16 a ut umn 2 0 1 0 17 P r o f e s s i o na l i nv e s t o r

century and the credit crisis that
followed. Now, once again, the industry
is re-evaluating best practice.
Te industry not only grew in size but
also in stature, complexity and
professionalism. Tere were, for
example, a number of signifcant
structural changes in the 1980s. Tat
decade saw the beginning of the
demutualisation of the stock exchanges
and the abandonment of restrictive
practices such as fxed commissions at
brokerage frms. Tese changes gave
birth to the regulatory concepts of ‘best
advice’ and ‘best execution’.
Te rapid pace of innovation came at
about the same time the industry began
to change its focus from relative return
to absolute return. Tis led to – or
www. c fa uk . o r g 16
n 1697, a law in the United Kingdom was passed to
“restrain the number and ill-practice of brokers and
stockjobbers”. For the frst time, best practices in the
securities industry were written into law. Tat said, the
law failed to stop the development of the South Sea Bubble in
1720. Te fnancial ruin that hit investors who were either
over-leveraged or poorly diversifed led to an increased focus
on spreading risk. Best practice in fund management evolved
from this as the industry lurched from one fnancial crisis to
the next.
Dictum meum pactum, my word is my bond, developed as
the industry’s response to the mistrust that fnancial
shenanigans created. Te concept became an early unwritten
moral code of best practice refecting the standing of City-folk
as gentlemen. Individuals who breached their word rarely
faced criminal proceedings, but instead were ostracised from
the City’s social and professional life by their peers.
Nowadays, while we all accept that honouring one’s word is
an important part of our moral compass, best practice in fund
management means a lot more.
It took a few hundred years after the frst joint stock
companies for the fund management industry and more
defned best practice to really develop. Over that time, the
industry became more professional and a body of knowledge
evolved that helped defne the regulated world we know now.
It was not a breakdown in our moral fabric that moved us
to the regulated world. It was the dramatic increase in the size
Daniel Broby, FSIP, considers the origins
of best practice and looks at the ways in
which it is evolving today
BY: DanI el BroBY, FSI P
what is best practice
in fund management?
• Bestpracticehasevolvedovertimeandimpacts
• Thestartingpointofanybestpracticeisafrm’s
• Fundmanagersshouldkeepuptodatewith
feature: Best Practice
of assets under management that the industry came to be responsible
for. In this respect, it’s possible to estimate the industry’s assets under
management by calculating it as a function of the size of global assets,
a fgure of around $61.6 trillion. Regulation alone is not sufcient to
ensure good stewardship of such a large asset pool, best practice is
required. Indeed, because of this best practice is the foundation stone
upon which the fund management industry rests.
Despite the size of the industry and its long gestation, I would argue
that best practice is still evolving. It was not until the advent of
modern portfolio theory in the 1950s that the mathematical
relationship between risk and return led to a revolution in the way
the industry worked. Risk adjusted outperformance, optimal
portfolios and factor attribution became the norm after a decade of
academic advances that spilled over into the practical world. Capital
asset pricing models came to shape what was seen as the practical
side of both active and passive fund management. Tis changed
somewhat following the severe bear market at the turn of this
“Nowadays, while we all accept that honouring one’s word is an
important part of our moral compass, best practice in fund
management means a lot more”
18 a ut umn 2 0 1 0 www. c fa uk . o r g P r o f e s s i o na l i nv e s t o r 19
could be said to have been triggered by
– the hedge fund phenomena, a $1
trillion under management subset of the
fund management industry. Tis
relatively youthful development is
prompting much discussion about how
to apply best practice to the modus
operandi of hedge funds.
Regardless of the type of fund
manager, the starting point of any best
practice is a frm’s philosophy, followed
closely by its investment process. Other
elements are harder to defne; but
include key variables such as those
identifed in the classic management
book In Search of Excellence:
• structure;
• strategy;
• systems;
• style of management;
• skills;
• staf; and
• shared values.
What history shows us is that best practices that work for a
particular individual or company in a particular market may not be
best for everyone. Regulation, after all, is a jurisdictional overlay.
For example, following the credit crisis, a whole host of new
standards were proposed and adopted. Te resulting best practice
standards of the Hedge Funds Standards Board in the UK difered
from those of the Asset Managers’ Committee and the Investors’
Committee of Te President’s Working Group in the US.
Diferences in market practices between the two geographies led to
diferent conclusions on what the priorities were.
Regardless of jurisdiction, history has shown that there are
numerous conficts of interest that fnancial institutions face.
Disclosure is one best practice that can be used to address these
and determine whether the highest standards are being applied.
Information and data in fund management should be consistent,
accessible, and understandable.
Best practice extends to treating clients’ money in a fduciary
way. Te term fduciary covers entities that exercise any
discretionary authority or discretionary control respecting the
management and disposition of assets. It is one of the most
misunderstood terms in the industry. Te original term was
Dutch, and described a combination of management and
operating duties. Segregation of responsibilities, thorough written
policies and oversight are key elements of fduciary best practice.
Industry codes and standards defne fduciary best practice.
Webster’s New World Dictionary defnes a “standard” as “something
established for use as a rule or basis of comparison in measuring,
judging capacity, quantity, content, context, extent, value, quality,
etc.” Clearly, this is something that the fund management
industry should have if it is to really be client-focused.
Codes and standards are often associated with ethical
behaviour but, in practice, they are equally important to the
operational success of a fund manager. Te ISO 10962 standard,
for example, defnes the properties of a fnancial product. It can
be used to assist in unambiguous identifcation of a fnancial
instrument. Its adoption is as much best practice as keeping and
reconciling ledgers.
Clearly, any professional industry needs standards and in this
respect fund management is no diferent. Tat said, because of the
way the fund management industry evolved many of the codes
and standards on best practice are voluntary. Voluntary standards
are considered consensus standards since they are developed using
a process that allows participation by industry stakeholders. Tis
Operations T

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ent adm
A frm requires best practice in all these key variables in
order to succeed and thrive. Structure is important to ensure
the process is followed and the investments correctly booked
and settled. Strategies will always difer, but their formulation
and execution can follow tried and tested approaches. State of
the art systems are not always necessary, but robust and reliable
systems are. I admit that style of management cannot follow
best practice but management can adopt benchmarking. As to
skill and staf, best practice requires not only experience,
education and qualifcation but also lifetime learning.
I believe the key focus of all best practice should be the client.
In fact, fund management frms owe a duty of care towards
their clients. Even in the 17th century the goldsmith-bankers
had to be client focused. Te monarchs and merchants that
deposited gold with them did so based on reputation. It is not
surprising, therefore, that reputation persisted as the key plank
of best practice until the frst mutual funds were introduced in
the 1920s.
Te likes of Putnam, Pioneer and Vanguard all demanded a
more exacting standard than reputation alone. Tey required
the most efcient and efective way of delivering collective
investment portfolios, based on repeatable procedures and cost
efective solutions.
As these early funds found, best practices in a client-
focused organisation have to permeate every department, not
just portfolio management and the business facing units.
Operations, reporting, trading and account administration
are equally important to get right. A fund manager should,
for example, adopt a comprehensive framework to measure,
monitor, and manage risk. Te front ofce may be focused
on return but best practice would suggest that the middle
ofce should be focused on identifying risks to the portfolio
and the back ofce should have policies and procedures in
respect of counterparty credit risk and operational risk.
Incorporating best practice on a frm-wide basis requires a
comprehensive framework that includes a written code of
ethics, a written compliance manual, a process for handling
conficts of interest and a robust training program. Tat said,
does everyone get it? Jim Ware, CFA, the founder of Focus
Consulting Group believes “the answer is a resounding no!
Tere is a huge disconnect,” he was quoted as saying, “between
what investment professionals know is right – and makes good
sense – and what they actually do.”
is diferent from a code, as compliance
with a code is mandatory.
CFA Institute, with more than 90,000
voting members and 136 societies
worldwide, plays an important part in
helping document such standards and
defne best practice. Indeed, its own
Code of Ethics and Standards of
Professional Conduct stands out as a
moral compass. Te CFA Program,
likewise, is an important element of
industry best practice, based as it is on
its Candidate Body of Knowledge.
In pursuing its mission to lead the
investment profession globally by setting
the highest standards of ethics,
education, and professional excellence,
CFA Institute has also developed a
comprehensive set of standards, in
addition to the Global Investment
Performance Standards that are widely
known. Tese include the Asset Manager
Code of Professional Conduct, Research
Objectivity Standards and Trade
Management Guidelines.
Te CFA Institute Asset Manager
Code is a great starting place for best
practice and conduct. In efect, it
outlines the ethical and professional
responsibilities of fund management
frms. It is written in a style that can
apply, on a global basis, to frms that
manage client assets as separate accounts
or collective investment schemes. Te
code dictates that there are certain key
elements that all managers must follow,
namely to:
• act in a professional and ethical
manner at all times;
• act for the beneft of clients;
• act with independence and objectivity;
• act with skill, competence and
• communicate with clients in a timely
and accurate manner; and
• uphold the rules governing capital
Although many fund managers,
particularly those in well-regulated
jurisdictions, already have such a code in
place, it can be used to evaluate best
“What history shows us is that best practices that work for a
particular individual or company in a particular market may
not be best for everyone”
“History has shown that there
are numerous conficts of interest that
fnancial institutions face”
feature: Best Practice
20 a ut umn 2 0 1 0

Daniel Broby, fsiP
career highlights:
offcer at Silk Invest. Previously, he held a
books and articles, including the book
referenced in this article, A Guide to Fund
practice in respect of internal processes. In this way fund
managers can ensure all principle exposures are part of the
day-to-day modus operandi of the frm. Te premise behind
the code is that ethical leadership begins at the highest level of
an organisation. Getting the code endorsed is therefore a
process that should be adopted by the manager’s senior
management, board of directors and similar oversight bodies.
Such adoption sends a strong message regarding the
importance of best practice at the frm.
Baldwin Berges, director of business development at Silk
Invest, observes that “not only is compliance with the Asset
Manager Code the right moral thing to do, it also gives a clear
message to our clients that we walk the talk.”
Te CFA Institute Trade Management Guidelines were
written to provide guidance for the trading function, an area of
best practice that had been overlooked by all but the regulators.
Regulators focus on outcomes and disclosures, so the guidelines
were designed to formalise processes, disclosures and record
keeping. Te guidelines form a systematic, repeatable and
demonstrable approach to achieving the best execution
expected by the regulators. Te CFA Institute encourages frms
worldwide to adopt as many of the recommendations as are
appropriate to their particular circumstances.
Te Trade Management Guidelines recommend that frms
establish written policies and procedures that have the ultimate
goal of maximising the asset value of client portfolios through
best execution, taking into account each client’s investment
objectives and constraints. Te policies and procedures address
how employees can manage efectively the quality of trades.
Best practice has evolved over time and now impacts a large
number of areas, afecting such things as a frm’s reputation,
soundness, competitiveness, customer treatment, and
reporting. Unfortunately, it’s impossible to list all the
industry’s best practices in a short article. Indeed, it took me
over 300 pages in my recently published Guide to Fund
Management. Essentially, best practice covers techniques,
methods, processes, activities, and incentives that deliver
client-orientated optimal investment outcomes. It is
“In order to rise above the fnancial
shenanigans of the past, fund managers
have to keep up to date with successful
best practices and measure success
against their most respected competitor”
important to get all these right.
In order to rise above the fnancial
shenanigans of the past, fund managers
have to keep up to date with successful
best practices and measure success
against their most respected competitors.
Tat said, at the end of the day, best
practice should go beyond competitor
analysis and legal requirements. It needs
to encourage behaviour that is ethical
and client-focused.

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