Now that we have established the Investment Account, it is important as a DAO to consider how we plan to manage the investment portfolio. To be most effective, we propose documenting objectives, constraints, and governance mechanisms to clarify responsibilities.
Institutional investors typically do this by utilizing a standardized document referred to as the Investment Policy Statement (IPS). According to the CFA Institute, an IPS serves as a strategic guide that:
- Plans for appropriate asset allocation and implementation (e.g. governance, constraints, manager selection).
- Establishes accountability
- Serves as a policy guide that can offer an objective course of action to be followed during periods of market disruption when instinctive responses might lead to less prudent actions
Given that DAOs are less structured than traditional institutional investors, it is our belief that the IPS as a governing document becomes even more vital to the success of the investment program. This proposal will serve as the initial draft of the IPS.
The assets of the Investment Account are intended to:
- Preserve capital
- Generate an income sufficient to preserve Index Coop in any market environment
- Minimize idiosyncratic risk through diversification
To fulfill the Investment Account’s mission over the long term, the portfolio should achieve at least a 10% return as measured in USD over a rolling three year period. Performance will be measured at the total portfolio level.
Individual investments will be assessed for their impact on the total portfolio’s risk/return characteristics, rather than on the individual investment’s specific characteristics, in line with modern portfolio theory. For example, a high-risk investment isn’t necessarily precluded from a conservative, low-risk portfolio as long as it is properly within the total portfolio’s risk budgeting constraints. Oftentimes, assets of varying risk when combined actually reduce overall risk. This is why even the lowest risk traditional portfolios still include allocations to stocks.
Institutional investors (e.g. pension funds, sovereign wealth funds, endowments, foundations) all typically have long investment horizons and relatively low liquidity needs. Cash outlays tend to be modest as a percent of assets under management, with net payouts typically around 5% or less.
The Investment Account’s time horizon and liquidity constraints will be indefinite and minimal, respectively. Ability to liquidate the majority of the portfolio at any time is preferred, but lockup of capital is tolerable for up to 25% of the investment portfolio at any given time.
A long-term asset allocation in investment planning is referred to as the “strategic asset allocation”. It is an asset allocation that is expected to achieve our investment objectives given our investment constraints and risk tolerance as outlined in this document.
Diversified buy-and-hold passive investing is the easiest approach to building wealth, and it tends to outperform active management after accounting for transactional costs. Here at Index Coop, we understand the value of index-based investing, so it makes sense for our asset allocation and investment selection to align with our philosophy.
The actual strategic asset allocation and investment selection will be defined in a future proposal. However, it will ultimately be based on the risk tolerance, investment objectives, and constraints determined here.
The portfolio should be periodically rebalanced. Rebalancing is the discipline of periodically adjusting the portfolio allocation weights to align with the strategic asset allocation. Even without changes in market conditions or investor circumstances, normal fluctuations in prices can necessitate rebalancing.
At minimum, rebalancing will be done at least once a year. Ideally, the Investment Account will also be rebalanced if an asset class deviates from our defined weighting outlined in the strategic asset allocation by greater than 10%. For example, if the target allocation to an asset class is 50% of the total portfolio value, rebalancing would be triggered if it fell to 45% or grew to 55%. Rebalancing will be handled by the Treasury Working Group committee, and discretion will be used to minimize the frequency of rebalancing during periods of market volatility. The end goal will be to maintain target portfolio allocations over the medium term. Additionally, the TWG will routinely review performance and investment selection on a quarterly basis to ensure we are in line with our goals.
It is also important to outline a plan to divest INDEX without negatively impacting price as part of our rebalancing plan. Here are some ways that have been explored by other DAOs:
- Creation of a calendar-based rebalancing plan. This might look like a plan to divest x% every quarter until we reach our asset allocation target.
- DAO Treasury token swaps. Other DAOs have begun examining their treasuries and equally understand the importance of diversification. Strategic partnerships where we mutually trade our native tokens could help all parties involved. If we partake in this strategy, it will be important to have vesting constraints to avoid them dumping our token on the secondary market.
- Earning revenue in other tokens. This would occur slowly over time, but Index Coop does accrue streaming fees in underlying tokens. For example, our treasury has begun to accumulate FLI-ETH2x from streaming fees. This could be factored into our diversification plans.
- Over the counter (OTC). This can be done by bringing on strategic partners (e.g. investors or institutions) or by facilitating trades with larger investors directly from the treasury account.
It is our belief that these options are not mutually exclusive and can be performed in tandem. To kick off the divestment, we are currently exploring an INDEX sale and Smart Treasury Balancer pool to divest 20-30% of our current treasury.