NASAA Series 65, Uniform Investment Adviser Law ExaminationClient Investment Recommendations and StrategiesHard
An investment adviser is constructing a portfolio for a client who prioritizes generating a consistent stream of income while maintaining a moderate level of risk. The client is not seeking aggressive capital appreciation. Which asset class would be MOST suitable for a significant allocation in this portfolio?
- ASmall-cap growth stocks.
- BLong-term government bonds.
- CReal estate investment trusts (REITs).
- DHigh-yield corporate bonds.
Show answer & explanationAnswer & explanation
Correct answer: C. Real estate investment trusts (REITs).
REITs are known for distributing a significant portion of their income as dividends, providing a consistent income stream. While they carry some equity risk, they generally offer a moderate risk profile compared to individual stocks and are less sensitive to interest rate fluctuations than long-term government bonds, aligning with the client's goal of consistent income and moderate risk.
Why the other options are wrong
- A. Small-cap growth stocks are aggressive, focused on capital appreciation, and carry high risk, not consistent income.
- B. Long-term government bonds provide income, but their prices are highly sensitive to interest rate changes, which can introduce significant risk to capital, especially if rates rise. Their income may also be lower than REITs.
- D. High-yield corporate bonds offer higher income but come with significantly higher credit risk and default potential, which may exceed a 'moderate' risk level for a consistent income priority.
Income-Oriented Asset Classes
Investment vehicles primarily chosen for their ability to generate a regular and predictable stream of income for investors, often with a focus on capital preservation or moderate growth.
- Examples include bonds, preferred stocks, dividend-paying common stocks, and REITs.
- Often favored by retirees or investors with specific income needs.
- Risk profiles can vary widely within income-oriented assets.
Memory trick: Income's consistent flow, moderate risk in tow.