Crafting a Strategic Investment Policy Statement (IPS) for Success
An investment policy statement (IPS) is a customized document created collaboratively by a portfolio manager or financial advisor and a client. This vital document outlines the essential rules, investment goals, and objectives to ensure investment decisions are well-aligned with the client’s financial aspirations. Core elements like asset allocation, risk tolerance, and liquidity needs are meticulously detailed in the IPS. Both institutional and individual clients benefit from a well-constructed IPS, facilitating consistent and focused investment strategies.
Key Highlights
- An IPS formalizes goals and strategies between a portfolio manager or financial advisor and the client.
- The document clarifies client investment goals, desired outcomes, and the strategic approach to achieve them.
- Integral components such as asset allocation, risk tolerance, and liquidity needs are covered in detail.
- A robust IPS supports both managers and investors in maintaining a long-term perspective.
Understanding the Investment Policy Statement (IPS)
Investment policy statements often serve as a critical tool for investment and financial advisors. It acts both as a roadmap for effective investing and a safeguard against potential errors or misconduct. Capturing an investor’s objectives and time horizon is essential; for example, a client might aim to retire by age 60 with an annual portfolio return of $65,000 (adjusted for inflation).
An adept IPS will establish clear asset allocation targets, such as the allocation between stocks and bonds, and specifying sub-asset classes. It sets boundaries for target deviations activating rebalancing measures. Also important is detailing the investor’s risk/return profile, including preferred and avoidable asset classes.
Special Considerations
An effective IPS outlines not only the client’s goals and preferences but also a systematic review process crucial for adhering to long-term objectives. It should include detailed current account information, allocation levels, accumulated funds, and ongoing investments. Routine monitoring and control procedures—such as return benchmarks and guidelines for future amendments to the IPS—are fundamental.
An actionable IPS helps advisers guide clients who may otherwise make impulsive, potentially detrimental decisions during market turbulence.
Enhanced Example of an Investment Policy Statement
A thorough IPS might include a summary like this:
| Statement of Financial Objectives | ||
|---|---|---|
| PORTFOLIO DESCRIPTION | You’ve selected a Balanced Income Portfolio as an optimal choice. | Page 6 |
| PORTFOLIO RATE OF RETURN | Aim to generate a 2.5-3.5% return above inflation, equating to 5.5-6.5%. | Page 6 |
| CASH REQUIREMENTS | Currently, no monthly distributions are needed. | Page 2 |
| INVESTMENT PERIOD | The investment period spans over 10+ years. | Page 2 |
| RISK TOLERANCE | Tolerate a maximum aggregate loss of 5% within a year. | Page 3 |
| PORTFOLIO TAX STRATEGIES | Manage the portfolio as taxable, considering the 32% marginal tax bracket. | Page 3 |
Conclusion
An investment policy statement acts as your portfolio’s business plan. Developing a comprehensive IPS demands thoughtful consideration, a sound knowledge of markets, and familiarity with investment principles. Employing a principled approach and maintaining discipline via an IPS can significantly enhance long-term investing success.
Related Terms: portfolio manager, asset allocation, liquidity, plan sponsor, investment advisor, financial advisor, inflation.
References
- Napa Valley Wealth Management. “Investment Policy Statement Sample”, Page 2.
