What are the key GIPS compliance requirements for investment firms?
I'm studying the GIPS section for CFA Level III and there's a lot to remember. Can someone summarize the most important compliance requirements, including composites, verification, and presentation standards?
The Global Investment Performance Standards (GIPS) are voluntary, ethical standards for calculating and presenting investment performance. They ensure fair representation and full disclosure so investors can compare performance across firms.
Core Requirements
1. Firm Definition
The firm must define itself as a distinct business entity. All fee-paying, discretionary portfolios must be included in at least one composite. Cherry-picking portfolios is prohibited.
2. Composite Construction
- Group portfolios by similar investment mandate, objective, or strategy
- Include new portfolios in the composite at the start of the next full performance measurement period
- Do not exclude portfolios with poor performance
- Terminated portfolios must remain in the composite's historical record
3. Calculation Requirements
- Use time-weighted returns (TWR) to eliminate the impact of client cash flows
- Calculate returns at least monthly
- Use geometric linking to compound sub-period returns
- For periods beginning January 1, 2020+, firms must use fair value for portfolio valuations
4. Presentation Requirements
Compliant presentations must include:
| Item | Requirement |
|---|---|
| Performance period | Minimum 5 years (or since inception if shorter), building to 10 years |
| Benchmark | A total return benchmark appropriate to the composite's strategy |
| Number of portfolios | In each composite for each annual period |
| Composite dispersion | A measure of variation across portfolios within the composite |
| Assets | Composite assets and total firm assets for each period |
| Fee disclosures | Whether returns are gross or net of fees |
5. Verification
- GIPS verification is optional but recommended
- Verification is performed on the firm as a whole, not on individual composites
- A verifier tests whether the firm has complied with all composite construction requirements and whether processes are designed to present performance in compliance with GIPS
Common Exam Traps
- GIPS compliance is voluntary but must be applied firm-wide (you can't claim compliance for one composite)
- Firms cannot claim partial compliance — they either comply or they don't
- Non-discretionary portfolios are excluded from composites (they're managed by the client's constraints, not the firm's strategy)
- Prior to 2020, cost basis was acceptable; now fair value is required
Example: Brantley Investment Partners claims GIPS compliance. They manage 15 strategies across 200 portfolios. During an audit, it's discovered that 3 underperforming portfolios were excluded from the US Large Cap Value composite. This violates GIPS — all discretionary portfolios matching the composite definition must be included regardless of performance.
For the CFA Level III exam, GIPS questions typically test composite construction rules, presentation requirements, and common violations. Practice in our ethics question bank.
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