Reading 1 & 2 LOS's Flashcards
LOS 1a: Describe the structure of the CFA Institute Professional Conduct Program and the process for the enforcement of the Code and Standards
All CFA Institute members and candidates enrolled in the CFA Program are required to comply with the Code and Standards. The Professional Conduct Program (PCP) and the Disciplinary Review Committee (DRC), are responsible for enforcement of these Code and Standards. The CFA institute Bylaws and Rules of Procedure for Professional Conduct form the basic structure for enforcing the Code and Standards
Professional Conduct inquiries come from a number of sources:
- members and candidates must self-disclose on the annual Professional Conduct statement all matters that questions their professional conduct
- Written complaints received by Professional Conduct staff can bring about an investigation
- CFA institute staff may become aware of questionable conduct by a member or candidate through the media or other public source
- Candidate conduct is moinitored by proctors, who complete reports on candidates suspected to have violated testing rules on exam day
When an inquiry is initiated, the Professional Conduct staff conducts an investigation that may include:
- Requesting a written explanation from the member or candidate
- Interviewing the member or candidate, complaining parties, and third parties
- Collecting documents and records relevant to the investigation
Upon reviewing the material obtained during the investigation, The professional Conduct staff may:
- Take no disciplinary action
- Issue a cautionary letter
- Continue proceedings to discipline the member or candidate
If the Professional Conduct staff believes there was a violation of the Code and Standards, the accused can either accept or challenge the charges in front of the DRC. If found guilty sanctions imposed by the CFA institute can include public censure, suspension of membership and use of the CFA designation, and revocation of the CFA charter.
Adoption of the Code and Standards
Firms may want to adopt a similar code to that of the CFA, though the CFA institute does not encourage this. Once the CFA reviews its codes and determines them to be similar, they still do not let the company say specifically they are CFA certified.
The CFA institute has made the Asset Manager Code of Professional Conduct, which is drafted specifically for firms.
LOS 1b: State the six components of the Code of Ethics and the seven Standards of Professional Conduct
The Code of Ethics
Member of CDA Institute and candidates for the CFA designation must:
- Act with integrity, competence, diligence, and respect in an ethical manner with the public, clients, prospective clients, employers, employees, colleagues in the investment profession, and other participants in the global capital markets
- Place the inegrity of the investment profession and the inerests of clients above their own personal interests
- Use reasonable care and exercise indepedent professional judgement when conducting investment analysis, making investment reccommendations, taking investment actions, and engaging in other professional activities
- Practice and encourage others to practice in professional and ethical manner that will reflect credit on themselves and the profession
- Promote the integrity and viability of the global capital markets for the ultimate benefit of society
- Maintain and improve their professional cometence and strive to maintain and improve the competence of other investment professionals
Standards of Professional Conduct
- Professionalism
- Knowledge of the law
- Independence and Objectivity
- Misrepresentation
- Misconduct
- Integrity of Capital Markets
- Material Nonpublic Information
- Market Manipulation
- Duties to Clients
- Loyalty, Prudence, and Care
- Fair Dealing
- Suitability
- Performance Presentation
- Preservation of Confidentiality
- Duties to Employers
- Loyalty
- Additional Compensation Arrangements
- Responsibilities of Supervisors
- Investment Analysis, recommendations, and Actions
- Diligence and Reasonable Basis
- Communication with Clients and Prospective Clients
- Record Retention
- Conflicts of Interest
- Disclosure of Conflicts
- Priority of Transactions
- Referral Fees
- Responsibilities as a CFA Member or CFA Candidate
- Conduct as members and candidates in the CFA program
- Reference to CFA Institute, the CFA Designation, and the CFA program
LOS 2a: Standard 1: Professionalism
A) Knowlege of the Law
1a) Knowledge of the Law
The Standard- Members and candidates must understand and comply with all applicable laws, rules, and regulations of any government, regulatory organization, licensing agency, or professional association governing their professional activities. In event of conflict, members and candidates must comply with the more strict law, rule , or regulation.
Guidance
- Members and candidates must understand the applicable laws and regulations of the countries and jurisdictions where they engage in professional activities
- On the basis of their reasonable and good faith understanding, members and candidates must comply with the laws and regulations that directly govern their professional activities and resulting outcomes that protect the interests of the clients
- When questions arise, members and candidates should know their firm’s policies and procedures for accessing compliance guidance.
Relationship between the Code and Standards and Applicable Law
- When applicable law and the Code and Standrads require different conduct, members and candidates must follow the stricter of the applicable law or the Code and Standards
Participation in or Association with Violations by Others
- If a member or candidate has reasonable grounds to believe that imminent or ongoing client or employer activities are illegal or unethical, the member or candidate must dissociate or seperate from the activity, even if it means leaving their employment
- Before having to leave employment a person can dissociate by attempting to stop the behavior by bringing it to the attention of the employer. If the activity continues, then it is the CFA members responsibility to dissociate. Inaction will still lead the member to be in violation
Investment Products and Applicable Laws
- members involved in creating or maintaining investment services should be mindful of where these products or packages will be sold as well as their places of origins and make sure to comply to applicable laws and regulations
- They should also make sure the associated firms that are distributing these services should be in accordance with the law
- They should undertake the necessary due diligence when transacting cross-border business to understand the multiple applicable laws and regulations
Recommended Procedures for Compliance
Members and Candidates
- Stay informed - make sure you are regularly informed about changes in laws, rules, and regulations
- Review procedures - review their compliance procedures on a regular basis to ensure that the procedures reflect current law and provide adequate guidance
- Maintain current files - should maintain readily accessible current reference copies of applicable statutes, rules, regulations, and important cases
Distribution Area Laws
members should make reasonable efforts to understand the applicable laws for the countries and regions where their investment products are developed and are most likely to be distributed to clients
Legal Counsel
- When in doubt about the appropriate action to undertake, it is recommended that a member seek the advice of compliance personal or legal counsel
- If a potential violation is being committed by a fellow employee, it may also be prudent for the member to seek the advice of the firm’s compliance department
Dissociation
When dissociating from an activity that violates the Code and Standards, members should document the violation and urge their firms to attempt to persuade the perpetrator to cease such conduct
LOS 2a: Standard 1: Professionalism
B) Independence and Objectivity
The Standard
Members must use reasonable care and judgment to achieve and maintain independence and objectivity in their professional activities. Members must not offer, solicit, or accept any gift, benefit, compensation, or consideration that reasonably could be expected to compromise their own or another’s independence and objectivity
Guidance
- Members should avoid situations that could cause or perceived to cause a loss of independence or objectivity in recommending investments
- Modest gifts and entertainment are acceptable, but best practice dictates that memebers reject any offers that threaten independence or objectivity
- When possible, prior to accepting bonuses or gifts, members should disclose to their employers such benefits offered
- Members are personally responsible for maintaining independence and objectivity when preparing research reports, making investment recommendations, and taking investment action on behalf of clients
Investment Banking Relationships
- Some sell-side firms may exert pressure on their analysts to issue favorable research reports on current or prospective investment banking clients; members must not succumb to such pressures
- Allowing analysts to work with investment bankers is appropriate only when the conflicts are adequately and effectively managed and disclosed
- Any “firewalls” between the investment banking and research functions must be managed to minimize conflicts of interest ( put them in separate rooms where they do not interact)
Public Companies
- Analysts may be pressured to issue favorable reports and recommendations by the companies they follow.
- Due diligence in financial research and analysis involves gathering information from a wide variety of sources , including public disclosure documents and also company management personnel, suppliers, customers, competitors, and other relevant sources
Buy-Side Clients
- Portfolio managers may have significant positions in the security of a company under review. Consequently, some portfolio managers implicitly or explicitly support sell-side ratings inflation
- It is improper for portfolio managers to threaten or engage in retaliatory practices, such as reporting sell-side analysts to the covered company in order to instigate negative corporate reactions
Fund Manager and Custodial Relationships
members responsible for hiring and retaining outside managers and third-party custodians should not accpet gifts, entertainment, or travel funding
Credit Rating Agency Opinions
- Members employed at rating agencies should ensure that procedures and processes at the agencies prevent undue influences from a sponsoring company during the analysis
- When using information provided by credit rating agencies, members should be mindful of the potential conflicts of interest
Issue-Paid Research
- Some companies hire analysts to produce research reports in case of lack of coverage from sell-side research, or to increase the company’s visability in financial markets
- Analysts must engage in thorough, independent, and unbiased analysis and must fully disclose potential conflicts, including the nature of their compensation. Analysts must try to limit the type of compensation they accept for conducting research (such as stock options or other instruments that benefit from a positive report)
- Best practice if for analysts to accept only a flat fee for their work prior to writing the report, without regard to their conclusions of the report’s recommendations
Travel Funding
- To avoid the appearance of compromising their independence and objectivity, best practice dictates that analysts always use commercial transportation at their expense or their firms expense rather than accept paid travel arrangements from an outside company
Performance Measurement and Attribution
Memebers working within a firm’s investment performance measurement department may also be presented with situations that challenge their independence. Members must not allow internal or external influences to affect their independence and objectivity as they faithfully complete their performance calculation and analysis-related responsibilities
Influence During the Manager Selection/ Procurement Process
- When serving in a hiring capacity, members should not solicit gifts, contributions, or other compensation that may affect their independence and objectivity.
- When working to earn a new investment allocation, members and candidates should not offer gifts, contributions, or other compensation to influence the decision of the hiring representative
Recommended Procedures for Compliance
- Protect the integrity of opinions - establish policies that every report reflects the unbiased opinion of the analysts
- Create a restricted list - if a firm is unwilling to permit dissemination of adverse opinions, it should be put on a restricted list so that firms disseminates only factual information about the company
- Restrict Special cost arrangements - members should pay for transportation and hotel stays
- Limit Gifts - members must limit the acceptance of gifts
- restrict investments - members should encourage their investment firms to develop formal policies related to employee purchases of equity or equity-related IPOs
- Review Procedures- members should encourage their firms to implement effective supervisory and review procedures to ensure that analysts and portfolio managers comply with policies relating to their personal investment activities
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Independence policy- members and firms should establish a formal written policy on the independence and objectivity of research and implement reporting structures and review procedures to ensure that reseach analysts do not reprot to and are not supervised by any department of the firm that could compromise the independence of the analyst
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LOS 2a: Standard 1: Professionalism
C) Misrepresentation
The Standard
Members must not knowingly make any misrepresentations relating to investment analysis, recommendations, actions, or other professional activities
Guidance
- A misrepresentation is any untrue statement or omission of a fact or any statement that is otherwise false or misleading
- A member must not knowingly omit or misrepresent information or give a false impression of a firm
- Members who use webpages should regularly monitor materials posted on these sites to ensure that they contain current information
- Members should not guarantee clients any specific return on volatile investments
Impact on Investment Practice
- members must not misrepresent any aspect of their practice, including their qualifications or credentials, the qualifications or services provided by their firm, their performance record and the record of their firm, and the characteristics of an investment
- Members should exercise care and diligence when incorporating third-party information
- Members must disclose their intended use of external managers and must not represent those managers’ investment practices as their own
Performance Reporting
- members should not misrepresent the success of their performance record by presenting benchmarks that are not comparable to their strategies
- Members should discuss with clients on a continuous basis the appropriate benchmark to be used for performance evaluations and related fee calculations
Social Media
- When communicating through social media, members should provide only information they would be allowed to distribute through any other public method
- The perceived anonymity granted through these platforms may entice individuals to misrepresent their qualifications or abilities
Omissions
- Members should not knowingly omit inputs used in any models and processes they use to scan for new investment opportunities, to develop investment vehicles, and to produce investment recommendations and ratings as resulting outcomes may provide misleading information
- Members should encourage their firms to develop strict policies for composite development to prevent cherry picking (only picking best accounts to represent performance)
Plagiarism
This includes:
- Taking a research report or study performed by another person and changing the name to use it as your own
- Using excerpts from articles or reports without acknowledgement
- Presenting statistical estimates of forecasts prepared by others
- Using charts and graphs without stating the sources
In the case of distributiong third-party, outsources research, members can use and distribute these reports as long as they do not represent themselves as the author of the report
Recommended Procedures for Compliance
- _Factual Presentations -_firms shoud provide guidance to employees who make written or oral presentations
- Qualification summary- member should prepare a summary of their own qualifications and experiences, as well as a list of the services they are capable of performing
- Verify outside information- when providing information to clients from third parties, members and candidates should ensure the accuracy of the marketing and distribution materials that pertain to the third party’s capabilities, services, and products
- Maintain webpages- if they publish a webpage, members should regularly monitor materials posted to the site to ensure the site maintains current information
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Plagiarism policy
- Maintain copies - keep copies of all research reports, articles containing research ideas, material with new statistical methodology, and other materials that were used
- Attribute quotations to the proper source
- Attribute summaries to the proper source
LOS 2a: Standard 1: Professionalism
D) Misconduct
The Standard
Members must not engage in any professional conduct involving dishonesty, fraud, or deceit, or commit any act that reflects adversely on their professional reputation, integrity, or competence
Guidance
- This addresses all conduct that reflects poorly on the professional integrity, good reputation, or competence of members.
- Conduct that damages trustworthiness or competence may include behavior that, although not illegal, nevetheless negatively affects a member’s ability to perform their responsibilities. (ex. Abusing alcohol during work or personal bankruptcy that involves fraudulent conduct)
- In some cases, the absences of appropriate conduct or the lack of sufficient effort may be a violation.
Recommended Procedures for Compliance
- Code of Ethics - develop or adopt a code of ethics to which every employee must subscribe, and make clear that any personal behavior that reflects poorly on the individual involved will not be tolerated
- List of violations disseminate to all employees a list of potential violations and associated disciplinary sanctions
- Employee references check references of potential employees to ensure that they are of good character and not ineligible to work in the investment industry because of past infractions of the law
LOS 2b: Standard 2- Integrity of Capital Markets
A) Material Nonpublic Information
The standard
Members who possess material nonpublic information that could affect the value of an investment must not act or cause others to act on the information
Guidance
This is related to information that is material and is nonpublic. Such information must not be used for direct buying and selling of individual securities or bonds, nor to influence investment actions related to derivatives, mutual funds, or other alternative investments
Material Information
Information is “material” if its disclosure would likely have an impact on the price of a security, or if reasonable investors would want to know the information before making an investment decision. Material information may include:
- Earnings
- Mergers, acquisitions, trade offers, or joint ventures
- Changes in assets
- Innovative products
- New licenses or patents
- Changes in management
- Bankruptices
- Significant legal disputes
- Orders for large trades before they are executed
nonpublic information
- Information is nonpublic until it has been disseminated to the marketplace in general
- Members must be particularly aware of information that is selectively disclosed by corporations to a small group of investors, analysts, or other market participants
- Analysts should be alert to the possibility that they are selectivly receiving material nonpublic info when a company provides them with guidance or interpretation of public information
- A member may use insider information when making a report for the source company
Mosaic Theory
- A financial analyst may use significant conclusions derives from the analysis of public information and nonmaterial nonpublic information as the basis for investment recommendations and decisions. Unde the “mosaic theory”, financial analysts are free to act on this mosaic of information without risking violation
- Investment professionals should not that although they can use this info to paint a picture, they should save their research that lead to the picture
Social Media
- members participating in online discussions should verify that material information obtained from these sources can also be accessed from a source available to the public
- Members may use social media platforms to communicate with clients or investors without conflicting this standrad
Using Industry Experts
- members may provide compensation to industry experts for their insights without violating this standard
- However, members must make sure the info provided to them is not nonpublic
Investment Research Reports
It might often be the case that reports prepared by well-known analysts may have an effect on the market and thus may be considered material information. In this case such a report might have to be made public before it is distributed to clients.
Recommended Procedures for Compliance
- _Achieve public dissemination -_If a member determines that some nonpublic information is material, they should encourage the issue to make the info public.
- Adopt Compliance procedures - Memeber should encourage firms to adopt compliance procedures to prevent the misuse of material nonpublic info.
- _Adopt disclosure procedures -_this is done to ensure info is disseminated in the marketplace in an equitable manner
- Issue press releases - done to decrease the chance that further info will be disclosed
- Firewall elements - an information barrier is the most widely used approach to prevent communication of material nonpublic information
- Appropriate interdepartmental communication
- Physical separation of departments- separate departments and files to prevent communication of sensitive info
- Prevention of personnel overlap- there should be no overlap of personnel between the investment banking and corporate finance ares of a brokerage firm, or the research and sales departments of investment banks
- A reporting system the least a firm should do to protect itself from liability is have an information barrier in place. It should authorize people to review and approve communications between departments
- Personal trading limitations Firms should also consider restrictions or prohibitions on personal trading by employee and should carefully monitor both proprietary trading and personal trading by employees. They should make employees make reports of their own personal transactions
- Record Maintenance- firms should maintain written records of communications among various departments
- Propreitary trading procedures - Procedures concerning the restriction or review of a firm’s proprietary trading while it possesses material nonpublic information will necessarily depend on the types of proprietary trading in which a firm may engage
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Communication to all employees- Written compliance policies and guidelines should be circulated to all employees of a firm
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LOS 2b: Integrity of Capital Markets
B) Market Manipulation
The Standard
Members must not engage in practices that distort prices or artificially inflate trading volume with the intent to mislead market participants
Guidance
- Members must uphold market intergrity by prohibiting market manipulation. Market manipulation includes practices that distort security prices or trading volume with the intent to deceive people or entities that rely on information in the market
- Market manipulation includes 1) the dissemination of false of misleading information and 2) transactions that deceive or would be likely to mislead market participants by distorting the price-setting mechanism of financial instruments
Information-Based Manipulation
- This includes but is not limited to, spreading false rumores to induce trading by others (ex. members can’t inflate a price with positive reports to only dump the investment when the price rises)
Transaction-Based Manipulation
- This involves instances where a member knew or should have known that their actions could affect the pricing of a security. This type of manipulation includes but is not limited to the following:
- Transactions that artificially affect prices or volume to give the impression of activitiy or price movement in a financial instrument, which represent a diversion from the expectations of a fair and efficient market
- Securing a controlling, dominant position in a financial instrument to exploit and manipulate the price of a related derivative or the underlying asset
LOS 2c: Standard 3- Duties to Clients
A) Loyalty, Prudence, and Care
The standard
members have a duty of loyalty to their clients and must act with reasonable care and exercise prudent judgment. Members must act for the benefit of their clients and place their clients’ interest before their employer’s or their own interests
Guidance
- This standard clarifies that clients interest are paramount, investment actions must be carried out for the sole benefit of the client and in a manner the member believes, given the known facts and circumstances, to be in the best interest of the client
- Prudence requires caution and discretion. It requires that they act with care, skill, and diligence that a reasonable person acting in a like capacity and familiar with such matters would use
- This standard is not a substitute for a member’s regulatory obligations.
- Members must also be aware of whether they have “custody” or effective control of client assets.
Understanding the application of Loyalty, Prudence, and Care
- This standard establishes a minimum benchmark for the duties of loyalty, prudence, and care that are required or all members regardless of whether a legal fiduciary duty applies.
- There is a large variety of professional relationships that members have with their clients and this standard requires them to fulfill the obligations to the best of their abilities
Identifying the Actual Investment Client
- The first step for members in fulfilling their duty of loyalty to clients is to determine the identity of the “client” to whom the duty of loyalty is owed.
- Members managing a fund to an index or an expected mandate owe the duty of loyalty to invest in a manner consistent with the stated mandate
Developing the Client’s Portfolio
- Professional investment managers should ensure that the client’s objectives and expectations for the performance of the account are realistic and suitable to the client’s circumstances and that the risks involved are appropriate
- When members cannot avoid potential conflicts between their firm and clients’ interest, they must provide clear and factual disclosures of the circumstances to clients
- Members must follow any guidelines set by their clients for the management of their assets
- Investment decisions must be judged in the context of the total portfolio rather than by individual investment within the portfolio
Soft Commission Policies
- Conflicts may arise when an investment manager uses client brokerage to purchase research services, a practice commonly called “soft dollars or commision”. A member who pays a higher brokerage commission than they would normally pay to allow for the purchase of goods or services, without corresponding benefit to the client, violates the duty of loyalty
- From time to time, a client will direct a manager to use the client’s brokerage to purchase goods or services for the client, a practice that is commonly called “directed brokerage”.Becaue brokerage commission is an asset of the client and is used to benefit the client, not the manager, such a practice does not violate any duty of loyalty.
Proxy Voting Policies
- Part of a member’s duty of loyalty includes voting proxies in an informed and responsible manner
- An investment manager who fails to vote, casts a vote without considering the impact of the question, or votes blindly with management may violate this standard
- A cost-benefit analysis may show that voting all proxies may not benefit the client, so voting proxies may not be necessary in all instances
Recommended Procedures for Compliance
Regular Account Information
Members with control of client assets should:
- Submit to each client, at least quarterly, an itemized statement showing the funds and securities in the custody or possession of the member plus all debits, credits, and transactions occurred during the period
- Diclose to the clien where the assets are to be maintained
- Separate the client’s assets from any other party’s assets
Client Approval
- If a member is uncertain about the apporpriate course of action with respect to a client, the member should consider what they would expect if they were the client
- If in doubt, a member should disclose the questionable matter in writing to the client and obtain client approval
Firm Policies
Members should encourage their firms to address the following topics:
- Follow all applicable rules and laws
- Establish the investment objectives of the client
- Consider all information when taking actions
- Diversify
- Carry out regular reviews
- Deal fairly to all clients with respect to investment actions
- Disclose conflicts of interest
- Disclose compensation arrangements
- Vote proxies
- Maintain confidentiality
- Seek best execution
- Place client interests first
LOS 2c: Standard 3- Duties to Clients
B) Fair Dealing
The Standard
Members must deal fairly and objectively with all clients when providing investment analysis, making investment recommendations, taking investment action, or engaging in other professional activities
Guidance
- This standard requires members to treat all clients fairly when disseminating investment recommendations or making material changes to prior investment recommendations
- The term “fairly” implies that the member must take care not to discriminate against any clients when disseminating investment recommendations or taking investment action. It does not say “equally” because each client has unique needs, making all investment opportunities not always suitable
- Members may provide personal, specialized, or in-depth service to clients who are willing to pay for premium services through higher management fees or higher levels of brokerage
Investment Recommendations
- Each member is obligated to ensure that information is disseminated in such a manner that all clients have a fair opportunity to act on every recommendation
- This duty becomes more important when a member revises a recommendation made earlier. It is important to let all clients know about the revision, especially the ones who are affected by the change in recommendation due to previous actions on the early recommendation
- Clients who are unaware of changes in recommendations and try to place orders that go against the new recommendation, should be advised of the change before the order is processed
Investment Action
- members must treat all clients fairly in light of their investment objectives and circumstances.
- Members must make every effort to treat all individual and institutional clients in a fair and impartial manner
- Members should disclose to clients and prospective clients the documented allocation procedures they or their firms have in place and how the procedures would affect the client or the prospect.
- Treating clients fairly also means that members should not take advantage of their positions in the industry to the detriment of clients
Recommended Procedures for Compliace
Develop Firm Policies
- A member should recommend appropriate procedures to management if none are in place
- A member should make management aware of possible violations of fair-dealing practices within the firm when they come to the attention of the member
A common practice to assure fair dealing is to communicate recommendations simultaneously within the firm and to customers. Members should consider the following points when establishing fair-dealing procedures:
- Limit the number of people involved
- Shorten the time frame between decision and dissemination
- Publish guideline for pre-dissemination behavior
- simultaneous dissemination
- Maintain a list of clients and their holdings
- Develop and document trade allocation procedures
With these principles in mind, members should develop written allocation procedures with particular attention to procedures for block trades and new issues. Procedures to consider are as follows:
- Requiring orders and modifications or cancellations of orders to be documents and time stamped
- Processing and executing orders on a first-in, first-out basis with consideration of bundling oders for efficiency as appropriate for the asset class or the security
- Developing a policy to address such issues as calculating execution prices and partial fills when trades are grouped, or in a block, for efficiency
- Giving all client accounts participating in a block trade the same execution price and charging the same commission
- When allocation trades for new issues, obtaining advance indications of interest, allocation securities by client, and providing a method for calculating allocations
Disclos Trade Allocation Procedures
Members should disclose to clients and prospective clients how they select accounts to participate in an order and how they determine the amount of securities each account will buy or sell
Establish Systematic Account Review
Member sepervisors should review each account on a regular basis to ensure that no client or customer is being given preferential treatment and that the investment actions take for each account are suitable for each account’s objectives
Disclose Levels of Service
Members should disclose to all clients whether the organization offers different levels of service to clients for the same fee or different fees
LOS 2c: Standard 3: Duties to Clients
C) Suitability
The Standard
1) When members are in an advisory relationship with a client they must:
- Make a reasonable inquiry into a client’s or prospective client’s investment experience, risk and return objectives, and financial constraints prior to making any investment reccomendations or taking investment actions and must reassess and update their information regularly
- Determine that an investment is suitable to the client’s financial situation and consistent with their objectives
- Judge the suitability of investments in the context of the client’s total portfolio
2) When members are responsible for managing a portfolio to a specific mandate, strategy, or style, they must make only invesment recommendations or take only investment actions that are consistent with the stated objectives and constraints of the portfolio
Guidance
- This standard requires members who are in an investment advisory relationship with clients consider carefully the needs, circumstances, and objectives of the clients when determing the appropriateness and suitability of a given investment
- In judging the suitability of a potential investment, the member should review many aspects of the client’s knowledge, experience related to investing, and financial situation.
Developing An investment Policy
- The client’s financial circumstances, personal data, attitudes towards risks, and objectives in investing should all be written in an investment policy statement (IPS)
- The IPS should also identify and describe the roles and responsibilities of the parties to the advisory relationship and investment process, as well as schedules for review and evaluation of the IPS
Understanding the Client’s Risk Profile
- The risk of many investment strategies can and should be analyzed and quantifies in advance
- Members should pay careful attention to the leverage inherent in many synthetic investment vehicles when considering them for use
Updating an IPS
- This should be done at least annually and also prior to material changes to any specific investment recommendations or decisions on behalf of the client
- If clients withold information about their financial portfolios, the suitability analysis conducted by members cannot be expected to be complete; it must be based on the information provided
The Need for Diversification
- The unique characteristics (or risks) of an individual investment may become partially or entirely neutralized when it is combined with other individual investments within a portfolio
- Members can be responsible for assessing the suitability of an investment only on the bases of the info and criteria actually provided by the client
Addressing Unsolicited Trading Requests
- If the unsolicited requests has minimal effects on the portfolio, then the member should inform the client about how the investment goes against the IPS, and then follow their firm’s policy in regard to client approval for executing unsuitable trades
- If the request has a material effect on the portfolio, the member is best changing the IPS after explaining to the client how the strategy deviates from the initiall IPS, and then having the client still want to execute the trade
Recommended Procedures for Compliance
Investment Policy Statement
In formulating an IPS for the client, the member should take the following into consideration:
- Client identification
- Investor objectives - return vs risk
- Investor Constraints - liquidity, expected cash flows, time horizon, tax considerations, regulatory and legal circumstances, investor preferences, proxy voting
- Performance measurement benchmarks
Regular Updates
The investor’s objectives and constraitns should be maintained and reviewed periodically to reflect any changes in the client’s circumstances
Suitability Test Policies
- With the increase in regulartory required suitability tests, members should encourage their firms to develop related policies and procedures
LOS 2c: Standard 3- Duties to Clients
D) Performance Presentation
The Standard
When communicating investment performance information, members and candidates must make reasonable efforts to ensure that it is fair, accurate, and complete.
Guidance
- Members must provide credible performance information to clients and prospects and to avoid misstating performance or misleading clients and prospects about the investment performance of members
- This standard covers any practice that would lead to misrepresentation of a member’s performance record
- Members should not state or imply that clients will obtain or benefit from a rate of return that was generated in the past
- Research analysts promoting the success or accuracy or their recommendations must ensure that their claims are fair, accurate, and complete
Recommended Procedures for Compliance
Apply the GIPS Standards
Compliance without Applying GIPS Standards
- Considering the knowledge and sophistication of the audience to whom a perfromance presentation is addressed
- Presenting the performance of the weighted composite of similar portfolios rather than using a single representative account
- Including terminated accounts as part of performance history with a clear indication of when the accounts where terminated
- Maintaining the data and records used to calculate the performance being presented
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LOS 2c: Standard 3- Duties to Clients
E) Preservation of Confidentiality
The Standard
members must keep information about current, former, and prospective clients confidential unless:
- The information concerns illegal activities on the part of the client
- Disclosure is required by law
- The client of prospect permits disclosure of the information
Guidance
- Members must preserve the confidentiality of information communicated to them by their clients, prospects, and former clients
Status of Client
This standard protects the confidentiality of client information even if the person or entity is no loner a client of the member.
Compliance with Laws
As a general matter, members must comply with applicable law. If they law requires disclosure of illegal activity, then members should comply and disclose information. When in doubt, members should consult with their employer’s compliance personal or legal counsel
Electronic Information and Security
This standard does not require members to become experts in information security technology, but they should have a thorough understanding of the policies of their employer
Professional Conduct Investigations by CFA Institute
The requirements of this standard are not intended to prevent members from cooperating with an investigation by the CFA.
Recommended Procedures for Compliance
The simplest, most conservative way to deal with this standard is to avoid disclosing any information received from a client except to authorized fellow employees who are also working for the client
Communicating with Clients
Members should make reasonable efforts to ensure that firm-supported communication methods and compliance procedures follow practices designed for preventing accidental distribution of confidential information
LOS 2d: Standard 4- Duties to Employers
A) Loyalty
The Standard
In matter related to their employment, members must act for the benefit of their emplyer and not deprive their employer of the advantage of their skills and abilities, divulge confidential information, or otherwise cause harm to their employer
Guidance
- Members should protect the interest of their firm by refraining from any conduct that would injure the firm, deprive it or profit, or deprive it of the member’s skill and ability
- In matters related to their employment, members must comply with the policies and procedures established by their employers that govern the employer-employee relationship – to the extent that these policies do not conflict with the law or the Code and Standards
Employer Responsibilities
- Employers must recognize the duties and responsibilities that they owe to their employees if they expect to have content and productive employees
- Members are encouraged to provide their employer with a copy of the Code and Standards
Independent Practice
- Members must abstain from independent competitive activity that could conflict with the interests of their employer
- Members who plan to engage in independent practice for compensation must notify their employer and describe the types of services being offered
- Members should not render these services unless they receive consent from their employer
Leaving an Employer
- When a member is planning to leave an employer, they must still continue to act in the best interest of that employer until they have left
- A member who is comtemplating other employment must not contact exisiting clients or potential clients about their leaving. Once management is notified about the leaving, then the member can follow managements orders in regards to informing clients of the departure
- Once an employee has left the firm, the skills and experience that the employee gained are not confidential or privledged information
- The standrad does not prohibit former employees from contacting clients from their previous jobs, just as long as these clients weren’t contacted using records from previous job
Use of Social Media
- Member should understand and abide by all applicable firm policies and regulations as to the acceptable use of social media platforms to interact with clients and prospects
- Firm approved business-related accounts would be considered part of the firm’s assets, and should be deleted when leaving
- Best practice is to maintain separate accounts for personal and professional social media activities
Whistleblowing
Sometimes circumstances may arise in which members must act contrary to their employer’s interests in order to comply with their duties to the market and clients. In such instances, these actions may be justified, but only if it was for the better of the market, and not for personal gain.
Nature of Employment
- Members must determine whether they are employees or independent contractors in order to determine the applicability of this standard.
- A member’s duties within an independent contractor relationship are governed by the oral or written agreement between the member and the client
Recommended Procedures for Compliance
Competition Policy
- A member must understand any restrictions placed by the employer on offering similar services outside the firm while employed by the firm
- If a member’s employer has them sign a non-compete form, the member should ensure that the details are clear and fully explained prior to signing the agreement
Termination Policy
- Members should clearly understand the termination policies of their employer. Termination policies should :
- Establish clear procedures regarding the resignation process, including how termination will be disclosed to clients and staff
- Outline the procedures for transferring ongoing research and account management responsibilities
- Address agreements that allow departing employees to remove specific client-related information upon resignation
Incident-Reporting Procedures
Members should be aware of their firm’s policies related to whistleblowing and encourage their firm to adopt industry best practices in this area
Employee Classification
Members should understand their status within their employer firm
LOS 2d: Standard 4- Duties to Employers
B) Additional Compenstaion Arrangements
The Standard
Members must not accept gifts, benefits, compensation, or consideration that competes with or might reasonably be expected to create a conflict of interest with their employer’s interest unless they obtain written consent from all parties involved
Guidance
Members must obtain permission from their employers before accepting compensation or other benefits from third parties for the services rendered to the employer or for any service that might creat a conflict of interest
Recommended Procedures for Compliance
- Members should make an immediate written report to their supervisor and compliance officer specifying any compensation they propose to receive for services in addition to the compensation or benefits received from the employer
- The details of the report should be confirmed by the party offering the additional compensation, including performance incentives offered by clients
- This written report should state the terms of agreement under which a member will receive additional compensation
