SEC

Which regulator has authority over the amount of credit a broker-dealer may extend to a customer buying securities on margin?

1. A.The SEC, which regulates all extensions of credit in connection with securities transactions.Wrong. The Commission oversees the markets broadly but the initial margin authority was given elsewhere.
2. B.The Federal Reserve Board, which sets the initial credit that may be extended on a securities purchase.Correct. Congress placed this with the central bank because margin credit bears on the money supply itself.
3. C.FINRA, which sets both the initial and the maintenance requirements for its member firms.Wrong. Self-regulatory organisations set maintenance requirements beneath the federal initial requirement.
4. D.The Treasury Department, through its authority over government securities dealers.Wrong. Treasury's rulemaking concerns the government securities market rather than margin credit generally.

Why: The Federal Reserve Board sets the initial credit that may be extended in a securities transaction, exercising an authority Congress gave it in the Securities Exchange Act because margin credit affects the money supply and the stability of the banking system, not merely investor protection. Its rules govern credit extended by broker-dealers and separately by banks and other lenders. Beyond that federal floor, the self-regulatory organisations impose maintenance requirements, and individual firms routinely set house requirements stricter still. So three layers apply, and the top layer, the initial extension of credit, belongs to the central bank rather than to the SEC.

Nonsystematic (specific) risk can be reduced primarily through:

1. A.Increasing leverageBorrowing magnifies whatever risk the portfolio already carries, including the security-specific risk the question asks about. Leverage scales exposure up rather than diluting it across issuers.
2. B.Market timingTiming entries and exits is aimed at market movements, which is systematic risk, and even there it is unreliable. It does nothing about the possibility that one company in the portfolio suffers a fraud, a recall, or a lost patent.
3. C.Concentrating in one stockThis is the definition of taking on specific risk rather than reducing it. A single-stock portfolio has no offsetting positions, so every issuer-level surprise passes straight through to the investor.
4. D.DiversificationCorrect - spreading holdings lowers specific risk.

Why: Diversification reduces security-specific, nonsystematic risk; it cannot eliminate market risk.

The Securities Exchange Act of 1934:

1. A.Created the SEC and regulates secondary-market tradingCorrect - the 1934 Act governs trading and created the SEC.
2. B.Governs only new issuesNew issues belong to the 1933 Act. The 1934 Act takes over from there, governing what happens once a security has been sold to the public and begins trading.
3. C.Created the Federal ReserveThe central bank was established by separate legislation two decades earlier. What the 1934 Act created was the SEC, the agency charged with overseeing the trading markets.
4. D.Exempts all securities from regulationThis inverts the statute's purpose. The Act extended federal oversight to exchanges, broker-dealers, and trading practices rather than removing securities from regulation.

Why: The 1934 Act created the SEC and regulates the secondary market (trading, exchanges, broker-dealers).

Insider trading is prohibited under the:

1. A.Investment Company Act of 1940The 1940 Act governs how mutual funds and other investment companies are organized and run. It has nothing to say about trading on inside information.
2. B.Trust Indenture ActThe Trust Indenture Act deals with the terms of corporate bond indentures and the role of the trustee protecting bondholders. It is a debt-documentation statute, not a trading-conduct one.
3. C.Securities Exchange Act of 1934Correct - the 1934 Act governs insider trading.
4. D.Securities Act of 1933The 1933 Act does carry antifraud provisions, which makes this a reasonable guess, but its reach is the offering process itself. Trading on material nonpublic information in the open market is addressed by the 1934 Act.

Why: The Securities Exchange Act of 1934 (and later insider-trading acts) prohibits trading on material nonpublic information.