In business school, I found that people had all sorts of opinions about the investment model used by endowments – with and without basis. I find myself defending these 3 aspects of the endowment model the most:
1) Discipline, not Dead-set. Other students sometimes tell me that endowment analysts will one day find themselves out of a job, their professions replaced by computers. Underlying this thought is that any machine can be programmed to “follow rules,” and that the endowment model is really just about following some set rules about how much to allocate to particular asset classes of investments, and finding the highest-returning (risk-adjusted or otherwise) managers within each asset class. In my experience, this is far from the truth. While there are strategic allocations by investment class, they are not set in stone. They are framing guidelines and the investment team, using what they know of market sentiments, special endowment needs, and sometimes even a little bit of intuition, looks at a broad array of investment possibilities, and determines the best fit for the portfolio. From experience, this is not necessarily the manager with the highest returns or best sharpe ratio. More than anything, it provides a sort of discipline, allowing the analyst or portfolio manager to gut-check.
2) Flexibility, not Forced allocations. The endowment model is not a fixed, inflexible set of target allocations, but rather, a framework for thinking about tradeoffs. Swensen’s book talked about the importance of maintaining a tactical aspect of asset allocation, and over or under-allocating to targets as needed. This has definitely been my experience at the firm in which I began my career. There were periods of time when the actual allocation was notably different from the allocation targets. Sometimes it was because it was an inopportune time to exit certain investments (e.g., after the market correction of the Great Recession) or there were tremendous once-in-a-lifetime investment opportunities aplenty in one particular asset class. Robots and computer programs certainly can’t replace that.
3) Context, not Constant. Each investment decision and the target allocations are re-evaluated year over year by committees of informed individuals. Many more things come into consideration than just the return profile. Universities are often leaders of thought and the endowment reflects that. For some institutions, this has meant divestment from certain asset classes (in spite of returns or diversification arguments in favor of investing) such as tobacco as a message of its commitment to betterment of the world. For religiously-affiliated schools, this may mean refraining from investments that are in contradiction to their founding missions.
I’m so grateful to my previous job for teaching me these aspects of the endowment model. I may not be returning to asset management in the context of an endowment after my MBA program, but the lessons it taught me about being curious, trusting your gut, and taking pride in my work will frame the rest of my career.
