Free Series 65 Practice Exam — 25-Question Diagnostic

Question 1

An economist is assembling a set of data series to help forecast the direction of the U.S. economy over the next several quarters. Which of the following indicators would be MOST useful for this purpose?

Accepted Answer

Building permits issued for new private housing units — Correct. Building permits are a classic leading indicator because construction is planned and permitted months before actual building activity and related spending occur, so permits turn up or down before the broad economy does.

Question 2

Concerned that inflation is running persistently above its target, the Federal Open Market Committee (FOMC) directs the trading desk to sell Treasury securities from the Federal Reserve's portfolio. The MOST likely immediate result of this action is that:

Accepted Answer

bank reserves decline and short-term interest rates rise — Correct. When the Fed sells securities in the open market, buyers pay the Fed, draining reserves (money) from the banking system. Scarcer reserves tighten credit and push short-term interest rates up — the standard monetary tool for fighting inflation.

Question 3

Over the past year, Fund X returned 10% with a standard deviation of 8%, while Fund Y returned 14% with a standard deviation of 16%. The risk-free rate was 2%. Based on the Sharpe ratio, which fund delivered the better risk-adjusted performance?

Accepted Answer

Fund X, because it earned more excess return per unit of total risk — Correct. Sharpe ratio = (portfolio return − risk-free rate) ÷ standard deviation. Fund X: (10% − 2%) ÷ 8% = 1.00. Fund Y: (14% − 2%) ÷ 16% = 0.75. Fund X generated more excess return for each unit of volatility, so it had the better risk-adjusted result.

Question 4

A 70-year-old client depends on the semiannual coupon payments from a portfolio of long-term, callable, investment-grade corporate bonds to meet living expenses. Market interest rates have recently fallen sharply and are expected to remain low for several years. Which risk should the client's investment adviser representative be MOST concerned about?

Accepted Answer

Reinvestment risk, because the bonds are likely to be called and the proceeds reinvested at lower yields — Correct. When rates fall, issuers call high-coupon bonds and refinance at cheaper rates. The client would receive principal back and be forced to reinvest at today's lower yields, cutting the income stream — reinvestment (call) risk is most damaging to income-dependent investors in a falling-rate environment.

Question 5

A client purchases American Depositary Receipts (ADRs) of a Japanese electronics company because she wants shares that trade on a U.S. exchange and settle in U.S. dollars. Which of the following risks remains present in this investment?

Accepted Answer

Currency risk, because changes in the yen-dollar exchange rate affect the value of the ADR and its dividends — Correct. An ADR represents foreign shares whose value and dividends are denominated in the local currency. Although the ADR itself trades and pays in U.S. dollars, the dollar amounts move with the yen-dollar exchange rate, so currency (exchange-rate) risk is not eliminated.

Question 6

An investment adviser representative expects market interest rates to fall substantially over the coming year. If the forecast is correct, which of the following bonds should experience the GREATEST percentage increase in market price?

Accepted Answer

A 25-year zero-coupon bond — Correct. Price sensitivity to rate changes rises with duration, and duration increases with longer maturity and lower coupon. A zero-coupon bond's duration equals its maturity because all cash flow arrives at the end, so the 25-year zero has the longest duration and the largest price gain when rates fall.

Question 7

A city issues bonds to finance construction of a new water treatment plant. The official statement provides that debt service will be paid solely from the user charges collected from the utility's customers, and the city has no obligation to levy taxes to support the bonds. These bonds are BEST described as which type of municipal security?

Accepted Answer

Revenue bonds, because payment of principal and interest depends on the income generated by the facility being financed — Correct. Revenue bonds are payable only from a specified revenue stream — here, water system user charges. They typically do not require voter approval, and their credit quality rests on the project's earnings rather than the municipality's taxing power.

Question 8

At 2:00 pm ET, an investor enters an order to buy shares of a closed-end investment company. The fund's most recently computed NAV is $14.60 per share, and the shares are currently quoted in the market at $13.25. What price will the investor pay?

Accepted Answer

Approximately $13.25 plus a commission, because closed-end shares trade in the secondary market at prices set by supply and demand — Correct. A closed-end fund has a fixed capitalization and its shares trade on an exchange or OTC like any listed stock. Market price is set by supply and demand and can be above (premium) or below (discount) NAV — here a discount — and the buyer pays the market price plus a brokerage commission.

Question 9

An investor owns 1,000 shares of KLM stock purchased at $42 per share; the stock currently trades at $45. Seeking additional income, he writes 10 KLM 50 calls and receives a premium of $2 per share. If the position is held until expiration, what is the investor's maximum potential gain?

Accepted Answer

$10,000 — Correct. Maximum gain occurs if the stock is called away at the $50 strike: stock profit of ($50 - $42) x 1,000 = $8,000, plus premium income of $2 x 100 shares x 10 contracts = $2,000, for a total of $10,000. Covered call writing generates income and caps upside at the strike, while the premium offsets only $2 per share of downside.

Question 10

A 50-year-old client purchased a nonqualified variable annuity several years ago with a single after-tax payment of $100,000. The contract value has grown to $160,000. She now takes a partial withdrawal of $50,000 before annuitizing, and no penalty exception applies. What are the federal income tax consequences of this withdrawal?

Accepted Answer

The entire $50,000 is taxed as ordinary income and is also subject to a 10% additional tax on the taxable amount — Correct. Partial withdrawals from a nonqualified deferred annuity are treated on a LIFO (earnings-first) basis: because the contract holds $60,000 of earnings, the entire $50,000 withdrawal is taxable as ordinary income. Since she is under age 59 1/2 and no exception applies, a 10% additional tax also applies to the taxable portion.

Question 11

Marta, age 68, retired last month. Her stated objectives are dependable monthly income and preservation of capital, she describes her risk tolerance as low, and she wants a portion of her assets immediately accessible for unexpected expenses. Which of the following portfolios is MOST suitable for Marta?

Accepted Answer

A laddered portfolio of investment-grade bonds, a modest allocation to dividend-paying blue-chip stocks, and a money market fund reserve — Correct. Suitability requires matching the recommendation to objectives, risk tolerance, time horizon, and liquidity needs: laddered investment-grade bonds supply dependable income with low credit risk, blue-chip dividend payers add modest inflation protection, and the money market reserve satisfies her liquidity need.

Question 12

The risk-free rate is 3%, the expected return of the overall market is 9%, and a stock has a beta of 1.4. According to the Capital Asset Pricing Model (CAPM), what is the expected return of the stock?

Accepted Answer

11.4% — Correct. CAPM: expected return = risk-free rate + beta × (market return − risk-free rate) = 3% + 1.4 × (9% − 3%) = 3% + 8.4% = 11.4%. Beta scales only the risk premium, not the total market return.

Question 13

Based on a client's objectives and risk tolerance, an adviser establishes a long-term policy mix of 60% equities and 40% fixed income. After a prolonged stock rally pushes the portfolio to 70% equities and 30% fixed income, the adviser sells equities and buys bonds to restore the original 60/40 mix. The adviser's approach is BEST described as

Accepted Answer

strategic asset allocation with periodic rebalancing — Correct. Strategic asset allocation sets a long-term target mix from the client's profile and then rebalances back to the target when market movements cause drift. The trades here are driven by the policy targets, not by a market forecast.

Question 14

Two clients each bought the same mutual fund on January 1 and held it through December 31. Client 1 made no additional transactions. Client 2 made one large additional purchase on September 1, shortly before a sharp market decline. Which statement about their returns for the year is CORRECT?

Accepted Answer

The clients' time-weighted returns are identical, but Client 2's dollar-weighted return is lower than Client 1's — Correct. Time-weighted return measures the performance of the investment itself and strips out the effect of investor cash flows, so it is the same for both clients; dollar-weighted return (IRR) incorporates cash-flow timing, and adding a large sum just before a decline drags Client 2's dollar-weighted return below Client 1's.

Question 15

On December 15, a client sells 1,000 shares of ABC common stock at a $12,000 loss to harvest the loss for tax purposes. On January 5 of the following year, 21 days later, the client repurchases 1,000 shares of ABC. What is the tax consequence of these transactions?

Accepted Answer

The loss is disallowed currently and is added to the cost basis of the replacement shares — Correct. Because substantially identical stock was repurchased within 30 days of the loss sale, the wash sale rule disallows the current deduction; the $12,000 disallowed loss is added to the basis of the new shares (and the old holding period tacks on), deferring the benefit until the replacement shares are sold.

Question 16

A 75-year-old retired client owns both a traditional IRA and a Roth IRA, each funded entirely with her own contributions. Which statement CORRECTLY describes her required minimum distribution (RMD) obligations in 2026?

Accepted Answer

The traditional IRA requires annual RMDs, but the Roth IRA has no RMDs during her lifetime — Correct. Traditional IRA owners must take annual RMDs once past the applicable age (73 in 2026 under SECURE 2.0), and being retired does not exempt an IRA owner; Roth IRAs impose no RMDs during the owner's lifetime, which is a key estate and tax-planning distinction (beneficiaries who inherit the Roth do face distribution requirements).

Question 17

A grandfather wants to set aside money for his 6-year-old granddaughter's future college costs. He insists on retaining control of the assets, wants the ability to redirect the money to a different grandchild if she does not attend college, and does not want her to gain control of the funds when she reaches the age of majority. Which vehicle BEST meets his requirements?

Accepted Answer

A 529 college savings plan with the grandfather as account owner — Correct. A 529 account owner retains ownership and control indefinitely, may change the beneficiary to another qualifying family member (such as a different grandchild) without tax consequences, and can even take the money back through a nonqualified withdrawal (with income tax and a penalty on earnings). The beneficiary never automatically takes control.

Question 18

A financial writer publishes a monthly subscription newsletter offering commentary on economic trends and model portfolios of exchange-traded funds. The newsletter is available to anyone in the general public, is released on a fixed schedule regardless of market events, and contains no advice tailored to the situation of any individual subscriber. Under the Uniform Securities Act, which of the following best describes the writer's status?

Accepted Answer

She is excluded from the definition of investment adviser, because the newsletter is a bona fide publication of general and regular circulation — Correct. Both the Uniform Securities Act and the Investment Advisers Act exclude publishers of bona fide publications of general and regular circulation. Under the standard drawn from Lowe v. SEC, a publication that is impersonal, offered to the general public, and issued on a regular schedule not timed to market events falls outside the definition of investment adviser.

Question 19

An investment adviser currently registered in State A files its annual updating amendment to Form ADV reporting regulatory assets under management of $104 million. Which of the following is TRUE regarding the firm's registration status?

Accepted Answer

The firm may elect to register with the SEC now, but it is not required to do so unless its assets under management reach at least $110 million — Correct. Under Section 203A of the Advisers Act and SEC Rule 203A-1, an adviser with regulatory AUM between $100 million and $110 million may choose either state or SEC registration; SEC registration becomes mandatory once the annual amendment reports $110 million or more. The buffer (including the $90 million withdrawal floor for SEC-registered firms) exists to prevent repeated switching as assets fluctuate.

Question 20

An investment adviser representative is employed by a federal covered investment adviser and works exclusively from the firm's office in State X. She serves 32 retail clients who reside in State Y, communicating with them only by telephone and video conference; she has no office or other place of business in State Y. In which state or states must she register as an investment adviser representative?

Accepted Answer

State X only, because an IAR of a federal covered adviser registers only in states where she maintains a place of business — Correct. Under Section 203A(b) of the Advisers Act (as implemented after NSMIA) and state law, a state may require registration of an IAR of a federal covered adviser only if the IAR has a place of business in that state. Since her only place of business is in State X, she registers there alone, regardless of how many State Y clients she serves remotely.

Question 21

In July 2026, an SEC-registered investment adviser proposes a new advisory contract with a prospective client under which the adviser would receive 15% of the account's capital appreciation each year. The client would place $1.2 million under the adviser's management, has a net worth of $2.5 million excluding the value of his primary residence, and has no other relationship with the adviser. May the adviser enter into this contract?

Accepted Answer

No, because the client satisfies neither the assets-under-management test nor the net worth test for a qualified client — Correct. Section 205(a)(1) of the Advisers Act generally prohibits fees based on capital gains or appreciation, and Rule 205-3 exempts contracts only with 'qualified clients.' As of June 29, 2026, a qualified client must have at least $1.4 million under the adviser's management or a net worth above $2.7 million (excluding the primary residence); this client fails both tests, so the performance fee is impermissible.

Question 22

A client of a state-registered investment adviser mistakenly mails stock certificates directly to the adviser's office. The adviser does not maintain custody of client assets and has no authority to hold them. Under NASAA custody requirements, what must the adviser do to avoid being deemed to have custody?

Accepted Answer

Return the certificates to the client within three business days of receiving them — Correct. Under the NASAA model custody rule (paralleling SEC Rule 206(4)-2), an adviser that inadvertently receives client funds or securities avoids having custody only if it returns them to the sender within three business days of receipt. Holding them longer triggers the full custody obligations (qualified custodian, notices, statements, surprise examination, and minimum financial requirements for state-registered advisers).

Question 23

An SEC-registered investment adviser agrees to pay a social media personality, who has never been a client of the firm, $2,500 per month to promote the firm's advisory services in her videos. Under the Investment Advisers Act Marketing Rule, this arrangement is:

Accepted Answer

permitted, if the adviser makes the required compensation and conflict disclosures, has a written agreement with her, and reasonably believes she is not an ineligible person — Correct. Rule 206(4)-1 permits paid testimonials (from clients) and endorsements (from non-clients) in advertisements subject to conditions: clear and prominent disclosure of the promoter's status and compensation, oversight and a written agreement when compensation exceeds the $1,000 de minimis over the preceding 12 months, and no payment to 'bad actor' ineligible persons.

Question 24

Under the NASAA model rule on unethical business practices of investment advisers, each of the following is a prohibited practice EXCEPT:

Accepted Answer

borrowing money from a client that is a bank engaged in the business of lending funds — Correct — this is NOT prohibited. Borrowing from a client is generally unethical, but the NASAA model rule excepts three types of clients: broker-dealers, affiliates of the adviser, and financial institutions engaged in the business of loaning funds. A loan from a bank client made in the ordinary course of its lending business is therefore permissible.

Question 25

An applicant for registration as an investment adviser representative in State W has passed the required examination but has never worked in the securities industry. Under the Uniform Securities Act, the Administrator:

Accepted Answer

may not base a denial of the registration solely on the applicant's lack of experience — Correct. Section 204 of the Uniform Securities Act permits the Administrator to deny, suspend, or revoke a registration only when it is in the public interest and an enumerated ground exists (such as willful violations, certain convictions, injunctions, or insolvency) — and it specifically provides that registration may not be denied solely because of lack of experience.

Free Series 65 Practice Exam — with an explanation for every answer

An economist is assembling a set of data series to help forecast the direction of the U.S. economy over the next several quarters. Which of the following indicators would be MOST useful for this purpose?

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