Creating your Investment Policy Statement

Building wealth is a long term process and the best way to succeed is to establish and follow a disciplined investment plan.  Writing out your investment policy is a way to clearly state what you want, how you will make it happen and how you plan to measure success.

What is it?

An investment policy statement (IPS) is a document that defines your investment goals and risk tolerance based on your situation. A good IPS will vary depending on the needs of the investor, but it should do the following:

  • Lay out the overall objective of the portfolio as well as the investor’s risk tolerance and any other relevant considerations, including ethical investment constraints.
  • Indicate how risk will be measured, what the portfolio benchmarks will be, and how often the portfolio will be rebalanced.
  • Set out who is responsible for investment policy, particularly as applies to the allocation of assets and ongoing portfolio management.

What does it do?

An IPS should specify your overall portfolio performance objective. Your investment goal, asset allocation, and risk tolerance are important influences on your portfolio’s overall expected return because each asset class has a different level of risk and return and will behave differently over time.  You overall investment goal may be 8% per year.  However, you will have to determine if you are prepared to weather the risk given your goal.  If you have a very low risk tolerance you are likely going to invest in low risk bonds that pay interest.  With current low interest rates, this kind of investment may only yield 2-3%.  A higher risk tolerance and long time horizon may allow you to invest more in stocks which, over the long term, have returned 7-8% on average.

How do I do it?

First, build your financial fact sheet.  Begin by taking a personal financial inventory to determine how your money is currently invested and how much free capital you have to invest.  If you have investments in several locations, this is a good time to look at the big picture and think about some “clean up” or account consolidation.

Your list of assets and liabilities allows you to create a personal balance sheet to determine your net worth and review how your capital is currently invested. This would include all of your assets such as your home, investment accounts, kids college savings account and any outstanding debts you have.

Finally, create an income statement to help you and your advisor calculate the amount of capital you have available for investments, or what amount you need to draw from investments and when.

The IPS Is A Tool

Use an IPS as a tool to memorialize the responsibilities assigned to everyone involved in the investment process. Doing so will ensure that everyone is on the same page regarding investment style, account turnover, reporting requirements, and communication channels. Defining roles with an adviser at the beginning of the process may also help you clarify your goals and avoid conflict in the future.

Need an Investment Policy Statement? Contact us for a free evaluation.