Creating an Investment Policy Statement By Lewis J. Walker, CFP(R)

A pending retirement or other challenge creates potentially confusing budgetary and cash flow demands. In defining, “What do I (we) want my (our) money to do?,” an investment policy emerges.

An Investment Policy Statement (IPS) defines the philosophy that guides money management, including a risk/reward profile. It establishes guidelines and constraints to be followed by advisors, money managers, trustees, or holders of a Durable Power of Attorney (POA). Normally the IPS does not list specific securities, however, you may note restrictions or securities to be avoided if you have heavy concentrations in a given area or object to certain investments based on social or religious convictions.

Creation of the IPS follows a process. First, list all current investments. Specify who owns the asset (you, spouse, custodian for a minor, trust, jointly owned, tenants-in-common, business entity, etc.). Ownership information is important in devising income and estate tax planning strategies.

In estimating cash flow needs, evaluate uninsured health care and caregiving costs, special needs, and other considerations. Identify potential inflows and outflows from your portfolio, including Required Minimum Distributions (RMD) from retirement accounts (other than a Roth IRA) for those over age 70 ½, or for Inherited IRAs regardless of age. What will you withdraw monthly, quarterly, or yearly?

Longevity assumptions are identified in estimating how long the money should last. What is the portfolio expected to return each year over and above an assumed rate of inflation and estimated tax rate? Will dividends be withdrawn or reinvested?

How much of a loss can be tolerated over a quarter, year, five years? Will option writing (puts, calls, use of margin) be applied to generate income or hedge volatility?

What is your current asset allocation? What is the target allocation? What is the percentage mix of cash, fixed income (CDs, bonds), large capitalization (“cap”) stocks, mid-cap stocks, small-cap and/or micro-cap stocks, U.S. stocks, foreign stocks? Will alternative investments be included?

Liquidity is important when dealing with health care and special needs expenses, or other large demands, especially where there is a high degree of uncertainty. What is the ratio of liquid to non-liquid or semi-liquid investments?

What is the need for income, now or potentially in the future? Women facing widowhood often worry about loss of one Social Security check or a decrease in or total loss of pension, Veteran’s, or other income streams. Life insurance covering the first to die might alter assumptions.

Is the potential surviving spouse relatively healthy with a possible longer life span in an inflationary economy? How long is the money expected to last beyond your passing? What annualized net withdrawal rate is targeted? What benchmarks will be used to track performance?

Investment objectives are defined: income, growth, or a mixture of both? If a future goal is stated, how long will you be funding the goal, if at all? How much will be contributed each period?

If money will be withdrawn, what is the withdrawal strategy? Will a “bucket strategy” be employed? What governs withdrawals from particular “bucket of money”? Is there a tax strategy?

How will the portfolio be monitored and how often? How often will the portfolio be re-balanced? What benchmarks will be used to determine how individual components or the portfolio overall is doing? Are expected returns being met? Is volatility within accepted ranges?

You or the holder of your Power of Attorney (POA), or a trustee if assets are held in a Living Trust, should sign off on the IPS. The executed IPS should be retained should anyone (such as family members) question the policy being followed. It should be clear that the signatories to the IPS understand and agree to the policy. The IPS should be reviewed periodically relative to changes in your situation or an environmental change (change in the economic or investment climate, tax policy, etc.).

You would not begin a cross country drive without a road map or a reliable GPS. An Investment Policy Statement is a GPS for your money. You don’t want to end up in the wrong place or short of your destination!

Lewis Walker is President of Walker Capital Management, LLC. Securities and advisory services offered through The Strategic Financial Alliance, Inc. (SFA). Lewis Walker is a registered representative and investment adviser representative of SFA which is otherwise unaffiliated with Walker Capital Management, LLC. lewisw@theinvestmentcoach.com

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