Endowments and Foundations: Still The Smart Money?

In recent months, the financial crisis has raised questions about whether endowments and foundations deserve their reputation as the smart money in the private equity investing community. Sharp declines in public stocks and high allocations to the asset class have left many unable to commit to the asset class, and in some cases have forced them to sell interests on the secondary market.
However, from a pure returns perspective, these institutions may still be able to lay claim to the smart investor label, according to a recent report from Commonfund Institute, the research affiliate of Wilton, Conn.-based asset manager Commonfund.
The report surveyed returns from 290 foundations with total assets of more than $131 billion. It found that private equity returns declined by only around 7.8% in 2008, with venture capital posting a 6.2% decline. That’s much better than the 24.2% overall decline generated by U.S. private equity in 2008, according to benchmarking data published by Cambridge Associates LLC.
“The endowment [and foundation] model as defined by the strategy of investing in less liquid asset classes with the expectation of delivering higher long-term returns, that model is not broken,” said William Jarvis, managing director at Commonfund Institute. “While all markets were seriously stressed by the liquidity crisis last fall, in more normal markets the endowment model will continue to work.”
Private equity also outdistanced public stock performance within foundations’ portfolios. Domestic equity returns fell by 36.3% over the same period, while international equities declined by 41%, according to the study. The sharp decline in public stock values drove down the total assets under management at many of the foundations in the survey so sharply that it prompted the institute to create a new survey category for institutions with $10 million to $50 million in assets, according to Jarvis.
That said, the study also showed how dramatically those public stock declines, combined with the illiquid nature of private equity, have pushed up foundations’ private equity allocations. Overall allocations to private equity on a dollar-weighted basis across all foundations rose to around 7.2% of total assets, compared to a roughly 4.8% allocation in the previous year’s study, according to Jarvis. Allocations to alternatives overall rose to 36% from 28%.
Jarvis said declines in more liquid alternative strategies such as hedge funds, along with a recent push by foundations to redeem portions of their liquid alternative investments, also drove up the relative weighting of private equity.

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