Extending GIPS to asset owners promotes better valuation, disclosure

The idea of having standards for performance reporting was introduced in a draft in 1987 by the Financial Analysts Federation. When this group merged with the Institute of Chartered Financial Analysts in 1990 to form the Association for Investment Management & Research, the idea became the AIMR Performance Presentation Standards. And as a result of its success the standards went global, eventually becoming in 1999 the Global Investment Performance Standards.

GIPS compliance has become a de facto requirement for institutional asset managers.

One point that's remained confusing over the past two decades has been whether the standards applied to plan sponsors. A Pensions & Investments Jan. 9, 2006, commentary — “Misleading compliance; Public pension funds misuse performance reporting standards, even if return data are accurate” — criticized the notion that a pension fund would claim compliance. I responded, stating that while it was technically true the standards were intended for asset managers, what harm was there for plan sponsors to adopt them?

Recently I have seen a shift in thinking, culminating in the recent publication by the CFA Institute of draft guidance for plan sponsors who want to comply (“Guidance Statement on the Application of the GIPS Standards to Pension Funds, Endowments, Foundations and Other Similar Entities”). This document not only puts in writing the eligibility for plan sponsors to comply, it offers guidance to those who wish to.

Because the standards are intended to provide a consistent way for asset managers to present their performance to prospective clients, a natural question might arise as to why a plan sponsor, who typically has no prospective clients, would want to comply. After all, compliance is an investment in both time and money. While an asset manager's chief reason for complying is the anticipation that compliance might lead to additional clients, many also do so because the standards are recognized as “best practice.” This is likewise the reason I find plan sponsors making the effort.

GIPS is not limited to a presentation that would be given to a prospect. It also involves the notion of ethical principles, fair representation and full disclosure. It mandates the development and adoption of written policies and procedures. It specifies rules to value assets and details the method to derive rates of return. In addition, it calls for the calculation and reporting of other statistics, which can be helpful to anyone reviewing someone's track record.

For the most part, the new guidance statement does not introduce anything new, other than perhaps the use of the term “plan sponsor” for the collection of asset owners (e.g., pension funds, endowments, foundations, government institutions), so as to avoid overly wordy narratives. It primarily shows how the rules that plan sponsors' compliant external managers abide by can easily be applied to them.

One particular item that's worth noting is the recommendation that plan sponsors include money-weighted returns with their reporting. This reinforces the value that this methodology provides, as it (unlike time-weighting methods) takes cash flows into consideration. This is an important point, as it adds further credibility to this alternative method to derive returns.

Are there many plan sponsors who have chosen to comply? The results of an informal phone survey a few years ago suggested that, at least in the United States, the idea of compliance has seen little interest. Publication of this guidance could influence others to make the move to compliance. While plan sponsors might not have prospects, they do have boards, pensioners and, in some cases, the public, to whom they answer. Adoption of “best practices” should be a standard for all institutions. And when it comes to reporting performance, GIPS is that best practice.

Compliance for plan sponsors should not be a rigorous exercise. In many cases, there will be just a few accounts that need to be addressed. Rates of return that comply with the GIPS rules are most likely produced by the plan sponsor's custodian. Assembling the information into the prescribed format should not be difficult. And, the development of policies and procedures can be done quite simply. Verification is recommended for anyone who chooses to comply, and such a step will add further credibility to the institution's claim.

The broadening of the important standards to this community of asset owners should be encouraged and supported. n

David Spaulding is founder and CEO of Spaulding Group, a Somerset, N.J.-based firm focusing on investment performance measurement products and services, including GIPS verification.

This article originally appeared in the June 10, 2013 print issue as, "Extending GIPS to asset owners promotes better valuation, disclosure".