Complying with the Global Investment Performance Standards docx

Complying with the Global
Investment Performance
Standards (GIPS
®
)
The Frank J. Fabozzi Series
Fixed Income Securities, Second Edition by Frank J. Fabozzi
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Sergio M. Focardi
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Frank J. Fabozzi
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¨
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¨
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Michele Leonardo Bianchi, and Frank J. Fabozzi
Complying with the Global
Investment Performance
Standards (GIPS
®
)
BRUCE J. FEIBEL
KARYN D. VINCENT
John Wiley & Sons, Inc.
Copyright
c


2011 by John Wiley & Sons, Inc. All rights reserved.
Published by John Wiley & Sons, Inc., Hoboken, New Jersey.
Published simultaneously in Canada.
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GIPS
®
is a registered trademark of CFA Institute.
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ISBN 978-0-470-40092-0 (hardback); 978-1-11-09300-9 (ebk);
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Printed in the United States of America.
10987654321
To Eli and Sam
—BJF
To Erin
—KDV
Contents
About the Authors xi
Preface xiii
Acknowledgments xv
Introduction xvii
PART ONE
Explanation of the GIPS Standards
CHAPTER 1
Fundamentals of Compliance 3
Scope of the GIPS Standards 3
History of the GIPS Standards 4
Governance of the GIPS Standards 5
Organization of the GIPS Standards 7
Fundamentals of Compliance 8
Summary 12
CHAPTER 2
Defining the Firm and Composites 13
Defining the Firm 13
Defining Composites 23
Summary 50
PART TWO

The Methodology for Calculating Returns
CHAPTER 3
Portfolio Return Measurement 53
Single Period Rate of Return 54
Time Value of Money 63
Performance of the Investor: Money Weighted Returns 67
vii
viii CONTENTS
Internal Rate of Return 71
Performance of the Investment Manager: Time
Weighted Returns 77
Portfolio Return Calculations for the GIPS Standards 82
Summary 90
CHAPTER 4
Composite Return Measurement 91
Composite Constituents 91
Composite Returns 93
Single Period Composite Return Considerations 97
Multi-period Composite Returns 100
Summary 107
CHAPTER 5
Dispersion and Risk Measurement 109
Internal Dispersion 109
Equal Weighted Dispersion 111
Asset Weighted Dispersion 114
Risk 119
Summary 137
PART THREE
Reporting and Maintaining Compliance with the GIPS Standards
CHAPTER 6

Disclosing and Advertising Composite Performance 141
Required Numerical Information 141
Required Disclosures 149
Length of Time for Disclosures 168
Presentation and Disclosure Recommendations 168
Supplemental Information 170
GIPS Advertising Guidelines 171
Summary 177
CHAPTER 7
Wrap-Fee/SMA, Private Equity, and Real Estate 179
Wrap-Fee/Separately Managed Accounts 180
Private Equity 188
Real Estate 198
Summary 203
Contents
ix
CHAPTER 8
Maintaining Compliance with the GIPS Standards 205
Organization and Oversight 205
Return Calculation 211
Error Correction 215
Managing Composites and Presentations 220
Summary 226
CHAPTER 9
Verification 227
Verification 228
Performance Examinations 229
Verification Considerations 230
Required Verification Procedures 234
The Verifier’s Report 241

Preparing for Verification 241
Summary 245
Index 247
About the Authors
Bruce J. Feibel, CFA is Managing Director of Products for Investment
Manager Services at BNY Mellon. Formerly, Mr. Feibel was Chief Strategy
Officer for Eagle Investment Systems, a BNY Mellon company. He also has
been Director of Global Products for BNY Mellon Analytical Solutions and
Product Manager of Performance Measurement Technology at Eagle Invest-
ment Systems. Prior to joining Eagle, Feibel was a principal at State Street
Global Advisors. He is a past member of the CFA Institute Investment Per-
formance Council and the GIPS Risk Standards Working Group. He is also
the author of the book Investment Performance Measurement published by
John Wiley & Sons. He earned his B.S. in Accounting from the University
of Florida.
Karyn D. Vincent, CFA, CIPM is the founder of Vincent Performance Ser-
vices LLC, which provides GIPS consulting and verification services. Previ-
ously, she served as the global practice leader for investment performance
services at PricewaterhouseCoopers. Ms. Vincent is an active volunteer with
CFA Institute and serves on the GIPS Executive Committee, which is re-
sponsible for overseeing the GIPS standards globally. She chairs the GIPS
Interpretations Subcommittee and previously was a member of the CIPM
Advisory Council. From 2002–2006 she chaired the AIMR-PPS
®
Implemen-
tation Committee and the GIPS Verification Subcommittee. She earned a B.S
in Accounting from the University of Massachusetts Dartmouth.
xi
Preface
P

erformance measurement is an important concept for anyone managing
or investing institutional assets. Complying with the Global Investment
Performance Standards (GIPS
®
) provides individuals and firms with two
things: (1) guidance for the investment firm in achieving compliance with
the Global Investment Performance Standards—the GIPS standards—and
(2) detailed explanations of the rationale and methodology behind the
numbers.
Expanding upon the information on the GIPS standards published by
CFA Institute, this book is intended to be a comprehensive overview, but
also detailed enough to provide the practical hands-on guidance required
by investment professionals. Our intent is to explain not just what the GIPS
standards are, but also how to comply with them. Our opinions on achiev-
ing and maintaining compliance with the GIPS standards are represented in
the following chapters and when writing this book, we referred to the 2010
edition of the GIPS standards, which is officially titled, Global Investment
Performance Standards (GIPS
®
): As Adopted by the GIPS Executive Com-
mittee on 29 January 2010 (Charlottesville, VA: CFA Institute 2010). We
also refer to other applicable interpretive guidance issued by CFA Institute
and available on the GIPS standards web site as of March 19, 2011. As
this book is not official guidance, individuals and firms should check the
resources provided by CFA Institute if questions arise and consult with their
GIPS advisors. Official CFA Institute resources for the GIPS standards, in-
cluding any updates to the GIPS standards and any interpretive guidance,
are located at www.gipsstandards.org.
This book covers the requirements and recommendations of the 2010
edition of the GIPS standards, which went into effect on January 1, 2011.

xiii
Acknowledgments
T
his book has benefited from countless conversations with clients and col-
leagues, and we thank all of them. Although we received advice and input
from many people, any errors or omissions are our own. Our sincere hope
is that this book helps firms achieve compliance with the GIPS standards,
and simplifies the process of maintaining compliance. We welcome your
feedback at and
B
RUCE J. FEIBEL
Brookline, Massachusetts
K
ARYN D. VINCENT
Portland, Oregon
xv
Introduction
T
he investment management industry has global standards for the cal-
culation and presentation of investment performance to prospective in-
vestors. These are the Global Investment Performance Standards (GIPS
®
),
which were created and are administered by CFA Institute. The topic of this
book is how to calculate returns and present investment performance results
in accordance with the GIPS standards. The GIPS standards are applicable
to all investment firms globally that have discretion to manage assets.
CFA Institute is a nonprofit association of portfolio managers, analysts,
and other participants in the investment management process. CFA Institute
runs the Chartered Financial Analyst, or CFA program. An important goal

of CFA Institute is to maintain and enhance the reputation of the investment
management profession and its practitioners. In this role, CFA Institute
has developed a Code of Ethics and Standards of Professional Conduct
(together, the Code and Standards) outlining member responsibilities to the
profession, employers, clients, prospects, and the general public. All CFA
charterholders agree to uphold the Code and Standards, which include a
requirement to make reasonable efforts to provide performance information
that is fair, accurate, and complete. Complying with the GIPS standards
helps CFA charterholders, and thus their firms, meet this requirement. The
GIPS standards are widely used by firms who wish to adopt this same ethical
approach to the fair presentation of performance results.
While past performance cannot guarantee future results, the reality of
asset management is that the investment firm’s historical performance record
is a primary consideration for the investor looking to hire a new manager.
Performance records are not just used to identify top-performing managers,
but also to determine if the manager’s track record reflects the firm’s stated
style and strategy. The main goals of the GIPS standards are that the per-
formance presented to prospective investors is comparable across managers,
has been prepared in such a way that it represents a complete and accurate
record of performance for the strategy of interest to the prospect, and is
accompanied with the disclosures necessary to ensure an accurate interpre-
tation of the manager’s record.
xvii
xviii INTRODUCTION
The competition between money managers today to attract assets from
investors is intense. Thousands of organizations offer products with a myr-
iad of strategies intended to align the opportunities presented by the capital
markets with investor goals and objectives. The GIPS standards, and their
predecessor standards, have been extremely successful in ensuring that in-
vestors are able to understand past performance in the process of choosing

among different managers.
The GIPS standards are important to society as a whole. We all have
a s take in the success of the institutions we depend on being able to make
informed choices among asset management firms. After all, these managers
are selected to implement investment programs that provide the funds to
achieve vital goals such as the funding of retiree pensions, educating future
generations of students, and performing charitable activities.
PERFORMANCE COMPOSITES
Assuming that an investment advisory firm manages more than one portfolio
and periodically offers new strategies, what performance data is available to
prospective clients? There are several types of returns that could be presented
as part of the marketing process:

For a manager who is currently managing money for multiple clients,
a representative client account could be selected that demonstrates the
performance experienced by the average client or client similar to the
prospect.

The manager may maintain a model portfolio that tracks the manager’s
intended strategy. Individual client funds are traded and rebalanced
according to the model account strategy.

Backtesting the manager’s strategy or models could generate hypothet-
ical performance numbers. A new manager or a manager with a new
strategy will test how the strategy would have theoretically performed
in the past.

The performance of each of the firm’s strategies can be presented using
the aggregated or composite performance of all of the accounts follow-
ing the same strategy.

For each of these alternatives, the manager could also choose to present
the account or composite performance over particular time periods.
Given these options, prospective investors need to know exactly what
the performance record represents. What would stop a manager from offer-
ing up as a representative account the best-performing account instead of
Introduction
xix
the average account? Government regulations attempt to guard against the
unscrupulous money manager or advisor. But institutional investors want
not only honest, but also comparable and independently tested performance
returns for use when evaluating the suitability of a manager.
To this end, the GIPS standards outline the process for creating perfor-
mance composites. Each composite represents the aggregate performance
history of all accounts managed in a particular strategy, and is used to
support the marketing of the strategy to prospective investors. The GIPS
standards provide guidance for:

Accounting data inputs to the performance calculations.

Methodology used to calculate the returns.

Construction methodology for composites of portfolios.

Disclosures of information about the strategy, the composite, and
the firm.

Presentation and advertising of performance information to prospects.
The GIPS standards are typically used when performance information
is communicated between an investment firm and prospective institutional
investors, such as a corporate pension fund, university endowment, or char-

itable foundation. But the GIPS standards’ sphere of influence is broader
than this. All aspects of performance measurement, including return calcu-
lation, performance attribution, and client reporting of performance to both
individual and institutional investors, are influenced by the GIPS standards.
The GIPS standards are a form of industry self-regulation. While there is no
law that an investment firm must create its marketing materials according
to the GIPS standards, compliance with the GIPS standards has become a
de facto requirement in many parts of the world.
ABOUT THE BOOK
This book contains nine chapters grouped into the following three parts:

Part One. Explanation of the GIPS standards and how to comply with
them by creating composites representing the performance of the firm’s
strategies.

Part Two. The methodology for calculating returns used to quantify the
manager’s historical performance and statistics gauging the risks taken
to achieve these returns.

Part Three. Guidance for reporting performance and maintaining com-
pliance with the GIPS standards. The section on how to prepare
xx INTRODUCTION
GIPS-compliant presentations and other marketing materials describes
best practices for maintaining compliance, special requirements appli-
cable to firms managing nontraditional portfolios, as well as the inde-
pendent verification process.
Understanding how to report performance in compliance with the GIPS
standards is only one component of the performance measurement body
of knowledge. The scope of the book is limited to the performance mea-
surement and presentation techniques required for GIPS compliance. For

example, portfolio and composite performance calculations are explained
but we do not delve into security-level performance calculations.
Although this book provides worked examples illustrating particular
techniques for analyzing performance, there is an important qualification
accompanying these examples: We do not mean to imply that the methodol-
ogy presented here is the only way to calculate returns. The GIPS standards
provide some flexibility for tailoring return calculations to the needs of the
situation. Many of the other statistics documented in this book can also be
calculated in different ways. The book is not intended as an encyclopedic
listing of all the ways returns can be calculated. Instead, we describe the most
commonly used methodologies for deriving the returns used for marketing
purposes.
PART
One
Explanation of the
GIPS Standards
Complying with the Global Investment Performance Standards (GIPS
®
)
by Bruce J. Feibel and Karyn D. Vincent
Copyright © 2011 John Wiley & Sons, Inc.
CHAPTER
1
Fundamentals of Compliance
T
he institutional investor searching for a new investment manager will
consider many factors before making a choice. The manager’s reputa-
tion, the breadth of the firm’s offerings, and the manager’s fee schedule all
play a role in this decision. While past performance cannot guarantee fu-
ture results, this information provides valuable insight about an investment

manager. One factor that is almost always considered in a search is the
investment manager’s historical track record. With only a few exceptions,
investment managers have historically had minimal, if any, regulations or
guidance that instructs the firm on how to calculate and report investment
performance to prospective investors. The Global Investment Performance
Standards (GIPS
®
), administered by CFA Institute, fill that void.
SCOPE OF THE GIPS STANDARDS
The Global Investment Performance Standards are a set of voluntary stan-
dards for calculating and reporting investment performance to a prospective
investor. Institutional investors, such as pension plans and endowments, will
often consider hiring only managers who have calculated and presented their
performance in compliance with the GIPS standards. The GIPS standards
provide investors with assurance that performance records are comparable
and that they are prepared based on the ethical principles of fair represen-
tation and full disclosure.
The GIPS standards do not attempt to address every performance mea-
surement issue that a money manager may face. For example, the GIPS stan-
dards are not intended to govern performance presented as part of internal
reporting within the investment management firm or for client reporting to
existing clients. The GIPS standards are primarily concerned with marketing
performance history to prospective clients.
There is no global law that requires a firm to comply with the GIPS
standards. (But if an investment manager claims compliance, the local
3
Complying with the Global Investment Performance Standards (GIPS
®
)
by Bruce J. Feibel and Karyn D. Vincent

Copyright © 2011 John Wiley & Sons, Inc.
4 EXPLANATION OF THE GIPS STANDARDS
regulator can and often does test that claim.) The GIPS standards are a
form of industry self-regulation. An investment manager that chooses to
comply with the GIPS standards must comply with all of the applicable re-
quirements of the GIPS standards on a firmwide basis. The GIPS standards
also include a series of recommendations that are considered industry best
practices. A firm that complies with the GIPS standards may select which, if
any, of these recommendations the firm will adopt and follow.
HISTORY OF THE GIPS STANDARDS
Several decades ago, the Association for Investment Management and Re-
search (AIMR
®
, now known as CFA Institute) recognized the need for per-
formance standards. In 1987, the AIMR Performance Presentation Stan-
dards (AIMR-PPS
®
) were issued and over the next decade became widely
adopted in the United States, primarily by managers of institutional as-
sets. At the same time, other countries were beginning to take notice of
these standards. Recognizing that the AIMR-PPS standards were directed
mainly at the U.S. and Canadian markets, several countries used the AIMR-
PPS standards as a starting point and tailored them for local use. To fa-
cilitate the ability of money managers to do business across borders and
address the proliferation of country-specific standards, in 1995 AIMR un-
dertook the process of creating a set of performance standards that could be
used by all firms globally. The end result of this effort was the issuance of
the first edition of the GIPS standards in February 1999.
Several countries adopted the GIPS standards as their local standard as
issued, making no changes. However, other countries that already had their

own standards were hesitant to replace their current standards with the GIPS
standards, particularly if the local standards had been widely adopted and
extensively interpreted, as was the case in the United States and Canada.
To take the first step toward unifying the different standards used globally,
a concept of Country Versions of GIPS (CVG) was created. Each CVG
would have as its core the GIPS standards themselves, but would allow
for additional requirements and recommendations over and above those
included in the GIPS standards. In 2000, the AIMR-PPS standards became
a CVG. The process to become a CVG was quite simple for the AIMR-PPS
standards, since the GIPS standards were primarily based on the concepts in
the AIMR-PPS standards.
When the GIPS standards were originally created, it was agreed that they
would be reviewed and updated every five years. This first five-year review
resulted in the issuance of the 2005 edition of the GIPS standards in February
of that year. This edition began the process of eliminating all CVGs as a key
Fundamentals of Compliance
5
step toward meeting the stated goal of having one standard for performance
calculation and presentation used globally. Firms that complied with a CVG
could continue to do so until they reported performance for any period
after December 31, 2005. Once a firm reported performance for subsequent
periods, the firm was required to transition from CVG-based reporting to
reporting in compliance with the GIPS standards.
To facilitate convergence to one global standard, the GIPS standards
provided full reciprocity for historical periods. For example, a firm that
previously complied with the AIMR-PPS standards and transitioned to the
GIPS standards in 2006 could state that the firm complied with the GIPS
standards for all periods and make no reference to prior compliance with
the AIMR-PPS standards. Reciprocity allowed firms throughout the world
to remove references to local standards from their presentations and to speak

only about the GIPS standards.
The next five-year update was completed in January 2010 when the
2010 edition of the GIPS standards was issued. The 2010 edition has an
effective date of January 1, 2011. Compliant presentations that include any
performance results for periods beginning on or after January 1, 2011 must
comply with the presentation and disclosure requirements of the 2010 edi-
tion. All input and calculation data requirements must be followed beginning
on that date. (Unless explicitly stated otherwise, this book references and
provides guidance for the 2010 edition of the GIPS standards.)
To facilitate global acceptance and adoption of the GIPS standards,
local sponsoring organizations serve as “Country Sponsors” of the GIPS
standards. Country Sponsors, such as The Securities Analysts Association of
Japan, promote the GIPS standards in their local market, and provide feed-
back and input on country-specific concerns. As of December 2010, over 30
Country Sponsors have adopted the GIPS standards as their local standard.
A current list of Country Sponsors is available on the GIPS standards web
site (www.gipsstandards.org). In accordance with standard CFA Institute
practice, for governance purposes Country Sponsors are pooled into three
geographic areas: Americas; EMEA (Europe, Middle East, and Africa); and
Asia Pacific.
GOVERNANCE OF THE GIPS STANDARDS
CFA Institute is an investments industry association that is best known
as the administrator of the CFA and CIPM exams. The Chartered Financial
Analyst
®
(CFA
®
) designation is a key credential for anyone in the investment
management industry. The Certificate in Investment Performance Measure-
ment (CIPM) program has a narrower focus on the investment performance

6 EXPLANATION OF THE GIPS STANDARDS
FIGURE 1.1 GIPS Standards Executive Committee
field. CFA Institute has ultimate responsibility for the GIPS standards and
funds a permanent staff to promote and enhance the GIPS standards. CFA
Institute recruits volunteers from a variety of constituents to guide and en-
hance the GIPS standards.
The Executive Committee (EC) serves as the decision-making authority
for the GIPS standards. The EC, which functions as the equivalent to a com-
pany’s Board of Directors, includes nine “seats” and is organized according
to the structure illustrated in Figure 1.1.
Four of the nine seats (Investor/Consultant, Interpretations, Investment
Manager, and Verification/Practitioner) are appointed by CFA Institute.
Four seats represent Country Sponsors through the global Regional Invest-
ment Performance Subcommittees (RIPS) and the GIPS Council, and are
Fundamentals of Compliance
7
elected by Country Sponsors. (The GIPS Council includes a representative
from each Country Sponsor.) The ninth seat is held by the CFA Institute
Executive Director of the GIPS standards.
With the exception of the CFA Institute Executive Director seat, which
is a permanent position, all seats have term limits. The GIPS Council Chair
seat rotates every two years, and rotates between the three geographical
segments. All other seats are elected or appointed for four-year terms.
Each EC member chairs a subcommittee, and each subcommittee is sup-
ported by a CFA staff liaison. The subcommittees and CFA staff members
do much of the detailed work required to maintain and improve the GIPS
standards. Subcommittees and working groups are created as needed. For
example, a working group of private equity specialists was created to oversee
the update of the private equity guidance for the 2010 edition. The contin-
ued success of the GIPS standards globally is directly related to the active

participation by committed and engaged volunteers and Country Sponsor
organizations.
ORGANIZATION OF THE GIPS STANDARDS
Firms must comply with all requirements of the GIPS standards, as well as
any interpretive guidance. This body of knowledge includes the GIPS stan-
dards, a series of Questions & Answers addressing narrow issues, and Guid-
ance Statements, which are topical papers addressing issues more broadly.
A firm must comply with the GIPS standards themselves as well as Q&As,
Guidance Statements, and any other guidance issued by CFA Institute and
the GIPS Executive Committee.
All guidance is available at the GIPS standards web site. Guidance is
updated periodically, and CFA Institute notifies practitioners and other in-
terested parties of changes via e-mail alerts.
The GIPS standards themselves are collected in a booklet that is orga-
nized into five chapters and three appendixes (see Table 1.1). Each provision,
which represents either a requirement or a recommendation, has a number
that references a section in Chapter I. (For example, Provision 0.A.4 states
that the GIPS standards must be applied on a firmwide basis, and is included
in Section 0.) The glossary in Chapter V defines the specific meaning of key
words used in the GIPS standards. These terms are printed in the GIPS
standards in
SMALL CAPITAL LETTERS.
Each section of Chapter I contains both requirements and recommenda-
tions. All firms must comply with all of the applicable requirements within
Sections 0 to 5 of Chapter I. A firm may choose, however, which recom-
mendations it will follow. In the past, recommendations were viewed as
8 EXPLANATION OF THE GIPS STANDARDS
TABLE 1.1 Organization of the GIPS Standards
Chapter I, Section 0 Fundamentals of Compliance
Chapter I, Section 1 Input Data

Chapter I, Section 2 Calculation Methodology
Chapter I, Section 3 Composite Construction
Chapter I, Section 4 Disclosure
Chapter I, Section 5 Presentation and Reporting
Chapter I, Section 6 Real Estate
Chapter I, Section 7 Private Equity
Chapter I, Section 8 Wrap Fee/Separately Managed Account
(SMA) Portfolios
Chapter II GIPS Valuation Principles
Chapter III GIPS Advertising Guidelines
Chapter IV Verification
Chapter V Glossary
Appendix A Sample Compliant Presentations
Appendix B Sample Advertisements
Appendix C Sample List of Composite Descriptions
provisions that were likely to become requirements in future editions of the
GIPS standards. This may have been true when the GIPS standards and their
predecessor standards were new. However, given the maturity of the GIPS
standards, this is no longer the case and we should view the recommenda-
tions as simply best practices.
FUNDAMENTALS OF COMPLIANCE
The Fundamentals of Compliance section (Section 0) was first included in
the 2005 edition of the GIPS standards. Several of the provisions within this
section were added to explicitly state what had been implicit and to remove
any doubt about the responsibilities of a compliant firm. Other provisions
within Section 0 speak to overarching principles of the GIPS standards. The
following text explains the key provisions of Section 0.
Firmwide Compliance
An organization that chooses to comply with the GIPS standards must com-
ply on a firmwide basis. Firm is used throughout this book to refer to an

organization that has chosen to comply with the GIPS standards. Defining
Fundamentals of Compliance
9
the firm is the first step in the GIPS compliance process. Chapter 2 of this
book provides guidance on defining the firm.
Complete Compliance
An organization that does not claim compliance with the GIPS standards
can make no reference to the GIPS standards. Investment managers cannot
state that they are in “partial compliance” with the GIPS standards or are
“in compliance with the GIPS standards except for ” There is no ability
to partially comply with the GIPS standards. An organization either fully
complies with the GIPS standards or does not comply at all.
Use of Composites
The GIPS standards are predicated on the use of composites. A composite
is an entity representing a collection of all portfolios managed according
to a particular style or strategy. We use composites to recognize that most
investment firms manage multiple portfolios on behalf of multiple clients.
However, portfolios managed according to the same strategy could still
achieve a different return. One of the key notions underpinning the GIPS
standards is that the requirement to use composites prevents a firm from
“cherry picking” the best-performing portfolio for a strategy and using that
portfolio’s performance to represent the strategy’s track record. A prospec-
tive client should be able to review the fairest possible representation of a
firm’s track record. This would take into account not just selected portfolios
but all portfolios managed according to a specific strategy.
Composites must include only “actual” portfolios. The performance of
model or hypothetical portfolios may be presented as supplemental informa-
tion but may not be combined with the performance of actual portfolios. All
actual, fee-paying, discretionary portfolios must be included in a composite.
Chapter 2 provides a discussion on composite construction.

Policies and Procedures
A firm must document all policies and procedures that it has adopted for at-
taining and maintaining compliance with the GIPS standards. Firms combine
these policies and procedures into a firm-specific document that is commonly
named the GIPS Manual. GIPS Manual is the term that is used in this book
to refer to these policies and procedures. A firm’s GIPS Manual must address
all requirements of the GIPS standards, as well as any recommendations of
the GIPS standards that the firm has opted to follow. While many GIPS-
related policies and procedures are included in the GIPS Manual, the firm
10 EXPLANATION OF THE GIPS STANDARDS
may also choose to make reference to policies and procedures that are main-
tained elsewhere. For example, a firm may have pricing and other valuation
policies already documented in a separate pricing manual. The firm could
replicate this information in the GIPS Manual or simply refer to the pricing
manual.
A common mistake is that firms document only policies, and not pro-
cedures. A firm must document not only policies that the firm has adopted
but also the procedures by which those policies are applied. A policy can be
thought of as a statement describing what the firm has selected to do with
respect to a specific requirement. A sample policy is: “New portfolios are
included in the respective composite after the first full month under man-
agement.” Procedures are the steps the firm takes to ensure the firm follows
the established policy. Some of the procedures to ensure new portfolios are
included in composites at the correct time, in accordance with the firm’s
policy, could include:

The Performance Measurement department is included on all notifica-
tions of new clients.

For each new account, the assigned Relationship Manager completes a

New Account Form, summarizing the account’s mandate, benchmark,
restrictions, expected funding amount and date, and so forth. The New
Account Form is provided to all interested parties, including the Perfor-
mance Measurement department.

Upon receipt of the New Account Form, the Performance Measure-
ment department determines which composite(s) the account should be
assigned to.
Clearly articulated and detailed policies and procedures can be an in-
valuable tool for a firm to efficiently comply with the GIPS standards. A
robust GIPS Manual can also serve as a powerful first line of defense when
dealing with regulators. For example, in the United States, the Securities and
Exchange Commission (SEC) oversees most managers of institutional assets.
As part of its inspection program, the SEC may perform testing to determine
whether a firm that claims compliance with the GIPS standards is actually in
compliance with the GIPS standards. In 2007, the SEC issued the results of
a series of examinations that were specifically focused on performance and
advertising. A number of firms included in this “sweep” exam claimed com-
pliance with the GIPS standards or the predecessor AIMR-PPS standards,
but the SEC determined that a number of these firms had claimed compli-
ance improperly. The top two deficiencies cited by the SEC were inadequate
documentation of policies and procedures or a complete lack of policies and
Fundamentals of Compliance
11
procedures. The regulatory risk alone should provide motivation for a firm
to ensure the GIPS Manual is complete and as robust as possible.
Compliance with All Laws and Regulations
The 2010 edition of the GIPS standards includes a new Provision 0.A.2:
“Firms must comply with all applicable laws and regulations regarding the
calculation and presentation of performance.” This makes explicit what has

always been implicit in the GIPS standards. The GIPS standards have had
a long-standing requirement for a firm to disclose any conflicts between the
GIPS standards and applicable laws and/or regulations.
Firms claiming GIPS compliance cannot ignore regulatory requirements
that go beyond the GIPS standards. Instead, a firm must consider both the
GIPS standards and all applicable regulatory requirements. For example, the
GIPS standards allow a firm to present a prospective client with gross-of-
management fee returns only, net-of-management fee returns only, or both
gross and net returns. If a firm that is registered with the SEC chooses to
present only gross returns in materials provided to a prospective client in a
one-on-one meeting, four additional disclosures, commonly referred to as the
ICI II disclosures (see Investment Company Institute, SEC No-Action Letter
(pub. avail. September 23, 1988)), must be included for SEC purposes. (No-
action letters are issued by the SEC in response to questions asking if certain
practices would be allowed.) Personnel responsible for GIPS compliance
should work in tandem with the firm’s legal and compliance personnel to
ensure all regulatory requirements are met.
No False or Misleading Performance
Provision 0.A.3, new in the 2010 edition of the GIPS standards, states:
“Firms must not present performance or performance-related information
that is false or misleading.” This new provision is a direct result of industry
events over the time period when the GIPS standards were being updated.
Several firms that were discovered to be Ponzi schemes or that were report-
ing fictitious assets under management had falsely claimed compliance with
the GIPS standards. While adding this provision will not stop an unscrupu-
lous firm from claiming compliance, it clearly articulates the high ethical
standards that investment firms claiming GIPS compliance are expected to
uphold.
Provide a Compliant Presentation
A firm that claims compliance with the GIPS standards must make every

reasonable effort to provide a compliant presentation to all prospective