CFA Ethical and Professional Standards 2 — Questions and Answers
Question 1: Under Standard I(B) – Independence and Objectivity, which action BEST protects a CFA charterholder from compromising their independence?
- Accepting only cash gifts from clients, not non-cash items
- Declining gifts that could reasonably be expected to compromise judgment (Correct answer)
- Disclosing all gifts received regardless of value
- Limiting gifts to those worth less than $100
Correct answer: Declining gifts that could reasonably be expected to compromise judgment
Standard I(B) requires declining gifts that could reasonably influence judgment, not merely disclosing them.
Question 2: A portfolio manager receives research reports from a broker who also executes trades. Under soft-dollar standards, this arrangement is acceptable if:
- The brokerage commissions are below market rates
- The research directly benefits clients whose commissions funded it (Correct answer)
- The manager discloses the arrangement in annual reports only
- Clients have no alternative broker preference on file
Correct answer: The research directly benefits clients whose commissions funded it
Soft-dollar arrangements are permissible when research provides direct benefit to the clients whose commissions funded the service.
Question 3: Standard II(A) – Material Nonpublic Information prohibits trading on inside information. A 'mosaic theory' defense is valid when:
- The analyst combines public and nonpublic data to reach a conclusion
- The analyst uses only nonpublic information from multiple sources
- The analyst combines multiple pieces of public information to form a conclusion (Correct answer)
- The analyst relies on tips from company insiders who volunteered information
Correct answer: The analyst combines multiple pieces of public information to form a conclusion
Mosaic theory allows analysts to reach investment conclusions by combining multiple pieces of publicly available information.
Question 4: Which of the following scenarios is MOST likely a violation of Standard II(B) – Market Manipulation?
- Placing large buy orders to meet index rebalancing requirements
- Publishing a research report with a bullish outlook to inflate a position (Correct answer)
- Executing a block trade that temporarily moves the market price
- Participating in an IPO that results in a short-term price spike
Correct answer: Publishing a research report with a bullish outlook to inflate a position
Issuing misleading research to artificially inflate prices for personal gain constitutes market manipulation under Standard II(B).
Question 5: Standard III(A) – Loyalty, Prudence, and Care requires members to act in clients' best interests. If a member's employer and client interests conflict, the member must:
- Always prioritize employer interests to maintain employment
- Prioritize client interests over those of the employer (Correct answer)
- Split benefits equally between clients and the employer
- Seek legal counsel before making any investment decisions
Correct answer: Prioritize client interests over those of the employer
Standard III(A) places client interests above employer interests when conflicts arise.
Question 6: When must CFA members update their clients' investment policy statements (IPS) according to Standard III(C) – Suitability?
- Every calendar year regardless of changes
- Only when the client requests a review
- When client circumstances, objectives, or constraints change materially (Correct answer)
- Whenever market conditions shift by more than 10%
Correct answer: When client circumstances, objectives, or constraints change materially
Standard III(C) requires updating the IPS whenever there is a material change in the client's circumstances, objectives, or constraints.
Question 7: Under Standard IV(B) – Additional Compensation Arrangements, a member who receives outside compensation must:
- Refuse all compensation beyond the employer's standard pay
- Disclose the arrangement in writing to the employer and obtain consent (Correct answer)
- Notify clients but not the employer of outside arrangements
- Report outside compensation to CFA Institute within 30 days
Correct answer: Disclose the arrangement in writing to the employer and obtain consent
Standard IV(B) requires written disclosure to the employer and explicit consent before accepting additional compensation arrangements.
CFA Ethical and Professional Standards 2
Under Standard I(B) – Independence and Objectivity, which action BEST protects a CFA charterholder from compromising their independence?