What does GIPS verification mean?

/in , , , /by

I’m an amateur when it comes to understanding investment performance standards. So I was surprised when a speaker at the CFA Institute’s GIPS (global investment performance standards) conference speaker said verification does NOT verify that firm’s composite numbers are correct or that firm is compliant. Huh?

As I understand it, verification simply means the firm has the right processes to be compliant and to calculate performance accurately.

If you’ve got questions about this topic, I suggest you mosey on over to the Investment Performance Guy’s blog, which includes a post on “Verification verifies compliance…not!” Blogger David Spaulding, president of The Spaulding Group, Inc., looks like a valuable resource for your GIPS and performance questions. Back in March 2009, I enjoyed writing “Fixed income attribution falls short” about his talk to the Boston Security Analysts Society.

Related posts:
*  SEC’s update to CFA Institute’s GIPS conference
*  A quant’s guide to detecting a future “Madoff”
*  Top 5 tips for investment performance advertising

A quant’s guide to detecting a future "Madoff"

/in , , /by

Worried about getting taken in by an investment management Ponzi scheme?

With the SEC ratcheting up its fraud detection efforts, it’s less likely that you’ll get scammed, based on what I heard at the CFA Institute’s GIPS conference last week. But the conference also introduced me to a quantitative method for detecting fraud in “The Importance of Risk and Attribution in the Post-Madoff Era” by Dan diBartolomeo, president and founder of Northfield Information Services.

The solution boils down to identifying investment returns that aren’t economically feasible. The effective information coefficient is an important tool for that, said diBartolomeo. 

A personal commitment to preventing future Madoff-style fraud 
DiBartolomeo wants to make people more aware of–and attentive to–risk.  He’s so committed that every year he hires a pickpocket to attend his annual client conference and warns his clients that “Keith the thief” will be targeting their wallets, watches, and other possessions. Despite the warning, each year, diBartolomeo has to return a pile of stolen goods. Keith succeeds because he’s good at distracting people–and Bernie Madoff was good at this, too, said diBartolomeo.

Speaking of Madoff, diBartolomeo’s firm was involved in the efforts of Harry Markopolos to uncover the secret to Madoff’s steady investment returns. At the time, diBartolomeo only knew that he was analyzing the returns of Manager B. But within a few hours, analysis revealed that Manager B’s returns “were either fictitious or had arisen from a strategy other than what was being represented to investors, wherein returns were probably being enhanced by illegal means.” You can read more of the details of this analysis in a March 2009 FactSet podcast with diBartolomeo. 

How to uncover a fraud 
“Do these returns make sense?” That’s an essential question for those who perform due diligence on potential investments, according to diBartolomeo. Returns-based methods aren’t adequate for analyzing this question, he said. Instead, one needs “a risk-based measure of investment performance that can detect manager skill(or lack thereof) quickly.”

The information ratio is one place to start, but it has flaws. The information ratio has nothing to do with making money for investors,” said diBartolomeo. For example, the information ratio would look great for a manager with alpha of 1 basis point and a tracking error of zero, but the manager’s clients wouldn’t benefit much. He also pointed out that “the statistical significance of a ratio is hard to calculate.”

The effective information coefficient (EIC) could be the answer to this problem. For more details on the EIC, read “Measuring Investment Skill Using the Effective Information Coefficient,” which appeared in The Journal of Performance Measurement (Fall 2008). 

I wonder what Madoff’s EIC was. I don’t know if diBartolomeo got an opportunity to calculate it.

Oct. 31 update: diBartolomeo’s talk is now available as a podcast from the CFA Institute.

Top 5 tips for investment performance advertising

/in , , , , /by

Knowing the rules for advertising your investment performance is your key to staying out of trouble with the regulators.

Here are some of the tips I gathered from “Performance Advertising 101: Regulatory Do’s and Don’ts” presented on Sept. 23 at the CFA Institute’s GIPS conference by Rajan Chari of Deloitte & Touche, who focused on GIPS issues, and Steven W. Stone of Morgan, Lewis Bockius, who focused on SEC issues. 

1. Don’t think that you’re not subject to advertising rules because you’re not buying a newspaper or magazine ad. Advertising is broadly defined. It’s “basically, any written communication addressed to more than one person (or used more than once) that offers investment advisory services with regard to securities,” according to the speakers’ slides. Advertising includes client materials. It may also refer to anything that you distribute in unchanged form to 10 or more people. 

2. Make the necessary disclosures about performance. Consult with experts who are knowledgeable about your disclosure requirements. 

3. Tread carefully in performance advertising areas of particular concern to the SEC. For example, projecting returns may be viewed as promissory. Back testing is easily manipulated. To avoid the appearance of cherry picking, top stock picks must be balanced with worst stock picks. 

4. Keep a log of the people to whom you send advertising materials. I’ll bet that many people aren’t doing this. But it’s essential for making things right if you discover that inappropriate materials have been distributed. 

5. Take your audience’s sophistication into account when you choose the materials you send them. The regulators give you more leeway in materials aimed at sophisticated investors.

Despite the fact that “Performance Advertising 101: Regulatory Do’s and Don’ts” was presented at the CFA Institute’s GIPS conference, GIPS didn’t get much attention compared to the SEC.  That’s because investment managers always have to pay attention to SEC rules, whereas “GIPS advertising rules are only applicable if you choose to claim [GIPS] compliance in an advertisement.” You can read the GIPS Advertising Guidelines, on pages 33-37 of the Global Investment Performance Standards.

Happy advertising!

Sept. 27 addition from Rajan Chari
Thanks to the generosity of Rajan Chari, here are two links to give you more information on advertising standards.


SEC’s update to CFA Institute’s GIPS conference

/in , , /by

One of the SEC latest initiatives resonates with the experience of Lucile Corkery, Associate Regional Director for Examinations, Boston Regional Office, U.S. Securities and Exchange Commission. That’s enhancing the licensing, education, and oversight of back office personnel. Corkery and her colleague, Melissa Clough, senior staff accountant, discussed a list of SEC initiatives on the first day of the CFA Institute’s GIPS (Global Investment Performance Standards) two-day conference in Boston on September 22. Both speakers gave the standard SEC disclaimer that their statements were strictly their personal opinions. 

Lesson from the back office 
Prior to joining the SEC, Corkery worked in an industry back office where she knew an aggressive registered rep who made her suspicious.

One day the rep came in with his cousin the lawyer and conservatorship papers for aunt, who had to be alive for the this purpose. Just one week later, the rep came in a death certificate for the aunt dated prior to his coming in with the conservatorship papers.

When Corkery challenged the rep, he said “I’ll give you whatever you want. What does it take?”

It’s no wonder that Corkery believes the licensing, education, and oversight initiative for back office personnel is “long overdue.” 

SEC initiatives 
Other SEC initiatives discussed by Corkery and Clough included:

  • Investor Advisory Committee
  • Proposed amendments to custody rules, including annual surprise exam and added controls when custody is provided by a related person
  • Revamping handling of complaints and tips
  • Advocating for a whistle blowing program
  • Conducting risk-based examinations of financial services firms
  • Establishing a new division of Risk Strategy and Financial Innovation, announced on Sept. 16
  • Enhancing examiners’ knowledge of fraud detection techniques and recruiting staff with specialized skills
  • Seeking resources to hire more examiners
  • Integrating broker-dealer and investment advisor examinations  

Job opening in Boston–posting closes this ThursdayThere’s an opening in the SEC’s Boston office for a senior specialized examiner, according to Corkery.

Act fast, if you’re interested. The posting closes on Thursday, Sept. 24. I think that means that Thursday is the last day you can apply. 

Posts from last year’s GIPS conference:

 

Thank you, Maine CFA Society!

/in , , /by

The Maine CFA Society got into the spirit of my Sept. 17 presentation on “How to Write Investment Commentary People Will Read.” They skewered me for using an unnecessary adverb in a sample sentence.

That’s the enthusiasm I enjoy when I teach CFA charterholders to write more concise, compelling investment commentary.

"Turbulence Can Improve Portfolio Diversification"

/in , /by

“The only problem with diversification is that it’s never been tried,” said Mark Kritzman, president and CEO of Windham Capital Management, in a July 21 speech to the Boston chapter of the Quantitative Work Alliance for Applied Finance, Education and Wisdom (QWAFAFEW). If he gets his way, investors will achieve truly diversified portfolios by applying his concept of turbulence.

Continue reading my article, “Turbulence Can Improve Portfolio Diversification” in Advisor Perspectives.

Poll: What newsletter strategies work best for investment and wealth managers?

/in , , , , /by

Newsletters are an important part of marketing for many investment and wealth management firms.

You’ve got lots of options. 

  • Print newsletter vs. e-newsletter
  • Quarterly, monthly or weekly frequency
  • Market commentary and/or other topics
  • Articles that you write yourself vs. articles written by a writer whom you hire, so they reflect your firm’s views vs. articles that are mass-produced by a firm that sells the same content to others

I’d like to learn your opinion on what works best. Please answer the poll in the right-hand column of this blog. 

Also, feel free to leave a comment below.

Bostonians, where will you be on October 1?

/in , /by

Several events in Boston are competing for financial professionals’ attention around October 1. The first aims at investment managers, while the last two target mutual funds.

  • Oct. 1-2, The CFA Institute’s Fixed Income 2009 conference, including presentations by James Grant and Dan Fuss
  • Oct. 1, NICSA’s East Coast Regional meeting, featuring keynote addresses by Robert L. Reynolds,   President and Chief Executive Officer, Putnam Investments, and Keith F. Hartstein, Director, President and Chief Executive Officer, John Hancock Funds, LLC
  • Sept. 30-Oct. 1, MFWire’s Thought Leadership Summit, billed as “Thought Leadership with …’40 Act Fund Distribution’s Most Influential People” 
    Where will YOU be on October 1?

Statistics to calm nervous investors: Research on dollar cost averaging

/in , , , /by

Are you–or your clients–nervous about buying stocks? You may find comfort in statistics from “(Re)Entering the Market: The Costs and Benefits of Dollar Cost Averaging” by Gregory D. Singer, director of research, and Ted Mann, analyst in Bernstein Global Wealth Management’s New York office. Their article appeared in the CFA Institute’s Private Wealth Management e-newsletter (August 2009).

The bottom line, according to the authors’ research

…if you have a sum of money to invest for the long term, entering the market all at once will usually prove to be a better strategy than dollar cost averaging. The odds that you will reap greater wealth in the end are in your favor. But dollar cost averaging is reasonable insurance against the risk of investing in a falling market.

The authors highlight the downside of dollar cost averaging. “If the market rises while we are ‘averaging in,’ we miss out on potential gains. And those forgone gains could be substantial.”

As evidence, they present average 12-month rolling returns for the U.S. stock market from 1926 to November 2008 for three strategies of investing a lump sum.

  • Invest All at Once: 12%
  • Dollar Cost Averaging: 8%
  • Hold Cash: 4%

I find these numbers tremendously reassuring, even though past performance is no guarantee of future results. The case for investing all at once is even stronger following 12 months of a down market, with returns of 15%, 10%, and 3% respectively.

However, dollar cost averaging does preserve wealth during the bottom 20% of markets. In this bottom quintile, it “resulted in an average of 11.6 percent more wealth than investing all at once.”  So it sounds like a great strategy for declining markets. The hitch? No one can reliably predict when those markets will occur.

Over the long run, investing all at once should outperform dollar cost averaging and holding cash.

The authors concede that investing entire lump sums immediately isn’t for everyone. Their research suggests that the potential benefits from dollar cost averaging fall after the first six months. Moreover, “Beyond 18 months, averaging in doesn’t make financial sense (unless it’s part of a program like payroll deduction, where the money becomes available only over time).”

What do YOU think? When would you recommend investing lump sums all at once vs. dollar cost averaging?

Guest post: Attaining and Sustaining High Productivity in Investment Management Marketing

/in , , , /by

Investment management firms need optimal internal collaboration to achieve the best possible communications, marketing, and client service as they cope with anxious clients, tight budgets, and lean staffing. Tips for how to achieve this goal are the focus of this guest post by Jacqueline L. Charnley and Christine M. Rostvold, founders of Charnley & Rostvold, a marketing communications firm.

“Productivity is never an accident.  It is always the result of a commitment to
excellence, intelligent planning and focused effort.”
~  Paul J. Meyer


Now more than ever, investment firms need to become well-oiled machines, leveraging every possible resource to produce the highest quality communications and service.  Timely and relevant content, whether for reporting or sales, needs to be developed, produced and distributed…all too frequently with too few resources.  What are best practices to attaining and equally as important, sustaining high productivity in marketing and communications?  How can counterproductive politics be minimized, good decisions be made and stressful deadlines be met in the face of rapidly fluctuating workloads?

Know Your Objectives and Plan to Achieve Them
First, management must document key objectives and agree on a plan to achieve them.  Communicate both the goals and the plan to everyone on the team and to senior management.  Document priorities (by product, by client, by consultant) and adhere to those priorities.  Stay focused by making it okay for anyone to question whether an activity is a fire drill or is on plan.  At the same time, recognize when deviating from the plan is a good idea.

Train People for Success
One firm is known for promoting people to roles where the individual’s past experience is not relevant to the new role.  Then when the individual fails, the firm simply moves to another candidate.  Instead, know the required skill sets for the new role in advance.  Know what can be trained and what cannot be.  Measure the individual against criteria required to do well in the role, and train and support that person to be successful.

Document Your Procedures
In a recent survey, members of  the Professional Association for Investment Communications Resources (PAICR)) shared that only 57% had written procedures for their firms and only 56% for their marketing departments.  You need procedures that are current and easy to follow.  In addition to being written, procedures need to be updated regularly.  Empower employees and trainees to question existing procedures, and to rewrite them to reflect their most current (and useful) form.

Commit the Time to Communicate, to Train, to Debrief
Time is one of the biggest obstacles to regular communications, training and debriefing.  Other priorities will always come first until you recognize and commit to the importance of communicating your plan and procedures, to train people to succeed and to debrief after major projects as to what worked, what didn’t work.  Debriefing leads a team into greater and greater productivity and away from politics and failure to produce.

Evaluate Systems and External Resources
New systems and technologies to enhance productivity are constantly being brought to market.  One of the biggest time and resource drains is updating and proofing data.  There are systems that can connect and update client files, presentation books, database responses and RFPs instantly and provide tracking.  Software and service systems can help with project management and communications.  Commit resource and time to stay on top of what is available.

“You can catch more flies with honey than with vinegar”
Keep your culture positive and supportive.  Constantly ask what can be done differently to help clarify and streamline a direction or process.  Avoid blame games when something does go wrong.  Instead, find the solution that will make it go right the next time.  Evolve from your own experiences.  Critique in private, praise in public.  Celebrate victories and accomplishments.  Celebrate being a productive team.