Here is the unique risk of endowment portfolios


At the top of Richard Ennis’ new paper is a statement that says comments are welcome.

With endowments reporting record returns in recent months and criticism of the endowment model reaching a climax, Ennis is sure to get plenty of feedback on its new research.

The article, titled “The Modern Endowment Story: A Ubiquitous US Equity Risk Premium,” primarily analyzes the asset allocation of the largest endowments in colleges and universities. Ennis explains how endowments have divided the funds they oversee between stocks, bonds, cash, private companies and their debt, real estate, infrastructure, energy and other investments, as well as countries and the regions in which these endowments prefer to invest. His discoveries? The equity risk premium is integrated into the main asset classes held by endowment funds, whether it is venture capital or private debt. Endowments own the US stock market.

This is not the first time that Ennis, who founded EnnisKnupp, one of the largest consulting firms, has scrutinized US endowments. Earlier this year, he assessed the performance from 1974 to 2020 of these well-followed institutions. One of his main findings is that over the last decade or so, stocks and bonds alone have essentially driven endowment fund performance. Contrary to what many people believe, alternative investments have not provided a diversified source of return. Ennis has also published research showing that the endowment model itself has not provided diversification benefits and has in fact underperformed a passive portfolio since the 2008 global financial crisis.

The endowment model was initiated by the late David Swenson, CIO of Yale University. In the early 2000s, endowments in general rushed to use the strategy, which included, among other things, investing heavily in alternatives such as private equity, hedge funds and real estate. Some have used the model with great success, while others have reported average returns. But the only constant was criticism.

Ennis’ current research explores the composite of 100 large endowments (those with assets valued at over $ 1 billion) created by the National Association of College and University Business Officers (NACUBO). Ennis notes that the US stock market has played a disproportionate role in explaining endowment risk and return outcomes over the 13 years ending June 30, 2021. Asset allocation in those years can be described as 97% US stocks and 3% bonds. Bonds made up essentially only 16% of portfolios during this period and fell to 3% over five years, with exposure to international equities almost completely wiped out. Keep in mind that Ennis determines actual risks and exposures on the basis of regressions based on returns, not on actual portfolio positions.

In his research, Ennis shows that all of the different asset classes that endowments mix in their portfolios are driven, to varying degrees, by the equity risk premium. The behavior of investments such as venture capital and high yield bonds, which may look very different from each other on paper, are all determined by stocks. “The beta in the US stock market has been a major driver of performance at all levels – in public and private markets; in hedge funds; In the real estate; in US and non-US equities; and in some segments of fixed income, ”he wrote in the newspaper.

As an example of how pervasive equity risk is, Ennis says endowments have steadily lowered their fixed income allocations and also swerved to add credit risk – presumably to get higher returns. But betting on a company’s creditworthiness is a bit like betting on a stock itself. “The equity risk premium is indeed omnipresent, and even appears in bond portfolios,” he writes.

With regard to performance against the benchmark, Ennis calculates an average annual excess return of -4.1% over 13 years. And as someone who has helped large institutions adopt complex strategies, he is wholeheartedly critical of the investment strategy used by most large endowments. In his opinion, they would be much better off using index funds. “Each fund has shaped its own complex portfolio in its own way. But the collective effect is as clear as it is simple: For all intents and purposes, endowments own the US stock market. They do not, however, get the stock market return. ”

Ennis research further shows that underperformance cannot be attributed solely to fees and expenses. “The margin for underperformance exceeds the upper end of the estimated capital expenditure range by more than a percentage point. This casts doubt on the ability of investment managers to beat the market before fees, even when they are free to invest outside the box, ”he said.


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