We consider spending rates and reserves in light of economic conditions.
For some time, charities have been faced with a difficult backdrop. The easing of government support following the pandemic, soaring inflation leading to increased costs, and a cost-of-living crisis resulting in higher demand, have forced many charities to reconsider their reserves policies. We believe a robust policy is an essential tool for communicating with charity stakeholders, such as donors, and that it should be renewed regularly in light of changing economic conditions.
Reserves, investment and sustainable withdrawal
The challenges faced by charities were made clear in the 2022 Newton Charity Investment Survey, which revealed that the majority of charities surveyed had experienced an increase in demand, with smaller charities feeling the most pressure. The survey also showed that for those charities that expected the pandemic to have a lasting impact on their investment policies, their reserves policy was most likely to be reviewed. Interestingly, our findings demonstrated that charities’ view of what a sustainable withdrawal rate from their portfolios is continues to change, with an increasing number of respondents considering the rate to lie in the 2% to 2.9% range. A sustainable withdrawal rate is key to finding the right balance between spending on today’s beneficiaries and keeping enough back so as not to short-change beneficiaries in the future. It is a powerful tool to help understand where the line in the sand is, make informed decisions, and plan a reserves policy effectively.
Outcomes of an effective partnership
We have worked with a number of our charity clients to help ensure that trustees have the critical information they need to navigate difficult financial decisions, in particular in relation to their sustainable withdrawal rate. We highlight some recent examples of where charities have made changes to their policies.
Case study 1: A benevolent charity that supports key workers with welfare grants was facing the triple impact of increased demand, the cost-of-living crisis and the pandemic legacy, with economic factors disproportionately affecting its beneficiaries. Trustees explored sustainable withdrawal rates and made the decision to temporarily increase the withdrawal rate from the portfolio to meet the needs of beneficiaries. The charity was able to set clear time frames and conditions around increased spending, as well as mitigate any reputational risk by providing clear and transparent communication.
Case study 2: A university endowment was facing similar challenges in terms of the pressure of increased demand and the cost-of-living crisis. After we worked closely with trustees of the endowment to better understand what a sustainable withdrawal rate looks like for them, they made the decision to permanently increase the withdrawal rate from their portfolio. In addition, trustees increased the fundraising target, highlighting the importance of the withdrawal-to-fundraising ratio. Major donors are a significant source of income for the endowment, and so the trustees understood that donors would be more likely to give and support the university if spending compares favourably with peers.
Working with your investment manager
Faced with this challenging backdrop, charities may wish to ensure they are extracting as much value as possible from the relationship with their investment managers. It is important that trustees maintain an open dialogue about how their spending priorities, costs or demand for services may be changing, and are also clear on their thoughts relating to risk, to ensure their investments remain aligned. In addition, charities can leverage their investment manager’s insights on the economic outlook and interrogate their investment philosophy and practice to ensure that it is optimal for the current environment. Finally, many investment managers offer other value-add services. For example, at Newton, we provide trustee training, thought leadership, seminars and round-table discussions so that our charity clients can make the most of the expertise that we have on hand.
Your capital may be at risk. The value of investments and the income from them can fall as well as rise and investors may not get back the original amount invested.
This is a financial promotion. These opinions should not be construed as investment or any other advice and are subject to change. This document is for information purposes only. Any reference to a specific security, country or sector should not be construed as a recommendation to buy or sell investments in those securities, countries or sectors. Please note that holdings and positioning are subject to change without notice.
