By Howard Aschwald, CFA. Chief Investment Officer, Quantum Capital Management

With the recent market turmoil, investors are looking for more credibility and transparency from their investment advisors. Many investors have become disappointed with the investment results achieved by their advisors. Their performance doesn't look like anything they were shown in the presentation made by the advisor when they signed up. Perhaps it's because the track records shown to them in the presentation were not actually achieved by the advisor directly.

According to a survey of 4000 investors conducted by the Paladin Registry, 91.4% of investors want their advisor to have a track record of their investment performance. Paladin Registry concluded that track records were not typically available from advisors. Most advisors have not found it necessary to have their own track record, since many investors still find it acceptable to just let the advisor choose investments for them.

These advisors are similar to professional buyers that shop on behalf of the investor to scout out investment opportunities. The investment managers for the major endowments (the ultimate professional buyers with just one client) are credited (or debited) with a track record. It is only a matter of time until individual investors, with 91.4% preference for real track records, begin to demand the same from their advisors.

Track Record: Reflection of Advisor's Investment Judgment

It is perfectly understandable why investors want to see a record from an advisor that has management control (discretion) of their investment accounts. A track record is a reflection of the advisor's investment judgment and decision making that is independent of an advisor's presentation skills. If an investor is going to turn over control of the buy and sell decision to an advisor, then it would be prudent to see how that advisor has handled other decisions in the past.

Even if advisors are simply selecting mutual funds or choosing separate account managers on behalf of their investors, they should have a record of their past choices that would closely match how they intend to invest client funds. It's not enough (and fairly misleading) to site the record of a mutual fund or separate manager unless that record coincided with the actual results achieved by the advisor's clients in the past.

Investors should be careful when an advisor claims to pick only "the best" manager(s) or fund(s). They may say that they have a due diligence process for screening managers and it could look very impressive, but how can an investor know if that process truly worked without the advisor's record to go with it.

Psychologically, the advisor is transferring the success of someone else's track record and using that in their sales/consulting presentation. Under those circumstances, an investor should heed the maxim that "past performance is no indicator of future results". As a side benefit of using an advisor with a track record, a client can be sure that the advisor/manager will be extra diligent in his management process since the client's results will be included in the manager's future performance record.

CFA's Global Investment Performance Standards (GIPS)

Fortunately, there are global standards on how track records are to be calculated and presented. The CFA Institute's Global Investment Performance Standards (GIPS) are the criteria that institutional investors require of their investment managers. These standards allow clients to evaluate track records from any firm in the world that adheres to them.

In much the same way that public corporations have to present accounting data in accordance with Generally Accepted Accounting Principals (GAAP) in the U.S., investment managers have to present their track records in compliance with GIPS. In this way, it is possible to make consistent comparisons across managers. Furthermore, the records of mutual funds, which are GIPS compliant and audited, can be compared directly to the records of separate account managers.

Calculating Performance Uniformly

Any advisor who has investment control (discretion to make buy and sell decisions) over accounts can adopt GIPS. The requirements are not difficult to implement and manage. The standards require managers to calculate performance in a uniform way and present their results into meaningful composite reports. There is broad leeway to include and exclude performance results from each composite, but the standards greatly diminish the potential for "gaming" track records by including only the best performing accounts or showing a potentially misleading "representative" account.

While managers can legally show records that are not GIPS compliant (with enough fine print to protect them from regulators), most institutional clients will not accept them. In addition, most institutional clients expect managers to not only have GIPS compliant records, but have their results audited by an independent third party as well.

Investors are looking for their advisors to be more responsible and accountable for the results of the advice and management they are providing. At the very least, individual investors should expect their advisors to provide them with separate account investment managers who have audited and GIPS compliant track records.

Not Asking For Too Much

Individual investors should be very leery of any advisor who shows a track record of a separate account manager or mutual fund and then implies that would have been his choice five years earlier. Finally, if the advisor has the responsibility to manage the client's investment assets, asking the advisor for an audited written track record, is not asking for too much.

*Quantum Capital Management's performance records have been Audited and Verified in compliance with the Global Investment Performance Standards (GIPS) by Ashland Partners & Co., LLP.