What is Markup/Markdown?

B is correct. The FINRA 5% Policy is a guideline, not a firm rule, and markups exceeding 5% may be justified by factors such as the security being thinly traded, the small dollar amount of the transaction, and the effort and cost of acquiring an inactive security. Disclosure is a factor, but disclosure alone does not justify an unfair markup, and fairness turns on all relevant circumstances. A is incorrect because the 5% Policy is not an absolute maximum; it's a guide that can be exceeded with proper justification. C is incorrect for the same reason; there is no requirement to reduce the markup to exactly 5%. D is incorrect because no rule excuses disclosure on the basis of a small dollar amount; whether the confirmation must show the markup depends on the type of transaction, not its size.

B is correct. The FINRA 5% Policy is a guide (not a rule) that FINRA adopted after studies showed most customer transactions carried a markup of 5% or less. The percentage is only one factor: a markup of 5% or even less may still be unfair, and this percentage may be exceeded if justified by factors such as the nature of the security, transaction size, or dealer services. A is incorrect because the 5% Policy is a guideline, not an absolute prohibition; markups can exceed 5% in appropriate circumstances. C is incorrect because dealers are not required to charge exactly 5%; the policy sets a reasonableness guideline, not a fixed rate. D is incorrect because the 5% Policy applies to both markups (when dealers sell) and markdowns (when dealers buy).

C is correct. Calculate the markup percentage: ($42.50 - $40.00) / $40.00 = $2.50 / $40.00 = 0.0625 = 6.25%. The markup is the difference between the dealer's cost ($40) and the customer price ($42.50), divided by the dealer's cost; here the dealer's contemporaneous cost stands in for the prevailing market price, which is what FINRA Rule 2121 measures from. A is incorrect (2.5% would result from an incorrect calculation). B is incorrect (5.0% would be the markup if the customer paid $42 per share: $2/$40 = 5%). D is incorrect (10% would require a much larger price difference). When evaluating reasonableness under the 5% Policy, note that this 6.25% markup exceeds the guideline and would need to be justified by factors such as the security type, transaction size, or market conditions.

C is correct (the exception). The statement is false. The 5% Policy is a guide, not an absolute maximum; markups and markdowns may exceed 5% if justified by factors such as the security being thinly traded, a small dollar amount, or a low share price. A is accurate: a markup is measured from the prevailing market price when a dealer sells to a customer. B is accurate: markdowns occur when dealers buy from customers at a price below prevailing market. D is accurate: FINRA Rule 2121 requires the price to be reasonably related to the prevailing market price, judged with all relevant factors.

C is correct (I, II, and IV). Statement I is true: The $1.50 markup on a $25 dealer cost equals 6% ($1.50 / $25 = 0.06 = 6%). Statement II is true: because the firm is not a market maker and bought the shares to offset a contemporaneous sale to the customer, SEA Rule 10b-10 requires the confirmation to show the difference between the customer's price and the firm's purchase price. Statement III is false: exceeding the 5% Policy guideline does not automatically make a transaction prohibited. The 5% Policy is a guideline, not a firm rule, and markups above 5% may be justified by factors such as thinly traded securities, a small dollar amount, a low share price, or the effort and cost of acquiring an inactive security. Statement IV is true: the reasonableness of any markup depends on multiple factors including the nature of the security (liquid vs. thinly traded), transaction size, expense to the dealer, services provided, and prevailing market conditions.