Monday, May 17, 2010
One size fits all...not when it comes to reporting
Okay, and so for a little guidance consider that reporting should very much take into consideration the needs of the recipient, the conditions under which investing is being done, and the likely questions the individual may have. For many, time-weighting is the panacea of returns; unfortunately, it isn't quite that simple. Recall that time-weighting eliminates or reduces (in the case of approximation methods) the impact of cash flows. And why in the world would we want to do that? For just one single purpose: when evaluating the performance of managers who don't control the cash flows! That's it. Nothing more. And yet, time-weighting appears everywhere, more often than not where it doesn't belong. Firms need to avail themselves of money-weighting to complete the picture to ensure they report properly.
When trying to decide which measure to use, consider the perspective from which the report will be reviewed. What questions will the recipient be asking? If they want to know how did my manager do?, then in most cases time-weighting is appropriate. If they want to know how did I do?, then money-weighting, by far, is the method of choice.
It amazes me to some extent that we still have time-weighting be the only method most firms employ for sub-portfolio returns, when regardless of the perspective, money-weighting should be the only approach.
We're making headway here, but there's a long way to go.