Guardrails for your portfolio’s ride

When is the last time you revisited your IPS? No, not IBS, although a poor (or no) IPS can cause IBS.  An IPS is an Investment Policy Statement which is the document that you use to help you remove the emotion from your portfolio. At its core, your Investment Policy Statement is going to outline what types of investments you’ll hold (and what you won’t hold) as well as how much you might hold in any one category (usually shown as a percentage or a range of percentages). These Statements can be great tools to help keep us on track when bright shiny objects threaten to distract us or when we can’t quite let something go because our emotions are overriding our investment sense.

An IPS can be a full-blown oversized document listing all sorts of investment categories, risks, investment styles etc… (often favored by firms in a scramble to justify their high costs) or it could be a simple chart or one page write-up that puts some of your thoughts and preferences in writing. In both cases, an Investment Policy Statement is most helpful when we are considering portfolio changes.  I consult with a not-for profit and, occasionally one of the board members wants to invest the dollars in a certain way. Our first order of business is to review the organization’s IPS and see how that idea fits into the agreed upon investment strategy. If it fits, we then go on to consider the logistics of the proposed investment and how it might fit with the existing holdings.  If it doesn’t fit, we have our IPS to remind us how the portfolio should be invested and why.

Whether you know it or not, if we’ve looked at your portfolio, you probably already have the beginnings of an IPS in the form of the handout we review during our meetings. It might show what you hold as a percentage at the bottom and side, it might highlight the ESG / Socially Responsible positions you have, or it might illustrate how much you hold in international positions.  Consider the “Target Allocation” line as your Guardrails. When your portfolio strays too far above or below those target numbers, that’s a sign that you should consider whether or not to make some changes. How do we arrive at those Guardrails? It could be that we use some commonly held investment rules of thumb (the 60 / 40 rule, or the “no one stock greater than 5%” rule, or the 20 / 2 rule, or… or… or…). It could also be something you feel strongly about (increased international exposure, ultra conservative, no “whatever”, etc…).

How might you use this Investment Policy Statement? Let’s use my favorite pin cushion as an example – The Bezos Basilisk. If we are using the 5% individual stock rule, you might look at your portfolio and say “I’m OK, my shares only equal 4% of my portfolio.”  What you aren’t taking into account is how many of your other mutual funds and/or ETFs include that particular holding.  If you are invested in nearly any of the large cap index funds, a good 3 – 4% of each of those funds is going to be in this particular stock so multiply that by as many index funds as you hold.  We can easily close in on, or sail right past, that 5% without even knowing it.  When that stock tanks 12% in a day like it did today, guess what else is going to have a bad day…..  An IPS can help us keep our holdings in check to protect ourselves from wanting to ride the ride long after we should have gotten off and grabbed some cotton candy for the trip home.

On the flip side, an Investment Policy Statement can be invaluable for climbing back into the markets after a market correction. In the months after the market bottomed out in March 2009, we were using those same handouts to help clients shake off their recession concussion and put their dollars back to work. There’s an old say that goes “Harry Potter and Warren Buffet combined can’t tell you when to get in, or out, of the markets.” Ok, it’s not really THAT old since it references Harry Potter but Warren’s pushing the boundaries. Nothing’s worse for a portfolio than hanging out too long in cash out of fear and an IPS can be just the nudge people need to help themselves.

So, as we continue to experience some volatility, think about your Investment Policy Statement. Does it say what you want? How does your portfolio compare with some commonly held guardrails? Are you OK with those differences? Can you afford to ride the ride or are you closing in on a goal that might make that problematic?

With those thoughts to ponder, have a great Fourth of July and stay cool!