Morgan Stanley
  • Wealth Management
  • Feb 17, 2023

The Importance of an Investment Policy Statement

For institutions, high-net-worth individuals and family offices, developing an investment policy statement that reflects their goals and objectives is increasingly important for long-term investing success.

Suzanne Lindquist Head of Endowments and Foundations for OCIO

The past two decades have included three recessions and major market downturns, out of which arose a more complex institutional investment and regulatory landscape. Amid this increasingly challenging market environment, institutional and high net worth clients—including foundations, endowments, pensions and family offices—continue to demand higher standards from their advisors. A comprehensive and coherent investment policy statement can be key to meeting those demands and establishing productive working relationships.

A well-crafted investment policy statement may prove even more essential today than in previous environments, given recent periods of remarkable market volatility and anticipated lower investment returns over the market cycle. Stocks, as measured by the S&P 500 Index, compounded annually at 14.7% between March 2009 and July 2022. But over the next 20 years, U.S. equities are anticipated to return an average of 8.4% a year, according to Morgan Stanley Wealth Management’s forecasts.1

What Is an Investment Policy Statement?

An investment policy statement describes a client’s financial goals and investment objectives, while documenting the roles and responsibilities of all parties involved in managing portfolios, including the client’s outsourced chief investment office (OCIO), board members, investment committee, investment managers and custodian.

Written by the OCIO with their client, the statement should provide a framework for the management of client assets, putting rails in place that enhance a client’s ability to achieve its financial targets. It includes specific objectives, benchmarks, asset allocation guidelines and any security or sector-related restrictions or requirements. Plus, it should describe more fundamental intentions that align with the mission of the client. The process of developing an IPS also serves as an opportunity for the OCIO to set and manage expectations around market outlook and the impact of that outlook on the client’s short-term and long-term investment goals.

Once created, an investment policy statement can help contextualize the client’s spending outlook. Ultimately, the document enables OCIOs to provide a full suite of investment management, fiduciary oversight and operations/ administrative services, allowing clients to focus on bigger-picture items.

Creating a Living Document

The investment policy statement acts as the central point of reference between the client and the OCIO through each stage of the ongoing investment lifecycle. While certain portions like the setup and structure are static and evergreen, the primary components of the IPS—sections on client discovery, asset allocation, portfolio construction, and governance—should be dynamic.

This means that both the client and the OCIO should have an understanding that certain aspects of the statement will evolve over time, given changing market environments and expectations as well as shifting client needs and constraints. These shifts may include changes in the client’s cash flows and spending policies.

For example, a client may come to the OCIO with what it thinks are achievable goals. But the OCIO may find, and help the client realize, that to attain those goals, certain criteria—such as investment objectives, asset allocation guidelines, benchmarking and manager selection guidelines—may require adjustments.

While the investment policy statement is a living document, investment policies and guidelines should not change frequently. For example, short-term changes in the markets should not require an adjustment to the document.

Creating a Solid Foundation

One important benefit of a well-crafted investment policy statement is that it can help preserve the relationship between institutions when there is turnover among the individuals involved. Consider a client’s board of directors, whose membership changes every few years. The document can act as a guide, helping new individuals quickly get up to speed on investment policies.

By laying out the various responsibilities of each entity with fiduciary responsibilities, the investment policy statement establishes clear guidelines for a client’s risk-taking comfort zone and ensures that objectives are realistic. As the foundation for the relationship between a client and its OCIO and other fiduciaries, an investment policy statement is increasingly critical for ongoing peace of mind for clients in an environment of heightened market complexity.

This article is based on the special report, “The Importance of an Investment Policy Statement: Putting Practice to Paper,” by Suzanne Lindquist and Kyle J. O’Keefe. For a copy of the report or more information about Morgan Stanley Wealth Management’s dedicated OCIO service, please contact your Morgan Stanley Financial Advisor.

Footnotes:

1 Source notes:  March 31, 2022 Capital Markets Assumptions

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