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Friday, September 11, 2009

We Knew This Was Coming

my bolds my comments in italics

nyt today
(graph is from the wsj)

Harvard and Yale Report Losses in Endowments

Harvard and Yale disclosed on Thursday just how many billions their endowments had lost in the last year, signaling yet more belt-tightening at the nation’s wealthiest schools.

Harvard’s endowment tumbled 27.3 percent in its latest fiscal year, largely because of problems with its private equity and hedge fund portfolios, lopping off $10 billion and shrinking its portfolio to $26 billion. Taking into consideration donations and spending, the endowment shrank by nearly 30 percent.

Yale also suffered about a 30 percent loss in its endowment, to about $16 billion, the university’s president disclosed in a letter Thursday, adding that final figures on performance were still being compiled.

We want to alert you to the fact that another round of reductions will be necessary,” Yale’s president, Richard C. Levin, wrote in what he called a budget update to the Yale community praising the cost-cutting that had already occurred.

when the next revised number is released for Yale it will be the second downward revision

the article continued:

Although other endowments at major universities suffered declines, many did better than Harvard and Yale, which have been known over the years for their investing prowess. The University of Pennsylvania, for example, was down 15.7 percent. A survey of foundations and endowments with assets of more than $1 billion by Wilshire Trust Universe Comparison Service found an average decline of 17 percent in fiscal 2009....

While Harvard aims to outperform, it also establishes a policy portfolio with a benchmark index for each asset class. Weighting its assets in each category and using those benchmarks, Harvard underperformed its policy portfolio by 2.1 percent.

Of six investment classes, four failed to meet their benchmarks. In a couple of cases the shortfall was sharp. Harvard’s private equity investments declined by 31.6 percent, compared with a benchmark loss of 23.9 percent. Absolute returns, more generally called hedge funds, fell 18.6 percent, compared with a 13.2 percent decline for the index. Harvard’s public equities did marginally better than the market, as did its real assets.

Yale said that the publicly traded portion of its portfolio did not decline further from December through June, but that the illiquid portions in private equity and real estate continued to sag.

Harvard had a large share of assets in private equity, about 13 percent of its total as recently as February.

The long term performance numbers for the more aggressive Yale and Harvard portfolios:

The Yale endowment is led by David F. Swensen, who has advocated aggressive use of alterative investments like private equity and hedge funds. At the end of fiscal 2008, Yale continued to turn in the best 10-year performance with an average annualized gain of 16.3 percent, which was followed by Harvard with 13.8 percent.

Harvard’s 10-year average annualized return has now fallen to 8.9 percent. That remains well above its policy portfolio of 4.5 percent.

A rough number for the average return for yale should be around 13% at this point.

That crushes the average return of the S+P 500 but interestingly is pretty close to the number for emerging markets index, which arguably have less risk than the yale and harvard portfolios. An emerging markets etf has instant liquidity far different than many parts of the harvard and yale holdings.

But more importantly the growth of wealth for the 10 year period after last year's number is far more devastating on the value of the endowment and I would argue that is the better number to use to evaluate the strategy, after all that is the one that directly affects the university. To give an analogy if you had the Yale portfolio and looked to retire this year the average annualized portfolio return would't mean much to you. But the 30% drop in the value of your nest egg would be quite important ( to say the least)

Which raises the question of whether the Yale or Harvard returns, number adjusted for the lack of liquidity and the volatility and leverage of some of the holdings,really would have beaten a liquid globally diversified portfolio of 100% liquid exchange traded funds.

After all if a hedge fund manager is leveraged 2x (a conservative number) and he beats the s+p index return of say 5% by turning in a 10% performance he really has just met his benchmark on a risk adjusted basis. There was no "alpha" one could have leveraged a position in an s+p 500 2:1 and gotten the same performance with no management fees and no liquidity headaches.

The WSJ writes

Other wealthy schools, including Stanford University, Princeton University and Massachusetts Institute of Technology, have predicted losses similar to Harvard and Yale's. They all follow an investment model that de-emphasizes traditional stocks and bonds and instead loads up on alternatives unavailable to the average investor.

Yale and Harvard pioneered the approach, arguing they could afford to take big risks, because they were investing for decades, even centuries. Many copied the schools, saying they had found a high-return, low-risk strategy. But Eric Bailey, managing principal of CapTrust Financial Advisors LLC, a Tampa, Fla., firm that advises college endowments, says, "If it looks too good to be true, it probably is."

Mr. Bailey says typical colleges outperformed Harvard last year, because they stuck to a plain-vanilla approach, typically allocating 60% of their holdings to stocks and 40% to bonds. That strategy would have generated a loss of roughly 13% in the year ended June 30. Harvard aims to have only 4% of its investments in U.S. bonds, which were one of the few safe havens over the last year. It has cut by more than half its target for investments in U.S. bonds since 2005.

The University of Pennsylvania's endowment, by contrast, loaded up on Treasury securities in 2008 and reported a more moderate 15.7% decline. In New York City, Cooper Union for the Advancement of Science and Art, which charges no tuition, ratcheted down the risk of its investment portfolio three years ago and expects its endowment to hold steady for the year.

Yale and Harvard say their long-term results justify the strategy. Harvard's endowment remains the largest in higher education. In fact, the $10.9 billion it lost last year is bigger than the 2008 value of the endowments of all but six colleges

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