Investment Policy Statement (IPS): Meaning, Benefits & Components 

Investing money isn’t about simply choosing the best stocks or mutual funds, but also having a definite plan that you can rely on no matter what happens in the market. That’s where an investment policy statement, or IPS, becomes important. It is a written agreement between you and your portfolio manager that outlines your financial goals, the level of risk you’re comfortable with, and the strategy to help you achieve them. 

Let us understand what exactly an IPS is, what it includes, the benefits it brings, and why it’s smart to have one in place.

What is an Investment Policy Statement? 

IPS is a document which is signed between you and your financial advisor or portfolio manager. This document provides a general outline of how to manage your finances. Usually, the IPS describes your overall investment objectives and long-term goals. Also, this statement specifies the strategies that the portfolio manager will implement to achieve the desired results. 

The investment policy statement contains your data, including the portfolio’s asset allocation, liquidity requirements, and risk profile. Therefore, you must provide information related to what you are looking for and the level of risk you are willing to take. Thus, this helps the portfolio manager to make decisions which will, in turn, benefit you in the long-term financial investment.

Benefits of an Investment Policy Statement

An IPS provides multiple advantages for both investors and portfolio managers:

• It clearly lays out your financial goals, time horizon, and investment strategy, helping avoid hasty decisions. 
• It keeps you grounded during market volatility and discourages impulsive buying or selling. 
• It ensures that both you and your advisor are on the same page, minimising misunderstandings. 
• It provides a benchmark to measure the success of your portfolio and makes it easier to adjust your strategy if required.
• It defines your risk tolerance and constraints, preventing investments that don’t align with your comfort level.

Features of the Investment Policy Statement

The following are the key features of the investment policy statement.

1. Investment Goal

Under this, you need to outline the purpose of your investment. What financial goals do you wish to achieve? You must also specify the time horizon for your investment and the returns you expect in relation to your goals. 

2. Return and Risk

This data includes your risk tolerance level. It specifies how you feel about trading and its costs. This is an integral part of the investment policy statement. It provides a guide to the portfolio manager when choosing particular asset classes to invest in. Also, the return and risk go hand-in-hand while making investment decisions. 

3. Asset Selection

Here, you list the kinds of assets you’d like to invest in, such as stocks, bonds, real estate, commodities, mutual funds, or ETFs.

4. Asset Allocation

This defines how the portfolio is divided among various asset classes. A well-diversified allocation reduces risk by balancing gains and losses across investments.

5. Review

You don’t need to check your investment portfolio every single day. However, you should regularly check the performance of the portfolio, either monthly, quarterly, semi-annually, or even annually. This helps you to rebalance the portfolio when needed. 

Components of the Investment Policy Statement

The following are the components of the investment policy statement: 

Scope and Purpose of IPS

• Identifying the investor
• Setting the roles and responsibilities of the portfolio manager 
• Identifying the risk management process
• Creating and identifying the investor’s source of wealth
• Finally, allotting the responsibility for portfolio monitoring and reporting

Governance

• Specifying the responsibilities in determining, executing and monitoring the implementation of the financial plan
• Describing the process related to reviewing and updating the investment policy
• Describing the authority for changing the external money managers, consultants, or other vendors associated with the policy
• Giving the responsibility for determining the tactical asset allocation of the portfolio, including the inputs used and the criteria for the development of input assumptions
• Giving the responsibility for risk management, monitoring and reporting

Investment, Return, and Risk Objectives

• Describing the overall investment objective of the investor 
• Stating the assumptions regarding risk and returns and spending distribution of investor
• Defining the investor’s risk tolerance level
• Mentioning related constraints like liquidity requirements, tax considerations, restrictions on specific investments or any other legal constraints
• Mentioning any other constraints or providing information relevant to the investment strategy

Risk Management 

• Establishing performance measurement metrics and reporting the same
• Indicating the metrics used to measure and evaluate the risk
• Describing the process for portfolio rebalancing, along with targeting asset allocations.

Conclusion

If you want to stay on course to meet your long-term financial goals, it’s essential to prepare an investment policy statement. This helps in maintaining the portfolio in line with the investment objectives within a specific time horizon. With continuous monitoring, it also helps to rebalance the portfolio based on market conditions. 

The portfolio manager/financial advisor can be a registered investment advisor (RIA), a financial planner, or an investment manager. They need to plan your assets with care, skill, prudence and diligence. Thus, IPS provides a clear roadmap for guiding regular investment decisions as you move forward. 

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