
University Endowment Sued for Under performing the S&P 500 - kamaraju
https://www.institutionalinvestor.com/article/b1ml4nng27k0ln/University-Endowment-Sued-for-Underperforming-the-S-amp-P-500
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smabie
Beating the S&P on a return basis is totally irrelevant. Almost any
diversified portfolio will have a lower absolute return than the S&P and a
higher risk-adjusted return. If a school's endowment had the same return and
volatility of the S&P 500, that would be quite disturbing.

An endowment should be diversified across asset classes (metals, real estate,
equities, bonds) and strategies (PE, hedge funds, VC, etc) and have a moderate
but stable return stream.

A core component is usually the S&P 500, with the rest invested in assets and
strategies that have low correlation to the market.

We don't know the volatility of the endowment, so maybe it is just shitty, but
having a lower return than the S&P is to be expected. And if it did match the
S&P, that would indicate to me that perhaps too much risk is being assumed.

Non finance people make this mistake all the time, thinking that return is
something anyone cares about. Return is synthetic, in that any positive return
can be trivially leveraged up to whatever number you desire. Because of this,
what matters is the Sharpe ratio, because it gives you a blueprint of sorts:
it tells you how your volatility and return will scale with leverage.

~~~
slg
>If a school's endowment had the same return and volatility of the S&P 500,
that would be quite disturbing.

Why? I understand why this is the case for smaller investors like individuals,
but for a school endowment isn't the sheer size of the endowment and the
theoretically near infinite investment time horizon part of the risk
management? Some years or even some decades it will be down, but they aren't
investing with the intent to spend any sizable portion of that money anytime
soon.

~~~
TheCoelacanth
Maybe for somewhere like Harvard that has an absolutely ludicrously sized
endowment, but a more normal university can't really afford to absorb losses
like that.

They need to withdraw from the endowment every year to pay expenses. If the
stock market plunged and then they locked in losses by selling to pay
expenses, they would run a real risk of having long term losses.

~~~
zhoujianfu
I’m on the investment committee of the board of a small school with a $300M
endowment, and every year 4% is budgeted to be withdrawn to go towards school
expenses.

I am new, but I find it silly they pursue this very active management,
diversified across tons of different (managed) funds. I feel like they should
be putting everything in whatever has the highest long term return (they have
access to sequoia funds and those have consistently beat the market, yet only
1-2% goes to them), regardless of illiquidity, since their time horizon is
infinite. And use borrowing to handle yearly distributions.

But due to the management structure (40+ board members, 8 on the investment
committee, a team of 6 professionals who manage the money), this sort of
strategy would never be considered “prudent” enough to make it through all the
approvals needed.

~~~
throwawaygh
Harvey Mudd? 300M at a small college is actually a quite large endowment, and
HMC is tiny even by small college standards.

The institution I work with has less than 100M and is on the larger side of
small. If we had 300M and a faculty/facilities layout built for ~700 instead
of ~3000 then life would be completely different.

I agree with you in general -- both that the active management is dumb and
also the most probable reason small colleges pursue this strategy. But HMC can
probably afford investment strategies that most others cannot.

~~~
zhoujianfu
Yeah, but it seems like any sort of “permanent fund” where the timeline is
infinite should be doing really aggressive, long-term, illiquid stuff, right?
Investing like a 22 year old. And then any liquidity needs you need for annual
distributions you handle via loans.

I feel like I could make an investment product where I pay you 4% of whatever
you invest, per year, forever... but you can never get your original
investment back. It seems like this would be a product all
endowments/permanent funds would use. And then I just put it all in the s+p
500. I guess I’d need to be the government for endowments to trust me forever
though.

~~~
throw0101a
> _I feel like I could make an investment product where I pay you 4% of
> whatever you invest, per year, forever..._

It seems that you have _heard about_ the "four percent rule", but probably
have not needed to actually look up the details. It is from something called
the Trinity study (also see Bengen and recent Wade Pfau) and there are
important details about it:

> _The 4% refers to the portion of the portfolio withdrawn_ during the first
> year _; it is assumed that the portion withdrawn in subsequent years will_
> increase with the consumer price index* _(CPI) to keep pace with the cost of
> living._

* [https://en.wikipedia.org/wiki/Trinity_study](https://en.wikipedia.org/wiki/Trinity_study)

* [https://en.wikipedia.org/wiki/William_Bengen](https://en.wikipedia.org/wiki/William_Bengen)

Further it is/was focused only on thirty-year retirement time horizons, not
the infinite-horizons of perpetual institutions. It is probably not even
appropriate for the 'retire early' (FIRE) movement that is somewhat popular in
recent years:

* [https://www.pwlcapital.com/the-4-rule-for-retirement-the-tri...](https://www.pwlcapital.com/the-4-rule-for-retirement-the-trick-is-in-the-timing/)

* [https://www.youtube.com/watch?v=3BScK-QyWIo](https://www.youtube.com/watch?v=3BScK-QyWIo)

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DevKoala
Some of these large asset managers are awful. Last time I was looking at the
people managing California Public Employee Retirement System fund, and it was
making abysmal moves all over the place. I felt sorry for the people with
their savings there.

~~~
ac29
CalPers had returns of 4.7%, 6.7%, 8.6%, and 11.2% for the past 4 fiscal
years. This is better than a 60/40 portfolio, which doesnt seem unreasonably
conservative for a pension fund to me. Of course in hindsight you can see how
they could have done better, but they certainly could have done worse.

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alexanderdou
From the article, it appears that the suit hinges on a claim that “The CU
Foundation has underperformed the S&P 500 fund by approximately 5.49 percent
per year from 2010 to 2019.”

Does anybody have experience here? Is this an actual case? It seems kind of
easy to cherry-pick historical dates that some investing body _could have_
allocated resources some other way.

It's worth noting that he does have skin in the game: he's donated $5M to the
foundation over the years, but isn't that kind of the risk you take by giving
your money over to someone to manage? That they might make choices that you
might not?

~~~
solaxun
Not a lawyer, but I doubt it's a case. Endowments have much longer investment
horizons and typically lower risk appetite that wouldn't typically have an
investment policy tilted towards 100% equities. They likely have a fair amount
of investment in fixed income, which is always going to under-perform equities
in the long run.

That said, ~5.5% below the market every year is a pretty shitty result, at
least worth putting someone's feet to the fire over.

~~~
Lazare
> Endowments have much longer investment horizons and typically lower risk
> appetite that wouldn't typically have an investment policy tilted towards
> 100% equities.

That does make some sense, but actually endowments typically invest quite a
bit in in riskier asset classes. From
[https://caia.org/aiar/access/article-1160](https://caia.org/aiar/access/article-1160):

> The average US endowment fund held roughly 70 per cent in traditional asset
> classes (public and private equity, bonds and cash) with the remaining 30
> per cent invested in alternative assets.

Alternative asset classes basically means "anything other than stocks and
bonds", and includes stuff like derivitives, commodities, PE deals, venture
capital, etc. And CU's investment in alternative asset classes is called out
explicitly in the complaint.

So I don't read this as a complaint that CU is playing too _safe_ , it's that
they made too many risky bets, and lost.

I'm not sure that makes the law suit any more viable, but "the endowment
gambled away my donation" is a much more sympathetic complaint than "the
endowment sunk my donation into bonds instead of gambling it like I'd hoped"!

~~~
smabie
The alternative assets are less risky, because they have less market exposure,
and when uncorrelated (or less correlated) return streams are mixed together,
the volatility of the portfolio is reduced.

It's very common that a shitty investment with high volatility and low returns
can actually improve the risk adjusted returns of a portfolio. Like gold, for
example.

Also, hedge funds are significantly less risky than holding the S&P 500, since
most funds have less than 100% net long exposure. And market neutral funds
have 0% net long exposure.

~~~
rmrfstar
> The alternative assets are less risky, because they have less market
> exposure

If you're including PE in there, you are way off base. According to the
assumptions in BlackRock's Aladin platform, global buyout has an equity beta
of something like 1.6.

~~~
smabie
I mean, that's just one, old, moderate sized fund. I couldn't tell what PE's
total beta exposure is, but I would unsurprised if the variance between
different funds is very, very, large.

Moreover, beta doesn't capture the whole picture. By any chance do you know
what the funds correlation to the broader equity market is?

~~~
rmrfstar
That is their assumption for global buyout as an asset class. You can grab
their allocation assumptions at [1]. There is a "Download data" button on the
page with the assumptions for a variety of base currencies.

You can also back out a ballpark beta from the MM theorems and what we know
about company leverage post LBO. See [2] foot note 6.

[1] [https://blackrock.com/institutions/en-
us/insights/charts/cap...](https://blackrock.com/institutions/en-
us/insights/charts/capital-market-assumptions)

[2] [https://www.aqr.com/Insights/Research/White-
Papers/Demystify...](https://www.aqr.com/Insights/Research/White-
Papers/Demystifying-Illiquid-Assets-Expected-Returns-for-Private-Equity)

~~~
smabie
Thanks, I thought you were talking about the global buyout fund. Will check it
out. AQR and Blackrock do really great stuff

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tunesmith
This guy sounds like an idiot. He's picking the last ten years and comparing
it to the S&P? The foundation is probably more risk-averse and would probably
lose less in a bear market than the S&P.

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xxpor
What's his theory of even having standing in the first place?

~~~
throwawaygh
Who knows. He's a large donor, but donors have trouble suing institutions over
conditional gifts. So even if he made a gift that was conditional on beating
the S&P, which would be a rather extraordinary string to attach to a gift,
odds are stacked against him.

Guess: he knows he doesn't have a winning case but wants to raise hell. If the
fund moves to more passive management then he won either way.

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bluedevil2k
He makes a good point about paying tens in millions in fees to outside
investment managers. Their fees are never worth it. I would imagine the entire
investment management team could be a group of 5 people with investment
experience who decide how to allocate the money into different Vanguard funds.
Returns would be the same, maybe higher when you take out the 1-2% that
management is taking out and putting into their own pockets.

~~~
ThrustVectoring
Why pay five salaries when you could follow Nevada's state pension fund
management strategy and have one guy whose job description is almost entirely
telling people he's not interested in making changes?

[https://www.fnlondon.com/articles/nevada-pension-fund-
manage...](https://www.fnlondon.com/articles/nevada-pension-fund-manager-does-
nothing-all-day-20161020)

------
gnu8
I'm struggling to understand why a university needs an endowment at all. Every
year the universities accumulate more wealth and more parasitic non-academic
staff, while simultaneously raising fees and delivering less value to students
(degrees no longer guarantee jobs and student loans eat an increasing share of
the graduates' earnings).

Maybe it is time to confiscate these endowments and use them to liquidate
student loan debts.

~~~
zhoujianfu
I never understood it before, but I’m on the board of a small private college,
and I finally understand that actually to balance the budget each year they
need the revenue from tuition, annual gifts, AND a 4-5% distribution from
their endowment.

To be competitive, a school has to maximize their revenue, and that includes
all sources. Then they have to spend it all each year.

~~~
impendia
Interesting. Do you have any insight as to why college expenses are so high,
and continuing to skyrocket?

Tuition at private colleges in the US is typically around $50,000-60,000 a
year, exclusive of room and board. This seems absurd to me. And yet apparently
it's not even enough to cover expenses.

Where is the money going?

~~~
jjk166
After medicine, education is the most labor intensive industry. Both are very
high for the same reason. Whereas in most industries improving technology
allows the same number of people to be more productive, or the same amount of
productivity to be achieved with fewer people, in med/ed people are
specifically paying to keep the labor efficiency as low as possible.

When people pay extra to go to a school with a student-faculty ratio of 12
instead of 15, the labor cost is going up by about 20% (you need both more
faculty and more support staff for those faculty). Does a 20% reduction in the
number of people in a classroom allow the teacher to produce a 20% better
education in the remaining students? Probably not. Especially for large intro
lectures where there is little meaningful interaction between an individual
student and the faculty and the lectures are generally recorded already (even
pre-covid), you could easily distribute the costs over thousands of students
instead of dozens without lowering quality.

While the value of small class sizes would be critically evaluated if people
were paying for them on the spot and out of pocket, subsidized debt financing
allows for the price to grow quickly - a person with no money who can take out
a 100k student loan can now afford to go to a 25k school, and the person who
could afford that 25k school can now afford to go to a 50k school, and
suddenly the person with no money needs 200k to get the same education. The
same happens with medicine and real estate and any other market where
conventional wisdom is that you should get as much as you can afford and what
you can afford is not limited by the amount of money you actually have.

Once people stop viewing class size or tuition price as useful proxies for
education quality, the rapid tuition price inflation will stop and the labor
costs will go down dramatically.

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menzoic
If they made any guarantees about profit that would be breaking securities
laws, so what case could he have?

~~~
bklyn11201
To act in the best interest of the university as a fiduciary. What kinds of
evidence would be damaging to the foundation that could be dug up via the
discovery phase of a lawsuit? Lots of dinners among foundation execs and the
investment company, cozy emails, lack of attention to returns or fees would be
the type of evidence that would probably result in some interesting articles
or maybe even a change in leadership or strategy (which seems to be his
ultimate goal).

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thex10
Can anyone from outside the US chime in on whether the equivalent situation
can happen in their country?

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edgefield0
I don't understand how the plaintiff has a case here as there are no damages.

~~~
shajznnckfke
Does the donor have some right that his donations be used as advertised? Could
a donor sue because a charity squandered the money by spending it hookers and
blow? Does poor investment stewardship resulting in the charity having 20%
less money damage the donor differently from wasting 20% of the money? I’m not
a lawyer, but morally I think the university is in the clear as long as their
waste or arguably poor stewardship was reasonable. Did they knowingly make bad
choices (especially if some kind of personal benefit/self-dealing was
involved) or through an honest effort come to a different conclusion than the
donor preferred?

Subjectively, I get the impression that the lawsuit is performative and the
donor is trying to pressure the endowment to engage in a more modern textbook
passive investment strategy. I don’t blame him - I feel the wealth management
industry acts as a parasite in many cases. This case sounds like a common
arrangement for a university endowment, though, so I feel it would be hard to
defeat with a lawsuit. But I bet the suit gets the university a bit of a break
on those fees.

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Jaxkr
Hey, I currently go to CU! Weird to click this and see a picture of our
library.

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ALL_IN_VTSAX
All-in VTSAX is a tried and true strategy

~~~
mbbennis
I've seen this strategy around the web on reddit and bogleheads and I
appreciate the sentiment, but 2020 has made me more aware of risk than ever
before.

I feel like the past decade has given investors a false sense of confidence
about their stomach for risk. Especially young investors who enter the market
AFTER 2008. On top of that, the extremely risky options available on platforms
like robinhood make investing in 100% stocks look like a risk-averse choice.

Sure, if you're 22 100% VTSAX is reasonable. But I feel like this approach is
too common given the risk involved. Staying the course with an asset
allocation you can stomach is more important than potential for gains

~~~
zhoujianfu
If you’re a university endowment you’re forever a 22 year old. You never need
the money, your timeline is infinite, and you can easily borrow the 4-5% a
year you distribute to your operating expenses if you have nothing liquid or
there’s been a recent large market drop.

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tonetheman
This cannot be a case... this arrogant rich twat is suing someone for not
making enough money.

