The Case for Investment Policy Statements
“By failing to prepare, you are preparing to fail.” ― Benjamin Franklin
Investing is one of the core objectives of any family office, and ensuring investment outcomes that are as stable and predictable as possible should be the top priority when establishing one. Yet, according to studies, only 65% of family offices have a formal Investment Policy Statement (IPS). This statement is a critical part of wealth governance that offers guidance, risk management, and benchmarks for your investments. The fact that 35% of family offices do NOT have this basic governance tool in place is quite shocking.
What is an Investment Policy Statement?
An investment policy statement is a document that specifies ways of defining what matters to you and your family when it comes to your investments and ensuring your wishes are followed by the investment manager, whether that is an external wealth manager or the Chief Investment Officer of a single or multi-family office. Having an IPS offers structure and stability when it comes to guiding your money. An IPS is unique and will differ from investor to investor, but there are key qualities that should be included in any IPS.
Writing an IPS
The first step in creating an IPS should always be to identify the statement’s purpose and goals. This part might include an outline of who the investor is, the source of wealth, the type of assets managed by the IPS, risk tolerance, and any other relevant information needed. The goals part of this section needs to detail what the investor hopes to achieve from their investments, both in the short and long term.
The second step is to establish the investment philosophy and strategy of the investor. Questions to consider are:
- Do you have any income requirements?
- What is your investment timeline or time horizon?
- What is your risk tolerance?
- What are your return expectations?
After discussing the philosophy and strategy, create a more formal statement that defines asset allocation, risk tolerance, investment restrictions, and investment guidelines. This section should also include the main managers of the investments and those who have fiduciary responsibilities and oversight.
Once these are defined, establish performance benchmarks and monitoring procedures for the investments. While there can be one overarching benchmark, it should also be narrowed into more specific benchmarks for any eligible asset class or allocation. Assigning the roles and responsibilities of the team is also important. Who will be responsible for the monitoring procedures? The risk policy? What about asset allocation and management? This section can, and should, define the investor’s process for engaging with (or firing) external money managers, financial advisors, or other consultants.
Monitor, Revisit and Revise
The final step is to revisit and revise. An IPS is a living document and needs to be reviewed and updated accordingly. Markets fluctuate, investment landscapes evolve, and personal circumstances may change, necessitating adjustments to the IPS to align with current realities.
Cautionary Tale
Wingspan has come across several families who have sustained significant losses due to their failure to implement an IPS and other wealth governance policies. Wingspan was in discussions with one family for a potential engagement to structure their family office, when we identified a serious lack of risk controls in their wealth management. The patriarch (previously a successful business operator who had experienced a liquidity event) had been day trading on a massive scale without any oversight, no formalized portfolio parameters or investment decision making processes, and a majority of the portfolio concentrated in highly levered equity positions. While he was negotiating the terms of an engagement with us, the market moved and the family office lost half its value in a few weeks, having their assets frozen due to missed margin calls. While this is an extreme example of what can go wrong without wealth governance like an IPS, it is meant to serve as wake-up call for those who minimize the importance of such policies.
Conclusion
The significance of an IPS cannot be overstated. It is not merely a document but a reflection of the investor’s values, goals, and risk tolerance. Through careful consideration of investment philosophy, strategy, asset allocation, and performance benchmarks, an IPS lays the groundwork for sound financial stewardship. It empowers families and individuals to make informed decisions, navigate uncertainties, and strive for financial success while honoring their values and aspirations. As families embark on their wealth journey, let the IPS be the beacon of foresight and resilience, guiding them towards a prosperous and secure future.
Madeline Tolsdorf collaborated in the writing of this article.
Want more content? Check out Wingspan Insights.
