Sunday, February 28, 2010

Book ideas

Today's Sunday (London) Times identifies two books which should probably be on your to-buy list:

Harry Markopolos, who tried more than anyone to get the SEC to see what was really behind Bernard Madoff's "success" has penned No One Would Listen: A True Financial Thriller. The Times quoted Markopolos: "As I explained this massive fraud, it very quickly became clear he didn't understand a single word I said after hello...if blank looks were dollar bills, I would have walked out of that room a rich man."

On the positive side, looking at a truly successful investor, we have The Greatest Trade Ever: How John Paulson Bet Against the Markets and Made $20 Billion

During last November's GIPS conference, one speaker discussed Madoff, saying that his long string of successful years of positive returns should have been a clue to something being wrong. This speaker was followed shortly by another who cited a hedge fund manager (not Paulson) who has had many years of positive returns. Kind of funny, yes? Long string of positive returns = suspicious; long string of positive returns = success. We do live in interesting times. And these books no doubt will provide us with some interesting insights. And while Markopolos' won't reveal the secrets behind Madoff's success in pulling off the biggest Ponzi scheme ever, it at least will provide us with some insights into Markopolos' struggle to get the SEC to listen.

Saturday, February 27, 2010


You may be familiar with the abbreviation, WWJD (What Would Jesus Do?). On a recent episode of NCIS (another abbreviation...this must be abbreviation day! NCIS is a TV show: Naval Criminal Investigation Services) someone used WWGD, which I thought might mean "What Would God Do?," but alas it was meant to be What Would Gibbs Do? (Gibbs is the leader of a group of investigators).

Well, while reading Scott Patterson's new book, The Quants, I came across a discussion on the Gaussian copula, a model developed by David X. Li of the Canadian Imperial Bank of Commerce (CIBC) to price CDOs (collateralized debt obligations). The copula Li used was developed by the 19th century mathematician, Carl Fredrich Gauss, who based it on the normal or bell-shaped curve. In the words of the author, "The Gaussian copula was, in hindsight, a disaster." It was a simplistic model whose assumptions belied the true prices and risks that investors faced. As the author pointed out, CDOs loaded with subprime mortgages had tranches rated at the AAA level; Li's model caused those tranches as well as others to be mispriced.

And so, WWGD? I.e., what would Gauss do? Hopefully, not assume that all distributions fit nicely into a bell-shaped curve. Hopefully, he would have recognized that highly complex instruments can't be necessarily priced by overly simplistic models.

There are may contributors to the '08-'09 market meltdown, and one might believe that this model may have been one of them. Risk remains a very difficult area of our industry, but we tend to at least assume that prices are accurate; alas, they aren't always. No matter what risk model you employ, if the prices are bad, no need to go any further.

Friday, February 26, 2010

Fund of fund managers

In my response to the Global Investment Performance Standards (GIPS(R)) 2010 edition disclosure draft, I suggested that guidance be provided for fund-of-fund (FOF) managers. The standards clearly apply to such managers, but there weren't any details offered.

The GIPS Executive Committee (EC) listened (perhaps not actually to me, but at least to someone) and included a provision: however, it is limited to FOF managers in the private equity space. Clearly, guidance was needed, but its scope is somewhat limited. Perhaps more will be added in the future. Given the time constraints the EC faced, one can understand why not much more was addressed at this time. I would suggest they tackled one of the more significant areas.

Here's the scenario: we have a private equity FOF manager: what returns do they report for their claim of compliance? Since the FOF manager doesn't control the flows, one might think time-weighted returns apply; however, in the world of private equity, since inception IRR rules. The answer: SI-IRR (see paragraph 7.A.22 for further clarity). Bravo!

Thursday, February 25, 2010

Madoff ... more arrests being made

I'm pleased to see how others behind Madoff's Ponzi scheme are being identified and charged: the most recent being Daniel Bonventre, Madoff's operations director.

I must confess (sorry for the pun) that I think it's odd that it took so long to get Bonventre, for surely the head of operations must have been deeply involved in these shenanigans. How could Madoff possibly have pulled this ruse off without his support?

When it's all over, I look forward to reading an in-depth analysis of this extraordinary case.

Statistically, VaR works!

What's the old saying? There are lies, damn lies, and statistics. "Value at Risk works" is arguably, from a statistical point of view, an accurate statement. But as with many statistics, we need to understand what's truly at work.

If you are measuring VaR, for example, at the 95% level, you're saying that the worst loss is $XXX, at that level; meaning that 5% of the time the loss can be worse. Another way to view this is that 19 out of 20 times the loss won't be above $XXX, but one out of twenty it will be.

In reality, you may find that it's much less than one out of 20 times. The problem is that sometimes, when it's that one time, it is a far greater loss than one would have expected. It's not three, four, or perhaps even five standard deviations away from the mean; it's 10, 15, or 20 standard deviations away! And perhaps this is because of the failure to truly know what lies ahead. VaR's estimates are based on historical information, and if the only thing we know is history, we don't know what lies around the corner.

Again, caution must be exercised when using this statistic. It's not going away and arguably works fine, except that the losses can be a tad worse than one would have anticipated.

Tuesday, February 23, 2010

Upcoming webinars

We had to reschedule yesterday's webinar on VaR (Value at Risk): the new date is Wednesday, March 10, at 11:00 EST.

We will hold a second webinar in March to discuss the planned changes to the Global Investment Performance Standards (GIPS(R)) (GIPS 2010). It will be Thursday, March 18 at 11:00 EST.

For more information on our webinars or to register, please call our offices (732-873-5700) or e-mail Patrick Fowler ( The cost is nominal and the events are free for our verification clients and Performance Measurement Forum members!

John Simpson and I will be covering the planned changes in a variety of ways, including presentations at local societies and other events. My next presentation will be at First Rate's Performance Conference on March 29.

Saturday, February 20, 2010

Risk...measurable, or not?

William McKibbin is running a Linkedin poll asking participants whether or not they think one can measure risk. The response so far suggests that two-thirds feel it is; that's how I voted.

If it's not measurable, does that mean that it's not yet, or that the voters think that the measures are inadequate, or that one can never measure risk, do don't bother trying?

Clearly, we have lots measures that purport to measure risk (standard deviation, beta, downside deviation, value at risk), though we may take exception as to their adequacy.

If you have a moment, cast your vote!

Thursday, February 18, 2010

Standard deviaton: equal- or asset-weight

Let's address the subject of standard deviation, but not from a risk perspective, but rather as a dispersion measure.

Way back in 1997, when the AIMR Performance Presentation Standards (AIMR-PPS(R)) introduced the requirement for firms to disclose a measure of dispersion, they encouraged firms to show asset-weighted standard deviation rather than equal-weighted, because, after all, the composite returns were asset-weighted, why shouldn't dispersion? AIMR introduced a formula to do just this.

Well, a funny thing happened when we went to the last edition of the Global Investment Performance Standards (GIPS(R)) in 2006: nowhere do we find the asset-weighted standard deviation. Where did it go? The Handbook provides the math to derive the equal-weighted measure but not asset-weighted. Other than in Q&As, we see nary a word on asset-weighting. Is this a sign of a change in belief in the value of the asset-weighted approach? I believe it is, although firms can continue to show asset-weighted, if they would like.

But why would you? How do you interpret or explain it? Equal-weighted standard deviation has an understood meaning, but asset-weighting, to my knowledge, doesn't. It's more complex to derive and provides you with what benefit? And, why would using the beginning of the year market value for an annual measure improve upon the tried-and-true equal weighted standard deviation? I say, put an end to this measure and go with the traditional one. It's easier to calculate, is more widely accepted, and is interpretable!

Wednesday, February 17, 2010

It's official! GIPS 2010 released

The CFA Institute announced the release of the newest version of the Global Investment Performance Standards: GIPS 2010.

We recommend you get a copy of the new GIPS(R) standards and begin to familiarize yourself with it, as there are loads of changes you'll need to be aware of. We will continue to address changes, both in this blog and in our newsletter. In addition, John Simpson and I will be speaking on the changes at various venues in the coming months.

Are we taking a sledgehammer to crack a nut?

The Global Investment Performance Standards' (GIPS(R)) latest edition, GIPS 2010, mandates that firms have a written policy to ensure the existence and ownership of client assets (see paragraph 0.A.5). I suggested a few days ago that this was most likely in response to the Bernie Madoff, et al fraud cases which have come to light over the past 18 months or so. It's interesting that of all the possible aspects of compliance firms should document, this was singled out; and one might argue it has little and perhaps nothing to actually do with GIPS. So far, no guidance has been provided, but we can expect to see something offered.

I've been reflecting on this new requirement for the past few days and it occurred to me that this can be likened to using a sledgehammer to crack a nut (using disproportionate force or expense to overcome a minor problem).Not that fraud can be viewed as being a minor problem, but it clearly isn't pervasive and common place throughout our industry. Yes, a bad apple can spoil the bunch, at least in one's perception, but in reality very few managers engage in such illicit behavior. But all GIPS compliant firms must now add this procedure to their GIPS policies & procedures.

Most managers don't control the assets themselves, as Bernie did: Bernie had a one stop shopping operation (brokerage, management, trading, custody, reporting, all wrapped into a single bundled service: how nice). Most managers rely on custodians which, in many cases, are selected by their clients. Managers typically receive reports (either written or electronic) from custodians. Custodians, of course, could be offering false information, though to my knowledge no one has suggested that this practice exists. Are managers to take some extra steps to ensure that the custody reports are, in fact, correct? That the assets actually exist? Since stock certificates are pretty much a thing of the past, with most ownership done in electronic fashion by agencies such as DTC, can we expect managers to want to validate that the DTC's records match the custodians?

The Securities and Exchange Commission (SEC) is requiring registered firms to provide additional reporting and subjecting Madoff-like firms (not "like" as in committing fraud, but "like" as in they control the client assets) to periodic, unannounced audits. No doubt, some of their requirements will be viewed as using a sledgehammer: penalizing the countless honest firms because of the actions of a few bad apples.

Performance measurement departments typically don't engage in validation of asset ownership: they are at the mercy of the back office accounting folks, who typically reconcile positions. Does this reconciliation count? But is this reconciliation truly ensuring existence and ownership? (see above) How far are these departments (or the firm) to go to validate and ensure ownership? And, can't we expect that the bad apples will continue to be bad, since it's them that are doing the improper things? Self-checking won't stop their actions.

In addition, verifiers will be required to validate that firms have such procedures in place. So far, there is no requirement that the verifiers themselves engage in such tests; hopefully this won't be coming.

I hope this doesn't sound like criticism, because it's not meant to be. During a recent conversation with a few colleagues someone commented how they disliked the inclusion of the three year, since inception, annualized standard deviation requirement, and I responded that there was nothing that can be done about it, so don't bother to complain. And, I understand and respect that the GIPS Executive Committee was not about to go through a second round of public comments. Plus, I understand the sensitivity to the Madoff scandal and desire to include something that sensitized the standards to such practices. I'm just not sure how this is going to work. Thus, my interest in guidance, which will hopefully be here in the coming months.

Tuesday, February 16, 2010

A good VaR disclosure

Value at Risk (VaR) continues to be addressed though it appears that in spite of its shortcomings, it isn't going away. Therefore, we would recommend that you include an appropriate disclosure whenever you report it, so that the recipient is better informed. Merrill Lynch apparently has included the following:

The calculation of VaR requires numerous  assumptions and thus VaR should not be viewed as a precise measure of risk. Rather, it should be evaluated in the context of known limitations. The limitations include but are not limited to the following: VaR measures do not convey the magnitude of extreme events; historical data that forms the basis of VaR may fail to predict content and future market volatility; and VaR does not fully reflect the effects of market illiquidity (the inability to sell or hedge a position over a relatively long period).

I think this is great wording; it would serve anyone who reports VaR quite well. If you've got a better example, please let me know!

(Source: Lecturing Birds on Flying. Pablo Triana. Page 145)

Friday, February 12, 2010

What do GIPS examinations and undercoating have in common?

If you're not old enough to remember what undercoating is, I'll provide a brief explanation. Invariably, if you were going to buy a car 15 years or so ago, the salesman would try to talk you into adding "undercoating." What was undercoating? It was supposed to provide extra protection to the car's underbody; however, many would suggest it was really a way for the dealer to make another hundred bucks or more on the sale: many thought it was a waste of money and that it did nothing to enhance the vehicle. But, virtually everyone added it (I know we did to just about every new car we bought). At some point dealers stopped offering this "added option" (Perhaps word got out that it didn't actually do much for the car).

I'd suggest that for the most part GIPS(R) (Global Investment Performance Standards) examinations fall into this category: they add little, other than to put some extra bucks into the verifier's back pocket. I know this may sound like an extreme statement, but I believe it to be true.

I spoke with someone from a very large (many hundreds of billions of dollars under management) asset manager this week, who told me that they annually spent several hundred thousand dollars on verification, including examinations. They decided to check to see how often they were actually asked if their composites were examined. After reviewing more than 2,000 RFPs they discovered that only one specifically asked! And so, they decided not to spend the money going forward. Wise move!

Our position is that you should avoid spending the money unless there's truly a justifiable reason. If our clients suddenly have a need to get a composite examined, we can come in, even on the weekend if necessary, to do the work. We are fully capable of doing examinations, and will do them. Very few of our clients ask for them. If there's a business case for them, by all means, have them done; if not, reconsider.

Thursday, February 11, 2010

To how many decimal places?

I'm looking at a client report (fortunately not one that they would give to a client) that shows, for example, the return 41.29959483 percent. Such precision! To eight decimal places! I'm impressed. Well, actually I'm not.

Actually, this is a waste of ink, yes? One can't confuse precision with accuracy. What possible value would anyone have in a number to this level of detail? As if it's actually right? The report is produced from a software system: why would a vendor have this information default to such a value? Seems odd to me.

I was on a flight recently and the pilot announced that the flight would last 2 hours, 52 minutes, and 40 seconds. Actually, he said it would last "approximately" that long. Approximately? To paraphrase Dorothy from Jerry Maguire, you had me at 2 hours, 52 minutes; and, you could have rounded to 50 minutes (I won't be running my stopwatch to validate your accuracy). You could have probably just said "approximately three hours." But no doubt there are some folks that like to hear flight times to such precision and perhaps even believe they're accurate.

Even returns with three decimal places seem a bit ridiculous, except where excess returns (and returns in general) are so small that we need this additional precision or show zeroes.

Don't confuse precision with accuracy: they're two different things. We should strive for accuracy but recognize that even that isn't always as achievable as we'd like. There's a lot of noise out there that makes 8-decimal place returns a joke. 

Wednesday, February 10, 2010

Bernie's mark can be seen in GIPS 2010

It isn't difficult to recognize that some of the changes planned for the Global Investment Performance Standards (GIPS(R)) in 2011 are the result of the misdeeds of one Bernie Madoff. I've already commented on the increased attention examinations are getting. But there's an even clearer example, though one that might be easily overlooked (I'll confess that I didn't notice it until I saw a reference way in the back, in the verifier section).

The 2005 edition has the following requirements for policies and procedures (see section 0.A.6):
  • "Firms must document, in writing, their policies and procedures used in establishing and maintaining compliance with all the applicable requirements of the GIPS standards."
It's been expanded a bit for 2011 (and changed to 0.A.5):
  • Firms must document their policies and procedures used in establishing and maintaining compliance with the GIPS standards, including ensuring the existence and ownership of client assets, and must apply them consistently."
Note also that the verifier is charged with performing "sufficient procedures to determine that ... the firm's policies and procedures for ensuring the existence and ownership of client assets are appropriate and have been consistently applied."

Did someone say, "Bernie Madoff"?

This delineation of a specific required procedure, to me, speaks volumes. Hopefully, some guidance will be forthcoming regarding this, as it's doubtful that many firms today have such procedures or would know where to begin to develop them. We haven't yet given this much thought ourselves, but will offer our thoughts in the near future.

Tuesday, February 9, 2010

After after-tax goes away ... what's a body to do?

You may have heard that the after-tax rules that are in the current version of the Global Investment Performance Standards (GIPS(R)) will be no more, as-of 1 January 2011. And so, what do you do if (a) your firm currently provides after-tax composites that conform to these rules or (b) in the future, you wish to provide after-tax returns?

The United States Investment Performance Committee (USIPC; the US country sponsor for GIPS) has developed guidance to assist you. Even though it's fairly brief, I'll summarize here.

First, the USIPC encourages U.S. firms to adopt (or continue to use) the rules as they exist today. We believe they represent the best way to portray your after-tax returns to prospects. The USIPC will be responsible for maintaining them going forward.

Second, after 1 January 2011, your after-tax composites will be supplemental, since GIPS will no longer have after-tax rules. Therefore, you will have to follow the supplemental guidance.

Third, you can adopt a different methodology to derive your after-tax returns (again, we recommend you stick with what is in GIPS today and what the USIPC will provide going forward), if you wish, as the USIPC cannot mandate their use. However, whether you use the USIPC (currently GIPS) rules or some other method, you should document it and be prepared to provide the details, if necessary.

And finally, if you are using the after-tax rules as they exist today, you cannot switch to another method until 1 January 2011, unless you fully adopt the rest of GIPS 2010 (see my earlier entries for further details).

Hope this helps!

Back to the future...GIPS style

We learned that one cannot necessarily be an early adopter of the new edition of GIPS. If you want to add items (e.g., the soon-to-be-requirement to have a 3-year annualized standard deviation or the statement about your status vis-à-vis verification), that's fine. But, to drop something (e.g., to no longer adhere to the after-tax rules, which are going "bye bye" in 11 months), without adopting everything else, can't be done because you would be caught between the '05 and '10 versions. Catholics might suggest you'd be in a state of limbo: somewhere between heaven and hell (in the case of GIPS, between '05 and '10; not to suggest that either is heaven or hellish).

Let's say you want to adopt the new required wording for compliance? Recall that today you would write: "[Firm name] has prepared and presented this report in compliance with the Global Investment Performance Standards (GIPS(R))." As of 1 January 2011, you will write: "[Firm name] claims compliance with the Global Investment Performance Standards (GIPS(R)) and has prepared and presented this report in compliance with the GIPS standards." [Appended with your status vis-a-vis verification] Can you do change the wording without adopting everything else? To me, this is akin to both adding and removing something; therefore, I'd suggest you cannot do it unless you go all the way and adopt 100% of the new provisions.

Likewise, if your presentation includes performance for periods prior to 1 January 2000 that isn't compliant, the 2005 edition requires you to both state that the period isn't compliant and provide the reason; GIPS 2010 says you can drop the reason. You can't drop the reason, as this is the removal of something, until you're fully compliant with GIPS 2010.

Please understand that there has been nothing provided by the GIPS Executive Committee on this, other than comments that were made during the last EC meeting (January 29), in response to my inquiry. Although not much was stated, enough was that I believe my interpretation and explanation are consistent with the EC's desires.

Monday, February 8, 2010

Staff ... when is enough, enough?

We're in discussions with a new GIPS (R) (Global Investment Performance Standards) verification client, which is a "lift out" from a prior firm. In reviewing their organizational makeup, some staffing questions arose for which there don't appear clear answers. And so, I'll present this as a generic topic and contrast lift outs with acquisitions. We'll start with the easy one.


Let’s say that Firm A acquires Firm B, and that the portability rules apply (management comes across, they continue to manage money as they previously had, and they have the necessary records). Great!

Let’s look at Firm B:
  • Founded in 2000 by John Smith, who was the firm’s first CIO (Chief Investment Officer). The first year, John did everything by himself.
  • In 2004, he added Mary Jones to be the analyst.
  • In 2005, he added Sam Johnson to be the trader.
  • Mary and Sam became owners of the firm.
  • In 2006, John was hit by that proverbial truck and was killed. Mary became the CIO and Sam became the analyst / trader.
  • In 2007, they hired Don Doe to be the new trader.
  • In 2008, Mary retired and the firm hired Fred Patel to be the CIO. Fred and Sam became owners.
  • In 2009, both Don and Sam sold their interests in the firm to Fred and left. Fred hired replacements, Betty Brown and George Green, who came along with him when he sold the firm to Firm A in 2010.
And so, what do we have? A lot of turnover, right? Firm B has a 10-year track record, which is derived from a mix of individuals, none of whom at the time of the purchase was present for the full period; in fact, the most recent CIO was only there for two years and no one present was there any longer. And so, how much of the track record can be used by Firm A? I would say 100 percent, since the performance is the firm’s.

Lift outs

Now, let’s add a twist: what is described above is actually describing the autonomous U.S,. large cap equity group of an asset manager, XYZ; none of the players own anything: they’re all employees of XYZ. One big difference: in 2010, Fred and his team decided to leave XYZ and start their own firm. Same question: how much of the track record can be used? The answer, to me, isn’t so obvious.

Can Fred use any performance that precedes his arrival? Granted, XYZ did prior to his departure, because the performance of the team was owned by the firm.  And during the past two years, Fred was first assisted by Jane and Sam and then by two new people he hired, so there’s inconsistency in the team’s makeup.

I would suggest that this scenario is quite common; it would be somewhat rare, I believe, to find the exact same team composition for an extensive period, especially ten years.

In my opinion, they should lay claim to only the period for which at least one member of the departing group was present. If during the period shown a major participant, such as the CIO, is replaced, then the composite disclosure should reflect this significant event.

However, we know that many companies buy the performance of other firms and call it their own. Firms acquire trademarks to obtain immediate recognition. The same, no doubt, occurs in the world of portability. And therefore, to prohibit the use of performance that predates any of the members of the team that were present at the time of the departure, would probably be considered to be excessive, by many. Therefore, I don’t see a strict prohibition; plus, the rules would be quite difficult to define. Instead, we might be okay with the rule that if the lift out includes periods that preceded the time any of the members of the lift out were present, then disclosures would be needed to reflect major changes in the makeup of the team. (Note that similar disclosures would be required under the acquisition scenario, too).

Does that make sense? Again, there is no guidance on this today, so this reflects my thinking, which is subject to change based upon additional insights I may discover or comments offered by others. Your thoughts are very much welcome on this topic.

Saturday, February 6, 2010

doveryai, no proveryai

Today marks the 99th anniversary of Ronald Reagan's birth. And so it's fitting to recall one of his signature lines: "trust, but verify" (the Russian version is in this entry's title). Perhaps it's a coincidence that Jason Zweig chose to address this topic in today's WSJ: "Will we ever again trust Wall Street?"

Wall Street has always been an easy target for politicians, and we're seeing this occurring with increased vigor of late. But with the shenanigans of folks like Bernie Madoff, one can't really be too surprised by this attention. Clearly, the bad guys number in the minority, with most portfolio managers and investment firms exercising a high degree of ethics and proper action for their clients. But, as we know, it only take a few bad apples...

Perhaps this is also one of the reasons why the Global Investment Performance Standards (GIPS(R)) is seeing performance examinations rise to a level its original framers probably wouldn't have envisioned. If one looks at the draft that was first published for GIPS, there is no reference to such a review: only firm-wide verification. By the time the first edition was published in 1999 examinations (equivalent to the AIMR-PPS(R) Level II verifications) had been added. But while firms were encouraged to indicate in their presentations that they had undergone a verification, no such recommendation appeared for examinations; if anything, the opposite. But the 2010 version (to go into effect in January 2011) has a special disclosure for firms to include if they've undergone an examination. Is this a good thing? I think not. This addition wasn't part of the original exposure draft, so the public didn't have the opportunity to offer an opinion.

My views on examinations have been expressed here before, as well as in our newsletter. Examinations, in my opinion, have little to do with GIPS, per se. They're an audit of the numbers to ensure that the reported returns are accurate. Our research shows that most RFPs don't inquire about examinations, although most do ask about verifications. No doubt many verifiers are pleased to see this increased attention because it may result in pressure for more firms to undergo costly examinations. But for what benefit? Most clients of asset managers receive, in addition to reports from the manager, custodial statements (and possibly statements from consultants, too). If their mangers are playing fast and loose with the numbers, surely the client can see this when they compare the reports. Why must a manager put their composites through these very costly exercises?

Some unethical (in our opinion) verifiers talk their clients into having ALL of their composites examined, even the ones they don't market. While this brings thousands of dollars of added revenue to the verifier, it's a waste for the most part for the manager.

We favor trust, but verify and strongly encourage managers who claim compliance with GIPS to be verified. As for trust, but examine? Nah.

Friday, February 5, 2010

VaR to the rescue...or not

"Mexican Deputy Finance Minister Alejandro Werner said the government will announce in coming weeks a change in risk-management regulations for pension funds to help ease the effect of market volatility on investments. 

"'Current value-at-risk regulations, which estimate how much the funds could lose in a given day, exacerbated losses by forcing funds to sell their riskiest assets during the global financial crisis and increased volatility in pension fund portfolios,' Werner said."

I find myself gravitating to stories about Value at Risk. I find the whole concept quite intriguing. Very sophisticated mathematical models are employed to project the potential loss a firm or portfolio faces. Thus, we have an ex ante or forward looking view, which in theory would be extremely helpful as the idea of being able to know what lies ahead is clearly attractive.

The problem, of course, is that this speculative view is usually far from the mark and can lead to problems. ANY ex ante estimate, on virtually any topic, is usually wrong. (As an aside, it's interesting to note that in the Old Testament, people who make such projections are subject to death!). 

The captions above come from a story which details the negative impact VaR has had on Mexican pension funds. Clearly, this isn't the intent of this measure.

When considering VaR, one must be aware of the assumptions, constraints, and risks (risk of a risk measure). Too many people treat VaR as somewhat sacrosanct, which is problematic. It isn't a panacea. No risk measure is. It may be a valuable tool but like all tools must be used properly.

p.s., we will host a webinar on VaR later this month. To learn more, please contact Patrick Fowler.

Thursday, February 4, 2010

So what IS Best Practice?

Within the Global Investment Performance Standards (GIPS(R)), recommendations are to be considered "best practice." But what exactly IS "best practice?" I did a quick Google search and found some interesting definitions:
The GIPS standards glossary has many terms defined, but "best practice" isn't among them.This wouldn't be an easy undertaking but is, I think, a desirable one. I'd argue that the best practice would be to include "best practice" in the glossary, if it's going to be used! Clearly others agree, thus the plethora of alternative definitions.

Early adoption

“I’m late! For a very important date! 
No time to say hello, goodbye! 
I’m late, I’m late, I’m late!”

Thus, spoke the White Rabbit from Alice in Wonderland. But you probably knew that.

When it comes to adopting the new requirements for the Global Investment Performance Standards (GIPS 2010), you don't want to be late. But how about early?

Early adoption is encouraged, just as it was for GIPS 2005 ("Gold GIPS"). With the earlier version there was no discussion as to what this term meant. However, during the November GIPS conference an attendee asked, which caused the panelists to pause and consider. During last week's public GIPS Executive Committee meeting, I asked for clarity and was told that partial early adoption (that is, to adopt certain aspects earlier than others) won't always be permitted; I presume more information will be forthcoming, but I'll take a stab at it.

The standards require certain new items (for example, the three-year standard deviation). Since risk measures have always been recommended, for a firm to add this to their presentation, while adopting early, isn't a problem. However, the standards are also removing certain things (e.g., after-tax provisions). It appears that the EC has decided that you cannot remove something early unless you fully adopt the standards.

I have to confess that the logic is a bit unclear: if the EC has decided that going forward, effective January 2011, after-tax shouldn't be part of the standards, then what is the harm for a firm to decide that they will drop the current GIPS(R) rules for after-tax and offering an alternative presentation? They'll be forced to do this in eleven months, so what's the harm? The suggestion was that if one does this (i.e., drops certain aspects of the GIPS 2005 rules without completely adopting GIPS 2010), then they're not complying with either the 2005 or 2010 versions, but are somewhere in between. I guess this makes some sense.

Therefore, it appears that if you want to start to include new items early, feel free; however, if you want to drop off disclosures that were part of GIPS 2005 but that won't be part of GIPS 2010, you can't do it until you're fully compliant with GIPS 2010. Again, some clarity will most likely be offered soon.

Monday, February 1, 2010

PMAR VIII ... shaping up to be the best yet!

I just learned that the number of registrants for this year's Performance Measurement, Attribution & Risk Conference (PMAR) is double what it was a year ago! Obviously, that's fantastic news. We are hoping to set a new record attendance for this very popular event.

PMAR has arguably become the leading performance measurement conference in the U.S. There are many reasons for this, but the basic reason is that The Spaulding Group isn't a "conference company" hosting a performance measurement event; it's a performance measurement company hosting a performance measurement event. And if there's anything we know, it's performance measurement.

Jersey City? It's the largest city in New Jersey. It's also right across the Hudson River from Manhattan, meaning it's quite easy to get to, from NYC, the Newark Airport, and any location along the Eastern Corridor of the States (from Boston to Washington, DC).

PMAR has been SO successful in the States that we're taking it on the road, to London, where 8-9 June we will host the first PMAR Europe Conference. We had been asked by several of our colleagues to bring it to Europe for some time and decided this year to make the move. We're partnering with Rimes Technologies to deliver an event never seen before on that side of the Atlantic. Like PMAR U.S., it will be educational, informative, and quite enjoyable, too: we guarantee you'll have fun!

If you haven't experienced PMAR, you owe it to yourself to join us this May 19 & 20 at the Hyatt Regency Hotel in Jersey City, NJ or 8-9 June at the America Square Conference Centre in London. To learn more, visit our website or contact Patrick Fowler or Christopher Spaulding. And by the way, we'll take the risk! If you don't agree that PMAR is one exceptional conference, we'll refund your money!