The Investment Policy Statement

The form of an investment policy statement (IPS) is to some extent a matter of individual preference. Some families prefer extensive, highly detailed policy statements covering every possible contingency, whereas others prefers brief, one- or two-page documents touching on only the most important points.

My personal feeling is that for a family, more is better, especially when the “more” focuses on the family itself: its antecedents, its culture, its hopes, its worries. A family IPS should be written with the thought that it will be read by a family member a generation or two down the road. It should therefore be interesting, easy to understand, nontechnical in its language, and should make the reader proud to be a member of a family that was concerned enough about the future to pen such a document.

Once a family has gone to all the trouble to design a sound investment portfolio and to think through how that portfolio will be managed and governed, the next important step is to write it all down. An investment policy statement is the written record of the work you have done, and it will serve as a guide to the management of the family's capital over the years. Though such policies can always be revisited and modified in light of experience, the development of and adherence to written policies will have several powerfully positive affects.

First, for fiduciary portfolios in the legal sense, in the rare but certain event of extremely adverse investment results, the existence of written policies will demonstrate the thoughtfulness and prudence with which you have approached the challenge of managing the capital. Modern concepts of prudence, as articulated, for example, in the Prudent Investor Rule, the Uniform Management of Institutional Funds Act, and similar laws, are not outcome oriented but process oriented. Virtually any security and any investment strategy can be prudent if it is adopted thoughtfully and with reference to the actual needs and objectives of the family, and with reference to the overall risk level of the portfolio. The fact that the security became worthless or the strategy failed is largely irrelevant, as many good ideas fail. On the other hand, even relatively uncontroversial investment strategies can be problematic if they were adopted with little thought, if they were inappropriate to the needs of the family, or if the trustees provided little ongoing oversight of their results.

Second, and more important, the existence of and adherence to thoughtfully developed investment policies and strategies that are appropriate to the needs and objectives of a particular family will go a long way toward preventing major investment disasters in the first place and ensuring that the long-term performance of the portfolio will be satisfactory.

Over time, the reasons behind even the best-designed portfolio can be forgotten or become confused. This is especially likely to be the case during periods of market turmoil, when the temptation to depart from long-term strategies can seem overwhelming. A specific memorialization of the reasons why long-term strategies were adopted can temper the desire to make ill-considered, short-term changes in the portfolio and can offer a measure of comfort during times of stress.

Moreover, many family portfolios are managed by individuals whose identities change periodically—family members and investment committee members, for example. In such cases disagreements can easily arise regarding the proper course to be taken, the role played by individual investments, or the reasons certain policies and strategies were adopted. The existence of a written investment policy statement serves as an objective method of resolving such disagreements, and, indeed, as a way of reducing the likelihood that such disagreements will arise.

Most financial advisors have forms of investment policy statements, but serious family investors will use those forms only as a general guide. If you simply adopt your advisor's form, it is unlikely that you will actually have thought seriously about the issues addressed in the statement. Instead, families should draft their own statements, putting the language in their own words. The important point is not the form or length of the statement, but that you prepared it yourself to meet your own needs, and that it remains a real, living document. I have placed a sample IPS for a family on the Web at www.wiley.com/go/stewardshipofwealth, password: curtis2012.