When Market Noise Gets Loud, Trust An IPS
The stock market often acts like a roller coaster with highs and lows during the year. When things are looking up, making money looks easy, worries about risk seem remote, and having a written investment policy statement (IPS) may feel like a waste of time and paper. When the market is in the dumps, the natural reaction is to sell, even though we all know the importance of “buying low.” In both instances, an IPS will be your ally.
An investment policy statement commits to writing the details of your financial situation—what you want to accomplish, a plan for achieving it, and how much risk you’re willing to take to get there. It can save you from your own worst instincts, helping you resist the temptation to reach too far when times are good or panic when the market plunges.
Suppose, hypothetically, that the Nasdaq Composite just had a great run, skyrocketing 15% in the most recent quarter. With your portfolio ahead just 5% during the period, you might feel frustrated, and tempted to grab some of Nasdaq’s big gainers to try to catch up. A glance at your IPS, however, would remind you why that’s a bad idea. The diversification strategy you’ve committed to is designed to keep your portfolio on a relatively even keel, with judicious allocations to bonds and dividend-paying blue chip stocks. It has the potential to produce steady gains over the long haul to fund your financial goals. And though it may not take off during a market surge, it’s also less likely to go into free fall when the investment climate gets stormy.
While there’s no hard-and-fast format for an investment policy statement, most combine the same basic components. First, there’s usually an executive summary that lays out where you are now in your investing life. It describes your current portfolio and may include your target asset allocation, how much new money you’ll invest each month or year, and what index benchmarks are used to gauge your progress. The executive summary also considers risk, often in terms of how much of a loss you could tolerate during specified time periods.
Next, your IPS may detail your investment objectives—for example, that you and your spouse plan to retire in 15 years, and you’ll need income of $200,000 a year, inflation adjusted, for three decades. Your investment philosophy sets out your investing rules to live by. How do you feel about risk, diversification, frequency of trading, investment costs, and taxes? Answering these questions in a formal IPS provides a philosophical underpinning for specific investment selection criteria that translate your beliefs into action. Finally, the IPS may outline monitoring procedures for gauging your progress.
If you don’t already have an investment policy statement, please let us help you create one. Simply going through the process can be invaluable; answering our questions about your goals and risk tolerance may focus your thinking in a new, beneficial way. And with your IPS in hand, we’ll know how to serve your needs whatever the market climate.
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