Ethics Case Study of the Week: Where Do Those Trades Go?

By Gary Sarkissian posted 09-13-2021 08:00


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 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 the circumstances, continuous learning remains imperative in an investment industry that continues to evolve with products undergoing innovation and an adapting regulatory environment. 

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 I(C) Misrepresentation.

Where Do Those Trades Go?
Eller is the head trader for a large, global investment adviser and broker/dealer firm. Eller executes the majority of customer orders internally but routes a significant portion of orders to other, outside broker/dealers for execution. Over a period of five years, Eller and the firm routed to outside venues 15.8 million orders that involved 5.4 billion shares worth more than $141 billion. Eller and the firm do not inform clients that trades are sometimes executed using outside venues. Eller’s actions are

A. appropriate as long as Eller obtained best execution for the clients wherever the trade was executed.
B. inappropriate because Eller is misleading clients regarding a material aspect of the investment process.
C. appropriate because order execution venue diversification is an insignificant and routine aspect of the investment process.
D. inappropriate because using outside broker/dealers to execute client trades could distort market prices.

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.

The execution of trades is a material aspect of the investment process. Investors can use the execution venue information provided by the firm to make strategic choices about their broker/dealer relationships and tactical routing decisions. Investors may also not want their orders routed to outside venues because it exposes important information about their investment strategy. In addition, listing outside trade executions as having occurred within the firm gives the misleading impression that the firm is a more active trading center than it actually is. Using outside broker/dealers is not, in and of itself, unethical and does not necessarily lead to distorting the market. Eller’s ability to obtain best execution for these trades does not absolve him of misleading the firm’s clients regarding a material aspect of the investment process. By providing inaccurate information to clients about how their trades were executed, Eller violated CFA Institute Standard I(C): Misrepresentation, which prohibits CFA Institute members from making any misrepresentation relating to investment actions. The best choice is B.

This case is based on a US SEC enforcement action and penalty.

Image by Free-Photos from Pixabay

© 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.