Your investment statement

Last year, the stock market felt like Mr. Toad’s Wild Ride, with its dramatic ups and downs. Yet at the end of the year, U.S. stocks pretty much ended up right where they started.

For much of 2012, the market has largely taken a chill pill, giving nervous investors the confidence to start investing in stocks again. 

That’s good, right? Not really. Individual investors consistently underperform the stock market because they tend to sell low—at the nadir of a crisis—and buy them back when everything’s rosy and prices have rebounded. An oft-cited annual study from Dalbar, a financial services research firm, showed that in 2011, the average stock investor underperformed the Standard and Poor’s 500 by nearly eight percentage points, a result of emotionally driven, inconsistent decision making.

It’s tough not to react to daily market moves in an always-on world, with CNBC anchors and Twitter users chirping about intra-day market swings in great detail. 

So how can you ensure that the next time it gets tough on Wall Street you won’t go running?

It’s time to create an investment policy statement. The document is a favorite in the fee-only financial planning world. You don’t need an adviser to write your own, although if it seems too daunting to create solo, there are advisers out there who will meet with you on an hourly basis.

The idea for such a statement started in the foundation, endowment, and pension plan communities. Simply put, it’s a road map for your  investments. Follow it when times get tough and you’ll have a far better chance of getting where you intend to go than if you throw your map out the window and make a U-Turn.

Questions to ask yourself

Your statement can be a couple sentences long or a treatise. The advisors I’ve spoken to over the years generally suggest it answer the following questions:

1) Why are you saving? Is your goal to fund a modest retirement? To have your money grow as much as possible to leave to heirs or to donate to charity? Ask yourself what this money is for, instead of focusing on how much you want your investments to earn each year.

2) Can you sleep at night? In other words, how much risk can you take? Your answer may be different now that we’ve recently experienced a scary stock market spell, and keep in mind that investing in bonds carries risks too. Many investment companies have online quizzes that help assess your risk tolerance. Robert Laura, co-founder of retirementproject.org, suggests investors consider other aspects of their personality and lifestyle such as mood, mental health, and physical health, when thinking about their comfort level with risk.

3) When do you need the money? Many parents learned the hard way that investing in stocks within a 529 college savings plan can burn teens nearing college, because there wasn’t enough time for stocks to recover before the tuition bills came in. If it’s short term money, don’t invest in stocks. If you have a decade or more until retirement or college, stocks are okay.

4) How much money will you need tomorrow? Many advisers suggest keeping two years of living expenses out of the stock market, so you don’t have to tap your stock investments in the midst of a downturn. And whatever you do, don’t put your emergency savings or car downpayment into the market. 

5) What are your money values? Do you want to avoid investing in oil and tobacco companies? What are your thoughts about helping to pay for college, or giving money away to charity? An investment policy statement provides a good opportunity for you to get your values about money on paper. It’s also a great time to share those values with a partner or spouse.


Kara McGuire is a personal finance writer and a St. Paul mother 
of three. Send comments, questions and story ideas to 
kmcguire@mnparent.com.