Evaluating any type of vendor can be an onerous experience, but evaluating a performance measurement system can be especially burdensome. Whether it be calculation type availability, accuracy of returns or data management, there are a number of factors to consider during the evaluation process. So what questions should you ask potential vendors when looking at different performance systems?
What performance return calculations do they offer?
Does the potential solution offer transaction-based calculations, holdings-based, or both? Each calculation methodology has its own strengths and weaknesses so it’s important that you have the availability to choose the best option for your firm. For example, an early stage firm may employ a holdings-based approach if they’re unable able to meet the data requirements that come along with a transaction-based approach, but once they reach growth stage and data requirements are no longer a concern, the more accurate and granular transaction-based approach makes more sense.
How do they calculate transaction-based returns?
At the total portfolio or share class level, performance should ideally be calculated using total assets and external transactions. If this data is not readily available, returns can be calculated from unitized share prices and corporate actions.
At the security and strategy level, returns should be calculated using a true time-weighted return (for either a daily or elementary period) as well as using a modified Dietz return. Returns may be determined based on start, middle, end, or in fact, any fractional time of day transaction timings which can be controlled at multiple levels in the data and analysis structure. This includes transaction type along with individual transactions.
This transactional approach (at both total portfolio/share class and security level) allows capturing the true transaction timing and currency impacts on the portfolio. The aggregated security contributions can thus be reconciled to the total (NAV) return, which will not be possible using holdings-based approaches, for an actively traded portfolio.
How are base and local currency returns calculated?
Local and base returns should be calculated from their respective market and transaction values. Currency, base and local returns account for the actual exchange rates at the times of the valuations and thus are not approximations of end-of-day rates. This means that calculations made in downstream attribution processing will use true currency returns that will reflect the possible differences in return between portfolio and benchmark calculations.
The differences between these true currency-converted returns and naïve currency returns can be significant, especially when compounding results over multiple elementary periods.
How accurate are their calculations?
Many vendors struggle with recognizing and accounting for data conditions that lead to no return or an abnormal return. While these returns may be correct mathematically, no performance analyst wants to spend extra time investigating their cause. It’s imperative that the vendor offer a transparent, accurate, and automated solution that can easily pick up these concerns when they arise so they can be dealt with swiftly.
How is data management handled?
Data management is paramount to successful, accurate, and efficient performance measurement. Any good solution should be designed with simplicity, scalability and customization in mind to ensure processes are as efficient as possible. Vendors should provide multiple options for reporting and extracting data from their solution as well as multiple data models.
While there are many factors and nuances to keep in mind when it comes to measuring performance attribution, the above considerations are vital for your firm to consider when choosing a vendor solution. Ultimately, the best kind of technology is that which helps you achieve strategic business goals in a seamless manner.