Reading 2-III: Standards of Professional Conduct & Guida class, div, receives, account, special

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Session 1: Ethical and Professional Standards
Reading 2-III: Standards of Professional Conduct & Guidance: Duties to Clients and Prospective Clients

LOS A.: Loyalty, Prudence, and Care.

 

 

 

While trading on behalf of a pension account, an analyst receives special research reports from the brokerage firm with whom she is doing the trades. Such an activity is:

A) not in itself a violation of Standard III(A), Loyalty, Prudence, and Care, nor the Code of Ethics.

B) a violation of only The Code of Ethics.

C) a violation of both Standard III(A), Loyalty, Prudence, and Care, and the Code of Ethics.

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An analyst can receive research from a brokerage firm with whom she is trading on behalf of a client. The analyst should inform the client of the arrangement. The client is more likely to violate Standard III(A) by obtaining non-research services or, worse yet, personal benefits from the brokerage firm.

 

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An independent analyst has only one client. One of the client’s largest holdings is a brokerage firm. Because of the large holding by his client, the brokerage firm recently began allowing the analyst to tap into the firm’s computer network to use the firm’s research facilities. This is allowable as long as the analyst:

A) uses the resources to help manage the client's account.

B) discloses the relationship to the client.

C) does both of the actions listed here.

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According to Standard III(A), Loyalty, Prudence, and Care, the analyst must put the client first and inform the client of any possible conflicts of interest. The analyst must channel any benefits derived from his service to the client, back to the client, and inform the client of the benefits

 

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Tony Calaveccio, CFA, is the manager of the TrustCo Small Cap Venture Fund in Toronto. He places trades for the fund with River City Brokerage. River City provides Calaveccio with soft dollars to purchase research. River City also deals in municipal bonds, some of which Calaveccio holds in his personal portfolio. He periodically uses the soft dollars to request research reports on various small cap stocks and also on the status of the municipal bond market and issues that he holds. These actions are:

A) in violation of his fiduciary duties regarding the municipal bond research but not so regarding the research on the small cap issues.

B) not in violation of the Code and Standards.

C) in violation of his fiduciary duties regarding both the small cap research and the municipal bond research.

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The issue at hand is the member's fiduciary responsibilities in handling "soft dollars" which are technically the property of the client. Standard III(A), Loyalty, Prudence, and Care, delineates the member's fiduciary responsibilities with regards to soft dollars. Since municipal bond research is clearly not relevant to the Small Cap Fund holders, he is clearly using the soft dollars to obtain research for his personal benefit and is in violation of the Standard.

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Which of the following is a possible breach of fiduciary duties by a CFA Institute member who manages assets on behalf of a client?

A) Using directed brokerage.

B) Neither of these breach fiduciary duties.

C) Voting all proxies of stocks the client owns.

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Proxies have economic value to the client. To comply with Standard III(A), the analyst is obligated to vote proxies in an informed and responsible manner. A cost benefit analysis may show that voting all proxies may not benefit the client, so voting proxies may not be necessary in all instances. Directed brokerage occurs when the client requests that a portion of the client's brokerage be used to purchase services that directly benefit the client. Although, this may prevent best execution, it does not violate the Standards as it was directed by the client, not the brokerage firm.

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Tony Calaveccio, CFA, is the manager of the TrustCo Small Cap Venture Fund in Toronto. He places trades for the fund with Canadian Brokerage. Canadian provides Calaveccio with soft dollars to purchase research. He uses these soft dollars to get research reports from Canadian's research department regarding the issues currently held in the small cap portfolio, and also for firms he is contemplating adding to the portfolio. By using soft dollars in this manner, Calaveccio has:

A) violated the Code and Standards by acquiring research on currently held issues and by acquiring research on issues contemplated for purchase.

B) violated the Code and Standards by acquiring research on issues contemplated for purchase but not by acquiring research on currently held issues.

C) not violated the Code and Standards.

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"Soft dollars" are the property of the client (in this case the holders of the shares of the Small Cap Venture Fund). Standard III(A) Loyalty, Prudence, and Care delineates the member's responsibilities. Since he is clearly using the soft dollars to obtain research that is directly applicable to his professional duties, there is no violation of the Standard.

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All of the following are required by fiduciaries under Standard III(A), Loyalty, Prudence, and Care, EXCEPT:

A) act solely in the interest of the ultimate beneficiaries.

B) support the sponsor's management during proxy fights.

C) place the client’s interest before the employer’s interest.

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Members are required to act in the interest of their clients. In voting proxies, the client’s interest must prevail over management’s interest.

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Tony Calaveccio, CFA, is the manager of the TrustCo Small Cap Venture Fund in Toronto. Calaveccio places a trade with Quantco Brokerage. While Calaveccio's part of the transaction was conveyed correctly to Quantco, there was a trading error made in Calaveccio's account due to a slip up within Quantco. Calaveccio realizes that the error has taken place, and informs his contact at Quantco. Calaveccio allows Quantco to cover the error, with no cost to TrustCo. This is:

A) permissible under CFA Institute Standards since some trading errors are a fact of life in the securities industry.

B) a violation of Calaveccio's duty to his employer.

C) a violation of Calaveccio's fiduciary duties.

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The issue is similar to an allocation of soft dollars. Clearly, if the broker absorbs the loss, they expect to make up the difference in some way. However, since the error was on the part of Quantco Brokerage, Calaveccio is under no obligation to cover the cost of the trading error. Moreover, no reasonable observer expects that there exists any implied future allocation of trades to Quantco in return for correcting their own mistake. There is no violation of Standard III(A), Loyalty, Prudence, and Care.

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In order to comply with Standard III(A), Loyalty, Prudence, and Care, an analyst needs to:

A) comply with applicable fiduciary duty.

B) perform both of the actions listed here.

C) liquidate his personal holdings of all stocks that his client owns.

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To comply with Standard III(A), the analyst must use reasonable care and exercise prudent judgment, always act for the benefit of clients, and determine and comply with applicable fiduciary duty.

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An analyst with his own money management firm trades on behalf of several large pension funds. The analyst now performs all trades through a particular brokerage firm because the brokerage provides his firm with a no-interest line of credit if paid within 60 days. The line of credit is available to all brokerage clients. The brokerage provides the analyst with personal account privileges that he would not otherwise be eligible for. The brokerage also provides the analyst with free research reports on many companies. Which of these benefits are violations of Standard III(A), Loyalty, Prudence, and Care?

A) Neither of these.

B) The personal account privileges.

C) The research reports.

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The personal account privileges are clearly a violation. The no-interest line of credit could be a violation if the analyst does not factor in the benefits when determining the fees of the clients, but it is not a per se violation. Research reports are least likely to be a violation.

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