cfa level 1 ethics

How To Study CFA Level 1 Ethics In 2022?

Ethics is one of the most important topics in the CFA Program, according to the CFA Institute. Let’s review what CFA Level 1 ethics entails in this article!

March 18, 2022

As a candidate in the level 1 CFA exam, you should be aware that each ethics standard focuses on a different aspect of the financial profession. The Standards, however, cannot be used selectively.  They are closely intertwined, and you must consider them as a whole. The Code of Ethics of the CFA Institute provides guidelines that you should follow at all times and in all places. Let’s review what CFA Level 1 ethics entails in this article!

Let’s get started with our free CFA Level 1 practice questions to pass your exam with a high score on your first attempt.

CFA Level 1 Ethics: An Overview

Ethics is included in all three levels of the CFA exams, and candidates must understand it for a variety of reasons:

  • Significant topic weighting and tested in 3 levels (10-20%).
  • Highly transferable knowledge across 3 levels: All three levels of CFA Ethics are created on the same base of knowledge of the Code and Standards. This means that you may use what you learned in Level 1 to Level 3 questions. Combine that with your relatively little amount of time needed to master Ethics, you suddenly have in your hands a very effort-efficient topic.
  • If you’re a borderline case, ethics adjustment is important in determining whether you pass or fail the CFA exam.
  • The topic weighting for Ethics in the 2022 CFA Level 1 exam is 15% -20%, which indicates this topic will be addressed in 27-36 of the 180 questions on the exam.

CFA Level 1 Ethics is focused on educating candidates on the CFA Institute’s Code of Ethics & Standards of Professional Conduct, and ethical benchmark for investment professionals worldwide.

Equally important is also the Global Investment Performance Standards (GIPS), which is the standard on how corporations should record, compare and present investment performance.

Professional Conduct Program (PCP)

  • If a Designated Officer determines a sanction against a member is warranted, the member must accept the sanction or face a hearing before a panel of CFA Institute members.

  • Members who provide confidential information to PCP personnel in response to a request are not in violation of Standard III (E) Confidentiality Preservation.

Disciplinary Review Committee (DRC)

In order to maintain the integrity of CFA Institute membership and the CFA designation, the DRC is responsible for enforcing the CFA Institute Code of Ethics and Standards of Practice.

Primary Principles of CFA Institute Bylaws and Rules of Procedure

  • Fair Process

  • Confidentiality of proceedings

Code of Ethics and Standards of Professional Conduct

cfa level 1 ethics

6 Code of Ethics

  • Act with Integrity, Competence, Diligence, and Respect with all affected parties.
  • Place the profession’s integrity and clients’ interests above personal interest.
  • Use Reasonable care when offering advice, getting advice, and conducting investment analysis.
  • Practice and encourage others to practice in a professional and ethical manner to promote the profession.
  • Promote the integrity of, and uphold the rules governing and capital markets.
  • Maintain and enhance your professional competence.

7 Standards of Professional Conduct

You must be familiar with all 22 Standards and sub-sections, as well as their applications (see next reading).

1. Professionalism

  • Knowledge of the Law
  • Independence and Objectivity
  • Misrepresentation
  • Misconduct

2. Integrity of Capital Markets

  • Material Nonpublic Information
  • Market Manipulation

3. Duties to Clients

  • Loyalty, Prudence, and Care
  • Fair Dealing
  • Suitability
  • Performance Presentation
  • Preservation of Confidentiality

4. Duties to Employers

  • Loyalty
  • Additional Compensation Arrangements
  • Responsibilities of Supervisors

5. Investment Analysis, Recommendations, Actions

  • Diligence, and Reasonable Basis.
  • Communication with Clients and Prospective Clients
  • Record Retention

6. Conflicts of Interest

  • Disclosure of Conflicts
  • Priority of Transactions
  • Referral Fees

7. Responsibilities as a CFA Institute Member or CFA Candidate

  • Conduct as Candidates and Members in the CFA Program
  • Reference to CFA Program, the CFA Institute, and the CFA Designation

Guidance for Standards I–VII

Standard 1: Professionalism

Standard’s nameDescription
Knowledge of the Law- Understand and comply with all applicable laws, regulations, and rules (including the CFA Institute Code of Ethics and Standards) of any government, licensing agency, regulatory organization, or professional association governing their professional activities.
Note that:
- In the case of a conflict, follow the most stringent law that applies to the situation.
- Basically, avoid associating yourself with law-breakers.
- You must be aware of all applicable laws in the area where you do business. Stating that you’re unaware of the law so a violation is not an acceptable reason.
Independence and Objectivity- In professional activities, use reasonable care and judgment in order to achieve and maintain independence and objectivity.
- Must not offer, solicit, or accept any benefit, gift, compensation, or consideration that could reasonably be expected to compromise their own or another's independence and objectivity.
Misrepresentation- Must not make any intentional misrepresentations about professional activities.
- Except for factual information published by recognized financial and statistical reporting services, all sources in an analyst's report must be documented.
Misconduct- Must not participate in any professional conduct that involves fraud, dishonesty, or deceit, or do any act that reflects adversely on integrity, professional reputation, or competence.
- Standard Misconduct primarily covers professional activities but also refers to any activities (personal or professional) that reflect adversely on members’ professional competence, reputation, or integrity.
- Must not use CFA Institute's Professional Conduct Program to settle political, personal, or other disputes not related to professional ethics

Standard 2: Integrity of Capital Markets

Standard’s nameDescription
Material Nonpublic- Members and candidates who have material nonpublic information that could affect an investment's value must not act or cause others to act on the information.
- Material information is information that can affect the price of a security or something an investor wants to know before making a decision on an investment.
- Information that has not been made public is referred to as nonpublic information.
- Analysts are free to act on both public and non-public information without risking violation (mosaic theory).
Information
Market Manipulation
- Must not engage in practices that artificially inflate trading volume or distort prices with the intent to mislead market participants.
- Must not spread false information.
- Whatever the purpose, it must not be with the intention of deceiving market participants.
Misrepresentation- Must not make any intentional misrepresentations about professional activities.
- Except for factual information published by recognized financial and statistical reporting services, all sources in an analyst's report must be documented.
Misconduct- Must not participate in any professional conduct that involves fraud, dishonesty, or deceit, or do any act that reflects adversely on integrity, professional reputation, or competence.
- Standard Misconduct primarily covers professional activities but also refers to any activities (personal or professional) that reflect adversely on members’ professional competence, reputation, or integrity.
- Must not use CFA Institute's Professional Conduct Program to settle political, personal, or other disputes not related to professional ethics

Standard 3: Duties to Clients

Standard’s nameDescription
Loyalty, Prudence, and Care- Have a duty of loyalty, act carefully and prudently.
- Must act in the interests of customers and put their interests before the interests of employees and your own.
- Make investment decisions in the context of the complete portfolio.
- Permitted to prepare for a future job while still working, as long as it does not affect loyalty to the current employer.
- Soft dollar commissions must be used in the client's best interests.
- Voting on proxies is only required for infrequent issues of material impact.
- Client brokerage commissions must not be used to pay the investment manager's operating expenses.
Fair Dealing- Candidates and members must treat all clients objectively and fairly objectively when providing investment analysis, making investment recommendations, taking investment action, or participating in other professional activities.
- Simultaneously communicate investment recommendations and changes.
Suitability- Make a reasonable investigation of the client's investment experience, objectives, and constraints, and update this information regularly.
- Suitability is assessed in the overall context of the portfolio and not on the basis of security.
- Verify that investment suggestions are in line with the written objectives of customers.
- Brief communications (as brief as a list of proposed securities) are allowed as long as these recommendations are supported by suitable background reports that can be made available to the customer upon request. Submitting a proposed list to all clients, even if not every recommended security is appropriate for them, is not a violation of the Standards.
- For unsolicited transactions that conflict with investment objectives, must receive affirmative statement acknowledging that suitability is not a concern.
- The Investment Policy Report (IPS) must be updated at least annually.
- Suitability isn't a concern until an investor has taken action.
- If an unsolicited trade conflict with an investment recommendation, the customer must be informed of the change in recommendation before the transaction is accepted.
Performance Presentation- Reasonable efforts must be made to ensure that the presentation of performance results is fair, complete, and accurate.
- Terminated accounts must be included in historical performance.
- Consider the audience's level of sophistication.
- There is no requirement for a minimum performance history.
- Simulated results may be reported, provided this is disclosed.
- Must publish if the results are made under the authority of another enterprise.
- The disclosure of the footnote is not sufficient to comply with this standard.
- Recommended to disseminate new recommendations to all interested clients or suitable investment subjects.
- The specific sources of investment performance must be cited (e.g. too vague “investment professionals”).
- Recommended to utilize GAPS in a performance presentation.
Preservation of ConfidentialityCandidates and members are required to keep information regarding current, past, and potential clients unless:
- The information relates to illegal activities on the part of the client or prospective client,
- There is a legal requirement for disclosure, or
- The customer or prospective client authorizes the disclosure of information.

Standard 4: Duties to Employers

Standard’s nameDescription
Loyalty- In situations of work, employees must operate in the best interests of their employers and not deny them access to their skills and abilities.
- In new positions, prior knowledge and professional skills may be applied.
- Before leaving, must not misappropriate trade secrets or seek the company's clients unless the employer has given written approval.
- There is no requirement to prioritize employer interests above personal duties such as family.
- Whistleblowing is not against the Standards unless it is done for personal benefit rather than to protect customers or markets.
- The Standards must be followed by both employees and independent contractors.
Additional Compensation Arrangements- Must not engage in activities that may reasonably cause a conflict of interest with an employer unless all partners agree to a written request and consent.
- Independent practice for compensation is permitted if the employer receives written notification of all features of the services, including duration, compensation, and nature of the activities, and the employer agrees to the terms of the proposed independent practice before it begins.
- It is permitted to take employment that competes with the employer's but only after receiving written notification from the employer.
Responsibilities of Supervisors- Must make reasonable efforts to discover and prevent violations of applicable laws, regulations, rules, and the Code and Standards by anyone under supervisory or administrative responsibility.
- Actions must be taken to avoid future violations.
- Details of a Professional Conduct Evaluation must be included and disseminated to all eligible workers.
- If a member is unable to execute compliance obligations due to a poor compliance system, the member should reject supervisory responsibility in writing until the business implements an acceptable system.
Performance Presentation- Reasonable efforts must be made to ensure that the presentation of performance results is fair, complete, and accurate.
- Terminated accounts must be included in historical performance.
- Consider the audience's level of sophistication.
- There is no requirement for a minimum performance history.
- Simulated results may be reported, provided this is disclosed.
- Must publish if the results are made under the authority of another enterprise.
- The disclosure of the footnote is not sufficient to comply with this standard.
- Recommended to disseminate new recommendations to all interested clients or suitable investment subjects.
- The specific sources of investment performance must be cited (e.g. too vague “investment professionals”).
- Recommended to utilize GAPS in a performance presentation.
Preservation of ConfidentialityCandidates and members are required to keep information regarding current, past, and potential clients unless:
- The information relates to illegal activities on the part of the client or prospective client,
- There is a legal requirement for disclosure, or
- The customer or prospective client authorizes the disclosure of information.

Standard 5: Investment Analysis, Recommendations and Actions

Standard’s nameDescription
Diligence and Reasonable Basis- All investment activity must be conducted with independence, diligence, and thoroughness in all investment activity.
- Investment decisions must be based on a reasonable and suitable basis.
- Unless there is a reasonable suspicion of insufficiency, using an unfamiliar investment model is not a violation.
- When employing third-party analysis, it's important to go over the assumptions that were made and assess the objectivity and independence of the recommendations.
- A recommendation should not be based on the opinion of another analyst.
Communication with Clients and Prospective Clients- The basic format and general principles of the investment procedures must be disclosed to customers.
- Any modifications to the fundamental format or general principles must be disclosed as soon as possible.
- Must be able to tell the difference between opinion and fact.
- Material changes in investment strategy and processes must be communicated (verbally or in writing).
- Because personal bankruptcy does not affect one's professional reputation, it is not obliged to be disclosed.
- Must provide a general investment management approach; trade details are not required to be disclosed.
Record Retention- Create and maintain suitable records to support investment-related actions and contact with customers and prospects.
- The CFA Institute advises keeping records for seven years.
- In general, the company is in charge of record-keeping.
Performance Presentation- Reasonable efforts must be made to ensure that the presentation of performance results is fair, complete, and accurate.
- Terminated accounts must be included in historical performance.
- Consider the audience's level of sophistication.
- There is no requirement for a minimum performance history.
- Simulated results may be reported, provided this is disclosed.
- Must publish if the results are made under the authority of another enterprise.
- The disclosure of the footnote is not sufficient to comply with this standard.
- Recommended to disseminate new recommendations to all interested clients or suitable investment subjects.
- The specific sources of investment performance must be cited (e.g. too vague “investment professionals”).
- Recommended to utilize GAPS in a performance presentation.
Preservation of ConfidentialityCandidates and members are required to keep information regarding current, past, and potential clients unless:
- The information relates to illegal activities on the part of the client or prospective client,
- There is a legal requirement for disclosure, or
- The customer or prospective client authorizes the disclosure of information.

Standard 6: Conflicts of Interest

Standard’s nameDescription
Disclosure of Conflicts- Must provide full and fair disclosure of any matter that may reasonably be anticipated to compromise their independence and objectivity or interfere with their separate obligations to clients, potential clients, and employers.
- Must ensure that disclosures are prominent and conveyed in simple language, and communicate relevant information effectively.
- While owning an analyzed stock is not illegal, large ownership may be anticipated to impair judgment.
- It is best practice to inform your employer and include the ownership of a covered stock in your investment report.
Priority of Transactions- Client and employer investment transactions must take precedence over personal trades for personal gain.
- Before providing a recommendation report, no shares (client or personal) may be traded.
- It is advised to avoid participating in initial public offerings (IPOs) in order to prevent the appearance of a conflict of interest.
- Complying with this criterion requires more than just disclosure, and the execution costs are irrelevant.
Referral Fees- Must disclose any compensation received from (or paid to) others for the recommendation of products or services to the employer, clients, and potential clients, as appropriate.
- All referral arrangements, whether external or internal, must be disclosed.
- Referral fees are not needed to be disclosed if they are common and reasonably expected to be paid by the employer to the employee.
Performance Presentation- Reasonable efforts must be made to ensure that the presentation of performance results is fair, complete, and accurate.
- Terminated accounts must be included in historical performance.
- Consider the audience's level of sophistication.
- There is no requirement for a minimum performance history.
- Simulated results may be reported, provided this is disclosed.
- Must publish if the results are made under the authority of another enterprise.
- The disclosure of the footnote is not sufficient to comply with this standard.
- Recommended to disseminate new recommendations to all interested clients or suitable investment subjects.
- The specific sources of investment performance must be cited (e.g. too vague “investment professionals”).
- Recommended to utilize GAPS in a performance presentation.
Preservation of ConfidentialityCandidates and members are required to keep information regarding current, past, and potential clients unless:
- The information relates to illegal activities on the part of the client or prospective client,
- There is a legal requirement for disclosure, or
- The customer or prospective client authorizes the disclosure of information.

Standard 7: Responsibilities as a CFA Institute Member, or CFA Candidate

Standard’s nameDescription
Conduct as Members and Candidates in the CFA program- Must not participate in any behavior that compromises CFA Institute's or the CFA designation's reputation or integrity, or the integrity, validity, or security of the CFA exams.
- Even if the activity is not carried out, the preparation of an effort to break the integrity of an exam threatens the integrity of the CFA program.
Reference to the CFA Program, the CFA Institute, and the CFA Designation- Must not inflate the significance of the CFA certification or imply that participation confers higher performance potential on analysts.
- "CFA" cannot be used as a noun.
- Individuals must be enrolled for the next scheduled CFA test to be considered candidates.
- Permitted to express negative opinions about the CFA program or the CFA Institute.
- Those who have passed all three levels of the CFA Program, have acquired their charters, and are dues-paying Charterholders in good standing can use the CFA designation.
Referral Fees- Must disclose any compensation received from (or paid to) others for the recommendation of products or services to the employer, clients, and potential clients, as appropriate.
- All referral arrangements, whether external or internal, must be disclosed.
- Referral fees are not needed to be disclosed if they are common and reasonably expected to be paid by the employer to the employee.
Performance Presentation- Reasonable efforts must be made to ensure that the presentation of performance results is fair, complete, and accurate.
- Terminated accounts must be included in historical performance.
- Consider the audience's level of sophistication.
- There is no requirement for a minimum performance history.
- Simulated results may be reported, provided this is disclosed.
- Must publish if the results are made under the authority of another enterprise.
- The disclosure of the footnote is not sufficient to comply with this standard.
- Recommended to disseminate new recommendations to all interested clients or suitable investment subjects.
- The specific sources of investment performance must be cited (e.g. too vague “investment professionals”).
- Recommended to utilize GAPS in a performance presentation.
Preservation of ConfidentialityCandidates and members are required to keep information regarding current, past, and potential clients unless:
- The information relates to illegal activities on the part of the client or prospective client,
- There is a legal requirement for disclosure, or
- The customer or prospective client authorizes the disclosure of information.

Introduction to the Global Investment Performance Standards (GIPS)

cfa level 1 ethics

Why was GIPS created?

  • There are three chapters in the 2020 GIPS standards:
    • GIPS Standards for Firms – The CFA Institute recommends candidates to examine this section of the most recent 2020 GIPS standards.
    • GIPS Standards for Asset Owners
    • GIPS Standards for Verifiers
  • GIPS was established to make it simpler to compare historical performance between various investment companies and to guarantee that investment performance is accurately represented and fully disclosed.
  • These misleading activities are more likely to occur in the absence of GIPS:
    • Selecting a top-performing portfolio to represent the firm’s overall investment results for a certain mandate as a representative account.
    • Survivorship bias: presenting an “average” performance history that eliminates portfolios with low performance that led to the firm’s closure.
    • Varying time periods: Presenting results for a specific time period during which the business earned exceptional returns or outperformed its benchmark, making comparisons with the results of other firms difficult or impossible.

Who has the right to claim compliance?

  • Any company that manages assets can opt to follow the GIPS standards. Firms that compete for business, however, must adhere to the GIPS Standards for Firms.
  • Consultants are unable to claim compliance unless they control the assets for which they are claiming compliance.
  • Software (and the suppliers that provide software) cannot be “compliant” in the same way. Only a business managing assets may claim compliance after it has met all of the standards’ requirements.
  • If they compete for business, asset owners may follow the GIPS requirements in the same way that corporations do.
  • To claim GIPS compliance, a company must meet all GIPS criteria across the board, not only for a specific product or composite.
  • It is optional to follow the GIPS guidelines.

Composites

  • All actual fee-paying discretionary portfolios managed according to the same mandate, objective, or strategy must be included in a composite.
    • You should exclude clients who do not pay fees (for example, charities).
    • Discretionary indicates that the investment management business, rather than the customer, has the authority to choose and acquire appropriate assets for the portfolio.
  • All fee-paying discretionary accounts managed by the company must be included in at least one composite in order to claim compliance.

Verification

  • Firms that claim GIPS compliance are responsible for their claims and for maintaining that compliance, i.e. it is self-regulating.
  • Verification is performed for the entire company, not for individual composites.
  • Third-party verification of GIPS compliance is optional, although it would give a firm’s claim of compliance more credibility.

How to study Ethics CFA Level 1?

Ethics is one of the most important CFA Level 1 subjects in the Program, according to the CFA Institute. Therefore, make sure you give yourself enough time to prepare for this subject. Consider the following CFA level 1 Ethics tips while creating a study strategy for the CFA Level I exam.

1. Read the Ethics Section several times

Ethics questions are complex and ambiguous, and settling on the right answer takes time. The good news is that after you’ve done so, you’ll get payback for Levels 2 and Level 3. Much of the ethical content is the same at all levels.

It will take some repetition to get you to think about it the appropriate way. Instead of cramming it all in at the end, try doing some questions every day for a few weeks.

2. Know the CFA Ethics Standards

The following are the 7 Standards of Conduct:

  • Professionalism
  • Integrity of capital markets
  • Duties to clients
  • Duties to employers
  • Investment analysis, recommendations, and actions
  • Conflicts of interest
  • Responsibilities as a CFA Institute member or CFA candidate

You must understand the meaning of the standards and be able to distinguish between them.

For example, you should be able to choose the proper standard from a list of options if you are asked: “which standard is…”

3. Distinguish between the CFA Code of Ethics and the Standards.

We also have the CFA Code of Ethics in addition to the Standards:

  • Act with integrity, competence, diligence, respect
  • Client interest first
  • Use reasonable care and exercise independent professional judgment
  • Practice and encourage others
  • Promote the integrity of capital markets
  • Maintain and improve professional competence

Candidates are now confused as to which are the standards and which are the codes. Keep in mind that the Standards tell you what to do and the Code shows you how to accomplish it.

4. Don’t blindly memorize

Because some industry-specific situations (such as the Standards and Codes) are difficult to generalize, CFA Level 1 ethics requires a little more knowledge.

Having said that, you don’t need to memorize things like the numbering (for example, what is the Code’s II(B)). Instead of memorizing a bunch of regulations, you should find out how the reasoning works, such as what is allowed and what is not allowed.

5. Develop your “Ethics Intuition” by reading examples

The easiest method to do it is to go through all of the examples. Each scenario is based on an underlying standard. It’s the best place to learn how to tell if something is compliant or not with a set of rules.

Also, complete as many ethical questions as you can, then read the explanation solutions for both correct and wrong answers. Slowly but steadily, you’ll get the hang of it, developing your “ethics intuition” along the way.

6. Consider yourself a lawyer

I know two readers who found ethics to be quite simple and who score far above 70% on their exams. Both have completed law school.

Students in law school are taught how to interpret the law and perform numerous mental tests in order to identify whether there has been a violation and, more crucially, what exact action in the chain of events caused the line to be crossed.

IRAC (issue, rule, application, conclusion) is a lawyer’s technique. It’s a fantastic tool for resolving ethical dilemmas.

Read more >> How to pass CFA level 1 in 2 weeks?

Why is it so important to master the exam’s Ethics section?

cfa level 1 ethics

Of course, passing the full exam is crucial, but there are several unique reasons to grasp Ethics without a doubt:

  • It accounts for a significant portion of the exam.
  • If you’ve studied and practiced, acing it shouldn’t be too tough. That is, you may be able to get a better return on your study investment.
  • If you’re on the borderline of passing, your Ethics score may be enough to push you over the line.
  • To summarize, it’s low-hanging fruit – and there’s enough of it – provided you’ve planned ahead.

Despite the fact that ethics is an important aspect of the CFA exam and is taken seriously by the CFA Institute, candidates frequently ignore it. Many candidates feel they are ethical, thus they assume it is useless to spend much study time on the subject when other “tougher” sections loom large. Many people feel that ethics is simple and intuitive, yet CFA ethics questions are complex, sophisticated, and specific to the CFA profession. The CFA Level 1 Ethics section delivers high study time value with significant payback prospects at test time for the well-prepared student.