Ethics in Finance

Ethics in Finance

• The primary purpose of ethics in finance is to encourage fair and responsible decision-making
• Profit-maximization ethics is not a traditional ethical theory
• The "agent-principal problem" arises when managers prioritize their interests over shareholders'
• Utilitarianism focuses on producing good outcomes rather than intentions or duties
• Misconduct in finance is particularly harmful because it can lead to a breakdown of trust in financial systems
• The Madoff Investment Scandal involved a Ponzi scheme that defrauded investors of billions of dollars
• The CFA Institute’s Code of Ethics emphasizes acting with integrity, competence, and diligence
• Manipulation is not an ethical value in finance
• The 2008/09 financial crisis was mainly caused by risky subprime mortgage lending and securitization issues
• A key ethical issue in international finance is conflicts of interest in financial decision-making
• Financial institutions have an ethical responsibility to society due to the impact of their decisions on the economy and the public’s financial security
• Encouraging financial fraud for short-term profits is not a method of preventing unethical behavior in finance
• An example of a conflict of interest in finance is a trader using non-public information to gain an advantage
• The Libor Scandal involved manipulating interest rates affecting global markets
• The primary goal of Corporate Social Responsibility (CSR) in finance is to balance business goals with social and environmental concerns
• A common incentive for unethical behavior in finance is high potential financial gain from misconduct
• Government regulation enforces ethical behavior in finance through laws and penalties
• Investing in companies that promote sustainability exemplifies an ethical financial practice
• A key ethical issue in the Wells Fargo account fraud scandal involved employees creating fraudulent accounts without customer consent
• Transparency is important in financial ethics since it ensures fair and informed decision-making for stakeholders

CFA Standards of Professional Conduct

• Investment professionals must comply with the strictest applicable law, rule, or regulation, according to CFA Standard I(A)
• CFA members should follow the CFA Standards as they are stricter, where a local law is less strict
• "Independence and Objectivity" means analysts should avoid receiving gifts or benefits that may compromise judgment
• Using another's research without attribution violates CFA Standard I(C) – Misrepresentation
• According to CFA Standard I(D) – Misconduct, acting dishonestly in professional activities is unethical
• "Material Nonpublic Information" refers to insider information likely to affect an investment's value
• When an analyst receives confidential nonpublic information about a company’s financial trouble, they should refrain from trading
• Spreading false rumors to mislead investors is an example of market manipulation under CFA Standard II(B)
• Under CFA Standard III(A) – Duty of Loyalty, Prudence, and Care, financial professionals must prioritize client interests
• A portfolio manager executing unnecessary trades to generate higher commissions violates Standard III(A) – Loyalty, Prudence, and Care
• CFA Standard III(B) – Fair Dealing requires investment professionals to treat all clients fairly, but different service levels may be allowed
• Recommending a high-risk hedge fund to a conservative client violates Standard III(C) – Suitability
• A key requirement of CFA Standard III(D) – Performance Presentation is to avoid misleading investment performance reports
• According to CFA Standard III(E) – Preservation of Confidentiality, financial professionals can disclose client information if required by law
• Before copying proprietary models from a current employer, a CFA professional being offered a job by a competing firm must obtain written permission
• Disclosure of additional compensation arrangements is covered by Standard IV(B) – Additional Compensation Arrangements
• An investment manager receiving a gift from a client for exceeding return expectations should report the gift to their employer
• Supervisors must ensure compliance with laws and ethical guidelines, according to CFA Standard IV(C)
• Artificially inflating stock prices through false information is a violation of CFA Standard II(B) – Market Manipulation
• The CFA Code of Ethics requires professionals to act with Independence, Objectivity, and Integrity

CFA Standards of Professional Conduct and GIPS

• Using only internal research and avoiding third-party reports is NOT required under Standard V(A) Diligence and Reasonable Basis
• The primary objective of Standard V(B) Communication with Clients and Prospective Clients is to provide clients with a clear understanding of investment processes and associated risks
• Richard Dox was found to be in violation of Standard V(B) for presenting an opinion as if it were a fact
• Under Standard V(C) Record Retention, investment professionals must maintain records of their research and investment recommendations
• The key principle behind Standard VI(A) Disclosure of Conflicts is making full and fair disclosure of any potential conflicts
• Gary Carter failed to disclose the additional compensation he received for selling stocks and inform his employer of the compensation arrangement under Standard VI(A)
• According to Standard VI(B) Priority of Transactions, clients' transactions should take priority over personal trades
• Carol Baker committed an ethical violation under Standard VI(B) when allocating "hot issue" shares to her husband before her clients
• The primary purpose of Standard VI(C) Referral Fees is to require disclosure of referral fees to clients and employers
• Under Standard VII(A), a CFA candidate should NOT cheat on CFA exams, misrepresent their CFA status or share confidential exam content with others
• Travis Nero committed an ethical violation under Standard VII(A) when sharing confidential CFA exam content with candidates
• James Simpson violated Standard VII(B) after falsely claiming to be a CFA member after retirement
• A key benefit of the Global Investment Performance Standards (GIPS) that ensures investment performance data is standardized and comparable
• Personal investment strategies are not a component of GIPS
• Firms must provide fully compliant historical performance data according to GIPS General Provisions
• GIPS improves investor confidence by standardizing investment performance reporting
• Diligence ensures investment recommendations are well-researched and reliable under Standard V(A)
• Investment professionals must distinguish between fact and opinion under Standard V(B) to help clients understand the reliability of investment analyses
• A key issue in conflict of interest under Standard VI(A) is the influence of compensation structures on investment advice
• The role of record retention in Standard V(C) is to provide evidence in case of compliance investigations or client disputes

Ethics in International Finance

• Free markets are generally considered ethical because they provide an efficient allocation of resources
• Hedge funds contribute to market failures by increasing short-term market volatility
• Government bailouts leading to excessive risk-taking by banks is an example of a negative externality in financial markets
• Moral hazard, leading to excessive risk-taking, is a key consequence of institutions being too big to fail
• Markets can address negative externalities by implementing pricing mechanisms like carbon taxes to create financial incentives for companies to reduce pollution
• Mis-selling financial products is unethical because it prioritizes volume-based sales incentives over customer needs
• Key ethical concern related to money laundering is allows illicit funds to enter the financial system
• Making investment decisions based solely on profitability is not a key element of the CFA Ethical Decision-Making Framework
• Recognizing conflicts of interest in financial decisions is important to avoid ethical dilemmas and maintain integrity
• A common situational influence affecting ethical decision-making is conforming to group pressure
• Firms should implement a Code of Conduct in order to establish clear ethical guidelines for employees
• A key component of an ethical corporate culture is encouraging ethical behavior from the top down
• A common source of ethical pressure in financial firms is performance-based remuneration structures
• Ethics training programs help firms prevent and respond to unethical behavior
• A financial advisor prioritizes their bonus over client interests leading to a multi-level conflict of interest
• One should follow the law and ethical guidelines in the divorce-related ethical case
• Financial firms are expected to combat money laundering in order to maintain financial integrity and prevent illegal activities
• Implementing transaction audits and compliance supervision is an example of ethical systems and processes in finance
• A key aspect of responsible financial decision-making is identifying conflicts of interest and prioritizing ethical considerations
• Firms encourages ethical behavior by fostering a culture of integrity and accountability

ESG Investing

• ESG stands for Environmental, Social, and Governance
• Carbon emissions are an environmental factor in ESG
• Employee satisfaction is an example of a social factor in ESG
• Bribery and corruption policies commonly evaluated in ESG investing
• Socially responsible investing (SRI) is another name for ESG investing
• ESG investing is often referred to as SRI, or responsible investing (RI)
• ESG investing has grown in popularity because investors seek to integrate ethics into financial decision-making
• The primary trade-off in ESG investing is between profitability and ethical impact
• An increase in socially responsible asset management has been a key driver for ESG investing growth in Australia
• Millennials are often seen as a key driver of ESG investing
• Difficulty in measuring social impact is one of the main challenges of ESG investing
• Avoiding investments in unethical industries is "negative screening" in ESG investing
• Selecting companies that actively promote ESG principles is "positive screen" in ESG investing
• ESG integration involves Incorporating ESG factors into investment valuation models
• Impact investing involves Investing in projects with measurable social benefits
• By advocating for ESG improvements through shareholder voting and direct action, Activist ESG investors influence corporate strategy
• Social impact bonds are Government-issued bonds that fund social projects
• A major barrier to ESG investing is there is a Lack of ESG regulations
• The fact that Many investors are unaware of how to incorporate ESG principles is a key reason why ESG education is important for investors
• Venture philanthropy is a type of ESG investing where profits are reinvested into social causes
• A key benefit of ESG investing is that It improves corporate accountability and sustainability

Fintech and Cryptocurrencies

• Financial technology (FinTech)'s the primary goal is to enhance and innovate financial services using technology
• Consumer demand for faster and more convenient transactions a key driver of innovation in payment systems
• Bitcoin is different from traditional currencies as It is decentralized and not controlled by any central authority
• Satoshi Nakamoto credited with inventing Bitcoin
• Bitcoin solve the double-spending problem using blockchain technology
• The maximum supply of Bitcoin that can ever exist is 21 million
• Difficult to counterfeit is a key characteristic of a good currency
• A major benefit of Bitcoin transactions, compared to traditional banking, is that They are instant and have lower transaction fees
• The blockchain in cryptocurrency is A public ledger that records all transactions
• The process of verifying and adding transactions to the blockchain is what Bitcoin mining is
• The number of transactions they verify and add to the blockchain determines the reward for Bitcoin miners
• A Bitcoin wallet is A digital tool to store and manage Bitcoin
• The purpose of a Bitcoin private key is to authorize and control Bitcoin access
• "Hot storage" in Bitcoin security is Storing Bitcoin on an internet-connected device
• "Cold storage" in Bitcoin security is Storing Bitcoin offline for enhanced security
• A major risk of Bitcoin is High energy consumption from mining
• Bitcoin is considered a decentralized currency because No central authority manages or issues Bitcoin"
• The role of Bitcoin addresses is to track and send Bitcoin transactions
• Keys disadvantage of Bitcoin is It is susceptible to hacking and fraud
• The main reason Bitcoin transactions are irreversible is to prevent fraud and ensure finality

The Global Economy and Trade

• Economic interdependence means countries rely on each other for trade and economic growth
• A major advantage of economic interdependence is that it promotes free trade and efficiency
• Self-sufficiency in production is not a key pillar of economic openness
• The law of comparative advantage states that countries should produce goods they can make most efficiently
• Globalization increases competition and lowers prices
• A common argument against globalization is may lead to job losses in certain industries
• A primary goal of free trade agreements is to facilitate easier trade between member nations
• More than 50% of world trade occurs under preferential trade agreements
• An economic bloc is a group of countries that cooperate economically
• The primary goal of the European Union (EU) is to promote economic integration and free trade
• The primary purpose of the Trans-Pacific Partnership (TPP) was to increase economic ties between Pacific nations
• The Closer Economic Relations (CER) Agreement is a trade agreement between Australia and New Zealand
• The primary of the Asia-Pacific Economic Cooperation (APEC) is to promote free trade in the Pacific Rim
• The Regional Comprehensive Economic Partnership (RCEP) is a free trade agreement among 15 Asia-Pacific nations
• Foreign Direct Investment (FDI) means a business expanding operations into another country
• A key advantage of Foreign Direct Investment (FDI) is that it promotes economic growth and job creation
• The primary function of the Clearing House Interbank Payments System (CHIPS) is to facilitate large international money transfers
• Eurocurrencies are currencies held in offshore banks outside their home country
• A Eurobond is a bond issued in a country but denominated in a foreign currency
• A major benefit of globalization is increased trade and investment opportunities

Trade Theory and Policy

• The main objective of mercantilism is to accumulate gold and silver by maintaining a trade surplus
• A major flaw in the mercantilist doctrine is that it assumes that trade is a zero-sum game
• The key principle of absolute advantage is that countries should produce goods they can make most efficiently
• Adam Smith introduced the concept of absolute advantage
• Autarky is a situation where a country does not engage in international trade
• The law of comparative advantage states that nations benefit from trade even if one country is more efficient at producing all goods
• According to comparative advantage, relative efficiency of production matters most in trade
• The Heckscher-Ohlin Theory suggests that trade patterns are based on a country’s resource availability
• A key assumption of Heckscher-Ohlin Theory is that countries will specialize based on their factor endowments
• Diminishing returns to specialization means that after a certain point, increasing specialization leads to lower efficiency
• First-mover advantages and economies of scale influence trade patterns under New Trade Theory
• The Balance of Payments (BOP) records a nation’s financial transactions with the rest of the world
• A trade surplus means that a country exports more than it imports
• The Terms of Trade (TOT) index measures the ratio of export prices to import prices
• A tariff is a tax on imported goods
• An import quota is a restriction on the quantity of goods that can be imported
• Dumping in international trade refers to selling goods in a foreign market at a price lower than production costs
• Economic diplomacy is using diplomatic efforts to promote trade, investment, and economic growth
• A protective tariff is designed to shield domestic industries from foreign competition
• Australia’s economic diplomacy strategy includes promoting trade, encouraging growth, attracting investment, and supporting businesses

Foreign Exchange Markets

• The primary function of the foreign exchange (FX) market is to facilitate currency conversion for trade and investment
• Banks, FX dealers, and central banks are the major players in the FX market
• A spot transaction in the FX market is a currency exchange that happens immediately (T+2 settlement)
• A forward transaction is a future currency exchange at an agreed rate and a method of avoiding currency fluctuations
• The primary purpose of a currency swap is to exchange one currency for another and revert later at a pre-agreed rate
• An exchange rate represents the price of one currency in terms of another
• The base currency is the one being bought or sold, and the quote currency represents its price
• "Majors" in the FX market refers to most actively traded currency pairs
• A cross rate is a currency exchange rate calculated from two major currency pairs
• Exchange rate arbitrage is buying and selling currencies in different markets to profit from price differences
• Two-point arbitrage is buying and selling the same currency in two financial centers
• Three-point arbitrage is the simultaneous exchange of three different currencies
• FX futures are agreements to trade a currency at a fixed rate on a future date
• A forward premium occurs when the forward rate is higher than the spot rate
• A forward discount occurs when the forward exchange rate is lower than the spot rate
• Currency speculation is trading currencies to profit from exchange rate fluctuations
• High volatility leading to potential financial losses is the primary risk of FX trading
• Central banks influence FX markets by buying or selling currencies to stabilize exchange rates
• FX swaps exchange one currency for another temporarily and revert to the original currency at an agreed rate
• The main advantage of FX CFDs is that they provide high leverage and easy access to currency trading

Exchange Rate Systems

• An exchange rate system refers to A system that determines how a country's currency is valued against others
• A floating exchange rate system A system where exchange rates fluctuate based on market forces
• The definition of a pegged exchange rate A system where a currency is fixed to another currency or a basket of currencies
• Allowing the currency to float freely is NOT a common method of pegging a currency
• The "Impossible Trinity" in exchange rate policy, stating that a country cannot have a fixed exchange rate, independent monetary policy, and free capital flows simultaneously
• US Dollar holds the highest percentage of global foreign exchange reserves
• The Bretton Woods System was A semi-fixed exchange rate system that tied currencies to the US Dollar convertible to gold
• The US abandoned the gold standard, making the dollar a fiat currency led to the collapse of the Bretton Woods System
• A managed floating exchange rate system features A system where the central bank intervenes occasionally to stabilize currency movements
• The primary role of central banks in a managed floating exchange rate system is to intervene in foreign exchange markets to reduce short-term fluctuations
• A country's intentional intervention in foreign exchange markets to gain a trade advantage is the defition of Currency manipulation
  • China is a country often accused of currency manipulation
  • Maintaining a pegged exchange rate carries the risk of Economic imbalances and financial crises if the fixed rate is unsustainable
• Currency devaluation is A deliberate reduction in a currency's value to boost exports
• Currency appreciation A rise in the value of a country's currency relative to others
• A currency crisis A sharp decline in a country's currency value due to economic instability or speculative attacks
• Name one example of a historical currency crisis: The Mexican Peso Crisis (1994)
• Capital control involves Government-imposed restrictions on foreign exchange transactions and capital movement
• Special Drawing Rights (SDRs) are An IMF-created international reserve asset based on a basket of major currencies
• A main disadvantage of fixed exchange rates is Limited flexibility in responding to economic shocks and financial crises

Exchange Rate Determination and PPP

• Economic fundamentals, such as productivity, inflation, and trade balance will determines exchange rates in the long run
• The formula for Trade-Weighted Index (TWI) is A weighted average of a currency's value against a basket of trading partners' currencies
• An increase in demand for the country's goods and services can cause a currency to appreciate in value
• When inflation rises significantly, look for It depreciates due to a loss of purchasing power to happen to a country's currency
• According to the Law of One Price, identical goods should Cost the same in different countries when expressed in a common currency
• Purchasing Power Parity (PPP) means A theory stating that exchange rates adjust to equalize the cost of goods between countries
• The main assumption behind the PPP theory is that There are no transportation costs or trade barriers
• The "Big Mac Index” serves to compare the purchasing power of currencies using the price of a Big Mac
• If a country's inflation rate is higher than its trading partners, its exchange rate It will depreciate
• The Law of One Price suggest The idea that identical goods should have the same price in different countries when converted to a common currency
• There are several reasons for Purchasing Power Parity (PPP), especially that Exchange rates should adjust to equalize the cost of goods across countries
• One should assume that The currency of the higher inflation country should depreciate if inflation is higher in one country than in another under PPP theory
• An informal way to measure Purchasing Power Parity (PPP) using the price of McDonald's Big Macs in different countries is also known as the "Big Mac Index"
• Exchange rates are based on investors' expectations and capital flows by way of Asset Market Approach to exchange rate determination
  • A strategy to buy and sell currencies in different markets to profit from exchange rate differences is known as currency arbitrage
  • A technique to eliminate exchange rate risk is known as hedging in currency markets
• Internal hedging technique for businesses - is Borrowing in the same currency as revenues to minimize risk Using forward contracts or options to manage currency risk is An method for what would be Market-based hedging technique to be The fact that The Higher expected interest rates attract investors, leading to currency appreciation impacts how interest rate expectations impact currency values
• Capital flows and market speculation drives Short-term exchange rate movements