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Back To Basics: What Do We Want A Stable Value Performance Measure To Do?

It's a fact of life that people manage to whatever is measured. Therefore, it's important that what's being reported in a stable value performance measure reflect what people want done with their stable value funds. The ideal performance measure should align the interests of the asset manager, plan sponsor and participant.

The basic objective of a stable value fund is to provide the highest risk-adjusted blended rate consistent with principal stability and maintaining the blended rate in line with market rates. The optimal SV performance measure should be designed to see that this is done as well as possible. At a minimum, this means reporting book value yields and information on the amount of both asset and plan cash flow risk transferred to the participant in generating those yields. Arguably, a meaningful performance benchmark might be the yield on a new issue, medium-term certificate of deposit.

The draft performance measure designed by the SVIA performance measurement task force is primarily intended to help plan sponsors choose among managers and to compare the relative performance of stable value asset managers. It does this quite well. However, to clarify the current value added by the manager, it focuses on market value returns and doesn't directly take account of how those returns get passed on to the participant.

SV managers will argue that they don't have any "control" over the lag in blended rates or the amount of plan cash flow risks. But let's face it. A key part of their job is to manage fluctuations in asset values and their impact on blended rates - and to take account of the potential impact of plan cash flows while so doing.

They will argue that they inherited some of these assets and should not be penalized for their performance. However, SV portfolios and vehicles are flexible enough today to allow any manager to wrap unwanted credit or option risks and to adjust out any duration or cash flow problems. In fact, a well-designed SV performance measure should be structured to encourage a new manager to wrap or otherwise neutralize any unwanted risks in the portfolio.

Benefit managers frequently complain about the difficulty of getting fixed income managers to focus on book yield and stability of principal rather than total returns. Shouldn't a SV performance objective be designed to reinforce this objective rather than to exacerbate the problem?

The recent bond market chaos has shown the inappropriateness of some exotic, option-laden investments marketed to stable value funds. Shouldn't a SV performance measure be designed to help a plan sponsor assess the potential impact on blended rates of any new investment concept?

The asset manager and benefit manager both have a fiduciary responsibility to act only in the best interest of the plan participant. The benefit manager's own performance will be partially evaluated on the success of the asset manager. Neither should have his performance and/or compensation evaluated on a basis that is inconsistent with the performance that participants see.

Perhaps the industry is large and sophisticated enough to handle two performance measures: one, calculated on book returns and measuring the degree of asset and liability risk participation, to measure how well the fund is doing relative to its objectives; and a second, using market value returns and discounting liability risks, to measure relative performance among managers. If two methodologies aren't feasible, the measure that keeps the manager focused on the participants' objectives is the one that should be developed. It won't be as useful for evaluating relative manager performance, but it will show how well a SV fund is meeting its investment objectives.

And isn't that ultimately what this industry is all about?

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