Successful investment management relationships take time and effort. They are built over the course of many conversations between you and your portfolio manager, and like any healthy relationship, they deepen and evolve with the passage of time. At U.S. Trust, we believe that the process should begin with the development of a thorough understanding of your financial situation, your income requirements, risk tolerance, long-term return objectives, and also your aspirations for your wealth — maybe you’re starting a new business or perhaps focusing on philanthropy. We also want to understand your legacy and wealth transfer objectives, and even how you would like the members of your family to be engaged in the process. In short, when an investment relationship is really working as it should be, when we understand you and what you care about, we can begin to craft an investment plan that reflects your true underlying values and embodies the broad spectrum of your needs and goals. And once that initial plan is established, regular communication helps ensure that it remains relevant and up to date.
One of the important ways we support the development of an effective investment management relationship with our clients is through a formal Investment Policy Statement, or IPS. This highly customized document — which you and your portfolio manager create and sign off on together — defines your investment approach in detail. It serves as the touchstone for each client relationship. We are guided by it, and we hold ourselves accountable to it. The IPS is, quite simply, a critical roadmap that ensures that we start — and stay — on track toward meeting your specific needs and objectives.
CREATING YOUR IPS
A thorough Investment Policy Statement should address the following:
Your background. An important first step is the documentation of your unique profile — your living situation, your plans (for example, do you hope to retire? When?) and potential life-changing events (for example, the birth of a child or grandchild, or children entering or leaving college).
Your risk profile and return objectives. The IPS details the kinds and levels of risk that you’re prepared to assume, as well as your return objectives.
THE INVESTMENT POLICY STATEMENT IS A CRITICAL ROADMAP THAT ENSURES THAT WE STAY ON TRACK TOWARD MEETING YOUR SPECIFIC NEEDS.
Your time horizon. You and your portfolio manager need to agree on the length of time you have to help meet both near-term and longer-term obligations and objectives, such as significant disbursements or retirement.
Your liquidity/income requirements. Your plan should include your ongoing income requirements, as well as provision for (inevitable) unexpected cash outflows.
Your distribution needs. While this applies to your investment plan as well, it’s particularly relevant for trusts.
Legal issues. You should probably review any pending legal matters; reach a mutual agreement on your portfolio manager’s decision-making authority regarding such things as irrevocable trusts, revocable trusts and discretionary investment management accounts. In the case of a trust, you should also establish trustees, and also the type of trusts if necessary. Restrictions regarding the management of your portfolio need to be spelled out as clearly as possible.
Tax considerations. These would include your state of residence, marginal federal and state income tax rates and local tax issues (if applicable); significant gains and losses outside the portfolio; the applicability of the AMT (Alternative Minimum Tax); the existence of identical securities with an outside manager whose sale or purchase may trigger a wash sale; and other issues.
Restrictions. You and your portfolio manager should delineate any restrictions to investing — security buy/sell restrictions (including a restriction against selling a concentrated holding), asset class restrictions, credit quality, directed hold or duration restrictions.
Special instructions. Any details that will alter the normal or recommended portfolio construction guidelines (say, for instance, you specify a preference for investing in the stocks of socially responsible companies) should be spelled out in writing.
Communication schedule. You should determine how frequently you’ll meet with your portfolio manager (quarterly, annually or at your request) and your preferences regarding regular updates (monthly calls, email updates or other routine communications).
IT’S IMPORTANT TO AGREE UPON RELEVANT BENCHMARKS FOR MEASURING PERFORMANCE OF THE OVERALL PORTFOLIO AND FOR EACH ASSET CLASS AND MANAGER.
A customized asset allocation. Armed with a comprehensive, detailed understanding of your current and likely future financial situation and goals, and the firm’s collective expertise, your portfolio manager can design a strategic asset allocation that seeks to maximize risk-adjusted returns and the probability of funding both your lifetime and legacy goals. The process combines various optimization and portfolio modeling techniques and simulations — What would happen to your portfolio if we had another 2008 financial crisis? Would you be able to meet your income requirements? Your return goals? — as well as careful consideration of ownership structures, taxes, regulations and client preferences.
Implementation. Once an asset allocation is established, we create a detailed implementation timeline of a new portfolio for each asset class. This is especially important when portfolios come to us from other organizations; it can take time to rebalance them thoughtfully into new asset allocations and strategies. We outline a plan for such rebalancing in the IPS.
WHAT HAPPENS WHEN THINGS (INEVITABLY) CHANGE?
Once portfolios have been implemented, our portfolio managers use the IPS as a constant guide. In fact, unlike many of our peers, we reconcile portfolios to the IPS on a daily basis and provide portfolio managers with alerts when the growth or decline of an asset deviates significantly (by more than 15%). Portfolio managers can immediately plan for any potential changes that may be required to bring the asset allocation back in line with the IPS.
But the IPS and its inputs are not fixed. When the macro environment changes in a significant way, or when your situation or goals change (and they will), the IPS needs to change accordingly. This is why our portfolio managers and clients make sure to examine and reaffirm — or change — their policy statements on an annual basis. Open and ongoing communication between you and your portfolio manager helps ensure that your IPS is a living document that remains relevant and on track toward meeting your objectives today and for the long term.
Investing involves risk. There is always the potential of losing money when you invest in securities.
Asset allocation, diversification and rebalancing do not assure a profit or protect against loss in declining markets.
Any information presented about tax considerations affecting client financial transactions or arrangements is not intended as tax advice and should not be relied upon for the purpose of avoiding any tax penalties. Neither U.S. Trust and its representatives nor its advisors provide tax, accounting or legal advice. Clients should review any planned financial transactions or arrangements that may have tax, accounting or legal implications with their personal professional advisors.
Always consult with your independent attorney, tax advisor, investment manager, and insurance agent for final recommendations and before changing or implementing any financial, tax or estate planning strategy.