Investment Policy
This investment policy has been drafted after consideration of a number of policies on the part of the client. It also describes all the prudent investment factors that the investor deems appropriate. In this investment policy, the investor is offered asset classes that are managed under specified management styles for achieving the set objectives (Craig, 2012). The main return objective for this investment policy is maintaining the returns for the investor at a minimum of 7.5% while maintaining a moderate risk level in comparison to other market investments. It also aims at capital preservation and long term growth for the investor.
Risk tolerance
Prudence in investment calls for the client to assume some risks in a view to attaining the objectives. The investor will have to withstand short term income variability. In the first year, the loss is limited to -8%. However, the probability for such loss is low since it is 0.07. Based on considerations of age, insurance coverage and family status, the investor is expected to tolerate short term fluctuations in returns.
Investment time horizon
The investment horizon for this investment is five years. This factor has shaped the asset allocation strategy whereby allocation is based on a long term objective. Any illiquidity in the short term is expected to be covered with cash flows and hence it will be minimized. However, capital values fluctuate independent of the investment horizon though they are highly volatile in short periods (Craig, 2012). In a period of five years, some stability in returns is expected.
Valuation
The valuation of this portfolio will be related on the market prices at a particular time. Therefore, it will be fluctuating depending on market prices for each day. In order to have a stable reflection of the value, the average market prices of each month will be the determiner of the value of the entire portfolio. The investment will be held in a single currency hence it will also fluctuate with changes in the value of the currency – the US dollar.
Investment limitations
The allocation of this portfolio will be 60% to fixed income securities and 40% to securities. The portion allocated to fixed income will provide income that will be exempt from taxes and it will also moderate the fluctuations of incomes from other securities. The limitations are based on the allocation ratios. This ratio will have to be maintained over the five year period.
With this investment policy, there will be a limitation in the allocation of funds between the two classes of investment (Craig, 2012). Another limitation will be directed towards the fixed income portion. 50% of the fixed income securities will be allocated towards municipal bonds with maturities of 5 years. The other 50% will be directed towards high yield bonds to counter the low income effect of municipal bonds. This structure will be the overall limitation of this investment and act as a guide to investment policy.
Diversification objectives
Diversification objectives are crucial for this investment policy. The first diversification objective is to manage the exposure of this investment to risk. This objective will reduce the possible financial losses to the investor that may be occasioned by lack of diversification. The other diversification objective is the reduction of the negative impact out of poor returns in a certain year (Craig, 2012). Without diversification, the value of the entire portfolio may fluctuate to a high extent. However, diversification will have counter effects to such sharp declines in performance of specific sectors.
Reference
Craig, W. (2012). Guide to Investment Policy Statement. The Journal of Finance, 123-127.
