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Performance Measurement Task Force Update

Representatives from the SVIA Performance Measurement Task Force held a panel discussion at the annual conference sponsored by the Association. Participating in the panel discussion were this author and Paul Donahue from PRIMCO as co-chairs of the Task Force along with Kelley Fairbank from Frank Russell who serves on the committee as well.

Coinciding with the Task Force's Phase II, the purpose of this presentation was to allow the community the opportunity to review the direction of the Task Force once again and to foster public debate. I will attempt to summarize here briefly. However, recognizing that I am at risk of doing injustice to any of the presentations as they were given in full, I request the indulgence of my co-presenters at the outset for any license I may inadvertently take with their presentations.

Leading off, Kelley Fairbank gave an overview of fiduciary obligations and how performance standards are integral to meeting those obligations. The focus of her discussion paralleled the practices common in Defined Benefit markets with those in Defined Contribution markets. It is evident that all too often a different standard is applied even though there is no legal justification for such.

As presented, the importance of performance measurement cannot be overstated. It allows for the application of many standard tools that are common in other asset classes. Performance measurement gives the manager the information needed to confirm or modify his or her process; it also assists clients in determining how much value a manager is able to contribute, why and in which markets. What is clear is that there already exists a well-tested mechanism for calculating performance that can be readily applied to Stable Value with only minor adjustments and/or clarifications.

Picking up from where Kelley left off, Paul reviewed the rationale behind the efforts that the Task Force is undertaking and addressed the areas that pose special consideration for Stable Value funds.

As presented, it is important to keep in mind that the true audience for a total return market- (fair-) value performance measurement is plan sponsors and consultants. The intention is to provide a measure that would allow a client to ascertain, over shorter time periods, ex post, what have been the drivers of performance for a manager and when have those drivers been adding value. These are examples of performance-based analysis that have been available for some time to clients for other asset classes.

The purpose, in part, is to assist in de-mystifying stable value to the professional investment community at large and even in some small way to the lay community as well. This would assist greatly in fostering the widespread use of stable value where appropriate and lend a greater sense of credibility to the asset class as a whole.

The purpose is not to seek to have investors discontinue the use of book value performance measures. They alone remain the only appropriate measures for reporting to participants. Furthermore, book value measures will continue to form the basis for asset allocation decision making on the part of participants. Further, crediting rates will continue to be disclosed as an Additional Disclosure under the proposed Performance Measurement Standards.

Several areas that are to be covered in the Performance Measurement Standards represent areas that pose special considerations for Stable Value funds. Paul's presentation touched on each of these briefly with the intent of raising the awareness of the community as the final document continues to be drafted. Each of these areas has been, in turn, the culprit in holding up the committee in lengthy exchange; and the committee is optimistic that the final wording on each point is rapidly reaching a consensus.

Firstly, integral to any Performance Measurement Standard for Stable Value funds shall be the treatment of GICs. Since the standard is an economic value-based standard and GICs do not have observable secondary market prices, the "economic" pricing of GICs will be a challenge that each manager is faced with at the outset. The Task Force has considered, at length, many alternative formulations, i.e., "how to" sections, that would direct the managers in deriving an economic valuation for GICs. There is a concern that any specific formulation would almost certainly be incomplete. A likely resolution to this quandary may be to have the document simply discuss the overriding precepts that should govern the calculation of economic valuation for GICs.

Secondly, at the center of the controversy surrounding economic valuation of Stable Value funds has been the handling of the benefit responsive insurance that is a unique and integral part, either explicitly or implicitly, of these assets. The Task Force has engaged in considerable debate over various methods to either rigorously value or account for the "put option" that gives rise to Stable Value. Here again, a likely resolution seems to be gaining consensus. Inasmuch as the impact of cashflows, either on a "par" or "non-par" basis, are to be removed from the calculation of performance, the cost of purchasing this insurance will be disclosed and added back to gross up performance.

Thirdly, the creation of performance composites may require some special considerations in the Stable Value market. This arises from the dual facts that GICs are often mandated by client policies and total-rate-of-return performance benchmark indices do not exist for GICs. Debate continues as how to craft a document that marries the competing objectives of including only homogenous investment strategies within a composite and limiting the number of composites. A subgroup within the Task Force has been identified to craft this consensus.

Fourthly, because Stable Value management has been ongoing for many years some consideration may need to be directed toward transition or crossover issues in implementing a Standard in the Stable Value market. While no consensus has arisen, one possible resolution may be to announce some crossover date, such as January 2001, for the creation of these measures at each investment manager.

Lastly, due in part to the unique nature of Stable Value, certain Additional Disclosures are under consideration. These include credit quality, duration, market-to-book ratios, crediting rates, cashflow histories and par/non-par coverage ratios. Again, a subgroup within the Task Force has been identified to finalize this portion of the document.

As the final presenter, this author discussed the implementation of performance measurement standards for Stable Value funds at IBM. The first portion of this presentation reviewed some of the thinking behind this topic and related topics at that plan sponsor. This review included the rationale behind performance measurement for Stable Value funds, strategic allocation for these funds, implementation of a performance measurement standard for these funds and considering the efficiency of GICs. As shown in the presentation, each of these discussions reviewed prior articles from the presenter in Stable Times. In addition, the presenter covered the actual performance of the IBM Stable Value Fund, which is expected to be in compliance with the Standard when published.

At the conclusion, time remained for questions from the audience. Clearly a small minority of members remained strongly opposed to implementing an economic value-based performance standard for Stable Value. In response, the presenters noted that these Standards arose to meet a demand from some segments of the community. Yet, they are intended only as guidance and in the end are, of course, optional for each manager to implement.

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