Swedroe: Endowment Returns Are Worsening

December 05, 2014

Despite the publicity surrounding the long-term investment performance of certain endowment funds, such as those belonging to Yale and Harvard, little has been known about the overall performance of university endowments until recently.

We are learning more these days, thanks to some solid research, including from Vanguard Group, and it's not terribly encouraging. Discouraging takeaways about investments at endowments may be growing familiar to readers of my blogs. I'll review a bit.

Earlier this week, we examined the results of a study that found that simple factor models explain almost all of the performance of endowments. We also learned that any apparent outperformance was explained by the strategic exposure to riskier (and generally illiquid) investments, not by any special skill in investment selection within an asset class.

The authors of that study, from 2013, concluded their results "suggest that manager selection and dynamic (or tactical) asset allocation do not generate alpha for top performing and elite institutions." And in examining the findings of another study, on the highly regarded Yale endowment, we saw that its authors came to the same conclusion.


Squeezing Water From Stone

The research team at Vanguard further contributed to our understanding of the performance of university endowments with its September 2014 paper, "Assessing Endowment Performance: The Enduring Role of Low-Cost Investing."

Vanguard noted that, over the past 25 years, there has been a dramatic shift in the investment approach of many endowments.

Previously, a balanced portfolio consisting of 60 percent stocks and 40 percent bonds was the norm. However, the recent performance of Yale's endowment fund has led to reduced allocations to public equities and increased holdings of alternative, less-liquid investments, such as hedge funds, private equity and private real assets.

Vanguard observed that as of June 30, 2013, the largest endowment fund portfolios averaged about 60 percent alternatives. The question is: Has the investment in riskier, less-liquid investments paid off?

The Evidence

Researchers at Vanguard found little evidence of outperformance even before adjusting for incremental risks, such as illiquidity. The table below shows the average annualized returns of endowments versus a 60 percent stock and 40 percent bond benchmark, as of June 30, 2013.

  5 Years (%) 10 Years (%) 15 Years (%) 20 Years (%) 25 Years (%)
All Endowments 3.8 6.8 5.6 7.7 8.4
60% Stock/40% Bond Benchmark 5.9 7.4 5.7 7.6 8.3


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