GIPS - Easing the verification pain
1. Introduction - Why GIPS?
So why comply with GIPS in the first place? GIPS are global, adopted by over 34 countries around the world. Being compliant provides an asset manager with a passport to compete with other firms outside of their own home market. In some countries, for example the US, it is virtually impossible to gain business unless compliant. During the compliance process, there is usually an extra benefit of a strengthening of internal controls to increase the consistency and quality of performance related data. Lastly, being compliant signals to the market place that the asset manager is committed to integrity and adherence to industry best practices and this enhances a firm’s credibility when competing for assets.
And why be independently verified? The latest release of GIPS, effective in 2011 kept independent verification as a recommendation and not a requirement. However, an asset manager that claims compliance and is not verified must state very clearly that they are not independently verified. Whatever the reason, and no matter how reasonable it may seem to the asset manager, it will automatically raise a red flag to a prospective client or investment consultant. The cost of verification may be large within the realms of the performance department budget but it is minor in the grand scheme of total asset manager costs. Therefore, a prospective client or investment consultant may ask; ‘why are you not be verified, is something being hidden?’
2. The asset manager perspective
Now that we are convinced that independent GIPS verification is definitely appropriate, let’s make it less painful and not such a necessary evil. The asset manager requirements can be summarised as;
- No fuss/minimum interruption to the daily work.
- Lowest possible cost.
- Cost transparency – how is derived and not just a magic number.
- An understanding and holistic approach by the verifier.
- Dedicated on-site verifier resources for the verification field work.
- Resources to be properly briefed on the asset manager prior to turning up; knowledge of their products, client base, investment process etc.
- Asset manager/practitioner experience/knowledge from the verifier.
- No benign questions!
3. The verifier perspective
As mentioned at the start, it is easy to criticise the verifier but the asset manager can help alleviate the pain;
- Ensure all the relevant documentation is ready to be reviewed; don’t wait until the verifier turns up but instead gather and organise it throughout the year.
- Ensure there are dedicated GIPS resources within the team, with back up not just for the verification but full time.
- Invest in an appropriate composite module; spreadsheets are not viable, error prone and harder to verify.
- Brief other relevant business departments about the importance of GIPS and facilitate appropriate meetings when required; don’t just send the verifier off to see a fund manager about his/her returns!
- Work with the verifier as a partner and do not treat them as the enemy.
- A reasonable fee for their efforts.
These are not unreasonable expectations from the verifier and would certainly take some possible confrontation and frustration out of the process. It would also speed up the verification process and thus, in theory reduce the cost. Let us also appreciate that in the verification business, the nature of the work is a peak and trough environment, which is why the GIPS resources are often shared with other ‘risk control’ resources. This is not an excuse or vindication, merely an explanation.
4. GIPS composite module
A brief case study
A number of years ago, a well-known asset manager used spreadsheets for all their composite calculations; a manual, time-consuming and what turned out to be an error-prone process. An error in the spreadsheets was spotted (not be the verifier but the performance resource) and immediately corrected, but there were some costly ramifications. The asset manager had used the incorrect composite data in new business presentations, RFP responses and other marketing material. As such, it formed a mis-selling event and so they had to inform the FSA. The asset manager had to then contact every client they had won since the effected date of the composite error to reconfirm that the client still wanted to be a client. The asset manager also employed an independent party to scrutinise all the other composites. It was an embarrassing and costly exercise.
The point of this story is to illustrate that the use of spreadsheets brings with it operational, reputational and financial risk. There are a number of composite modules on the market which are relatively easy to implement, maintain and provide value for money when considering the downside. In addition, some modules are increasingly being accredited by some verifiers, which provide an opportunity to again make the verification process more straight forward. The same performance resource that spends so such time on the spreadsheets can be used and so there is no additional resource cost and in fact probably less resource would be required on an on-going basis.
The whole composite process is easier with the right composite module. The data is easier to load, audit/verify, less error prone, transparent and enables extensive reporting through a variety of mediums without any retyping. Read- only access also significantly reduces the number of phone calls and emails from across the other asset manager business areas who are constantly requesting composite information.
5. Selecting a verifier
There is a certain amount of inertia once an asset manager has chosen a verifier as if it is almost too much effort to retender the contract every 3 years or so. Some of the excuses include;
- The verifier knows us now; well, actually, the on-site resources will often change from one year to the next as the ‘trainees’ move on. The front guy may be the same but that may be it.
- The verifier already does the AAF and so there is a benefit; another myth. The GIPS and AAF resources are different and do not necessarily exchange information and also view the world differently. Plus, if the GIPS verifier spots something odd in the AAF, will they formally raise this as a concern to you against their colleagues? Without repeating the AAF work, a different GIPS verifying firm will normally accept another’s AAF report and only look for gaps or areas to question. It therefore adds a check to the AAF process.
- The verifier is also the auditor so there is a benefit; there has been a lot in the press over the past few years about non-audit services and the inherent conflict of interest this poses.
It does not mean that the GIPS verifier should not be the same as the auditor or AAF party but it should not be a given that there is a benefit in them being the same. Any perceived fee discount should be put into perspective. In fact, a verifier that is not the auditor may provide a more attractive rate as an opportunity to ‘get a foot in the door’ for the bigger audit fee. There are a number of credible GIPS verifiers around in the UK and beyond and so competition is increasing, which provides an opportunity to negotiate the cost down and expect a service more suited to the asset manager requirements previously stated. It should also be noted that not all verifiers are large accountancy firms either so there are more options.
Verifiers have not been actively looking for new clients either, it would seem. A quick search on a variety of websites of GIPS verification firms indicated that it is a secondary service for them. The GIPS verification service is often just a one-liner within an array of other more lucrative services. This may be a result of the asset manager inertia to scout the market for a change in verifier, leading to a certain complacency of the verifier. Perhaps if the asset managers shook the cage a little, the verifiers may more of an effort.
Finally, no-one verifies the verifiers! As such, they interpret the GIPS requirements and recommendations differently. An asset manager should pick one that suits them.
Being GIPS compliant and independently verified is now taken as standard for asset managers and anything less is viewed with some suspicion. It is thus up to the performance department to shoulder this necessary evil and therefore it is in their interest to make it as painless but effective as possible.
Some key steps to a less stressful verification process include;
- Have experienced and dedicated resources working on GIPS throughout the year, not just at verification time. GIPS are constantly evolving and the asset manager needs to be aware of the changes. Taking a look at the CFA Institute GIPS strategic plan of October 2011 as an illustration.
- Use a composite module; it makes life a lot easier. If one is in place, is it fit for purpose as there are more alternatives now.
- Actively manage the verifier; make sure they are set up to meet your requirements, before and during the verification.
- Re-tender the verification firm every 3 years or so. Competition among verifiers is there to be exploited; keep them hungry for your business and benefit from a reduced fee and improved service.
This may seem a bit of an initial effort but the medium and longer term benefits will more than offset the initial investment of time resulting in a less painful process at a reduced cost.