Credit Balance

Idle cash in a retail customer's account at Thistlewood Brokerage moves automatically each evening into the money market vehicle the customer elected at account opening. In cashiering terms, what is this?

1. A.A residual credit, because the cash accrued to the account after the trading day closed.Wrong. Residual credits arise on an account that has already been transferred away, not on the daily balance of a live account.
2. B.A journal to a third party, because the money market vehicle is a separate legal entity.Wrong. Journals are made on a specific instruction between accounts on the firm's books, not run nightly by the system.
3. C.A reinvestment, because a distribution is being used to acquire additional shares.Wrong. Nothing has been distributed here; the cash is simply sitting idle and being put somewhere it earns.
4. D.A sweep, because free credit balances move to the elected vehicle under a standing election.Correct. An idle balance plus a standing election is what distinguishes this from every other cash movement in the department.

Why: A sweep is the automatic, standing-instruction movement of free credit balances out of the brokerage account into a money market fund or bank deposit vehicle the customer elected, and back again when cash is needed to settle a purchase. It is driven by the balance, not by an event on any particular security. Reinvestment is the different mechanic of applying a dividend or capital gain distribution to buy more of the paying security. If the customer had elected no sweep vehicle, the cash would simply sit in the account as a free credit balance.

A principal reviewing the firm's customer protection procedures focuses entirely on the segregation of customer securities and does not examine how the firm treats customer cash sitting in accounts as free credit balances awaiting reinvestment. What has this review overlooked?

1. A.Nothing — free credit balances are functionally the firm's own operating funds once a customer's securities transaction settles, and are not subject to any separate customer protection treatment.Wrong. Free credit balances remain customer funds subject to their own protection requirement; they do not become the firm's own operating funds.
2. B.The review should have focused on whether the free credit balances were earning a competitive interest rate for the customer, rather than on any protection requirement.Wrong. Rate competitiveness is a separate commercial question from whether the cash is being properly protected as required.
3. C.The review should have confirmed that free credit balances were being automatically swept into a money market fund within the same business day they arose.Wrong. This invents a specific same-day automatic-sweep requirement that is not established as the actual issue.
4. D.Customer cash held as a free credit balance is also subject to a customer protection requirement, separate from the segregation rules that apply to securities, and a review that covers only securities segregation has not addressed the firm's obligations regarding customer cash.Correct. Customer cash has its own separate protection treatment that a securities-only review does not cover.

Why: Customer cash held as a free credit balance is also subject to a customer protection requirement, separate from the segregation rules that apply to securities, and a review that covers only securities segregation has not addressed the firm's obligations regarding customer cash.

Gideon Marsh sells short 400 shares of Verrick Labs at 31 in a margin account and deposits the required Regulation T amount. Applying FINRA's 30 percent minimum maintenance requirement for short positions, at approximately what share price would Gideon first receive a maintenance call?

1. A.About 40.30This multiplies the 31 short sale price by 1.30. That shortcut ignores the credit balance, which includes both the proceeds and the Reg T deposit.
2. B.About 38.75This divides 31 by 0.80, which applies a 20 percent requirement to the sale price. FINRA's short account minimum is 30 percent, applied to the credit balance.
3. C.About 46.50This is 150 percent of the short sale price, the level at which equity would reach zero if no deposit had been made. Gideon deposited 6,200 dollars.
4. D.About 35.77Correct. Credit balance 18,600 divided by 1.30 gives 14,307.69 of short market value, or about 35.77 per share.

Why: Short proceeds are 400 x 31 = 12,400 dollars, and the 50 percent Regulation T deposit is 6,200 dollars, giving a credit balance of 18,600 dollars. In a short account, equity equals the credit balance minus the short market value. Equity reaches 30 percent of short market value when short market value = 18,600 / 1.30 = 14,307.69 dollars, which is 14,307.69 / 400 = about 35.77 per share. Above that price the account is under the maintenance requirement.

A customer of Redhawk Securities has elected to reinvest distributions on a mutual fund position and has also elected a sweep vehicle for idle cash. The fund pays an income distribution and the customer complains that the money never reached her sweep. What is the correct explanation?

1. A.The money reached the sweep and was then withdrawn from it the same evening to buy fund shares.Wrong. That reverses the order of operations, and nothing pulls cash back out of a sweep vehicle to purchase shares.
2. B.The sweep applies only to proceeds of sales, so income is excluded from it by definition.Wrong. A sweep takes any free credit balance regardless of where the cash came from, including income paid in cash.
3. C.The reinvestment election consumed the distribution in additional shares, so no free credit balance ever formed.Correct. The money was applied to buy shares upstream of the cash balance, so the sweep had nothing to act on.
4. D.Distributions cannot be swept until they settle, so the cash will appear in the sweep after settlement.Wrong. This invents a settlement gate, when the reason the cash is absent is that it was never paid in cash.

Why: A sweep operates on free credit balances, meaning cash sitting idle in the account. A reinvestment election intercepts the distribution before that point and applies it to purchase additional shares of the paying fund, so the cash never becomes a free credit balance for the sweep to act on. The two elections are not in competition; they operate at different moments in the life of the same dollar. If the customer revoked the reinvestment election, the next distribution would be paid in cash, would become a free credit balance and would then be swept.