Reading 2-VI: Standards of Professional Conduct & Guidan investment, 2010, research, writing, center

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Session 1: Ethical and Professional Standards
Reading 2-VI: Standards of Professional Conduct & Guidance: Conflicts of Interest

LOS A.: Disclosure of Conflicts.

 

 

 

Abner Flome, CFA, is writing a research report on Paulsen Group, an investment advisory firm. Flome’s brother-in-law holds shares of Paulsen stock. Flome has recently interviewed for a position with Paulsen and expects a second interview. According to the Standards, Flome’s most appropriate action is to disclose in the research report:

A) his brother-in-law’s holding of Paulsen stock and that he is being considered for a job at Paulsen.

B) that he is being considered for a job at Paulsen.

C) his brother-in-law’s holding of Paulsen stock.

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The possibility of employment with Paulsen creates a potential conflict of interest which Flome must disclose. Standard VI(A) Disclosure of Conflicts does not require disclosure of his brother-in-law’s ownership of Paulsen stock.

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The following scenarios refer to two analysts who are employed at Global Securities, a large brokerage firm.

• Paula Linstrom, CFA, is instructed by her supervisor to write a research report on Delta Enterprises. Delta's stock is widely held by institutional and individual investors. Although Linstrom does not own any of Delta's stocks, she believes that one of her friends may own 10 shares of Delta. The stock currently sells for $25 per share. Linstrom does not believe that informing her employer about her friend's possible ownership of Delta shares is necessary.
• Hershel Wadel, a member of CFA Institute, is asked by his supervisor to write a research report on Gamma Company. Wadel's wife inherited 500 shares of Gamma Company from her father when he died five years ago. Gamma stock currently sells for $35 per share. Wadel does not believe that informing his employer about his wife's ownership of Gamma shares is necessary.

According to CFA Institute Standards of Professional Conduct, which the following statements about Linstrom and Wadel's conduct is most accurate?

A) Only one of these analysts must disclose a potential conflict of interest.

B) Neither of these analysts must disclose a potential conflict of interest.

C) Both of these analysts must disclose a potential conflict of interest.

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The possibility that Linstrom’s friend may own a few shares of Delta's stock, worth a low dollar amount, does not create a conflict of interest such potential ownership could not reasonably be expected to interfere with her duty to employer or ability to make unbiased and objective recommendations. On the other hand, Wadel has a beneficial interest in his wife's ownership of Gamma shares. Standard VI(A) Disclosure of Conflicts requires that Wadel disclose this information so that his employer can make the proper determination.

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To comply with the CFA Institute Standards, employees have a duty to disclose possible conflicts of interest to:

A) neither employers nor clients, but the member must use "prudent judgment."

B) only their employer.

C) both their employer and their clients.

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According to Standard VI(A), Disclosure of Conflicts, employees have a duty to disclose to both their employer and their clients all matters which may impair their independence and objectivity or interfere with their duties to employer, clients, and prospects.

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Ray Stone, CFA, follows the Amity Paving Company for his employer. Which of the following scenarios is Stone least likely to have to disclose to his employer.

A) Stone's ownership of Amity securities.

B) The fact that Stone's son worked at Amity as a laborer during the summer while in school.

C) Stone's personal relationship with the CEO of Amity.

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Members are required to disclose to their employer all matters that reasonably could interfere with their objectivity. Personal friendships with corporate executives and personal ownership of securities could reasonably interfere with objectivity, but it is unlikely that a child’s employment in a labor function would reasonably interfere with a parent’s objectivity.

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Fern Baldwin, CFA, as a representative for Fernholz Investment Management, is compensated by a base salary plus a percentage of fees generated. In addition, she receives a quarterly performance bonus on a particular client’s fee if the client’s account increases in value by more than 2 points over a benchmark index. Baldwin had a meeting with a prospect in which she described the firm’s investment approach but did not disclose her base salary, percentage fee, or bonus.

Baldwin has:

A) violated the Standards by not disclosing her performance bonus.

B) violated the Standards by not disclosing her salary, fee percentage, and performance bonus.

C) not violated the Standards because there is no conflict of interest with a potential prospect in the employment arrangements.

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Standard VI(A) requires members to disclose all matters that could reasonably be expected to impair the member’s ability to make unbiased and objective recommendations. Compensation based on a percentage of fees generated does not create an inherent bias. If, however, a performance bonus is paid for investment results, it may unduly encourage the manager to take more risk than is proper and prudent, and so the existence of the bonus opportunity must be disclosed to the client.

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An analyst is serving on the Board of Directors of a local publicly traded company. To avoid violating the CFA Institute Code and Standards, the analyst must disclose this to:

A) only his employer.

B) both his employer and his clients and prospective clients.

C) no one since it should not cause a conflict of interest for the analyst.

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Serving on a Board of Directors should be disclosed to both the employer and clients and prospective clients.

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Will Lambert, CFA, is a financial analyst for Offshore Investments. He is preparing a purchase recommendation on Burch Corporation for internal use. According to the CFA Institute Standards of Professional Conduct, which of the following statements about disclosure of conflicts is not required? Lambert would NOT need to disclose to his employer that:

A) his wife owns 2,000 shares of Burch Corporation.

B) Offshore is an OTC market maker for Burch Corporation's stock.

C) he is a beneficiary of a pension plan of his former employer that owns a large number of shares of Burch's stock.

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Standard VI(A), Disclosure of Conflicts, requires members to disclose to their employer all matters, including beneficial ownership of securities, that reasonably could be expected to interfere with their duty to their employer or ability to make unbiased and objective recommendations. Disclosure of an employer's own involvement with the security is not necessary in this instance. If the report had been for external use, it would have been necessary to make all of the disclosures given as choices.

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Bill Valley has been working for Advisors, Inc., for several years, and he just joined CFA Institute. Valley routinely writes research reports on Pharmaceutical firms. Valley has recently been asked to serve on the board of directors of an organization that promotes the search for a cure of a certain cancer. Serving on the board is an unpaid position without any direct benefits other than meeting new people and potential clients. To comply with Standard VI, Disclosure of Conflicts, Valley needs to:

A) do nothing.

B) both disclose the position on the board to his supervisor and discuss his activities on the board.

C) only disclose the position on the board to his supervisor.

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Valley could be affected by his position on the board because he may tend to favor investments in firms that do cancer research. To comply with Standard VI(A), Disclosure of Conflicts, Valley must inform his supervisor of this relationship and discuss his activities on the board. Even if his supervisor does not find the relationship troublesome, any subsequent action that could lead to a conflict of interest should be discussed with the firm’s compliance officer.

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Jan Hirsh, CFA, is employed as manager of a college endowment fund. The college’s board of directors has recently voted to consider divesting from companies located in a country that has a poor civil rights record. Hirsh has personal investments in several firms in the country. Hirsh needs to:

A) disclose her ownership in the stocks to both her supervisor and the board.

B) do nothing since the board has not made a decision yet.

C) disclose her ownership in the stocks to her supervisor only.

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From the given information, there is no conflict of interest and no violation of Standard VI(A), Disclosure of Conflicts. A conflict could arise if the board were to ask Hirsh what the effect on the college’s endowment would be if they were to divest. At that time she would have to reveal her ownership in the stocks to make known the possible conflict of interest.