Let’s face it. Most of us do not have the expertise to invest our church’s funds without the help of an investment professional. But, when that investment professional starts talking about alphas, betas, basis points and covered calls most of us start thinking about what we are going to have for lunch. I know. I have been working in the institutional investment world for over 25 years, and I still cringe when I have to review a 20 page investment report, or listen to a 20 minute summary of the markets.
But, after 25 years of reading and listening, there are some things I have learned about financial advisors and investment managers that might be helpful to you.
- Selling – The advisor’s job is to make his firm look good and sell you something.
- Sleight of Hand – Advisors know how to distract you with data while hiding poor results.
- Sizzle – Many advisors specialize more in sizzle than in substance.
I am really not trying to be critical. I am just telling you what I have experienced over and over again in my 25 years of working with advisors and fund managers. So, while I listen to them and read their reports, I always keep these three things in mind. They are salesmen. They will always try to paint a good picture of what they can do for you. And their companies spend millions of dollars to prepare reports to dazzle and amaze you, while distracting you from looking at any negative information about your investments or their performance.
Attorneys call this kind of sales pitch “puffery” and financial professionals are experts at puffery.
So, I have learned to focus on three primary things when investing church funds:
- Allocations (between your chosen asset types);
- Benchmarks (for your chosen asset types); and
- Comparisons (of your returns to your chosen benchmark returns over your chosen time periods).
Allocations are first.
The first thing any good financial advisor is going to do for you is evaluate your risk tolerance and investment objectives. Many church clients are risk adverse and just want their money in “insured” bank accounts. While this is a very safe approach to investing, it severely limits the returns you can expect to achieve, and I have doubts it would satisfy the master in Jesus’ parable of the talents. Yes, you should at least put the money in a bank to earn interest, but the parable teaches we are expected to do more.
It is prudent to keep some funds in insured bank accounts, especially operating funds or cash reserves. But, if your church has long term savings, or endowment accounts you should really consider investing a portion of those funds in stocks, bonds or other alternative type investments. History has shown that over time your investments will have a much better return if you do. And, the law requires you to diversify these types of institutional funds. (Can you say, “Uniform Investment of Institutional Funds Act or UPMIFA?”).
If you are responsible for investing church funds, you must take the time to work through this allocation process thoughtfully and prayerfully with others on your team, and your financial advisor. And remember, you can always change the allocation model for any of your funds. In fact, you should review your allocations periodically with your advisor to ensure each fund’s asset allocation remains appropriate under your changing circumstances.
Allocations are first. Benchmarks are second.
A benchmark is nothing more than a standard of reference for measuring performance results.
The investment industry has dozens and dozens of benchmarks that are used to measure the performance of various types of investments. One of the most familiar is the S & P 500 which is nothing more than the value of a basket of 500 widely held US stocks. There are benchmarks for many classes of stocks, such as small US companies, large US companies, international companies, emerging markets, and others that are a mixture of various types of stocks and/or bonds.
Choosing your benchmarks carefully is important, to ensure that each benchmark closely resembles the types of investments you have chosen in the asset allocation of each of your funds. You want to make sure you are comparing apples to apples when you look at your investment reports.
I have seen investment advisors choose a more favorable benchmark to make his returns look better. Without good benchmarks you really have no real way to evaluate the returns of your funds.
Allocations are first. Benchmarks are second. Comparisons are third.
When you are reviewing an investment report you should always compare your current asset allocation with your target allocation. Over time gains, distributions and other transactions can increase one asset type in a fund and decrease another. A fund should be rebalanced to your chosen allocation at least once a year.
Next, double check your benchmarks for each fund to make sure they are correct. Whether by accident or intention I have found statements with the wrong benchmarks displayed. Again, you want to be comparing apples to apples.
Once you have verified that your allocations and your benchmarks are right, you are ready to compare your actual returns (after fees) to their related benchmarks over appropriate periods of time. If your returns after all fees are below your benchmarks, your advisor or manager is underperforming. That is the very definition of underperformance.
A good investment report will include the rate of return realized for each investment in the portfolio over several periods of time. The rate of return should be shown in the performance section of the report. Normally you should see the rate of return for “the month 
to date” (MTD), “year to date” (YTD), 1 year, 3 years, 5 years and 7 or 10 years. There may also be a column for “since inception”.
These numbers tell you each investment’s rate of return over the specified period of time. If your investment report does not give you the rates of return ask your advisor if the report can be modified to do so. Without the rate of return being shown on the report, you can only guess at how your investments are doing.
You also need to determine what period or periods of time you are going to focus on as you evaluate your returns. Most of us are investing for the long haul, and no advisor hits a homerun every year. So, rather than focus on a single year, or even two years, focus at 3, 5 or 7 year returns. This really tells you how the advisor is doing over time. With the endowments we manage I am more concerned with the 7 or even 10 year returns.
Too many investors fall into the trap of firing a manager after one bad year, and hiring the manager who had the highest return last year, only to find the new manager is low this year, and the old manager is high this year. That is called chasing returns. It rarely works, and it could result in additional fees.
Once you know what your rates of return are for each component of your portfolio, you are ready to compare those returns against the benchmark returns for the same periods. Your returns after fees should at least be equal to the appropriate benchmark. Any advisor or manager who fails to hit their benchmarks over time is underperforming and you may need to replace them. And make sure you are looking at returns after fees. Ask for a fee schedule so you will know how much you are paying for your manager’s services. Many managers never clearly disclose the fees they are charging.
Finally, be careful about comparing your returns to the returns of other organizations with different allocations and different asset classes. If you are invested 50 percent in stocks and 50 percent in bonds, your returns should be different than someone who is invested 70 percent in stocks and 30 percent in bonds. Learn to compare apples to apples.
Once you learn to focus on Allocations, Benchmarks and Comparisons, you can quickly look at your investment reports to see how your investments are really doing while your advisor drones on and on about alphas, betas, basis points and covered calls. And you will have good, pointed questions to ask your advisor about your actual returns and allocations.
So, don’t be overwhelmed or distracted by the puffery. Focus on the things that matter and learn to ask good questions. You will be amazed good pointed questions about allocations, benchmarks and comparisons will cut through all the smoke they are puffing, and keep you focused on performance.
