A combined CFAUK and CAIA London event was held on 24 March 2015 to discuss GIPS and alternatives. EY kindly hosted the event. Whilst Chatham House rules will often apply to such events, CFAUK, CAIA London, and the speakers have given permission for an edited transcript of the event to be reproduced in The Hedge Fund Journal.
Mabs Miah is a senior manager in the financial services assurance department of EY LLP in London. He has worked on a range of GIPS verification and implementation projects for large multinational clients as well as boutique asset managers. Miah previously worked for KPMG where he was in the asset management advisory team. Before this, he worked for Canada Life in the fund accounting and pricing team.
Iain McAra joined CFA Institute in New York as director, Global Investment Performance Standards (GIPS®), EMEA region, in April 2012, relocating to London in August 2013. Prior to joining CFA Institute, and for a little over 14 years, he was vice president, US performance analysis group for J.P. Morgan Asset Management. Originally from the UK, he worked in performance analysis for Citibank and Baring Asset Management, transferring to Baring’s Boston office in 1994.
Melinda Carter is head of product marketing and is responsible for the marketing content and positioning of GAM’s products globally. She joined GAM in June 2005 with responsibility for the firm’s institutional marketing activities. Prior to this, she was a consultant with financial services management consultancy Mercer Oliver Wyman, where she focused on business strategy, product development and market positioning for asset management firms.
Colin Bettison is currently Man Group’s head of middle office, based in London, and is soon to re-locate to the US to become Man’s head of US operations. Bettison is responsible for the Middle Office Accounting groups within Man for the single-manager areas of the business and also oversees the risk and portfolio analysis, and client and performance reporting teams. Prior to joining GLG (acquired by Man in 2010) in 2007, Bettison worked for Merrill Lynch in their credit capital markets area as a product accountant for the credit derivatives desk.
Hamlin Lovell: It amazes me that I still meet people who think that GIPS (Global Investment Performance Standards) doesn’t apply to alternatives, or that GIPS doesn’t apply to hedge funds, when it very much does. Arguably it’s becoming more important, for several reasons. The investment industry in general is moving towards more trust and transparency, and GIPS can be seen as part of that. Regulators are starting to take a closer interest in GIPS compliance as well, and in terms of large investors, some of the world’s largest asset owners, including sovereign wealth funds and pension funds, are starting to become GIPS-compliant.
Why is that important for asset managers? If fund managers are also GIPS-compliant, then it’s easier for the asset owners to integrate the underlying funds’ reporting with their own reporting.
NEW DEVELOPMENTS IN GIPS AND ALTERNATIVES
Mabs Miah: Over the last 10 years, there’s been quite a slow uptake of GIPS in the UK – especially when you compare it to what’s happened in the USA, where there’s been a much broader adoption of the standards by hedge fund managers. That’s usually the case, especially with things like private equity and with other alternatives like real estate, but it is usually a slower uptake. The UK’s usually one or two years behind, but many reasons have been given for that.
After the Madoff issue, a lot of hedge fund managers found themselves in some difficulty and up until that point, many of them were saying, “Do we need to adopt GIPS? Do we need to adopt this, because we are special, we are different? We can deliver consistent returns which are not correlated to the market.” So a lot of them avoided it. Post-Madoff we saw a lot of them were experiencing many difficulties. Some of them lost huge amounts of AUM, a lot of customers left them, and many went bust. From that point onwards, there was quite a big uptake in the UK. We saw more people approaching us saying, “We’ve managed to get through this crisis, but perhaps now is the time to adopt GIPS, to adopt best practice” – what the traditional guys have been doing for years to try and sell some more business.
The key driver for GIPS in terms of adoption by the hedge fund managers continues to be institutional investors pressing for this. When we speak to marketing teams and hedge fund managers, we ask them, “Why do you want to become GIPS-compliant.” One of the things they always tell us is, “We get these RFPs through from institutional investors; they want to give us a lot of money. One of the first questions they ask is, ‘Are you GIPS-compliant?’ If we tick the ‘no’ box, we don’t hear anything back.” That remains the key driver for people wanting to become GIPS-compliant for the first time. In May 2012 a guidance statement was adopted on investment strategies and structures, and that was very much designed to give some more clarity in terms of alternative managers adopting GIPS for the first time.
A few issues are typically faced by hedge fund managers. One of the questions we get asked, especially on absolute return mandates, is on benchmarks. The GIPS standards say you must disclose a benchmark, and if you can’t find an appropriate one, disclose why there isn’t one. There’s a lot of variation here. Some people can find some benchmarks, but what a lot of people tend to do is just disclose some sort of target return or Libor plus X%. We see that used quite a lot. It’s very rare that you see any manager having no benchmark disclosed on the composite reports.
In terms of valuation, this is an area which impacts alternatives in general – so people like real estate managers, private equity and hedge fund managers, depending on the strategy that they manage. In the 2010 refresh of the standards, there was a valuation hierarchy. Anyone familiar with accounting will know this is nothing new, and all the standards have done is applied what you see in the accounting world. There’s a valuation hierarchy disclosing different levels of assets, with level one being the most liquid going up to level three and four, slowly moving down the sliding scale and becoming more illiquid.
For standards, there’s some detail in terms of what you need to do, but at the beginning you must apply fair values. If you’re holding instruments which are a lot more difficult to value, you need to value them in exactly the same way you would value them for accounting purposes. So on many vehicles which have audited financial statements they’ve already been valued, and performance will simply follow the logic there. For the most difficult assets, you can value using estimation techniques, but where these are used, you must disclose them. That’s what the standards all say, so if you’ve got assets which have been hard to value and you have applied anything other than a market price, you need to disclose what method you have used to value it.
Another question we often get asked from hedge fund managers is, “How do you take account of structures where you’ve got a master/feeder relationship?” What the standards say is you can either put the master or the feeders into composites (you can’t do both obviously). You need to watch out for things like double accounting, but you can put either. The majority of clients will probably put the feeder units in – not at master level.
Use of estimated performance
Where hedge fund managers prepare a composite report and it’s published, if the terms are published you sometimes don’t yet have the final valuation. For some of these things you need to wait for weeks – sometimes six weeks – and we’ve seen some managers where they need to wait two months before they get the final value. You need to disclose that you have used the best estimation that you had at that time in working out that value, and you would update that once you get the final valuation in four or six weeks’ time. Interestingly, for the purpose of the GIPS error correction guidance, that would not constitute an error, so there’s no need to go back and correct the valuation that was previously estimated. You’re simply using the best available information that you have at that time to determine the return.
Another issue we’ve faced over the last five years is what to do with side pockets. These are assets that were previously purchased and held by the fund managers. For whatever reason, sometimes the intermediary involved in the purchase of these assets had, for instance, Lehman as an intermediary. When Lehman went bust, for a lot of these assets it was very difficult to determine a value. Many managers set up a side pocket that ran alongside the pool of assets, but for accounting purposes they were held separately whilst people awaited the outcome of the Lehman bankruptcy.
From a performance perspective, that did raise quite a few questions. Firstly, how do you value them in that portfolio? GIPS is quite clear on this. Where assets have been written down, you must take that into account in the performance return, so you will write down the value of those assets. If they went down from 100% to 10%, you will include that in your performance return, so the performance return reflects the value of that write-down. Even though the assets are in a side pocket, the side pocket is purely for accounting purposes and for helping segregate the assets within the portfolio.
There were quite a few people arguing at the time that perhaps they should be non-discretionary, but that argument doesn’t hold. The portfolio is non-discretionary in its entirety if the fund manager doesn’t have the final say on that portfolio. If it’s just a portion of assets where you, the fund manager, have used an intermediary (for example in something like stock lending) and they happen to have gone bust, again that is part of your performance return. It’s only fair you reflect that in the calculation of your returns.
Backtesting and hypothetical returns
A lot of these firms are very innovative and constantly working on putting together new strategies and products that can be taken to market. One of the questions we often get is, “Can we put together a hypothetical or back-dated portfolio, amodel return, and use that for marketing purposes?” As far as GIPS is concerned, the answer is no, you certainly can’t put that forward in a GIPS-compliant report. It might be some useful information you could possibly show as supplemental, and possibly disclose to a client, but as far as GIPS is concerned, you can’t ever link that or show that in a GIPS-compliant composite report.
Gross and net returns
Fees are also another interesting area – especially performance fees. As far as the standards are concerned, in a composite report you are required to show gross, net or both. If you’re going to show the net returns and you’re marketing into the US, you very much must show what the net returns are. You need to take account of both investment management fees and performance fees, and this is where hedge fund managers and some of the traditional guys now will have some quite creative charging structures. As far as GIPS is concerned, when you’re presenting returns for these, you need to show that you’ve accounted for it. There are a couple of options.
You can show a hypothetical estimation – it can’t be something that’s out of line with what you’re actually charging. What we tell many clients to do is put the actual returns down so if you’re marketing anywhere, you’re going to net down to take performance fees. If you put the actual fees that were charged to investors over the last year, two years or three years, no-one can ever question whether they were accurate or not, because that was what happened in reality. You can’t be challenged on it. There’s nothing wrong with going with a hypothetical, but you need to disclose how it was put together. If you’re subject to a third-party verification that will also be challenged and looked at to make sure it was accurate. We also see some clients go with a worst case, the highest possible fee range that you might charge a client.
GIPS guidance for asset owners
In September 2014 a new guidance statement was adopted which allows asset owners, people such as sovereign wealth funds, pension funds, etc., to become GIPS-compliant in their own right. They were always able to, and many funds have done so already. We worked with one of the first sovereign wealth funds, Norwegian NBIM. The guidance statement provided further clarity around some of the challenges they faced, but what we now see in the market is if these guys are going to start becoming GIPS-compliant themselves, when they outsource management of a particular segment of their portfolio to a hedge fund manager, for example, they’re going to be even more demanding in terms of that question: are you GIPS-compliant? Whereas previously they might’ve said, “We might still consider you because we need to search for alpha.”
CFA INSTITUTE REMARKS
Iain McAra: Just briefly so you know my background, I started working in Hays Wharf many years ago for Citibank doing performance measurement. I then moved from there to Baring Asset Management over in Bishopsgate, where I spent a few years, transferring to the Boston office to run performance measurement for the ERISA money that Barings managed. After four years there, I transferred to J.P. Morgan Asset Management, where I had various roles in the performance analysis group and stayed there for about 14 years. I joined the CFA Institute just shy of three years ago – a shift in my priorities. Last year I transferred back to the UK and I support GIPS for the EMEA region from CFA London office, which is on Moorgate.
Genesis of the Global Investment Performance Standards (GIPS®)
From the late ‘80s I was involved in the concept of performance standards. They grew from the need to have fair representation of past performance. In theUS particularly there was a huge amount of gaming going on – a five-month record extrapolated as if something had been managed for five years with the best performance you could imagine, and that was the trouble: it was pretty much pure imagination.
The Financial Analysts Federation (a precursor to the CFA Institute) introduced the Performance Presentation Standards in 1987 in the Financial Analysts Journal. In 1990 after the creation of the Association for Investment Management and Research (AIMR), those standards were reviewed and eventually became AIMR-PPS on 1 January 1993. In the '90s, some may recall, there were several national performance standards. In the UK the NAPF put a huge amount of effort into establishing the UK Investment Performance Committee and the UK Investment Performance Standards, the Swiss Bankers Association took on the responsibility for producing the Swiss Performance Presentation Standards which became effective in 1997, and the Security Analysts Association of Japan Investment Performance Standards committee produced the SAAJ-IPS in 1999, to name but three. The AIMR-sponsored GIPS committee began work on a single, global standard and in 1995, following an extensive comment period, the GIPS standards were released in early 1999. Country versions of the GIPS standards (CVGs) which took GIPS as their core but continued to have one or more unique provisions (for example after tax provisions or mandatory validation) were supported at this time. But following the approval in February 2005 of the revised Global Investment Performance Standards, the various CVGs were replaced by the internationally accepted GIPS standards.
To be a successful global standard, there has to be a hurdle rate that is achievable, accessible but also meaningful — otherwise the standard is not going to take root. You have to be very careful when you’re doing global things to enable people to join in. That consideration separates a global standard like GIPS from a regulation for an individual country.
Also with a global standard, we have to consider the level of development of all countries, not only the developed markets and the markets where performance measurement and accounting is all very well established, but also those countries which are emerging regarding investment management. We find that many of these are the most receptive to standards as they are yet to establish policies themselves and wish to take on established practices that are recognised as best in the industry and take the lead in establishing those locally.
Trust in the investment industry
Just as a slight aside, the CFA Institute & Edelman Investor Trust Study examines trust by investors in investment managers, and explores what dimensions influence that level of trust. Not surprisingly, but disappointingly, when investors were asked whether they trust the investment management and financial services industries to do what is right, only 52% said they did, indicating also that financial services is the industry least trusted by the general population. Investment professionals are ranked lower than energy providers in terms of whether people trust them or not. I heard this on BBC Radio 4, just at the time when all the energy providers had raised their rates by 8% and people were saying, “Do you trust them?” Here is the idea that investment professionals – professionals, think of that word, that means you’re part of a profession which, as stated in Wikipedia ‘is a vocation founded upon specialized educational training the purpose of which is to supply objective counsel and service to others’ – are currently trusted less than any other industry, which is an appalling indictment of the industry in which we are building or looking to build our careers.
So the ideas of transparency, full and fair disclosure and educating or providing information to people so that they can understand what it is that we do are some of the keys to ensuring that the industry has a future. Another initiative from CFA Institute is Future of Finance, which hopefully some of you have heard of. It is taking a look at where the finance industry needs to be for the next generation, and rebuilding trust to ensure a sustainable industry.
The GIPS standards were conceived way before the whole concept of lack of trust really hit the fan, which was around 2007/8 or maybe Madoff, but the relevance of the GIPS standards and the principles that it represents in light of all the negative issues that have surfaced has become greater to an industry where trust has sunk to an all-time but, with hard work, reversible low.
The lack of trust is one of the reasons why encouraging people to adopt some form of transparent, fair standards is important. That is why to some extent asset owners and trustees look to managers who are supporting ethical standards. Not only the GIPS standards, as there are other standards, such as the Asset Manager Code of Professional Conduct and the HFSB Hedge Fund Standards indicating what can be supported by firms as best practice whether or not you operate in a regulated environment. Increasingly asset owners are looking for groups that support ethical behaviour as the people with which they want to conduct long-term, sustainable business. That is why we believe not only were the GIPS standards relevant back in the 1990s, but are even more relevant as we get into 2015 and beyond into the next generation.
Comparability in a varied industry
Clearly when we have a global standard and we’re trying to cover the world and all asset bases, we’re going to have little gaps or even maybe larger gaps. This is a very fluid industry. For every new product that was developed yesterday, there are more new products being developed tomorrow and the next day to take advantage of financial instruments that are newly available, and to address what investors want, what they need, how they need to be addressed to secure their financial future.
Within the GIPS standards we issue things called guidance statements. One that has been released is the guidance statement on alternative investment strategies and structures. Originally it used to be that the “alternative investments” were considered real estate and private equity, and within the GIPS standards we have separate sections for those. They were different types of investments measured in specific ways – kind of closed end: you buy; you hold; the manager controls any cash flows; internal rate of return is appropriate for those types of investments and they are dealt with separately. However, this is a developing industry and particularly because of the growth of hedge funds this guidance statement covers a much broader base of issues: illiquid investments, estimated values, fee structures and their impact on return, segregated investments, composites and fund structures are all addressed within the GIPS framework.
The majority of what was included within the GIPS standards required time-weighted rates because that allows comparison of managers. It was not specifically addressing the client’s return – that would be a money-weighted rate if the asset owners are in control of cash flows, as that measure includes the impact of those cash flows. But if you’re looking at the measurement of a manager’s return, their ability to manage to a strategy which they will have defined and which is included in the description of the composite, what you need to have is a time-weighted rate of return. That makes things comparable.
That ability to compare is also why GIPS requires a compliant presentation which must contain specific information. Asset owners prefer managers that claim compliance because it gives them the ability to compare the managers. Asset owners don’t want the manager’s take on what the performance should look like, which leaves the owner the task of normalisingwhat they have received. The owners want to be able to take the standardised information, including the disclosures and use their time adding value over that baseline set of information.
The same goes for consultants. Consultants, if they’re dealing with managers that claim GIPS compliance, know that they ask for and receive a specific set of information. The GIPS standards are not only about the data, it’s also about the policies and procedures. Policies and procedures have to be generated by the firms that claim compliance; it’s all part of GIPS compliance. The generation of that is a huge benefit in terms of risk management, internal controls, all those processes that support the manager’s ability to manage in a consistent framework.
When selecting a manager, performance is a relatively small part of what they look at, which is typically process, people, philosophy and performance. Some aspects of philosophy, process and performance will be reflected by managers that are compliant with voluntary standards that are considered as ethical industry best practices. Some aspects of process are covered by the policies and procedures that are required in the GIPS-compliant framework. Managers can take those controls, those policies and procedures, and benefit from them internally. If you know how you’re meant to be doing something or how that thing is carried out, if you’ve thought about it in advance, when something peculiar happens you know precisely what you’re going to do. You’re not running around like a headless chicken implementing well-meaning but ill-conceived, inconsistent fixes; you’ve got a policy, you follow it consistently, your process is secure.
With secure processes and precisely defined composites, you should produce sets of information that represent your strategies that have relatively little dispersion. When you’ve assigned the portfolios to the composites, if you manage a tight process, the dispersion within that composite, allowing for variation captured by the description of that composite, will be minimal. If you’ve got dispersion, outliers, if you’ve got tails, if you’ve got bizarre performance where certain portfolios always seem to outperform all the others, these are flags for internal risk management that should be investigated. There is some deliberate or unforeseen bias in the processes. Being able to leverage the application of the GIPS standard requirements into internal controls and risk management is a benefit that undertaking and maintaining GIPS compliance generates beyond the ability to claim compliance.
While the GIPS standards address how past performance is generated and presented to prospective clients, these controls and documented policies and procedures are beneficial to your existing client base, ensuring consistent approaches and transparency concerning the input data, the individual portfolio return, calculations and disclosures. If an existing client or their agent carries out due diligence periodically and you can demonstrate to them that you are GIPS-compliant, that is going to be a significant gain in terms of receiving a positive due diligence report. So not only is this excellent information for prospective clients, terrific controls and internal risk management for the manager, but also of significant benefit to your existing clients.
I know one of the issues also for those considering GIPS compliance is the requirement for five years of history before you can claim GIPS compliance. But if you are structuring your shop to claim GIPS compliance, from the very date you start with the policies, procedures, controls, the keeping of the data in the way that in time will allow you to claim compliance in the future, all that control is relevant for your existing clients and indicating a controlled environment, even though you are yet to generate sufficient history to claim compliance.
What have we been looking at recently in terms of developments? One thing we’ve changed is the governance structure for the GIPS standards. We had 38 Country Sponsors, each representing a country and bringing their local knowledge and providing outreach in their countries to regulators, asset owners and asset managers. We meet as regional committees and we also have standing committees that address technical aspects of the GIPS standards.
We recognised that there may be more than one relevant, non-commercial association in a country that would like to support the GIPS standards and, in line with its mission, we wish to broaden the GIPS community and welcome all relevant associations to support the standards and engage them in that process. The change in governance structure was put into place to enable all interested bodies to collaborate together and jointly become sponsors within their country of the GIPS standards.
Asset owners and GIPS
As has been mentioned, we came out with a guidance statement that addresses the application of GIPS to entities that manage investments, directly and/or through the use of external managers, on behalf of participants, beneficiaries or the organisation itself, where asset owners are organisations such as pension plans and foundations. It certainly isn’t unusual for asset owners to be looking at potential managers and say, “We want you to be GIPS-compliant,” and in some instances they have then said, “Hang on, can we be GIPS-compliant as well?” If asset management decisions are made for a group of assets, you can indeed become GIPS-compliant. You would define the entity which includes those assets that you are managing and bring those into compliance. For an asset owner who technically does not have prospective clients, but has a board of trustees or similar group, we have taken some terms in the GIPS standards and defined them from the perspective of being responsible to a group rather than presenting to prospective clients. Nothing changes in terms of the provisions but how they need to think of a prospective client, which in this case might be a board of trustees.
We have state pension plans in the US who already claim compliance. We have private pension plans in the US who already claim compliance, and there are some sovereign wealth groups who also claim compliance. Claiming GIPS compliance sets a standard for them internally and also they can then say to their external managers, “This is what we want you to do. We do it; we know it well.” It streamlines the information: they know the quality of the information they’re getting.
We’ve also written a fairly extensive document which will enable people who are new to the concepts in the GIPS standards to really understand how they can take GIPS and apply it to their firm. People hear about the GIPS standards, but they don’t really know what it is or where to start. They think of the GIPS standards in the same way I do the British Standards Kitemark: I don’t know what it means, but I know it has something to do with safety standards and it is good that it is there. The GIPS standards should be more than that. The industry really should understand the value that the GIPS standard brings, and the GIPS team needs to do much better in terms of outreach in ensuring people do understand the benefits of asking for GIPS compliance and of being GIPS-compliant, and the value of the information that a GIPS-compliant person is providing a prospective client.
Consideration of pooled funds is requiring our attention. For a firm that’s claiming compliance with the GIPS standards – and the pooled fund space is well regulated – where does the firm put its claim of compliance and its compliant presentation which may include more than the pooled fund’s performance? How does the firm ensure that every prospective client receives the compliant presentation? With GIPS being a global standard, we need to consider that what may be necessary in a well-regulated environment may be different from what is needed where there is little or no local regulation.
The Hedge Fund Standards indicate that if the information you would need to provide is already included in the offering documents, then you do not need to replicate that information. This addresses provision of information in environments that have different requirements by ensuring that the information is made available at least once in all environments. We are considering whether additional guidance is needed concerning the integration of GIPS compliance and pooled funds.
Verification and regulatory scrutiny
We have conversations with regulators, and that is very useful for us to understand how we can co-operate with them and the synergy between self-regulation and regulatory authorities. Regulators in developing markets have shown some interest in the GIPS standards. With GIPS being a global standard, we encourage regulators to support the standard, even requiring it and enforcing it if appropriate for them, but not to adopt it as their regulation, as the development of the GIPS standards could deviate from the policy they would want locally. Within the GIPS standards there is a provision that allows a compliant entity to provide what is required by local laws and regulations while maintaining GIPS compliance through the inclusion of certain disclosures.
We welcome regulators that wish to monitor those who claim compliance and have provided guidance to regulators who are interested in validating claims of compliance. The US SEC considers a claim of GIPS compliance as advertising. If they can see that the claim is not being upheld, they will consider the fact that the claim of compliance was made as false advertising. There have been several prosecutions for this by the SEC in the US.
Verification is an additional, voluntary undertaking that a firm that is claiming compliance can undergo. Verification is not mandatory and a firm can claim compliance with the GIPS standards without being verified; however, it is a recommendation in the GIPS standards. A verifier must be an independent third party and cannot verify their own work, but a verifier can also be used as a body of knowledge regarding the GIPS standards by the entity that is claiming compliance. If you’re a small shop, as quite a few of the alternative houses are, you may not have somebody that is a full-time GIPS specialist, but you could go to a verifier (or a GIPS consultant) who has strong knowledge and you could use them 24/7 as GIPS standards experts. They can provide you with some guidance and ideas of how you could approach certain issues you encounter as you maintain your claim of compliance. The attestation from an independent third party provides an additional level of assurance that the entity claiming compliance has complied with all the composite construction requirements of the GIPS standards and that the firm’s policies and procedures are designed to calculate and present performance in compliance with the GIPS standards.
Evolving guidance statements on risk, IRRs, fees…
What other things have we been considering, bearing in mind alternatives? We’re looking at a guidance statement on overlay – multi-asset overlays, duration overlays, currency overlays; that’s on its way, maybe six to nine more months. Guidance statements are always sent out for public comment with a three-month public comment period which is preceded by the release of the exposure draft. We consider all the responses, and sometimes we rewrite, or sometimes we say, “That’s not quite right,” and we carry on. But nonetheless, all the public comment is read and discussed by the relevant committees.
A prime example of this process is the risk guidance statement. Because of some of the comments that wereceived, we withheld publication, and we’re breaking it into two parts: something that is very specific to the GIPS standards and something that is more generic in terms of defining and considering risk and how you might present risk in a compliant presentation.
We’re also looking at IRRs as mentioned before with other concepts under consideration such as portability and supplemental information. The supplemental information guidance statement is currently a principles-based document and may require being more prescriptive. Likewise, the portability guidance statement is being reviewed to ensure it reflects what is considered to be best practice when using a past performance record of assets that were managed outside of the entity that they have now joined and which is claiming compliance.
Another big issue we’re also considering is fees – not how to generate net and gross, but transparency of fees. This is a big issue for a number of governments – not least the UK with the changes in the UK pension concepts. What are the fees that are being charged, what are they being charged for and at what levels are they being charged? How much are asset owners paying out in fees and for what services? A very small change in fees can make a huge difference to the asset owner in terms of the amount of money that they receive after their 20 or 25 years. A recent survey showed that an active pension plan manager adds 15 basis points of value per year. If you really don’t know what fees you are paying out because you don’t have that level of information available to you, you could mislay those 15 basis points very easily in a year and produce returns that do not fully reflect the costs associated with the investments being represented.
Opportunities to help shape the future of the GIPS standards!
We are listening to the industry, and we very much need the input from the industry. There are 10 staff in CFA Institute who work on the GIPS standards – just 10 people for the standards worldwide. We have about 120 volunteers that sit in the working groups and standing committees that generate the ideas and the policies that become the GIPS standards. We are always looking for new volunteers who are willing to get involved, whether it be verification, technical sub-committees, overlay sub-committees, risk, or fee transparency, and whether they are interested in a local role or working in a committee with members from around the world.
THE CHALLENGES FOR MANAGERS
Melinda Carter: I’m Melinda Carter, head of product marketing for GAM. I’ve been with GAM for about 10 years. Although we now have a very broad product offering, GAM is still known as primarily a hedge fund or as an alternatives house. We’ve been very fluid, changing with the market over the years to evolve our product set. We started in 1983, mainly with private client assets in multi-asset solutions and our founder, Gilbert de Botton, was notorious for embracing the highest standards of everything. Our clients had to have the best of the best of the best; hence our early adoption of GIPS. He was one of the pioneers of open-architecture investing, so if he couldn’t hire the investment managers to come in and be in-house, he would commission them to run either dedicated funds or invest via fund of funds types of structures. The absolute return concept indeed was very much embraced, so we’ve always had a very significant portion of absolute return assets.
By the time we became GIPS-compliant in 2001, we had roughly $15 billion to $20 billion under management. The assets were mainly in long-only equities and managed portfolios, as we called it, which are multi-asset class portfolios. We also had started what was to become a significant fund of hedge funds business, for which we became quite well known. Our assets peaked inabout 2008, mainly comprising a mix of the fund of hedge funds business and the private client business, with single-manager equity being of a much smaller portion. Things changed quite significantly thereafter, and we bought a fixed income manager, so we finally had fixed income managers in-house. Today our assets are probably almost half fixed income, much of it absolute return, with single-manager long-only sitting next to it, and a smaller portion in the former fund of hedge funds business, which is now a more institutional-focused alternative investment solutions (AIS) group, and the multi-asset class business.
As a group, we have about $120 billion under management, about $75 billion of which lies in investment management assets. The rest of it is allocated to what’s called private label funds, which is an administrative platform that’s quite unique to Switzerland. Our assets are run by about 15 internal and about 15 external dedicated managers of GAM funds, which has been an interesting experience from a GIPS perspective.
To address some of the issues that have come up with the earlier speakers, it’s very much a global business in terms of the way we market and where our managers are based, which gives us another set of issues. But we are focused mainly on the liquid side, and we always have been. So from a liquidity perspective, when talking about valuing assets for GIPS purposes, it’s not usually a problem.
We have always created our GIPS composites at a gross level, and then obviously for the US we have to do gross and net. For netting, we tend to use hypothetical net estimations based on actuals in the way that Mabs talked about. The main thing is to be as transparent as possible. In the event of a side pocket, we would create GIPS composites of those unmanaged assets. That hasn’t posed a problem from a GIPS perspective.
In terms of managed accounts, we do have quite a few, and it’s just a matter of understanding what the strategy is and grouping them together. That’s probably a more challenging aspect on a day-to-day basis. Because we run so many different strategies, we have very narrowly defined composites, so we have a lot of them. The maintenance and tracking of those, and making sure that message goes through from the investment teams, through admin, through to the data team, to the marketing team, making sure we’ve got that chain of communication, is an ongoing challenge for any manager.
One of the challenges for GAM when we first defined our GIPS firm was that we had a large Swiss client base, and we weren’t allowed to hold client data outside of Switzerland. So add to it that that client base was investing mainly via funds of funds, and there were a lot of internal funds, we had a double-count issue. The way we addressed that issue was by creating two GIPS firms, so that we’ve got the private client accounts in one GIPS firm, i.e., “the managed portfolios firm”, preventing a double count by only counting assets once within each GIPS firm. Then all of what we call the “funds business” sits outside of that in the “firm firm” as opposed to the managed portfolios firm. So we’ve separated it that way. It does make it a little more complicated, because you’re looking at two separate things, but we are able to leverage the same systems. That’s worked well in the end.
In terms of the ongoing challenges we’ve had, I touched on the fact that we have a long chain of communication. With many of our long-standing mandates, we’ve had changes in the benchmark over time, so one challenge is making sure everyone’s being informed when that does need to change, and that we’re talking to the GIPS verifiers to make sure that’s reflected. You do from time to time get mandates that move from one composite to another because of it. For example, we may have a global fixed income mandate, then the client decides they’re going to go global ex US. Do you make a new composite? Do you change the composite? It depends what else is in there. There are a lot of instances where we’re going back and forth making an active decision on where we need to allocate the different underlying funds.
Mergers and acquisitions
I’ll touch on some of the issues we’ve had with regard to acquisitions over the years. I did highlight earlier our acquisition of a fixed income business. They were GIPS-compliant, but there was a lot of information that needed to be tracked down, particularly for closed accounts. I can’t encourage you enough to start now in terms of keeping good records for GIPS purposes, because it will make it a lot easier in the end. It took us some time to get all of the documentation in order to bring the fixed income assets under GIPS due to mandates that changed over time and the closed accounts that needed to be documented.
We also bought a small Swiss asset manager in 2012 that wasn’t GIPS compliant. They had about 10 funds and two mandates. It sounds quite simple: they were very well defined because they were a market-neutral equity shop. We were able to define the composites, but the difficulty was that they had come out of another Swiss bank, and the record-keeping again became problematic. They didn’t have gross returns to hand. They only had net returns due to the bank’s admin and custody set-up, so it took us a lot of time to just get the appropriate documentation to bring them into the GIPS firm.
Our latest acquisition was a small MBS US-based manager which was not GIPS-compliant in 2014. They only had very limited number of track records and they were a bit better organised, so that was quite straightforward. The only thorny thing there was some of the closed funds, i.e., the accounts that were no longer active. We had to retrospectively look at those to determine which were relevant.
Our current acquisition-based challenge is in looking at consolidating GIPS firms across the group. Although we are all GIPS-compliant, we use different approaches and systems. One component uses SimCorp, the other uses StatPro, so it’s like apples and oranges when you’re trying to put the data together. One of us is going to have to change and move to the other system. One part tends to have slightly simpler strategies, more long-only strategies, so their composites are defined much more broadly, whereas another part are very specific.
So how do we find a middle ground? Do we put master composites around them? For example, look at European equities, a situation where we have four teams across the group that run them in different ways. Do we have four underlying composites and a master composite over the top, or a value master composite and a growth master composite? How do we do that? So there are lots of issues we’re considering when thinking about bringing those under the same GIPS firm.
Colin Bettison: Man Group started about 225 years ago making barrels. I don’t think there were any GIPS compliance regulations then, but what happened in 2010 is that Man Group bought GLG and in 2009, GLG had purchased Soc Gen Asset Management UK; SocGen Asset Management was GIPS-compliant. So we decided at that point that GLG Partners would become GIPS-compliant as well. It was a huge exercise, going backwards to get the verification for the historic track records for the GLG funds. Obviously the Soc Gen funds were already GIPS-compliant, but to go back in time and verify the GLG funds’ performance to be GIPS-compliant was a huge exercise. We worked very closely with Ernst & Young to produce our GIPS verification for the historic track records for GLG, and ever since then, GLG has been GIPS-compliant.
So Man Group is quite unique in the sense that it has managers that are GIPS-compliant and managers that are not. There are obviously various reasons why that might be the case. Some of the reasons we’ll probably not go into – some are historic reasons, some are because of the nature of the assets that are traded and the way the funds are structured, and the nature of the way we show composites and track records.
It is very important to our clients that we have GIPS-compliant managers. We can piggyback off the additional controls we have in place in order to be GIPS-compliant and show that is a standard that we set across the firm. So even though we’re not GIPS-verified or GIPS-compliant in other parts of the business, we do have the same standards of procedures and policies that we expect will keep us GIPS-compliant in our GIPS world. But outside of our GIPS world, it’s an enhancement to our marketability and our procedures.
One thing that is important and probably unverifiable is to say how much money GLG has been able to raise by being GIPS-compliant versus being non-GIPS-compliant. I think that is a challenge for the future more than the past. In the past, there were times when the GLG performance dipped and it didn’t really matter whether we were GIPS-compliant or not. But as performance improves, is GIPS compliance enough to set you apart from a competitor? I think the answer is yes, but also you can enhance the rest of the firm with the additional procedures and policies that you have in place. What I’ve learned today is that the asset allocators and the money managers above us, the sovereign wealth funds and pension funds, are looking to become GIPS-compliant themselves. I’d be surprised if in the short term it’s a requirement for a manager to be GIPS-compliant because I think that falls apart very quickly.
But if that does become more standard, then Man Group as a firm will have to look to the other parts of its business to see how easily it could become GIPS-compliant there or how likely the appetite for maintaining that commercial edge is going to be in our systematic trading fund, which obviously has a capacity. So if it’s already full, do I need to become GIPS-compliant? Can it get bigger if I become GIPS-compliant? Those are the type of questions we have to ask. There is stuff to think about in the future as well. Becoming GIPS-compliant was a hard piece of work for the GLG side, but it has definitely been beneficial, and we now look to see if it becomes additionally beneficial for the rest of the firm. We don’t make barrels anymore!
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