By Steve Lowrie, Lowrie Financial
Special to the Financial Independence Hub
Today, we’ll cover a great way to stop doing nearly every other bad investment idea out there: STOP trying to invest without a plan. Typically, this plan should come in the form of a detailed Investment Policy Statement (IPS) – a written agreement that you and anyone else who is helping you manage your money signs off on initially, and whenever you make changes to it.
Why be so formal about it? As a financial advisor, I often field questions from family, friends or acquaintances, asking me what I think about some current hot investment tip. The specific “opportunity” changes each time, but the reason I’m being asked about it does not. It’s almost always after strong past performance has captured everyone’s attention. A recent example: I was golfing with a friend last Sunday who proceeded to tell me about the great recent returns from Apple and Google. “If I had only had the guts to buy Apple at $6,” he bemoaned, “I would be really rich now.”
I think he was hoping I could name the next big Apple for him so, this time, he could get in on the action. Instead, I concentrated on my golf game – and mulled over how some things never change and some lessons are rarely learned.
The importance of a formal Investment Policy Statement
Which brings me back to why that formal IPS is so important. Most investors don’t have one. Instead, they find themselves forever chasing somebody else’s agenda and/or everyone else’s hot tips. Besides the abundance of evidence that chasing past returns is not expected to yield satisfactory long-term results, the pursuit itself is often an exercise in stress and uncertainty. Chasing past performance (link to Chasing Market Returns – a dangerous pursuit) causes investors to veer off-course from what should be their true aim: achieving their own personal financial goals.
That’s where your personalized IPS comes into play. Properly crafted, it is your blueprint for spelling out your unique financial goals, the steps you intend to take to reach them, and the market risks that you acknowledge you may be facing along the way.
By spelling out these essential details, your IPS offers you and your adviser a shared reference point for every investment decision to be made at every turn: what and when to buy, sell, hold or redistribute – and perhaps most importantly, why. Your IPS is a constant reminder to help you stay on task, especially if you forget or begin to lose your way. Helping you maintain this level of discipline is among its most important roles, and is much preferred to trying to guess correctly at the next whims of an ever-volatile market.
When you can tweak your IPS
If your personal circumstances change, you also have a formal document you can update, to describe the new direction you wish to take. For example, suppose you receive a large financial inheritance or sell a business. These would probably be great times to shift some assets to safer holdings, with lower expected returns but improved capability to preserve what you’ve got.
Or suppose the market has been underperforming and you are falling short of your goals. You may decide to deliberately take on higher risks and expected returns moving forward to make up for this shortfall, or you might decide to keep the strategy the same and adjust your financial goals. Either way, your IPS helps you think through what the changes will mean to you and your family, and how you’ll go about implementing them.
The market will always be a risky place where even the best-laid plans may not play out as hoped for. But having a plan beats depending on random luck as your “strategy.” As Reformed Broker Josh Brown has astutely observed in one of his blog posts, “Whether or not we are successful in identifying the next ten-bagger stock should not determine whether or not we spend retirement driving a golf cart or pushing a shopping cart.”
If you’re investing without a plan, stop doing that. Create a solid, personalized IPS. Commit to sticking with it and maintaining its relevancy over time. That’s the best way I know to shoot for your financial hole in one.
Steve Lowrie holds the CFA designation and has over 20 years of experience dealing with individual investors. Before creating Lowrie Financial in 2009, he worked at various Bay Street brokerage firms both as an advisor and in management. “I help investors ignore the Wall and Bay Street hype and hysteria, and focus on what’s best for themselves.”