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Prudent Investor Update, August 1, 2018

How often should you review your investment mix?

Everyone knows you can’t put all your eggs in one basket. Having a diversified portfolio is the foundation of any investment strategy. But once you’ve settled on just how many eggs are in each basket, how do you know when to move things around or even change the baskets?

An investment portfolio should be designed to match with a municipality’s time horizons, objectives for return on investment, need for liquidity and risk tolerance. Investor needs and asset mix are like two sides of an equation, says James Clark, a member of the ONE Investment Advisory Committee and experienced investment consultant.

Whether a municipality invests using the prescribed list, or opts for the prudent investor standard, asset mix will need to be reviewed at appropriate times.

The municipality must have the right amount of money at the right time, for things like capital projects, infrastructure maintenance and debt repayment. Based on these needs, funds would be allocated to different investment categories.

Once established, when should the asset mix decision be reviewed?  Clark suggests that there are three reasons to review the asset mix decision:
  • When the municipality’s needs change: If the municipality’s circumstances have changed, it may be time to re-evaluate the asset mix. If a municipality has set aside funds for a capital project in five years, but it now looks like the work will need to be done in just two years, then an asset mix change may be needed.
  • When there is a fundamental change in the investment options selected or available: In rare situations, the municipality may also need to review the asset mix if there is a fundamental change in the investment options available. For example, if a new type of investment is considered better than, or an enhancement to, the current asset mix, it should be reviewed.
  • As a general matter of good governance, an annual review is needed: it is generally considered best practice to review investment policies and plans at least once each year to ensure that nothing is overlooked. In fact, the legislation mandates such annual reviews.

Clark also emphasizes that it is most important not to tinker with asset mix in response to short-term market dynamics. Market ups and downs can be tough to weather. But with a well-diversified portfolio, it is much better to stay the course than react to short term volatility. As well, a municipality shouldn’t make changes based on the latest investment tips and news headlines. If the portfolio mix shifts significantly, rebalancing rules should be followed, rather than adjusting the fundamental asset mix decision.

The great benefit of the prudent investor standard is that it will vastly broaden the options for municipalities to build more diverse and better-suited portfolios, with the involvement and assistance of an expert Investment Board.

ONE Investment plans to create a customer service team to work with municipalities to provide advice on portfolio structure and investment policies. Comprised of retired municipal treasurers and a CFA charterholder, the team would marry expertise in municipal finance with investment experience. It is all part of a strategy to build on ONE’s track record of providing turnkey investment solutions for the municipal and broad public sector. There’s more information on how this team will support municipal governments in our last newsletter.