John Griswold, executive director of Commonfund Institute, talks about how colleges and universities can make smart investment choices in an uncertain economy.
What are the major factors influencing investment decisions today and how are boards responding?
Three issues come to the fore. The first is managing the endowment to support the institution’s mission in a low-return, high-demand environment. In response, thoughtful boards are focusing on the fundamentals of mission and the role of the endowment, i.e., support for the operating budget versus funding strategic initiatives. In the current environment, a key decision for boards is deciding whether they want to protect the endowment or reach for greater growth.
Second is a related issue: balancing spending with the need to preserve purchasing power. It is ever more important to mission-critical priorities to remain disciplined in the face of competing spending needs. Third is determining the appropriate level of liquidity for the endowment. This became acute during the 2007–09 financial crisis, when some institutions were forced to sell assets at depressed prices to fund operating needs. While committing to owning equity assets, institutions are also reassessing the need for greater liquidity to meet their operating needs during crisis periods.
Is there any evidence that endowments are retreating from the use of the endowment model?
The endowment model has three tenets:
- Own more than loan, meaning that equity ownership of assets (both public and private) is the best way to benefit from the fundamental economic growth that is the source of real, long-term returns.
- The longer an investor is willing to commit capital, the greater the expected return should be (the time value of invested capital).
- Diversification matters. Long-term investors should diversify away as much risk as possible by combining uncorrelated asset classes and strategies in their portfolios.
Recently, some commentators have suggested that the endowment model is appropriate only for very large endowments, despite the fact that it has proven itself for all size endowments over long periods. We believe that perpetual organizations should continue to follow the principles of the model. Referencing the previous question, institutions will not fulfill their missions and maintain appropriate spending levels without having a long-term view and a well-diversified, equity-oriented portfolio.
As investment markets and endowment management become increasingly complex, should boards consider changes to their governance practices and the ways their investment committees work?
On average today, more than half of many colleges’ and universities’ assets are allocated to alternative investment strategies, which include a wide range of hedge fund and private capital strategies. Indeed, they are more complex and time-consuming. Moreover, the regulatory environment is more demanding (witness the new Form 990) and the reputation risk for missteps is considerable. In response, the most sweeping change that we see is greater use of outsourced investment management. Outsourcing—also referred to as the outsourced chief investment officer, or OCIO—is assigning responsibility for day-to-day investment management to a qualified and competent external provider that manages a majority or all of an educational institution’s investment funds. This step is taken to free trustees to focus on strategic issues, such as investment objectives and policy. It can also lower costs and generate greater efficiencies.
What are the implications of this outsourcing practice?
Delegation of day-to-day decisions does not mean that investment committees are freed from fiduciary responsibility. In fact, use of an OCIO structure can enable them to become more informed, not less, about what is happening in the portfolio as they exercise their responsibility to engage in ongoing monitoring and oversight of the OCIO manager. They focus on asset allocation, investment policy, and long-term strategy rather than short-term hiring and firing of managers.
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