Legal but unethical
Promoting high ethical standards at a time when the global financial crisis seriously damaged the integrity of capital markets is a very noble yet daunting task. This is precisely one of the missions of the CFA (Chartered Financial Analyst) Institute and its more than 100,000 charter holders in 135 countries. The very dynamic Luxembourg CFA society is part of this global institute. It organised a conference called “Ethics goes global” with Dr. Michael G. McMillan, Director of Ethics and Professional Standards at CFA Institute. LFF spoke to this high-ranking guest after the conference.
In your presentation, you said that 97% of people are good people. Even so, they can be led to behave unethically. How do you explain that?
Often, people do not stop and think about the consequences or implications of their actions before doing them. If your boss asks you to do something, you do it because he is asking you to do it, without really stopping and thinking whether it is ethical or not.
What is more important for an investment professional: the protection of your client or the duty to your employer?
Your duty to your client supersedes any duty you have to your employer. I think that oftentimes this notion gets lost on people. The ultimate person for whom you work is not the person who writes your cheque: it’s the client who you deal with on a daily basis.
But there is no black and white when it comes to ethics!
Ethics is a grey area. Oftentimes there is no right way to solve a situation. You have to think about the advantages and disadvantages of any course of action you decide to pursue.
You can abide by the law and still act in an unethical way. Can you give an example?
As an investment adviser you have a choice of recommending two investments to your clients, investment A and investment B. Both of these investments are suitable for your client. However, investment A will pay you - the adviser - a higher commission than investment B. It is perfectly legal in many cases for you to recommend investment A, because it is suitable for the client. However, in this particular case it is not in the client’s best interest. It is in your best interest to recommend investment A but there is nothing illegal about that in many jurisdictions.
In your presentation you mentioned some aspects of the regulation that will hit the financial industry. Is this a political reaction to the fact that the industry is unable to regulate itself?
This is the shame about having more regulation. If more investment professionals were required to follow the CFA code of ethics or other codes of ethics, then we probably would not need as many laws as there are currently being proposed or laws that are in place. Let me also say that the CFA institute has its own disciplinary review committee. We rely on charter holders and members of the public to alert the committee if they observe a CFA charter doing something that they believe is unethical. We will then go and investigate the situation and we can censor the charter holder, we can revoke his charter or we can suspend his charter, depending on the degree of unethical behaviour. I emphasize that this behaviour might not be illegal, but it may still violate standards of professional conduct.
Where does ethical culture start in a company?
Ethical culture must definitely start at the top, from the chairman and the president. We call that the C-suite, that is to say, the chief investment officer, the chief financial officer, and the chief executive officer. They are the ones that set the tone for the rest of the organisation. However, it is not enough for them to say, “We want an ethical company”. It’s up to them to communicate that message to the middle managers, because it’s they who work with and come in contact with the employees. It is the middle managers who have to reinforce that ethical attitude; otherwise the employees will not take it seriously.
But you have to practice what you preach. Communicating ethics is not enough.
This is also a compensation issue. So much of the compensation system on Wall Street, and I use this term broadly to mean financial institutions everywhere, is based on outcomes, not on how you arrived at those outcomes. As long as you are able to reach your revenue, earnings, return targets, nobody really cares how you got there. Your bonus is solely based upon whether you met that goal. As long as you meet the goal, companies tend to turn a blind eye to how you got there.
Can you give examples to illustrate this?
In the case of the JP Morgan credit trader called “the London Whale” and the case of Jérôme Kerviel, trader at the bank Société Générale, I believe management knew what these individuals were doing. But as long as these individuals were able to generate a profit for the bank, top management turned a blind eye to the risks that they were taking. But as soon as they generated losses, then top management said, “We had no idea what was going on, we did not know”. That I find hard to believe, as in the case for that young trader at UBS last year; a thirty year old guy that supposedly lost 2.5 billion dollars in isolation.
People knew what was going, on but since he was the lowest employee, they put the blame on him. Jérôme Kerviel said that management knew what was going on and that’s why he is appealing against his verdict.
The thing that we are concerned about is that younger employees want to do the right thing, but may be asked by their boss to do things that they felt uncomfortable doing. There is this need to be a team player in a company and there is a fear of being fired if the employee is not doing what he was asked to do.
That is why ethical training is important!
It is important from the top to the middle to the bottom. We want to encourage employees to talk to their compliance officer or to someone else if they feel they are being asked to do things that are unethical. Don’t just do it, share your experience with someone else, so if trouble does arise you will not be the one that bears the brunt of the blame. CW