Top Three Reasons You May Not Be GIPS Compliant

October 15, 2014

Intl MoneyYou probably know why your firm should be GIPS compliant (check out our whitepaper “Six Things You Need To Know About Composite Management and GIPS” on the topic) but even if you are on board, there is a good chance that you are violating GIPS standards unknowingly. We recently attended the GIPS Standard annual conference where verifier Karyn D. Vincent of ACA Performance Services, LLC gave a presentation on common errors she sees when assessing GIPS compliance. For those of you who don’t have the time to watch her full presentation, we distilled three key areas where your compliance may be falling through the cracks.

1. Vague Definitions and Policies

Often firms understand what GIPS policies must be met and adhere to them, but do not document procedures for maintaining compliance. It is vital for investment managers to specify not only what policies they have in place, but each step necessary to achieve it.

Another area that firms struggle with is clearly defining their mandate in their clients’ investment management agreement. This is especially important if your firm manages multiple, similar composites. Often firms will list a non-specific investment policy statement as their investment guidelines but if the agreement doesn’t define mandate, it’s hard to prove you have selected the right composites.

Once you have a clear documentation of mandate and place an account in a certain composite, it should stay there. Having a complicated inclusion and exclusion policy can confuse a tactical move with a change in mandate. Unless your client directs you to substantially change the strategy of their portfolio or this is a composite redefinition, changes to their account should not affect composite inclusion.

2. Lack of Communication

Your firm must make every effort to deliver a GIPS-compliant presentation to all clients and prospects. Many firms are diligent in drafting compliant reports but then do not distribute them appropriately. These presentations should go out on a yearly basis to all clients of a current strategy, clients who are interested in a new strategy, consultants, and prospects. It is up to you to define what constitutes a prospective client, but you must define and document it. It’s also key to track this information as you are likely to be questioned on your distribution by regulators.

Likewise, you should have documented policies and procedures on what constitutes a material error in a presentation and how to communicate that error to clients.

3. Inconsistent Return Calculations

To present accurate returns, you must calculate net of trading expenses for the period. One area where this is a problem is in deducting commissions. You may think that account commissions are being automatically deducted, but sometimes this isn’t the case. Returns on dual contract accounts and new custodian/brokerage accounts often are not paying typical commissions and therefore being calculated incorrectly. Check with your traders to ensure you are aware of these exceptions.

Withholding taxes can also be a point of confusion in calculating returns. Taxes are either reclaimable or non-reclaimable and while your return calculations are probably net of non-reclaimable taxes, you need to consider whether to deduct reclaimable taxes. If you are unsure of whether these taxes can actually be reclaimed, you should not accrue for them.

Lastly, ensure that if you are using model fees to calculate returns, these fees do not generate higher returns than if you had used actual fees. That means you should use the highest management fee incurred by portfolios in the composite or highest fee applicable to each specific client or prospect and test to prove that returns are not overstated.

 

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