rgonzalez

Several years ago, Hilton and Ross, a full service investment firm, managed the initial public offering of eCom, Inc. Now, eCom wants Hilton and Ross to underwrite its secondary public offering. A senior manager at Hilton and Ross asks Brent Whitman, CFA, one of its equity analysts, to write a favorable research report on eCom to help make the underwriting a success. Whitman conducts a thorough analysis of eCom and concludes that the company has serious problems that do not suggest a favorable financial outlook. Nevertheless, Whitman writes a favorable report because he is fearful of losing his job. Hilton and Ross publicly distribute a report that only contains a buy recommendation and a brief description of the basic characteristics of eCom. Whitman has violated:

A) Standard V(A) Diligence and Reasonable Basis only.

B) Standard I(B) Independence and Objectivity, only.

C) Both Standard I(B) Independence and Objectivity and Standard V(A) Diligence and Reasonable Basis.

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Whitman violated Standard V(A) Diligence and Reasonable Basis because he did not have a reasonable and adequate basis for issuing a favorable recommendation. Whitman violated Standard I(B) Independence and Objectivity because he did not act independently in issuing his recommendation but instead was influenced by senior management at Hilton and Ross.

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An analyst receives a research report from a colleague. The colleague’s report has an elaborate table with performance data on publicly traded stocks. The colleague says the data in the table consists of measures provided by Standard & Poor’s. The analyst finds the table a useful reference for a report she is writing. She uses several pieces of data from the table. The analyst is potentially in violation of:

A) Standard I(C), Misrepresentation, concerning the use of the work of others.

B) Standard V(A), Diligence and Reasonable Basis, if she does not first verify the data in the table is accurate.

C) no particular standard because this is appropriate activity.

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Since the data in the table supposedly comes from Standard & Poor’s, a recognized data source, the analyst does not have to cite the source of the data. However, the analyst needs to use reasonable care and verify that the data is accurate by going back to the source. Had the analyst printed the table prepared by her colleague without acknowledgement, the analyst would have violated Standard I(C), Misrepresentation.

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Susan Plumb is the supervisor of her firm’s research department. Her firm has been seeking the mandate to underwrite Wings Industries’ proposed secondary stock offering. Without mentioning that the firm is seeking the mandate, she asks Jack Dawson to analyze Wings common stock and prepare a research report. After reasonable effort, Dawson produces a favorable report on Wings stock. Plumb then adds a footnote describing the underwriting relationship with Wings and disseminates the report to the firm’s clients. According to CFA Institute Standards of Professional Conduct, these actions are:

A) a violation of Standard V(A), Diligence and Reasonable Basis.

B) a violation of Standard VI(A), Disclosure of Conflicts.

C) not a violation of any Standard.

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The fact that the firm is seeking the mandate does not preclude the research department from performing analytical work on the security. As long as the final recommendation is based upon reasonable facts, not the desire to obtain the mandate, there is no violation.

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An analyst receives a report from his research department that summarizes and interprets a recent speech from the chairman of the U.S. Federal Reserve. The summary says that the chairman thinks inflation is under control. Based upon this summary, the analyst says in his next newsletter that inflation is under control. This is a violation of:

A) Standard V(A), Diligence and Reasonable Basis, only.

B) none of the Standards listed here.

C) Standard V(A), Diligence and Reasonable Basis, and Standard V(B), Communication with Clients and Prospective Clients.

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The analyst should verify that the research department has interpreted the chairman’s speech correctly. The analyst must make it clear that the statement concerning inflation is only an opinion. No one knows if that is true or not at any point in time. Based upon the given information, we cannot say that the analyst is violating only one standard. The analyst may also be violating plagiarism in accordance with Standard I(C), Misrepresentation. Hence, the answer citing the two standards and not limiting violations to just those two standards is the best answer.

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An analyst notices that for most years that a given class of assets has an abnormally high rate of return, the asset class often has an abnormally low rate of return the next year. Based upon this information, according to Standard V(A), Diligence and Reasonable Basis, the analyst can recommend:

A) short selling assets that have had a good previous year to all clients.

B) neither of these choices.

C) an increased allocation of Treasury bills (T-bills) for all portfolios of assets that have increased dramatically in the previous year.

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An analyst should not make a recommendation based only upon a statistical anomaly. Furthermore, none of the other choices would be appropriate. Clients with low risk tolerance should not short sell assets. The analyst cannot make a recommendation to all clients because each client has different characteristics and portfolios. The one answer that may have some merit is to increase the allocation of T-bills in portfolios that have had recent, dramatic increases. This would be for the purposes of maintaining a balanced portfolio. But the decision to rebalance must be made on a case-by-case basis and not for all portfolios.

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A financial analyst and CFA Institute member sends a preliminary research report on a company to his supervisor. The supervisor approves the report, but then the analyst receives news that causes him to revise downward the earnings estimate of the company. The analyst resubmits the report to the supervisor with the new earnings estimate. The analyst soon finds out that the supervisor plans to release the first version of the report with the first earnings estimate without a reasonable and adequate basis. In response to this the analyst must:

A) both insist that a follow up report be issued and take up the issue with regulatory authorities.

B) only insist that the first report be followed up by a revision.

C) insist that the supervisor change the earnings forecast or remove his (the analyst's) name from the report.

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According to Standard V(A), Diligence and Reasonable Basis, the analyst must exercise diligence, independence, and thoroughness when performing investment analysis, making a recommendation, or taking investment action. The analyst should document the difference in opinion including any request to remove his or her name from the report.

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The following scenarios refer to recommendations made by two analysts.

• Jean King, CFA, is a quantitative analyst at Quantlogic, Inc. King uses computer-generated screens to differentiate value and growth stocks based on accounting numbers such as sales, cash flow, earnings, and book value. Based on her analysis of all domestically traded stocks in the U.S. over the past year, King concludes that value stocks as a class have underperformed growth stocks over that period. Using only this analysis, she recommends that account executives at Quantlogic sell all value stocks from the portfolios for which they have discretionary authority to trade and replace these stocks with growth stocks.
• James Capelli, CFA, is a fundamental analyst at Wheaton Capital Management, which focuses on regional stocks. His analysis of Branson Wireless includes the investment's basic characteristics such as information about historical earnings, ownership of assets, outstanding contracts, and other business factors. In addition to conducting both a general industry analysis and a company financial analysis, Capelli interviews key executives at Branson. Based on his analysis, he concludes that the company's future prospects are strong and issues a "buy" recommendation.

According to CFA Institute Standards of Professional Conduct, did King and Capelli have a reasonable and adequate basis for making their recommendations?

A) Both King and Capelli have a reasonable basis for their recommendations.

B) Capelli has a reasonable basis for his recommendation, but King does not.

C) King has a reasonable basis for his recommendation, but Capelli does not.

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Capelli appears to have exercised diligence and thoroughness in making his recommendation. King's recommendation is not based on thorough quantitative work because the period used in her study is only one year. Also, her recommendation does not consider the client's specific needs and circumstances.

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Wes Smith, CFA, works for Advisors, Inc. In order to remain in compliance with Standard V(A), Diligence and Reasonable Basis, Smith may recommend a security in which of the following situations?

A) Smith reads a favorable review of the security in a widely read periodical.

B) Advisors' research department recommends a stock.

C) For either of the reasons listed here.

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Smith will be in violation if he acts solely on the basis of what he read in the periodical. Use of information within the firm can be relied upon unless the Smith has reason to believe the source lacks a sound basis.

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Peggy Green, CFA, is a research analyst following Brown Co. All the information she has gathered suggests the stock should be rated a weak "hold." During a recent lunch, Green overheard another analyst say that the stock should be rated a "buy." Green returns to her office and issues a "buy" recommendation. Green:

A) has violated CFA Institute Standards of Professional Conduct because she did not have a reasonable and adequate basis for making this recommendation.

B) violated CFA Institute Standards of Professional Conduct because she did not seek approval of the change from her firm's compliance director.

C) has violated CFA Institute Standards of Professional Conduct because she failed to distinguish between fact and opinion.

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Analysts are required to have a reasonable and adequate basis, supported by appropriate research and investigation, for their recommendations.

rgonzalez

Peggy Green, CFA, is a research analyst following Brown Co. All the information she has gathered suggests the stock should be rated a weak "hold." During a recent lunch, Green overheard another analyst say that the stock should be rated a "buy." Green returns to her office and issues a "buy" recommendation. Green:

A) has violated CFA Institute Standards of Professional Conduct because she did not have a reasonable and adequate basis for making this recommendation.

B) violated CFA Institute Standards of Professional Conduct because she did not seek approval of the change from her firm's compliance director.

C) has violated CFA Institute Standards of Professional Conduct because she failed to distinguish between fact and opinion.

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Analysts are required to have a reasonable and adequate basis, supported by appropriate research and investigation, for their recommendations.