Reading 2: Guidance for Standards I - VII 2010, integrity, involving, knowledge, between

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Session 1: Ethical and Professional Standards
Reading 2: Guidance for Standards I - VII

LOS a, b, c:

1. Demonstrate a thorough knowledge of the Code of Ethics and Standards of Professional Conduct by applying the Code and Standards to situations involving issues of professional integrity.
   
   
2. Distinguish between conduct that conforms to the Code and Standards and conduct that violates the Code and Standards.
   
   
3. Recommend practices and procedures designed to prevent violations of the Code of Ethics and Standards of Professional Conduct.

 

 

 

Member compliance on issues relating to corporate governance or to soft dollars is primarily addressed by the Standard concerning:

A) Disclosure of Referral Fees.

B) Disclosure of Conflicts to Clients and Prospects.

C) Loyalty, Prudence, and Care.

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Fiduciary duty on issues relating to corporate governance or to soft dollars is primarily addressed by Standard III(A), Loyalty, Prudence, and Care.

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Ken James has been an independent financial advisor for 15 years. He received his CFA Charter in 1993, but did not feel it helped his business, so he let his dues lapse this year. He still has several hundred business cards with the CFA designation printed on them. His promotional materials state that he received his CFA designation in 1993. James:

A) can continue to use the existing promotional materials, and can use the cards until his supply runs out—his new cards cannot have the designation.

B) must cease distributing the cards with the CFA designation, but can continue to use the existing promotional materials.

C) must cease distributing the cards with the CFA designation and the existing promotional materials.

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Use of the CFA designation must be stopped immediately, however, the receipt of the Charter is a matter of fact.

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Jim Kent is an individual investment advisor in San Francisco with 300 clients. Kent uses open-ended mutual funds to implement his investment policy. For most of his clients, Kent has used the Baker fund, a small company growth fund based in Boston, for a portion of their portfolio. As a result he has become very friendly with Keith Dunston, the manager of the fund, whom Kent feels is mainly responsible for Baker's performance. One day Dunston calls Kent and tells him that he will be leaving the fund in four weeks and moving to San Francisco to work for a different money management company. Dunston is seeking suggestions on housing in the area. Baker has not yet announced Dunston's departure. Kent immediately finds a fund that is a suitable replacement for the Baker fund, and over the next two days he calls his 30 clients with the largest dollar investments in the funds and tells them he feels they should switch their holdings. Baker feels the remaining clients' positions are small enough to wait for their annual review to switch funds. Kent has:

A) violated the Standards by not dealing fairly with clients but has not violated the Standards regarding material nonpublic information.

B) violated the Standards regarding nonpublic information but has not violated the Standards in failing to deal fairly with clients.

C) violated the Standards by not dealing fairly with clients and regarding material nonpublic information.

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Kent must treat all clients fairly in acting on the information, regardless of the size of the investment. The information concerning the fund manager’s departure is not material nonpublic information because its release would have no effect on individual security prices.

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Janine Walker is an individual investment advisor with 200 individual clients. When she first obtains a client, Walker solicits personal data that helps her formulate an investment recommendation, including tax status, income, expenditure needs, and risk tolerance. The Standards:

A) require updating a client's data only when a material change occurs to the personal data.

B) only require to update a client's data when a material change is being made to the clients' portfolio.

C) require Walker to update the data regularly.

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According to Standard III(C), Suitability, Members and Candidates must reassess client information and update regularly.

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The following information pertains to the Galaxy Trust, a trust established by Stephen P. House and managed by Gamma Investment LLC:

• At the time the trust was established House provided $5 million in cash to fund the trust, but Gamma was aware that 93% of his personal assets were in the form of Oracle stock.
• Gamma has been asked to view his funds and the trust as a single entity for planning purposes, since House’s will stipulates that all of his estate will pass to the trust upon his death.
• The investment policy statement, developed in September 1996, stipulates that the trust should maintain a short position in Oracle stock and use the proceeds to diversify the trust more adequately.
• House was able to sell all of his Oracle shares back to the corporation in January 1999 for cash.
• The policy statement redrawn in September 1999 continues to stipulate that the trust hold a short position in Oracle stock.
• House has given the portfolio manager in charge of the trust an all expenses paid vacation package anywhere in the world each year at Christmas. The portfolio manager has reported this fact in writing to his immediate supervisor at Gamma. 

Which of the following is most correct? The investment manager is:

A) in violation of the Code and Standards by not properly updating the investment policy statement in light of the change in the circumstances but is not in violation with regard to the acceptance of the gift from House.

B) in violation of the Code and Standards by not properly updating the investment policy statement in light of the change in the circumstances and is in violation with regard to the acceptance of the gift from House.

C) not in violation of the Code and Standards for not properly updating the investment policy statement in light of the change in the circumstances and is not in violation with regard to the acceptance of the gift from House.

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The investment manager is in violation of the Standard requiring him to make a reasonable inquiry into the client’s financial situation and update the investment policy statement since such a dramatic change in the client’s circumstances would undoubtedly alter the investment policy statement and would probably eliminate the need to hold a short position in Oracle. The investment manager is not in violation of the Standard concerning additional compensation, since the gift has been reported to his supervisor and has come from a client. If there was a failure to report such a gift, if the firm had a rule in place against the acceptance of gifts from clients, or if the gift had come from a non-client, there would be a violation of the standard.

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Judy Gonzales is a portfolio manager with Brenly Capital and works on Johnson Company's account. Brenly has a policy against accepting gifts over $25 from clients. The Johnson portfolio has a fantastic year, and in appreciation, the pension fund manager sent Gonzales a rare bottle of wine. Gonzales should:

A) inform her supervisor in writing that she received additional compensation in the form of the wine.

B) present the bottle of wine to her supervisor.

C) return the bottle to the client explaining Brenly's policy.

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By not returning the bottle she would be violating the Standard on disclosure of conflicts to the employer, which states that employees must comply with prohibitions imposed by their employer.

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One year ago, Karen Jason left the employment as a portfolio manager of Howe Advisors. The departure was contentious and both parties threatened legal action. As a result, both parties signed a settlement in which Jason was paid a pro rated bonus, but agreed not to work on the portfolios of any existing Howe client for two years. The terms of the agreement were that both parties agreed to keep all aspects of the agreement confidential, including the fact that there was hostility surrounding the departure. Jason now works for Torre Advisors, who has the Stein Company as a new client. At the time Jason left Howe, Stein was a client of Howe, although Jason did not personally work on the Stein portfolio. Jason's supervisor at Torre wants Jason to work on the Stein portfolio. Jason should:

A) inform her supervisor that she cannot work on the portfolio because of a non-compete agreement.

B) inform her supervisor that she cannot work on the portfolio because of a legal agreement, but cannot tell him why.

C) work on the portfolio because she did not personally work on the portfolio when she was at Howe.

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Jason must inform her supervisor of the conflict, but she cannot violate the terms of the confidentiality agreement and she cannot work on the portfolio.

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Brian Williams is a portfolio manager with Santo Capital and works on the Banks Company's account. Santo has a policy against accepting gifts over $500 from clients. The Banks' portfolio has a fantastic year, and in appreciation, a Banks manager sends Williams a rare bottle of wine that he estimates is worth $300. Williams must:

A) inform his supervisor in writing that he received additional compensation in the form of the wine.

B) return the bottle to the client.

C) report the pension fund manager to the CFA Institute Professional Conduct Program.

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The Standards require that he inform his supervisor in writing about the gift.

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Jack Harris, a CFA candidate, is a telecommunications analyst at Hasten Securities. Based upon his analysis of Midwest Telecom, he changes his recommendation of the company’s common stock from “hold” to “sell.” Before disseminating his recommendation and the reason for the change to Hasten’s clients, Harris informs several portfolio managers at Hasten, whom he knows personally own Midwest stock, of the changed recommendation. Several days later, Hasten communicates the change in investment recommendation on Midwest to clients known to have bought Midwest and those who currently hold the stock.

Jane White, CFA, is a broker at Hasten Securities. One of her clients places a buy order contrary to the current recommendation on Midwest. After advising her client of the recommendation, she executes the transaction.

According to Standard III(B), Fair Dealing, which of the following statements about Harris and White’s actions is TRUE?

A) Harris violated Standard III(B), but White did not violate Standard III(B).

B) Both Harris and White violated Standard III(B).

C) Neither Harris nor White violated Standard III(B).

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Harris violated Standard III(B), Fair Dealing by not treating all customers fairly. Instead, he disclosed the information selectively to some of his firm’s portfolio managers. White did not violate Standard III(B) because she communicated to the person placing a buy order on Midwest that the order was contrary to the current recommendation before executing the order.

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Chuck Thomas is the trustee of a trust of which Jill Wyatt is the main beneficiary. Wyatt's husband is the president of a company. In emptying the recycling bin at home, Wyatt finds some papers that lead her to believe that her husband’s company will make a tender offer to acquire another firm. Wyatt takes the information to Thomas, who uses it to purchase shares of the company for the trust, but does not further disclose the information. Thomas has:

A) not violated any Standards.

B) violated the Standards concerning loyalty, prudence, and care.

C) violated the Standards concerning material nonpublic information.

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Thomas cannot act or cause others to act on material nonpublic information.