Reading 2-II: Standards of Professional Conduct & Guidanc 2011, center, style, label, three

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Session 1: Ethical and Professional Standards
Reading 2-II: Standards of Professional Conduct & Guidance: Integrity of Capital Markets

LOS A.: Material Nonpublic Information.

 

 

Lisa Pierce, CFA, has been researching Lander Manufacturing for the past three weeks. She likes the company’s history of fulfilling its contracts on time and within budget. She learns from the uncle of a maintenance worker at Lander’s headquarters that a group of well-dressed individuals arrived at headquarters in a lime green-colored limousine. Pierce knows from publicly available information that Gilbert Controls needs a large supply of specialized motors in its domestic division. She also knows that the executive officers of Gilbert usually travel in a lime green limousine. Pierce concludes that it is very likely that Gilbert will offer a large contract to Lander. Based on this development and her prior research Pierce would like to acquire Lander Manufacturing shares for her client accounts.

Pierce should:

A) proceed to acquire the shares.

B) not acquire the shares because she possesses material nonpublic information.

C) not acquire the shares until after she has contacted Lander's management and encouraged them to publicly announce information about the Gilbert Controls contract. She should also wait until Lander has made the announcement and the public has had time to react to it and then make the acquisition.

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Standard II(A) prohibits members from taking investment action if they possess material nonpublic information. Pierce combined information that was not misappropriated, with her knowledge of the company, to reach a conclusion under the mosaic theory, which is permissible under the standards. She can proceed to buy the shares.

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The term "material" in the phrase "material nonpublic information" refers to information that is likely to affect significantly the market price of the issuing company's securities or that:

A) is acquired by the financial analyst from a special or confidential relationship with the issuing company.

B) is likely to be considered important by reasonable investors in determining whether to trade a particular security.

C) is derived by the financial analyst from direct communication with an issuing company's management.

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An item of information is material if its disclosure would be likely to have an impact on the price of a security, or if reasonable investors would want to know the information before investing.

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Andrea Waters is an investment analyst who has accumulated and analyzed several pieces of nonpublic information through her contacts with drug firms. Although no one piece of the information she collected is "material," Waters correctly concluded that the earnings of one of the drug companies would be unexpectedly high in the coming year. According to CFA Institute Standards of Professional Conduct, Waters:

A) cannot legally invest or make recommendations based on this information.

B) may use the information, but only after approval from a compliance officer or supervisor.

C) can use the information to make investment recommendations and decisions.

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Members who can piece together items of nonmaterial nonpublic information with public information can, based upon the mosaic theory, use such information for trading purposes.

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Which of the following statements regarding Standard II(A), Material, Nonpublic Information, is least accurate?

A) Material, non-public information regarding a tender offer may not be traded on.

B) If you receive the information in a public forum, it has been disseminated, and you can trade on it.

C) Information received from an insider who is not breaching his fiduciary responsibility may be traded on.

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If the information is material and nonpublic, the Member or Candidate cannot trade or cause others to trade. It does not matter if the insider did not breach his fiduciary responsibility. The inside information is still material and nonpublic.

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Trude Front, CFA, is a portfolio manager. While in the normal course of her duties, she happens to overhear material non-public information concerning the stock of VTT Bowser. She purchases several exchange traded funds which contain VTT Bowser, while shorting similar exchange traded funds which do not contain VTT Bowser. This is most likely:

A) not a violation of Standard II(A) "Material Non-Public Information."

B) only a violation of Standard II(A) "Material Non-Public Information" because Front is simultaneously shorting the funds which do not contain VTT Bowser.

C) a violation of Standard II(A) "Material Non-Public Information."

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This is a violation of Standard II(A) "Material Non-Public Information" irrespective of whether Front is simultaneously shorting the funds which do not contain VTT Bowser. Her trades are motivated by material non-public information.

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A stockbroker who is a member of CFA Institute has a part-time housekeeper who also works for the CEO of Festival, Inc. One day the housekeeper mentions to the broker that she saw the CEO of Festival having a conversation at his home with John Tater, who is a nationally known corporate lawyer and consultant. The stockbroker is restricted from trading on this information:

A) for both of the reasons listed here.

B) only if the broker knows that the meeting is non-public information.

C) if the housekeeper says the meeting concerned a tender offer and the broker knows that it is non-public information.

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Standard II(A), Material Nonpublic Information, states “a member cannot trade or cause others to trade in a security while the member possesses material nonpublic information” A tender offer would certainly be material nonpublic information. Knowing that the meeting took place, and nothing else, does not restrict the broker. A reasonable investor would need to know more to determine if the information was material.

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A brokerage firm has a trading department and an investment-banking department. Often the investment-banking department receives material non-public information that would be valuable in advising the firm’s brokerage clients. In order to comply with the Standards, the firm:

A) should record the exchange of information between the investment-banking department and the brokerage department.

B) must divest one of the departments.

C) should restrict employee trading in securities for which the firm is in possession of material non-public information.

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Restricting employee trading in stocks for which the firm has material non-public information is the best answer. Recording the exchange of information between the two departments is not the best option because there should be no exchange of information between these two departments. Divesting a department is not a suitable method for addressing this potential problem.

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According to CFA Institute Standards of Professional Conduct, which of the following statements about material nonpublic information is NOT correct? Information is:

A) material if reasonable investors would want to know the information before making an investment decision.

B) nonpublic until it has been disseminated to the marketplace in general.

C) nonpublic until it has been disseminated to a select group of investors.

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Standard II(A), Material Nonpublic Information, states that information is “nonpublic” until it has been disseminated to the marketplace in general as opposed to a select group of investors.