Have you ever been to a supermarket without an agenda or list in hand? I have, and while I might have come away with some enviable purchases – some Frazzles and a packet of Bourbons – I spent most of my time wandering around aimlessly and, in the end, failed to purchase the ingredients I needed to make dinner – the very task I set out to achieve in the first place.
The risk of distractions, diversions and not meeting your ultimate goal is also rife in the investment world. Many of our charity and endowment clients have ultralong time horizons – sometimes projecting into perpetuity. For these investors, every decision made today compounds over time, which could throw the portfolio off course if not appropriately aligned to the long-term goals.
Effective decision-making is easier said than done, though. There are plenty of shorter-term challenges and distractions faced by these longer-term investors that threaten to get in the way. What we hear are some of the biggest challenges these investors face today include:
- Governance bandwidth
More often than not, resources are spread thin. Trustee boards and investment committees are typically on a quarterly cycle, and internal teams may be responsible for more than just the investment portfolio. This, combined with no shortage of news, data and information to input into investment decision-making and oversight, can make it a real challenge for investors to sift through the noise.
- Conflicting priorities
There’s always a trade-off between needing to spend today versus having sufficient investment growth, which allows the endowment to spend money in future. Endowments tread a fine line between liquidity, risk and investment returns. This is compounded by sustainability, a long-term risk (and opportunity) to investors that’s hard to measure through traditional investment risk lenses.
Somewhat connected to point two, the liquidity challenge is more pronounced today due to the denominator effect. Public markets experienced a sell-off in 2022 that saw the proportion of illiquid assets increase markedly in portfolios. The question on the minds of many investors is, “How much liquidity I need and which assets can I rely on for liquidity in stressed market environments?”
How a simple decision-making framework can help manage these challenges
Going back to the food shop I mentioned earlier – many studies have shown that consumers drastically overspend if they go in without a list; long-term investors require an equally disciplined approach in their investment decision-making.
All of our clients have a shopping list. This simple one-page framework articulates their long-term objectives and translates those into metrics that portfolios can be monitored against. This includes return targets, spending requirements, risk budgets, liquidity constraints and sustainable investing goals. The benefits of this approach are:
- Addresses your conflicting priorities upfront and ensures stakeholder alignment to save time in the future.
- Provides clear calls-to-action on the portfolio if you aren’t on track to meeting your goals.
- Keeps you focused on the long-term objectives in all investment decisions.
Illustrative decision-making framework
Having a simple framework that sets out key objectives and constraints, which is reviewed during every meeting or whenever an investment decision needs to be made, helps to ensure that all decisions related to the investment of the endowment’s assets are guided by its long-term agenda – no more impulsive apple turnover purchases when you set out to buy potatoes.
Agreeing on the endowment’s long-term objectives – with consideration to short-term priorities, like liquidity – upfront creates alignment between key stakeholders, helping to manage conflicting priorities. At the same time, using this framework to guide decision-making frees up precious governance bandwidth.
A decision-making framework in action
We began working with a charity recently that was struggling to make investment decisions as they didn’t have clarity on what they needed to generate in investment returns and how much risk they could afford to take. In the early stages of the relationship, we spent a lot of time understanding their prior and future spending needs to help inform their long-term objectives for the portfolio. This information fed into the metrics that populated their decision-making framework.
This allowed them to consider their investment decisions through the lens of affordability, balancing the needs of current and future beneficiaries, which gave the trustees transparency over the returns they needed to generate from the portfolio, comfort around taking more risk to get that return and confidence in the affordability of their annual spending.