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Trustees - Prudent Investor Legislation

Nearly every state across the country has recognized the value of cost-efficient, diversified investment strategies and adopted prudent investor legislation which requires trustees and other fiduciaries to follow strict guidelines when managing money for the benefit of others. These new guidelines embrace Modern Portfolio Theory and require that trustees carefully balance risk and reward in employing proper asset class diversification strategies. Importantly, trustees are also required to scrutinize all investment management costs in an effort to avoid wasteful practices.

In light of these mandates, the American Law Institute has explicitly recommended the use of cost-efficient indexing strategies by trustees (and noted the inability of active money managers to beat their index benchmarks). In the Restatement Third of Trusts: The Prudent Investor Rule, the institute makes the following statements:

“[I]nvestors are confronted with potent evidence that the application of expertise, investigation, and diligence in efforts to “beat the market” in these publicly traded securities ordinarily promises little or no payoff, or even a negative payoff after taking account of research and transaction costs.” (p. 75, emphasis added)

The Restatement Third continues:

“Current assessments of the degree of [market] efficiency support the adoption of various forms of passive strategies by trustees, such as reliance on index funds.” (p. 76, emphasis added)

And a cautionary warning is included for trustees who choose to implement actively managed investment strategies:

“[R]ealistic, cautiously evaluated return expectations of active investment programs must justify these extra costs and risks. The greater the trustee’s departure from one of the valid passive strategies, the greater is likely to be the burden of justification and also of continuous monitoring.” (p. 79, emphasis added)

At IndexEdge, our advanced indexing strategies are developed to be fully compliant with the terms of the new Prudent Investor Rule. In addition, we offer fiduciary investment education programs for personal and institutional trustees to help them better understand and meet their complex obligations under the law.

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