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The Risk/Return Trade-Off and Modern Prudent Fiduciary Investing

Contributor Scott Simon explores the origins of the "central consideration" required of fiduciaries.

This month, I'm delving into the origins of the fundamental, underlying premise of modern prudent fiduciary investing which, as noted in last month's column, I think of, collectively, as the 1992 (and subsequent updates) Restatement (Third) of Trusts (Restatement) plus the 1994 Uniform Prudent Investor Act. In my view, investment fiduciaries as well as those who advise them--such as attorneys, accountants, and other professionals concerned with issues of fiduciary obligation and legal liability--should have some familiarity with this subject matter.

The Prefatory Note to the UPIA states the premise of modern prudent fiduciary investing: "The trade-off in all investing between risk and return is identified as the fiduciary’s central consideration." Section 2(b) of the UPIA appears to mandate the use of a risk/return analysis: "A trustee's investment and management decisions respecting individual assets mustbe evaluated not in isolation but in the context of the trust portfolio as a whole and as a part of an overall investment strategy having risk and return objectives reasonably suited to the trust." Commentary to section 2 of the UPIA adds: "[section 2(b) of the UPIA]…sounds the main theme of modern investment practice, sensitivity to the risk/return curve…Investment risk and return are strongly correlated."

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