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Which of the following statements about the Global Investment Performance Standards (GIPS) is FALSE?

A)	Performance must be calculated after deducting trading costs.

B)	When returns are calculated net of taxes, only those taxes that are not later reclaimed should be included.

C)	Composites must be asset weighted using end-of-period weightings.

D)	Terminated portfolios must be included in the historical record of the appropriate composites up to the last full measurement period that the portfolio was under management.

Jessica Yee, a portfolio manager for the National Investing Alliance (NIA), wants to create a high yield composite portfolio for marketing purposes from several other portfolios. The portfolios to be drawn from include a high yield bond portfolio, a convertible debt portfolio, and a large cap equity growth portfolio. In the composite she did not wish to include any historical results from terminated portfolios, nor did she feel it was important to include the cash associated with these portfolios (since the cash was managed by another department of NIA). Yee believed that hedging was a very important element of her investment philosophy in these volatile markets, so she delegated this responsibility to another department within NIA, but she did not wish to include their hedging results with her composite results. Yee wants to be able to claim compliance under Global Investment Performance Standards (GIPS^®).

Which of the following statements describes how Yee should approach the formation of the composite?

A)	Since the large cap equity growth portfolio is part of the overall portfolios managed by NIA it can be included in the same composite with the high yield bond and convertible debt portfolios.

B)	The large cap equity growth portfolio must not be included in the composite.

C)	The large cap equity growth portfolio should not be included in its own separate composite since it fits in well with the composite strategy.

D)	The high yield bond portfolio and convertible debt portfolio should be in different composites since they represent different investment objectives.

Given the investment style of the composite, the only portfolios that could appropriately be included in her composite are the high yield bond portfolio and the convertible debt portfolio. Thus, the large cap equity growth portfolio must not be included in the composite. However, the large cap equity growth portfolio may be included in its own separate composite. According to GIPS, firm composites must be defined according to similar investment objectives and/or strategies. Composites should be defined such that clients are able to compare the performance of one firm to another. Composites must be representative of the firms products and be consistent with the firms marketing strategy. Firms are not permitted to include portfolios with different investment strategies or objectives in the same composite. Portfolios may not be moved into and out of composites except in the case of valid, documented, client-driven changes in investment objectives or guidelines or in the case of the redefinition of the composite.

A)	Yee should include the results of terminated portfolios through the date the portfolio was last managed.

B)	Terminated portfolios are allowed to be dropped from composites when the portfolio is no longer actively managed.

C)	Terminated portfolios should be excluded from the composite to prevent survivorship bias.

D)	Yee should include the results of terminated portfolios.

Terminated portfolios must be included in the historical record of the appropriate composite(s) through the last full measurement period that the portfolio was under management. This requirement prevents the inclusion of the performance of a terminated portfolio for partial periods in a composites return. Also, retaining the performance of a terminated portfolio while it was still being managed to a composites strategy prevents survivorship bias. Survivorship bias could occur when terminated portfolios are excluded because of poor performance which tends to create the illusion of better than actual performance results.

A)	Since the cash component of the portfolio is managed by another department it is not necessary to include it in the overall portfolio results.

B)	Returns from cash and cash equivalents need not be included in total return calculations.

C)	The returns from the cash component of Yees portfolio must be included in the overall portfolio results.

D)	If a third party entity manages the cash component of the portfolio it is not necessary to include the cash returns in the overall portfolio results.

The returns from the cash component of her portfolio must be included in her portfolio results, even though it may be managed by another department of the firm (for GIPS compliance, the Firm must claim compliance). Returns from cash and cash equivalents held in portfolios must be included in total-return calculations. Cash returns must be included in portfolio total-return calculations as long as the portfolio manager has control over the amount of the portfolio that is allocated to cash. This requirement stands even if the manager does not actually control the investment of the cash, as the case is when excess cash is held in a money market account. Keep in mind that the inclusion of cash is likely to reduce portfolios experiencing positive gains.

A)	Yes, since the use of hedging is negligible the hedging results need not be included in the overall portfolio results.

B)	No, given Yees investment philosophy, the hedging results should be included in her portfolio results.

C)	No, since the hedging results belong in a separate composite as part of the overall portfolio results.

D)	Yes, since Yee is not actually managing the hedging activities she should not include these results into the overall portfolio results.

Since hedging is an important part of her investment activity, the hedging results must also be included in her portfolio results in order to be GIPS compliant. Such results are considered to be carve-out returns and may not be included in a separate composite. According to GIPS, carve-out returns excluding cash cannot be used to create a stand-alone composite. When a single asset class is carved out of a multiple-asset portfolio and the returns are presented as part of a single-asset composite, cash must be allocated to the carve-out returns and the allocation method must be disclosed. Beginning January 1, 2010, carve-out returns must not be included in single asset class composite returns unless the carve-outs are actually managed separately with their own cash allocations.