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Prudent Investor Update, July 18, 2018

An investment mix to ‘eat well, sleep well’

How can you get a good night’s sleep when investing public funds?

For many municipal treasurers, the biggest fear is losing money. But the real stress ought to be making sure you are doing the best for taxpayers by maximizing every dollar you can earn.

It’s summed up in the investment industry by the adage “eat well, sleep well,” which means balancing the tradeoff between risk and return.

To do that, you need to get the right mix of investment asset classes to ride out the ups and downs of the market and still deliver strong returns.

You need an investment strategy that carefully matches your Asset Management Plan, says Kelly Rodgers, CFA, an investment consultant to ONE Investment. 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.

The Treasurer must have a thorough understanding of the Asset Plan so that investments are properly matched to the appropriate time horizon and needs.

Under the prudent investor standard, Rodgers notes, there will be a lot more options to get this mix right.

So what is the right portion of equities, bonds and cash?

Most municipal governments are investing to help pay for long-term projects. This gives them the benefit of a longer-term time horizon, which usually means you can take on a bit more risk and earn better returns by putting more in equities.

But the municipal environment can be highly focused on year-to-year changes. As a result, many municipalities avoid the level of equity investment that can make a meaningful difference to the bottom line.

There isn’t any one rule of thumb on how much municipalities should allocate to equity investments. For example, Rodgers says that investing more than 60% to 70% in equities for a reserve fund that isn’t due for 20 years or for an endowment fund that will go on into perpetuity, can make perfect sense. She notes that since 1956, through all the market ups and downs, there has never been a seven-year period in which the broad equity markets have delivered negative returns. On the other hand, if you need the funds in two to three years, a heavy weighting on equities is not appropriate.

Experienced investors who have lived through several bear-bull market cycles are confident in riding out market volatility. Municipal Councils? Not so much. Focused on the politics of a four-year election cycle, Councils must be educated on the long-term benefits of a more productive investment strategy.

Moving to a larger proportion of equities can be done slowly and methodically. Other investment classes, like bonds, cash, etc. must also be appropriate to meet shorter and longer term municipal needs.

Professional investment counsel can be very helpful in the planning process. 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.