American university endowments have long been held up as models of a new form of investing. The so-called “Yale model” is standard fare at industry conferences and the recent travails faced by Harvard’s endowment have scratched a Schadenfreude itch felt by many commentators. Way back in January 2007, The Economist raised the possibility that these beacons of alternative investing may someday have to pay the piper (see related post)…
“Simply putting 20% into hedge funds is no longer enough. The big test of their prowess will come when lax credit conditions tighten. John Griswold of Commonfund thinks that some investment committees, stuffed with alumni, may be starting to lose track of the risks their endowments are taking.”
Investment committees may indeed have been aware of the risks they were taking with alternative investments. As a result, they under-weighted the traditional risks of long-only equity (known by previous, more cautious generations as “playing the market”) and instead invested in alternative strategies.
According to new data from The National Association of College and University Business Officers (NACUBO) and Commonfund, that move paid off handsomely in 2009. The average return from domestic equities was -25.5% while the average return from international equities was -27.6%. Meanwhile the average return from hedge funds was only -12%. Thankfully, hedge funds (a.k.a. “marketable alternative strategies”) represented about a quarter of the average portfolio on a dollar-weighted basis).
Returns for alternative investments ranged from a high of 12% for hedge funds to a low of -36.7% for “commodities and managed futures” (note: we surmise that long-only commodities accounted for most of this since managed futures indexes were generally flat on the year).
Taken as a whole, these numbers reflect pretty well on university endowments. Their equities beat the S&P 500 and their hedge funds bettered most hedge fund indexes by around 8%.
For the first time, alternatives represented over half (51%) of all endowment portfolio assets. But as usual, this number was much lower among smaller institutions. (See table below from NACUBO – click to enlarge). In fact, big endowments appear to invest 3 times as much of their portfolio in alternatives.
However, there is one category where smaller endowments lead their larger brethren – the proportion of their alternative investment allocation going to hedge funds (vs. private equity and other alternative investment classes). As the following table shows, the proportion of capital allocated to hedge funds is 50% greater among small endowments than it is amongst large ones.
Data in the full version of the report shows that the equal-weighted average allocation to “marketable alternative strategies” (the closest proxy to last year’s “hedge fund” category) was 13.5%. So hedge fund allocations seemed to actually grow last year (by virtue of losing less, rather than necessarily attracting more dollars, we’re guessing).
Marketable alternatives aside, the overall “alternative strategies” category commanded over 60% of the assets of mega-endowments (a number that was noted recently in this Reuters article by two AllAboutAlpha.com contributors – Mebane Faber, CAIA, and Michael Crook, CAIA).
Commonfund’s Bill Jarvis tells us that this year’s survey asked more detailed questions about exactly which types of alternative investment strategies were being pursued by endowments. He explained to us that the pace of evolution of alternative investments was such that old labels such as “hedge fund” no longer suffice.
While the reorganization of the alternative investments categories does make an apples-to-apples comparison with last year’s “hedge funds” a little difficult, it does signal that previously disparate asset classes such as hedge funds, private equity, real estate and commodities are finally coming together under the “alternative investments” umbrella. And as Jarvis points out, it also shows how dynamic this asset class has become as it grows beyond its hedge fund roots.