The Future of Finance: investor rights and Ethical Decision-Making

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The Future of Finance investor rights and
Ethical Decision-Making

• A. Mark Harbour, CFA, CIMA, CPA
• Past President, CFA Society of Los Angeles
• Harboal_at_ca.rr.com
• [phone]
• www.cfala.org

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Agenda Session Outline

• Why cover ethics? Do we have an issue?
• More importantly, what can you do about it?
• Introducing CFA
• Do we have an issue?
• Cheating, Integrity and Trust
• Morals, Values, and Ethics
• Practical Solutions - Ethical Behavior
• Practical Suggestions - Hiring an Advisor
• Questions?

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About chartered financial analysts (CFa)
CFA Institute is the global, not-for-profit
association of investment professionals that has
set the standard for professional excellence
since 1947. The CFA Institute family includes
over 100,000 members and 140 member societies
around the world. CFA Los Angeles is one of the
large societies of the CFA organization with
approximately 2,000 members in the Los Angeles
region. We are active in supporting education
programs for our members and collaborating with
other organizations to provide value for our
members and our community by serving the mutual
interests of our members and the public good.
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CFA Institute Mission
To lead the investment profession globally by
promoting the highest standards of ethics,
education, and professional excellence for the
ultimate benefit of society.
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Five Organizational Pillars
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You can trust me
Do we have an issue?
Roundtable Discussion With Bernie Madoff
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Do we have an issue? 1
1 From The Edelman Trust Barometer - 2014
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Do we have an issue? 1
An earlier Edelman survey also highlighted 7 key
attributes to building trust that reflected gaps
between importance of and the actual performance
received for each as shown in the following chart

1 From The Edelman Trust Barometer - 2013
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Do we have an issue? 1
How much would you estimate we spend to handle
fraud?1
For example, assuming a company with 100 MM
revenue
Description Amount
Company Revenue 100,000,000
6 is the cost of fraud detection (and lack of ethical behavior 6,000,000
Leaving the amount to cover expenses and fund profits 94,000,000
1 Moral Intelligence 2.0, Doug Lennick and Fred
Kiel, April 2011
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What about the future?
In 1969, more than 80 of high school children
agreed that honesty is the best policy. By
1989, the figure was 601
Recent estimates are that 1 in 3 students cheat
at some point in elementary school. By high
school, 51 admit to cheating on a test in the
past year and 74 copied homework.2
56 of MBA Students and 43 of law students admit
they cheat. 93 say cheating is justified and
90 have no moral dilemma about doing so.3
Key Planning Implications

• Take active steps to strengthen ethical values
  and behavior for junior staff (and future
  generations).

• Incorporate a statement of values to enhance
  ethical awareness in business and family
  succession plans.

1 - Fred Schab, University of Georgia survey 2 -
How could a Sweet Third-Grader Just Cheat on
That School Exam WSJ Article 5/13/13 3 - Johnson
Institute recent study
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Cheating, Integrity Trust1
Question - Who Cheats???
Our sense of our own morality is connected to the
amount of cheating we feel comfortable with.
as long as we cheat by only a little bit, we can
benefit from it and still view ourselves as
marvelous human beings.
Answer - We All Do.
we should focus on early signs of dishonest
behaviors and do our best to cut them down in
their budding stages before they reach full
bloom.
1 Taken from The Honest Truth about Dishonesty,
by Dan Ariely
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Contributing Factors1
Ability to Rationalize
Conflicts of Interest
Creativity
One Immoral Act
Being Depleted
Pledge
Others Benefitting From Our Dishonesty
Signatures
Amount of Money to be Gained
Watching Others Behave Dishonestly
Moral Reminders
Culture That Gives Examples of Dishonesty
Probability of Being Caught
Supervision
Increase Dishonesty No Effect Decrease Dishonesty
1 Taken from The Honest Truth about
Dishonesty, by Dan Ariely
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Integrity1
For an object or system to have integrity, it
must be in a state or condition of being whole,
complete, unbroken, unimpaired, sound, perfect
condition.
To the degree that integrity is diminished, the
opportunity for performance (the opportunity set)
is diminished.
1 Taken from Integrity A Positive Model that
Incorporates the Normative Phenomena of Morality,
Ethics, and Legality by Werner H. Erhard, Michael
C. Jenson, and Steve Zaffron
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Impact of Integrity

• You are whole and complete when your word is
  whole and complete, and
• Your word is whole and complete when you honor
  your word in one of two ways
• By keeping your word, on time as promised or
• As soon as you know you wont keep your word, you
  inform all parties involved and clean up any mess
  caused in their lives.
• When you and your people do this, you are
  honoring your word even despite having not kept
  it, and you maintain integrity
• What happens when you take specific action to
  improve TEAM INTEGRITY?

• Results (per Michael Jensen for his organization
  SSRN1)
• 300 increase in output
• No required increase in input
• Happier people in the organization
• Jensens co-authors/consultants note large gains
  in their clients productivity, and reductions in
  injury and death rates in the mining industry by
  implementing actions to improve integrity

Setting Expectations is Key.
1 SSRN - Social Science Research Network
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What is trust?1

• Trust is an option, a choice

• Trust is dynamic. It involves personal
  responsibility, commitment, and change

• Trust is a social practice, not a set of
  beliefsan aspect of culture and the product of
  cultivation

• Breaches of trust do not mark the end of trust
  but are part of the process of trusting

• The core strategy for building trust is the
  practice of making and receiving assessments and
  learning how to negotiate them

• Trust is something that you ____________.

1 Building Trust In Business, Politics,
Relationships, and Life, by Robert C. Solomon and
Fernando Flores
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The Economics of trust?1
Transcendent values like trust and integrity
literally translate into revenue, profits and
prosperity. Quote from Patricia Aburdene,
Author of Megatrends 2010
1 Taken from The Speed of Trust, Stephen R.
Covey
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Values, Morals ethics
Values our fundamental beliefs Morals values
we attribute to a system of beliefs (usually
outside ourselves) Ethics Decisions and actions
Being open about our values

• Provides a sense of your character

• Expresses openness which invites trust

• Encourages others to follow your lead

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Professional codes
Codes of Conduct are
Rules Based (think externally enforced)
Codes of Ethics are
Values Based (think self-imposed)
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Why Ethical Codes?
On the whole, human beings want to be good, but
not too good, and not quite all the
time George Orwell
Ethics is Our capacity for obedience to the
unenforceable
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Tough choices (for action)
Are not right versus wrong but are right versus
right
Truth versus loyalty Do I tell the truth or
protect my team?
Individual versus community Should my needs or my
community come first?
Short-term versus long-term Does a sacrifice
today bring a longer term benefit?
Justice versus mercy Should I teach a hard lesson
or give another chance?
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What else is required?

• Is having a personal moral code sufficient?
• Significant statistical reduction of cheating
  when specific reminders recall codes of conduct 1
• What gives people meaning?2
• the ability to realize my full potential as a
  person
• being associated with a good (ethical)
  organization
• translating values into operational behavior
• Some professional organizations articulate shared
  values in their codes (NASW)

1 The Honest Truth About Dishonesty How We Lie
to Everyone---Especially Ourselves by Dan
Ariely. 2 Survey responses quotes from A
Spiritual Audit of Corporate America, Ian Mitroff
and Elizabeth Denton
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Practical solutions

• Begin by self examination (you your team)
• Review/take a personal survey1
• Consider ethical awareness and improvement as a
  routine element of your practice process
  evaluation - upgrade based on survey results
• Solicit client feedback designed to improve your
  ethical awareness

1 - Moral Intelligence and Moral Intelligence
2.0, Doug Lennick and Fried Kiel. A personal
survey PDF is available at Worksheet for Defining
your Code of Ethics
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Practical solutions1

• For Individual Decisions and Actions
• Be aware that your intuitive system 1 decision
  process (i.e., the want self) is more likely to
  be immoral than the deliberative system 2.
  Thus, for decisions with moral implications,
  attempt to engage system 2.
• Utilize pre-commitment devices to lock in a
  desired course of action. (or perhaps publicly
  commit to a decision in advance).
• Consider adding more options to the decision
  (rather than yes or no, should I choose A, B, or
  C). Multiple choices seem to elicit more
  deliberative thought methods.
• Debrief your decisions periodically with a
  trusted friend or advisor particularly one who
  can play the role of devils advocate to your
  decisions. This will help ensure you are
  accurate in your recollections and more concise
  in projecting for the future.

1 Taken from Blind Spots, Max Bazerman Ann
Tenbrunsel
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Practical solutions1

• For Group Decisions and Actions  
• Look for the informal values of the organization.
  Who really runs the company assess
  motivations from the answers to that question.
  Notice what is talked about as an indicator of
  values of those in positions of power.
• Call unethical behavior by its name. (are you
  lying or just misrepresenting the facts.are
  you stealing, or inappropriately allocating
  resources)
• Look for danger zones or sink holes in an
  organization where unethical behavior is more
  likely. Specifically, those areas characterized
  by uncertainty, time pressure, short-term
  horizons, and isolation are good breeding grounds
  for unethical actions and decisions). Once
  identified, take proactive steps to reduce the
  likelihood of unethical actions and decisions.

1 Taken from Blind Spots, Max Bazerman Ann
Tenbrunsel
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Practical solutions1

• For Group Decisions and Actions (Contd)
•  
• Change the defaults on decisions (i.e., opt out
  required rather than opting in for savings plans,
  and automatic allocations of pay raises to
  retirement plans save more later).
• Communicate more clearly the issues and relative
  magnitude of decisions.
• Attempt to override the undue influence of short
  term costs regarding longer term benefits. (i.e.
  gas price increases to reduce consumption - but
  propose tax increase that doesnt take effect
  until some time in the future). This method is
  sometimes referred to as future lock in.
• Web based reference links can be found at -
  http//www.blindspots-ethics.com/

1 Taken from Blind Spots, Max Bazerman Ann
Tenbrunsel
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How do we measure success?
Mere obedience to law does not measure the
greatness of a nation... The true test is the
extent to which individuals can be trusted to
obey self imposed law. John Fletcher Moulton
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Do it yourself or hire an advisor1?
Assess Yourself for Knowledge/Sophistication AND
the Need for Control
Add up your scores for all questions in both
categories and plot them on the chart on the
following page
1 Taken from Wealth Management Unwrapped by
Charlotte Beyer
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Do it yourself or hire an advisor1?
Assess Yourself for Knowledge/Sophistication AND
the Need for Control
- - - - -K N O W L E D G E - - - -
High Level of Sophistication
People like us caution!
Capable Overconfident Do-it-yourselfer
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Low Need for Control
High Need for Control
- - - - -C O N T R O L - - - -
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4
Naïve Hopeful Delusional
Vulnerable Irresponsible
2
Low Level of Sophistication
1 Taken from Wealth Management Unwrapped by
Charlotte Beyer
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Who should you hire for advice?1
Key Question What Services Do You Value?
1 2010 Survey of Advisors published by IMCA
first quarter 2011
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Who should you hire for advice?1
1 2010 Survey of Advisors published by IMCA
first quarter 2011
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Identify your screening priorities1
What is Most Important? Assign a percentage to
each according to your perception of what is most
important to you - the total must equal 100
People
Philosophy
Process
Performance
Phees
Who they are
What they believe
How Decisions are made
How have they done
What they charge
1 Taken from Wealth Management Unwrapped by
Charlotte Beyer
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Suggested Advisor questions

1. What are your qualifications and certifications?
   Can you name one or two real life experiences
   that were most helpful to enhancing your
   professional skills?
2. What regulatory body oversees you? SEC? OCC?
   Other?
3. Do you operate under the fiduciary standard in
   client relationships?
4. What are the top three activities in your service
   routine that you believe add the most value to
   your clients?
5. Do you utilize written investment policy
   statements with your clients? How do you
   determine the target return (after inflation) for
   my overall portfolio?
6. How do you define risk? How would you manage it
   in my situation?
7. How do you access the best funds or smartest
   money managers? What criteria do you use (and
   frequency) in deciding/monitoring which ones to
   use?
8. What are your long term career objectives and do
   you have a succession plan?
9. Are your investment strategies based on a global
   perspective? How do you view active vs passive
   investment strategies?
10. How do you ensure your technology is state of the
    art?
11. What are your fees? Are there additional
    indirect fees we pay for specific investments?
    How frequently do you review fees with your
    clients?

1 Some questions taken from Wealth Management
Unwrapped by Charlotte Beyer
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questions
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Reading Resources 1 of 2

• The Psychology of Ethics in the Finance and
  Investment Industry by Thomas Oberlechner (a CFA
  Institute Publication)
• How Good People Make Tough Choices by Rushworth
  Kidder
• Trust and Honesty in the Real World by Mark Fagan
  and Tamar Frankel
• A Spiritual Audit of Corporate America A Hard
  Look at Spirituality, Religion, and Values in the
  Workplace (J-B Warren Bennis Series) by Ian
  Mitroff and Elizabeth A. Denton
• Moral Intelligence Enhancing Business
  Performance and Leadership Success (Paperback) by
  Doug Lennick and Fred Kiel
• The SPEED of Trust The One Thing That Changes
  Everything by Stephen M.R. Covey, Stephen R.
  Covey, and Rebecca R. Merrill
• Trust in the Balance Building Successful
  Organizations on Results, Integrity, and Concern
  (Jossey-Bass Business Management Series) by
  Robert Bruce Shaw
• A Whole New Mind Why Right Brainers Will Rule
  the Future by Daniel H. Pink
• Crucial Conversations Tools for Talking When
  Stakes are High by Kerry Patterson, Joseph
  Grenny, Ron McMillan, and Al Switzler
• Emotional Intelligence 10th Anniversary Edition
  Why It Can Matter More Than IQ by Daniel Goleman
• Collaboration How Leaders Avoid the Traps,
  Create Unity, and Reap Big Results by Morten T.
  Hansen
• Freedom Collaboration How Leaders Avoid the
  Traps, Create Unity, and Reap Big Results by
  Morten T. Hansen
• Website Institute for Wealth Management
  Standards (Don Trone and Charles Lowenhaupt) -
  http//www.wealthstandards.org/standards.html?cr_i
  502
• Website Edelman Trust Survey 2013 -
  http//www.edelman.com/insights/intellectual-prope
  rty/trust-2013/
• Website CFA Institute Global Market Sentiment
  Survey 2013 http//www.cfainstitute.org/about/rese
  arch/surveys/Pages/global_market_sentiment_survey_
  2013.aspx
• Open Leadership How Social Technology Can
  Transform the Way You Lead by Charlene Li
• Blind Spots by Max Bazerman and Ann Tensbrunsel

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Reading Resources 2 of 2

• The Honest Truth about Dishonesty How We Lie to
  Everyone---Especially Ourselves by Dan Ariely
• Switch How to Change Things When Change Is Hard
  by Chip Heath and Dan Heath
• The Cheating Culture Why More Americans Are
  Doing Wrong to Get Ahead by David Callahan
• Thinking Fast and Slow by Daniel Kahneman
• Integrity A Positive Model that Incorporates the
  Normative Phenomena of Morality, Ethics, and
  Legality by Werner H. Erhard, Michael C. Jenson,
  and Steve Zaffron
• Strings Attached Untangling the Ethics of
  Incentives by Ruth W. Grant
• The Righteous Mind Why Good People Are Divided
  by Religion and Politics by Jonathan Haidt
• The Decision to Trust How Leaders Create
  High-Trust Organizations by Robert R. Hurley
• Building Trust an article by Jamie Ziegler with
  5 key ideas to build trust
• The right and wrong ways to apologize Link to
  Bruce Weinstein, Ph.Ds website look at the
  blog on ways to apologize
• The Death of Corporate Reputation Jonathan
  Macey
• Sidetracked Why Our Decisions Get Derailed, and
  How We Can Stick to the Plan Francesca Gino
• Trapped When Acting Ethically is Against the Law
  by John Hasnas
• IMCA Code of Professional Responsibility (July 1,
  2009)
• IMCA Standards of Practice (currently under
  revision)
• Building Trust In Business, Politics,
  Relationships, and Life Robert C. Solomon and
  Fernando Flores
• Daring Greatly How the Courage to Be Vulnerable
  Transforms the Way We Live, Love, Parent, and
  Lead Brene Brown
• Trust Inc. Nan S. Russell
• Practical Wisdom Barry Schwartz and Kenneth
  Sharpe