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LOS a, b:

a. Demonstrate a thorough knowledge of the Code of Ethics and Standards of Professional Conduct by applying the Code and Standards to specific situations.

b. Recommend practices and procedures designed to prevent violations of the Code of Ethics and Standards of Professional Conduct.

Jack Stevens is employed by a company to provide investment advice to participants in the firm's 401(k) plan. One of the investment options is a stable value fund run by the company. Stevens' research indicates that the fund is far riskier and less liquid than the typical stable value fund and has a fundamental asset value lower than book value of the assets. He tells Jessica Cox, the head of employee benefits, about his research, and indicates that he will advise new employees to not invest in the fund and will advise employees who already own the fund to reduce their holdings in the fund. Cox points out that the fund is not in any current danger because there are very few redemptions requested of the fund. Cox also states that a sell recommendation may become a self fulfilling prophecy, causing investors to redeem their shares and forcing the fund to liquidate, which in turn will cause the remaining investors to receive less than their promised value. Stevens agrees with this assessment and feels his fiduciary duty is to all employees. Stevens should:

A)	continue to recommend that new investors do not invest in the fund and existing investors reduce their holdings.

B)	tell investors he cannot give advice on the fund because of a conflict of interest.

C)	continue to recommend that new investors do not invest in the fund, but not advise existing investors to reduce their holdings.

Travis Brown is a partner in a money management firm. He recently attended a seminar and learned about a quantitative model presented by Dixon. Upon returning to his office, Brown began testing the model and making a few minor alterations. He showed the model to his partners who were impressed and decided to promote the model as proof of the firm's value added. In the firm's next newsletter, Brown included a discussion of the model, the results, and financial data on several stocks selected by the model. These factual data were taken from Standard and Poor's publication. According to the CFA Institute Standards of Professional Conduct, which of the following actions is Brown required to take?

A)	Brown must credit S&, no need to credit Dixon.

B)	Brown must credit both Dixon and S&.

C)	Brown must credit Dixon, no need to credit S&.

Randal Brooks is the chief economist for a large brokerage firm. In the aftermath of a national tragedy, Brooks feels that it is very possible that the stock market will drop significantly and not recover for several years. However, he does not believe that this is the most likely scenario but merely that the risk of investing in equities has increased. He decides to write a market commentary to the brokerage clients that discusses the reasons why the market will remain stable and talks about why he, as a private citizen, feels patriotic. He does not mention the increase risk in equities. Brooks has:

A)	violated the Standards by not including all of the relevant factors in the research report and making patriotic statements.

B)	not violated the Standards.

C)	violated the Standards by not including all of the relevant factors in the research report, but not by making patriotic statements.

Which of the following statements about a member's use of client brokerage commissions is FALSE? Client brokerage commissions:

A)	should be commensurate with the value of the brokerage and research services received.

B)	may be directed to pay for the investment manager's operating expenses.

C)	should be used by the member to ensure that fairness to the client is maintained.

Anna Nichols is a research analyst preparing a report on Enterprise Company. In order to ensure accuracy in her report, she sends the report to the Chief Financial Officer (CFO) of Enterprise to allow him to point out some factual errors. The CFO makes some corrections, which Nichols checks and agrees with. The CFO also sends Nichols several pages of market analyses that appear favorable for Enterprise. Nichols checks the analyses for accuracy and includes a summary of them in her report, pointing out that the data came from Enterprise. Nichols has:

A)	not violated the Standards of Professional Conduct.

B)	violated the Standards of Professional Conduct by including the data from the CFO in the report.

C)	violated the Standards of Professional Conduct by sending the report to the CFO before sending it to her clients.

Scott Andrews, CFA, is a stockbroker selling an oversubscribed stock issue. Which of the following best describes Andrews' actions regarding this sale? Andrews:

A)	cannot offer an oversubscribed issue of stock to any clients.

B)	can offer this security on a prorated basis to all clients for which the security is appropriate.

C)	can only offer this security to clients for which it is appropriate on a first come first serve basis.

Standard III(B), Fair Dealing, applies. When new issues or secondary offerings are available or are being offered by the firm or if the firm is part of a selling syndicate, all clients for whom the security is appropriate are to be offered a chance to take part in the issue. If the issue is oversubscribed, then the issue is to be prorated to all subscribers.

Denise Weaver is a portfolio manager who manages a mutual fund and has pension clients. When Weaver receives a proxy for stock in the mutual fund, she gives it to Susan Griffith, her administrative assistant, to complete. When the proxy is for a stock owned in a pension plan, she asks Griffith to send the proxy on to the sponsor of the pension fund. Weaver has:

A)	violated the Standards by her policy on mutual fund proxies, but not her policy on pension fund proxies.

B)	not violated the Standards.

C)	violated the Standards by her policy on mutual fund and pension fund proxies.

Proxies should be taken seriously, and although it is likely that Griffith can understand some of the issues, it is likely that she is not capable of making responsible decisions on all potential proxy issues. Proxies for a pension plan should be voted in the best interests of the beneficiaries, not the plan sponsor. The sponsor's interests will not always be the same as the beneficiary's interest.

A company has a defined benefit plan that is currently under-funded. The plan sponsor has instructed the portfolio manager of the plan to invest more aggressively to bring the funding level up to an adequate amount. Which of the following statements best describes the course of action the portfolio manager should take? The portfolio manager should:

A)	not invest more aggressively because this is not the method used to increase the funding level of a plan.

B)	invest more aggressively because his fiduciary duties lie with the plan sponsor.

C)	not invest more aggressively since this may expose the plan to too much risk and may not be in the best interest of the plan's beneficiaries.

Standard III(A), Loyalty, Prudence, and Care, applies in this situation. According to this Standard, investment actions should be carried out for the sole benefit of the client and in a manner the manager believes to be in the best interest of the client. Here, the client is the plan beneficiaries, not the manager or the entity that hired the manager.

Patricia Cuff is the chief financial officer and compliance officer at Super Selection Investment Advisors that has incorporated the CFA Institute Code of Standards into the firm's compliance manual. Karen Trader is a portfolio manager for Super Selection. Trader is friendly with Josey James, president of AMD, a rapidly growing biotech company. Trader has served on AMD's board of directors for the last three years. James has asked Trader to commit to a large purchase of AMD stock for her portfolios. Trader had previously determined that AMD was a questionable investment but agreed to reconsider. Her reevaluation deemed the stock to be overpriced, but she nevertheless decides to purchase for her portfolios. Which standard was NOT broken?

A)	I(C)--Misrepresentation.

B)	IV(C)--Responsibilities of Supervisors.

C)	IV(A)--Loyalty.

IV(A) Loyalty was not broken because this standard involves going into a business that competes with your employer. IV(C) Responsibilities of Supervisors was breached because Trader broke several CFA Institute Standards which Cuff should have enforced. I(C) Misrepresentation was broken because Trader purchased stock for her clients even though she thought AMD was a questionable investment.

Paul Drake is employed by a company to provide investment advice to participants in the firm's 401(k) plan. Company stock is one of the investment options in the plan. Drake feels that the stock is too risky for employees to own in their 401(k) plan and starts advising them to pull out of the stock. The Treasurer of the company calls Drake and tells him that he will be fired if he continues making such advice because he is violating his fiduciary duty to the company. Drake should:

A)	make sell recommendations but point out that the company Treasurer has a differing and valid point of view.

B)	tell employees that he cannot provide advice on company stock because of a conflict of interest.

C)	continue to advise employees to sell their stock.

Joan Platt, CFA, operates an investment firm in New York, but maintains an office in Xania. Platt’s firm invests on its clients’ behalf in both domestic and international stocks and bonds. Platt’s employees include two analysts, Paula Linstrom, CFA, and Hershel Wadel, a member of the CFA Institute. Both analysts report to Platt directly. Thorvald Knudsen, CFA, manages the international bond portfolio.

Xania recently established a stock market, which is not very efficient. None of the Xanian stocks trade in the U.S. market. Xania legally permits the use of material inside information. Platt believes that using inside information would help her compete against other Xanian investment advisers, and also help some of her Xanian clients reach their investment objectives.

Platt instructs Wadel 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 a share. Wadel does not believe that informing Platt about his wife's inheritance is necessary.

Doris Black, one of Wadel's long-time clients, verbally promised Wadel that he could use her vacation home in Aspen, Colo., for a week during skiing season if the return on her portfolio exceeded its benchmark by two percentage points during the next year. Black also promised to reimburse Wadel for his travel expenses. Because Wadel is the sole manager of Black’s portfolio, he says nothing to Platt about his arrangement with Black.

Platt instructs Linstrom to write a research report on Delta Enterprises. Delta's stock is widely held by institutional and individual investors. Linstrom does not own any Delta shares, though one of her friends owns 100 shares of Delta. Linstrom does not believe that informing Platt about her friend's ownership of Delta shares is necessary.

Linstrom has a client, Mandy Miller, with a large account. Miller has set a return goal for her portfolio, promising Linstrom that if the portfolio exceeded the target return, she would let Linstrom use her time-share in St. Maarten in December. Linstrom sent an e-mail to Platt describing Miller’s promise to her. Platt promptly replied to her email granting her permission to enter the agreement.

In February, Linstrom was able to arrange for the purchase of Brady Company bonds at a significant discount to market value. The purchase was made in three blocks at 13%, 15%, and 12% discounts to market value. Linstrom allocated the 15% discount block to Miller’s account and the balance to her remaining clients.

Knudsen’s uncle, Gustaf Jensen, owns a construction firm that has extra cash. When Jensen saw Knudsen at a family event last November, he asked Knudsen to give him advice about purchasing domestic bonds for the construction firm. In exchange for the advice, the construction firm would pay Knudsen $5,000 per year. At the same event, Knudsen’s aunt, Hanna Jorgensen, approached Knudsen and asked if he would manage Jorgensen’s apartment building for a fee of 10% of the gross rents. Knudsen agreed to both Jensen’s and Jorgensen’s proposals. Knudsen informed Platt of Jensen’s request, but not about the Jorgensen arrangement.

Platt suspects that one of the firm’s unpaid interns has violated a federal securities regulation.

Regarding their research reports, which of the following statements about Linstrom and Wadel's conduct is CORRECT?

A)	Wadel did not violate Standard VI(A)—Disclosure of Conflicts, and Linstrom did violate Standard VI(A).

B)	Both Linstrom and Wadel violated Standard VI(A)—Disclosure of Conflicts.

C)	Wadel violated Standard VI(A)—Disclosure of Conflicts, and Linstrom did not violate Standard VI(A).

A)	Wadel need not disclose anything to his clients or to Platt because he is violating no fiduciary duty.

B)	Wadel must disclose the arrangement to Platt but is not required to disclose the arrangement to his other clients.

C)	Wadel must disclose the arrangements to his clients and to Platt only if he believes it will create a conflict with his responsibilities to other clients.

Wadel is required to disclose the arrangement between him and Black under Standard IV(B)—Additional Compensation Arrangements, regardless of whether or not the compensation is cash or noncash. Under Standard I(B)—Independence and Objectivity, members may accept bonuses or gifts from clients, so long as they disclose them to their employers, because gifts in a client relationship are deemed less likely to affect a member's objectivity and independence than gifts in other situations. Token gifts need not be disclosed. (Study Session 1, LOS 2.a)

A)	Standard IV(B)—Additional Compensation with relation to the Jorgensen deal.

B)	no Standards with regards to both the Jensen and Jorgensen deals.

C)	Standard IV(B)—Additional Compensation with relation to the Jensen deal, but did not violate the Standard with relation to the Jorgensen deal.

Notifying Platt about the Jensen deal is not enough. He needs permission in writing from both parties before accepting the work. Thus, Knudsen violated Standard IV(B) with relation to the Jensen matter. However, it does not appear that the work performed for Jorgensen is in competition with Platt’s employer, so this aspect is not in violation of Standard IV(B). (Study Session 1, LOS 2.a)

A)	did not violate the Code and Standards because the appropriate disclosures were made.

B)	violated Standard III(B)—Fair Dealing, but not Standard IV(B)—Additional Compensation Arrangements.

C)	violated Standard IV(B)—Additional Compensation Arrangements, Standard III(B)—Fair Dealing, and Standard IV(C)—Responsibilities of Supervisors.

A)	Report the intern’s behavior to the appropriate regulatory authority.

B)	Initiate an investigation and place limits on the intern’s activities pending the outcome.

C)	Tell the intern to stop the conduct.

Platt must initiate an investigation, and must also take steps to ensure that additional violations do not occur during the investigation. The investigation could be handled internally by the firm’s compliance officer, or could involve outside legal counsel. Simply instructing the intern to stop the conduct is not sufficient—the Standards require a more proactive response. Reporting the intern to the authorities is not appropriate because Platt is not sure the intern is violating the law. The fact that the intern is not paid does not absolve Platt or her company from liability for the intern’s actions. (Study Session 1, LOS 2.a)

A)	not use material inside information when trading in Xania.

B)	use material inside information when trading in Xania only if the information does not relate to a tender offer.

C)	not use material inside information unless trading Xanian stocks.

Standard II(A)—Material Nonpublic Information does not allow the use of material nonpublic information in investment decisions. Platt is bound by the law of the land if it is stricter than the Standards, and by the Standards if they are stricter than the law. Since the Standards are stricter than Xanian law, Platt’s Xanian operations are governed by the Standards. Thus, she cannot use material nonpublic information under any circumstances. (Study Session 1, LOS 2.a)

Mason Dixon is an investment advisor with Vicki Lynn as a client. Lynn has expressed an interest in socially responsible investing and has expressed a desire to replace her international and small company funds with socially responsible funds. Dixon has research that indicates the Alpha International Fund and the Beta Small Company Fund are the best socially responsible funds in their class. He believes the Alpha fund will likely have slightly lower performance than the current international fund, but the Beta fund will have significantly worse performance than the current small company fund. Moreover, Dixon has research that supports the contention that socially responsible funds as a group will underperform regular funds. Dixon:

A)	must explain the research to Lynn and tell her that he cannot as her advisor purchase either fund without violating his fiduciary duty.

B)	must explain the research to Lynn, who can purchase the funds if she still feels comfortable with these investments.

C)	must explain the research to Lynn and tell her that he cannot as her advisor purchase the Beta fund without violating his fiduciary duty, but he can purchase the Alpha fund.

A)	Soft dollars are assets of the client.

B)	Soft dollars are third party research arrangements.

C)	Directed brokerage are soft dollars to be used for research that benefits the investment firm.

Your manager, Nathan Green, is asking you about "fiduciary duty." Green asks you to give examples of this fundamental concept. You show him a series of statements that might be made by a CFA Institute member who is an investment manager for a pension plan operating under the provisions of ERISA, the Employee Retirement Income Security Act of 1974. This U.S. legislation established guidelines and requirements for fiduciary conduct and sets standards for many aspects of all private and some public pension plans in the United States. Together with the CFA Institute Code of Ethics and Standards of Practice, the ERISA prescriptions may serve as a model for appropriate fiduciary conduct worldwide.

Concerning an investment manager's responsibility to vote proxies, which of the following statements is TRUE?

A)	The investment manager is only required to vote proxies in support of anti-management votes. When in agreement with management, no vote is required.

B)	The investment manager must vote all proxies unless there are bona fide reasons, consistent with the interests of the plan participants and beneficiaries, for not doing so.

C)	The investment manager must vote all proxies.

Plan fiduciaries cannot be passive shareholders. Proxy voting rights are considered assets of a pension plan, and as such, proxy voting involves the exercise of fiduciary responsibility. Votes must be cast in a way that the fiduciary believes will maximize the economic value of plan holdings. The fiduciary has a duty to make investment decisions solely in the interest of participants and beneficiaries and exclusively for the purpose of providing benefits to the participants and beneficiaries.

A)	Fiduciaries must consider the risk return tradeoff.

B)	Fiduciaries are required to conduct a thorough and diligent analysis.

C)	Fiduciaries must invest so as to ensure they do not experience negative returns.

Courts have based findings of imprudence less on the type of investment at issue than on the fiduciary's failure to undertake a thorough and diligent analysis of the merits of an investment that may have revealed its unsuitability or the existence of alternative investments offering a more favorable risk/return trade-off. The emphasis is on competence and process, not resulting investment performance. A key question might be, "Did the investment manager have a set of well-reasoned investment policies and were those guidelines followed?"

A)	ERISA requirements should be followed.

B)	the plan documents should be followed.

C)	the firm's compliance officer should determine which will govern plan administration.

Members and Candidates must be knowledgeable of the applicable laws. A plan must be administered according to the documents governing the plan. However, plan documents are to be followed only to the extent they are consistent with requirements of ERISA. An ERISA fiduciary must not comply with investment provisions or a plan document that contravenes the statutory standards under ERISA. ERISA, therefore, places on the fiduciary the additional burden of investigating whether the plan instrument and investment objectives are permissible under ERISA.

Mary Montpier, CFA, is an equity analyst located in the Malaysia office of World Class Advisers. The firm provides investment advice and financial-planning services globally to institutional and retail clients. The Malaysia office was opened last year to provide additional international investment opportunities for U.S. clients. Montpier covers small-cap stocks in the region. Montpier’s supervisor, Rick Reynolds, CFA, works in New York.

Jim Taylor is an analyst in New York who works at World Class Broker-Dealer, a sister company of World Class Advisers. Taylor covers healthcare and biotech stocks for the firm. Taylor recently completed Level I of the CFA examination and is registered for the Level II examination next year. Taylor works for John James, CFA.

Through her interaction with other analysts in Malaysia, Montpier learns that the use of material, nonpublic information is common practice in analyst research reports and recommendations, which is not prohibited by law in Malaysia. Montpier has acquired material, nonpublic information on the research pipeline of Circuit Secrets, a Malaysian semiconductor company. The nonpublic information makes the company seem like a fine investment. After extensive research through traditional means, Circuit Secrets appeared to be fully valued relative to its growth potential until Montpier found the nonpublic information.

In preparation for a client meeting, James asks Taylor to prepare a research report on attractive companies in the healthcare industry. Since Taylor is busy preparing for company conference calls, James tells him to “throw something together.” To meet James’ request, Taylor obtains reports on Immune Health Care and Remedy Corp., two companies that he likes, but has not researched in depth. Taylor takes the original reports, which were prepared by a small brokerage firm in the Netherlands, adds some general industry information, incorporates World Class’s proprietary earnings-growth model, and submits “strong buy” recommendations to James for the stocks. Although written procedures require James to review all analyst reports prior to release, time constraints consistently prevent him from reviewing the reports prior to distribution.

Montpier is proud of her CFA charter. In fact, she often boasts that she is one of the elite members of the CFA Institute that passed all three exams consecutively without failing. Taylor is also proud of the CFA program. He told his friends and family the CFA designation is globally recognized in the field of investment management and research. Furthermore, Taylor states that he believes the program will enhance his portfolio management skills and further his career development.

In her free time, Montpier has begun consultation for members of a local investment club. The club is in the process of developing an appropriate compensation package for her services, which to date have included financial-planning activities and investment research. Montpier informs the investment club that she has a full-time job at World Class Advisers, which offers similar services. The investment club gave Montpier written permission to consult for them despite her full-time work.

To gain insight on biotech stocks, Taylor registers for an upcoming asthma study conducted by Breakthrough Corp., through which he and others will be the subject of testing for the efficacy of several new drugs. On his application, longtime asthma sufferer Taylor indicates that he has the appropriate medical condition for the study and signs a confidentiality agreement. During the study, a researcher shows Taylor a spreadsheet detailing the progress of Breakthrough’s research pipeline. Two of the new drugs on which Breakthrough is awaiting regulatory approval have serious negative side effects in patient testing. This information confirms suspicions Taylor had developed after extensive research and conversations with company executives regarding nonmaterial, nonpublic information, though he was not certain about the names of the drugs until he saw the spreadsheet. At the conclusion of the study, Taylor releases a report detailing the drugs’ side effects and recommends that clients “sell” Breakthrough Corp.

Over the next two weeks, Breakthrough releases information that the drugs in question have been held up by a regulatory agency pending additional investigation. The stock plunges more than 30% on the news.

A)	Taylor sends out a resume referring to himself as a Level II CFA candidate and indicating his intention to take the Level II test in June.

B)	Reynolds approves Montpier’s report on Circuit Secrets immediately, but tells his traders to wait a week before buying the stock themselves.

C)	James has dinner with Taylor and promises to provide Taylor with three weeks off in May to study for the CFA exam and offer some test-taking tips.

An immediate approval of Montpier’s report implies that Reynolds did not check the facts or talk to Montpier about the recommendation, which was dependent on the use of insider information. Reynolds violated the Standard relating to supervisory responsibilities. Side work that is not in competition with the intern’s firm is not a violation unless the side job interferes with her work for World Class. The statement on Taylor’s resume is appropriate, and James’ plans to help Taylor are well within the requirements of the Standards. (Study Session 1, LOS 2.a)

A)	Montpier’s best course of action is to initiate coverage of Circuit Secrets as a “hold,” and attempt to get the company to disclose the nonpublic information.

B)	If Montpier prepares a research report for all World Class clients recommending Circuit Secrets as a "buy," but does not reveal the nonpublic information, she has still violated Standard II(A)—Material Nonpublic Information.

C)	Montpier could satisfy the requirements of Standard II(A)—Material Nonpublic Information by producing a research report on Circuit Secrets for Malaysian clients, but not making it available to U.S. clients.

Standard II(A) prohibits not only the revelation of nonpublic information, but also trading on the basis of that information. The buy rating itself is a product of the nonpublic information, and as such is a violation. Montpier must comply with the Code and Standards regardless of the laxness of regulations in her country. If Montpier believes the stock is a buy, initiating it as a hold would be inappropriate. Analysts cannot be expected to have a recommendation on every stock, so failing to recommend a potentially good stock is not a breach of fiduciary duty. (Study Session 1, LOS 2.a)

A)	both Montpier and Taylor are in compliance.

B)	neither Montpier nor Taylor is in compliance.

C)	only Montpier is in compliance.

A)	Just use excerpts from the original reports, rather than copying the whole reports.

B)	Initiate coverage of Immune Health Care and Remedy Corp. as holds, not strong buys, until he has time to do further research.

C)	Base his report on information from Value Line and Standard & Poor’s reports rather than research from rival analysts.

Value Line and Standard & Poor’s are “recognized financial or statistical reporting services,” and as such, can be used as the basis for reports without acknowledgment. Caveat: Those publications are copyrighted, and copying directly from them may be illegal in some circumstances, even if it does not technically violate the plagiarism Standard. Using excerpts is still plagiarism and changing the stock recommendation will not change that fact. It is unlikely that a Dutch research report would not be protected under U.S. copyright, and even if it were not, using the material without attribution still violates the Standard. (Study Session 1, LOS 2.a)

A)	Neither Taylor nor Montpier is in violation of the Standard.

B)	Despite getting written permission from her client to consult, Montpier is not in compliance with the Standard.

C)	By accepting compensation for his role in the medical study, Taylor is violating the Standard.

Montpier needs to get permission from both the client and her employer before she can begin to consult; since she has not received permission from World Class, she is not in compliance. Neither Taylor’s use of rivals’ research nor his participation in a medical study violate the Standard. Standard IV(A) addresses outside income, not research methods. And while the medical-study payment is certainly income, it is not in competition with his firm, and as such does not violate the Standard. (Study Session 1, LOS 2.a)

A)	do not violate Standard II(A)—Material Nonpublic Information because he was only confirming what he already suspected.

B)	did not violate Standard I(D)—Misconduct because he did not misappropriate the information.

C)	violate Standard II(A)—Material Nonpublic Information because the information was not in the public domain.

Taylor’s use of the material nonpublic information provided to him in confidence by a researcher is a clear violation of Standard II(A). The professional-misconduct Standard prohibits actions that reflect negative on "professional reputation, integrity, or competence." Since Taylor has signed a confidentiality agreement, his violation of the agreement definitely says something about his honesty. Thus, he is in violation of Standard I(D). Standard IV(A) only applies to work in competition with the employer. (Study Session 1, LOS 2.a)

In August 2005, the following events occurred related to Aggregate Opportunities, Inc.:

A)	violated none of the Standards.

B)	violated Standard V(A): Diligence and Reasonable Basis because she lacked sufficient reason to justify the downgrade.

C)	violated Standard V(B): Communication with Clients and Prospective Clients because she failed to distinguish between fact and opinion.

The information published in the Wall Street Journal was public information, so Henderson did not violate Standard II(A). While Henderson did not do any independent research, the Journal is a credible source, and even the hint of an accounting scandal can be enough to sink a stock. As such, using the story to justify a downgrade did not violate Standard V(A) or Standard V(B). (Study Session 1, LOS 2.a)

A)	did not violate Standard II(A): Material Nonpublic Information because the information did not involve a tender offer.

B)	violated Standard II(A): Material Nonpublic Information by taking investment action.

C)	did not violate Standard II(A): Material Nonpublic Information because there was no breach of duty.

Watkins violated the CFA Institute Standards because the information was both material and nonpublic. It does not matter if the information was not misappropriated, not received in a breach of duty or not related to a tender offer. Watkins still cannot trade or cause others to trade. CFA candidates are indeed subject to the CFA Institute Standards. While the misappropriated information did not involve a tender offer, Watkins’ use of it still violated the Standards simply because it was material nonpublic information. (Study Session 1, LOS 2.a)

A)	violated Standard V(A): Diligence and Reasonable Basis because he did not have sufficient information to spur investment action.

B)	violated Standard III(B): Fair Dealing because he did not take his own advice and sell the stock.

C)	did not violate Standard I(B): Independence and Objectivity, but his supervisor violated Standard IV(C): Responsibilities of Supervisors.

Black’s conduct does not violate Standard I(B), because a reasonable person would not call his independence into question, even though his ethics are suspect. Black’s supervisor should have asked Black where he got the information before the research report was circulated, and the failure to do so means that the supervisor violated Standard IV(C). Black is also clearly in violation of Standard II(A): Material Nonpublic Information, because he would clearly have known that the information received from his Brother was both material and nonpublic. However, Standard II(A) is not one of the choices. Black’s failure to follow his own advice does not violate Standard III(B). Ignoring all of the other details, knowledge that an earnings restatement is possible could certainly be considered a reasonable basis to dump a stock, so Black did not violate Standard V(A). Standard VI(A) pertains only when a relationship would impair investment judgment, and that is not the case here. (Study Session 1, LOS 2.a)

A)	violated Standard II(A): Material Nonpublic Information by taking investment action based on information not accessible to the public.

B)	violated Standard VI(B): Priority of Transactions by trading Aggregate from her own account.

C)	did not violate Standard II(A): Material Nonpublic Information because the information was disclosed to a select group of analysts.

The way in which Aggregate handled the conference call was an instance of selective dissemination, Members and Candidates must be aware that disclosure to selected analysts is not necessarily public disclosure. Thus, until the material information is made public, Sanders cannot trade or cause others to trade. Once the information is made public, Sanders must disseminate the information to her clients first, and give them adequate time to act on the recommendation before trading for her own account. In the absence of knowledge of any company policy with stricter requirements, 3 hours is probably sufficient, and we cannot assume she violated Standard VI(B). Standard III(B) does not require equal dissemination of information but rather fair dissemination. Nothing in the question indicated that Sanders disseminated the information unfairly. (Study Session 1, LOS 2.a)

A)	violated no standards.

B)	violated Standard II(A): Material Nonpublic Information by using information obtained from Watkins.

C)	violated Standard III(A): Loyalty, Prudence, and Care by using information obtained from Watkins.

Martinez was aware of how Watkins obtained the information; therefore, Martinez violated II(A) by trading on material nonpublic information. Martinez has no fiduciary duty to Watkins, and as such did not violate Standard III(A). It would be difficult to argue that Cho’s thorough research is not sufficient reason to trade Aggregate stock, so Martinez did not violate Standard V(A). (Study Session 1, LOS 2.a)

A)	Aggregate’s CFO violated the fair-dealing Standard, but Black did not violate the fiduciary-duties Standard.

B)	Martinez did not violate the Standard regarding use of material nonpublic information and did not violate the fiduciary-duties standard.

C)	Henderson violated the reasonable-basis standard, but Sanders did not violate the Standard regarding use of material nonpublic information.

Aggregate’s selective disclosure did violate the fair-dealing Standard, and while Black violated a number of Standards, his brother’s fiduciary duty cannot be imposed on him. Black did not violate the fiduciary-duties Standard. While Cho did not violate the insider-trading standard because he came to his conclusions through the mosaic method, Watkins certainly did because he misappropriated the information. Martinez violated the Standard on material nonpublic information. Henderson did not violate the reasonable-basis Standard. Sanders did violate the insider-trading Standard. (Study Session 1, LOS 2.a)

Scott Marsh is a research analyst for a brokerage firm following the computer industry. Joe Perry is Marsh's former college roommate and is the head of technology for Mercury, a large software company. Perry informs Marsh on Tuesday that in two days the company will be making an official announcement that its release of its newest version of its software will be moved up one month, from October 1 to September 1. The announcement will be surprising to the industry and will likely be met with skepticism because the company has had trouble meeting release dates in the past. Perry assures Marsh that he is certain that they will meet the September 1 date. Marsh considers Perry to be very honest and highly competent. Marsh should:

A)	wait until the public announcement is made, then release a report explaining that he believes the company will make the release date, disclosing that one of the reasons for his opinion is Perry is a friend of his.

B)	immediately put out a report recommending the stock, but waiting until the official announcement to state his reasons.

C)	produce his research report in two days based solely on the official announcement, not taking into consideration the information from Perry.

The research report cannot be released until the official announcement is made, otherwise he will be violating the Standard on prohibition against the use of material nonpublic information. Once it is made public, Marsh can disclose the nature of the conversation without violating that Standard because the information will now be public. However, he should disclose the relationship with Perry or he will be violating the Standard on communications with clients and prospective clients.

A)	Standard V(B)—Communication with Clients and Prospective Clients for not separating fact from opinion, but is not in violation of Standard I(C)—Misrepresentation because his guarantee of future investment performance was not a written representation.

B)	Standard I(C)—Misrepresentation for not disclosing to Waverly that he did not read the marketing materials, but is not in violation of Standard III(C)—Suitability because the client analyzed the investment thoroughly.

C)	Standard V(A)—Diligence and Reasonable Basis for not exercising diligence and thoroughness in his analysis of the investment and Standard III(C)—Suitability for recommending an investment before determining if the investment was appropriate for the client.

Fleming violated Standard V(A)—Diligence and Reasonable Basis because he was not familiar with the specifics of the investment, but made an investment recommendation based upon his confidence in Waverly’s investment expertise. Fleming is also in violation of Standard III(C)—Suitability because his agreement with Waverly’s investment decision was not based upon the suitability of the offering within the context of Waverly’s total portfolio. Standard I(C)—Misrepresentation was also violated when Fleming confirmed that Waverly should purchase shares in DCH’s secondary offering, but failed to inform the client that he had not analyzed the investment in any way. Waverly would reasonably expect Fleming to analyze an investment prior to its recommendation and was therefore misled. (Study Session 1, LOS 2.a)

A)	executes the trades on DCH Corp. per Waverly’s instructions without first referring to Waverly’s IPS.

B)	tells the CIO of the Crockett Foundation that DCH’s secondary offering will earn at least the lowest return earned on its IPO shares over the last three years.

C)	tells the CIO of Crocket Foundation that shares of DCH’s IPO outperformed the S& 500 by at least 15% in each of the last three years since the offering.

Standard I(C)—Misrepresentation prohibits members and candidates from making any untrue statements or omissions of facts that may be false or misleading. Guaranteeing a particular rate of return on an investment is in direct violation of the standard. Fleming has essentially guaranteed a minimum rate of return on the secondary offering equal to the lowest rate of return earned on the IPO shares over the last three years. Even though a specific number isn’t mentioned in the question, it would be observable by the Crockett Foundation. The other statements might also be considered violations of the standards but are not specifically violations of I(C)—Misrepresentation as noted in the question. (Study Session 1, LOS 2.a)

A)	not in violation of any standard because he only disclosed factual information, and he did not disclose the details of Waverly’s purchase.

B)	in violation of Standard I(C)—Misrepresentation because his statement may be misleading with regard to future performance of the offering.

C)	in violation of Standard III(E)—Preservation of Confidentiality because his failure to keep information about a client’s investment action confidential.

According to Standard III(E)—Preservation of Confidentiality, members and candidates must keep information about current, former, and prospective clients confidential unless the information concerns illegal activities, disclosure is required by law, or the client permits disclosure. By telling other clients of Waverly’s investment actions, whether offering specific information on the trade or not, Fleming could adversely affect Waverly’s investment in the offering. (Study Session 1, LOS 2.a)

According to CFA Institute Standards of Professional Conduct, did Fleming’s conversation with the CIO of the Crockett Foundation or his decision to sell GlobalBank’s position in DCH stock most likely violate Standard II(B)—Market Manipulation?

Standard II(B)—Market Manipulation prohibits practices that distort prices or artificially inflate trading volume with the intent to mislead market participants, including the dissemination of false or misleading information. Although Fleming’s conversation included two prohibited comments (a guarantee of performance and an inappropriate disclosure of client information), he did not give the CIO of Crockett information in an attempt to manipulate prices or trading volume and thus did not violate Standard II(B). His decision to sell GlobalBank’s shares of DCH, however, was intended to manipulate the price of DCH stock in order to intimidate smaller investors into withdrawing their purchase order in the secondary offering, thereby freeing up shares for his client, the Crockett Foundation. This action is clearly a violation of Standard II(B). (Study Session 1, LOS 2.a)

A)	No—he does not have a duty to maintain client records, only his employer does.

B)	No—he maintained an IPS and followed established procedures in maintaining client records and data.

C)	Yes—he failed to maintain appropriate records to support his investment recommendation.

Standard V(C)—Record Retention states that members and candidate must maintain appropriate records to support their investment recommendations and actions. Fleming maintained an IPS and records of conversations, but he is also required by the standard to keep research and other documentation supporting investment recommendations and actions, which Fleming did not do. When there are no regulatory requirements related to record retention, the Standard recommends that members and candidates keep client records for a minimum of seven years. (Study Session 1, LOS 2.a)

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 legal agreement, but cannot tell him why.

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

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

Hunter Harrison, CFA, has recently been promoted to Chief Investment Officer (CIO) of Ironclad Investments, an investment adviser and pension consultant for medium and large corporate pension clients. Ironclad recently hired a compliance officer to update its compliance manual, which is consistent with the CFA Institute Code and Standards. Harrison serves as a director on several non-profit and corporate boards of directors, some of which have their pension assets managed by Ironclad. As part of his new job duties, Harrison will oversee Ironclad’s research analysts and portfolio managers, including Michelle Myers, who passed the Level 2 CFA examination last year and is registered for the next exam. Myers is a portfolio manager who regularly meets with clients and prospects. Myers is also a partner in a software company that sells retirement and benefit administration services to institutional clients, some of which are also clients of Ironclad to whom Myers has recommended the software company. Myers has disclosed her partnership interest in the software company to Ironclad, including the potential for additional compensation and the possible conflicts of interest, but not to her clients.

In her correspondence with prospects and clients, Myers normally refers to her status as a candidate in the CFA Program. Her latest brochure includes a reference to her status as a “Level 3 CFA candidate” in her biographical background to increase her prominence in the industry. Her targeted marketing efforts using these brochures have led to several new accounts in the last few years.

One of Myers’ software clients, Breakthrough Pharmaceuticals (Breakthrough), is a publicly traded corporation that is also held in many of Ironclad’s client portfolios. In the course of their business relationship, Breakthrough’s CEO informs Myers that the company has been having difficulty making retirement benefit payments, and its pension plan has recently gone from “overfunded” to “significantly underfunded” as a result of market conditions. Breakthrough’s CEO indicates to Myers that he is attempting to source additional short-term financing to make retiree benefit payments and will disclose the significant “underfunded status” of the pension plan in the upcoming financial statements. Myers, concerned that Breakthrough’s current pension troubles and short-term liquidity issues will negatively affect its earnings and consequently the performance of the company’s stock, informs Harrison of the impending disclosure. Harrison allows Myers to sell 1,800,000 shares of Breakthrough stock for clients, causing the price to drop by 5%. When the pension troubles are later disclosed in the company’s financial statements, Breakthrough’s stock price drops an additional 18%.

As part of Ironclad’s portfolio management activities on behalf of its clients, Harrison and Myers maintain relationships with third-party soft dollar providers and commission recapture brokers. Better Trading Brokerage (BTB), one of Ironclad’s top ten brokers and soft dollar providers, has offered Harrison two round-trip airline tickets anywhere in the U.S. in appreciation for its 2-year relationship with Ironclad. One of Harrison’s pension clients, Worldwind Travel Inc. (WTI), participates in commission recapture and has offered Harrison two roundtrip airline tickets anywhere in the U.S. or Europe in appreciation for its 2-year relationship with Ironclad. Harrison has disclosed both offers to Ironclad in writing but has not yet responded to either offer because he has been busy with proxy voting duties.

Harrison, as CIO, is chairman of Ironclad’s proxy voting committee. Myers is also a member of the committee. Ironclad, as a discretionary investment manager, votes proxies through the proxy voting committee on behalf of clients. Ironclad is currently reviewing proxies for several companies covered in research, including technology companies Advanced DSL (Advanced), InterConnect Inc. (InterConnect), Speedy Chip Technology (Speedy Chip), and Wavelength Digital (Wavelength). Each company’s current proxy contains voting proposals pertaining to employee stock option expensing methods. This issue is particularly important to Ironclad because several of its investment personnel recently participated in an industry forum that supported increased disclosure for company stock options. The panel concluded that such disclosure will provide investors with a more complete estimate of corporate earnings. Ironclad, through its clients, owns approximately 4% of the outstanding shares of Advanced and InterConnect and approximately 6% of the outstanding shares of Speedy Chip and Wavelength.

Harrison serves on the board of directors for InterConnect and Wavelength, while Myers provides consulting services for Speedy Chip. Harrison receives cash compensation and stock options for his services, while Myers receives restricted stock and stock options. The investment bank that led the public offering of InterConnect and Speedy Chip and seven of nine sell-side analysts covering the companies have “sell” ratings on the stocks. Ironclad’s analysts have also issued “sell” recommendations on the companies due to, among other issues, lack of earnings transparency and low earnings quality. Contrary to committee consensus, Harrison and Myers vote client proxies “against” the expensing of employee stock options for InterConnect, Wavelength, and Speedy Chip. Harrison increases his clients’ positions in both InterConnect and Wavelength, citing “growth opportunities” and “consensus opinion.” Neither Harrison nor Myers has disclosed these compensation arrangements to Ironclad.

Is it likely that Myers violated any CFA Institute Standards of Professional Conduct in her reference to her candidacy in the CFA program?

A)	Yes, by inappropriately using her candidate status to recruit new clients.

No.

C)	Yes, by stating her candidate status using language that is inconsistent with the Standards.

The actions of Myers are consistent with Standard VII(B), which requires that candidates appropriately reference their participation in the CFA Program, clearly stating their candidate status and not implying the achievement of any type of partial designation. Additionally, to be considered a candidate, an individual must be registered to take the next scheduled exam. Since Myers completed Level II last year and has registered for the next exam, she is in compliance with the Standard. There is also no indication that she has exaggerated the meaning of implications of her candidacy in the CFA program in the promotional brochure by, for example, over promising her competency or future investment results. (Study Session 1, LOS 2.a)

Is it likely that Myers violated any CFA Institute Standards of Professional Conduct with respect to her disclosure of the partnership interest in the software company or did Harrison violate any standards with respect to the sale of Breakthrough stock?

Standard VI(A) – Disclosure of Conflicts, is applicable since Myers is a portfolio manager with fiduciary responsibility for institutional clients of Ironclad who may also be clients of her software company, thereby potentially compromising her ability to make unbiased and objective investment recommendations. Myers should disclose the potential conflict to her clients and to Ironclad and abide by any restrictions imposed by the firm. Myers has not disclosed the conflict to clients and has therefore violated the Standard. Harrison has violated Standard IV(C) – Responsibilities of Supervisors by failing to prevent Myers from trading on material nonpublic information. He has a responsibility as a supervisor to make reasonable efforts to detect and prevent violations of the Standards by his employees. (Study Session 1, LOS 2.a)

A)	No, because she first made her supervisor aware of the information upon which the trade was based and received approval for the trade.

B)	No, because she fulfilled her fiduciary duty to her clients by avoiding significant losses.

Yes.

Although the information shared by Myers may have helped Ironclad’s clients avoid losses in shares of Breakthrough, the information was material nonpublic information. Information is “material” if its disclosure would have an impact on the stock or if a reasonable investor would want to know the information prior to making an investment decision. Information is “nonpublic” until it has been generally disseminated to the marketplace and investors have had an opportunity to react to the information. The information about Breakthrough’s pension difficulties was both material and nonpublic, as the stock dropped significantly upon disclosure of the information in the market. Therefore, Myers had a duty to keep the information confidential and not to trade or cause others to trade on the information. By sharing the information with Harrison and trading on that information, Myers violated Standard II(A) – Material Nonpublic Information. (Study Session 1, LOS 2.a)

In order to maintain compliance with CFA Institute Standards of Professional Conduct, is it appropriate for Harrison to accept, or is he required to reject, the offers of appreciation from BTB and WTI, assuming Ironclad consents to both?

Harrison can accept the offer from Worldwind but cannot accept the offer from Better Trading. Harrison’s actions are covered by Standard I(B) – Independence and Objectivity and Standard IV (B) – Additional Compensation Arrangements. Under Standard I(B), members shall use reasonable care and judgment to achieve and maintain independence and objectivity in making investment recommendations or taking investment actions. Harrison, as a fiduciary to his investment clients, has an obligation to act in their best interest and must maintain his independence and objectivity when making investment decisions. Harrison’s relationship with Better Trading is, among other things, to execute trades in return for soft dollar services for Ironclad. Soft dollars involve the use of client brokerage by an investment manager to obtain products and services that aid the manager in the research and investment decision-making process. As such, Harrison’s acceptance of the offer from Better Trading could be perceived to compromise his independence and objectivity on behalf of his clients, as the broker may be trying to influence Harrison to increase the amount of trading that Ironclad executes on behalf of clients. The offer from Worldwind, who is one of Ironclad’s clients, if accepted, does not cause Harrison to violate Standard I(B). Gifts from clients are distinguishable from gifts from third parties seeking to influence the activities of an investment manager. Worldwind’s offer to Harrison may be accepted, provided it is disclosed to Ironclad. Standard IV(B) – Additional Compensation Arrangements, requires members to disclose in writing any additional compensation or other benefits received for their services in addition to those provided by their employer. (Study Session 1, LOS 2.a)

With respect to Harrison’s directorships with InterConnect and Wavelength and Myers’ consulting arrangement with Speedy Chip, is it likely that any CFA Institute Standards of Professional Conduct have been violated?

Standard IV(B) – Additional Compensation Arrangements, applies to both Harrison and Myers, as they both receive compensation for their respective outside services in the form of cash, stock, and stock options. There is no indication that either of them have disclosed their compensation arrangements to Ironclad, which constitutes a violation of Standard IV(B). Standard I(B) – Independence and Objectivity also applies to this situation, as both Harrison and Myers have outside activities that have the appearance of compromising their independence and objectivity regarding Ironclad’s clients. Harrison’s role on the boards of directors for InterConnect and Wavelength and Myers’ role as a consultant for Speedy Chip appear to drive their proxy voting decisions, on behalf of Ironclad’s clients, regarding the expensing of stock options. Thus both Harrison and Myers have also violated Standard I(B). Harrison and Myers may have also violated Statement VI(A) – Disclosure of Conflict by failing to disclose the conflicts of interest that exist as a result of Harrison’s directorships with Interconnect and Wavelength and Myers’ consulting arrangement with Speedy Chip. Such conflicts (whether actual or potential) are required to be disclosed prominently and in clear language to clients, prospects, and employers according to Standard VI(A) (Study Session 1, LOS 2.a) .

A)	abstain from voting on matters affecting Internet and Wavelength to avoid conflicts of interest.

B)	discard all proxies on behalf of Ironclad’s clients when there is a conflict of interest.

C)	disclose all proxy voting policies to Ironclad’s clients including the treatment of routine and nonroutine issues.

According to Standard III(A) – Loyalty, Prudence, and Care, Ironclad, as a discretionary investment manager, is responsible (unless otherwise stipulated in the client guidelines or agreement) for making informed and reasonable decisions regarding proxy voting on behalf of clients. Among other things, Ironclad should have a proxy voting policy and a process for identifying and reviewing major proxy issues for appropriate clients. Ironclad and Harrison also have an obligation to avoid conflicts of interest when voting proxies. Although Harrison has a conflict of interest in voting issues on behalf of InterConnect and Wavelength due to his role on their board of directors, proxies on non-routine matters should not be discarded under any circumstances, as such action would constitute a breach of fiduciary duty. Harrison should abstain from voting on matters affecting InterConnect and Wavelength to avoid the appearance of a conflict of interest. Harrison should also ensure proper treatment of any confidential information received in his role on the respective boards of directors. Harrison should maintain confidentiality of voting information on behalf of clients and follow Ironclad’s proxy voting policy. Clients must be made aware of the firm’s policies on voting routine and non-routine proxy issues. (Study Session 1, LOS 2.a)

Dan Jeffries is a portfolio manager who is being sued by one of his clients for inappropriate investment advice. The Professional Conduct Program of CFA Institute is investigating Jeffries for the same offense. Jeffries settles the lawsuit with the client while the Professional Conduct Program investigation is ongoing. When the Professional Conduct Program staff questions Jeffries about the problematic investment advice, Jeffries claims he cannot talk about it because doing so would violate the confidentiality of his client. Jeffries has:

A)	not violated the Standards by executing the settlement agreement or by refusing to talk about the case with the Professional Conduct Program.

B)	violated the Standards by refusing to talk about the case with the Professional Conduct Program, but not by executing the settlement agreement.

C)	violated the Standards by executing the settlement agreement, but not by refusing to talk about the case with the Professional Conduct Program.

Because the Professional Conduct Program will maintain client confidentiality, Standard III(E) Preservation of Confidentiality does not permit members to refuse to cooperate with a PCP investigation because of confidentiality concerns. The Standards do not require members to delay dealing with related legal matters while a PCP investigation is in progress.

Jordan Conomos is the new trustee for the Grant Trust, which has both current beneficiaries and remaindermen. Up until now, the trust has been entirely invested in long-term tax-free municipal bonds. Conomos decides to put 30 percent of the assets in common stocks, with the justification that taxes should be the concern of the trust beneficiaries and not the trust, and the trust needs some diversification and growth. Conomos is:

A)	violating his fiduciary duty by not considering taxes.

B)	not violating his fiduciary duty.

C)	violating his fiduciary duty by not investing solely for the purposes of the current beneficiaries.

The trustee must consider tax liabilities of beneficiaries. However, he should also provide diversification and be concerned with the desires of the remaindermen. (Remaindermen refers to the group that is to receive the remainder of the trust once its term is complete. Of course, some trusts never expire so not every trust has remaindermen.)

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

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.

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.

June Bird is a pension consultant asked to advise on the Backwater County Pension Plan. Bird notices that 20 percent of the plan's assets are invested in privately held local businesses. Bird is concerned about the lack of liquidity and diversification caused by such an investment. She learns that state law allows investing in local businesses and county law requires at least one-fifth of the plan's assets to be dedicated to investing in local businesses. Bird:

A)	should file a written complaint to the Department of Labor pointing out that the law is in conflict with the Employee Retirement Income Security Act (ERISA).

B)	should recommend that the trustees resign or risk being sued for violating the Prudent Expert Rule.

C)	can continue to advise the pension plan as best she can with the restrictions.

Lon Smith is an analyst in the Research Department of Lincoln & Co., a large investment firm. He has just completed a temporary assignment in Lincoln's Corporate Finance Department related to FinSoft, a computer software company whose recent operating record has reflected lagging sales volume and heavy product development expenses. Smith has marked his FinSoft notes and work sheets "CONFIDENTIAL / CORPORATE FINANCE DEPARTMENT" and sent them to the company file in the Research Department. This material reveals that FinSoft is about to receive a major contract for an innovative software program that will have a very significant positive impact on earnings as well as on the company's visibility and stature in the industry.

Jay Jones, a CFA candidate and a portfolio manager for Lincoln, has come upon these notes and work sheets while reviewing the FinSoft research file. Jones had been considering sale of the stock from the accounts under his management, but realizes after reading the file material that the recent weakness in operating results is about to be reversed and that the company's prospects are actually quite favorable. Perhaps, he thinks, he should add to his clients' FinSoft positions instead of considering their sale.

Jones briefly reflects on the matter of "inside information" in relation to perhaps buying more of the stock instead of selling it, but his recollection is hazy and Lincoln has no formal guidelines on the subject to which he can refer. Based on the circumstances, Jones believes he is free to use this new knowledge for the benefit of Lincoln's clients.

Based on CFA Institute Standards of Professional Conduct, which of the following is NOT correct?

A)	There is misappropriation of information by Jones because the file is marked "Confidential / Corporate Finance Department."

B)	There is no breach of duty if traded on because Jones did not conduct the research that produced the information.

C)	The information is material because the new software is likely to significantly increase FinSoft's future earnings.

A)	encourage public dissemination of the information.

B)	encourage his employer to review the compliance procedures as they relate to material nonpublic information issues.

C)	wait to trade on the information until after a reasonable period has passed.

A)	develop criteria for identifying inside information.

B)	prohibit exchange of personnel, even temporary, between investment banking and institutional money management departments.

C)	have in place a supervisor or compliance officer who has the authority and responsibility to decide whether information is material and nonpublic.

Greg Allen is a security analyst and visits David Dawson, the Chief Financial Officer of Edmonds Company. Dawson reveals a great deal of nonmaterial financial data to Allen, data that Dawson routinely reveals to all security analysts who visit him. From this data and other industry information, Allen conjectures that Edmonds is likely to make a tender offer for another company in the industry, a fact that if true would be considered material to the value of the company. Allen:

A)	should send a copy of the report to Dawson for verification before disseminating the report to clients.

B)	can publish his conclusion in a research report.

C)	must not disseminate the information or use it for trading purposes until the tender offer is announced.

Releasing information to analysts does not constitute a public release of information. Dawson's information should be considered nonpublic until it is released to the public. Allen has used this information, along with other industry information, to come to his conclusion of a pending tender offer which he can use to trade upon based on the mosaic theory.