Book 1. Foundations of Risk Management

FRM Part 1

FRM 11. GARP Code of Conduct

Presented by: Sudhanshu

Module 1. GARP Code of Conduct

Topic 1. Introduction to GARP Code of Conduct

Topic 2. Professional Integrity and Ethical Conduct

Topic 3. Conflict of Interest

Topic 4. Confidentiality

Topic 5. Fundamental Responsibilities

Topic 6. Best Practices

Topic 7. Violations of the Code of Conduct

Topic 1. Introduction to GARP Code of Conduct

Developed by Global Association of Risk Professionals (GARP)
Applies to all GARP members, including FRM candidates
Purpose: To promote ethical behavior and professional integrity in financial risk management
Two Main Areas:
- Principles (Ethics-based)
- Professional Standards (Conduct-based)
Violations may lead to suspension, removal, or loss of credentials

Topic 2. Professional Integrity and Ethical Conduct

GARP Members shall:

Act professionally, ethically, and with integrity in all dealings (1.1)
Exercise independent judgment and avoid compromising gifts/benefits (1.2)
Prevent their services from being used for illegal or fraudulent purposes (1.3)
Avoid misrepresentation of analysis, recommendations, or actions (1.4)
Refrain from dishonest or deceptive behavior (1.5)
Maintain the integrity of GARP, FRM designation, and exam process (1.6)
Be aware of cultural differences and uphold the highest ethical standards (1.7)

Practice Questions: Q1

Q1. Jack Schleifer, FRM, is an analyst for Brown Investment Managers (BIM). Schleifer has recently accepted an invitation to visit the facilities of ChemCo, a producer of chemical compounds used in a variety of industries.

ChemCo offers to pay for Schleifer’s accommodations in a penthouse suite at a luxury hotel and allow Schleifer to use the firm’s private jet to travel to its three facilities located in New York, Hong Kong, and London. In addition, ChemCo offers two tickets to a formal high society dinner in New York. Schleifer declines to use ChemCo’s corporate jet or to allow the firm to pay for his accommodations but accepts the tickets to the dinner (which he discloses to his employer) since he will be able to market his firm’s mutual funds to other guests at the dinner. Has Schleifer violated the GARP Code of Conduct?

A. Yes.

B. No, since he is using the gifts accepted to benefit his employer’s interests.

C. No, since the gifts he accepted were fully disclosed in writing to his employer.

D. No, since the gift he accepted is of nominal value and he declined to accept the

hotel accommodations and the use of ChemCo’s jet.

Practice Questions: Q1 Answer

Explanation: A is correct.

GARP Members must not offer, solicit, or accept any gift, benefit, compensation, or consideration that could be reasonably expected to compromise their own or another’s independence and objectivity.

Schleifer has appropriately rejected the offer of the hotel accommodations and the use of ChemCo’s jet. However, Schleifer cannot accept the tickets to the dinner. Since it is a formal high-society dinner, the tickets are most likely expensive or hard to come by.

Even though he has disclosed the gift to his employer and he plans to use the dinner as a marketing opportunity for his firm, the gift itself may influence Schleifer’s future research in favor of ChemCo.

Allowing such potential influence is a violation of Professional Integrity and Ethical Conduct (Standard 1.2).

Practice Questions: Q2

Q2. Beth Bixby, FRM, oversees a mid-cap fund that is required to invest in a minimum of 40 and a maximum of 60 different issues. Bixby uses a quantitative approach to actively manage the assets.

In promotional materials, she states that “through our complex quantitative approach, securities are selected that have similar exposures to a number of risk factors that are found in the S&P 500 Index. Thus the fund is designed to track the performance of the S&P 500 Index but will receive a return premium of between 2% and 4% according to our model’s risk-return measures.” This statement is:

A. permissible since the assertion is supported by modern portfolio theory and estimates from the firms’ model.

B. not permissible since Bixby is misrepresenting the services that she and/or her firm are capable of performing.

C. not permissible since Bixby is misrepresenting the investment performance she and/or her firm can reasonably expect to achieve.

D. permissible since the statement describes the basic characteristics of the fund’s risk and return objectives.

Practice Questions: Q2 Answer

Explanation: C is correct.

It is not reasonable for Bixby to expect a 40-to-60 stock mid-cap portfolio to track the entire S&P 500 Index, which is a large-cap index.

She should know that there will be periods of wide variance between the performance of the portfolio and

the S&P 500 Index. There is no assurance that a premium of 2% to 4% will consistently be obtained.

Bixby is in violation of Standard 1.4: “GARP Members shall not knowingly misrepresent details relating to analysis, recommendations, actions, or other professional activities,” since she has made an implicit guarantee of the fund’s expected performance.

Topic 3. Conflict of Interest

GARP Members shall:
- Act fairly and disclose all actual or potential conflicts to affected parties (2.1)
- Make full and fair disclosure of matters that may impair objectivity or independence (2.2)

Topic 4. Confidentiality

GARP Members shall:
- Not use or share confidential information without proper consent (3.1)
- Not use confidential data for personal benefit (3.2)

Practice Questions: Q3

Q3. Beth Anderson, FRM, is a portfolio manager for several wealthy clients including Reuben Carlyle. Anderson manages Carlyle’s personal portfolio of stock and bond investments. Carlyle recently told Anderson that he is under investigation by the IRS for tax evasion related to his business, Carlyle Concrete (CC).

After learning about the investigation, Anderson proceeds to inform a friend at a local investment bank so that they may withdraw their proposal to take CC public. Which of the following is most likely correct? Anderson:

A. violated the Code by failing to immediately terminate the client relationship with Carlyle.

B. violated the Code by failing to maintain the confidentiality of her client’s information.

C. violated the Code by failing to detect and report the tax evasion to the proper authorities.

D. did not violate the Code since the information she conveyed pertained to illegal activities on the part of her client.

Practice Questions: Q3 Answer

Explanation: B is correct.

Anderson must maintain the confidentiality of client information according to Standard 3.1.

Confidentiality may be broken in instances involving illegal activities on the part of the client, but the client’s information may only be relayed to proper authorities.

Anderson did not have the right to inform the investment bank of her client’s investigation.

Topic 5. Fundamental Responsibilities

GARP Members shall:
- Comply with all laws, rules, and regulations applicable to professional activities (4.1)
- Acknowledge that ethical responsibilities cannot be delegated (4.2)
- Understand client needs and provide appropriate risk management services (4.3)
- Avoid overstating accuracy or certainty of conclusions (4.4)
- Clearly disclose limits of their knowledge or expertise (4.5)

Topic 6. Best Practices

GARP Members shall:
- Perform duties independently and diligently (5.1)
- Stay updated with current industry best practices and disclose deviations (5.2)
- Communicate using factual, not misleading, data (5.3)
- Distinguish facts from opinions in analysis and recommendations (5.4)

Practice Questions: Q4

Q4. Over the past two days, Lorraine Quigley, FRM, manager of a hedge fund, has been purchasing large quantities of Craeger Industrial Products’ common stock while at the same time shorting put options on the same stock.

Quigley did not notify her clients of the trades although they are aware of the fund’s general strategy to generate returns. Which of the following statements is most likely correct? Quigley:

A. did not violate the Code.

B. violated the Code by manipulating the prices of publicly traded securities.

C. violated the Code by failing to disclose the transactions to clients before they occurred.

D. violated the Code by failing to establish a reasonable and adequate basis before making the trades.

Practice Questions: Q4 Answer

Explanation: A is correct.

Quigley’s trades are most likely an attempt to take advantage of an arbitrage opportunity that exists between Craeger’s common stock and its put options. She is not manipulating the prices of securities in an attempt to mislead market participants.

She is pursuing a legitimate investment strategy. Participants in her hedge fund are aware of the fund’s investment strategy, and thus Quigley did not violate the Code by not disclosing this specific set of trades in advance of trading (Standards 2.1 and 5.1).

Practice Questions: Q5

Q5. Gail Stefano, FRM, an analyst for a U.S. brokerage firm that serves U.S. investors, researches public utilities in South American emerging markets. Stefano makes the following statement in a recent report:

“Based on the fact that the South American utilities sector has seen rapid growth in new service orders, we expect that most companies in the sector will be able to convert the revenue increases into significant profits. We also believe the trend will continue for the next three to five years.”

The report goes on to describe the major risks of investing in this market, in particular the political and exchange rate instability associated with South American countries. Stefano’s report:

A. has not violated the Code.

B. violated the Code by failing to properly distinguish factual information from opinions.

C. violated the Code by recommending an investment which would not be suitable for all of its clients.

D. violated the Code by failing to properly identify details related to the operations of South American utilities.

Practice Questions: Q5 Answer

Explanation: A is correct.

Historical growth can be cited as a fact since it actually happened.

Stefano states that her firm expects further growth and profitability which is an opinion. She does not claim that these are facts. Thus, she is not in violation of Standard 5.4.

In addition, Stefano identifies relevant factors and highlights in particular the most significant risks of investing in South American utilities. She has fully complied with Standard 5.3.

Topic 7. Violations of the Code of Conduct

Violations may lead to:
- Suspension or removal from GARP membership
- Revocation of the FRM designation
GARP investigates all violations through a formal disciplinary process
In cases of conflict between Code vs. Local Laws, local laws take precedence