Reading 1&2 - Code of Ethics and SPC

Sunday, July 27, 2008

8:58 AM

SPC
• Professionalism
• A. Knowledge of the Law
o Exam tests on conflicts. What happens when there are conflicts?
• Must comply with more strict law(could be in a different country)
• Even if permissible under Codes and Standards
o CANNOT participate in any violation and must disassociate from any such
violation, including leaving the employer if necessary
• Always escalate to compliance dept or supervisor
o Code and Standards vs. Local Law
o –Know and comply with the laws, regulations in countries that
business is conducted
o –Adhere to the most strict rules
o •Participation or Association with Violations
o –Disassociate or separate from any illegal or unethical activity
o –Approach supervision or compliance department
o Recommended Procedures
• Maintain current materials
• Keep up with changes in applicable laws, rules, and regulations
• Seek advice of counsel or compliance department when in doubt
• Should document any violation when disassociating from
prohibited activities
B.Independence and Objectivity
• Interpret these guidelines very broadly
• Distinguish between gifts that are designed to influence your
decision vs gifts from clients rewarding your performance or
regular business entertainment gifts
• Shares in oversubscribed IPO NOT allowed
• Disclose gifts to employer in any case
• Limit gifts – token items only
• Firms should have formal written policies on Independence and
Objectivity of research
1C. Misrepresentation
o Must not make any misrepresentations relating to investment
analysis, recommendations, actions, or other professional activities
o Misrepresentation includes guaranteeing investment performance
and plagiarism
o •In particular, plagiarism should be broadly defined
o Recommended Procedures
• Maintain records of all materials used to generate reports or
products and cite sources
 • Obtain a written list of the firm’s available services and a
description of the firm’s qualifications
1D. Misconduct
o The "mother rule" - anything that would embarrass your mother
o Typically will involve violations of other standards.
o Personal activities are ok as long as they do not involve dishonesty,
fraud or misrepresentation
o Recommended Procedures
• Develop and adopt a code of ethics and make clear that
unethical behavior will not be tolerated
• •Give employees a list of potential violations and sanctions,
including dismissal
• •Check references of potential employees

Standard II - Integrity of Capital Markets

IIA Material Non Public Information
• If material is nonpublic you must not act on the information
• Information considered material if it will affect the value of the
investment if made public
• You can act on information gathered thru normal financial analysis
• Recommended Procedures
• Achieve public dissemination
• Use firewalls
 Control interdepartmental communications
 Review employee trades
 Monitor and restrict proprietary trading while the firm
possesses material nonpublic information
IIB - Market Manipulation
• Intent is big deal here.
• Spreading false rumors is violation
• In certain cases it is possible to gain compliance with standard simply
by disclosing practices to clients

Standard III - Duties to Clients

IIIA Loyalty Prudence and Care
• HEART OF SPC - KNOW THIS WELL!!!!!
• Questions typically will have a knowledgeable
fiduciary/unsophisticated client scenario
• Always identify who the client is and whether their interests are
being represented first
• Clients come before Markets which come before Employer
which come before our own interests
• Client interests always come first
•Exercise prudence, care, skill, diligence
•Manage pools of client assets in accordance with the terms of the
governing documents
 •Make investment decisions in the context of total portfolio
•Vote proxies in a responsible manner
•Client brokerage must benefit client - Commissions may not be used
to pay for operating expenses
• Recommended Procedures
• Follow rules and laws
• Establish investment objectives with client
• Deal fairly with all clients
• Disclose conflicts, compensation arrangements
• Vote proxies in best interest of clients
• Maintain confidentiality
• Diversify
• Seek best execution
• Client comes first

IIIB Fair Dealing

• Fair does not = equal
• Different service levels are okay but they must not negatively affect
any clients.
• Disclose all service levels and make them available to all who wish to
pay for them
• Treat both individual and institutional clients in a fair and impartial
manner
• Give all clients a fair opportunity to act upon every recommendation
• Recommended Procedures
• Limit people aware of upcoming change in a recommendation
• Shorten time frame between decision and dissemination
• Publish guidelines for pre-dissemination
• Simultaneous dissemination
• Maintain list of clients and holdings
• Develop and disclose trade allocation procedure
• Establish systematic account review

IIIC Suitability
• When in an advisory relationship with a client:
• Make inquiry into a client’s financial situation and reassess and
update this information regularly
• Determine that an investment is suitable to the client’s financial
situation
• Judge the suitability of investments in the context of the client’s
total portfolio
• If managing a portfolio to a specific mandate or strategy or style,
investment recommendations must be consistent with stated
objectives
• Recommended Procedures
 • Put the client needs and circumstances and the client’s
investment objectives into a written IPS
• Consider the type of client and whether there are separate
beneficiaries, investor objectives, investor constraints
• Review investor’s objectives and constraints periodically to
reflect any changes in client circumstances
• Periodically means at least annually

IIID Performance Presentation

• Must make reasonable efforts to ensure the investment performance
information is fair, accurate, and complete when communicating this
information
• GIPS compliance is not required but is best way to comply with
standard IIID. Knowledge of GIPS will help identify violations of
this standard.
• Recommended Procedures
• Consider the sophistication of the audience
• Present performance of weighted composite of similar portfolios
rather than a single account
• Include terminated accounts as part of historical performance
• Include all appropriate disclosures to explain results
• Maintain data and records used to calculate the performance

IIIE Preservation of Confidentiality

• Must keep information about current, former, and prospective clients
confidential unless:
•The information concerns illegal activities on the part of the
client or prospect
•Disclosure is required by law
•The client or prospect permits disclosure
• Recommended Procedures
• Avoid disclosing information received from a client except to
authorized co-workers who are also working for the client
• Confidentiality is key even if disclosing information would be
beneficial to client

Standard IV - Duties to Employers

IVA - Loyalty
• Must act for the benefit of the employer and not deprive the
employer of the advantage of skills and abilities, divulge confidential
information, or otherwise cause harm to the employer
• There is usually a question on exam about leaving an employer

IVB - Additional Compensation Arrangements

 • Must not accept gifts, benefits, compensation, or consideration that
competes, or might create a conflict, with the employer’s interest
unless written consent from all parties is obtained
• Interpret this broadly on exam. If in doubt, disclose.
• Recommended Procedures
• Make an immediate written report to employer detailing
proposed compensation and services, if additional to that
provided by employer

IVC - Responsibilities of Supervisors

• Make diligent efforts to detect and prevent violations of applicable
laws, rules, and the Code and Standards by anyone subject to
supervision or authority
• Take steps to prevent employees from violating laws, rules, or
the Code and Standards
• Make efforts to detect violations
• Maintain adequate compliance system; must meet
industry standards and regulatory requirements
• Bring an inadequate compliance system to the attention of the
firm and recommend changes
• Adequate compliance procedures should:
• Be clearly written and easy to understand
• Designate a compliance officer with authority
• Have a system of checks and balances
• Outline the scope of procedures
• Outline what conduct is permitted
• Contain procedures for reporting violations

Standard V Investment Analysis, Recommendations and Actions

VA - Diligence and Reasonable Basis
• Exercise diligence, independence, and thoroughness in analyzing
investments, making recommendations, and taking actions
• Have a reasonable and adequate basis, supported by appropriate
research and investigation, for any investment analysis,
recommendation, or action
• Recommended Procedures
• Have a policy requiring that research reports and
recommendations have a basis that can be substantiated as
reasonable and adequate. Have a supervisory analyst or
committee review all research reports and recommendations.
• Have detailed, written guidance for proper research and due
diligence
• Have measurable criteria for judging the quality of research

VB - Communication with Clients and Prospective Clients

 • Disclose to clients the basic and general principles of the investment
processes used to analyze investments, select securities, and
construct portfolios
• Use judgment in identifying important factors to investment analysis,
recommendations, or actions and communicate with clients
• Distinguish between fact and opinion of investment analysis
and recommendations with clients
• Recommended Procedures
• Maintain records indicating the nature of the research
• Be able to supply additional information if it is requested by the
client or other users of the report
• If something changes the basic nature of the investment analysis
technique(change in model, etc) it must be disclosed or else it’s
a violation

VC - Record Retention
• Develop and maintain appropriate records to support investment
analysis, recommendations, and actions, and other investment-
related communications with clients and prospective clients
• Maintain research records supporting the reasons for investment
conclusions and actions
• Records are property of the firm
• If no other regulatory standards are in place, CFA Institute
recommends at least 7-year holding period

Standard VI Conflicts of Interest

VIA - Disclosure of Conflicts
• Make full and fair disclosure of all matters that could impair the
independence and objectivity or interfere with duties to clients,
prospects, and employer
• Ensure such disclosures are prominent, are delivered in plain
language, and communicate the relevant information
effectively
• Recommended Procedures
• Any special compensation arrangements, bonus programs,
commissions, and incentives should be disclosed
• Note: disclosure is a key element of the Code and
Standards and a solution to many potential problems

VIB Priority of Transactions

• Investment transactions for clients and employers must have priority
over investment transactions in which a member or candidate is the
beneficial owner
• Client transactions take priority over personal transactions and
member’s firm transactions
 • Personal transactions include situations where the member is a
“beneficial owner”
• Personal transactions may be undertaken after clients and the
employers have an adequate opportunity to act on a
recommendation
• Family-member accounts are treated like any client account
• Recommended Procedures
• Limit participation in equity IPOs
• Restrict employee acquisition of private placements. Conflicts
similar to IPOs
• Establish restricted periods for employees involved in investment
decision-making
• Establish reporting procedures: duplicate trade confirmation,
disclosure of personal holdings, and pre-clearance procedures
• Disclose to clients the firm’s personal trading policies if
requested

VIC Referral Fees

• Disclose appropriately to employer, clients, and prospects any
compensation, consideration, or benefit received by, or paid to,
others for the recommendation of products or services
• Let clients, employer and prospects make judgment

Standard VII - Responsibilities as a CFA Institute Member or CFA

Candidate
VIIA - Conduct as Members and Candidates in CFA Program
• Must not engage in any conduct that compromises the reputation or
integrity of CFA Institute or the CFA designation or the integrity,
validity, or security of the CFA exams

VIIB - Reference to CFAI, CFA designation and CFA Program

• Must not misrepresent or exaggerate the meaning or implications of
membership in CFA Institute, holding the CFA designation, or
candidacy in the CFA Program
• Not over-promise individual competence
• Not over-promise investment results in the future
• Must sign PCS and pay CFA membership dues annually to remain
a member
• Not misrepresent or exaggerate the meaning of the designation
• The CFA mark must always be used either after a charterholder’s
name or as adjective, but not as nouns, in written or oral
communications