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Soft Dollar Standards

LOS 3.a: Define “soft dollar” arrangements and state the general principles of the Soft Dollar
Standards.

Soft Dollar - Research / benefits reimbursed to the client, or the client’s manager, by the
broker in exchange for directing trades to the broker.

Soft dollar practices – use of brokerage by investment manager to obtain products /


services to aid manager in investment decision making process

Brokerage – compensation given to broker as payment for trade execution services

Research – includes proprietary (generated by broker) and third party (purchased)

Mixed use research – research that can be used for both the investment management
process and general management

Agency trade – transaction that involves payment of a commission

Principal trade – transaction that involves a discount or a spread

Brokerage is always property of client - we're using clients money after all.

Investment managers have duty to:


o Obtain best execution
o Minimize transaction costs
o Use client brokerage to benefit clients

LOS 3.b - Critique company soft dollar practices and policies.

Requirements and Recommendations

I. General – Required
• Soft dollar practices must benefit client, whose interests always come first

• Allocation of client brokerage – must not be based on amount of client referrals


investment manager receives from broker

• Re: mutual funds, investment manager’s client is the fund. Fund’s board should
set policies on broker selection

II. Relationships with Clients – Required


§Disclose to client that manager may participate in soft dollar arrangements prior to
doing so
II. Relationships with Clients Recommended
• OK to use brokerage from agency trades to obtain research – client should
receive some benefit
• OK to use client brokerage obtained from principal trades to benefit other client
accounts, as long as disclosed

III. Selection of Brokers – Required:


When evaluating / selecting brokers, consider trade execution capabilities

III. Selection of Brokers – Recommended:


When evaluating best execution, consider broker’s financial responsibility, rate or
spread involved, range of services

IV. Evaluation of Research – Required:


§Must meet definition – must assist manager in investment decision making
process, not in management of the firm
§Must benefit client
§Basis must be documented
§Principal trades – research must benefit other client accounts, with disclosure &
permission
If this criteria is not met, investment manager must pay for the research
§Mixed use research – make reasonable allocation of cost based on expected
usage. Evaluate annually

V. Client – Directed Brokerage – Required:


• Do not use brokerage from another client to pay for products / services
purchased under any client directed brokerage agreement

V. Client – Directed Brokerage – Recommended:


• Manager: Disclose duty of best execution
• Disclose to client that client’s selection may adversely affect execution and
adequacy of research
• Structure arrangements – no commitment of portion of brokerage to single broker

VI. Disclosure – Required:


§Disclose policies in plain language
§Disclose types of third-party research received
§To comply with Soft Dollar Standards, send client statement of practices annually
§Disclose availability of more info regarding arrangements upon request

VI. Disclosure – Recommended:


§On client request, provide description of product / service obtained through client
brokerage generated by client’s account
§Provide total amount of brokerage paid from all accounts (where manager has
discretion)

VII. Record Keeping – Required:


§Manager must maintain records that:
o Meet legal / regulatory requirements
o Supply timely client data
o Document arrangements obligating manager to generate specific
dollar amount of brokerage
Document client arrangements re: client brokerage
o Document brokerage arrangements
o Document basis for allocations – mixed use brokerage
Show how products / services obtained assist in investment process
o Show compliance with CFAI Soft Dollar Standards, responsible
party
o Include copies of disclosures / authorizations from clients

LOS 3.c: Determine whether a product or service qualifies as “permissible research” that can be
purchased with client brokerage.

3-Level analysis to assist manager in determining whether product / service is


“research”:
o Level 1 – Define product / service
o Level 2 – Determine usage
o Level 3 – Mixed use analysis – investment manager makes proper
allocation

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