CFA Institute’s Code of Ethics and Standards of Professional Conduct codify the ethical guidelines for the investment profession that are critical to maintaining the integrity of capital markets and investor trust. Members, candidates, and even firms make a commitment to uphold these standards as they help elevate ethical decision-making universally around the globe.
As investment professionals, we are certain to face important ethical decisions in our day-to-day activities. Some scenarios we encounter will be straightforward, while others may be more complex. No matter what circumstances we face, continuous learning remains imperative in an investment industry that continues to evolve with products undergoing innovation and a regulatory environment continuing to adapt.
For that reason, each week we feature a sample case from CFA Institute’s Ethics in Practice Casebook. Many cases are built upon real-life examples that may involve a regulatory matter or even a CFA Institute Professional Conduct investigation. At the end of each case is a multiple-choice question that addresses the ethical nature of the actions taken in that case.
This week’s case involves Standard III(C) Suitability.
Investments Suitable for your Mother?
Cherrington is a registered representative with a US broker/dealer who has a number of individual clients, including his mother. Cherrington trades mutual fund shares for his mother’s account, which has a long-term investment horizon. All of these funds have similar long-term risk and return objectives. Cherrington split $731,265 in investment funds in his mother’s account among 42 different mutual funds in 11 fund families. For the majority of mutual fund purchases, he sold the funds within 92 to 274 days of purchasing them. Cherrington earned $24,747 in sales charges for these trades but discounted the fees 10% because it was his mother’s account. Cherrington’s actions are
A. unacceptable because Cherrington treated clients unfairly by discounting the fees in his mother’s account.
B. acceptable because mutual funds are safe long-term investments.
C. unacceptable because the trades resulted in unsuitable investments.
D. acceptable because Cherrington diversified his mother’s investments among funds with a strategy that matched her long-term strategy and outlook.
What do you think is the correct choice? Click the “Analysis” button below to see the analysis for this case, and feel free to discuss in the comments below. The completion of this case qualifies for 0.25 hour of Standards, Ethics, and Regulation (SER) credit.
This case relates to Standard III(C): Suitability, which requires CFA Institute members to determine that an investment is suitable for a client’s financial objectives, mandates, and constraints before taking any investment action. In this case, Cherrington is trading mutual fund shares in funds with a similar long-term risk and return objectives as his mother’s account, which would seem to make these investments suitable for his mother’s account. But although mutual funds are generally safe and conservative investments, the short-term nature of the trades conflicts with his mother’s long-term investment horizon. In addition, the new mutual funds’ objectives and risks were similar to the funds that were sold, such that the $24,747 in sales charges, even discounted by 10%, outweighed any marginal benefit from the new mutual funds. Finally, splitting his mother’s investment funds into 42 different mutual funds in 11 fund families generated higher sales charges because his mother was unable to take advantage of savings from breakpoints that likely were available for larger investments. For all of these reasons, Cherrington’s investments for his mother’s account were unsuitable. Clients can be charged different fees; they do not have to be equal for all accounts. Fee discounts can be made for many reasons, and Cherrington may have given other similar or even more generous discounts. A discounted fee does not necessarily mean that clients are being treated unfairly. Choice C is the best answer.
This case is based on a 24 August 2018 disciplinary proceeding by the Financial Industry Regulatory Association.
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© 2019 CFA Institute. All rights reserved. You may copy and distribute this content, without modification and for non-commercial purposes, provided you attribute the content to CFA Institute and retain this copyright notice. This case was written as a basis for discussion and is not prescriptive of how a business situation or professional conduct matter should or should not be handled or addressed. Certain characters mentioned are fictional to facilitate discussion, and any resemblance to actual persons is coincidental.
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