Which one of the following constitutes the illegal use of material nonpublic information?

A) Trading based on your analytical review of the firm's future prospects.

B) Trading immediately after attending the firm's annual shareholders’ meeting.

C) Trading on information your sister, the firm's attorney, told you over dinner.

Hunter Harrison, CFA, is president and 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 follows 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. Harrison oversees Ironclad’s research analysts and portfolio managers, including Michelle Myers, who completed Level II of the CFA examination last year but has not registered for Level III. 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. During her correspondence with prospects and clients, Myers includes reference to her status as a “Level III CFA candidate” in her biographical background to increase her prominence in the industry.

Regarding Myers' references of her status as a candidate in the CFA program, what Standard governs these actions and is she in compliance?

A) Standard VII: Responsibilities as a CFA Member or CFA Candidate. Compliance: No.

B) Standard I: Professionalism. Compliance: No.

C) Standard III: Duties to Clients. Compliance: No.

A) Standard IV (B.4)—Priority of Transactions.

B) Standard IV (B.5)—Preservation of Confidentiality.

C) Standard III (C)—Disclosure of Conflicts to Employer.

• Better Trading Brokerage (“Better Trading”), 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 their two-year relationship with Ironclad.
• One of Harrison’s clients, Worldwind Travel (“Worldwind”), who participates in commission recapture, has offered Harrison two round-trip airline tickets anywhere in the U.S. or Europe in appreciation for their two-year relationship with Ironclad.

Which of the following best describes Harrison’s actions under the Code and Standards? Harrison:

A) can accept the offer from both Better Trading and Worldwind.

B) can accept the offer from Worldwind, but cannot accept the offer from Better Trading.

C) cannot accept the offer from either Better Trading or Worldwind.

• One of Myers’ software clients, Breakthrough Pharmaceuticals (“Breakthrough”), is a publicly-traded corporation that is also held in portfolios of Ironclad’s clients. In the course of their business relationship, Breakthrough’s chief executive officer (CEO) informs Myers that the company has been experiencing problems 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 about Ironclad clients holding stock of Breakthrough given the impact on earnings from the current pension troubles and short-term liquidity issues, informs Harrison of the impending disclosure. 
• Ironclad sells 1,800,000 shares of Breakthrough for clients, causing the price to drop $4 per share. 
• Upon disclosure of the pension troubles, Breakthrough’s stock dropped 18%. 

According to Standard II—Integrity of Capital Markets, Myers has:

A) violated the Standard by sharing material nonpublic information with Harrison.

B) not violated the Standard since the information shared with Harrison was used to fulfill Ironclad’s fiduciary duty to avoid significant losses.

C) not violated the Standard by sharing material nonpublic information with Harrison because the information did not involve a tender offer.

• Harrison serves on the board of directors for Internet 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 Internet 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 lack of earnings transparency and quality of earnings, among other issues.

• Harrison increases his position in both Internet and Wavelength citing “growth opportunities” and “consensus opinion.”

Which of the following Standards were least likely violated by Harrison and Myers?

A) Standard IV(B)—Additional Compensation Arrangements.

B) Standard III(A)—Loyalty, Prudence, and Care.

C) Standard II(A)—Material Nonpublic Information.

• Ironclad is currently reviewing proxies for several companies covered in research, including technology companies Advanced DSL (“Advanced”), Internet Connections (“Internet”), Speedy Chip Technology (“Speedy Chip”) and Wavelength Digital (“Wavelength”), which have all presented the expensing of employee stock options for vote in their current proxies.
• Investment personnel of Ironclad recently participated in an industry forum in support of increased disclosure for company stock options, which Ironclad believes provides investors with a more accurate perspective of corporate earnings.
• Contrary to committee consensus, Harrison and Myers vote client proxies “against” the expensing of employee stock options for Internet, Wavelength and Speedy Chip.

All of the following describe Harrison's actions for compliance with the Code and Standards regarding proxy voting EXCEPT:

A) Harrison should maintain the confidentiality of voting information on behalf of Ironclad’s clients.

B) Harrison should vote in accordance with Ironclad’s policy and coordinate major proxy issues across all client accounts.

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

A stockbroker who is a CFA Institute member is called on the telephone by the CEO of a large company. The CEO asks to buy shares of the CEO’s company for the accounts of the CEO’s children. In the course of the conversation, the CEO says this will really pay off when the upcoming takeover goes through. The stockbroker checks her sources and finds no information about the takeover. In this case the broker should:

A) only execute the order in compliance with Standard III(A), Loyalty, Prudence, and Care. Since the client is buying the stock for the children, there is not a problem.

B) do neither of the actions listed here.

C) execute the order for all clients as required by Standard III(B), Fair Dealing.

Which one of the following least accurately describes the CFA Institute Standard about using material nonpublic information?

A) An analyst using material nonpublic information may be fined by CFA Institute.

B) An analyst may use nonmaterial nonpublic information as long as it has been developed under the Mosaic Theory.

C) An analyst may violate this Standard by passing information to others even when it has been obtained from outside the company.

Carl Weather, CFA, is the chief financial officer of Talbot Enterprises. Based on inside information about Talbot’s favorable prospects, Weather concludes that Talbot’s common stock price is substantially undervalued in the market. With the approval of Talbot’s Board of Directors, Weather announces a program for his firm to repurchase $100 million of its own stock in the market. Talbot’s stock price rises immediately after the announcement of the repurchase program.

Reese Winter, a CFA Institute member, is Weather’s assistant. While waiting in Weather’s office, Winter reads an internal memo marked “confidential” from Talbot’s chief accountant to Weather. The memo states that Talbot sustained an unexpected substantial profit during the past quarter, and its earnings projections show a substantial increase compared with previous estimates. Winter uses her cell phone to call her brother and discloses this information to him. Her brother immediately buys 1000 shares of Talbot’s stock.

Did the actions of Weather and Winter violate Standard II(A): Material Nonpublic Information?

Weather

Winter

A) Yes No

B) No Yes

C) Yes Yes

Insider trading can be defined as information that is:

A) material and public.

B) nonmaterial and nonpublic.

C) material and nonpublic.

A CFA Institute member is a U.S. citizen living and working in a foreign country. That country has no laws against insider trading. Based on this information, the CFA Institute member may:

A) trade using insider information.

B) not trade using insider information based upon the rules of the SEC.

C) not trade using insider information based upon the CFA Institute Standards.

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.

A CFO who is a CFA Institute member is careful to make his press releases—some of them containing material and previously undisclosed information—clear and understandable to his readers. While writing a new release, he often has his current intern proofread rough drafts. He also sends electronic copies to his brother, an English teacher, to get suggestions concerning style and grammar. With respect to Standard II(A), Material Nonpublic Information, the CFO is:

A) violating the standard by either showing the pre-release version to his intern or sending it to his brother.

B) not in violation of the Standard.

C) only in violation by e-mailing the pre-release version to his brother but not the intern, because the intern is in essence an employee of the firm.

Don Benjamin, CFA, is the compliance officer for a large brokerage firm. He wants to prevent the communication of material nonpublic information and other sensitive information from his firm’s investment banking and corporate finance departments to its sales and research departments. The most common and widespread approach that Benjamin can use to prevent insider trading by employees is the:

A) fire wall.

B) Wall Street Rule.

C) legal list.

An analyst is allowed to trade on information that he has predicted, such as a corporate action or event, using perceptive assembly and analysis of material public information or nonmaterial, non-public information. This is called the:

A) assessment theory.

B) deduction theory.

C) mosaic theory.

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

B) for both of the reasons listed here.

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

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

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

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

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

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

C) must divest one of the departments.

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

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

Regarding non-public information, which one of the following statements is NOT correct?

A) An analyst may use some types of non-public information.

B) Disclosing material non-public information would have an impact on the price of a security or be of interest to a reasonable investor.

C) A member can be summarily suspended for having received material non-public information.

An analyst provides services for a charitable organization and in return gets free membership in the organization. Part of her job is to manage the liquid assets of the organization, and those assets include stocks. Her supervisor in the organization calls her and tells her to buy a certain stock for the portfolio based upon insider information from a board member in the organization. The analyst objects, but the supervisor says this is what they have always done and sees no reason for changing now. The analyst complies with the request. With respect to Standards IV(A), Loyalty to Employer, and II(A), Material Nonpublic Information, the analyst violated:

A) both Standards IV(A) and II(A).

B) only Standard IV(A) requiring duty of loyalty.

C) only Standard II(A) that prohibits insider trading.

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

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