In the many years tutoring FINRA’s equity research exam, we’ve found Series 86 high-level tips to be just as crucial as knowing the accounting and valuation sections.
Many embedded assumptions go into the questions in this exam. Furthermore, many are unexplained in certain course materials. Of course, knowing these assumptions can be very important in answering questions. In today’s post, we highlight a few of these.
Series 86 High-Level Tips: Watch for Specifics
When it comes to the Series 86 Exam, we see no shortage of very intelligent people having a difficult time. This exam is a hard one. We see a large proportion of very intelligent people who are not used to failing exams, fail this exam.
Sometimes only a few simple tips is all you need.
For example, we highly recommend that you pay very close attention to the specificity of a question. The reason being that the core focus of the question is often needed for the answer.
For example, if a question is asking you what the best data source may be when forecasting a specific company’s revenue, it will almost never be the average revenue growth of the industry, or GDP growth. Both answer choices are too macro.
The answer to such a question is more likely to relate to something specific about the company. Usually this will be given in the question. Whether that be pricing, units, sales, seasonality, etc.
Timing
Another key assumption in the Series 86 Exam is around timing.
When it comes to valuation, you should assume that the default for any valuation metric is trailing 12 months.
In other words, when asked to calculate a P/E ratio, EV/sales, EV/EBITDA, etc, you should assume that the denominator is not forward looking, but rather historical.
Be careful, however, for questions that specify using a forward ratio. In those cases, you should follow the question’s instructions. Use future sales, earnings, or EBITDA if instructed.
In another reference to timing, also be aware that when asked about the impact of a certain corporate action on earnings, or some other ratio, the default temporal assumption on the timing of the impact is “ immediate.”
For example, if a question asks for the impact on ROE of a decrease in inventory, while simultaneously decreasing debt, we would assume there is no change to this ratio.
One reason is that net income will not improve “immediately.” Despite debt being paid down it will take time for interest expense to work its way through. Since the default assumption of timing is “immediately” then a decrease in debt will have no impact on net income (note: every now and then this assumption gets contradicted but the answer should be more obvious in that case).
Overall, this exam remains very challenging. We highly recommend that you try to understand the resources out there as best you can when studying for this exam. If you need any help, feel free to reach out! Good luck!