2020 GIPS® Standards – Bridging the Fund vs. Composite Divide

Key Concepts for Fund Managers

Firms managing only commingled funds often question the relevance of creating GIPS-compliant composites for pooled funds that are essentially already of asset-weighted, strategy specific “composites.” The 2020 GIPS standards added options that make GIPS compliance much more meaningful for managers of pooled funds, especially for firms with dozens of mutual funds and alternative investment strategies delivered in commingled fund vehicles.

U.S. mutual funds will now follow the GIPS 
standards’ Broad Distribution Pooled Fund guidance, which is a mouthful, but it’s a helpful distinction from Limited Distribution Pooled Funds, which have very different requirements in the GIPS standards.  The GIPS glossary defines the two types of pooled funds: 

Broad Distribution Pooled Fund: A pooled fund that is regulated under a framework that would permit the general public to purchase or hold the pooled fund’s shares and is not exclusively offered in one-on-one presentations. 

Cascade Note: this is intended to apply to all share classes of a U.S. mutual fund, even institutional share classes. 

Limited Distribution Pooled Fund: Any pooled fund that is not a broad distribution pooled fund. 

What changed for firms that manage several single-account composite mutual funds?  Mostly reporting: Not only do you no longer need to create compliant presentations/GIPS Reports, if you have your family of funds listed on your website, you may simply need to add a disclosure to your separately-managed account GIPS Composite Reports that “a list of the firm’s broad distribution pooled funds is available on the firm’s website.” 

Key Requirements for Broad Distribution Pooled Funds 

• If your funds meet the definition of composites that include segregated accounts, you must continue to include them in such composites.  No change—follow the GIPS Composite Report guidance. 
• If your funds are in single-account composites, or broadly defined composites of more than one mutual fund, you no longer need to maintain these composites and you are not required to create GIPS Fund Reports for broad distribution pooled funds. 
  • Firms can elect—but are not required—to follow the GIPS Fund Report guidance for time-weighted returns in section 6 of the GIPS standards. 
  • Firms can also elect—but are not required—to follow the GIPS advertising guidance specific to broad distribution pooled funds in sections 8G and 8H. 

• If you prefer to continue to maintain and present funds in single-account composites, you may continue to do so.  Why would a firm want to continue maintaining composite reports for broad distribution pooled funds?  
  • For marketing: firms that don’t yet have institutional segregated accounts in a fund strategy may want to market composite performance of the fund to institutions to win segregated account mandates. Once the firm begins managing segregated accounts in the pooled fund strategy, firms are required to create a composite. 
  • For operations: if a firm only has a couple single-account fund composites that are reviewed along with the firm’s other composite reports, the firm may prefer maintaining its current monthly/quarterly/annual composite review process across all accounts, including the pooled funds. 

Key Requirements for Limited Distribution Pooled Funds 

• If your funds meet the definition of composites that include segregated accounts, you must continue to include them in such composites.  No change—follow the GIPS Composite Report guidance.
• If your funds are in single-account composites, or broadly defined composites of more than one limited distribution pooled fund, you no longer need to maintain these composites.  However, you are required to create GIPS Fund Reports for limited distribution pooled funds. 

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Want an experienced verifier to review your policies with you? Cascade Compliance is offering complementary P&P reviews and 30-minute consultations on our findings. Sign up at cascadecompliance.com/P&P reviews. 

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• The new GIPS Pooled Fund Report guidance in sections 6 and 7 mirrors the changes in composite report guidance delineated in sections 4 and 5.  Simply replace the word “composite” with “pooled fund.”   
  • We covered composite time-weighted return (TWR) report changes in last month’s article A 2020 GIPS Standards Game Plan, noting only about 5 small changes that apply generally across all firms using TWRs.   
  • Flipping back and forth is klunky… which is why the 2020 GIPS standards have stand-alone guidance for four different types of reports:  
    • Section 4 – Composite TWR Report  
    • Section 5 – Composite MWR Report 
    • Section 6 – Pooled Fund TWR Report 
    • Section 7 – Pooled Fund MWR Report 
  • The four sections are more alike than different, so for this article, we’re going to reference earlier sections rather than repeat. If it’s hard to follow, you can appreciate even more the simplicity of the four new stand-alone sections in the GIPS standards. 

• Key Pooled Fund Report differences for firms using TWRs:  
  • Presenting the number of accounts and dispersion and disclosing the fund creation date are not required, as they don’t make sense for single pooled fund report.  
  • Many of the situation-specific disclosures for composites are also not included in pooled fund reporting guidance, because they don’t make sense, such as disclosures related to non-feepaying accounts, composite minimums, portfolio-weighted benchmarks, significant cash flows, carve-outs, overlay investments, and wrap disclosure requirements and recommendations. 
  • Additional presentation recommendations include disclosing as of each year-end the % of direct investments for a pooled fund-of-fund and the firm’s co-investments related to the pooled fund. 
  • Additional disclosure requirements for funds include disclosing 1) the funds expense ratio (which is a required pooled fund disclosure even if presenting the fund in a GIPS Composite Report), 2) which share class or assets are used for reporting net performance (if the total fund isn’t used),  and 3) what the fund inception date represents (i.e. date first funds received or date of first drawdown).

• Key Pooled Fund Report differences for firms using MWRs:  
  • The biggest difference for firms showing MWRs under the 2010 GIPS standards and the 2020 GIPS standards is that MWRs are an option for a manager that controls the timing of external cash flows, most common in Limited Distribution Pooled funds, and the composite or fund has one of four other characteristics: 
    • Closed-end 
    • Fixed-life 
    • Fixed commitment 
    • Illiquid investments as a significant part of the investment strategy. 
  • The MWR reporting guidance, now a choice—not a requirement—for more managers as noted above, reflects 2010 guidance for private equity and closed-end real estate funds, with one key difference being that only one since-inception through the most recent annual period-end reporting period is required. 
    • Currently, private equity and closed-end real estate MWRs are required since-inception through each annual period-end.  Beginning in 2020, firms are recommended—but not required—to continue to report through each calendar year-end.
  • The MWR reporting guidance also reflects the same new disclosures for pooled fund reports noted above in the TWR reporting guidance… see how klunky it is flipping back and fourth. 

• Firms can elect—but are not required—to follow the GIPS advertising guidance specific to limited distribution pooled funds in sections 8E and 8F. 
• If a firm prefers to continue to maintain and present limited distribution pooled funds in composites, you may continue to do so.  Why would a firm want to continue maintaining composite reports for limited distribution pooled funds?  
  • For operations: if a firm only has a few limited distribution fund composites that are reviewed along with the firm’s other composite reports, the firm may prefer to maintain its current monthly/quarterly/annual composite review process across all accounts, including the funds. 
  • The easier question to answer: what are the benefits of updating limited distribution pooled fund policies to comply with GIPS Pooled Fund Reports? 
    • Funds typically raise assets by marketing fund performance, so GIPS Pooled Fund Reports will be more relevant to your prospective clients, with apples to apples disclosures that align with the fund performance. 
    • As more managers of hedge funds and private market securities claim compliance with the GIPS standards, and as institutional investors begin to require GIPS compliance for alternative managers, the GIPS Pooled Fund Reports are expected to become part of the conversation. 
    • Currently, GIPS compliance among managers of hedge funds, alternatives and private market securities is low – right now, claiming compliance and prominently referencing GIPS Pooled Fund Reports (rather than composite reports that might not align with fund performance) will highlight the firm’s commitment to industry best practices, transparency, accountability and comparability in your performance presentations.  

GIPS Pooled Fund Reports are required to be presented January 1, 2021 

The GIPS standards go into effect January 1, 2020, but firms have until after presenting December 2020 performance to create GIPS Pooled Fund Reports. Early adoption may or may not make sense for your firm.   Know that early adoption: 

• Must be applied firmwide, including early adoption of the presentation standards that would otherwise be effective January 1, 2021. 
• Requires the firm’s verifier to also apply the new 2020 verification requirements.