Friday, February 25, 2011

When is a balanced account not a balanced account?

This matter came up recently with one of our GIPS(R) (Global Investment Performance Standards) verification clients, and is worthy of some discussion.

What is a balanced account? I would say the characteristics are basically three:
  1. It's an account that invests in two or more different asset classes (e.g., stocks and bonds),
  2. where the manager makes the investment decisions in all asset classes, and
  3. where the manager makes the allocation decisions.
What if the client makes the allocation decisions which the manager follows? Then it's not a balanced account. In these cases you have two or more different accounts (e.g., an equity account and a bond account).  Ideally, you would have them segregated on your portfolio accounting system so that you can place each in its respective composite.

Well, what if they cannot be separated, can we carve out the different parts and insert them into the appropriate composites? Yes, you can, as long as since January 1, 2010 you have managed the cash separately.

But what if we don't manage the cash separately, what can we do? Well, in this case you could establish a rule in your GIPS discretion policy that states that in those cases where the client controls the allocation decisions, the accounts will be deemed non-discretionary. I don't believe you have any other choices. Sorry.

Because many clients provide their managers with ranges to work within, the managers often treat them as balanced, since they have some discretion over the allocation. But if there is no flexibility, then the above applies.


  1. I see the expression balanced in the context of income versus growth, respectively riskiness ("low-risk" versus "high-risk"). Your definition comes close to what I would call "multi asset class" products. I don't think that making allocation and selection decisions should be part of the definition.
    "Balanced" is mostly used for marketing terminology, therefore fuzzy by nature. I would not recommend using it as a basis for any rules or recommendations.

  2. Andreas, I agree that the term can extend beyond asset classes. The basis for my inclusion of "allocation" isn't solely my own: AIMR, back around 1993, published a guide on the AIMR-PPS where they addressed this topic. If the manager doesn't control the allocation, then how can they take responsibility for the ultimate return? If, for example, the client says "put 30% in growth and 70% in income," then whatever you do in growth and whatever you do in income individually won't shine through; the allocation decides what the ultimate return is. And, if the client's allocation decisions aren't very good, the ultimate return might be lower than it would have been had the manager held the allocation decision, too.

  3. Stephen Campisi, Frequent Commentator and GadflyFebruary 26, 2011 at 10:56 AM


    I think you have this spot on. Let's not be confused by the jargon here: a "balanced" portfolio in this context means "balanced between stocks and bonds" so that the portfolio provides some reasonable diversification for the investor. The latitude and discretion provided to the investment manager includes a) asset allocation, or changing the mix between equity and fixed income, and b) sector allocation, defined broadly as weighting industrial sectors opportunistically, or increasing or decreasing the systematic risk of the equity portfolio, or shifting the weightings between styles, or on the bond side, perhaps overweighting corporate bonds instead of Treasuries... and finally c) the implementation of these tactical strategies by selecting individual investments.

    Here's the key point: If you don't define the investment process clearly, then you can't decide whether client constraints interfere with the manager's ability to exercise appropriate discretion and implement his strategy. In your example, it seems reasonable that a "balanced" manager would be expected to shift the asset allocation opportunistically (but within predetermined bands - he wouldn't be allowed to exit equities completely, regardless of his market outlook.) I'm not familiar with products where the manager is prevented from deviating from the asset allocation; that might make sense theoretically, but it's really not practical.

  4. Steve, thanks for your comments. I agree that a "product" which was constructed whereby the manager didn't control the allocation wouldn't be very good to market, but the manager's willingness to invest in the asset classes and assume the constraint of the client to dictate the allocation isn't uncommon. Of course, the benchmark should reflect the appropriate asset-class benchmarks and the fixed allocation as established by the client.


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