I disagree with Jonathan Boersma's comment (Letters to the Editor, April 18) that time-weighted returns are the correct way to evaluate pension fund performance.
The argument about who controls the external cash flows (such as for pension payments) is not relevant to the argument, because the real issue is that these cash flows are an essential part of the portfolio's success.
After all, the pension portfolio exists for the purpose of supplying payments to pensioners. And so, there are two key questions to be answered.
The first is this: “Did the portfolio supply the required payments while preserving enough capital to make future payments?” This is essentially an analysis of money, and not of return.
If one were to pose the second question: “What was the return on the capital of the portfolio?” then the appropriate measure of return would be money-weighted, since this is the only measure that includes the amount and timing of the payments into the return calculation.
The time-weighted measure answers a different question: “What was the return on a static investment in the current set of managers?” This is relevant in terms of evaluating the managers' success, but it provides no useful information about the success of the portfolio in meeting the financial goals of the pension plan sponsor. That's because the goals of the plan sponsor are money goals, and not return goals.
Therefore, the “right” return measure is the one that includes these money goals, and that return measure is the money-weighted return.
While the global investment performance standards are certainly the industry's “gold standard” in terms of ensuring the accuracy and reliability of the calculation procedures, we recognize that these calculations are really meant to evaluate individual product managers and not client portfolios in the context of each client's true financial goals. We all agree that in terms of evaluating these managers relative to their asset benchmarks, the time-weighted return is clearly the right approach. But clients invest to provide the money needed to accomplish their financial obligations or desires. These are money goals, and the success of these clients is measured in terms of money and money-weighted returns. Let's get the question right before we mandate the right return to answer that question.