Nonprofits need to develop formal investment policies that reflect their intentions and support their organizations as they move forward. And it’s the board of directors’ responsibility to develop and execute these policies, and hire and oversee the professionals that handle the investments.
Requirements of the Maryland Uniform Prudent Management of Institutional Funds Act (MUPMIFA) — and the need to report this information in the nonprofit’s audited financial statements — make these actions a must.
Chart Your Course
The following steps for developing an investment policy and its accompanying objectives and strategies are adopted from the Statement of Investment Policy of the Texas State University (TSU)–San Marcos Development Foundation.
1. State your investment objectives and philosophy
What do you hope to accomplish in your investment policy? General objectives should address return and risk. You may want to include details such as spending rate, assumed rate of inflation, investment management fees, and any desired real portfolio growth to reach long term goals. Also, how much risk is your nonprofit allowed to experience?
TSU’s policy, for example, states that its degree of risk is “generally associated” with its asset allocation.
2. State your constraints
Liquidity and time constraints will likely top your list. Does your organization, for instance, rely on investments to “throw off” a certain percentage of income each year to meet spending needs and expenses?
For example, your policy could state that your organization may withdraw 5% of its investment income annually for operations. And what’s the time horizon of your investments? Is their purpose largely to support endowments? You could note that an endowment has “a long life and should be managed with a time horizon much longer than the normal investment cycle” — for instance, 30 to 50 years.
3. Define your return measurement objectives
This is how your investment policy will meet its goals and how they will be measured. Your policy may state simply that “assets will be invested to generate appreciation and/or dividend and interest income” and, to accomplish this goal, the organization will diversify its assets.
4. Define volatility and organizational risk
TSU defines volatility as “the trailing three-year standard deviation of investment returns … of the benchmark indices.” Risk is the failure to meet the return goal. What variables will you consider to minimize your risk? For example, typical factors include inflation and asset allocation.
In Nonprofit Investment Tips: 4 Ways to Ensure Your Nonprofit Keeps on Giving, we discuss the importance of minimizing risk while investing.
5. Specify your spending rate
This will likely be a percentage of total return. But how do you define “total return”? Many organizations adopt an average of the trailing 36 months.
6. Give asset allocation special attention
Asset allocation is one of the most important decisions your investment committee can make. Base the allocation on all of the factors discussed above — it should be commensurate with your acceptable amount of risk and expected return.
Be sure to review and revise your allocation strategies regularly. Given U.S. market volatility, many organizations may have revised their policies to move most investments into safer assets, such as fixed-income securities (for example, Treasury bills).
7. Detail permissible investments
This would include real estate investment trusts (REITs), domestic large-capitalization equity securities, or cash equivalents. Investments should be consistent with your mission.
8. State your policy on portfolio rebalancing
Your investment team can rebalance the portfolios periodically to realign with the investment allocation. Some policies state that rebalancing must occur every quarter. Others state that rebalancing will take place when there’s a certain percentage deviation from the asset allocation policy.
9. Create performance goals for investment managers and consultants
In particular, note in what situations managers and consultants will be terminated: for example, if the investments are consistently out of balance with the asset allocation policy.
Need Help?
Incorporating these provisions in your investment policy will help ensure that your nonprofit meets MUPMIFA requirements. But always review your policy and any revisions with your CPA or attorney. Contact us online or call 800.899.4623.