10 Takeaways from CFA on Benchmarks for Firms (2024)

10 Takeaways From CFA Institute’s Guidance on Benchmarks for Firms

April 8, 2021

10 Takeaways From CFA Institute’s Guidance on Benchmarks for Firms

The 2020 Global Investment Performance Standards (GIPS®) require firms to choose an appropriate total return benchmark, when available, for every composite and pooled fund. This information must be presented in the firm’s GIPS Reports. Benchmarks are used as a reference point when assessing an investment strategy.

Recently, CFA Institute released a Guidance Statement on Benchmarks for Firms, which provides in-depth information regarding the uses and types of benchmarks. The effective date for the guidance is April 1, 2021. Below are key takeaways from CFA Institute’s Guidance Statement:

1. Firms must include a benchmark description in a GIPS Report. If the benchmark is widely recognized, no description is needed. If it is not widely recognizable to a prospective investor or client, a description disclosing information about the investments, structure, characteristics, and key features of the benchmark should be included. When the firm is unsure if the benchmark is widely recognized, a description of the benchmark should be provided.
2. Appropriate benchmarks must be selected. In general, an appropriate benchmark is one that reflects the mandate, strategy, or objective of a composite or pooled fund. According to CFA Institute, an appropriate benchmark is one that is specified in advance and is relevant, measurable, unambiguous, representative of current investment options, accountable, investable, and complete. Firms should document policies and procedures for determining benchmarks, including what the review and approval process consists of.
3. In some situations, there may be no appropriate benchmark for a composite or pooled fund, as determined by the firm. When this is the case, firms should disclose why no benchmark is presented in a GIPS Report.
4. Firms must only present total returns (i.e. those including income) and not mislead prospective clients with price-only returns (i.e. those excluding income). All composite, pooled fund, and benchmark returns featured in GIPS Reports must be total returns. Price-only returns are allowed in combination with a total return when presented as supplemental information. The price-only returns must be labeled appropriately, and the GIPS Report must include enough disclosure to describe to a reader the difference between the two types of returns. If no appropriate benchmark total return exists, a benchmark should be excluded from the GIPS Report and a disclosure for why should be presented.
5. Benchmark changes should be properly disclosed, including the date and description of any alterations. Most of the time, changes should only take place going forward and not retroactively. Any changes that combine benchmarks should be identified as a custom benchmark in the GIPS Report.
6. Presentation of external standard deviation is required when time-weighted returns for a composite or pooled fund are presented. External standard deviation provides a measure of historical risk.
7. Multiple benchmarks can be included in a GIPS Report and can be labeled as primary and secondary, as long as all benchmarks are presented in adherence with the GIPS standards. Additional benchmarks may be presented as supplemental information, even if not considered appropriate benchmarks, given all necessary disclosures are made, and the information is not misleading.
8. Several types of benchmarks are available for use, including:
   • Market indexes, which are historically the most common type of benchmark
   • Absolute value or target return, which are used for some hedge funds and market-neutral mandates where market indices are not relevant
   • Peer groups and manager universes
   • Returns-based benchmarks
   • Factor-based models
   • Exchange-traded funds (ETFs)
   • Custom benchmarks, which also include bespoke benchmarks, blended benchmarks, portfolio-weighted custom benchmarks, and custom net benchmarks
9. Selecting appropriate benchmarks for private market investments, including real estate and alternative investments, can be challenging as since inception money-weighted returns are likely to be presented. Private equity and real estate strategy benchmarks are not widely accessible and standard indices often only calculate time-weighted returns which are not comparable. If a firm is not able to use a vintage year peer universe benchmark when presenting since-inception money-weighted returns in a GIPS Report, firms must present a public market index benchmark using the public market equivalent method.
10. Errors in GIPS Reports due to benchmark returns or disclosure mistakes or omissions must be included in a firm’s policy. When this occurs and the error is determined to be material, the error must be corrected and disclosed in a revised report.

Incorporating the provisions of the Guidance Statement into your firm’s policies and procedures is required for GIPS compliance. When implementing the guidance, reviewing the Practical Considerations section of the document is an excellent resource to help you consider different scenarios your firm may face while integrating benchmarks into its GIPS Reports.

If your firm has questions about the use of benchmarks in GIPS reports, or is interested in attaining GIPS compliance, Fairview Performance Services can help. Contact us today for more information about the benefits of GIPS compliance.