best described as:
- A.Investment grade with minimal risk
- B.A U.S. government-guaranteed security
- C.Speculative (below investment grade, high-yield)✓ Answer
- D.In default
The lowest investment-grade rating is BBB (Baa); anything BB (Ba) or below is speculative, often called high-yield or junk, carrying higher default risk and higher yields.
23. When a bond trades at a premium (above par), its current yield relative to its nominal (coupon) yield is:
- A.Higher than the coupon yield
- B.Lower than the coupon yield✓ Answer
- C.Exactly equal to the coupon yield
- D.Always zero
For a premium bond the yields rank yield to maturity < current yield < nominal (coupon) yield, because the fixed coupon is divided by a higher-than-par price, lowering the current yield below the coupon rate.
24. For a corporate bond that pays interest semiannually, accrued interest at settlement is generally calculated using which day-count convention?
- A.Actual days / actual days
- B.30-day months / 360-day year (30/360)✓ Answer
- C.Actual days / 365
- D.No accrued interest is ever added
Corporate and municipal bonds accrue interest on a 30/360 basis (each month counts as 30 days, each year as 360), while U.S. Treasuries use actual/actual.
25. Which agency's mortgage-backed securities are backed by the full faith and credit of the U.S. government?
- A.Fannie Mae (FNMA)
- B.Freddie Mac (FHLMC)
- C.Ginnie Mae (GNMA)✓ Answer
- D.A private-label issuer
Ginnie Mae (GNMA) is a government agency whose mortgage-backed securities carry the full faith and credit of the U.S. government; Fannie Mae and Freddie Mac are GSEs whose securities are not directly government-guaranteed.
26. A mutual fund Class A share is typically associated with which type of sales charge?
- A.A contingent deferred sales charge paid at redemption
- B.No sales charge under any circumstances
- C.A performance fee based on gains
- D.A front-end sales load paid at purchase✓ Answer
Class A shares generally charge a front-end sales load at the time of purchase, often with breakpoint discounts for larger investments, and have lower ongoing 12b-1 fees than Class B or C shares.
27. A mutual fund's net asset value (NAV) per share is calculated as:
- A.Total assets minus total liabilities, divided by shares outstanding✓ Answer
- B.Total assets multiplied by the sales load
- C.The highest price paid during the trading day
- D.Total dividends paid during the year
NAV per share equals the fund's total assets minus total liabilities, divided by the number of shares outstanding; it is computed at least once each business day after the market closes.
28. A closed-end fund differs from an open-end fund because closed-end fund shares:
- A.Are redeemed by the fund on demand at NAV
- B.Trade on an exchange and can sell at a premium or discount to NAV✓ Answer
- C.Are always sold with a front-end load only
- D.Never pay dividends or capital gains
A closed-end fund issues a fixed number of shares that then trade on an exchange at market-driven prices, which may be above (premium) or below (discount) NAV, rather than being redeemed at NAV.
29. Hedge funds are generally offered:
- A.To the general public through continuous public offerings
- B.Only to accredited or institutional investors through private placements✓ Answer
- C.Exclusively as exchange-traded products
- D.As federally insured deposit accounts
Hedge funds are private, largely unregistered pooled vehicles sold via private placement to accredited and institutional investors; they are illiquid, less regulated, and often use leverage and complex strategies.
30. In a variable annuity, the investment risk during the accumulation phase is borne by:
- A.The insurance company
- B.The contract owner (annuitant)✓ Answer
- C.The federal government
- D.The SEC
In a variable annuity the contract owner bears the investment risk because the account value fluctuates with the performance of the chosen subaccounts; in a fixed annuity the insurer bears that risk.
31. A fixed annuity primarily exposes the annuitant to which risk over a long payout period?
- A.Inflation (purchasing-power) risk✓ Answer
- B.Market risk on the subaccounts
- C.Currency risk
- D.Prepayment risk
A fixed annuity pays a guaranteed fixed amount, so its main drawback is inflation (purchasing-power) risk: over time the fixed payments buy less; variable annuities were designed to combat this.
32. A direct participation program (DPP), such as a limited partnership, is characterized by:
- A.Being taxed twice, at both the entity and investor levels
- B.Trading actively on a national exchange with high liquidity
- C.Guaranteeing a fixed return of principal
- D.Passing income, gains, losses, and deductions directly through to investors✓ Answer
A DPP is a flow-through (pass-through) entity, so tax items pass directly to investors and avoid entity-level taxation; DPPs are also illiquid, carrying significant liquidity risk.
33. To avoid corporate income tax, a real estate investment trust (REIT) must generally distribute at least what portion of its taxable income to shareholders?
- A.50%
- B.75%
- C.90%✓ Answer
- D.100%
A REIT must distribute at least 90% of its taxable income to shareholders to qualify for pass-through tax treatment and avoid taxation at the trust level.
34. A call option is 'in the money' when:
- A.The market price of the underlying is above the strike price✓ Answer
- B.The market price of the underlying is below the strike price
- C.The market price equals the strike price exactly
- D.The option has expired worthless
A call is in the money when the underlying's market price exceeds the strike price, so exercising to buy below market has intrinsic value; when the market price equals the strike it is at the money.
35. A put option is 'out of the money' when:
- A.The market price of the underlying is above the strike price✓ Answer
- B.The market price of the underlying is below the strike price
- C.The strike price is above the market price
- D.The option always has intrinsic value
A put is out of the money when the underlying's market price is above the strike price, because the right to sell at the lower strike has no intrinsic value; a put is in the money when the market price is below the strike.
36. Which of the following is a money-market instrument?
- A.A 20-year corporate bond
- B.Common stock
- C.Commercial paper✓ Answer
- D.A 30-year Treasury bond
Money-market instruments are high-quality, short-term (one year or less) debt such as commercial paper, T-bills, negotiable CDs, and banker's acceptances; long-term bonds and stock are capital-market instruments.
37. An investor holding a bond that can be redeemed early by the issuer faces call risk, which is greatest when:
- A.Interest rates have fallen since issuance✓ Answer
- B.Interest rates have risen sharply
- C.The issuer's credit rating is downgraded
- D.Inflation is accelerating
Call risk is greatest when interest rates fall, because issuers then call (redeem) high-coupon bonds to refinance at lower rates, forcing investors to reinvest at lower yields.
38. Reinvestment risk is the risk that:
- A.Interest or principal payments must be reinvested at lower prevailing rates✓ Answer
- B.The issuer will default on its obligations
- C.The security cannot be sold quickly at a fair price
- D.The currency will depreciate against the dollar
Reinvestment risk is the danger that cash flows (coupons or returned principal) will have to be reinvested at lower rates than the original investment, reducing overall return; zero-coupon bonds avoid coupon reinvestment risk.
39. Liquidity (marketability) risk is the risk that an investor:
- A.Will see interest rates rise
- B.Will suffer from rising inflation
- C.Will have the bond called away early
- D.Cannot sell an investment quickly without a significant price concession✓ Answer
Liquidity or marketability risk is the risk that an asset cannot be sold quickly at or near its fair value; thinly traded securities and DPPs carry high liquidity risk, while Treasuries carry very low liquidity risk.
40. An investor in a bond denominated in a foreign currency is most directly exposed to:
- A.Currency (exchange-rate) risk✓ Answer
- B.Prepayment risk
- C.Call risk
- D.Purchasing-power risk only
Currency (exchange-rate) risk arises when investments are denominated in a foreign currency; adverse moves in the exchange rate can reduce returns when converting back to the investor's home currency.
41. Political risk is best described as the risk that:
- A.Government instability or policy changes will harm an investment's value✓ Answer
- B.A bond issuer will miss an interest payment
- C.Broad market indexes will decline
- D.Interest rates will rise over time
Political risk is the risk that changes in government, laws, regulation, taxation, or geopolitical instability, particularly in foreign markets, will negatively affect an investment's value.
42. Interest-rate risk is generally GREATEST for which type of bond?
- A.A short-term bond maturing in 6 months
- B.A long-term bond maturing in 30 years✓ Answer
- C.A money-market instrument
- D.A bond with a floating (adjustable) rate
Longer-maturity bonds have greater interest-rate risk because their prices are more sensitive to rate changes (higher duration); a 30-year bond's price swings far more than a 6-month instrument when rates move.
43. Which statement about a zero-coupon bond is correct?
- A.It pays semiannual interest at a high coupon rate
- B.It is issued at a deep discount and pays face value at maturity, with no periodic interest✓ Answer
- C.It is guaranteed to trade at par at all times
- D.It carries no interest-rate risk
A zero-coupon bond makes no periodic interest payments; it is bought at a deep discount and redeemed at face value at maturity. Because there are no coupons to reinvest, it eliminates reinvestment risk but has high interest-rate (price) sensitivity.
44. Cumulative preferred stock differs from straight (noncumulative) preferred stock because:
- A.Missed (omitted) dividends accumulate and must be paid before any common dividend✓ Answer
- B.It always carries full voting rights
- C.It can be converted into bonds at any time
- D.It never pays a dividend
With cumulative preferred stock, any skipped dividends accrue as arrears and must be paid in full before common shareholders receive any dividend; noncumulative preferred loses skipped dividends permanently.
45. The current yield of a bond is calculated as:
- A.Annual coupon interest divided by par value
- B.The coupon rate multiplied by years to maturity
- C.Annual coupon interest divided by the current market price✓ Answer
- D.Par value minus the purchase price
Current yield equals the bond's annual coupon interest divided by its current market price, so a discount bond has a current yield above its coupon rate and a premium bond below it.
46. A negotiable certificate of deposit (jumbo CD) traded in the money market typically has:
- A.A face value of $100,000 or more and can be sold before maturity✓ Answer
- B.No stated maturity date
- C.Full protection from interest-rate risk
- D.A guaranteed equity return
Negotiable (jumbo) CDs have face values of $100,000 or more, pay interest, and, unlike ordinary CDs, can be sold in the secondary money market before maturity.
47. Systematic risk differs from unsystematic risk in that systematic risk:
- A.Can be substantially reduced through diversification
- B.Affects the entire market and cannot be diversified away✓ Answer
- C.Is unique to a single company or industry
- D.Applies only to bonds, not stocks
Systematic (market) risk affects the whole market and cannot be eliminated by diversification, whereas unsystematic (nonsystematic) risk is specific to an issuer or sector and can be reduced by diversifying.
48. A convertible bond gives the holder the right to:
- A.Demand early repayment at twice par value
- B.Exchange the bond for a fixed number of the issuer's common shares✓ Answer
- C.Receive a guaranteed dividend increase each year
- D.Convert the bond into a Treasury security
A convertible bond can be exchanged, at the holder's option, for a preset number of the issuer's common shares, letting the investor participate in stock appreciation while receiving bond interest until conversion.
49. Which security represents an ownership (equity) interest rather than a creditor (debt) relationship?
- A.A corporate debenture
- B.A Treasury note
- C.Common stock✓ Answer
- D.A municipal revenue bond
Common stock represents equity, an ownership stake in the corporation, whereas debentures, Treasury notes, and municipal bonds are debt instruments that make the holder a creditor of the issuer.
50. A corporate debenture is best described as a bond that is:
- A.Secured by a specific pledge of real estate
- B.Guaranteed by the U.S. Treasury
- C.Backed only by the general credit and earning power of the issuer, with no specific collateral✓ Answer
- D.Collateralized by a pool of other securities
A debenture is an unsecured bond backed only by the issuer's general creditworthiness and earning power, not by specific collateral, so it carries more credit risk than a secured bond of the same issuer.
Practice questions based on the FINRA SIE content outline. Not affiliated with FINRA and not investment advice. About the SIE (FINRA) →