Penny Stock

A firm's written supervisory procedures for penny stock transactions have not been updated to reflect the firm's recent expansion into recommending penny stocks to retail customers, having previously covered only unsolicited penny stock orders. What must the principal do?

1. A.Update the WSPs to specifically address the firm's expanded business of recommending penny stocks to retail customersCorrect. WSPs must be updated to reflect the firm's actual current business, including the shift to recommended, solicited transactions.
2. B.Nothing, as long as representatives are informally told about the change in a team meetingWrong. An informal verbal notice does not substitute for updating the firm's formal written supervisory procedures.
3. C.Nothing, because WSPs for penny stocks only need to address account opening, not the recommendation process itselfWrong. This understates the necessary scope; WSPs must address the recommendation process for a business now built around soliciting these transactions.
4. D.Nothing, since the existing WSPs for unsolicited penny stock orders automatically extend to cover recommended transactionsWrong. This is the exact trap the question describes; procedures designed for unsolicited orders do not automatically cover the different supervisory considerations of recommended transactions.

Why: The principal must update the WSPs to specifically address the firm's new business of recommending penny stocks, since the supervisory considerations for solicited, recommended transactions differ from those for unsolicited orders. Procedures designed only for the prior, narrower business do not adequately cover the expanded activity.

A firm wants to recommend a penny stock transaction to a new retail customer who has never traded penny stocks before. What must the principal ensure occurs before the transaction is effected?

1. A.Nothing, as long as the customer has previously traded any other type of speculative securityWrong. Prior experience with other speculative securities does not substitute for the specific penny stock disclosure requirements.
2. B.Nothing, since penny stock disclosure requirements apply only to institutional accountsWrong. Penny stock disclosure requirements are specifically aimed at protecting retail customers, not limited to institutional accounts.
3. C.Nothing beyond the firm's standard new account suitability review used for any equity transactionWrong. This treats penny stock transactions like ordinary equity trades, missing the additional required disclosures specific to penny stocks.
4. D.Ensure the required penny stock disclosures, including risk disclosure about the penny stock market, are made before the transactionCorrect. Penny stock sales practice requirements impose specific disclosure obligations before effecting transactions with new customers.

Why: Sales practice requirements for penny stock transactions generally require specified disclosures to the customer, including risk disclosure about the penny stock market, before effecting the transaction with a new customer. The principal must ensure these required disclosures are made, not treat the transaction like an ordinary equity trade with no additional disclosure step.

A firm sends a customer the required penny stock risk disclosure document and obtains her signed acknowledgment on the same day the confirmation for her first penny stock purchase is mailed, after the trade has already been executed. A principal is asked whether this timing satisfies the requirement. What should she conclude?

1. A.The timing is acceptable since the disclosure and confirmation were sent together in the same mailing.Wrong. Sending disclosure alongside a confirmation of an already-executed trade is still after the fact, not before the transaction.
2. B.The timing is acceptable as long as the acknowledgment is signed before the next transaction in the account.Wrong. The requirement runs to the specific transaction it precedes, not to some future transaction.
3. C.The disclosure and signed acknowledgment must be obtained before the transaction is effected, not alongside a confirmation of a trade that already occurred.Correct. Disclosure and acknowledgment must precede the transaction, not follow it.
4. D.The timing is only a concern if the customer did not actually read the disclosure document before signing.Wrong. The timing defect exists regardless of whether the customer read the document.

Why: The risk disclosure document and the customer's signed acknowledgment must be furnished and obtained before effecting the transaction, not delivered alongside or after the confirmation of a trade that has already occurred.

A firm delivers the required penny stock risk disclosure document to a new customer and obtains her signed acknowledgment before recommending a penny stock transaction. No separate determination of the transaction's suitability for this specific customer is documented anywhere. A principal is asked whether the disclosure and acknowledgment alone are sufficient. What should she conclude?

1. A.The disclosure and acknowledgment are sufficient on their own, since suitability is addressed generally at account opening.Wrong. General account-opening suitability doesn't substitute for a documented determination for the specific recommended penny stock transaction.
2. B.The disclosure and acknowledgment are sufficient as long as the customer is a new account rather than an existing one.Wrong. Account tenure has no bearing on whether a separate suitability determination is required.
3. C.Suitability only needs to be documented if the customer later complains about the recommendation.Wrong. The suitability determination is a required step at the time of recommendation, not a reactive one triggered by a complaint.
4. D.Disclosure and acknowledgment satisfy only the disclosure requirement; a separate, documented suitability determination for the specific recommendation is also required.Correct. Disclosure and suitability are separate, independently required steps.

Why: Delivering the risk disclosure document and obtaining the customer's acknowledgment satisfies the disclosure requirement but does not by itself satisfy the separate requirement that the firm make and document a suitability determination for the recommended penny stock transaction.