Scope of investment authority: Overview, definition, and example
What is the scope of investment authority?
The scope of investment authority refers to the specific powers and limits granted to an individual or entity to make investment decisions on behalf of another party, such as a company, fund, or individual investor. This authority outlines the extent to which the person or entity can make decisions regarding investments, including the types of assets they can invest in, the risk level they can take on, and any limitations on their actions.
For example, an investment manager may be given broad authority to invest in a variety of assets like stocks, bonds, and real estate, while another might only be authorized to invest in certain sectors or within specific geographic areas. The scope of investment authority is often defined in investment management agreements, trust documents, or corporate bylaws and helps set clear expectations for the decision-making process.
Why is the scope of investment authority important?
The scope of investment authority is important because it ensures that investment decisions are made within agreed-upon guidelines, protecting the interests of the party that has delegated the authority. By defining the limits of this authority, businesses and individuals can manage risk, ensure compliance with their investment goals, and prevent unauthorized or inappropriate investment decisions.
For businesses or organizations, this ensures that their managers or financial advisors operate within the boundaries of their investment strategies and risk tolerance. It also helps avoid conflicts of interest, ensures proper oversight, and provides clarity on what is permissible under the investment mandate.
Understanding the scope of investment authority through an example
Imagine a company hires an external fund manager to handle its investment portfolio. The fund manager is given a specific scope of investment authority, such as the ability to invest in domestic stocks and bonds but not in international markets or alternative investments like cryptocurrencies. The scope of authority might also limit the amount of risk the manager can take on, such as requiring investments to stay within a certain risk rating or mandate.
For example, the company might specify that the fund manager can invest up to $10 million in stocks but cannot exceed 20% of the portfolio’s value in high-risk assets like speculative tech stocks. This ensures that the fund manager acts in line with the company’s overall financial strategy and risk tolerance.
Example of a scope of investment authority clause
Here’s an example of what a scope of investment authority clause might look like in an investment management agreement:
“The Investment Manager is hereby authorized to make investment decisions on behalf of the Client in accordance with the investment objectives and guidelines specified herein. The Manager may invest in publicly traded equities, fixed-income securities, and mutual funds, provided that no more than 30% of the portfolio’s value is allocated to high-risk investments, including but not limited to speculative stocks or commodities. The Manager shall not invest in private equity, hedge funds, or any other alternative investments without prior written approval from the Client.”
This clause sets clear boundaries for the investment manager, detailing what types of assets they are allowed to invest in and the limits on the level of risk.
Conclusion
The scope of investment authority is a key element of any investment arrangement, helping to define the limits of decision-making power and ensuring that investments align with the objectives and risk tolerance of the party granting the authority. For investors and businesses, clearly outlining the scope of investment authority helps maintain control, reduces the likelihood of unauthorized decisions, and ensures that investments are made in line with the broader financial strategy. Having a well-defined scope of investment authority can protect against financial losses and ensure that investment practices are transparent and aligned with expectations.
This article contains general legal information and does not contain legal advice. Cobrief is not a law firm or a substitute for an attorney or law firm. The law is complex and changes often. For legal advice, please ask a lawyer.