GIPS: Fundamentals of Compliance
Sometimes the best laws and rules can have loopholes... even the GIPS standards. The fundamentals of compliance provide accurate and specific definitions of the initial requirements and recommendations of GIPS standards, along with one blanket rule that prevents any loopholes.
No, that isn't it.
That's a pretty standard requirement, but it doesn't capture the essence of ethical behavior.
Not quite.
Sometimes GIPS standards are above a country's laws and regulations.
What "proof" do you think would be adequate to ensure these requirements are being met?
Not quite.
It's helpful to have a staff of professionals to assist in compliance, but it's not required.
No, actually.
The Standards don't require a specific department for documentation of compliance—that would be extremely expensive.
Adherence to these fundamentals of compliance will clearly take a lot of time and effort, along with some additional firm expenses, but it's proven to be worth it. Why do you think documentation of policies and procedures would be important?
That makes requiring documentation of policy and procedures all the more important, and can lead to improvements for the firm. What might be an example of this?
Not quite.
Handbooks and manuals are helpful, but documentation of policies and procedures has greater value in other ways.
No, sorry.
Firm employees spend a lot of time working on other important issues.
These client presentations are also required to be consistent in their application to prospective clients. What's another way to put this GIPS requirement?
Well, no.
GIPS documentation doesn't have anything to do with the management of returns.
Nice try, but no.
GIPS compliance isn't focused on risk–reward metrics.
Not so.
Firms don't actually get to decide who gets what type of presentation. That freedom would likely be heavily abused.
What do you think that is?
Definitely not.
Prospective clients deserve the same treatment as existing clients.
No way.
That's pretty common amongst different business units and subsidiaries, but different names don't necessarily mean different businesses.
That's not it.
This would indicate a pretty close relationship.
For example, suppose an investment firm has two branches—institutional and retail—and one investment committee makes all the recommendations. Could the retail investment branch qualify for GIPS compliance by itself?
No, actually.
A distinct entity has to have functionality separated.
Not quite.
Consider that the investment management process is the same for both entities.
How do you think GIPS standards handle such changes in ownership?
The fundamentals of compliance provision requirements also come with recommendations, which start with a basic guideline on how to approach these recommendations. What might that be?
That's not accurate.
Both organizations would need to claim GIPS compliance, but that's not a given.
Not so.
That would probably lead to major abuses, as companies could forge their results.
Well, no, actually.
If your firm chooses to implement GIPS standards, then implementing the requirements is mandated, not recommended.
Yes, that's right.
The first recommendation in the fundamentals of compliance section is to follow the recommendations. This seems pretty straightforward, but it's an important one.
The recommendations also suggest that firms seek to be verified and adopt the broadest definition of the firm, so firms should include all offices regardless of location or name to help reduce confusion.
Finally, GIPS standards recommend that firms provide existing clients a GIPS-compliant presentation for any composite that includes the client's portfolio. This allows clients to compare their performance to the composite.
That's not it.
GIPS standards encourage adoption and implementation, not cost–benefit analysis.
To sum it up:
[[summary]]
Why would these provisions require specific claims of compliance?
No way.
GIPS involves more than focusing on return calculations.
That's not it.
GIPS has a defined process for calculations, not unlimited discretion in calculation methods.
That's right.
Performance and performance-related information must not be false or misleading, which essentially closes any loopholes that irresponsible and unethical advisers would use to trick clients. These and all GIPS standards apply on a firm-wide basis.
Yes.
GIPS standards require documentation of the policies and procedures so that compliance claims can be verified. These policies (including ensuring the existence and ownership of client assets) must be consistently applied.
Precisely.
There are many tasks that have a higher priority than some of the minutiae involved in policies and procedures, so they're easier to overlook.
Right!
Documentation of policies and procedures results in an increase in monitoring of accounts, which can lead to better internal controls and operational efficiencies. So it can help back up a claim of compliance, which cannot be partial.
Yes!
Under GIPS standards, calculation methods should be broad and consistently applied, so any claims of calculation compliance must be applied consistently across a group or an individual.
Yes indeed!
Firms can't select which clients receive what type of presentation; all must receive a compliant presentation within the previous 12-month period. In addition, GIPS standards require firms to provide a list of composite descriptions and a compliant presentation for any composite listed that's requested by clients.
Exactly.
GIPS standards specify that a firm can be a distinct business entity if it's functionally separate from other units, divisions, departments, or offices; if it has discretion over the assets it manages; and if it has autonomy over the decision-making process. The firm must also _tell_ clients or potential clients that it's a distinct business entity. Distinct business entities are usually defined as having a separate legal entity, a unique market or client type, or a specific investment process. This is not an issue for most small investment firms but can be for bigger firms.
You're absolutely right.
In this case, the retail division doesn't have separate functionality from the institutional division, so one entity can't claim GIPS compliance without the other. This also impacts the value of total firm assets, or the ==fair value== of all assets (both discretionary and nondiscretionary) that a firm has under investment management. Note also that total firm assets include assets managed by subadvisers that the firm selects, and they must be included in a specific composite, but does _not_ include "advisory-only assets" or uncalled committed capital.
Right!
Historical GIPS compliance records cannot be altered unless an error is discovered, no exception. This way, the organization knows that its history will be subject to review, and clients can be sure that the firm is representing actual data. In some cases, firms may wish to co-market their services, but to claim GIPS compliance, a firm must be separated and distinguished in any marketing material.
What GIPS requirement would you say prevents any loopholes?
Another key feature of the GIPS requirements for fundamentals of compliance involves proof of the firm's definition of discretion, composite construction, timing of portfolios in and out of the composite, cash flow treatments, error-correction policies and procedures, and security-valuation methods.
But the claim of compliance actually goes further than that. For example, claiming that the calculation methodology is GIPS compliant is prohibited, as is claiming that the performance is calculated in accordance with GIPS on an individual client's account unless the performance is being presented strictly to that client.
Other provisions within the fundamentals of compliance detail the specific definition of the firm. In fact, a firm can actually have separate units where some are GIPS compliant and others aren't. But there's yet another important characteristic when defining a firm under GIPS standards.
Given all the talk about firm assets, you might be wondering what happens when a firm has a change of ownership or separation. Without GIPS compliance, changes in ownership could lead to a change in historical performance.
Documented policies and procedures
A large support staff to testify to each action
An internal department focused solely on GIPS compliance
Policy and procedures can often be overlooked
Policy and procedures are often produced in handbooks and manuals
Policy and procedures are often reviewed and implemented as needed
Better trading returns
Better risk–reward ratios
Better internal controls and operational efficiencies
Firms can choose to present non-compliant presentations to all clients
Firms cannot choose who they present compliant and non-compliant presentations to
Firms can present non-compliant presentations to prospective clients until they become clients
A unique business address and name
The ability to sell the parent company's financial products
Discretion over client accounts and autonomy over investment decisions
Definitely, since the client types and goals are different
Probably, as the size of the retail branch would deem them separate entities
Probably not, given that the management process is the same for both divisions
Historical GIPS performance can't be changed unless there's an error
Historical GIPS performance can be modified to include the new organization
Historical performance can be simulated under the new organization's investment theme
To implement the requirements
To follow the recommendations
To weigh the costs of GIPS compliance versus the benefits
GIPS standards are focused solely on the return calculation, so the firm can only claim compliance on the specific strategy
GIPS standards are broad based and all requirements must be met to claim group compliance or individual compliance to a client
Different clients could have different cash flows that would be captured by a different calculation methodology, so the firm can choose whichever time period or method it wants
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Performance disclosures must be accurate
Performance data and information must follow all laws and regulations
Performance information or performance itself must not be misleading or false
