A foundation or endowment of a smaller size, that is, one that lacks a dedicated full-time staff of professionals, might be better off avoiding an RFP (request for proposal) process for selecting an investment advisor. This flies in the face of conventional thinking, but bear with me as we explore the reasons behind this.
When a group of volunteer board members with fiduciary responsibility over a pool of assets are looking for financial advice and guidance, they first ought to think about how their limited and valuable time is spent.
While an RFP process seems the prudent path to selecting the right advisor:
- the questionnaires are often lengthy and take a lot of time and effort to design;
- there is often an ad hoc approach to who is invited to respond;
- once the board receives all the proposals, someone has to review giant books of responses that tend to be canned cut-and-paste jobs from marketing that don’t necessarily answer the questions;
- Finally, the board must sit through a parade of presentations requiring longer and more frequent board meetings;
…the whole process can produce a certain amount of brain fatigue.
I would suggest a simpler, more effective approach. So much of what ends up in RFP questionnaires ought to just be laid out as prerequisites:
1. Fiduciary Standard
There are many models of financial services, but only one is appropriate: the fiduciary standard. Registered Investment Advisors, those regulated under the Investment Advisors Act of 1940, are subject to the fiduciary standard and are required to act in the client’s best interest. A brokerage or bank will usually fall under a suitability standard, which merely requires that the products sold be suitable for the client but need not necessarily be in the client’s best interest.
2. The Anti-Madoff Structure
Your advisor and custodian should be two separate entities, so that you are receiving independent statements and trade confirmations from the custodian.
3. Objective Advice
Avoiding conflicts of interest is a key tenet for a fiduciary. Your advisor should be separate from the money management. Specialist managers and funds are supervised by the advisor. The advisor should act like your partner, to whom you have delegated the due diligence and oversight. The advisor should not have proprietary products but should have an open architecture, i.e. access to a broad universe of investment solutions.
The next step is to stay focused on an investment model that is not based on speculation, but on the science of capital markets. One of the best books written on this topic is The Investment Answer, by Dan Goldie and Gordon Murray. Though it was written for the individual investor, the entire 70 page book is relevant to an organization with goals, objectives and responsibility for the management of other people’s money.
In short, in addition to the prerequisites listed above, Goldie and Murray suggest you can achieve financial success by demanding:
A strategic asset allocation with broad diversification and discipline. The objective is to select the mix of stocks and bonds (risk) that will allow you to stay invested through downturns.
Low cost – every dollar that is not paid to a manager to pick stocks could be a dollar in your pocket.
A fact-based, scientific approach to investing. Markets generally work! If investors could simply capture what the markets deliver, that is the first victory. Focus on what you can control, like costs, or for taxable investors, managing taxes. There are no low risk/high return investments, although there is no shortage of people selling the dream. Even the smartest, most respected people in the financial industry express directly conflicting opinions from time to time about where the market is going. We all know the myth of the crystal ball, but the truth is that nobody has one.
The Real Value Questions
The more practical questions and activities for the board to ponder when looking for an advisor are some of the following:
– How much of the assets should be set aside in cash, and how is that determined?
– What kind of services outside of investment management may be provided to the board? For example, will the advisor work with donors that need help seeing the future impact of lifetime gifts on their wealth?
– What does a useful Investment Policy Statement (IPS) contain, and what changes are recommended to the existing IPS?
– Almost every state in the country has adopted the Uniform Prudent Management Institutional Funds Act, which represents the legal expectations of fiduciaries who manage institutional funds. What are the key requirements of the law and will the advisor provide the necessary guidance to comply with this law?
– There are, of course, a few remaining important questions: what are the advisory fees? The expected range of investment management expenses? How are excessive transaction fees avoided? How often will review meetings take place? Who is the team that will serve your board?
So how can the board gather this information without an RFP? Start with the pre-requisites. Only interview advisors that pass the three tests: the advisor is under the Fiduciary standard; the custodian and the investment advisor are separate; and investment management and the advisor are separate. Only after that should your interviewees answer The Real Value Questions.
The bottom line is to avoid wasting time and to obtain assistance for the board in the areas that will add real value and allow the board to focus on the reasons they joined the organization in the first place — to help the non-profit thrive and benefit the ultimate recipients of the generous gifts of the donors.