CSCP Ethics & Professional Responsibilities 3 — Questions and Answers
Question 1: A compliance officer at a broker-dealer is instructed by senior management to destroy emails that may be relevant to an ongoing SEC investigation. The compliance officer should:
- Follow management's instructions since they have authority over the compliance department
- Refuse to destroy the records and seek legal counsel or escalate to the board (Correct answer)
- Destroy only the emails that are clearly not relevant and retain the rest
- Transfer the emails to a personal account to preserve them outside the firm
Correct answer: Refuse to destroy the records and seek legal counsel or escalate to the board
Destroying records subject to a regulatory investigation constitutes obstruction of justice; a compliance officer must refuse and escalate despite management pressure.
Question 2: The concept of 'tone at the top' in securities compliance refers primarily to:
- The requirement that compliance manuals be approved at the executive level
- Senior management's role in setting an ethical culture that permeates the entire organization (Correct answer)
- The practice of placing compliance officers in senior reporting positions
- Regulatory mandates that CEOs personally certify compliance reports
Correct answer: Senior management's role in setting an ethical culture that permeates the entire organization
Tone at the top describes how executive leadership's conduct, statements, and priorities shape the ethical culture and compliance behavior throughout an organization.
Question 3: A compliance officer is aware of a material non-public rumor about a potential merger that was overheard in a restaurant near the firm. Trading on this information would be:
- Permissible since the information was obtained in a public setting, not from an insider
- A violation of insider trading rules if the trader knew or should have known the information was material and non-public (Correct answer)
- Permissible if the trader did not directly solicit the information
- Legal only if the trades are placed through a personal account, not a client account
Correct answer: A violation of insider trading rules if the trader knew or should have known the information was material and non-public
The source of material non-public information does not determine legality; if information is material and non-public, trading on it violates insider trading prohibitions.
Question 4: Under the ethical duty of 'Fair Dealing,' a firm releasing a new research recommendation must:
- Allow the most profitable clients to trade on the recommendation before others
- Disseminate the recommendation to all clients simultaneously or in a manner that does not favor any group (Correct answer)
- Provide the recommendation first to clients who pay the highest commissions
- Delay dissemination until proprietary accounts have had the opportunity to establish positions
Correct answer: Disseminate the recommendation to all clients simultaneously or in a manner that does not favor any group
Fair dealing requires that material investment information and recommendations be disseminated without preferential treatment based on client size or profitability.
Question 5: A securities compliance professional discovers that a colleague has been padding expense reports. Although this is not a securities violation, the most appropriate course of action is to:
- Ignore the conduct since it does not relate to securities law
- Report the conduct through appropriate internal channels such as HR or ethics hotline (Correct answer)
- Confront the colleague directly and demand repayment before reporting
- Report only if the amounts are material to the firm's financial statements
Correct answer: Report the conduct through appropriate internal channels such as HR or ethics hotline
Professional ethics require reporting dishonest conduct through proper channels regardless of whether it constitutes a securities law violation.
Question 6: Which of the following best describes the 'misappropriation theory' of insider trading liability?
- It prohibits corporate insiders from trading on information obtained from competitors
- It imposes liability when a person trades on confidential information obtained from a source to whom they owe a duty of trust (Correct answer)
- It requires proof that the trader was a traditional corporate insider such as an officer or director
- It applies only to trades made in derivatives, not in underlying securities
Correct answer: It imposes liability when a person trades on confidential information obtained from a source to whom they owe a duty of trust
The misappropriation theory extends insider trading liability to outsiders who breach a duty of trust owed to the source of confidential information, not necessarily the company whose securities are traded.
Question 7: A compliance program that relies solely on written policies and annual training without ongoing monitoring or testing is considered:
- Fully effective because documentation satisfies regulatory requirements
- A 'paper compliance' program that may not meet the standard of an effective compliance program (Correct answer)
- Adequate for small broker-dealers with fewer than 50 registered representatives
- Acceptable as long as there have been no regulatory actions in the past three years
Correct answer: A 'paper compliance' program that may not meet the standard of an effective compliance program
Regulators expect compliance programs to include active surveillance, testing, and monitoring — policies and training alone constitute a 'paper' program that will not satisfy effectiveness standards.
CSCP Ethics & Professional Responsibilities 3
A compliance officer at a broker-dealer is instructed by senior management to destroy emails that may be relevant to an ongoing SEC investigation.
The compliance officer should: