Fortune Magazine, Dec 2016

Speed Read

Through 2016, the average university endowment has had a poorer record—over one year, three years, five years, and 10 years—than the average public pension fund. The average endowment earned 6.3% a year over the previous 10 years, compared with 6.8% for a 60%/40% blend of U.S. stocks and bonds. Harvard’s HMC has just sacked half its staff, and decided to outsource almost all asset management.

Three reasons are proposed in the Fortune article for this generic underperformance.

Firstly, complexity – at endowments on average, 20 outside managers are overseen by 2 full-time staff. Do the endowments know what they own? Secondly, competition – there has been a massive flow of money into illiquid assets, such as Private Equity and Alternative funds. Finally, endowments have backed the concept of beating the efficient markets – in fact, maybe they can’t be beaten? The author, Roger Lowenstein concludes by suggesting that endowments are in fact exhibiting short term behaviour, when their advantage is supposed to be their time horizon.

LIO View

The return statistics don’t lie, so what is behind this apparent failure?

LIO agrees that an oversight ratio of 1:10 is woefully inadequate, especially if non-investment oversight is also considered. Employing external experts to manage specialist asset classes is sound, but there must be sufficiently skilled oversight.

LIO is not convinced the weight-of-money argument into illiquid assets is the problem. There is certainly a premium to be earned from illiquidity – all market structures, through their pricing, clearly show that. What has driven this relative underperformance, has been the unique driver of both public equity and bonds markets – central bank interference in wholesale money and bond markets. The last 8 years have seen an unprecedented fall in ALL interest rates, making it almost impossible not to make money on financial assets.

20yr UST Yield history


The time to return to investing in illiquid assets is exactly when that trend breaks down – which appears to be about now.

The final point made in the article is illogical: it is diversification which brings the superior risk-adjusted returns. All markets could be efficiently priced and this would still be true. We’ll give the author a B 🙂

LIO Conclusion

Staff your Investment Office appropriately, to oversee external managers. Stick to investing your available illiquidity, it is the endowment’s natural advantage. And maintain diversification to maximise risk-adjusted returns. In the long-run, this will pay off.