2016-10-27 A Framework for Strengthening Your Nonprofits Investment Reserve Policies

Thrive. Grow. Achieve.

A Framework for Strengthening Your Nonprofit’s Investment Reserve Policies

Dennis Gogarty, CFP®, AIF®

Copyright Raffa Wealth Management, LLC . All Rights Reserved.

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DISCLAIMER

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This report summarizes the results of an informal study compiled by analyzing the results of 722 surveys completed by nonprofit finance executives. All performance data cited is as of December 31, 2015. The views expressed herein are opinions reflecting the best professional judgment of Raffa Wealth Management, LLC. This report is for informational purposes only. Participant responses have not been verified or audited. The information contained has been gathered from sources we believe to be reliable, but we do not guarantee the accuracy or completeness of such information. Data analysis was performed by Raffa Wealth Management. When stating “nonprofit responses” it should be noted that all responses are limited to the nonprofits that participated in the survey. No broader implications should be assumed.

Different types of investments involve varying degrees of risk, and there can be no assurance that the future performance of any specific investment, investment strategy, or product referenced directly or indirectly in this report, will be profitable, equal any corresponding indicated historical performance level(s), or be suitable for your nonprofit’s portfolio. Moreover, you should not assume that any discussion or information contained in this report serves as the receipt of, or as a substitute for, personalized investment advice from Raffa Wealth Management, LLC or from any other investment professional. To the extent that you have any questions regarding the applicability of any specific issue discussed above to your nonprofit’s unique situation, you are encouraged to consult with Raffa Wealth Management, LLC or the professional advisor of your choosing.

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INTRODUCTION

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Polling Question 1: Type of Nonprofit

1. Public Charity

2. Membership Association

3. Private Foundation

Polling Question 2: Reserve Size

1. Less than $5 million

2. $5 - $25 million

3. More than $25 million

Fourth Annual Study On Nonprofit Investing (SONI)

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INTRODUCTION

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In February of this year, over 700 nonprofit finance executives completed a survey about their organization’s investment policies and results.

Raffa Wealth Management has analyzed the results of the survey and prepared the 2016 SONI report for review.

Fourth Annual Study On Nonprofit Investing (SONI)

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AGENDA

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Considerations for Reserve and Investment Policy Development and Review

• High Level Goals and Objectives

• Governance Procedures

• Reporting Requirements

• Investment Policy Components

• Key Takeaways

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HIGH LEVEL GOALS & OBJECTIVES

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What is your nonprofit organization's current total annual operating budget?

What are your organizations total cash assets:

•Cash in checking,

•Excess operating cash,

•Short/intermediate term investments,

•Long term investments?

Association

Public Charity

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Do Reserve Policies Align with the Strategic Plan?

How are reserves defined? • The unrestricted net assets as reported on the Statement of Financial Position.

• The accumulated net surpluses of the organization.

• Liquid cash and investments held in a reserve fund investment account.

What is the purpose? • To ensure that the organization has adequate funds available in the event of an

unanticipated catastrophic event or business situation that reduces reserves and threatens the financial viability of the organization.

• To cover unbudgeted and extraordinary expenditures brought about by unanticipated challenges and as a source for emergency funding.

• To provide a source of capital for the research and development of new products and services.

• To enhance the purchasing power of funds held for future expenditure and to maintain the financial stability of the association.

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Do Reserve Policies Align with the Strategic Plan?

What is the objective of the investments? • To preserve capital and provide liquidity

• Long term growth of assets

• Optimize return while minimizing risk through diversification and asset allocation

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How Much do We Need to Maintain in Reserves?

• The target of the reserve fund is to maintain a balance equal to three/six/twelve months of the annual general operating expenditures.

• The target will be achieved by contributing a minimum of 50% of unrestricted net income before depreciation at year-end.

• Target may be based on quantifying potential risk and opportunities.

Risks

Approximate cost

Likelihood of occurring

Contribution to reserves

Revenue shortfall Dues $1,000,000 10% $100,000 Meeting attendance $1,000,000 20% $200,000

Staffing change $1,000,000 50% $500,000 Legal action $1,000,000 10% $100,000 Pension plan shortfall $1,000,000 25% $250,000 Total resave needed $1,150,000

Opportunities Technology $1,000,000 20% $200,000 Programming $1,000,000 50% $500,000 Facilities $1,000,000 10% $100,000 total reserves needed $800,000

Grand total $1,950,000

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How Much do We Need to Maintain in Reserves?

What happens after target is met? • Range around target:

– Target is six months operating expenses. Max is 12 months, minimum is 3 months.

• Trigger at upper limit:

– Reduce portfolio risk – Increase member/charitable benefits – Return to members

• Trigger at the lower limit:

– Budget implications

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Are we Making the Best Use of Our Assets

Segmentation based on timing of various objectives • Operating reserve – 3 months of budgeted expenses

• Short term reserves – dollar amount based on need

• Long term reserves – excess not needed in operating or short term

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For this question, we are asking about your organization's total cash assets.

Please enter a dollar amount in each of the following categories, segmented by distinct investment objectives / projected time until use.

Public Charity

Association

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How much investment risk are we willing to take?

Ability • Current financial condition (Review Financials)

• Future financial outlook (Interview Key Personnel)

Willingness • High level risk survey

– Objective – Time frame – Tolerance for volatility – Consider sample portfolio’s (likely, best, worst case)

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ASSET ALLOCATION STRATEGY

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Association

Public Charity

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ASSET ALLOCATION STRATEGY

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Association

Public Charity

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AGENDA

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Third Annual Study On Nonprofit Investing (SONI)





• Key Takeaways

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GOVERNANCE PROCEDURES

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Roles and Responsibilities

Staff • Communicating financial condition and recommended reserve levels

• Facilitating volunteer policy discussions

• Reporting to make volunteer oversight easy

• Verifying policy compliance

Volunteers (Committees and Boards) • Establishing reserve and investment policies

• Verifying policy compliance

• Assessing reasonableness of fees

• Hiring consultants

Advisors/Managers • Portfolio management (asset allocation strategy & mutual fund or manager selection)

• Trading

• Reporting (performance and policy compliance)

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Who is given authority over investment decisions?

Association

Public Charity

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How do nonprofits

decide when to

rebalance their

portfolio?

Association

Public Charity

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AGENDA

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Third Annual Study On Nonprofit Investing (SONI)





• Key Takeaways

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REPORTING REQUIREMENTS

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Policy Compliance

Stock Allocation Diversification Requirements • Industry/Sector

• Geography

• Company

Fixed Income Requirements • Credit Quality Restrictions

• Average Maturity

Asset Allocations In-line with Targets

Performance Reasonableness

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What nonprofits maintain a target asset allocation?

Public Charity

Association

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Does your Investment

Policy Include a Formal

Portfolio Benchmark?

Association

Public Charity

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POLLING QUESTION 3

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Global Equity Markets

Portfolio Benchmarking • How much of the total global equity market does the US comprise?

MARKET CAP DATA IS FREE-FLOAT ADJUSTED FROM BLOOMBERG SECURITIES DATA. MANY NATIONS NOT DISPLAYED. TOTAL MAY NOT EQUAL 100% DUE TO ROUNDING. FOR EDUCATIONAL PURPOSES; SHOULD NOT BE USED AS INVESTMENT ADVICE. CHINA MARKET CAPITALIZATION EXCLUDES A-SHARES, WHICH ARE GENERALLY ONLY AVAILABLE TO MAINLAND CHINA INVESTORS.

THE GLOBAL EQUITY MARKET PERCENT OF WORLD MARKET CAPITALIZATION AS OF DECEMBER 31, 2014

A REPRESENTATIVE GLOBAL EQUITY MARKET INDEX IS THE MSCI ALL COUNTRY WORLD INDEX

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Total United States Stock Market

Russell 1000 Index: top 1000

largest US publicly traded companies

Russell 2000 Index: remaining 2000 mid-sized and small US

publicly traded companies

S&P 500: top 500 largest US publicly traded companies

Value Stocks Growth Stocks

Russell 3000 Index: all publicly

traded US companies

Russell 1000 Index:

Russell 2000 Index:

For Illustration purposes only. Indices are not available for direct investment and performance does not reflect expenses of an actual portfolio. Past performance is not a guarantee of future results.

Total International Stock Market

Large International Developed

Country Stocks

Stocks from Emerging Market

Countries

MSCI All Country World

Ex-US Index

MSCI EAFE Index

MSCI Emerging Markets

Index


Other: Canada

Total US Bond Market

BarCap 1-5yr Gov/Credit Index:

Avg Duration ~ 2.7yrs

BarCap Long Term Gov/Credit Index:


BarCap Aggregate Bond

Market Index: Avg Duration ~

5yrs

BarCap 1-5yr

Gov/Credit Index: Avg ~

2.7yrs

BarCap Long Term Gov/Credit

Index: Avg ~

14.2yrs


BarCap 5-10yr Gov/Credit

Index: Avg ~ 6.5yrs

BarCap 5-10yr Gov/Credit Index:


BarCap US Credit Index: Avg Duration ~ 6.8yrs

BarCap US Treasury Index:

Avg Duration ~ 6yrs

US Government, Agency &

Treasury Bonds

US Corporate & Mortgage Backed

Bonds

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CUSTOM BENCHMARK

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1. How much does your policy allocate to US stocks?

• 38% to the Russell 3000 index

2. How much does your policy allocate to international stocks?

• 12% to the MSCI All Country World Ex US

3. How much does your policy allocate to fixed income?

• 45% to the Barcap Aggregate Bond index

Or if your policy calls for a specific allocation to shorter term bonds or a target maturity, you may split the fixed income

• 25% to the Barcap Aggregate bond index

• 20% to the 1-5 year government bond index

4. How much does your policy allocate to cash?

• 5% to the Barcap one month treasury bill index

5. Are you including alternatives in your portfolio benchmark?

• No

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2012 -2014 INDEX RISK AND RETURN

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International stocks

US Stocks

Cash

30/70 40/60 50/50 60/40 70/3020% 29% 38% 47% 56%10% 11% 12% 13% 14%65% 55% 45% 35% 25%5% 5% 5% 5% 5%0% 0% 0% 0% 0%

Blended Portfolio Sample Benchmarks

3 Month US T-Bills

Traditional Market Benchmarks

Russell 3000MSCI AW ExUSBarCap Agg Bond

HFRI Fund-of-Funds

*Representative, sample portfolio benchmarks are intended to give context to performance results. The benchmarks were selected because we believe they are the broadest index available in each broad category (US stock, Intl stock, Bond, and Cash). They may or may not be suitable benchmarks for comparison to any particular investor’s portfolio or for the average results reflected in this study.

*Indexes do not reflect the fees associated with actual investments and such fees would reduce the performance illustrated. Past performance is not an indication of future results and any investment can lose value.

How do the investment

results compare to a

blended portfolio

benchmark?

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PORTFOLIO RESULTS & ANALYSIS

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What level of under -

performance is

acceptable?

What level of underperformance is acceptable?

• Most nonprofits (45%) believe advisors should be expected to outperform their market benchmark gross of their fees

• A surprisingly large number (22%) of nonprofits “didn’t know” what level of underperformance was acceptable.

0 20 40 60 80 100

I don't know

Net of fees, trailing by 2% or less is reasonable

Net of fees, trailing by 1% or less is reasonable

Net of fees, trailing by 0.5% or less is reasonable

Outperform gross of fees, but underperformance net of fees is …

Over 5yrs, advisors are expected to outperform net of all fees

Advisor Performance

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AGENDA

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• Key Takeaways

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INVESTMENT POLICY COMPONENTS

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Check to make sure you have these guidelines covered.

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KEY TAKEAWAYS

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Ask yourself these questions the next time you review your reserve and investment policy.

1. Do your reserve policies align with the organization’s strategic planning?

2. Do investment objectives align with reserve policies?

3. Is your organization, and the current personnel, willing and able to endure the level of market volatility your policy directs?

4. Are you making the best use of your cash assets?

5. Are the right people making the right investment decisions?

6. Do investment reports make oversight easy?

7. Are investment return expectations simple and clear?

Past performance is not an indication of future results. Any investment can lose value.

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CONCLUSION

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Thank you for

attending!

RWM is available to engage in Investment Policy Development engagements at a fixed hourly fee.

For more information:

• Visit www.npinvesting.org or

• Email [email protected]

http://www.npinvesting.org/

mailto:[email protected]

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DISCLOSURE

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This information was gathered from reliable sources but we cannot guarantee accuracy. Any performance related information is based on participant responses and have not been verified. Past performance is not an indication of future results and any investment can lose value.

Performance results have been compared to balanced benchmark portfolios comprised of broad market indexes. The benchmarks were selected because we feel they are the broadest market benchmark available in each broad category. They may or may not be suitable benchmarks for comparison to any particular investor’s portfolio or for the average results reflected in this study. You should consult with your investment professional to determine suitable benchmarks for your portfolio.

Indexes do not reflect the fees associated with actual investments and such fees would reduce the performance illustrated.

Past performance is not an indication of future results. Any investment can lose value.

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2016-10-27 A Framework for Strengthening Your Nonprofits Investment Reserve Policies