When we talk about “wealth planning”, we’re really talking about a range of different conversations – from business to family, strategy to impact.

An essential – and growing – conversation is investment governance: the strategy wealth owners and families use to guide their investment decisions.

To explore this topic in more detail, we spoke with Pedro Hernández Cortés, a Managing Director at Nevastar Finance, and expert in guiding families to create a robust, comprehensive strategy for their investments.

 

1. How did you become involved in investment governance?

I was born and raised in Mexico City, where I trained as a lawyer. I worked at my family’s law firm for many years, which gave me a good grounding in business and family governance.

From there I moved into the world of banking, where I realized the importance of investment governance, alongside family and business governance.

I’ve spent the last 20 years in Switzerland, working both as a banker and wealth planner. In this time, I’ve experienced extreme market volatility and different economic cycles and have witnessed the dire consequences of not having a disciplined approach to investing. This has made me realize the importance of investment governance – and that, despite this importance, few people pay attention to it, or have a robust strategy.

 

2. How would you define investment governance?

Investment governance is another tool within the discipline of wealth planning.

It refers to the framework and processes used to oversee and manage an investment portfolio. Ultimately, it should ensure alignment of investment decisions with set goals and pre-defined risk tolerance.

Investment governance allows the investor to define a road map, setting guidelines on the allocation of assets, time horizon, risk profile, expected return, cash flow, rebalancing, spending policy, conflict of interest, etc.

These guidelines provide structure and context to an investment portfolio.

It’s likely that wealth owners (and their families) will have multiple investments. So it’s important to think about what they want to achieve with those investments – in the medium and long term.

In my experience, this conversation can quickly become focused around the technicalities. But beforehand, I advise starting with the fundamentals:

1. What do you want to achieve with this wealth? Is it wealth preservation, or wealth creation? Do you want to generate income, or fund specific projects?
2. How would you like to achieve it? How would you like to allocate assets? What return do you expect? What’s your time horizon and risk tolerance?
3. Who should be involved? What are the roles and responsibilities?

Asking these questions first helps families prepare for different scenarios.

Typically a wealth manager asks their clients: “if you lost 30% of your wealth tomorrow, could you handle this?”

Instead, I propose that if the client had prepared and implemented a robust investment policy statement, they would be able to avoid spontaneous and improvised investment decisions. Even if their portfolio corrected by 30%, an investment policy statement should help a client to act in line with their investment principles.

Ultimately, investment governance strategy should help a family turn abstract concepts and ambitions for their wealth into a practical, workable model.

Once established, this model should remind the family what it is they want to achieve with their investments – and how they want to achieve it.

 

3. If a family doesn’t have a robust investment governance strategy in place, what can go wrong?

Across the world, across different sectors, we are experiencing extraordinary developments. Politically, socially, environmentally, technologically.

In times of heightened emotions (and potentially overwhelming misinformation) keeping a clear head – and sticking to a clean plan – is more important than ever.

Let’s say the markets are performing very well. It’s natural for wealth owners and their families to become excited, and to take on more risk. The opposite happens when markets turn negative and fear creeps in. Financial markets are inhabited by “animal spirits” and investors are constantly debating between greed and fear. In my experience, when emotions are high, that’s when irrational decisions can happen.

With a robust investment governance strategy, a family is able to take a step back, re-evaluate their portfolio, and make rational decisions. So long as nothing catastrophic happens within the market, a family can safeguard its wealth through the ups and downs of the market.

Or let’s take the scenario of family expenses. Without a clear policy on spending, it’s easy for these expenses to get out of control.

So, instead of the family discussing whether they should make a large purchase (for example, buying a boat), they can return to the investment policy to understand (and even remind themselves) of their original intentions.

 

4. How does a family begin to develop its investment governance strategy?

In my experience, wealth owners are usually very good at the profession or discipline that’s led to their wealth. Whether it’s making cars or designing shoes, they’re experts in their field.

But expertise in one area doesn’t necessarily mean expertise in another. So, when I work with a wealth owner who doesn’t have expertise in wealth management, I like to start with the fundamental questions:

• What’s their vision for their wealth?
• Is this about creating a legacy for future generations, or achieving a specific mission in the here and now?

Once the fundamentals have been established, the conversation becomes more specific and technical:

• What’s your investment horizon?
• What’s your risk profile?
• Which assets do you want to focus on (and are there any that you don’t want to be involved with)?
• Are we focusing on a specific portfolio, or your entire wealth?
• Should we take on debt and if so what for and how much?

By the end of this conversation, a wealth owner has a clear overview of what they want to achieve. They can even have different policy statements for different investment portfolios across different asset classes.

Ultimately, developing an investment governance strategy is a process of iteration and refinement.

You start out with abstract ambitions for a family’s wealth, and hopefully end with a practical, useful strategy document that everyone can refer to – both family members and external advisors.

 

5. What are the principles of creating an effective investment governance strategy?

I believe there are three key principles:

1. Clarity of purpose: the goals of the wealth owner must be aligned with the investment governance framework defining the purpose of the investments
2. Transparency and communication, making sure all stakeholders know what is happening
3. Accountability, making sure there are clear roles and responsibilities

In my experience, transparency is the principle that causes families the most difficulty.

To develop a robust investment governance strategy, it’s important for families to have regular and clear communication about their wealth. This is obviously more difficult in families where there have been past trust issues, or other emotional complexities.

Education can be another sticking point. Particularly in large families, where a strategy needs input from various different members. I have worked with families with a vast range of ages and experiences, where only a handful of members have the financial background required to fully understand the guidance of their external advisors. In such scenarios, the risk of misunderstanding (and mistrust) is great.

My approach is to implement these three principles progressively, with small, regular engagements. I might say to a client: “I need the key stakeholders together for two hours tomorrow, where we’ll discuss these agenda items. In two months’ time, we’ll have another two hour session, where we’ll discuss a different set of agenda points.”

Over time, an advisor can raise the understanding – and engagement – of even the largest families.

The bottom line is that over time wealth grows, circumstances change, and families and their goals transform.

Recalibrating an investment policy statement should be done periodically to reflect these changes. When the wealth owner and the advisors have a deep knowledge of the investment policy statement and the family’s circumstances, these changes occur naturally and in a timely fashion.

 

6. Once a strategy is in place, who makes sure it is adhered to?

It’s a bit like family governance.

Typically, there may be a single decision maker (usually the wealth generator or owner), who has developed the strategy in conversation with a family officer or external advisor.

But once the strategy is in place, a designated group or individual – like an investment committee or Chief Investment Officer – is often the most efficient way to execute a governance strategy.

Not only do they take responsibility for day-to-day portfolio management, such a group or individual can oversee communication with the wider family. They can even be responsible for educating other family members, including the next generation.

Clear communication is invaluable. It helps everyone understand the policy, and avoid making silly decisions.

And it’s important to remember wider family members that the strategy is not set in stone. It can be reviewed on an annual basis, and updated to reflect the reality of the family’s situation.

 

7. You mentioned external advisors. How can they be used to help shape a robust investment governance strategy?

External advisors can act as sounding boards to exchange ideas and share the experiences of others who have faced similar situations.

They can also share their expertise and know-how to guide wealth owners.

The simple answer is that there is no one single model. Every family is different, and so every family will require a different degree of input from external advisors.

On one hand, I’ve worked with families where the wealth owner runs everything with an Excel spreadsheet, with little input from other members or advisors. On the other hand, I’ve worked with families where a family officer is intimately involved in shaping and guiding these conversations.

Most importantly, I’d advise that a family takes the time to understand the wealth management landscape and the options that are available to them. These can range from a “standard” platform (where services are provided by a single bank) to a “constellation” of advisors, where counterparties offer different but complementary services.

 

8. What role can family tensions play?

I’ve witnessed situations where an external advisor has believed that “signing off” an agreement would resolve all of the family’s issues.

Of course, in reality these tensions are much harder to resolve. Particularly if a family hasn’t had the opportunity to discuss these tensions, or dispel any negativity.

So, I go back to the principle of transparency: individuals need to be able to clear the air, and work towards a shared vision.

Once a family is working effectively as a team, external advisors can then contribute with all the necessary agreements and documents. But without a lack of order and common understanding, this topic may cause more frustration than first imagined.

 

9. Let’s say a family experiences a significant liquidity event. What difference does this make to their investment governance strategy?

Whether the family has sold a business or received a significant inheritance, the act of becoming a responsible wealth owner requires work.

As mentioned before, an investment portfolio (i.e. liquid assets) requires wealth owners to consider:

• What they would like to achieve (wealth preservation, wealth creation, income generation, funding of projects, etc.)
• How they would like to achieve it (asset allocation, expected return, time horizon, risk tolerance, etc.)
• And who should be involved (assigning roles and responsibilities).

Unlike non-financial assets, liquid assets are subject to the often unpredictable, shifting forces of the financial markets. Documenting these elements in a suitable investment governance strategy can help the family plan for the medium and long term.

 

10. What impact do you believe the increasing role of technology will have?

Technology enables greater access to information – and as such, I believe it’s a positive development for more transparent conversations.

If everybody has the same access, if everybody has the information, then these conversations become more open – and even more democratic.

For more insights on the art of wealth planning, subscribe to Notes on Wealth Planning.