NASAA Series 65, Uniform Investment Adviser Law ExaminationInvestment Vehicle CharacteristicsEasy
A portfolio manager is constructing a diversified portfolio for a client with a moderate risk tolerance. The manager wants to include an investment that offers a relatively stable income stream and has a legal obligation for the issuer to pay interest and principal. Which of the following would be the most suitable choice?
- AWarrant
- BPreferred Stock
- CCorporate Bond
- DCommon Stock
Show answer & explanationAnswer & explanation
Correct answer: C. Corporate Bond
Corporate bonds represent debt obligations where the issuer is legally bound to pay interest and principal, providing a stable income stream suitable for a moderate risk tolerance.
Why the other options are wrong
- A. Warrants are long-term options to buy stock, offering no stable income and significant speculative risk.
- B. Preferred stock offers fixed dividends but they are not a legal obligation, and it carries more equity risk than a bond.
- D. Common stock offers growth potential but dividends are not guaranteed, and principal is subject to market fluctuation without a legal obligation.
Corporate Bond
A debt security issued by a corporation to raise capital, promising to pay interest over a specified period and repay the principal at maturity.
- Issuer is legally obligated to pay interest and principal.
- Provides a fixed income stream.
- Generally less volatile than stocks.
- Subject to interest rate risk and credit risk.
Memory trick: Bonds are binding: legal payment obligation, stable income.