Conflicts of Interest - Other Prohibited Behaviors

Actions that are considered either unethical or conflicts of interest include the following:

  • Misrepresentations - IA cannot misrepresent his/her qualifications, services, or fees to clients or potential clients

  • Third-party research - IA cannot use or rely on third-party research for investment recommendations or reports without disclosing this fact to the client

  • Advertisements - IA cannot use an advertisement that does not comply with the guidelines of the Investment Advisers Act of 1940

  • Failure to state important facts - such as failing to state the tax implication of a transaction

  • Trading equities based on information from the analyst department before his or her clients have been given the information (also known as front running).

  • Failing to follow a client's instructions

  • Making misleading or untrue statements, including:
    • Stating or implying that either the state administrator or the SEC approves or endorses the IA
    • Making exaggerated claims about investment performance
    • Stating or implying that either the administrator or the SEC approves of a specific investment
    • Making inaccurate statements regarding commissions or markups
    • Giving inaccurate market quotations
    • Misrepresenting the client's account status

The North American Securities Administrators Association (NASAA) lists fraudulent and unethical business practices for investment advisers, agents and broker-dealers in statements of policy and model rules it publishes.

Agency cross transactions
The Investment Advisers Act of 1940 sets strict standards for IA transactions with a client. Investment advisers are prohibited from to selling any security from its own account to a client without notifying the client in writing and obtaining the client's consent before completion of the transaction. The same prohibition applies to purchasing securities from a client.


STOP
Unethical Business Practices of Investment Advisers

http://www.nasaa.org/content/Files/IAUnethical091105.pdf



Exam Tips and Tricks
The exam is likely to contain a number of questions on prohibited behaviors, such as misleading statements and misrepresentations. Consider this sample question:

All of the following are unethical behaviors prohibited under the Uniform Securities Act EXCEPT:

  1. Deliberately failing to follow a client's instructions
  2. Executing a trade, upon the client's orders, that the IA believes to be unsuitable
  3. Telling a client that the IA is a registered investment adviser and has therefore been approved by the state administrator
  4. Failing to tell a client that making trades recommended by the IA will subject the client to a large tax liability

The correct answer is "b" - the IA must follow client orders. It would be unethical only if the IA recommended the inappropriate trade.

Insider Trading
Investment advisers are required to establish, maintain and enforce written policies and procedures to prevent insider trading. It is illegal to make securities trades based on material information not made available to the public. This ban applies not only to company insiders or employees but to anyone with access to nonpublic information. An amendment to the Securities Exchange Act of 1934 -- the Insider Trading Act of 1984 --increased penalties that could be levied and clarified who could be held responsible for illegal insider trading. The amendment applies not only to those who trade based on nonpublic information but also to those who pass on such information or aid those who engage in such trading.

Conclusion
Within this section we have examined activities that investment advisers are prohibited from, such as churning, loaning money to (or borrowing from) clients and front running, among others. In addition, we've looked at how IAs must uphold the highest level of confidentiality with clients.

  1. Conflicts of Interest

    Churning

    • Misrepresentations - IA cannot misrepresent his/her qualifications, services, or fees to clients or potential clients

    • Third-party research - IA cannot use or rely on third-party research for investment recommendations or reports without disclosing this fact to the client

    • Advertisements - IA cannot use an advertisement that does not comply with the guidelines of the Investment Advisers Act of 1940

    • Failure to state important facts - such as failing to state the tax implication of a transaction

    • Trading equities based on information from the analyst department before his or her clients have been given the information (also known as front running).

    • Failing to follow a client's instructions

    • Making misleading or untrue statements, including:
      • Stating or implying that either the state administrator or the SEC approves or endorses the IA
      • Making exaggerated claims about investment performance
      • Stating or implying that either the administrator or the SEC approves of a specific investment
      • Making inaccurate statements regarding commissions or markups
      • Giving inaccurate market quotations
      • Misrepresenting the client's account status

Client Loans

    • Making more trades than necessary for the purpose of increasing commissions is unethical, since IAs must make trades in the best interests of their clients.
  1. Investment Adviser Duties

    Confidentiality

    • Borrowing money from a client is prohibited unless the client is a broker-dealer or an affiliate of the investment adviser or is in the business of lending money
    • Lending money to a client is prohibited unless the IA is a lending financial institution or the client is an affiliate or employee of the IA

  2. Fiduciary Duties

      • All client information must be held with the strictest confidence, unless the client has authorized its release in writing or the SEC, IRS or other governmental authority requires the information by law.
    1. Other Prohibited Behaviors

      • All IAs must be loyal, provide objective recommendations that are appropriate for each client and ensure best execution for securities transactions.

    2. Introduction
      Related Articles
      1. Personal Finance

        RIAs and Brokers: What's the Difference?

        RIAs and brokers are held to different standards when providing investment advice. Here's how they differ.
      2. Investing Basics

        Brokers and RIAs: One and the Same?

        Brokers and registered investment advisors have some key differences. Here's what you need to know.
      3. Professionals

        Understanding Series 6

        Upon successful completion of the Series 6, an individual will have the qualifications needed to sell open end mutual funds and variable annuities
      4. Professionals

        Top Strategies on How to Become a Stock Broker

        Gunning to be a stock broker and want an edge? Here's some veteran advice.
      5. Trading Systems & Software

        Steps to Starting Up an Independent Broker Dealer

        Launching your own broker-dealer is a lot of work, but the potential payoff is great, both personally and financially.
      6. Professionals

        Understanding Series 63

        Series 63 is a securities license that entitles the holder to sell securities in a particular state.
      7. Professionals

        How To Answer Option Questions On The Series 7 Exam

        Learn how to answer option questions on the Series 7 exam. Pass your Series 7 exam with the help of these tips.
      8. Insurance

        Municipal Bond Tips For The Series 7 Exam

        Learn to distinguish between general obligation and revenue bonds to ace this test.
      9. Retirement

        6 Proven Tips For Series 6 Success

        These techniques can help you pass this test without the added stress.
      10. Insurance

        Tips For Passing The Series 6 Exam

        Find out what you can do during the test to make sure you get a passing score.
      RELATED TERMS
      1. Series 6

        A securities license entitling the holder to register as a limited ...
      2. Series 79

        A examination to ensure a candidate is qualified to become a ...
      3. Research Analyst

        A person who prepares investigative reports on equity securities. ...
      4. Series 34

        An exam required for individuals seeking to engage in off-exchange ...
      5. Financial Advisor

        One who provides financial advice or guidance to customers for ...
      6. Series 23

        An exam offered by the Financial Industry Regulatory Authority ...
      RELATED FAQS
      1. If I have only a limited amount of time to study for the Series 6, what should I ...

        The Series 6 Investment Company and Variable Contracts Products Representative Qualification Examination is administered ... Read Full Answer >>
      2. What role does the 'chip cycle' play in the electronics sector?

        There are several highly acclaimed private Series 6 Exam courses in the United States. Many can be completed online. Popular ... Read Full Answer >>
      3. What does passing the Series 6 enable me to do?

        The Series 6, or the Investment Company Products/Variable Contracts Limited Representative, exam is administered by the Financial ... Read Full Answer >>
      4. What are the differences between the Series 6 exam and the Series 7 exam?

        The Financial Industry Regulatory Authority (FINRA) offers a variety of licenses that must be obtained before conducting ... Read Full Answer >>
      5. Do I have to successfully complete the Series 7 exam before I can register for the ...

        There are no prerequisites to register for the Series 63 exam. However, once you have registered for the exam, you must schedule ... Read Full Answer >>
      6. I completed the Series 6, do I have to complete the entire Series 7?

        After having written the Series 6 examination, there would be significant overlap with the Series 7 in areas such as mutual ... Read Full Answer >>
      Trading Center
      ×

      You are using adblocking software

      Want access to all of Investopedia? Add us to your “whitelist”
      so you'll never miss a feature!