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College endowment funds broaden their investments


As stock market losses have hammered the returns of private colleges’ endowment funds in recent years, the schools are increasingly turning to “alternative” investments, such as market hedge funds and private equity positions in start-up companies, to diversify their portfolios.     Some institutional investment professionals, however, warn that a strategy that has worked for large universities is still uncharted waters for smaller colleges.     Simpson College in Indianola recently adjusted the investment mix for its $58 million endowment from a traditional 85-15 ratio of equities and fixed-income investments to include a 20 percent stake in alternative investments in hedge funds, private equity investments and real estate funds.

Last year, earnings from the college’s endowment contributed about $2.6 million to the college’s operating budget. After losing about 9 percent of its value in 2003, however, the endowment provided about $600,000 less to the budget than anticipated.      Using advice from a St. Louis-based investment consultant, Simpson adjusted its portfolio to fit a “more broadly diversified investment strategy,” said Ken Birkenholtz, the college’s vice president for business and finance. It now holds 60 percent in equities, 20 percent in fixed-income securities and 20 percent in alternative investments. At the same time, the college has replaced a portfolio that uses about six fund managers with one made up of about 15 separate fund managers.      According to an annual survey conducted by the National Association of College and University Business Officers, college endowment funds realized a meager 3 percent investment return in the past fiscal year, which was offset by a 2.2 percent inflation rate and an average withdrawal rate of 5.4 percent.

“They’ve been tough years,” Birkenholtz said. “We’ve had accumulated gains that have been able to carry us through, but the accumulated gains have seen a pretty serious setback over the past three years.”      On average, most college investment committees seek to maintain a 5 percent real return for endowment funds while reducing the volatility of investments.   While investments in private equity positions and hedge funds can boost returns, they also increase the risk of loss considerably and are subject to fewer disclosure and regulatory requirements than other types of investments, said Scott Evans, executive vice president of the College Retirement Equities Fund, a component of TIAA-CREF, the largest retirement fund for schoolteachers.      Evans believes too many institutional investors are rushing into alternative investments without the full infrastructure of safeguards in place. “Large institutions’seasoned investment managers can discern the wheat from the chaff,” he said in an article published online by the NACUBO. “My concern is that, with the smaller institutions, prospective returns aren’t going to be what they used to be.”

Grinnell College, which relies on earnings from its $1.25 billion endowment to fund half the college’s annual operating budget, has 20 percent of its portfolio in alternative investments. However, it doesn’t include hedge funds in its mix of alternatives, said David Clay, Grinnell’s treasurer.

“We’re a little bit unique in that we haven’t made that kind of leap,” said Clay, who said the alternative strategies Grinnell uses are “really just private variations of our strategy on the public-market side,” such as providing venture funding to small companies. The bulk of the college’s portfolio, 70 percent, is made up of equities, with 10 percent in cash or fixed-income investments.

“We just stay with strategies we believe in and contribute to long-term, risk-adjusted fund performance,” he said. “I think that’s served us well and our performance shows it’s served us well.” Net of investment costs, Grinnell’s endowment realized a 32.4 percent return in the 12 months ending March 31, with an 8.9 percent return over the past five-year period.

At Simpson, the college’s endowment has regained $5 million in value in its fiscal year that ended May 31, Birkenholtz said.

From an investment perspective, alternatives are part of a solid investment strategy, he said.

“I think it’s a bit more defensive, spreading the eggs over more baskets and different types of baskets,” Birkenholtz said.     Most of the financial aid that Simpson provides to students comes from its operations budget, not directly from the endowment, so “we’ve been able to maintain a lot of the aid we provide to students,” he said.

“We’ve been fortunate in the past several years in recruiting students, so we’ve seen an excellent growth in our student body, which has helped us offset that loss of money from the endowment.”   

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