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CFA Level I Exam · Guidance for Standard II: Integrity of Capital Markets

Ethics, Society and the Capital Markets: Why Integrity Matters

Updated 7 October 2026

Ethics supports capital markets because investors only commit money when they trust prices, information and intermediaries. Standard II protects that trust through II(A) Material Nonpublic Information and II(B) Market Manipulation. To solve questions, identify the action, test it against the Standard's wording, then pick the response that protects market integrity.

Understand Ethics, Society and the Capital Markets

A capital market moves savings to productive uses. It works only if participants believe prices reflect real information and that nobody gets an unfair edge. If that belief weakens, investors demand higher returns, trade less or leave. Funding becomes costlier for companies and society.

This is why the CFA Institute links ethics to the integrity of capital markets. A market is efficient when prices adjust fairly to public information. Insider trading and manipulation break that process. Insiders profit at the expense of others, and distorted prices send false signals about value and risk.

Standard II has two parts. Standard II(A) Material Nonpublic Information: members and candidates who possess material nonpublic information that could affect an investment's value must not act or cause others to act on the information. Standard II(B) Market Manipulation: members and candidates must not engage in practices that distort prices or artificially inflate trading volume with the intent to mislead market participants.

Manipulation includes both transaction-based practices, such as trades that create a false impression of price or volume, and information-based practices, such as spreading false rumours to move a price.

Information is material if its disclosure would likely affect the security's price or if reasonable investors would want it before deciding. It is nonpublic if it has not been made available to the marketplace. Analysts may still build conclusions from public data and non-material nonpublic data. This is the mosaic approach.

Exam questions are short case scenarios. You are rarely asked to recite the Standard. You are asked whether an action violates it, or what the member should do. Link every answer back to market trust and the Standard's exact conditions.

Key formulas to remember

Standard II(A) Material Nonpublic Information
Possess material nonpublic information → do not act or cause others to act on it
Both conditions must hold: the information is material and nonpublic. If either is missing, II(A) is not breached by that fact alone.
Standard II(B) Market Manipulation
Practices that distort prices or artificially inflate trading volume + intent to mislead market participants = violation
Covers transaction-based practices and information-based practices such as spreading false rumours. Manipulation requires intent to mislead market participants. Trading that moves prices without that intent is not manipulation.
Materiality test
Material if disclosure would likely move the price or reasonable investors would want it
Source reliability and specificity also matter. Vague rumours are less likely to be material.
Mosaic theory
Public information + non-material nonpublic information = acceptable analysis
Analysts may reach a conclusion that is material from public information and non-material nonpublic information without violating II(A). They may not use any individual piece of material nonpublic information.

How to solve Ethics, Society and the Capital Markets questions

Use this sequence for any Standard II scenario question with three answer choices.

  1. 1Read the last sentence first to see whether you must judge a violation or choose an action.
  2. 2Identify what the person knows, how they got it, and what they did or plan to do.
  3. 3Test materiality: would it likely move the price or matter to reasonable investors?
  4. 4Test public status: has it been disseminated to the market?
  5. 5For manipulation, ask whether the act distorts prices or volume, or spreads false information, and whether intent to mislead is present.
  6. 6Apply the stricter of applicable law and the Code and Standards; do not assume legality alone settles the answer.
  7. 7Eliminate options that ignore the problem, trade on it, or merely wait while still using the information.
  8. 8Choose the option that protects the market: stop trading, seek compliance, encourage public disclosure, or document properly.

Quickest way: Four-question filter

When to use it: Use when you have about 90 seconds and the scenario is a standard II(A) or II(B) case.

  1. Material? If no, II(A) is usually not triggered.
  2. Nonpublic? If public, trading is allowed.
  3. Intent to mislead or distort? If yes, think II(B).
  4. Pick the option that stops the act and escalates to supervisor or compliance rather than the one that only hopes for the best.

Common mistakes in Ethics, Society and the Capital Markets

  • Treating all nonpublic information as prohibited

    Candidates remember 'nonpublic' and forget 'material'.

    Fix: Check both words. Non-material nonpublic data can feed a mosaic.

  • Calling any large trade manipulation

    Price movement looks suspicious.

    Fix: Look for distortion plus intent to mislead, such as spreading false rumours or trades meant to create false volume.

  • Relying on local law as the answer

    Real-world habit overrides the Code.

    Fix: Apply the stricter of applicable law and the Code and Standards; do not assume legality alone settles the answer.

  • Assuming mosaic theory excuses material tips

    The word 'analysis' sounds safe.

    Fix: Mosaic allows combining public and non-material nonpublic data. A material nonpublic tip still blocks action.

  • Choosing 'do nothing' when information is already in hand

    Silence feels neutral.

    Fix: Usually the right step is to avoid trading and escalate to compliance, and encourage the firm to make the information public if appropriate.

Worked examples

Example 1

An analyst at a European asset manager learns from a friend at a listed company that a large acquisition will be announced next week. The news is not public and would likely move the share price. What should the analyst do? A. Buy shares for clients only, not personally. B. Refrain from trading and tell the compliance department. C. Trade only after the price has risen.

Show the solution
  1. Material: an acquisition likely moves the price, so yes.
  2. Nonpublic: not yet announced, so yes.
  3. Both conditions hold, so Standard II(A) bars acting on it or causing others to act.
  4. A is wrong because trading for clients still acts on the information.
  5. C is wrong because it still uses the information and delays only the timing.
  6. B stops use and escalates to compliance.

Answer: B

Example 2

A portfolio manager buys small lots of a thinly traded stock at rising prices near quarter-end, intending to make the price look stronger to attract new investors. Which Standard is most directly violated? A. II(A) Material Nonpublic Information. B. II(B) Market Manipulation. C. V(A) Diligence and Reasonable Basis.

Show the solution
  1. No inside information is described, so II(A) does not fit.
  2. The trades are meant to push the price up artificially.
  3. Intent to mislead investors about the stock's value is present.
  4. That is a practice that distorts prices, which is II(B).
  5. V(A) concerns research basis, not price distortion.

Answer: B

Exam tips

  • Always test materiality and public status separately before choosing an option.
  • Expect option patterns: one trades, one waits but still uses the information, one stops and escalates. The last is usually best.
  • For manipulation, look for intent words such as 'to create the appearance' or 'to mislead'.
  • Link answers to market trust when a question asks why ethics matter.
  • There is no negative marking, so always answer; eliminate the two weakest options first.

Practice questions from Guidance for Standard II: Integrity of Capital Markets

Ethics, Society and the Capital Markets: frequently asked questions

Why do ethics matter in capital markets?

Investors supply capital only if they trust prices and information. Unethical conduct erodes that trust, raises funding costs and weakens market efficiency. Standard II exists to protect it.

What does Standard II cover?

Standard II(A) covers Material Nonpublic Information and II(B) covers Market Manipulation. Together they protect fair information flow and fair price formation.

Is mosaic theory allowed under the Standards?

Yes. An analyst may combine public information with non-material nonpublic information to reach a conclusion. It does not permit acting on material nonpublic information.

How do I handle Standard II case questions quickly?

Ask four things: is it material, is it nonpublic, is there distortion, is there intent to mislead. Then choose the option that stops the conduct and escalates to compliance.