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Investment Management guides

Concepts

GIPS compliance and verification

The Global Investment Performance Standards, owned by CFA Institute, are voluntary ethical standards for calculating and presenting performance. Compliance is claimed at the firm level and requires including every fee-paying discretionary portfolio in at least one composite. Verification is a separate independent review of a firm's composite construction and policies — it is not an audit of any single composite's numbers, and saying otherwise is itself a violation.

Composite construction

A composite is the aggregation of all portfolios managed to a substantially similar strategy. Because every discretionary fee-paying account must fall into one, composites are what stop a manager from showing only its winners — the single most important integrity mechanism in performance reporting.

Time-weighted vs money-weighted return

Time-weighted return removes the effect of cash flows and measures the manager's decisions; money-weighted (dollar-weighted) return includes them and measures the investor's actual experience. Time-weighted is the default for marketable strategies; money-weighted (IRR) is required where the manager controls the timing of flows, as in private funds.

IRR, TVPI, DPI, RVPI and MOIC

The private-markets scorecard. IRR is the money-weighted annualized return. TVPI is total value to paid-in (distributions plus residual value over contributions). DPI is distributions to paid-in — cash actually returned. RVPI is the unrealized remainder. MOIC is gross multiple on invested capital. A high TVPI with a low DPI means the gain is still on paper, which is precisely the tension in today's slow-exit market.

Gross vs net of fees

Gross return is before management fees, carried interest and often before other expenses; net is what the investor keeps. The SEC Marketing Rule requires that any gross performance in an advertisement be accompanied by net performance of equal prominence, calculated over the same period and methodology.

Since-inception return

Annualized return from the strategy's or fund's start date. It anchors a long-term track record but can flatter or punish a manager depending on the starting point, which is why GIPS requires annual periods alongside it.

Benchmark selection and style drift

The benchmark defines what 'skill' means for a strategy; a mismatched one manufactures alpha out of a style tilt. Style drift is a manager wandering away from the mandate the benchmark represents — the reason allocators monitor holdings-based and returns-based style analysis, not just the return line.

Tracking error and information ratio

Tracking error is the standard deviation of active return versus the benchmark — how far a manager strays. Information ratio is active return divided by tracking error: excess return per unit of active risk. Together they say whether a manager's outperformance was earned efficiently or just by taking more bets.

Sharpe and Sortino ratios

Sharpe is excess return over the risk-free rate per unit of total volatility. Sortino replaces total volatility with downside deviation, penalizing only losses — usually the fairer measure for strategies with deliberately asymmetric return profiles.

Alpha and beta

Beta is sensitivity to the benchmark's movements; alpha is the return left after beta is accounted for. Much of what was once sold as alpha has been re-labeled as factor beta available cheaply, which is the intellectual engine behind fee compression.

Performance attribution

Decomposing active return into its sources — allocation, selection, interaction, currency, and for fixed income curve, spread and carry. Attribution is what turns a return number into an explanation an investment committee can interrogate.

SEC Marketing Rule

Rule 206(4)-1 under the Advisers Act, whose compliance date was 4 November 2022, replaced the old advertising and cash-solicitation rules with a principles-based framework. It governs testimonials and endorsements, third-party ratings, and every form of performance an adviser shows — and it applies to a website exactly as it applies to a pitchbook.

Hypothetical and extracted performance

Under the Marketing Rule, hypothetical performance — model, backtested and targeted or projected returns — may only be shown if the adviser has policies reasonably designed to ensure it is relevant to the likely recipient and supplies the criteria and assumptions behind it. In practice this bars backtested results from a general-audience website. Extracted performance (a subset of a portfolio's holdings) requires the full portfolio's performance to be provided or offered.

Predecessor performance

Track record carried from a prior firm. It may be advertised only when the person managing accounts was primarily responsible for the prior performance, the accounts are sufficiently similar, all similar accounts are included, and the advertisement discloses that the performance was achieved at a different firm.

AUM vs AUA

Assets under management are those over which the firm has discretionary or continuous supervisory authority; assets under advisement or administration are those it advises on or services without that authority. Regulatory AUM on Form ADV has a specific definition, and conflating the two inflates a firm's apparent scale.

Separate account vs commingled fund

A separate account holds the client's own securities in its own custody, permitting customized guidelines, tax management and direct ownership — usually at a higher minimum. A commingled fund pools investors for scale and operational simplicity but takes the pool's terms as given.

Mutual fund vs ETF vs CIT

Mutual funds and ETFs are registered under the 1940 Act and available broadly; ETFs trade intraday and are generally more tax-efficient through in-kind creation and redemption. A collective investment trust is a bank-maintained vehicle available only to qualified retirement plans, with lower cost and less disclosure — which is why CITs have taken so much defined-contribution share.

'40 Act fund vs private fund

A registered investment company faces leverage limits, daily liquidity and diversification requirements and full public disclosure. A private fund relies on an exclusion from that regime and can concentrate, lever and hold illiquid assets — in exchange for restricting who may invest and how easily they may exit.

3(c)(1) and 3(c)(7)

The two Investment Company Act exclusions private funds rely on. A 3(c)(1) fund is limited to 100 beneficial owners and generally sells to accredited investors. A 3(c)(7) fund has no such investor cap but every investor must be a qualified purchaser — the structure nearly all institutional funds use.

Accredited investor and qualified purchaser

Two different bars. Accredited investor generally means $1 million in net worth excluding the primary residence, or $200,000 of income ($300,000 jointly), or certain professional certifications. Qualified purchaser generally means $5 million in investments for an individual. The gap between them decides which private funds an investor may enter.

Form ADV and Form PF

Form ADV is the registered adviser's public disclosure — business, ownership, AUM, disciplinary history, and the plain-English Part 2 brochure. Form PF is the confidential systemic-risk filing that larger private-fund advisers make to the SEC, with reporting frequency and detail scaling by adviser size and fund type.

Custody rule

Rule 206(4)-2 requires an adviser with custody of client assets to use a qualified custodian, arrange account statements to clients, and either undergo a surprise examination or, for pooled vehicles, deliver audited financial statements annually. Most private-fund advisers satisfy it through the annual audit path.

Side letter and most-favored-nation clause

A side letter grants an individual limited partner terms that differ from the fund's main documents — fee breaks, reporting, co-investment rights, excuse rights. An MFN clause lets other qualifying LPs elect the better terms granted to someone else, usually tiered by commitment size, which is what keeps side letters from quietly fragmenting a fund.

Management fee and carried interest

The management fee is an annual charge on committed or invested capital covering operations; carried interest is the manager's share of profits, conventionally quoted as '2 and 20' — a 2% fee and 20% carry. The shorthand persists, but actual terms are negotiated and vary widely by strategy, fund size and LP leverage.

Hurdle rate / preferred return

The return an LP must receive before the GP shares in profits. Once cleared, a catch-up provision often lets the GP take a disproportionate share until the agreed profit split is restored. Whether the hurdle is hard or soft materially changes economics.

High-water mark

A hedge fund's peak NAV per investor, above which performance fees resume. After a loss the manager earns no incentive fee until the investor is made whole — the standard protection against paying twice for the same gain.

Clawback

A provision requiring the GP to return carried interest already received if final fund results fall short of the agreed split. It exists because carry paid on early winners can exceed what the whole fund ultimately justifies.

Distribution waterfall — American vs European

The order in which fund cash is paid out. A European (whole-fund) waterfall returns all contributed capital and the preferred return to LPs before any carry is paid. An American (deal-by-deal) waterfall pays carry on each realization as it happens, accelerating GP economics and making the clawback essential.

Capital call and recycling

LPs commit capital and the GP draws it down through capital calls as investments are made. Recycling permits the fund to reinvest early distributions rather than return them, so invested capital can exceed committed capital — good for gross multiples, harder on LP cash planning.

J-curve

The characteristic shape of a private fund's return path: negative early as fees and costs are drawn before value is realized, turning upward as investments mature and exit. It is why judging a fund on its first years is meaningless.

Vintage year

The year a fund makes its first investment or holds its final close. Because entry valuations and exit windows dominate private-market outcomes, funds are only fairly compared against the same vintage, and allocators pace commitments across vintages to diversify that risk.

Secondaries and continuation vehicles

The secondary market lets LPs sell fund interests before the fund winds up, and lets GPs move an asset into a new continuation vehicle backed by new investors while offering existing LPs cash or rollover. With traditional exits slow, this has become the industry's main liquidity valve — and the main source of conflict-of-interest scrutiny, since the GP effectively sits on both sides.

NAV loan

Borrowing secured against the net asset value of a fund's whole portfolio rather than a single asset, often used to fund distributions or support existing holdings without selling. Controversial because it can manufacture DPI with leverage while leaving the underlying assets unrealized.

Subscription line

A revolving credit facility secured by LP capital commitments, used to bridge investments before capital calls. It smooths cash management and flatters IRR by shortening the period capital is outstanding, which is why sophisticated LPs ask for returns both with and without the facility.

Gates, lockups and liquidity terms

A lockup is the minimum period before redemption is allowed; a gate limits how much may be redeemed in any window; notice periods, side pockets and suspension rights complete the picture. These terms exist to keep a fund's liability profile aligned with the liquidity of what it actually owns.

RFP and manager search

The structured procurement process by which an institution hires a manager: universe screen, RFI or RFP questionnaire, semifinals and finals presentations, fee negotiation, contract and funding. For public plans it is typically governed by open-procurement rules, which makes documentation and consistency as important as the pitch.

Investment consultant and consultant-driven allocation

Consultants advise institutions on policy, asset allocation and manager selection, and their databases and buy ratings determine which managers appear on a shortlist at all. For most mid-size plans, the consultant relationship — not direct marketing — is the actual route to a mandate.

OCIO

Outsourced chief investment officer: delegating discretionary management of a portfolio to a third party that implements policy, hires and terminates managers and reports to the board. It is the answer for institutions whose portfolio complexity has outgrown their staff, and its growth is reshaping the traditional consulting model.

Investment policy statement and asset allocation policy

The IPS is the governing document — objectives, risk tolerance, time horizon, spending or liability needs, permitted asset classes, target weights and ranges, rebalancing rules and monitoring standards. It is the fiduciary's primary defense that decisions followed a documented process.

SAA vs TAA

Strategic asset allocation is the long-horizon policy mix set in the IPS and revisited every few years; tactical asset allocation is deliberate short-horizon deviation from it. Governance requires knowing which is which — most portfolios' outcomes come from the strategic mix, not the tactical tilts.

Rebalancing bands

Tolerance ranges around each target weight that trigger a trade back toward policy when breached, instead of rebalancing on the calendar. Bands limit turnover and transaction costs while ensuring drift is corrected, and in private-asset-heavy portfolios they must accommodate exposures that cannot be traded at all.

Liability-driven investing

Building the portfolio around the plan's liabilities rather than a return target — matching the duration and, where possible, the interest-rate and inflation sensitivity of promised benefits, so that funded status is stable even when rates move. Standard practice in corporate DB plans and increasingly considered by public systems.

Funded status and discount rate

Funded status is plan assets over the actuarial value of liabilities. The discount rate used to value those liabilities drives the answer: corporate plans discount at high-grade corporate bond yields under accounting rules, while US public plans discount at an assumed long-term return on assets — which is why the same promises produce very different reported funding levels.

Private credit and direct lending

Non-bank lending to companies, most commonly senior secured floating-rate loans to sponsor-backed middle-market borrowers, held to maturity in closed-end funds, BDCs or evergreen vehicles. Institutions buy it for yield, floating-rate exposure and covenant control; the open questions are valuation of unquoted loans, layered leverage, and what a full default cycle looks like.

Real assets and infrastructure

Real estate, infrastructure, timber, farmland, energy and natural resources — held for inflation sensitivity, contracted cash flows and diversification. Infrastructure in particular is now split between core, contracted assets and a fast-growing digital and energy-transition segment with very different risk.

Securities lending

Lending portfolio holdings to borrowers against collateral in exchange for a fee, generating incremental revenue for the owner. The economics turn on collateral reinvestment policy, borrower default indemnification and the split of revenue with the lending agent — small print with real risk attached.

Transition management

The specialist execution of a large portfolio restructuring — terminating one manager and funding another — designed to minimize market impact, opportunity cost and out-of-market exposure. Implementation shortfall against a documented pre-trade estimate is how a transition is judged.

Best execution and soft dollars

The fiduciary duty to seek the most favorable terms reasonably available for client trades, judged on the whole execution quality and not price alone. Soft dollars are the Section 28(e) safe harbor permitting commissions to pay for eligible brokerage and research — a long-standing conflict that requires disclosure and ongoing evaluation.

Watch

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