Levell I Book 1

SchweserNotes'" for the CFA· Exam2014 Ethical and Professional Standardsand Quantitative Methods

rz-: I{ A PLAN SCHOOL OF PROFESSIONAL\!.) AND CONTINUING EDUCATION

BOOK 1 - ETHICAL AND PROFESSIONALSTANDARDS AND QUANTITATIVEMETHODS

Reading Assignmcnts and L:arning Outcomc Statcmcnts 7

Study Session 1 - Ethical and Profcssional Standuds 13

Self-Tcst - Ethical and Profcssional Standard 91

Study Scssion 2 - Quantitativc Mcthods: Basic Concepts 98

Study Scssion 3 - Quantitativc Mcthods: Application 245

Self-Tcst - Quantitativc Mcthods 363

Formulas 368

Appcndices 372

Inda 380

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SCHWESERNOTES'" 2014 CFA LEVEL I BOOK I: ETHICAL ANDPROFESSIONAL STANDARDS AND QUANTITATIVE METHODS

02013 Kaplan. Inc. All rights reserved.

Published in 2013 by Kaplan. Inc.

Printed in the United States of America.

ISBN: 978-1-4277-4905-511-4277-4905-1PPN: 3200-4006

If.bi. book docs eee hm: chehologram with the Kaplan Sch..e scr logo on .he back COY<r.ic,..,.discributcd without permission of Kaplan Seb,",«, a Division of Kaplan. Ine., and is in direct viola~ionof global copyright 1.1"". Your usilm.ftCC in purruinc potential violatoR of this Jaw is Ircatly appreciated.

Requirod CFAIn"i,ule dlsdaimer: -CFA'" and Chane",d FiDanciaiAnal)·.. '" ue uodemulu..."cd byCFA Institutc. CFA lrutitutc (formerly the Association for Investment Manaccmcnt and Research) doC'Snot cMonc. promote. rninv~or warrUlt the .ccuney of the produ.cu or services offered by KapLa.aSchWCSCf,-

CC'n&inmaterial, contained within this (ClOt 1ft tht copyrighted property of CFA lrutitutc. Thefollowing i•• he cop,.np. di.do.u", for these ma.erials: ·Cop>";gh t, 2013. CFA1.lIi.u.e. Reproducedand "Publi.hed hom 2014 Leunin, Oeeeeeee S.. lrmc .... Lnd I. II. and III quell ion. from CFA'"rropun ~b.criaIs, CFA IMci""e Sundard, of rror..,io.aI Conduec. and CFAIn.. iune·, GlobalInve.tmCft( Performance Standards with permission (rom CfA Institute. All Rishts Rcscrrcd.-

These materials Play not be eopied without written penniss.ion from the author. The uDau.thori-zedduplication of these note. is a ";,,Iation of global copyright law, and the CFA 1.... icu.e Code of Ethic•.Your ass~stance in punuins potential violators of this law is pady appr«iatcd.Disclaimer: The Schwncr Notes should be wed in conjunction with the ocipruJ Radings as act COrtAby CFA In"i"'le in their 201. CFALn.11 Scudy Guide. The i.fOrmation contained in these No.CIcovers topics eorawncd in the readings referenced by CFA mslitate and is beltcvcd to be accurate.Hown-cr. their acc:uncy c.atlftot be guarant~ nor is any warra.nty coawyt'd as to your ultimate examsueecsl. The authors of the referenced rcadin,p ,have not encloned or s_ponlORd these Notn.

02013 Kaplan. Inc.

WELCOME TO THE 2014SCHWESERN"OTES™

Thank you for trusting Kaplan Schweser to help you reach your goals. We are all ""rypleased to be able to help you prepare for the Level I CFA Exam. In this introduction.I want to explain the resources included with the SehwnerNotes. suggest how youcan best usc Schweser materials to prepare for the exam, and direct you toward othereducational resources you will lind helpful as you study for the exam.

Besides the Schwcsc:rNot.,. themselves, there arc many educational resources available atSchweser.eom. Just log in using the individual username and password that you receivedwhen you purchased the SehweserNotes.

SchwcserNotes no

These consist of live volumes that include complete coverage of allIS Study Sessionsand all Learning Outcome Statements (LOS) with examples. Concept Checkers(multiple-choice questions for every topic review). and Challenge Problems for manytopic reviews to help you master the material and check your progress. At the end ofeach major topic area. we include a Self-test. Self-test questions arc created to be exam-like in format and difficulty in order for you to evaluate how well your study of eachtopic has prepared you for the actual exam.

Practice QuenionsTo retain what you learn, it is important that you ~iz yourself often. We off'er CD,download, and online versions of the SchwcserPro QBank. which contains thousandsof Level Ipractice questions and explanations. Quizzes arc available for each LOS. topic.or Study Session. Build your own exams by specifying the topics and the number ofquestions you choose.

Practice ExamsSchweser offees six full 6-hour practice exams. Practice Exams Volume 1 and Volume 2each contain three full 240-<juestion exams. These arc imponant tools for gaining thespeed and skills you will need to pass the exam. Each book contains answers with fullexplanations for self-grading and evaluation. By entering your answers at Sehweser.eom,you can usc our Performance Tracker to lind out how you have performed compared toother Schweser Level I candidate s,

Schwaer LibraryWe have created reference videos. some of which are available to all SchwcscrNotespurchasers. Schweser Library volumes are typically between 20 and 60 minutes in lengthand cover such topics as: ·CFA Level IExam Overview," ·Calculator Basics," "Code andStandards Overview," and "Time Value of Money_' The full Schwcscr Library is includedwith our 16-week live or online classes and with our video instruction (online or CDs).

Online Schweser Study PlannerUsc your Online Access to tell us when you will start and what days of the week you canstudy. The online Sehweser Study Planner will create a study plan just for you. breakingeach study session into daily and weekly tasks to keep you on track and help youmonitor your progress through the curriculum.

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W.k'Om. '0 the 201~ SchweKrl'o, ••TM

Additional Resource.Purchasers of the &sential Self-Study or Premium Instruction Packages also receiveaceess to our Instructor-led Office Hours. Office Hours allow you to get your questionsabout the curriculum answered in real time and to sec others' questions (and instructoranswers) as well. Office Hours is a text-based live interactive online chat with our teamof Level I experts. Archives of previous Office Hours sessions can be sorted by topic ordate and are posted shonly after each session.

The Levell CFA exam is a formidable challenge (63 topic reviews and more than 500Learning Outcome Statements), and you must devote considerable time and effortto be properly prepared. There is no shortcut! You must learn the material, know theterminology and techniques, understand the conccpu, and be able to answer 240questions quickly and (at least 70%) correctly. Fifteen to 20 hours per week for 20 weeksis a good estimate of the study time required on average, but some candidates will needmore or less time, depending on their individual backgrounds and experience.

To help you master this material and be weU prepared for the CFA Elwn, we offerseveral other educational resources, including:

Live Weekly Classroom ProgramsWe offe.r weekly classroom program. around the world. Please check Schweser.eom forlocations, dates, and availability.

IG-Wcck Online ClassOur 16-Wcck Online Classes arc available at New York time (6:30-9:30 pm) or Londontime (6:00-9:00 pm) beginning in January and July. The approximate schedule for the16-Week Online Classes (3-hour sessions) is as follows:

Class' Class'I ExamIntrolQuanri,ativ. M••hods S52 9 Financial Repcrriag & AnalY'is 55102 Quantitative Me.hods 553 10 Corpora te Finance S5113 Economics 55-1,5 II Equicy Investments 5513, 144 Economics 555. 6 12 Fixed Income 5515

5 Financial Roporting & Analysis 5S7 13 Fixed Income 55166 Financial Roponing & Analysis SS8 14 Derivatives 5517

7 Financial R.porting & Analysis S58. 9 15 Portfolio Managom.m & Almna,i veInvestments SS12. 18

8 Financial R.poning & Analysis S59 16 Ethical and ProfessionalStandards SSI

Archived classes are available for viewing at any time throughout the season. Candidatesenrolled in the IG-Weck Online Classes also have fullaceess to supplemental on-demandvideo instruction in the Schweser Library and an e-mail address to use to send questionsto the instructor at any time.

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Wdc:ometo tho 2014 SchwesuNotH™

Late: Season ReviewWhether you usc self-study or in-class, online. or video inmuction to learn the CFAcurriculum. a late-season review and exam practice can make all the difference. Ourmost complete: late-season review course is our residence program in Windsor. Ontario(WindsorWeek) where we cover the entire curriculum over seven days (May 3-9) atall three levels. We also offer 3-Day Exam Workshops in many cities (and online)that combine curriculum review with an equal component of hands-on practice withhundreds of questions and problem-solving techniques. Our Dallas/Fort Worth reviewprogram extends to five days (May 12-16). PIC2Sevisit us at Scbweser.cem for completelistings and course descriptions for all our late-season review offerings.

Mock Exam and Multimedia TutorialOn May 24. 2014, and November 22.2014. the Schweser Mock Exam will be offeredlive in over 60 cities around the world and as an online exam as weU.The optionalMultimedia Tutorial provides extended explanations and topic tutorials to get youexam-ready in topic areas where you miss questions on the Mock Exam. PIC2SevisitSchweser.com for a listing of cities and lccaticns.

Topic WeightingIn preparing for the exam, you must pay attention to the weights assigned to each topicwithin the curriculum. The LC\",I I topic weights arc as follows:

Topir Eum WtithtEthical and ProfessionalStandard, 15%Quantitati ve M.thods 12%Economia 10%Financial Reporting and Analysis 20%Corporate Finanee 8%Portfolio Managtm.nt 5%Equity lnvesunenu 10%Fixed Income Invesunenu 12%Derivatives 5%Alternative Investments 3%Total 100%

How to SucceedThere arc no shortcuts; depend on the fact that CPA Institute will test you in a waythat will reveal how weU you know the Level Icurriculum. You should begin early andstick to your study plan. You should first read the SchweserNotes and complete theConcept Checkers and Challenge Problems for each topic review. You should preparefor and attend a live class an online class. or • study group each ·...eek, You should takequiucs often using SchwcserPro Qbank and go back to review previous topics and StudySesslons as well. At the end of each topic area, you should take the Self-test to checkyour progress. You should finish the overaU curriculum at least four weeks (preferablyfive weeks) before the Level I exam so that you have sufficient time for Practice Examsand for further review of those topics that you have not yet mastered.

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Welcome 10 the 201~ Schweoerl'ote.™

I would like to thank Craig Prochaska. CFA. Content Specialist and Jared Heintz, LeadCopy Editor. for their contributions to producing the 2014 Levell SehweserNotcs forrhe CFA Exam.

Best regard ••

Dr. Douglas Van Eaton, CFASVP of CFA Education and Level I Manager

Kaplan Schweser

02013 Kaplan. Inc.

READING ASSIGNMENTS ANDLEARNING OUTCOME STATEMENTS

TM flllDwinl mau,ial is a m,;~w oftM Ethkal and Profillional S/4111ia,dsandQUlt1ltitatilJeM~thodsprin(ipks d~siln~d to addrrss th~ kaming out(o_ stat~m~1ItsItt forth'" CFA /mti(Uu.

STUDY SESSION 1

Reading AssignmcnuEthkal and Profissional Standards and Quantitatiw M~thods. CFA Progn.m Levell 2014Curriculum. Volume 1 (CFA Institute, 2013)

1. Code of Ethies and Standards of Professional Conduct page 132. Guidance for Standards I-VII page 133. Introduction to the Globallnvcstment Performance Standards (GIPS®) page 824. The GIPS Standards page 84

I

STUDY SESSION 2

Reading AssignmcnuEthkal and ProfissiDnalStandards and Quantitatiw Mnhods. CFA Program Levell 2014Curriculum. Volume 1 (CFA lnstinne, 2013)

5. The TIme Value of Money6. Discounted Cash Flow Applications7. Statistical Concepts and Market Returns8. Probability Concepts

page 98page 138page 163page 201

STUDY SESSION 3

Reading AssignmcnuEthical and ProfilliDllIll Sta"da,ds and Quantitatiw Mnhods. CFA Progn.m Levell 2014Curriculum. Volume 1 (CFA Instirutc, 2013)

9. Common Probability Distributions10. Sampling and Estimation11. Hypothesis Testing12. Technical Analysis

page 245page 281page 304page 344

02013 Kaplan. Inc.

Book 1 - Elhical and Prof....ional SCllIciardsand Quanli .. live M.lhodsIUadins Assignme"u IUIdUaming OUlcome Scalemenu

LEARNING OUTCOME STATEMENTS (LOS)

STUDY SESSION 1

Th« topieal clI",ragt ClI"'SPDn4swith tht fl,u,wing cr~Institute assigne'rtading:I. Code of Emics and Standards ofProfcssionai Conduct

The candidate should be able to:a. describe the structure of the CFA Institute Professional Conduct Program and

the proeess for the enforeement of the Code and Standards. (page 13)b. stare the six components of the Code of Ethics and the seven Standards of

Professional Conduct. (page 14)Co explain the ethical responsibilities required by the Code and Standards,

including the sub-sections of each Standard. (page: 15)2. GuidlUlee for Standard. I-VII

The candidate should be able to:a. demonstrate the application of the Code of Ethics and Standards of Professional

Conduct to situations involving issues of professional integrity. (page: 18)b. distinguish between conduct that conforms to the Code and Standards and

eon duet that violates the Code and Standards. (page 18)Co recommend practices and procedures designed to prevent violations of the: Code

of Ethics and Standards of Professional Conduct. (page 18)3. Introduction to the Global Investment Performance Standards (GIPS*)

The candidate should be able to:a. explain why the: GIPS standards were created. what parties the GIPS standards

apply to, and who is served by the standards. (page 82)b. explain the construetion and purpose of composites in performance reporting.

(page: 83)Co explain the requirement> for verification. (page 83)

4. The GIPS StandardsThe candidate should be able to:a. describe the kcy features of the GIPS standards and the fundamentals of

compliance. (page 84)b. describe the scope: of the GIPS standards with respect to an investment firm's

definition and historieal performance record. (page:86)Co explain how the GIPS standards are implemented in countries with existing

standards for performance reporting and describe the appropriate response whenthe GIPS standards and local regulations eonRiet. (page 86)

d. describe the nine major sections of the GIPS standards. (page 86)

STUDY SESSION 25. The Time Value of Money

The candidate should be able to:a. interpret interest rates as required rates of return, discount rates, or opportunity

costs. (page 100)b. explain an interest rate as the sum of a real risk-free rate, and premiums that

compensate investors for bearing distinct types of risk. (page 101)Co calculate and interpret the effective annual rate, given the stated annual interest

rate and the frequency of compounding. (page 101)

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nook 1 - Ethical and Prof ... ionol Standards and Quantitative MethodsRndiDg Assipmenu aDd !Aaming OUlcome SI"lfnlents

d. solve time value of moncy problems for different frequencies of compounding.(page 103)

e. calculate and interpret the future value (FV) and present value (PV) of a singlesum of moncy, an ordinary annuity, an annuity due, a perpetuity (PV only), anda series of unequal cash flows. (page 104)

f. demonstrate the usc of a time line in modeling and solving time value of moncyproblems. (page 118)

6. Discounted Cash Flow ApplicationsThe candidate should be able to:a. calculate and interpret the net present value (NPV) and the internal rate of

return (IRR) of an investment. (page 138)b. contrast the NPV rule to the IRR rule, and identify problems associated with

the IRR rule. (page 141)c. calculate and interpret a holding period return (total return), (page 143)d. calculate and comparc the moncy-weightcd and time-weighted rates of return of

a portfolio and evaluate the performance of portfolios based on these measures.(page 143)

e. calculate and interpret the bank discount yield, holding period yield, effectiveannual yield, and moncy market yield for u.s. Treasury biDs and other moneymarket instruments. (page 147)

f. convert among holding period yields, moncy market yields, effective annualyields, and bond equivalent yields. (page 150)

7. Statistical Concepts and Market ReturnsThe candidate should be able to:a. distinguish between descriptive statistics and inferential statistics, between

a population and a sample, and among the types of measurement scales.(page 163)

b. define a parameter, a sample statistic, and a frequency distribution. (page 164)c. calculate and interpret relative frequencies and cumulative relative frequencies,

given a frequency distribution. (page 166)d. describe the properties of a data set presented as a histogram or a frequency

polygon. (page 168)e. calculate and interpret measures of central tendency, including the population

mean, sample mean. arithmetic mean, weighted average or mean, geometricmean, harmonic mean, median, and mode. (page 169)

f. calculate and interpret quarriles, quintiles, deciles, and percentiles. (page 174)g. calculate and interpret 1) a range and a mean absolute deviation and 2) the

variance and standard deviation of a population and of a sample. (page 175)h. calculate and interpret the proportion of observations falling within a specified

number of standard deviations of the mean using Chebyshev's inequality.(page 179)

i, calculate and interpret the coefficient of variation and the Sharpe ratio.(page 180)

,. explain skewness and the meaning of a positively or negatively skewed returndistribution. (page 182)

k. describe the relative locations of the mean, median. and mode for a unimodal,nonsymmetrical distribution. (page 183)

1. explain measures of sample skewness and kurtosis. (page 184)m. compare the use of arithmetic and geometric means when analyzing investment

returns. (page 186)

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Book I - Elhical and Prof....ionai SCllIdards and Quanli .. tivr MethodsIUadins Auignmonu ""d Uaming OUlromo Slalomonu

S. Probability ConccpuThe candidate should be able to:a. define a random variable. an outcome. an event. mutually exclusive events, and

exhaustive events. (page 201)b. state the two defining properties of probability and distinguish among empirical,

subjective. and a priori probabilities. (page 201)Co state the probability of an c:vc:ntin terms of odds for and against the event.

(page 202)d. distinguish between unconditional and conditional probabilities. (page 203)e. explain the multiplication. addition. and total probability rules. (page 203)f. calculare and interpret 1) the joint probability of two events. 2) the probability

that at least one of two events will occur. given the probability of each and thejoint probability of the two events. and 3) a joint probability of any number ofindependent events. (page 204)

g. distinguish between dependent and independent events. (page 207)h. calculate and interpret an unconditional probability wing the tOW probability

rule. (page 20S)I. explain the usc of conditional expectation in investment applications. (page 212)j. explain the usc of a tree diagram to represent an investment problem. (page 212)k. calculate and interpret covariance and correlation. (page 213)I. calculate and interpret the expected value. variance. and standard deviation of a

random variable and of returns on a portfolio. (page 217)m. calculate and interpret covariance given a joint probability function. (page 21S)n. calculate and interpret an updated probability using Bayes' formula. (page 222)o. identify the most appropriate method to solve a particular counting problem,

and solve counting problems using factorial, combination, and permutationconcepts. (page 224)

STUDY SESSION 3

9. Common Probability DisuibutionsThe candidate should be able to:a. define a probability distribution and distinguish between discrete and

continuous random variables and their probability functions. (page 245)b. describe the set of possible outcomes of a specified discrete random variable.

(page 245)Co interpret a cumulative distribution function. (page 247)d. calculate and interpret probabilities for a random variable, given its cumulative

distribution function. (page 247)e. define a discrete uniform random variable. a Bernoulli random variable. and a

binomial random variable. (page 24S)f. calculate and interpret probabilities given the discrete uniform and the binomial

distribution functions. (page 24S)g. construct a binomial tree to describe stock price movement. (page: 251)h. calculate and interpret tracking error. (page 253)i. define the continuow uniform distribution and calculate and interpret

probabilities. given a continuous uniform distribution. (page 253)j. explain the key properties of the normal disuibution. (page 255)k. distinguish between a univariate and a multivariate distribution. and explain the

role of correlation in the multivariate normal distribution. (page 255)

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nook 1 - Ethical and Prof ... ion:ol Standardsand Quanulllive MethodsReadiDg AS$ipmeDu and Lurning OUlcome S,a,ONeDu

I. determine the probability that a normally distributed random variable lies insidea given interval. (page:256)

m. define the standard normal distribut.ion, explain how to standardize a randomvariable, and calculate and interpret probabilities using the standard normaldistribution. (page 258)

n. define shortfall risk, calculate the safety-fint ratio, and select an optimalportfolio using Roy's safety-fint criterion. (page: 261)

o. explain the relationship between normal and lognormal distributions and whythe lognormal distribution is used to model asset prices. (page 263)

p. distinguish between discretely and continuously compounded rates of return,and calculate and interpret a continuously compounded rate of return, given aspecific holding period return. (page 264)

q. explain Monte Carlo simulation and describe its major applications andlimitations. (page: 266)

r. compare Monte Carlo simulation and historical simulation. (page 267)10. Sampling and Estimation

The candidate should be able to:a. define simple random sampling and a sampling distribution. (page 281)b. explain sampling error. (page 281)c. distinguish between simple random and stratified random sampling. (page 282)d. distinguish between time-series and cross-sectional data. (page 283)e. explain the central limit theorem and its importance. (page 283)f. calculate and interpret the standard error of the sample mean. (page 284)g. identify and describe desirable properties of an estimator. (page 286)h. distinguish between a point estimate and a confidence interval estimate of a

population parameter. (page: 286)i. describe properties of Student's r-distribution and calculate and interpret its

degrees of freedom. (page 286)j. calculate and interpret a confidence interval for a population mean, given a

normal distribution with I) a known population variance, 2) an unknownpopulation variance, or 3) an unknown variance and a large sample size.(page 288)

k. describe the issues regarding selection of the appropriate sample size. data-mining bias. sample selection bias, survivonhip bias, look-ahead bias. and time-period bias. (page 293)

11. Hypothesis TestingThe candidate should be able to:a. define a hypothesis, describe the steps of hypothesis testing. and describe and

interpret the choice of the null and alternative hypotheses. (page 304)b. distinguish between one-tailed and two-tailed tests of hypotheses. (page 305)c. explain a test statistic, Type I and Type II errors, a significance level, and how

signifieance level. are used in hypothesis testing. (page 309)d. explain a decision rule. the power of a test, and the relation between confidence

intervals and hypothesis tests. (page 311)e. distinguish between a statistical result and an economically meaningful result.

(page 313)f. explain and interpret the p-vaIue as it relates to hypothesis testing. (page 314)g. identify the appropriate test statistic and interpret the results for a hypothesis

test concerning the population mean of both large and small samples whenthe population is normally or approximately distributed and the variance is I)known or 2) unknown. (page 315)

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Book I - Elhical and Pmf .... ional SCllIciards and Quanti .. tive M.thod,IUadins Assignmenu IUIdUaming Outcome Stat.menu

h. identify the appropriate tot statistic and interpret the results for a hypothesistest concerning the equality of the population means of two at leastapproximately normally distributed populations. based on independent randomsamples with 1) equal or 2) unequal assumed variances. (page 318)

i. identify the appropriate tot statistic and interpret the results for a hypothesistest concerning the mean difference of two normally distributed populations.(page 322)

j. identify the appropriate tot statistie and interpret the results for a hypothesistest coneerning 1) the variance of a normally distributed population. and 2) theequality of the variances of two normally distributed populations based on twoindependent random samples. (page 326)

k. distinguish between parametric and nonparametrie tests and describe situationsin which the usc of nonparametric tests may be appropriate. (page 333)

12. Tcchnical AnalysisThe candidate should be able to:a. explain principles of technical analysis. its applications. and its underlying

assumptions. (page 344)b. describe the construction of different typo of technical analysis charts and

interpret them. (page 345)Co explain uses of trend. support. resistance lines. and ehange in polarity.

(page 348)d. describe common chart patterns. (page 349)e. describe common tcchnical analysis indicators (price-based. momentum

oscillators. sentiment. and 80w of funds). (page 351)f. explain how technical analysts usc cycles. (page 356)g. describe the kcy tenets of Elliott Wave Theory and the importance of Fibonacci

numbers. (page 356)h. describe intermarket analysis as it relates to technical analysis and asset

allocation. (page 357)

Page 12 02013 Kaplan. Inc.

The foilowiAC II a rnicw of the Ethical and Profcnional Su.ndatdl principle. dalcntd to addresl thelamiA, outcome .tatemcnu let lorth br CFA Iftllitute. Thit topic i. alto eereeed in:

CFA INSTITUTE CODE OF ETHICS ANDSTANDARDS OF PROFESSIONAL CONDUCTGUIDANCE FOR STANDARDS I-VII

Study Session 1

ExA.'\f Focus

In addition to reading this review of the ethics material. we strongly recommend thatall candidates for the CFAe examination read the StllWrtis ofPrIl<tirt Hllndbook 10thEdition (2010) multiple times.1u a Level I CFA candidate. it is your responsibility tocomply with the CoaL IIna Stllwrds. The complete COM IIna StIlWrtis are reprinted inVolume 1 of the CFA Program Curriculum.

LOS La: Describe the structure of the CFA Institute Professional ConductProgram and the process for the enforcement of the Code and Standards.

CFAe Progrrzm Curriculum. VolumL 1. P"KL 8

The CFA Institute Professional Conduct Program is covered by the CFA InstituteBylaws and the Rules of Procedure for Proceedings Related to Professional Conduct. TheProgram is based on the principles of fairness of the process to members and candidatesand maintaining the confidentiality of the proceedings. The Disciplinary ReviewCommittee of the CFA Institute Board of Governors has overall responsibility for theProfessional Conduct Program and enforcement of the Code and Standards.

The CFA Institute Designated Officer. through the Professional Conduct staff, conductsinquiries related to professional conduct. Several circumstances can prompt such aninquiry:

1. Self-disclosure by members or candidates on their annual Professional ConductStatements of involvement in civil litigation or a criminal investigation, or that themember or candidate is the subject of a written complaint.

2. Written complaints about a member or candidate's professional conduct that arcreceived by the Professicnsl Conduct staff.

3. Evidence of misconduct by a member or candidate that the Professional Conductstaff received through public sources. such as a media article or broadcast,

4. A report by a CFA exam proctor of a poS$ible violation during the examination.

Once an inquiry has begun, the Professional Conduct staff may request (in writing) anexplanation from the subject member or candidate and may: (1) interview the subject

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Study S... ion 1Cross- ~fmDce to CFA lrutitute Aui£ned Readings" &c 2 - Standards ofPnetice Handbook

member or candidate, (2) interview the complainant or other third parries, andlor(3) collect documents and records relevant to the invatigation.

The Designated Officer may decide: (I) that no disciplinary sanctions are appropriate,(2) to issue a cautionary Ienet, or (3) to discipline the member or candidate. In a casewhere the Designated Officer 6nds a violation has occurred and proposes a disciplinarysanction. the member or candidate may accept or reject the sancrion. If the memberor candidate chooses to reject the sanction, the matter will be referred to a panel ofCFA Institute members for a hearing. Sanctions imposed may include condemnationby the member's peel$ or suspension of candidate's continued participation in the CFAProgram.

LOS l.b: State the six components of the Code of Ethics and the sevenStandards of Professional Conduct.

cr-A® l'rDgram Currin.lum. ""fumt 1. P"lt 14

CODE OF ETHICS

Members ofCFA Institute [including Chartered Financial Analyst® (CFA®)chanerholders) and candidates for the CFA designation ("Members and Candidates"]must:'

o Act with integrity. competence, diligence. respect, and in an ethical manner withthe public. clients. prospective clients. employers. employees. colleagues in theinvestment profession. and other participants in the global capital markets.

o Place the integrity of the investment profession and the interests of c1ienu abovetheir own personal interests.

o Usc reasonable care and exercise independent professional judgment whenconducting investment analysis. making investment recommendations. takinginvestment actions. and engaging in other professional activities.

o Practice and encourage others to practice in a professional and ethical manner thatwill reRect credit on themselves and the profession.

o Promote the integrity of. and uphold the rules governing. capital markeu.o Maintain and improve their professional competence and strive to maintain and

improve the competence of other investment professionals.

THE STANDARDS OF PROFESSIONAL CONDUCT

I: ProfessionalismII: Integrity ofCapiraJ Markeu

III: Duties to ClientsIV: Duties to EmployersV: Investment Analysis. Recommendaricns, and Actions

VI: ConRiets of InrereseVII: Responsibilities as a CFA Institute Member or CFA Candidate

1. Copyriglll 2010. CFA Institute. Reproduced and republished from 'The Code or Ethics,"from St",,""rrIs DfPrrm;u HttntlbD.lt. lOth EtI.• 2010. with permission from CFA Institute,All righu reserved.

02013 Kaplan. Inc.

Study Seuion 1Cross·Rd'~mtce to CFA Inaitut~ Auignod Rudings II &: 2 - Sw>dani. of Praetiee Handbook

LOS Lee Explain the ethical responsibilities required by the Code andStandards, including the sub-sections of each Standard.

STANDARDS OF PROFESSIONAL CONDUCT2

I. PROFESSIONAUSM

A. Knowledge of the Law. Membcn and Candidates must understand andcomply with all applicable laws, rules, and tegulations (including the CFAInstitute COM ofEthies and Standards ofProftssio1l41 um"uct) of anygovernment, regulatory organization, licensing agency, or professionalassociation governing their professional activities. In the c:vcnt of conflict,Members and Candidates must comply with the more strict law, rule, orregulation. Members and Candidates must not knowingly participate or assistin a.nyviolation of laws, rules, or regulations and must disassociate themselvesfrom any such violation.

B. Independence and Objc:ctivity. Members and Candidates must use reasonablecare and judgment to achieve and maintain independence and objectiviry intheir prof'cssional activities. Members and Candidates must not offer, solicit, oraccept any gift, benefit, compensation, or consideration that reasonably couldbe expected to compromise their own or anothers independence andobjc:ctiviry.

C. Misrepresenution. Member. and Candidates must not knowingly make anymisrepresentations relating to investment analysis, recommendations, actions,or other professional activities.

D. Misconduct. Members and Candidates mull not engage in any professionalconduct involving dishonesry, fraud, or deceit or commit any act th:u reflectsadversely on their professional reputation, integrity, or competence.

II. INTEGRITY OF CAPITAL MARKETS

A. Material Nonpublic Information. Members and Candidates who possessmaterial nonpublie information that could affcct the value of an investmentmust not act or cause others to act on the information.

B. Market Manipulation. Members and Candidates must not engage in practicesthat distort prices or artificially inflate trading volume with the intent tomislead market participants.

III. DUTIES TO CLIENTS

A. Loyalry, Prudence, and Can:. Members and Candidates have a duty of loyaltyto their clients and must act with reasonable care and exercise prudentjudgment. Members and Candidates must act for the benefit of their clientsand place their clients' interests before their employer's or their own interests.

2. Ibid.

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B. Fair Dealing. Members and Candidates must deal fairly and objectively withall clients when providing investment analysis, malcing investmentrceommendations, taking investment action, or engaging in other professionalactivities.

C. Suitability.

1. When Members and Candidatcs arc in an advisory relationship with aclient, they must:

a. Make a reasonable inquiry into a client's or prospective clients'investment experience, risk and rerum objectives, and financialconstraints prior to making any investment recommendation or talcinginvestment action and must reassess and update this informationregularly.

b. Determine that an investment is suitable to the client's financialsituation and consistent with the client's wrinen objectives, mandates,and constraints before making an investment recommendation ortaking investment action.

c. Judge the suitability of investments in the context of the client's totalponfolio.

2. When Members and Candidates arc responsible for managing a portfolio toa specific mandate. strategy, or sryle, they must make only investmentrecommendations or take investment actions that are consistent with thestated objeedves and constraints of the portfolio.

D. Performance Presentation. When communicating investment performanceinformation, Members or Candidates must make reasonable drons to ensurethat it is fair, accurate, and complete.

E. Preservation of Confidentiality. Members and Candidates must keepinformation about current, former, and prospective clients confidential unless:

1. The information concerns illegal activities on the part of the client orprospective client,

2. Disclosure is required by law, or

3. The client or prospective client permits disclosure of the information.

rv DUTIES TO EMPWYEaS

A. Loyalty. In matters related to their employment. Members and Candidatesmust act for the benefit of their employer and not deprive their employer of theadvantage of their skills and abilities. divulge confidential information, orotherwise cause harm to their employer.

B. Additional Compensation Arrangements. Members and Candidates must notaccept gifts. benefits, compensation, or consideration that competes with. or

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might teasonably be expected to create a conBict of intereat with. theiremploy.,,'s interest unless they obtain written consent from all parties involved.

C. Responaibilities of Supervisors. Members and Candidates must makereasonable drom to detect and ptt"VCntviolations of applicable laws. rules.regulations. and the Code and Standards by anyone subject to their supervisionor authority.

V. INVESTMENT ANALYSIS.RECOMMENDATIONS, AND ACTIONS

A. Diligen ee and Reasonable Basis. Members and Candidates must:

1. Exercise diligen ce, independence. and thoroughness in analyzinginvestments, making investment recommendations. and taking investmentactions.

2. Have a reasonable and adequate basis. supported by appropriate researchand investigation. for any invcsunent analysis, recommendation. or action.

B. Communication with Clients and Prospective Clients. Members andCandidates must:

1. Disclose to clients and prospective clients the basic format and gener.tlprinciples of the investm"nt proc""cs used to analyz" invt"Stm"nts. selec tsecuriti es, and construct portfolios and must promptly disclosc any changesthat might materially afl'= those processes,

2. Usc reasonable judgment in id"ntifying whim factors are important to theirinvestment analyses. recommendations. or actions and include those f.actorsin communications with c1i"nts and prospective clients.

3. Distinguish between f.act and opinion in the presentation of investmentanalysis and recommendations.

C. Record Retention. Members and Candidates must develop and maintainappropriate records to suppon their invesunent analysis. recommendations,actions. and other investment-related communications with clients andprospective clients,

VI. CONFLICTS OF INTEREST

A. Disclosure of ConBicts. Members and Candidates musr make full and f.airdisclosure of all matters that could reasonably be cxpeeted to impair rheirIndependence and objectivity or interfere with respective duties to their clients.prosp ec rive clients, and employer, Members and Candidates must ensure thatsuch disclosures are promin"nt. are delivered in plain language. andcommunicate the relevant information dfeetively.

B. Priority ofTransactions.lnvcstment transactions for c1i"nts and employersmust have priority over investmenr transactions in whim a Memb"r orCandidate is the b"n,,6cial owner.

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C. Refaral Fees. Members and Candidates must disclose to their employer.clients. and prospective eliene. as appropriate. any compensation.consideration. or benefit received from. or paid to. others for therecommendation of products or services.

VII. RESPONSIBILITIES AS A CFA INSTITUTE MEMBER OR CFACANDIDATE

A. Conduct a.s Members and Candidates in the CFA Program. Members andCandidates mwt not engage in any conduct that compromises the reputationor integrity of CFA Institute or the CFA designation or the integrity. validity.or security of the CFA examinations.

B. Reference to CFA Institute. the CFA Designation. and the CFA Program.When referring to CFA Institute. CFA Institute membership. the CFAdesignation. or candidacy in the CFA Program. Members and Candidates mustnot misrepresent or <X2ggeratethe meaning or implications of membership inCFA Institute. holding the CFA designation. or candidacy in the CFAProgram.

LOS 2.a: Demonstrate the application of the Code of Ethics and Standards ofProfessional Conduct to situations involving issues of professional integrity.

LOS 2.b: Distinguish between conduct that conforms to the Code andStanduds and conduct that violates the Code and Standards.

LOS 2.c: Recommend practices and procedures designed to prevent violationsof the Code of Ethics and Standards of Professional Conduct.

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I Profasionalism

I(A) Knowle. of the Law. Members and Candidatcs must undcmand andcomply with all applicable laws. rules. and regulations (including the CFA InstituteCode of Ethics and Standards of Profasional Conduct) of any government, regulatoryorganization. licensing agency. or professional a.ssociation governing their prokssionalactivities. In the event of conRia. Members and Candidates must comply with themore strict law. rule. or regulation. Members and Candidates must not knowinglypanicipaa: or assist in and must diuociate (rom any violation of such laws. rules. orregulations.

~ Profnso,j Nst«: Whik w. us. th. term "mtmbtn" in tht following. not« that all~ oftht Stanu,J, apply to canJitltttn 41 wtlL

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G..;a,mc_Cotle Anti StAntlArtis lIS. LDcAILalli

Members must know the laws and regulations relating to their professional activities inaU countries in which they conduct business, Members must comply with applicablelaws and regulations relating to their professional activity. Do not violate Code orStandards even if the activity is otherwise legal. Always adhere to the most strict rulesand requirements (law or CFA Institute Standards) that apply.

GviaAnc_PArticipA,ion or AssociAtion Wi,h Violations by OthenMembers should dissociate. or separate themselves. from any ongoing client or employeeaaivity that is ilkgal or unethical. even if it involves leaving an employer (an extremecase). While a member may confront the involved individual first. he must approachhis supervisor or compliance department. Inaaion with continued association may beconstrued as knowing participation.

Ruommentletl ProeeJlU'u for CompliAnc_MemHrs• Members should have procedures to keep up with changes in applicable laws. rules.

and regulations.• Compliance procedures should be reviewed on an ongoing basis to assure that they

address current law. CFAI Standards. and regulations.• Members should maintain current reference materials for employees to access in

order to keep up to date on laws. rules. and regulations.• Members should seck advice of counsel or their compliance department when in

doubt.• Members should document any violations when they disassociate themselves from

prohibited activity and encourage their employers to bring an end to such activity.• There is no requirement under the Standards to report violations to governmental

authorities. but this may be advisable in some circumstances and required by law inothers.

• Members are strongly encouraged to report other members' violations of the Codeand Standards.

Recomme"Jetl ProeetllU'esfor CompliAnc_FirmsMembers should encourage their firms to:

• Develop andlor adopt a code of ethics.• Make available to employees information that highlights applicable laws and

regulations.• Establish written procedures for reporting suspected violation of laws. regulations. or

company policies.

Members who supervise the creation and maintenance of investment services andproduas should be aware of and comply with the regulations and laws regarding suchservices and produas both in their country of origin and the countries where they wiUbe sold.

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Applic.tilln "lSUI"".,d I(A) Knl1",/~dg~IIIth~LIIu?

Example I:

Michael Allen works for a brokerage firm and is responsible for an underwriting ofsecurities. A company official gives Allen information indicating that the financialstatements Allen filed with the regulator overstate the issuer's carnings. Allen seeks theadvice of the brokerage firm's general counsel, who states that it would be difficult forthe regulator to provc that Allen has been involved in any wrongdoing.

Comment:

Although it is recommended that members and candidates seck the advice of legalcounsel, the reliance on such advice does nor absolve a member or candidate from therequirement to comply wilh the law or regulation. Allen should cepon this siruation tohis supervisor, seck an independent legal opinion, and determine whether the regulatorshould be nerified of the error.

Example 2:

Kamisha Washington's firm advcnis es ils pasl performance record by showing the 10-year rerurn of a eomposiee of its client accounts. However, Washington discovers that thecomposite omits Ihe performance of accounts that havc lefl the firm during the 10-yearperiod and that this omission has led ro an inRaled performance figure. Washingtonis asked ro we promotional material that includes the erroneous performance numberwhen soliciting bwiness for the firm.

Comment:

Misreprcsenring performance is a violation of the Code and Standards. Although she didnot calculate the performance herself, Washington would be assisting in violating thisstandard if she were to UJe the inRated performance number when soliciting clients. Shcmust dissociate hcrself from the activity. She can bring the misleading number to theattention of the person responsible for calculating performance, her supervisor, or thecompliance department at her firm. If her firm is unwilling to recalculate performance,she must refrain from using the misleading promotional material and should notifythe firm of her reasons. If the firm insists that she usc the material. she should considerwhether her obligation to dissociate from the activity would require her to seck otheremployment.

Example 3:An employee of an investment bank is working on an underwriting and finds out theissuer has altered their financial statements to hide operating losses in one division.These missrated dara are included in a preliminaty prospecrus that has already beenreleased.

Comment:

The employee should report the problem to his supervisors. If the firm doesn't get themisstatement fixed. the employee should dissociate from the underwriting and. further.seek legal advice about whether he should undercake additional reponing or otheractions.

3. Ibid.

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Example 4:

Laura Jameson, a U.S. citizen, works for an investment advisor based in the UnitedStates and works in a country where investment managers are prohibited frompanicipating in IPOs for their own accounts.

Comment:

Jameson must comply with the srrietest requirements among U.S. law (where her firmis based), the CfA Institute Code and Standards, and the laws of the country where sheis doing business. In this case that means she must not panicipate in any IPOs for herpersonal account.

Example 5:

A junior porrfolio manager susp«ts that a broker responsible for new business froma foreign country is being allocated a portion of the firm's payments for third-partyresearch and suspeas that no research is being provided. He believes that the researchpayments may be inappropriate and unethical.

Comment:

He should foUow his firm's procedures for reporting possible unethical behavior and tryto get better disclosure of the nature of these payments and any research that is beingprovided.

I(B) IndcpeDcImcc aad Objectivity. Members and CandidalCl mUll UJC reuonablecare aad judgment to achieve aad mainaain independence aad objectivity in theirprofessional activities. Members and Candidates must not ofli:r. solicit, or accept anygift, beneSt. compensation. or consideration that reasonably could be espeeeed tocompromisc their own or another's independence and objc:aivity.

G"iJllneeDo not let the investment process be in8uenced by any external sources. Modest giftsare permitted. Allocation of shares in oversubscribed IPOs to personal accounts isNOT permitted. Distinguish between gifts from clients and gifts from entities seekingin8uence to the detriment of the client. Gifts must be disclosed to the member'semployer in any case, either prior to acceptance if possible, or subsequently

G"iunce-Inlllltmmt Bllnlrinl /ullltiQnshiplDo not be pressured by sell-side firms to issue favorable research on current orprospective investment-banking clients. It is appropriate to have analysts work withinvestment bankers in "road shows· only when the con8ias are adequately andeffectively managed and disclosed. Be sure there are effective "firewalls· betweenresearch/investment management and investment banking activities.

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Gllithnc_PMbfic (Amp""i"Analpts should not be pressured to issue favorable research by the companies theyfollow. Do not confine research to discussions with company management, but ratherusc a variety of sources, including suppliers, customers, and competitors.

Gllithnc_Buy-SiJe C/U",.Buy-side clients may try to pressure sell-side analysts. Portfolio managers may have largepositions in a particular security, and a tating downgrade may have an effect on theportfolio performance. Iu a portfolio manager, there is a responsibility to respecr andfoster intellectual honesry of sell-side research.

Guithnc_Fllntl Mllnllger /UfilliomhipsMembers responsible for selecting outside managers should not accept gifts,entertainment, or travel that might be perceived as impairing their objectivity.

Gllithnc-Crrtlit RIllingAgencinMembers employed by credit rating firms should make sure that procedures preventundue inlluencc: by the firm issuing the securities. Members who usc credit ratingsshould be aware of this potential conllict of interest and consider whether independentanalysis i. warranted.

Guithnc_lsslln'-P"iJ Reltllrt:hRemember that this type of research is fraught with potential conllicts. Analysts'compensation for preparing such research should be limited, and the preference is for alIat fee, without regard to condusions or the report's recommendations.

Gllithnc_Trlll1dBest practice is for analysts to pay for their own commercial travel when attendinginformation events or tours sponsored by the firm being analyzed.

/UcommenMtl Proudllrn for (Ampfumee• Protect the integrity of opinions-make sure they are unbiased.• Create a restricted list and distribute only factual information about companies on

the lisr.• Restrict special cost arrangements-pay for one's own commercial transportation

and hotel; limit usc of corporate aircraft to cases in which commercial transportationis not available.

• Limit gifts-token items only. Customary, business-related entertainment is okayas long as its purpose is not to inlluence a member's professional independence orobjectivity. Firms should impose clear value limits on gifts.

• Restrict employee investments in equity IPOs and private placements, Require pre-approval of IPO purchases.

• Review procedures-have effective supervisory and review procedures.

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• Firms should have formal written policies on independence and objectivity ofresearch.

• Firms should appoint a compliance officer and provide clear procedures foremployee reporting of unethical behavior and violations of applicable regulations.

ApplNtltion ofSttlnUrd I(B) Intkpentkncr tiM Objrm,,;ty

&ample 1:

Steven Taylor, a mining analyst with Bronson Brokers, is invited by Precision Metals tojoin a group of his peers in a tour of mining facUities in several western U.S. states. Thecompany arranges for chartered group Rights from site to site and for accommodationsin Spartan Motels, the only chain with accommodations near the mines, for three nights.Taylor allows Precision Metals to pick up his tab, as do the other analysts. with oneexception-John Adams. an employee of a large trust company who insists on foUowinghis company's policy and paying for his hotd room himself.

Comment:

The policy of the company where Adams works complies closely with Standard I(B) byavoiding even the appearance of a conAict of interest, but Taylor and the other analystswen: not necessarily violating Standard I(B). In general, when allowing companies to payfor travel and/or accommodations under these circumstances, members and candidatesmust use their judgment. keeping in mind that such arrangements must not impingeon a member or candidate's independence and objectivity. In this example, the trip wasstrictly for business and Taylor was not accepting irrelevant or lavish hospitality. Theitinerary required chartered Rights, for which analysts were not expected to pay. Theaccommodations were modest. These arrangements are not unusual and did not violateStandard I(B) so long as Taylor's independence and objectivity were not compromised.In the final analysis. members and candidates should consider both whether thcy canremain objective and whether their integrity might be perceived by their clienrs to havebeen compromised.

&ample 2:

Walter Fritz is an equity analyst with Hilton Brokerage who covers the mining industty.He has concluded that the stock of Metals & Mining is overpriced at its current level.but he is concerned that a negative research report will hurt the good relationshipbetween Metals & Mining and the investment-banking division of his firm. In faCt. asenior manager of Hilton Brokerage has just sent him a copy of a proposal his firm hasmade to Metals & Mining to underwrite a debt offering. Fritz needs to produce a reportright away and is concerned about iSluing a less-than-favorable rating.

Comment:

Fritz's analysis of Metals & Mining must be objective and based solely on considerationof company fundamentals. Any pressure from other divisions of his firm is inappropriate.This conRict could have been eliminated if, in anticipation of the offering, HiltonBrokerage had placed Metals & Mining on a restricted list for its sales force.

Example 3:Tom Wayne is the investment manager of the Franklin City Employees Pension Plan.He recently completed a successful search for firms to manage the foreign equityallocation of the pian's diversified portfolio. He followed the pian's standard procedure

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of seeking presentations ITom a number of qualified firms and recommended that hisboard select Penguin Advisors because of iu experience, well-defined investment strategy,and performance record, which was compiled and verified in accordance with theCFA Institute Global Investment Performance Standards. Following the plan selectionof Penguln, a reporter from the Franklin Ciry Record called to ask if there was anyconnecrion between the action and the fact that Penguin was one of the sponsors of an"investment fact-finding trip to Asia" that Wayne made earlier in the yc:ar. The trip wasone of several conducted by the Pension Investment Academy, which had arranged theitinerary of meetings with economic, government. and corporate officials in major citiesin several Asian countries. The Pension Investment Academy obtains support for the costof these trips from a number of investment managers, including Penguin Advisors; theAcademy then pays the travel ~xpenscs of the various pension plan managers on the tripand provides all meals and accommodations. The president of Penguin Advisors was oneof the travclers on the trip.

CommeDt:

Although Wayne can probably put to good use the knowledge he gained from the tripin selecting portfolio managers and in other areas of managing the pension plan, hisrecommendation of Penguin Advisors may be tainted by the possible conRict incurredwhen he participated in a trip paid for partly by Penguin Advisors and when he was inthe daily company of the president of Penguin Advisors. To avoid violating StandardI(B), Wayne's basic expenses for travcl and accommodation.s should have been paidby his employer or the pension plan; contact with the president of Penguin Advisorsshould have been limited to informational or educational events only; and the trip, theorganizer, and the sponsor should have been made a matter of public record. Even ifhisactions were not in violat.ion of Standard 1(B), Wayne should have been sensitive to thepublic perception of the trip when reported in the newspaper and the extent to whichthe subjective elements of his decision might have been affected by the familiariry thatthe daily contact of such a trip would ~ncourage. This advantage would probably not beshared by competing firms.

Example 4:An analyst in the corporate finance department promises a client that her firm willprovide full research coverage of the issuing company after the offering.

CommeDt:

This is not a violation, but she cannot promise favorable research coverage. Researchmust be objective and independent.

Example 5:An employee's boss tells him to assume coverage of a stock and maintain a buy rating.

CommeDt:

Research opinions and recommendations must be objective and arrived at independently.Following the bon's instructions would be a violation if the analyst determined a buyrating is inappropriate.

Example 6:

A money manager receives a gift of significant value from a client as a reward for goodperformance over the prior period and informs her employer of the gift.

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Comment:

No violation here because the gift is from a client and is not based on performance goingforward. but the gift must be disclosed to her employer. If the gift were contingent onfuture performance. the money manager would have to obtain permission from heremployer. The reason for both the disclosure and permission requirements is that theemployer must ensure that the money manager docs not givc advantage to the clientgiving or offering additional compensation. to the detriment of other clients.

Example 7:An analyst enters into a coneract to write a research report on a company, paid forby that company. for a Rat fee plus a bonus based on attracting new investors to thesecurity.

Comment:

This is a violation because the compensation structure makes tocal compensation dependon the conclusions of the report Co. favorable report will attract invcstors and increasecompensation). Accepting the job for a Rat fcc that docs not depend on the report'sconclusions or its impact on share price is permitted, with propcr disclosure of the factthat the report is funded by the subject company.

Example 8:A trust managcr at a bank selects mucual funds for client accounts based on the profitsfrom "service fees' paid to the bank by the mutual fund sponsor.

Comment:

This is a violation because the trust manager has allowed the fees to affect hi, objectivity.

Example 9:An analyst performing sensitivity analysis for a security docs not usc only scenariosccnsistent with recent trends and historical norms.

Comment:

This is a good thing and is not a violation.

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ICC) Mun:pn:ocatatioa. Membcn and Canclidac:a must not knowingly make anymisrepreKntations relating to invcstmc:nt analysis, recommendations, ac:tions, orother professional activilic:s.

Gui""neeTrust is a foundation in the investment profession. Do not make any misrepresentationsor give f21seimpressions. This includes oral and electronic communications.Misrepresentations include guaranteeing investment performance and plagiarism.Plagiarism encompasses using someone else's work (reports, forecasu, models, ideas,charts, graphs, and spreadsheet models) without giving them credit. Knowingly omittinginformation that could affect an investment decision is considered misrepresentation.

Models and analysis developed by others at a member's firm an: the propc:rty of the firmand can be used without attribution. A report written by another analyst employed bythe firm cannot be released as another analyst's work.

RNommentkJ PrtJeeJureIfl,(AmplilmeeA good way to avoid misrepresentation is for firms to provide employees who deal withclients or prospecu a written list of the firm's available services and a description of thefirm's qualifications. Employee qualifications should be accurately presented as well.To avoid plagiarism, maintain records of all materials used to generate repons or otherfirm products and properly cite sources (quotes and summaries) in work products.Information from recognized financial and statistical reporting services need not becited.

Members should encourage their firms to establish procedures for verifying marketingclaims of third parties whose information the firm provides to clients.

Applieotion of Sum"",J Ire) Mis"p"lentlltwn

Example I,Allison Rogers is a partner in the firm of Rogers and Black, a small firm offeringinvestment advisory services. She assures a prospective: client who has just inherited$1 million that "we can perform all the financial and investment services you need."Rogers and Black is well equipped to provide investment advice but, in fact, cannotprovide asset allocation assistance or a full array of financial and investment services.

Comment:

Rogers has violated Standard I(C) by orally misrepresenting the services her firm canperform for the prospective: client. She must limit herself to describing the range ofinvestment advisory services Rogers and Black can provide and offer to help the clientobtain elsewhere the financial and investment services that her firm cannot provide.

Example 2,Anthony MeGuire is an issuer-paid analyst hired by publicly traded companies toelectronically promote their stocks. McGuire creates a website that promotes his

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research dfom as a seemingly independent analyst. McGuire postS a profile and a strongbuy recommendation for each company on the website. indicating that the stock isexpected to increase in value. He docs not disclose the contractual relationships with thecompanies he covers on his website. in the research reports he issues. or in the statementshe makes about the companies on Internet chat rooms.

Comment:

McGuire has violated Standard I(C) because the Internet site and e-mails arc misleadingto potential investors. Even if the recommendations arc valid and supported withthorough research. his omissions regarding the true relationship between himself and thecompanies he covers constitute a misrepresentation. McGuire has also violated StandardVI(C) by not disclosing the existence of an arrangement with the companies throughwhich he receives compensation in exchange for his services.

Example 3:Claude Browning. a quantitative analyst for Double Alpha. Inc .• returns in greatexcitement from a seminar. In that seminar, Jack Jorrely, a ....ell-publicized quantitativeanalyst at a national brokerage firm, discussed one of his new models in great detail,and Browning is intrigued by the new concepts. He proceeds to test this model, makingsome minor mechanical changes but retaining rhe concept, until he produces somevery positive results. Browning quickly announces to his supervisors at Double Alphathat he has discovered a new model and that clients and prospective clients alike shouldbe informed of this positive finding as ongoing proof of Double Alpha's continuinginnovation and abiliry to add value.

Comment:

Although Browning tested Jorrely's model on his own and even s1ighdy modified it, hemust still acknowledge the original source of the idea. Browning can certainly take creditfor the final, practical results; he can also support his conclusions with his own test. Thecredit for the innovative thinking, however, must be awarded to Jorrely.

Example 4:Paul Ostrowski runs a 2-person investment management firm. Ostrowski's firmsubscribes to a service from a large investment research firm that provides researchreports that can be repackaged by smaller firms for those rums' clients. Ostrowski's firmdistributes these reports to clients as its own work.

Comment:

Ostrowski can rely on third-party research that has a reasonable and adequate basis,but he cannot imply that he is the author of the report. Otherwise, OStrowski wouldmisrepresent the extent of his work in a way that would mislead the firm's clients orprospective clients.

Example S:A member makes an error in preparing marketing materials and misstates the amount ofassets his firm has under management.

Comment:

The member must attempt to stOp distribution of the erroneous material as soon asthe error is known. Simply malting the error unintentionally is not a violation, but

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continuing to distribute material known to contain a significant misstatement of factwould be.

Example 6:

The marketing department states in sales literature that an analyst has received an MBAdegree. but be bas not. The analyst and other members of the firm bave distributed tbisdocument for years_

Comment:

The analyst bas violated the Standards. as be sbould bave known of thismisrepresentation after baving distributed and used the materials over a period of years.

Example 7:

A member describes an interest-only collateralized mortgage obligation as guaranteed bythe U.S. government because it is a claim against the casb Rows of a pool of guaranteedmortgages. a1thougb the payment stream and the market value of the security arc notguaranteed.

Comment:

This is a violation because of the misrepresentation.

Example 8:

A member describes a bank CD as "guaranteed.·

Comment:

This is not a violation as long as the limits of tbe guarantee provided by the FederalDeposit Insurance Corporation arc not exceeded and the nature of the guarantee isclearly explained to clients.

Example 9:

A member uses definitions be found online for such terms as variance and coefficient ofvariation in preparing marketing material.

Comment:

Even thougb these arc standard terms. using the work of others word-for-word isplagiarism.

Example 10:

A candidate reads about a research paper in a financial publication and includes theinformation in a research report. citing the original research report but not the financialpublication.

Comment:To the extent that the candidate used information and interpretation from the financialpublication without citing it. the candidate is in violation of the Standard. Thecandidate sbould either obtain the report and reference it directly or. if he relies soldyon the financial publication. should cite both sources.

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