QUESTION PRESENTED
Does the investment of Austin D. S~'s conserved benefits satisfy the “prudent man” rule under Tennessee law when they are invested in the S/B High Growth A Aggressive
fund and the New Perspective Fund, Class A?
SHORT ANSWER
About half of Austin's benefits are invested in a high growth, aggressive mutual fund
and about half are invested in a highly speculative global mutual fund. However, both
funds appear to be reputable, diversified, mutual funds. While it would not appear
to be the most prudent investment strategy to place Austin's conserved benefits solely
in these two mutual funds, we cannot say with certainty that this investment strategy
rises to the level of imprudence.
ANALYSIS
Agency policy concerning a representative payee's responsibility to conserve and invest
excess benefits is set forth in the regulations. See 20 C.F.R. §§ 404.2045, 416.645 (2002). These regulations state that any excess benefits
beyond those used for current care and maintenance must be conserved and invested
in accordance with the rules of the state regarding trustees. Id. The regulations outline preferred investments of Savings Bonds and insured interest
bearing accounts. Id. Further, the Program Operating Manual System (POMS) provide instruction regarding
other investments. See POMS GN 00603.040. This POMS section states that the trustee rules which guide such issues are generally
determined under State law. Id. Thus, Tennessee law regarding the fiduciary duties of trustees controls when evaluating
the investment of Austin's conserved benefits.
Under Tennessee law, “[w]hen investing, reinvesting, purchasing, acquiring, exchanging, selling and managing
property, a fiduciary shall act not in regard to speculation but with the care, skill, prudence and diligence under the circumstances then prevailing
… that a prudent person acting in a like capacity and familiar with such matters would use ….” TN. ST. § 35-3-117(b) (2000) (emphasis added). This statute explicitly allows a fiduciary
to hold investments subject to the exercise of good faith and reasonable prudence,
discretion, and intelligence and in the best interest of the trust and its beneficiaries.
See TN. ST. § 35-3-117(c) (2000). The prudent investor rule does not generally classify
specific investments as prudent or imprudent Restatement (Third) of Trusts, § 227.
Although the rule imposes a duty of caution and a degree of conservatism in investing,
“reasonably sound diversification is fundamental to the management of risk,” and “trustees ordinarily have a duty to diversify investments.” Id. Further, a trustee's individual investment is to be judged by its role in the overall
trust portfolio and not in isolation. Id. Beyond the general principles of care, skill, and caution, five notable factors are
generally agreed upon by most investment experts. Id. These five factors include: (1) seeking the highest return for the lowest risk; (2)
an investment is not to be judged in the abstract but is to be considered in the overall
strategy and the anticipated effect of the portfolio; (3) diversification is fundamental;
(4) the amount and timing of cash needs and obligations must be considered; and (5)
departure from ordinarily suitable, diversified portfolio may be justified by special
circumstances or opportunities. Id. Given this imprecise standard and acknowledging that even investment experts disagree
about how to invest and even offer competing opinions and signals, id., we feel that our inquiry must focus on whether the overall investment strategy is
inherently imprudent, instead of whether a more prudent strategy might be possible.
As the facts have been presented, Austin's conserved benefits appear to be invested
in two mutual funds, split in almost equal parts in the S~-Barney High Growth A fund
and the New Perspective Fund, Class A. While both mutual funds appear to be reputable,
it appears that 100 percent of the conserved benefits have been placed in more speculative,
higher risk investments. First, the S~-Barney fund, by its own terms, has high growth
potential and is aggressive, more speculative, and riskier. Indeed, while this mutual
fund has had positive earnings over the five year period, its performance excluding
sales charges reveals losses for the year to date and over the past one year and three
year periods ending May 31, 2002. Second, the New Perspective Fund's webpage indicates
that while investment is diversified among blue chip companies in the United States
and abroad and that it seeks to provide long-term growth, it focuses on “opportunities generated by changes in global trade patterns and economic and political
relationships.” Reliance on the volatility of global trade patterns and economic and political relationships
seems rather speculative and riskier.
Although a less risky overall investment strategy would probably be more prudent,
we cannot state with absolute certainty that this investment strategy would be characterized
as imprudent, particularly given the general and imprecise prudent man standard. Tennessee
case law provides no guidance regarding whether investment in riskier funds is imprudent
or whether placing 100 percent of another's funds in higher risk investments is prudent
or imprudent. Nevertheless, the generally accepted principles of prudent investment
provide guidance. First, the trustee has diversified the investments, not only by
investing in mutual funds which are themselves diversified, but also by investing
in two mutual funds. Second, a general rule of thumb among many investment experts
is that younger investors can usually take greater risks and be more speculative,
placing larger percentages in riskier investments. Ordinarily, the amount of risk
should proportionally decrease as one ages. As the investments, here, are on behalf
of Austin who is a younger person and who can bear the brunt of risk over a longer
period, a standard of prudence would ordinarily allow a greater portion of riskier
investment. Third, the financial markets had been booming in the recent past, which
suggests that it might have been imprudent had the trustee not taken advantage of
such opportunities. Thus, investing in riskier funds in a booming market could have
been considered rather prudent. Finally, given Austin's age in light of the recent
decline in the financial markets, one might assert that it would be prudent to "ride
it out" and maintain the status quo. Pulling Austin's conserved benefits from these
mutual funds at this time, when the financial markets are significantly depressed,
might actually be considered imprudent.
CONCLUSION
As is evident, in light of the imprecise prudent man standard and also the absence
of Tennessee caselaw interpreting that standard or indicating what investment might
be imprudent, we have no firm legal basis for concluding that the trustee's investment
strategy here is imprudent, even though a more prudent and less risky strategy might
be available.