SIE Exam Question 419: Answer and Explanation

Question: 419

A client of yours purchased 1000 shares of RAL common stock on Monday, February 11th in a cash account at a CMV of $115 per share. The next day the stock moves to $128 on a very favorable news report and the client places an order to sell the 1000 shares at the market. On the Reg. T payment date the client has not paid for the purchase and asks that liquidation proceeds be used to cover the cost of the purchase.

• A. This is free-riding, a violation of Reg. T
• B. This is a variation of front-running, a fraudulent act.
• C. This is referred to as trading ahead.
• D. Your firm will begin an investigation into the probability that this client had access to inside information prior to the announcement of the favorable news.

Correct Answer: A

Explanation:

A: The purchase needs to be paid for in a timely way or the law does not consider the purchaser to be the 'owner' of the shares and entitled to any profit on them. Regulation T refers to the use of sale proceeds to pay for the purchase as 'free-riding.' It is not acceptable.