While the Securities and Exchange Commission (SEC) strictly regulates how investment advisers can advertise through Rule 206(4)-1 of the Investment Advisers Act of 1940 (IAA), neither the SEC nor state regulators have set forth specific regulations on how advisers can present investment performance data to prospective clients. The financial industry has instead self-regulated through the Global Investment Performance Standards (the “GIPS Standards”). The GIPS Standards are a common set of principles regarding the presentation of performance data formulated by the CFA Institute.
The foundation for the GIPS Standards was first established in 1987, with the creation of the voluntary performance guidelines AIMR Performance Presentation Standards. While these standards were widely used in the United States and Canada, the need for a global set of principles led to the development and acceptance of the GIPS Standards in 1999. The mission of the GIPS Standards is to promote ethics and integrity, and instill trust, by achieving universal demand for compliance by asset owners, adoption by asset managers and support from regulators for the ultimate benefit of the global investment community. While complying with the GIPS Standards is voluntary, failure to adopt these standards can be costly; one survey indicated that 81% of consultants will exclude non-GIPS compliant institutional managers on some or all searches and requests for proposals.
There are a number of standards that investment advisers are required to comply with to be considered GIPS-compliant. As a general rule, presentations of investment performance data must follow these practices to comply with GIPS Standards:
- Use of accrual accounting, as opposed to cash;
- Including cash in returns;
- No linking of simulated and model portfolios with actual performance;
- Use of total return to calculate performance;
- Including all fee-paying discretionary portfolios in at least one composite;
- Use of time-weighted rates of return, with at least quarterly valuations;
- Limited portability of portfolio results; and
- Presentation of at least a 10 year performance record (or since inception, if shorter).
The CFA Institute has also adopted GIPS Advertising Guidelines, where investment advisers can provide a specific shortened version of the complete GIPS-compliant presentation and still be in compliance with the GIPS Standards. The type of advertisement that can be provided will vary depending on whether performance information is included in the advertisement.
The GIPS Standards are not identical to SEC standards or guidance. Presentations or advertisements that comply with SEC rules may not comply with GIPS Standards, or vice versa. If there is a conflict between GIPS Standards and SEC rules, the SEC’s requirements should be followed.
The SEC does not enforce GIPS Standards. However, it may examine an investment adviser’s claims of GIPS-compliant performance or bring enforcement actions where an investment adviser falsely claims to be in compliance with GIPS and that its performance results had been verified by a GIPS verification firm. Given the complexity of GIPS compliance, many investment advisers have a committee or other body to oversee these matters.