JustasS

According to CFA Institute Standards of Professional Conduct, when a client asks her portfolio manager to change the current investment strategy of the client’s portfolio, the manager should:

A) explain the implications of the new strategy after the member manager implements the strategy.

B) examine whether the strategy is appropriate for the client and explain the implications of the new strategy before implementing the strategy.

C) obey the client's request without question.

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According to Standard III(C), Suitability, the member manager must determine that an investment is suitable given the client’s objectives/constraints and within the context of the client’s total portfolio. In this case, the member manager must examine the new strategy to see if it is appropriate for the client, even if the client asked for the change. The member should also explain the implications of the strategy to avoid any misrepresentations that may result from omitting details.

JustasS

The best way to determine the suitability of an investment is:

A) based on portfolio performance results, presented as a weighted average, from the biggest financial companies.

B) by administration of a specially designed survey of the client's opinions.

C) to consider the financial situation, investment experience, and investment objectives of the client.

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Although broad in scope, the best way to determine suitability is to consider the financial situation, investment experience and investment objectives of the client. Both of the other choices deviate from these essential issues.

JustasS

Chandra Patel, CFA, manages private client portfolios for QED Investment Advisers. Part of QED’s firm-wide policy is to adhere to CFA Institute Standards of Professional Conduct in the management of all client portfolios, and to this end, the firm requires that client objectives, investment experience, and financial limitations be clearly established at the outset of the relationship. This information is updated at regular intervals not to exceed eighteen months. The information is maintained in a written investment policy statement for each client.
Anarudh Singh has been one of Patel’s clients ever since she began managing money ten years ago. Shortly after his regular situational update, Singh calls to inform Patel that his uncle is ill, and it is not known how long the uncle will survive. Singh expects to inherit “a sizeable sum of money,” mainly in the form of municipal bonds. His existing portfolio allocation guidelines are for 75% to be invested in bonds. Singh believes that the expected inheritance will allow him to assume a more aggressive investment profile and asks Patel to begin moving toward a 75% allocation to equities. He is specifically interested in opening sizable positions in several technology firms, some of which have only recently become publicly traded companies. Patel agrees to begin making the changes to the portfolio and the next day begins selling bonds from the portfolio and purchasing stocks in the technology sector as well as in other sectors. After placing the trade orders, Patel sends Singh an email to request that he come to her office sometime during the next week to update his investment policy statement. Singh replies to Patel, saying that he can meet with her next Friday.
A few days before the meeting, however, Singh’s uncle dies and the portfolio of municipal bonds is transferred to Singh’s account with QED. Patel sees this as an opportunity to purchase more technology stocks for the portfolio and suggests taking such action during her meeting with Singh, who agrees. Patel reviews her files on technology companies and locates a report on NetWin. The analyst’s recommendation is that this stock is a “core holding” in the technology sector. Patel decides to purchase the stock for Singh’s account, as well as several other wealthy client accounts with high risk tolerance levels, but due to time constraints she does not review the holdings in each account. Patel does examine the aggregate holdings of the accounts to determine the approximate weight that NetWin should represent in each portfolio.
Since Patel has very recently passed the Level III examination leading to the award of the CFA designation, QED sends a promotional email to all of the firm’s clients. The email states “QED is proud to announce that Chandra Patel is now a CFA (Chartered Financial Analyst). This distinction, which is the culmination of many years of work and study, is further evidence of the superior performance you’ve come to expect at QED.” Patel also places phone calls to inform of her accomplishments several brokers that she uses to place trades for her accounts, stating that she “passed all three CFA examinations on the first attempt.” One of the people Patel contacts is Max Spellman, a long-time friend and broker with TradeRight Brokers Inc. Patel uses the opportunity to discuss her exclusive trading agreement with TradeRight for Singh’s account.
When ordering trades for Singh’s account, Patel’s agreement with TradeRight for brokerage services requires her to first offer the trade to TradeRight and then to another broker if TradeRight declines to take the trade. TradeRight never refuses the trades from any manager’s clients. Patel established the relationship with TradeRight because Singh, knowing the firm’s fee schedule relative to other brokers, asked her to do so. However, because TradeRight is very expensive and offers only moderate quality of execution, Patel is considering directing trades on Singh’s account to BullBroker, which charges lower commissions and generally completes trades sooner than TradeRight.

Do QED’s policies comply with CFA Institute Standards of Professional Conduct with respect to the information contained within the client investment policy statements and the frequency with which the information is updated?

Information

Frequency

A) Yes No

B) No No

C) No Yes

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According to Standard III(C) Suitability, members and candidates must consider investment experience, objectives (risk and return), and constraints before investing funds on the client’s behalf or recommending investments to the client. The firm has complied with the information content. The investment policy statement must be updated at least annually, or after significant changes in client circumstances, however, according to the guidance statement accompanying Standard III(C). Thus the firm has not complied with Standard III(C) in this regard. (Study Session 1, LOS 2.a,b)

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In light of Singh’s comments during his telephone call to Patel prior to his uncle’s death, which of the following actions that Patel can take comply with CFA Institute Standards of Professional Conduct?

A) Patel must not place any trades in the account until she meets with Singh to develop a new portfolio strategy based on the updated information.

B) Patel must adhere to the existing portfolio strategy until she meets with Singh to develop a new portfolio strategy based upon updated financial information but may place trades which are consistent with the existing strategy.

C) Patel may change the current portfolio strategy and begin trading based upon Singh’s expectations because he advised her to do so.

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According to Standard III(C) Suitability, Patel must observe the written investment objectives now in effect as determined in cooperation with the client and may trade only on that basis. Because the anticipated change in Singh’s financial condition was subject to an event of indeterminable timing, she should continue to honor the existing written investment objectives until a change (1) is warranted by an actual increase in the client’s total financial assets and (2) has been agreed upon with her client. (Study Session 1, LOS 2.a,b)

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According to CFA Institute Standards of Professional Conduct, may Patel reallocate Singh’s portfolio toward technology stocks after his Uncle dies but before the meeting with Singh?

A) Yes, because the total value of the municipal bonds received into the account will be too large relative to the other assets in the portfolio.

B) No, because Patel must wait until the next annual meeting to reallocate.

C) No, because Patel and Singh must meet and revise the investment policy statement and portfolio strategy before reallocating.

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According to Standard III(C) Suitability, investment recommendations and actions must be consistent with a client’s written objectives and constraints (usually in the form of an investment policy statement (IPS)). Because Singh’s written IPS would not allow the large allocation to technology stocks prior to receiving the inheritance, the IPS must be updated by Singh and Patel prior to taking any actions that deviate from the original IPS. Patel will violate Standard III(C) by reallocating the portfolio before meeting with Singh. (Study Session 1, LOS 2.a,b)

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Did Patel violate any CFA Institute Standards of Professional Conduct when she purchased the NetWin stock for Singh’s portfolio or for the other clients’ portfolios?

Singh's portfolio

Other portfolios

A) No No

B) No Yes

C) Yes Yes

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According to Standard III(C) Suitability, Patel must analyze the appropriateness and suitability of NetWin.com stock on a case-by-case basis before buying it. This will necessarily consider the basic characteristics of the security and how these will affect overall portfolio characteristics relative to the existing investment strategy for each portfolio. Patel has not analyzed the effect that the stock will have on any of the individual portfolios in question and has thus violated the Standard. Patel cannot look at aggregate measures to determine the appropriate weight that the security should represent in the individual portfolios because the portfolios are being managed individually, not in aggregate. (Study Session 1, LOS 2.a,b)

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Which of the following is least accurate regarding the promotional announcement of Patel passing the Level III exam?

A) The fact that a promotional announcement was made violates the restrictions on misrepresenting the meaning of the CFA designation.

B) The promotional announcement uses the letters “CFA” as a noun and hence is an improper use of the designation.

C) The announcement violates the Code of Ethics because it implies that obtaining a CFA charter leads to superior performance.

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An announcement that a member of a firm has received the right to use the CFA® designation is not a violation of the Code or Standards. However, Standard VII(B) requires that any reference to the Charter must not misrepresent or exaggerate the meaning or implications of the CFA designation. A Charterholder cannot claim that holding a Charter leads to superior performance results. The letters “CFA” can only be used as an adjective (never a noun, as in “he is a CFA”). Finally, passing all three exams does not give one the right to use the designation. All criteria must be met (e.g., experience requirements) before Patel can use the designation. (Study Session 1, LOS 2.a,b)

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With respect to the choice of broker, did Patel violate any CFA Institute Standards of Professional Conduct?

A) Yes, since Patel is obligated to seek the best possible price and execution for all clients.

B) Yes, since Patel failed to properly notify Singh that using TradeRight would lead to higher commissions and opportunity costs.

C) No.

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Since Singh directed Patel to use TradeRight, this should be considered client-directed brokerage. While Patel should inform Singh of the implications of that choice, Patel has no option but to follow the client’s direction according to Standard III(A) Loyalty, Prudence, and Care. Singh was fully aware of the fees charged by TradeRight relative to other brokerage firms and elected to use TradeRight anyway. Investment managers are obligated to seek the best price and execution in the absence of client direction. (Study Session 1, LOS 2.a,b)

JustasS

Nancy Korthauer, CFA, has launched a new hedge fund called the Korthauer Tautology Fund and is actively soliciting clients from competitor’s firms. Client presentations are necessarily brief and often take place with the prospective client’s current investment advisor in the room. The Code and Standards require that:

A) a prospective client’s current investment advisor not participate in meetings.

B) all client presentations provide a thorough review of all elements of the investment management process. Abbreviated presentations are forbidden.

C) member or candidate provide (on request) additional detail information which supports the abbreviated presentation.

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See Standard III(D). When presentations are brief, additional detail which supports the abbreviated presentation information must be provided on request. Best practice dictates that the member or candidate should make reference to the abbreviated nature of the presentation.

JustasS

A money manager is meeting with a prospect. She gives the client a list of stocks and says, “These are the winners I picked this past year for my clients. Their double-digit returns indicate the type of returns I can earn for you.” The list includes stocks the manager had picked for her clients, and each stock has listed with it an accurately measured return that exceeds 10%. Is this a violation of Standard III(D), Performance Presentation?

A) Yes, unless the positions listed constitute a complete presentation (i.e., there were no stocks omitted that did not perform in the double digits).

B) No, because the manager had the historical information in writing.

C) Yes, because the manager cannot reveal historical returns of recent stock picks.

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Standard III(D) requires fair representations concerning past and potential future performance. Unless the list of the “winners” includes all the positions that the firm held, the manager is misrepresenting past performance. The following statement is questionable: “Their double-digit returns indicate the type of returns I can earn for you,” but the action of submitting a partial list is clearly a violation. The manager should have information on past performance in writing.

JustasS

While it would be customary to report both five-year and ten-year performance data, Seminole Equity Partners has been in existence for only eight years. Because of this, Kurt Dambach does not report ten-year data but reports for both five years and since the inception of the fund. This he notes in a footnote at the bottom of the information sheet. This action is:

A) a violation of the Standard concerning prohibition against misrepresentation.

B) in accordance with the Code and Standards since he has indicated the basis in a footnote.

C) a violation of the Standard concerning performance presentation.

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Members who communicate performance information must ensure that the information is fair, accurate, and complete. Seminole Equity’s presentation meets this standard.

JustasS

A money management firm has created a new junk-bond fund. When the firm advertised the new fund at its issuance, they used care to accurately compute the returns from the past 10 years for all assets in the fund. The firm used the current portfolio weights to determine an average annual historical return equal to 18% and claim an 18% annual historical return in their advertising literature. With respect to Standard III(D), Performance Presentation, this is:

A) in compliance.

B) a violation because the advertisement implies the firm generated this return.

C) a violation because the Standard prohibits computing historical returns on risky assets like junk bonds.

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Reporting the historical returns of all assets now in the fund introduces a survivorship bias. Also, the advertisement is misleading because the fund just came into existence and has no historical record. Thus, the firm has misled the public as to their performance history.

JustasS

Trude Front, CFA, is a portfolio manager and works extensive hours. To give her a more flexible work environment, she often works from home on her personal computer and keeps client account information there – in violation of company policy. While away on travel, her home is burglarized and her computer is taken. Rather than disclose the policy violation, she does not notify her company or her clients of the contents of her computer files. Two months later the client account information is used to commit identity theft, costing her clients a total of $58,000 in fraudulent charges. Front is most likely:

A) in violation of Standard III(E) "Preservation of Confidentiality" for failing to follow company policies and procedures relating to electronic information and security resulting in accidental disclosure of confidential information.

B) not in violation of any Standard because the disclosure of confidential information was accidental and unavoidable.

C) not in violation of any Standard because the confidential information was stored on her personal computer for use for work during her personal time.

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Front violated Standard III(E) "Preservation of Confidentiality" by failing to follow company policies and procedures relating to electronic information and security resulting in accidental disclosure of confidential information.

JustasS

Greg Stiles, CFA, keeps a list of his clients’ birthdays and has personally sent them a birthday card each year at the appropriate time. With respect to this action, which of the following may be a violation of Standard III(E), Preservation of Confidentiality?

A) Sending a gift along with the card.

B) The mere act of sending a birthday card each year.

C) Hiring a company outside the firm to perform the task.

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According to Standard III(E), an analyst should limit the number of persons who have access to clients’ personal information. Allowing a company outside the firm to send birthday cards could be a violation. Sending a birthday card is not a violation, nor is sending a gift of reasonable value.

JustasS

While servicing his clients’ accounts, an analyst who is a CFA charterholder, determines that one client is probably involved in illegal activities. According to Standard III(E), Preservation of Confidentiality, the analyst may NOT do which of the following?

A) Contact CFA Institute about the determination.

B) Both contact CFA Institute and governmental authorities.

C) There are no exceptions in this list.

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Standard III(E) allows an analyst to reveal information about a client to CFA Institute since CFA Institute will keep the information confidential. If the analyst is reasonably certain a law has been violated, an analyst may have an obligation to report the activities to the appropriate authorities. Therefore, none of the listed actions are exceptions from the analyst’s options.