By Bob Collie
Question: How much does it cost to sell one manager's portfolio and buy another's?
Answer: Whatever the transition manager wants it to cost.
At least, that's what the cost reported to you can be. The real cost — the performance drag on your fund resulting from the transition — might never see the light of day and might never even be calculated.
This state of affairs is not the result of any overt fraud being played on investors. Rather, it's the natural consequence of the combination of a fiercely competitive market and a lack of common rules for presentation by the transition management industry, which is responsible for moving large sums of money for pension funds and other plan sponsors, such as when they terminate a manager and sell assets.
The time has arrived for the transition management industry to adopt common standards for the calculation of performance.
Such a move would enable those who run pension plans, endowments, foundations or other large pools of capital to assess more accurately what it is costing them to have their money moved from one account to another. A common set of criteria would enable them to compare providers, too.
New entrants join the fray almost every month, eager to get their share of what can be a lucrative business. Clients are demanding track records, and the temptation to produce a good one is strong. The absence of clear rules opens the door for companies to manipulate the figures to produce such a record.
That's bad for everyone.
The investment management industry faced a similar situation in the lack of standards in measuring performance of portfolios. Managers presented track records based on the performance of their best accounts. This practice, known as cherry-picking, led to a stellar record for even managers that were mundane.
The resulting problem led to the creation of performance presentation standards by the Association for Investment Management and Research. The standards provide a clear approach for the calculation and presentation of investment performance, a method now known as Global Investment Performance Standards.
Thanks to GIPS, we can now look at an investment manager's track record and know it shows us something meaningful. The bad news is that the process to adopt performance presentation standards took several years from start to finish.
As happens so often, history is repeating itself. The arena this time is the growing transition management industry.
But we've been here before. There is no need to repeat the long drawn-out process that the investment management industry went through. We can learn the lessons of the past, and apply the principles behind GIPS — fair representation and full disclosure — to transitions.
In "Performance Standards for Transition Management," recently published in the Journal of Performance Measurement, I call for the process to begin and set out the areas where agreement is needed.
It's easy enough to argue for standards. The bigger challenge is to get everyone to agree on the standards themselves. The questions start with ones as basic as: Just what is a transition? When exactly should measurement start? What are the rules for combining results into a composite track record?
I've talked to other providers of transition management services and found a consensus that this initiative is necessary and well timed, pleasing harmony in an industry with an unwelcome reputation for talking each other down.
A complete solution is not going to fall into place overnight. The first step is to develop standards for the measurement of a single event. Composites and comparisons across providers are further down the road. That first step is the focus of activity now, and a group of plan sponsors, consultants and others is being put together to help in formulating a draft.
It's a worthwhile goal. It was Humpty Dumpty who said: "When I use a word it means just what I choose it to mean — neither more nor less." When it comes to transitions, we need a better definition than that for performance.
Bob Collie is a director of Frank Russell Securities Inc., Tacoma, Wash.