Standard III(B): Fair Dealing

What does Standard III(B) require?

Standard III(B), fair dealing , requires you to deal fairly and objectively with all clients when you provide analysis, make recommendations or take action. The Standard says “fairly”, not “equally”, because you cannot reach every client at the same instant, and because clients have different objectives, so not every opportunity suits every client.

Memorize

It covers two kinds of conduct, and the exam tests both.

• An investment recommendation is any opinion about buying, selling or holding an investment. It may be a full report, a short update, an addition to or deletion from a recommended list, or an oral comment. Every client must have a fair opportunity to act on it. Changes matter even more than first-time views, so tell the clients who acted on the old view, particularly before you accept an order that goes against the new one.
• Investment action means trades and allocations: general purchases, new issues and secondary offerings, and block trade s that serve several accounts.

Fair dealingfair, not equal

• Investment recommendations Memorize opinions on buying, selling or holding
  • Initial and changed recommendations a fair chance for all to act
  • Reach clients who acted on the old view and warn anyone ordering against the new one
• Investment action Memorize trades and allocations
  • Block trades same price, same commission, pro rata fills
  • Oversubscribed new issues pro rata, round lots
• Levels of service Memorize allowed with conditions
  • Disclosed to clients and prospects
  • Open to all not offered selectively

How do you allocate an oversubscribed issue?

When demand exceeds supply, an oversubscribed issue must be allocated pro rata : each eligible order receives the same fill ratio, at the same price, on a round-lot basis to avoid odd lots.

$$A = O \times \frac{S}{T}$$

Here $A$ is a client’s allocation, $O$ the client’s order, $S$ the shares available and $T$ the total ordered by all eligible clients. The fraction $S/T$ is the fill ratio.

If the fill ratio gives odd lots, round to round lots, and use an agreed minimum lot size for securities such as bonds. Rounding is a detail, not a license to favor someone.

Two more rules sit on top of the arithmetic.

• If the issue is oversubscribed, forgo purchases for yourself and your immediate family to free up shares for clients. The exception is a family account that you manage like any other client account. Then it should not be excluded.
• A hot issue is one trading at a premium once secondary trading begins, because of strong demand. Make a bona fide public distribution. Never hold it back for your own benefit or use it as a reward to gain a benefit.

Can service levels differ?

Yes. You may give more personal or in-depth service to clients who pay higher fees or generate more brokerage. The conditions for levels of service are that they are disclosed to clients and prospects, are available to everyone willing to pay, and do not disadvantage or negatively affect other clients.

Disclosure has a limit. A duty of fairness and loyalty can never be overridden by client consent to a patently unfair allocation procedure.

Where do the lines fall?

Situation	Verdict
An analyst phones the five biggest clients about a downgrade an hour before emailing everyone else	Violation
A premium tier gets a monthly call with the analyst, disclosed and open to all who pay	Acceptable
A manager allocates an oversubscribed issue only to accounts that pay performance fees	Violation
A manager fills a block trade and allocates it pro rata at the average price	Acceptable
A manager gives a family account that is managed like any client account a pro rata share on the same terms	Acceptable

What procedures help?

• Limit the number of people who know a recommendation is coming, and shorten the time between the decision and the release.
• Publish guidelines that stop staff who know of a pending recommendation from discussing or trading on it until it is out.
• Disseminate simultaneously, for example by email or a platform. After wide distribution you may follow up with individual clients.
• Keep a list of clients and their holdings, so you can notify the right people when a view changes.
• Write down allocation procedures: time-stamp orders and changes, process first in, first out, give every account in a block the same price and commission, and allocate partial fills pro rata on order size. For new issues, collect indications of interest and allocate by client, not by portfolio manager.
• Disclose the allocation procedures and the levels of service. Review accounts regularly to catch preferential treatment.

Go deeper Why simultaneous means as close as practical

Mail, phone, email and trading platforms reach people at different speeds, so literal simultaneity is impossible. What the Standard rules out is a deliberate head start, such as calling favored clients first. A firm that sends an alert to everyone at once, then lets analysts call individuals afterward, is in line with the Standard.

Go deeper Why different accounts may trade differently

Fair dealing does not force every account to do the same thing. A manager may buy a security in one account while selling it from another because their objectives differ. Document the reasons for both sides of the trade, and expect supervisors to review accounts to check that trading is not being used to benefit a favored client.