Ethics

Question 1

Which of the following statements is most accurate? Ethics can be described as:

a commitment to upholding the law.

an individual’s personal opinion about right and wrong.

a set of moral principles that provide guidance for our behavior

Answer 1

C is correct. Ethics can be described as a set of moral principles that provide guidance for our behavior; these may be moral principles shared by a community or societal group.

Question 2

Which of the following statements is most accurate? Standards of conduct:

are a necessary component of any code of ethics.

serve as a general guide regarding proper conduct by members of a group.

serve as benchmarks for the minimally acceptable behavior required of members of a group.

Answer 2

C is correct. Standards of conduct serve as benchmarks for the minimally acceptable behavior required of members of a group. Some organizations will adopt only a code of ethics, which communicates the organization’s values and overall expectations regarding member behavior. Others may adopt both a code of ethics and standards of conduct. Standards of conduct identify specific behavior required of community members and serve as benchmarks for the minimally acceptable behavior of community members.

Question 3

Which of the following statements is most accurate? Investment professionals have a special responsibility to act ethically because:

the industry is heavily regulated.
they are entrusted to protect clients’ assets.
the profession requires compliance with its code of ethics.

Answer 3

B is correct. Investment professionals have a special responsibility because clients entrust them to protect the clients’ assets.

Question 4

Which of the following statements is most accurate? A profession’s code of ethics:

includes standards of conduct or specific benchmarks for behavior.

ensures that all members of a profession will act ethically at all times.

publicly communicates the shared principles and expected behaviors of a profession’s members.

Answer 4

C is correct. A profession’s code of ethics publicly communicates the shared principles and expected behaviors of a profession’s members. The existence of a code of ethics does not ensure that all members will behave in a manner consistent with the code and act ethically at all times. A profession will often establish a disciplinary process to address alleged violations of the code of ethics. A profession may adopt standards of conduct to enhance and clarify the code of ethics.

Question 5

Which of the following statements is most accurate?

Large financial rewards, such as bonuses, are the most powerful situational influences.

When decision making focuses on short-term factors, the likelihood of ethical conduct increases.

Situational influences can motivate individuals to act in their short-term self-interests without recognizing the long-term risks or consequences for themselves and others.

Answer 5

C is correct. Situational influences can motivate individuals to act in their short-term self-interests without recognizing the long-term risks or consequences for themselves and others. Large financial rewards are powerful situational influences, but in some situations, other situational influences, such as loyalty to colleagues, may be even more powerful.

Question 6

Which of the following statements is most accurate?

All legal behavior is ethical behavior.

Some ethical behavior may be illegal.

Legal standards represent the highest standard.

Answer 6

B is correct. Some ethical behavior may be illegal. Civil disobedience is an example of what may be illegal behavior that some consider to be ethical. Legal and ethical behavior often coincide but not always. Standards of conduct based on ethical principles may represent a higher standard of behavior than the behavior required by law.

Question 7

Which of the following statements is most accurate?

Increased regulations are the most useful means to reduce unethical behavior by market participants.
Regulators quickly design and implement laws and regulations to address practices that adversely affect the fairness and efficiency of markets.
New laws designed to reduce or eliminate conduct that adversely affects the markets can create opportunities for different, but similarly problematic, conduct.

Answer 7

C is correct. New laws designed to reduce or eliminate conduct that adversely affects the markets can create opportunities for different, but similarly problematic, conduct.

Question 8

Which of the following statements is most accurate? An ethical decision-making framework:

is only beneficial when a firm lacks a code of ethics.

is used to improve compliance with laws and regulations.

is a tool for analyzing the potential alternative actions and consequences of a decision.

Answer 8

C is correct. An ethical decision-making framework is a tool for analyzing the potential alternative actions and consequences of a decision.

Question 9

Which of the following groups is most likely responsible for maintaining oversight and responsibility for the Professional Conduct Program (PCP)?

CFA Institute Board of Governors

Disciplinary Review Committee

Professional Conduct Division

Answer 9

A. is Correct because all CFA Institute members and candidates enrolled in the CFA Program are required to comply with the Code and Standards. The CFA Institute Board of Governors maintains oversight and responsibility for the Professional Conduct Program (PCP).

Question 10

Sanctions imposed by CFA Institute for violations of the CFA Institute Code of Ethics or Standards of Professional Conduct least likely include:

monetary fines.

public censure.

revocation of a CFA Charter.

Answer 10

A is Correct because sanctions available to CFA Institute do not include monetary fines. However, sanctions imposed by CFA Institute may have significant consequences; they include public censure, suspension of membership and use of the CFA designation, and revocation of the CFA charter. Candidates enrolled in the CFA Program who have violated the Code and Standards or testing policies may be suspended or prohibited from further participation in the CFA Program.

Question 11

Which of the following least likely reflects the two primary principles of the CFA Institute Rules of Procedure for Proceedings Related to Professional Conduct?

Confidentiality of proceedings

Public disclosure of disciplinary sanctions

Fair process to the member and candidate

Answer 11

B is Correct because the two principles of the Rules of Procedure for Proceedings Related to Professional Conduct are confidentiality of proceedings and fair process to the member and candidate.

Question 12

The Investment Analysis, Recommendations, and Actions standard states that members and candidates must:

find an investment suitable for their client before making a recommendation.

make reasonable efforts to ensure that performance presentation is fair, accurate, and complete.

distinguish between fact and opinion in the presentation of investment analysis and recommendations.

Answer 12

C is correct. The V.B.4 Communications with Clients and Prospective Clients section of the Investment Analysis, Recommendations, and Actions standard states that members and candidates must distinguish between fact and opinion in the presentation of investment analysis and recommendations.

Question 13

Based on the Conflicts of Interest standard, members and candidates must:

disclose, as required by law, those conflicts interfering with their professional duties.

disclose, as appropriate, any benefit paid to others for the recommendation of products.

seek employer approval before prioritizing their investment transactions over those client

Answer 13

B is correct. The VI.C Referral Fees section of the Conflicts of Interest standard requires members and candidates to disclose to their employer, clients, and prospective clients, as appropriate, any compensation, consideration, or benefit received from or paid to others for the recommendation of products or services.

Question 14

The Responsibilities as a CFA Institute Member or CFA Candidate Standard explicitly states a requirement regarding:

loyalty.

responsibility of supervisors.

reference to the CFA Program.

Answer 14

C is correct. The VII.B Reference to CFA Institute, the CFA Designation, and the CFA Program section of the Responsibilities as a CFA Institute Member or CFA Candidate standard explicitly states the appropriate manner to make reference to CFA Institute, CFA Institute membership, the CFA designation, or candidacy in the CFA Program.

Question 15

When can a party, nonmember or firm, most likely claim compliance with the CFA Institute Code of Ethics and Standards of Professional Conduct? Once they have:

ensured that their code and ethics meets the principles of the Code and Standards.

notified the CFA Institute of their claim.

verified their claim of compliance with the CFA Institute.

Answer 15

Correct because the Code and Standards apply to individual members of CFA Institute and candidates in the CFA Program. CFA Institute does encourage firms to adopt the Code and Standards, however, as part of their code of ethics. Those who claim compliance should fully understand the requirements of each of the principles of the Code and Standard.

Question 16

A firm that does not adopt the GIPS standards could mischaracterize its overall performance by presenting a performance history:

that includes terminated portfolios.

composed of a single top-performing portfolio.

for an investment mandate over all periods since the firm’s inception.

Answer 16

B is correct. Selecting a top-performing portfolio to represent a firm’s overall investment results for a specific mandate, also known as using representative accounts, is a misleading practice that is not allowed under the GIPS standards. A is incorrect because including terminated portfolios is consistent with the GIPS standards. If the firm instead presented a performance history that excludes terminated portfolios, however, such a practice would be misleading and not allowed under the GIPS standards. C is incorrect because presenting performance for its mandate covering all periods since the firm’s inception is consistent with the GIPS standards. If the firm instead presented performance for a selected period during which it produced excellent returns or outperformed its benchmark, however, such a practice would be misleading and not allowed under the GIPS standards.

Question 17

Which of the following statements regarding GIPS compliance is correct?

Asset owners that manage assets can claim compliance with the GIPS standards.

Software that calculates performance in a manner consistent with the GIPS standards can claim compliance with the GIPS standards.

Firms can comply with the GIPS standards by limiting their compliance claims to the provisions they have chosen to follow.

Answer 17

A is correct. Asset owners can claim compliance if they manage actual assets for which they are making a claim of compliance. B is incorrect because software (and the vendors that supply software) cannot be GIPS compliant. Software can assist firms in achieving compliance with the GIPS standards, but only a firm that manages actual assets can claim compliance. C is incorrect because a firm has only two options regarding compliance with the GIPS standards: fully comply with all applicable requirements of the GIPS standards and claim compliance through the use of the GIPS Compliance Statement; or not comply with all requirements of the GIPS standards and not claim compliance with, or make any reference to, the GIPS standards.

Question 18

To comply with the GIPS® standards, firms most likely must:

apply standards on a firm-wide basis.

be verified before they can claim compliance.

be defined as separate legal entities.

Answer 18

Solution
A is Correct because according to requirements for GIPS compliance, GIPS standards must be applied on a firm-wide basis. They cannot be separately applied to composites.

B is Incorrect because firms are responsible for their own claims of compliance. Although a third-party independent verification is recommended, it is not required for compliance to be claimed by a firm.

C is Incorrect because a firm must be defined as an investment firm, subsidiary, or division held out to clients or prospective clients as a distinct business entity. There is no requirement for the firm to be a separate legal entity.

Question 19

The GIPS® standards most likely require:

nondiscretionary segregated accounts to be included in composites.

non–fee-paying segregated accounts to be excluded from the returns of appropriate composites.

composites to be defined according to similar investment objectives or strategies.

Answer 19

A is Incorrect. Composites must not include nondiscretionary segregated accounts.

A is Incorrect. Only fee-paying segregated accounts are required to be included in composites.

C is Correct. Composites must be defined according to similar investment objectives or strategies. Terminated segregated accounts must be included in the historical returns of appropriate composites, whereas only fee-paying segregated accounts are required to be included in composites. Nondiscretionary segregated accounts must not be included in a firm’s composites

Question 20

The GIPS® standards were most likely developed for the benefit of:

prospective clients.

middle-office operations.

broker/dealers.

Answer 20

A is Correct. The GIPS standards benefit asset managers and their prospective clients and asset owners and their oversight bodies. GIPS reports allow prospective clients to know that the track record of a GIPS-compliant firm is complete and fairly presented.

Question 21

Which of the following statements related to why the GIPS® standards were created is least likely correct? The GIPS standards were created to:

provide clients certainty in what is presented and allow them to make reasonable comparisons.

identify a set of ethical principles for firms to follow in calculating and presenting historical investment results.

establish a standardized, industry-wide approach for investment firms to follow.

Answer 21

A is Correct. The GIPS standards were created to ensure fair representation and full disclosure of investment performance, not to provide certainty in what is presented.

Question 22

Which of the following is part of the nine major sections of the GIPS® standards?

Performance fees

Input data

Disclosure

Answer 22

The major sections of the GIPS standards do not include performance fees or disclosure.

The major sections are: fundamentals of compliance, input data, and calculation methodology, composite and pooled fund maintenance, composite time-weighted return report, composite money-weighted return report, pooled fund time-

Question 23

Verification:

must be performed on a firm-wide basis.

may be provided by the firm’s compliance department.

ensures the accuracy of a specific composite presentation.

Answer 23

A is correct. Verification is performed with respect to an entire firm, not on specific composites. B is incorrect because verification must be performed by an independent third party. C is incorrect because verification provides assurance on whether the firm’s policies and procedures related to composite and pooled fund maintenance, as well as the calculation, presentation, and distribution of performance, have been designed in compliance with the GIPS standards and have been implemented on a firm-wide basis; it does not ensure the accuracy of a specific composite presentation.

Question 24

Which of the following cannot claim compliance with the GIPS standards?

Investment management firms
Software vendors
Private pension funds

Answer 24

B is correct. Only investment management firms and asset owners (including pension funds, whether public or private) that manage actual assets may claim compliance with the GIPS standards. Software vendors and other intermediaries cannot claim compliance.

Question 25

Which of the following is an abusive practice that the GIPS standards were designed to avoid?

Presenting performance results that include terminated portfolios

Comparing performance results with an appropriate benchmark

Presenting performance results for select time periods

Answer 25

C is correct. The GIPS standards require performance to be presented for consistent, standardized time periods.

Question 26

Firms that claim compliance with the GIPS standards are required to receive a verification:

before the firm can initially claim compliance.

after the firm has claimed compliance for 12 months.

never; verification is not required.

Answer 26

C is correct. Firms are not required to be verified in order to claim compliance with the GIPS standards, although verification is recommended and viewed as best practice.

Question 27

Which of the following is not a commonly perceived benefit of the GIPS standards?

Comparability of results across managers that claim compliance

Adherence to regulatory requirements

Increased confidence by investors and beneficiaries

Answer 27

B is correct. Compliance with the GIPS standards is not typically required by regulators, nor are the GIPS standards intended to cover all regulatory requirements.

Question 28

When defining the firm, the GIPS standards recommend that firms should:

adopt the narrowest, most relevant definition of the firm.

adopt the broadest, most meaningful definition of the firm.

exclude offices operating under different brand names.

Answer 28

B is correct. Firms are encouraged to adopt the broadest, most meaningful definition possible of the firm.

Question 29

A composite return reflects the performance of:

all portfolios managed by the firm, regardless of investment strategy.

all discretionary portfolios that meet the composite definition.

all discretionary and non-discretionary portfolios that meet the composite definition.

Answer 29

B is correct. Composites must be defined based on investment mandate, objective, or strategy. Composites can include only discretionary portfolios.

Question 30

erification of compliance with the GIPS® standards most likely requires:

an independent third party to carry out the verification.

an assurance that the composite presentations are accurate.

verification for each specific composite under review.

Answer 30

A is Correct. While a firm is responsible for their own compliance claim, they cannot perform their own verification. An independent third party must undertake the verification.

Incorrect. Verification does not ensure the accuracy of any specific composite presentation.

Incorrect. Verification is performed with respect to an entire firm, not on specific composites.

Question 31

Which of the following is added to income tax payable to determine the company’s income tax expense as reported on the income statement?

Deferred tax assets

Deferred tax liabilities

Changes in deferred tax assets and liabilities

Answer 31

C is correct. The changes in deferred tax assets and liabilities are added to income tax payable to determine the company’s income tax expense (or credit) as it is reported on the income statement. A and B are incorrect because it is the changes in deferred tax assets and liabilities that are added to income tax payable.

Question 32

Which of the following statements about tax rates is correct?

The effective tax rate is typically used for forecasting cash flows.

The cash tax rate is relevant for projecting earnings on the income statement.

A company’s income tax expense equals the sum of current taxes plus the change in deferred tax assets and liabilities.

Answer 32

C is correct. A company’s income tax expense equals the sum of current taxes (i.e., the amount currently payable) plus the change in deferred tax assets and liabilities. A is incorrect because the cash tax rate is typically used for forecasting cash flows. B is incorrect because the effective tax rate is relevant for projecting earnings on the income statement.

Question 33

Over time, the reported amount of the annual interest expense on a long-term bond issued at a discount will:

Answer 33

increase

A portion of the discount must be amortized to the interest expense each year. The amortized amount is debited to interest expense and credited to debt. So debt goes up. The interest expense is debt times the effective interest rate. Thus, interest expense will increase over time

Question 34

A zero coupon bond, compared to a bond issued at par, will result in higher:

A)interest expense.
B)cash flows from financing (CFF).
C)cash flows from operations (CFO).

Answer 34

A zero coupon bond, compared to a bond issued at par, will result in higher:

C)cash flows from operations (CFO).

The zero-coupon bond will have higher cash flows from operations, as the cash interest expense in this case is zero and no cash is paid until maturity. Candidates should remember that any bond issued at a discount will have more cash flow from operations and less cash flow from financing.

Question 35

o maintain trust, the investment management profession must be interdependent with:

A
regulators.

B
employers.

C
investment firms

Answer 35

C is correct. The investment management profession and investment firms must be interdependent to maintain trust. Employers and regulators have their own standards and practices, which may differ from regulations and standards set by professional bodies.

Question 36

Which of the following is most likely a challenge to promoting ethics and trust in the investment profession?

A
Short-term situational influences are difficult to recognize and consider

B
Situational influences cannot motivate individuals to act more ethically

C
Individuals tend to place a high level of importance on their internal traits and intrinsic motivations

Answer 36

A key challenge to ethical behavior is that individuals often place too much emphasis on their internal traits and intrinsic motivations, which have little predictive ability regarding whether someone will behave ethically in a specific situation. In general, individuals are overconfident in their ability to act morally in situations that require sound judgment.

Short-term situational influences are relatively easy to recognize and consider. In many situations, individuals focus on short-term influences and fail to adequately consider long-term consequences.

While situational influences often cause individuals to behave unethically, these pressures can also induce people to act more ethically.

Question 37

To promote ethical behavior, an investment management firm’s code of conduct should most likely:

A
foster a strong culture of compliance.

B
emphasize the importance of loyalty to fellow employees.

C
encourage employees to include consideration of long-term consequences in their decision-making process.

Answer 37

Individuals tend to find it easier to recognize and consider short-term situational influences when making decisions. To promote ethical behavior, codes of conduct should encourage employees to consider the potential long-term consequences of their decisions.

Question 38

Which of the following statements about ethics in the investment profession is least likely correct?

A
Ethics involves making good choices

B
Ethics involves a set of moral and legal principles

C
Situational influences can shape individual ethical behaviors

Answer 38

Ethics is a set of moral principles that are established without consideration of legal principles.

Question 39

An ethical decision-making framework will most likely:

A
include a pre-determined, uniform sequence.

B
focus exclusively on confirmable facts and relationships.

C
help avoid a decision that has unanticipated ethical consequences.

Answer 39

C is correct. Using an ethical decision-making framework consistently will help you develop sound judgment and decision-making skills and avoid making decisions that have unanticipated ethical consequences

Question 40

Which of the following statements is most likely correct regarding the CFA Institute Professional Conduct Program?

A
The sanctions imposed by CFA Institute include public censure

B
Members and candidates are not required to disclose their involvement in civil litigation on which the courts have yet to rule

C
Members and candidates must accept the sanctions proposed by CFA Institute’s Professional Conduct Program staff upon concluding that a violation has occurred.

Answer 40

CFA Institute may impose sanctions ranging from public censure to revocation of a member’s right to use the CFA designation.

Members or Candidates must self-disclose on the annual Professional Conduct Statement all matters that question their professional conduct, which could include involvement in unresolved civil litigation.

If Professional Conduct Program staff conclude that a violation has occurred, they will propose a sanction that the member or candidate may reject or accept. If the proposed sanction is rejected, the case is referred to the Disciplinary Review Committee, which is the final authority on such matters.

Question 41

Which of the following statements is most accurate? When Professional Conduct Program (PCP) staff rules that a member of CFA Institute has violated the Standards, the next step in the disciplinary process is for:

A
the proposed sanction to be imposed.

B
the member to decide if he or she will accept the proposed sanction.

C
the Disciplinary Review Committee to review the ruling issued by PCP staff.

Answer 41

B.

Members and candidates deemed by PCP staff to have violated the Standards are not required to accept the ruling and proposed sanction, but rather may decide to reject this decision and the proposed sanction.

If the ruling is rejected, the matter is then referred to a panel composed of DRC members, which will either uphold or overturn the PCP staff’s recommendation.