Report On A Investment Policy Statement

Published Date: 02 Nov 2017

INTRODUCTION

An investment policy is defined as that document written between a portfolio manager and a client which will clearly outline the basic rules for the manager.

This statement shall furnish the users with the general investment goals and objectives of a client and shall be used to describe the strategies that the manager is supposed to employ in order he is to meet these laid down objectives. All the particular information on subjects touching on areas such as asset allocation, tolerance of risk, and liquidity requirements would also be found expressed in an investment policy.

The policy in this case applies to certain assets of Anderson, who is 50 years old and currently earns $150,000. This amount is due to increase at the rate of 2 % above inflation.

Anderson’s employers cater for his and his family medical costs until he dies (his children being covered up to and until the age of21). He does not plan to provide medical costs for his children after they turn 21 years old.

His current Portfolio is valued at $1.5 million

SUMMARY

Anderson having being an earner of $150,000 per annum we have calculated his earnings based on the following headers:

Cash and Bills

Corporate and Government Bonds

Domestic Equities

Emerging Market Equities

Developed Market Equities

Real Estate Investment Policies

INVESTMENT OBJECTIVES

RETURNS REQUIRED BY THE INVESTOR

This is the minimum rate that a project must earn. It is the opportunity cost of capital. It’s the minimum rate of return that providers of funds expect to receive from their investment

The expectations of Anderson from the given earned revenues and use of it in the fostering of reproduction of more revenue. This shall be calculated based on his current assets and factoring in the 2% inflation rate in the market for and on his assets

RISK TOLERANCE OF THE INVESTOR.

This is the level of uncertainty that an investor can manage to sustain in regard to a negative change in the value of his or her portfolio in a given period.

The investor’s tolerance to risk will vary according to their age, income requirements and even financial goals, etc. Example a 68year old woman who’s has retired and her husband is deceased will generally have a lower tolerance to risk than a single sharp looking and young 28 year old working lady who generally has a longer time span to make up for any losses that she may have incurred in her portfolio.

This is used to refer to the amount to which Anderson can take up losses up to if some are to be incurred. It is a common practice in many investment policies to cater and provide for the unknown loss that may come up in the course of the financial year.

Having factored in the inflation in the market and any other unforeseen circumstances Andersons expected returns at year end should be as compiled in the assets allocation column.

CONSTRAINTS

Liquidity Requirements of the Investor

Liquidity may be defined as that degree in which an asset or security can be procured or disposed in the market without causing changes in the different prices of the assets.

Liquidity shall be comprised by a high level of activities of trade. Assets that can be quickly procured or disposed shall be referred to as liquid assets.

That ability to convert an asset to cash quickly is also referred to as liquidity.

It is relatively safer to invest in liquid assets than illiquid ones as it shall be easier for an investor to get his money out for the investment.

Examples of assets that can be easily converted into cash in hand include shares and debentures, bond both government bonds and privately acquire bonds.

Majority of Anderson’s investments as explained in the essay instructions are of a liquid nature or are in cash or have a high liquidity level. Thus it will not be much of a problem if throughout the year he needs to convert or re convert either to the other.

Investment Horizon of the Investor

This is the amount of time that an investor expects to hold a security or portfolio. The investment horizon shall be depended upon while determining the investor’s income needs and risk exposure desires, which shall then be used to aid in selection of securities.

ASSET CLASS AND SECTOR/INDUSTRY OUTLOOK

All persons investing can in one way or another be defined as resource allocators. Putting all the funds that you can invest in let’s say bank bonds then you shall be deemed as having taken the decision to allocate assets asset. Asset allocation is basically how allocates assets among different classes such as stock, bills and cash.

The main objective of asset allocation is to provide for a wide based portfolio with an acceptable level of risk and the best possible return provided that the current level of risk stays the way it is. A portfolio that brings out the best return for a certain given level of risk is called a good portfolio.

In this case the investor is required to select a set of assets that shall represent all the most probable investment choices for the particular portfolio. In each of the listed classes the investor will be expecting a return, a standard deviation and a coefficient of correlation belonging to every other asset. Considering all these Inputs into then the portfolio manager is supposed to put in use the mean variance maximization to plot a good graph that will show his findings.

This graph will represent the good set of portfolios which can be created relying on the chosen and different classes of the assets. All the different graphs will have the maximum possible outcome considering the given level of risk provided with.

The hardest aspect in taking this approach is to accurately forecast the probable outcomes. A recent opposer of the standard mean variance maximization is that sensitivity of input in mean variance maximization always results to poorly generated portfolios. There are two recent and relatively new solutions to sensitivity of the mean variance maximization of input approach. These methods include the methodologies of re-sampling and the asset allocation according to Bayes.

The industry outlook factoring in Inflation Rate at 2% will be as follows

Asset Class/Sector

Near –Term returns (1 year)

Mid-Term returns (5 years)

Long-Term returns

Cash and Bills

153,000

765000

3680000

Corporate and Govt. Bonds

156000

780000

3900000

Domestic Equities

159000

795000

4100000

Developed Market

162000

810000

4565000

Emerging Markets

165000

825000

4725000

Real Estate

168000

840000

4785000

The current assets will be affected by the 2% inflation rate in the market factoring in that no other changes will be effected to the current policy

Anderson will therefore record the said earnings as listed in the stated financial periods. The returns shall differ throughout as its on cumulative basis.

Thus his asset allocation will be of that format as indicated above.

CRITIQUE OF THE CURRENT ASSETS ALLOCATION

As a part of a an effort by the investor to consolidate his investments he may find himself with most of his assets reduced to cash that he would want to ease back into the market

The current assets are only factored in using the inflation rate given as of 2% and thus may fail to reflect the actual markets condition.

Having not factored in changes in the cost of equity and bonds and other changes in investments as may be affected by the day to day changes in the markets then it shall be true to say that the assets valuation in the industry is not satisfactory.

Factoring in the current rates in the market we find that we may have the following rates for our different classes of items listed above. The cash and bills and corporate and government bonds shall have an increased rate as at 20%. This will translate to a decrease in the value of the investment throughout the given financial period.

The Domestic equities and the developed markets rate also will not be reliant on the inflation rate only. The Australian market is currently having an 11% rate for these and thus it will reflect in a loss of value to the investor as the rate may continue increasing during the different financial periods. This means that Andersons portfolio has to change with time as we shall have to readjust the changes in the assets value by factoring in all the changes of the different rates in the market. This will be illustrated in the next table as will be shown below.

The rates applied above are different in that for the cash and bills and corporate and government it’s an international rate which is majorly influenced by the American market though we shall have to rely on it as this is the index being applied globally.

On the emerging markets and real estate considering the facts given that Anderson has no knowledge on the investments of this kind and that he is most likely to just invest in a $400,000 dollar house then we shall not rely on the market rates for the above asset we shall just re allocate it putting into fact this proposed idea by Anderson.

Thus changes need to be effected using the current market rates in the Australian Market for both trading purposes and profit/ loss recognition for investment purposes.

ASSET RE-ALLOCATION

Assuming an IRR of 12% in every financial period for all the assets and a20% rate for the cash and bills and the corporate and government bonds, then the costs shall be re-distributed as follows.

Asset Class/Sector

Near –Term returns (1 year)

Mid-Term returns (5 years)

Long-Term returns

Cash and Bills

165,000

780000

3980000

Corporate and Govt. Bonds

171000

795000

4200000

Domestic Equities

176000

810000

4300000

Developed Market

182000

825000

4665000

Emerging Markets

186000

840000

4755000

Real Estate

194000

862000

4875000