3.3) Duties to clients III (C) : Suitability

Question 1

What is standard 3 duties to clients substandard 3(C) ?

Answer 1

Suitability

Question 2

How is suitability displayed in an advisory relationship with a client? (4)

Answer 2

• Investigate and understand a client’s investment experience, knowledge, risk and return objectives, financial needs and constraints prior to making any investment recommendation or taking investment action.
• Reassess and update this info regularly.
• Determine if an investment is suitable to the client’s needs, constraints, objectives and mandates before making an investment recommendation or taking investment action.
• Judge suitability of investment considering client’s total portfolio.

Question 3

How is suitability established when managing a portfolio to a specific mandate, strategy, or style?

Answer 3

Make** only investment recommendations or take investment actions that are consistent with objectives, constraints and mandate of the portfolio.**

Question 5

Assess client’s ______ profile, personal circumstances, needs, objectives etc. as a ______ to the investment strategy.

Answer 5

risk
start

Question 6

What should a clients investment policy statement and what should it contain? (4)

Answer 6

Formulate an Investment Policy Statement (IPS) for an individual client. This
should contain:
* Client description
* Investment objectives (risk return trade-offs)
* Investor constraints (e.g., liquidity, tax, cashflows, time horizons, legal
requirements, preferences etc.)
* Benchmarks for performance management

Question 7

What are the other ways ‘suitability’ is implemented for members?

Answer 7

• Update IPS regularly (at least annually).
• Assess any investment decision or recommendation within client constraints,
  mandate, written instructions and the client’s portfolio.

Question 8

Example 25: Linus Ross (24), a qualified CA, has recently inherited several million Rand from his grandfather. Nick Goldrick (60) is a teacher who will soon be
retiring. Marc Dukram, a financial advisor, recommends to both that they invest 60% of their assets in the stock market. Is Dukram’s recommendation consistent
with Standard III(C)?

Answer 8

Solution: While this rather aggressive (high risk, high return) recommendationmay be appropriate to Ross, who can afford to take risk and has a long time
horizon, it certainly is not suitable to the circumstances of Goldrick, who cannot afford this level of risk so close to retirement. Dukram is in contravention of Standard III(C), as he has not provided suitable advice to both his clients. Such advice should be based upon their personal circumstances, needs and objectives.

Question 9

Example 26: Anisa Khumalo believes that it is appropriate to protect the portfolio of Silindile Dube against extreme value loss by using various option strategies. She explains the basic concepts and the risks involved to Dube, before
incorporating options into Dube’s portfolio. Is Khumalo’s recommendation consistent with Standard III(C)?

Answer 9

Solution: Khumalo is fully in compliance with Standard III(C). Not only did she consider the use of options in the context of the entire portfolio (rather than based on specific issues), but she also took care to ensure that Dube was aware of the risks involved.

Question 10

Example 27: Clint Kardashian buys a large amount of small cap IT stock for the Stable Fund, of which he is the portfolio manager. The mandate of the Stable Fund
is to invest in large and low risk companies. Is Kardashian’s investment consistent with Standard III(C)?

Answer 10

Solution: Kardashian appears to be in contravention of Standard III(C). Small cap IT stocks are small caps and as a small cap stock are likely to be high risk-high return stocks. This would make them incompatible with the Stable Fund mandate.