Jay A. Yoder's new book, "Endowment Management: A Practical Guide," is an enlightening primer, not only for trustees of college and university funds, but also for trustees of pension funds.
It is a manual of valuable insights into sound investment management, applicable to all fiduciaries. To capture the flavor of his book, one needs only to see how he addresses the issue of volatility.
"One widely held (though completely misguided) view is that volatility of returns does not matter for long-term investors such as endowments or foundations," he writes. "This thinking is wrong. … (L)ower volatility translates into higher returns. … What is less well known is that even for two endowments with identical, long-term compounded rates of return, the one with the lower volatility will grow to a larger size." (The emphasis on compounded is his.)
In his book, published by Association of Governing Boards of Universities and Colleges, Washington, Mr. Yoder includes chapters on writing a strong investment policy statement, implementing policy, asset allocation, and hiring and firing money managers.
He writes with an authoritative confidence, which he earned with his experience. Mr. Yoder, chief investment officer of Tuckerbrook Alternative Investments LLC, Boston, was director of investments for the nearly $1 billion endowment of Smith College, Northampton, Mass., which he left in January. Prior to Smith, he was director of investments at $700 million endowment of Vassar College, Poughkeepsie, N.Y.
The book is a thoughtful analysis of problems faced by fund fiduciaries and offers prescriptions for improving investment management. The book is well researched. Mr. Yoder draws on other experienced professionals in the business as well, stuffing the book with constructive insights in anecdotes based on their policies. Among them, he cites Douglas B. McCalla, chief investment officer of the $3.1 billion fund of the San Diego City Employees' Retirement System, who has proposed a rebalancing decision rule, "based on equal probability bands around each liquid allocation." The bands vary depending on "the relative volatilities of the various assets, the correlations among of the various allocations, the cost of shifting the assets," and other factors.
Mr. Yoder emphasizes that a fund needs foremost to have a strong investment policy. He lays out in some detail the seven major components such a policy should contain — among them are return objectives, relevant risks, provisions for rebalancing and benchmarks. The seventh and final component he suggests is "an explicit statement on indexing."
"It is generally accepted that the U.S. stock and bond markets are very efficient," he writes about that seventh component. "Logic dictates, and historical evidence confirms, that the average active manager in these two asset classes will underperform an appropriate index over long periods of time," accounting for manager fees and transaction costs. "I don't believe this logical conclusion is even debatable. … Even in the small-cap arena, which is generally believed to be less efficient, only 50% of surviving small-cap managers were able to outperform the Russell 2000 index over a 20-year period."
As he points out in his book, ERISA raised the standard for fiduciaries from prudent man to prudent expert. "Although ERISA technically applies only to pension plans," he writes, "it represents a formal codification of trust law and … provides a framework for what is expected of all fiduciaries." That higher standard means "acting as an intelligent lay person would act no longer is sufficient to meet one's fiduciary duty. Fiduciaries now must act in a manner consistent with the actions taken by experienced and knowledgeable investors."
Fiduciaries, including many at public pension funds who often acknowledge their limited knowledge of fund management issues, should read this book.