Part 1. Ethics & Trust in Investment Profession

Question 1

Ethics

Answer 1

A set of shared beliefs of what is good and bad behaviour.

Question 2

Ethical conduct

Answer 2

• behaviour that follows moral principles and is consistent with society’s ethical expectations OR conduct that improves outcomes for stakeholders directly or indirectly affected by it, balancing your self-interest with the impact on others.

Question 3

Code of ethics

Answer 3

• a written set of moral principles that can guide behaviour by describing what is considered acceptable behaviour; to communicate the values, principles and expectations of an organisation.

Question 4

Professional code of ethics

Answer 4

• a way for a profession to communicate to the public that its members will use their knowledge and skills to serve their clients in an honest and ethical manner.

Question 5

Profession

Answer 5

• an occupational group that has requirements of specialised expert knowledge, and often a focus on ethical behaviour and service to the larger community or society.

Question 6

Investment professionals

Answer 6

• a special responsibility to use their specialised knowledge and skill to both protect and grow client assets; being intangible makes high ethical standards all the more important in financial services profession.

Question 7

Characteristics of investment professionals:

Answer 7

• Code and standards of professional behaviour.
• Regulatory body to enforce rule concerning professional behaviour and monitor ethical behaviour of members.
• Focus on the needs of their clients
• Focus on service to society
• Requirement to put clients interests first
• Focus on requirement for continuing education

Question 8

Ways professions establish trust:

Answer 8

• Requiring high standards of expertise, knowledge and skill.
• Establishing standards of ethical behaviour.
• Monitoring professional conduct.
• Encouraging continuing education to maintain and increase competence.
• Focused on clients needs
• Mentoring and inspiring others in profession.

Question 9

High ethical standards in investment management:

Answer 9

• Responsibility to use specialised knowledge and skills to protect and grow clients assets creates an importance for high ethical standards.
• Investment advice and management are intangible products, making quality and value received more difficult to evaluate.
• Trust in investment professionals retains reputations that may otherwise be harmed.
• A lack of trust in financial advisors will reduce funds entrusted to them, and add an additional investment risk; this will reduce amounts invested and increase returns required to attract investor capital.
• Unethical behaviour can constrain allocation of capital raised, reading social benefits to the economy.

Question 10

Suitability standard

Answer 10

• the match between client return requirements and risk tolerances and the characteristics of the securities recommended.

Question 11

Fiduciary standard

Answer 11

• is stronger, requiring professionals to use their knowledge and expertise to act in the best interests of the client.

Question 12

Challenges to unethical behaviour:

Answer 12

• Overestimating ones own ethical character.
• Considering only near term consequences, and not long term consequences of behaviour.
• Situational influences; peer pressure.
• It is claimed that external or situational influences are more important determinant of ethical quality of behaviour than internal (personal) traits that influence behaviour.

Examples:

• Social pressure from others.
• Loyalty to an employer, supervisor, organisation, co-workers.
• Prospect of acquiring more money or greater prestige.
• Strict compliance procedures limit individuals to what they can do rather than should do based on ethical principles and long term results.
• Not all unethical actions are illegal and not all illegal actions are unethical, i.e: ethical whistle blowing.
• Ethical behaviour requires more judgement; acts such as civil disobedience may be considered ethical even when its illegal.
• Ethical principles often set a higher standard of behaviour than laws and regulation.

Question 13

New laws considered unethical behaviour:

Answer 13

• Securities Act 1933, Glass-Steagall Act, Securities Exchange Act 1934 - perceived bad behaviour by investment professionals and bankers leading to 1929 market crash.
• Sarbanes-Oxley laws followed accounting scandal at Enron and Worldcom.
• Dodd-Frank Act - led to 2008 financial crisis.

Overall: ethical decisions require more judgement and consideration of the impact of behaviour on many stakeholders to legal decisions.

Question 14

Application of framework for ethical decision making:

Answer 14

• Ethical decisions improved when integrated in firm’s decision-making process, due to consideration of alternative actions and short and long-term consequences.
• Integrating a code of ethics teaches, practices and reinforces ethical decision making.
• Identification of important issues involved, examined with multiple perspectives, and develop the necessary judgment to avoid unanticipated ethical consequences.
  1. Identify relevant facts, stakeholders, duties owed, and ethical principles, conflicts of interest.
  2. Consider situational differences considered with any personal biases, additional guidance, alternative actions.
  3. Decide and act.
  4. Reflect; was the outcome as anticipated? Why or why not?

Question 15

The CFA Institute Professional Conduct Program:

Answer 15

Based on the principles of fairness of the process to members and candidates, and maintaining the confidentiality of the proceedings.

Question 16

CFA Institute Board of Governors:

Answer 16

• has overall responsibility for the Professional Conduct program and its Disciplinary Review Committee is responsible for enforcing the Code of Standards.

Question 17

CFA Institute Professional Conduct staff conducts inquiries related to professional conduct, for instance:

Answer 17

1. Self-disclosure by members or candidates on their annual Professional Conduct Statements of involvement in civil litigation or criminal investigation, or the member or candidate is subject of a written complaint.
2. Written complaints about a member or candidate’s professional conduct that are received by the Professional Conduct staff.
3. Evidence of misconduct by member or candidate that the Professional Conduct staff received through public resources, such as media article or broadcast.
4. A report by a CFA exam proctor of a possible violation during the examination.
5. Analysis of exam materials and monitoring of social media by CFA institute.

Question 18

Once an inquiry has begun, Professional conduct staff may:

Answer 18

• Request (in writing) an explanation from the subject member or candidate.
• Interview the subject member or candidate.
• Interview the complainant or other third parties.
• Collect documents and records relevant to the investigation.

Question 19

The Professional Conduct staff may decide following inquiry:

Answer 19

• That no disciplinary sanctions are appropriate.
• To issue a cautionary letter.
• To discipline the member or candidate.

Question 20

In a case where Professional Conduct staff finds a violation has occurred and proposes disciplinary sanction:

Answer 20

1. Reject - matter is referred to a disciplinary review panel of CFA Institute members for a hearing.
2. Accept - includes condemnation by the member’s peers or suspension of candidates’ continued participation in CFA program.

Question 21

Members of the CFA Institute and candidates for the CFA designation must:

Answer 21

1. Act with integrity, competence, diligence, respect and in an ethical manner with public, clients, employers colleagues in investment profession and other participants in global capital markets.
2. Place the integrity of investment profession and the interests of clients above own personal interests.
3. Use reasonable care and exercise independent professional judgment when conducting investment analysis, making investment recommendations, taking investment actions, and engaging in other professional activities.
4. Practice and encourage others to practice in a professional and ethical manner that will reflect credit on themselves and the profession.
5. Promote integrity and viability of the global capital markets for the ultimate benefit of society.
6. Maintain and improve their professional competence and strive to maintain and improve the competence of other investment professionals.

Question 22

The Standards of Professional Conduct (1):

Answer 22

1. Professionalism
   a. Knowledge of the Law
   - members/candidates comply with all applicable laws, rules, and regulations (CFA Institute Code of Ethics, and Standards of Professional Conduct) of any gov, regulatory organisation, licensing agency, or professional association governing their professional activities.
   - members/candidates comply with more strict laws, rules, or regulations, and must not knowingly participate or assist in any violation of laws, rules or regulation and dissociate themselves from any such violation.
   b. Independence and objectivity
   - Members/candidates use reasonable care and judgment to achieve and maintain independence and objectivity in their professional activities.
   - Members/candidates must not offer, solicit, or accept any gift, benefit, compensation, or consideration that reasonably could be expected to compromise their own or another independence and objectivity.
   c. Misrepresentation
   - Members/candidates must not knowingly make any misrepresentation relating to investment analysis, recommendations, actions or other professional activities.
   d. Misconduct
   - Members/candidates not engage in any professional conduct involving dishonesty, fraud, deceit or commit any act that reflects adversely on professional reputation, integrity or competence.

Question 23

The Standards of Professional Conduct (2):

Answer 23

2. Integrity of capital markets
   a. Material non-public information

Members/candidates possessing material non-public info that could affect the value of an investment must not act or cause others to act on the information.

b. Market manipulation

Members/candidates must not engage in practices that distort prices or artificially inflate trading volume intending to mislead market participants.

Question 24

The Standards of Professional Conduct (3):

Answer 24

3. Duties to clients
   a. Loyalty, prudence, and care
   - Members/candidates must have a duty of loyalty to their clients and act with reasonable care and exercise prudent judgment.
   - Members/candidates must act for the benefit of their clients and place clients’ interests before their employers or own interests.
   b. Fair dealing
   - Members/candidates must deal fairly and objectively with all clients when providing investment analysis, making investment recommendations, taking investment action, or engaging in other professional activities.
   c. Suitability
   - Members and candidates are in an advisory relationship with client they must:
4. Make reasonable inquiry into clients or perspectives clients investment experience, risk and return objectives and financial constraints prior to making any investment recommendation or taking action and must reassess/update information regularly.
5. Determine an investment is suitable to clients financial situation and consistent with clients written objectives, mandates and constraints before making an investment recommendation or taking investment action.
6. Judge suitability of investments in context of clients total portfolio.
   d. Performance presentation
   e. Preservation of confidentiality

Question 25

The Standards of Professional Conduct (4):

Answer 25

4. Duties to employers
   a. Loyalty
   b. Additional compensation arrangements
   c. Responsibilities of supervisors

Question 26

The Standards of Professional Conduct (5):

Answer 26

5. Investment analysis, recommendations, and actions
   a. Diligence and reasonable basis
   b. Communication with clients and prospective clients
   c. Record retention

Question 27

The Standards of Professional Conduct (6):

Answer 27

6. Conflicts of interest
   a. Disclosure of conflicts
   b. Priority of transactions
   c. Referral fees

Question 28

The Standards of Professional Conduct (7):

Answer 28

7. Responsibilities as a CFA Institute
   Member or CFA Candidate

a. Conduct as participants in CFA Institute Programs
b. Reference to CFA Institute, the CFA Designation, and the CFA Program