Reading 1&2 - Code of Ethics and SPC

Sunday, July 27, 2008 8:58 AM

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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

Code and Standards vs. Local Law –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
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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
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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

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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

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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 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

IVC - Responsibilities of Supervisors

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

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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 Develop and maintain appropriate records to support investment analysis, recommendations, and actions, and other investmentrelated 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

VC - Record Retention

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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

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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

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