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Effective: 1 November, 2012 - 31 December, 2019

Categories: Carve-Outs

Source: GIPS Handbook, 3rd Edition

Our firm has a balanced portfolio with a defined asset allocation of 25% U.S. equity, 25% non-U.S. equity, and 50% fixed income. Although each segment is managed in the same way as a stand-alone portfolio managed to the segment’s strategy, we do not segregate the segments into separate portfolios with separate cash allocations. What is an acceptable method of allocating cash to the segments for periods prior to 1 January 2010?

The GIPS standards require that returns from cash and cash equivalents held in portfolios must be included in return calculations. Unless the carved-out portion is accounted for as a separate portfolio, there will be no cash associated with the returns. For periods prior to 1 January 2010, cash allocation was permitted. If carve-outs were included in a composite, cash must have been allocated on a timely and consistent manner. The GIPS standards do not require a specific cash allocation methodology. The firm must document the method for cash allocation and apply it consistently.

One suggested methodology would be to allocate cash to each segment based on the beginning-of-period values by identifying the cash allocation percentage for each portfolio segment at the beginning of the period. For example, at the beginning of the month, firms could identify the percentage of residual cash that will be allocated to the carve-outs at month end.

Assume that at the beginning of the measurement period the market values for the segments, excluding residual cash, are 26% U.S. equity, 23% non-U.S. equity, and 51% fixed income. The residual cash in the portfolio will be allocated 26% to U.S. equity, 23% to non-U.S. equity, and 51% to fixed income.

However, effective 1 January 2010, carve outs must be managed separately with their own cash balances because allocation of cash is no longer allowed for periods beginning on or after 1 January 2010. This change is not retroactive, so the history of composites that include carve-outs with allocated cash must not change.

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