Heavy regulation in an industry is usually synonymous with a large body of standards expected of its participants.
Aviation, for instance, is loaded with rules and regulations on everything from cabin lighting to the number of flight hours permitted between engine overhauls. Partly as a response, virtually every facet of the industry – from pilots to aircraft manufacturers to avionics vendors – has an agreed set of best practices to follow that will ensure those rules and regulations are met. Such standards are usually developed over time as industries evolve and in response to prior mistakes and bad actors.
They typically accomplish two very important things: reinforce or exceed compliance with the applicable regulations and illustrate a company’s commitment to operating at high levels of competence, safety and professionalism to all stakeholders.
Interestingly, despite a steady diet of new legal and compliance requirements, the investment management industry operated for decades without a clear set of minimum standards governing key topics such as ethics, reporting, and return calculations – things that are approached with broad disparity across the industry.
Eventually, the Association of Investment Management (AIMR), now known as CFA Institute, unveiled a voluntary set of guidelines in 1987 designed to consolidate everyone into a common set of standards for investment performance reporting. Up to that point, managers calculated returns pretty much however they wanted, and investors lacked a way to fully understand – and compare – what they were getting from one fund with the next.
The AIMR standards were quickly accepted by the North American investment management industry, and a global set of expanded guidelines soon followed.
The Global Investment Performance Standards, or GIPS, were born in 1999 and, influenced in part by the 2008 global financial crisis, updated in 2010. They are now widely accepted worldwide as best practices for investment managers when it comes to performance calculation and presentation, disclosure, transparency, valuation and advertising.
However, investment management is uniquely fluid and fragmented, and developments since 2010 have made it clear that standards that seemed all-encompassing in 2010 needed some updating. Accordingly, the GIPS Standards 2020 initiative is aimed at modernizing the standards to both keep up with market developments and cast as wide a net as possible, making them relevant for all types of managers and investors.
The impetus for an update
Named GIPS Standards 2020, the revision’s primary objective is to address asset classes that were not fully accounted for in previous iterations.
As with any global standard-setting body, the ultimate goal is universal adoption by asset owners, asset managers and regulators. That said, a comparatively low uptake by alternative investment firms has revealed gaps in how the original framework dealt with alternative asset classes, like private equity. The standards weren’t generic enough to encompass the various ways alternative investment managers handle subjects like money-weighted rates of return and valuation of illiquid positions, so a broadening of the standards will ensure they can apply to all asset management firms, regardless of the asset classes in which they invest or the manner in which they distribute capital.
But that’s only one of the reasons why GIPS Standards 2020 is such an important update. Another is to acknowledge that the correct full and fair presentation of returns may be different for different types of investment vehicles, and even for different types of clients. For instance, should a pooled fund use a strategy composite for a presentation to a client? Generally, no – there are already regulatory requirements governing what is “full and fair”, and GIPS adds little value by forcing a manager to present something else to those clients.
With the goal of comparability in mind, GIPS Standards 2020 will update the main body of the standards to account for these differences and provide a common sheet to all asset managers investing in all asset types. Done correctly, this will ensure fair and comparable representations of their performance. How?
The three pillars
GIPS Standards 2020 enshrines the perspective of asset owners, not just managers.
This is a key development and the anchor for many of the revisions. Most asset owners report to someone – clients, trustees, finance departments, etc. – either externally or internally to their organizations, and there is value in GIPS Standards best practices whether one is selling externally or reporting internally. Indeed, it’s the asset owners themselves that have pressured managers to adopt a unified set of best practices. Accordingly, GIPS Standards 2020 broadens the scope to include three types of relationships between asset owners and asset managers:
This is the typical approach in which a strategy is presented via composite returns, and the manager has an individual relationship with individual clients.
A pooled fund broadly distributed across many investors without individual relationships with the manager.
The original GIPS Standards were largely aimed at how information was presented to prospective clients. It didn’t fully account for investors, such as sovereign wealth funds and family offices, that don’t present externally to clients. As noted, the standards are no less valuable to such managers and their stakeholders. But, because they also deal with error procedures, documentation, valuations, etc., the addition of this pillar significantly broadens the applicable universe.
Furthermore, each pillar supports the other two – investors rarely deal with just one of the three types, since their portfolios are diversified across multiple asset classes, geographies, markets, managers and industries.
Accordingly, having one set of universal standards in one raises the bar across the other two, levels the playing field between managers in each, and provides asset owners with both the reassurance that comes with a commitment to industry best practices and the comparability mentioned earlier.
Incorporating the three pillars also has benefits for managers and asset owners with emerging market exposures. Regulation and legal frameworks are not usually as robust in emerging markets, so GIPS Standards 2020 brings greater value just from a standardization perspective. Managers and regulators have a ready-made set of globally-accepted best practices, signed-off by the biggest and best in the world and available off the shelf for free. No one needs to reinvent the wheel. And it’s more than just checking a box – the GIPS Standards allow managers in a far-off emerging market to have the same sophistication in terms of governance, policies and procedures as managers in New York or London, catapulting them into the big leagues in terms of policies and procedures. In fact, much like many consumers in these markets have skipped landline phones and jumped straight to mobile ones, EM managers can jump directly to industry best practices embodied in the GIPS Standards.
A fourth constituency affected by the GIPS Standards 2020 update will be vendors, particularly technology firms who have needed to embed standards into an environment already dealing with things like MiFID II and GDPR. From a product development and maintenance perspective, the GIPS Standards revision will provide significant clarification around the questions that have arisen since 2010. In many cases, it will also solidify and/or simplify interim guidance and workarounds that have been in place for a long time. At StatPro, we expect the 2020 update will remove a lot of the grey areas around handling different portfolio complexities and client groups, help consolidate documentation, increase efficiency, and ensure the back office can deliver the transparency and consistency embodied in the standards. From a vendor’s perspective, having clear guidance on the goal posts is crucial to the timely and cost-effective evolution of our software.
The ten years since the last update have been filled with new regulations, market changes, manager suggestions, guidance statements, clarifications, Q&A etc – all the assorted feedback you’d expect from a decade of real-world implementation. Even without broadening the applicability of the standards, GIPS Standards needed to be brought up to date to have gaps filled, unnecessary elements eliminated, and misinterpretations definitively corrected. That said, it’s an extraordinarily complex process, and the committee in charge of GIPS Standards 2020 has been soliciting industry and regulatory feedback for months. Here’s the timeline:
Draft version of the GIPS Standards 2020
August 31, 2018
Public comment period ends
December 31, 2018
Final GIPS Standards 2020 adopted
June 30, 2019
Effective date for GIPS Standards 2020
January 1, 2020
In tandem with the expanded scope, GIPS Standards 2020 will be a near-complete rewrite of the standards. Some of the content will be repetitive, but broad swaths of the standards will be revamped. The integrity of the existing GIPS Standards framework will not be impacted, however. The existing standards do work, so those managers already in compliance should find this a relatively seamless process. That’s not to say managers already adhering to GIPS Standards can ignore the update or think it won’t be relevant to them – you’ll still need to read it and understand how it relates to you.
It is important that managers provide feedback, both positive and negative, during the public comment period. Conversely, managers who are not in line with the standards or don’t think they will apply to their work should study the GIPS Standards 2020 documentation carefully – a core objective of the revision is to ensure the standards can apply to a larger universe of managers and asset owners.
Ultimately, the core aim of GIPS Standards is to standardize how asset management firms calculate and report their performance; the GIPS Standards 2020 revision is focused on incorporating all the technological innovations, new regulations and market developments over the past ten years while rectifying, clarifying and adjusting the current body of standards to be effective to the widest universe of managers possible.
The 2010 GIPS Standards weren’t generic enough to apply to all types and flavors of managers; GIPS Standards 2020 will not only fix the myriad of issues raised by ten years of practice but also widen the net as much as possible. Ideally, it’s a positive feedback loop – the more asset owners who become GIPS Standards compliant, the less opportunity exists for managers to be imaginative in their approaches, and the more pressure exists for those outside the standards to adopt them.
Revising the voluntary standards of practice for an industry as complex and fluid as investment management is no easy task, but companies and their personnel shouldn’t think this will be a heavy lift. Those in compliance will remain that way (although you’ll want to read through the draft to note any updates), while those not in compliance or who don’t feel the GIPS Standards are applicable to them will have a simplified road map to get there. They also have plenty of time to revise policies and procedures accordingly and the incentive from asset owners to get aboard.
Returning to the aviation analogy, standards help ensure safe and proper operation of equipment, personnel and customers in a dynamic and unforgiving environment. It is in everyone’s best interest, both individually and collectively, that they are followed. Investment management is no different; GIPS Standards 2020 is the future of best practices in the industry, and will help fuse global asset owners, managers and regulators together with increasing trust, integrity, transparency and consistency for the next ten years and beyond.