Monday, October 15, 2012

When 60/40 Is Good Enough

Last Saturday, New York Times columnist James Stewart took a hard look at the investment returns of some of the most prominent university endowments, and found the results wanting.

Harvard, for example, reported a loss of -0.05% for the year ending June 30, 2012, while the S&P 500 gained +5.5% during the same period. Other university endowments are expected to have similar results.

The culprit appears to lie with the strategy of investing heavily in so-called alternative asset classes, and avoiding the "boring" strategies of the past which focused largely on the more traditional stock and bond investing.

Here's what Mr. Stewart wrote (I added the emphasis):

Even more startling, data compiled by the National Association of College and University Business Officers for the 2011 fiscal year (the most recent available) show that large, medium and small endowments all underperformed a simple mix of 60 percent stocks and 40 percent bonds over one-, three- and five-year periods. The 91 percent of endowments with less than $1 billion in assets underperformed in every time period since records have been maintained. Given the weak results being reported this year, that underperformance is likely to be even more pronounced when the fiscal year 2012 results are included.

These results, by the way, are not just of academic interest (pardon the pun).

Most universities rely on the investment returns from their endowments to support ongoing campus activities.  When shortfalls occur, or when results are less than budgets, cuts have to be made.

For example, my son Michael is attending Wesleyan University. 

Wesleyan has always had the reputation of being one of the more progressive liberal arts colleges, and Michael reports that Wesleyan continues this tradition today.

However, President Michael Roth of Wesleyan announced two weeks ago that Wesleyan was ending its "needs blind" admission policy.  The reason?  The size of Wesleyan's endowment is no longer sufficient, i.e. returns have not kept up with budgetary requirements:

 MIDDLETOWN, Conn. (AP) — Wesleyan University is ending its policy of remaining "blind" to all applicants' financial needs while considering them for admission, saying it doesn't have enough money....

The university's endowment was hit hard by the 2008 financial crash and more students needed financial aid. Wesleyan's endowment has rebounded to about $615 million, but the school has had to raise tuition to nearly $60,000, making it one of the most expensive schools in the country.

Last August I wrote about the experience of Norway's  Government Pension Fund Global (GPFG).

The returns of this massive government sponsored fund have beaten nearly every other large global pension fund for a very simple reason:  since inception, it has maintained an allocation of - you guessed it - 60% stocks and 40% bonds:

GPFG has proven to be one of the most recognized and successful funds in th world.  Although the government can withdraw up to 4% of the fund's assets each year to supplement fiscal budgets, the fund is now expected well beyond the expected life of some of its natural resources.

Interestingly, however, its current asset allocation is a very traditional mix of 60% stocks and 40% bonds - the same "boring" allocation that many money managers advocate for their clients. In recent years the fund has considered adding 5% in real estate, but it has moved in this direction slowly.