Post-crisis pressure on U.S. endowments to provide a greater portion of the colleges' and universities' operating budgets has put a new premium on liquidity and long-term asset growth that's resulting in asset allocation changes.
Average cash holdings are up significantly, investment in long-only domestic equity is down, and allocations to alternative investments are rising, especially to more liquid vehicles and asset classes such as hedge funds, commodities, TIPS and other real assets.
Sources said chief investment officers are coping with two disparate goals in managing their portfolios: having enough ready cash to meet their institutions' higher spending rates; and growing the endowment in perpetuity.
Higher-education finance departments are feeling the stress of lower income from traditional sources — alumni donations, grants, tuition increases — while simultaneously coping with rising operating costs and higher debt levels. The upshot at many schools is a greater reliance on the endowment to plug holes in the operating budget.
As a result, CIOs are more focused than they were before the 2008 market crisis on maintaining liquidity and controlling volatility so the value of the endowment and investment returns are less vulnerable to market impacts.
The problem is that it will take a few years just to bring endowment pools up to their pre-crisis levels, said Verne O. Sedlacek, president and CEO of Commonfund, Wilton, Conn.
“Though 2010 was an excellent year in terms of performance, not all endowments are out of the woods yet,” Mr. Sedlacek said during a news briefing last month. He noted that assets of the majority of U.S. endowment funds still are about 25% lower than they were at the end their 2007 fiscal year. He predicted it will take “at least three or four more years of good markets before endowments return to their 2008 pre-crisis levels.”
At least one source is less optimistic.
Analysis of 110 years of market data indicates “it takes a fairly long time — decades, rather than years — to recover from a sharp market shock,” said Celia Dallas, co-director of research at investment consultant Cambridge Associates LLC, Boston. Ms. Dallas made her remarks in a presentation about volatility at the National Association of College and University Business Officers' January endowment management conference in New York.
In order to preserve the present value of the endowment, CIOs have honed in on volatility control and risk management.
“We've been talking to endowment clients about volatility since 2008 and have counseled that it is here to stay. The question is whether you can live with volatility and how you manage it,” Keith Luke, managing director at Commonfund, said during an interview in his office in Wilton.
Mr. Luke said endowment CIOs are dealing with volatility on the investment side through a renewed emphasis on tail-risk hedging to control the impact of market movements on the portfolio.
“Volatility's impact on the endowment portfolio “has real implications for how you can meet the spending rate set by the university. You have to control the risk of volatility through asset allocation, seeking truly non-correlated alpha,” Mr. Luke said.
And diversifying the portfolio and ensuring ready liquidity is what the majority of U.S. endowment funds have been doing, according to data from the 2010 NACUBO-Commonfund Study of Endowments.