Markup

A firm charges a 4.6% markup on a thinly traded stock, and its principal argues the charge must be acceptable because it came in under the threshold. FINRA's 5% policy is:

1. A.A fairness guideline for markups and commissionsCorrect - a guideline, not a strict cap.
2. B.A hard maximum commission of 5%The number in the name invites this reading, but the policy is a guideline rather than a ceiling. What matters is whether the total charge is fair given the security, the size of the trade, and the work involved.
3. C.A tax rateNothing about the policy concerns taxation. It addresses what a broker-dealer may charge a customer in markups, markdowns, and commissions.
4. D.A minimum commissionThis turns the guideline upside down. It exists to keep charges from becoming excessive, and a rule requiring firms to charge at least a set amount would work against the customer it is meant to protect.

Why: The 5% policy is a guideline that markups, markdowns, and commissions should be fair and reasonable - not a hard limit.

FINRA's 5% markup policy does NOT apply to:

1. A.Corporate bonds in the secondary marketThis runs the question backward. Secondary-market corporate bond trades sit squarely inside the policy's reach, and the stem is hunting for what falls outside it, so a covered transaction cannot be the answer.
2. B.Secondary-market common stockThis is the policy's core case rather than an exception to it. Dealer markups and markdowns on secondary-market equity trades are precisely what the 5% guideline was written to police.
3. C.All transactionsSaying the policy reaches nothing contradicts a guideline that governs most secondary-market dealer transactions. An all-or-nothing option is also the wrong shape for a question asking you to isolate one carved-out category.
4. D.Securities sold via a prospectus (new issues, mutual funds)Correct - prospectus offerings are excluded.

Why: The 5% policy does not apply to securities sold via a prospectus, such as new issues and mutual funds.

An agent charges a markup far above the prevailing market price. This is:

1. A.An unfair, prohibited practiceCorrect - markups must be reasonable.
2. B.Required disclosure onlyDisclosure is not a cure for an unfair price. The obligation is that the total charge be reasonable in relation to the prevailing market, so announcing an excessive markup describes the violation rather than resolving it.
3. C.Standard for large tradesTrade size cuts the other way. Larger transactions generally support a smaller percentage charge because the work is spread over more dollars, so size is an argument against a heavy markup rather than for one.
4. D.Allowed for illiquid securitiesThis is the most defensible of the wrong answers, because difficulty of execution and thin trading are legitimate factors in judging a markup, and a harder trade can fairly carry a larger one. The stem removes that shelter by putting the charge far above the prevailing market, which is more than any illiquidity premium can explain.

Why: Excessive, unreasonable markups are a prohibited practice.

A firm sells a customer 500 shares out of securities the firm has held in its own trading account for two weeks. In what capacity did the firm act?

1. A.Principal, earning a markupCorrect. Selling from inventory is principal capacity and the compensation is a markup embedded in the price.
2. B.Agent, earning a markupThis mixes the two systems. Markups never accompany agency capacity.
3. C.Principal, earning a markdownThe capacity is right but a markdown applies when the dealer buys from a customer, not when it sells.
4. D.Agent, earning a commissionThe firm sold shares it owned, which is principal capacity. Commissions do not apply.

Why: Selling from its own inventory makes the firm a principal, also called a dealer. Its compensation is a markup added to the prevailing market price.