Investment Management: What does trustee best practice look like?
A guide for Trustees
Setting long term investment objectives has always been a difficult task and none more so than when acting as a trustee, especially when there can often be multiple beneficiaries with very different requirements, which all have to be taken into account. Given that trustees have a fiduciary duty to protect and potentially enhance the value of a trust fund, these complexities can be an onerous responsibility.
For this reason, using a discretionary investment manager has become the favoured option for trustees, although this does not entirely mitigate the risk for the trustee.
In June 2019 this very issue was addressed by Jill Britton, Director of Supervision at the Jersey Financial Services Commission. In a presentation to trustees in Jersey, she noted that the power to delegate is still subject to an ‘absolute duty of care’, further stating that ‘ultimate responsibility remains with the trustees’.
For this reason, “best practice” in this area has evolved much in recent years to improve the likelihood of strong outcomes for beneficiaries and mitigate performance and process risks for the trustees. In particular, the changes have been focussed on the establishment of an investment relationship, rather than its outcomes, as Jill Britton explained when she went on to comment that ‘the regulator expects trustees to consider and record the specific requirements of each trust on a case by case basis’.
Investment Policy Statements
For a professional trustee with multiple structures, fulfilling such a regulatory requirement is certainly a logistical challenge. Therefore, achieving best practice is now best led by process and framed with a clear checklist of actions. To begin, the Investment Policy Statement (IPS) must always be the first step. Not only is an IPS a statutory responsibility in the UK under the Trustee Act 2000 but is often a regulatory requirement and certainly deemed “best practice” in most jurisdictions.
A properly constructed IPS should set out all of the information about the structure, which is pertinent to the investment requirements. Importantly, such a document carries more weight than the investment managers mandate from a legal perspective as it is a document with a specific purpose. From the trustees perspective, the IPS also enables them to provide full details about the entity to the investment manager, not always easy on the managers mandate, which often follows a box-ticking format. This is an important consideration as minor errors in investment management can lead to significant losses; the IPS is a key document that enables the trustee to properly brief the investment manager and have this evidenced for the file, should issues arise later.
Manager Selection
Once the IPS has been drafted, the next step on the checklist should be a documented and structured process to select the investment manager. Holding such a “beauty parade” is the only reliable way to demonstrate that a Manager was chosen at arm’s length and for their particular strengths.
Unfortunately, not all investment manager appointments turn out well, so it is important that the beauty parade process is well documented and robust in order that when viewed with the lens of hindsight, the trustees rationale for their choice of Manager cannot be questioned as lacking in substance or due deliberation.
In her presentation, Jill Briton referenced manager selection activities when she noted the benefits of an approved list of investment managers, benefits that include speeding up the appointment of advisors; enabling the negotiation of competitive fees and ensuring satisfactory due diligence is completed. Compiling such a core manager list is one of the investment activities for trustees that has been made available to the STEP community through its member service, the Managed Portfolio Indices (MPI).
Suitability
Once an investment manager has been chosen the Manager will then need to ensure they provide the investment solution that is most suitable for the entities investment objectives and record this through issuing a suitability letter and investment mandate. These are critically important documents and trustees should always check these carefully to ensure they are consistent with the IPS. Reconciling these documents ensures that the trustee’s requirements expressed through the IPS have been correctly understood by the investment manager and no potentially costly misunderstandings exist.
Importantly, whilst the investment manager often has regulatory responsibility to complete a risk questionnaire and provide a “suitability letter”, this has not always been the case. Therefore, best practice now means that where these documents are missing on the entities file, a re-papering exercise is an important task to bring the entities file up to today’s standards.
Monitoring
When the investment relationship is entered into with such comprehensive actions the risks of an unforeseen loss arising due to tax, situs or other such issues are mitigated. However, this does not discharge a trustee from periodically reviewing the performance of each portfolio meaning that some form of performance monitoring will still be required. When choosing benchmarks for this purpose, the MPI peer group has become the most effective measure, as using them does not influence the Manager’s investment process. Furthermore, using a peer group makes it very obvious whether the trustees are exposed to the opportunity loss of having chosen an ineffective investment solution.
In conclusion, whilst investment returns will always have the potential to disappoint, trustees can mitigate the risks created by poor instructions and misunderstandings by following a clear process when dealing with investment-related activities. Whilst all trustee companies will have their own distinct process, as a minimum, it should contain these core components of best practice to avoid potential issues later on.
As a STEP Member Service, MPI has been designed to facilitate best practice with its ease of use and free to use solutions. Its demonstrated ability to address the regulatory and fiduciary risks inherent for trustees when dealing with investment related activities, makes MPI a logical choice to be at the core of a risk-aware trust company’s procedures.
About MPI
MPI was launched in 2012 as a STEP Member Service and is distributed free to STEP members and Private Client Practitioners. The Indices have been designed to be used by STEP Members as performance benchmarks. These incorporate clearly defined risk parameters, which naturally align with the fiduciary role, using the parameters of maximum drawdown and volatility. Indices are available in GBP, USD & EUR, and the risk categories are Low, Medium and High risk.