May 22, 2012

BrightScope, Spaulding Group Propose Universal Performance Standard

Paper notes best practices for reporting to retail, HNW clients

BrightScope and The Spaulding Group released on Tuesday a white paper calling for an industry consensus on performance standards for financial advisors.

The standards presented in the paper, "Universal Advisor Performance Standards," address how advisors in the retail or high-net-worth space should address reporting to prospective and existing clients.

The paper notes that the Global Investment Performance Standards are appropriate for institutional assets managers, but don’t apply to many brokerage firms.

“We are not attempting to dissuade a firm from considering or achieving GIPS compliance if they are able to,” the paper asserts. “However, it is our belief that this would be a virtually impossible task for most brokerage firms. Hence the need for a standard that is sensitive to its characteristics.”

Investors can easily find information on products like mutual funds and insurance policies, but evaluating an advisor is more difficult, according to the paper.

“Over time, we envision that every financial advisor will want and need to disclose the performance of their investment selections on behalf of clients,” Mike Alfred, CEO and co-founder of BrightScope, said in a statement.

Furthermore, as brokers and advisors increasingly perform similar duties for clients, it’s become more difficult to effectively report on performance, the paper asserts.

The paper suggests a composite performance report, which shows performance for a collection of accounts with similar strategies, is the best way to convey performance information to prospective clients. This method avoids the bias of a representative portfolio, but recommends advisors use equal-weighted returns, as they are a better indicator of a manager’s performance.

The paper notes that the retail and high-net-worth space differs from the institutional market in three ways. First, client accounts are often non-discretionary, requiring different reporting standards. Second, among their discretionary clients, advisors sometimes develop unique strategies that can’t be used with other clients. Finally, clients often want consolidated reporting from their brokers.

The paper recommends advisors use money-weighted returns for reporting on non-discretionary accounts, as the client controls cash flow and investment decisions. For other clients, advisors should use time-weighted returns.

“BrightScope Advisor Pages has done a good job of bringing transparency into the marketplace, however since there is no clear guidance or industry standard, many advisors refrain from reporting performance out of fear they might run afoul of SEC and FINRA advertising regulations,” David Spaulding, president of The Spaulding Group, said in a statement. “When there is a single standard created specifically for the money management industry, individuals will understandably assume that it applies to them, when it may not. As a result, there can be confusion as well as the use of something that is less than appropriate.”

By introducing a standard designed for financial advisors, Spaulding added, “we should see increased reporting; it will also allow investors to make a more informed decision on which professional is best qualified to serve them.”

In addition to the white paper calling for universal standards, BrightScope and The Spaulding Group established the Committee for a Universal Advisor Performance Standard. Advisors on the committee include Ric Edelman, chairman and CEO of Edelman Financial Services LLC; James Edmonds, executive director at Morgan Stanley Smith Barney; Joseph Klimas, vice president of the portfolio research and consulting group at Natixis; Franklin Tsung, president of Appcrown and Christopher Davis, president of Money Management Institute.

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