11-19-09: Higher Ed Environment: Tufts Says Wealthy College Endowments Should Take Less Risk

Nov. 19 (Bloomberg) -- American colleges and universities with the largest endowments should abandon an investment strategy that has contributed as much as 49 percent to their annual operating budgets because such risk-taking resulted in disruptive cost-cutting in the aftermath of the worst financial crisis since the Great Depression, Tufts University President Lawrence Bacow said.

Harvard University, Yale University, Princeton University and Stanford University, the wealthiest U.S. schools, said they recorded declines in the value of their endowments of at least 23 percent partly because of stakes in hedge funds, private equity and illiquid investments. As those schools drew on the endowments to provide 29 to 49 percent of their budgets last year, the richest universities are suffering the most, said Bacow in an interview Nov. 17 at Bloomberg’s Boston bureau.

Tufts is relying on its endowment to fund only about 10 percent of its operations this year. Bacow, 58, an economist who holds faculty appointments in five departments at the university, said he learned from the fund’s 26 percent investment decline in the fiscal year ended June 30, which included a $20 million loss from funds invested with Bernard Madoff.

“There are investments that we will not make,” Bacow said. “Some of the best hedge funds in the past basically were black boxes. They said, ‘If you want in, you’re in but...you have to trust us.’ Well, guess what? We’re not doing that now.”

Bacow said it was his “hypothesis” there has been a “pretty high correlation” between the size of endowments and the riskiness of investments.

Less Risk

“It may be the case that the wealthier institutions among us should be taking less risk -- not more risk -- because they’re less able to manage the volatility in their investment returns given their dependence upon those returns in their operating budgets,” Bacow said.

Tufts, in Medford, Massachusetts, is among the most selective schools in the U.S., accepting 27 percent of undergraduate applicants last year. The school’s endowment value declined 25 percent to $1.14 billion, from $1.49 billion a year earlier, after accounting for spending for operations and donor gifts, Bacow said.

About 10 percent of the school’s fiscal 2010 budget will come from the endowment, down from 12 percent in 2009 and 13 percent in 2008, according to the university. Tufts ended the last school year with a balanced budget, as a result of “mid- year belt-tightening,” Bacow said in a Sept. 15 letter to the Tufts community. The school “avoided the large-scale layoffs that have afflicted some of our sister institutions,” he said.

Tufts Graduates

Graduates of Tufts include James Dimon, chief executive officer of JPMorgan Chase & Co.; Robert Hormats, the U.S. State Department’s undersecretary for economic affairs; Pierre Omidyar, chairman of EBay Inc.; and Jonathan Tisch, co-chairman of Loews Corp., the holding company whose businesses include hotels. He is also an owner of the New York Giants football team.

Harvard dismissed 275 employees in the first six months of this year. Stanford fired 412 employees through Aug. 31. Princeton dismissed 43 non-faculty employees and reduced the hours of 18 others this year as it cuts its budget by $170 million over two years because of endowment losses. Yale eliminated 600 jobs through resignations and firings, and postponed $2 billion of construction.

Harvard’s Steps

Harvard, in Cambridge, Massachusetts, reported that its $26 billion endowment provided about 38 percent of its budget in fiscal 2009. The $16 billion endowment at Yale, in New Haven, Connecticut, supports about 40 percent of the university’s annual operating expenses this year down from 44 percent, while Princeton’s $12.6 billion endowment covers 48 percent of the Princeton, New Jersey, school’s budget down from 49 percent last year.

“This is the time actually when it pays not to be so endowment-driven,” Bacow said.

Harvard has taken steps to reduce the risk in its investments by raising cash holdings, cutting $3 billion in commitments to private-equity and real estate funds, and shifting assets from outside investing companies to Harvard Management Co., which oversees the endowment, according to the school’s annual financial report.

Stanford, near Palo Alto, California, said it is trying to sell stakes in buyout funds, energy companies and distressed securities in the biggest private-equity auction since stocks rallied in March. Stanford’s $12.6 billion supported 29 percent of its operating budget last fiscal year.

Cost Cuts

The school plans to reduce its reliance on the endowment to 24 percent to 25 percent this fiscal year and “an even smaller percentage is expected for 2010-2011 as well,” said Lisa Lapin, a spokeswoman.

Stanford is re-examining its risk and is “looking to slightly rebalance our investment portfolio’s illiquid investments,” Lapin said.

Yale adjusts its “target allocations each year after thorough analysis, but these adjustments have been modest and do not fundamentally change the composition of our portfolio,” a university spokesman, Tom Conroy, said.

Princeton reviews its policy portfolio every year and conducts extensive analysis studying the risks, Cass Cliatt, a spokeswoman, said in an e-mail.

“We remain comfortable with the risks embedded in our approach and feel they are appropriate and necessary if we are to achieve our long-term objectives,” she said. “And moreover, in these examinations, we recognized the possibility of the environment like the one we have gone through.”

Endowment Dependency

Endowment dependency is a starting point to measure risk, which schools should tailor to their own circumstances, said John Griswold, executive director of the Commonfund Institute, in Wilton, Connecticut, a manager of about $25 billion for nonprofit institutions.

Griswold said in an interview that broad diversification by asset class and strategy is appropriate over the long term for large endowments.

Harvard treasurer James Rothenberg said in an Oct. 16, interview with the Harvard Gazette, a university publication, that over 10 years Harvard generated an average annual return of 8.9 percent, including last year’s losses.

“That said, we learned a great deal about risk and liquidity last year, and will incorporate those lessons going forward,” Rothenberg said.

Tufts has also taken less risk with its financial-aid policies, Bacow said.

Replacing Loans

More than 30 top-ranked private U.S. colleges adopted policies in 2007 and in early 2008 that replaced loans given in financial aid packages with outright grants that students don’t have to repay.

Some schools, including Yale and Harvard, expanded their financial aid programs to remove loans from financial aid packages for all students who qualified for aid.

Tufts restricted its no-loan policies to families who made less than $40,000 annually because it didn’t want to promise more aid than it could afford, Bacow said.

Bacow said Tufts also aspires to be “need-blind” in undergraduate admissions, which means accepting students without regard for their families’ ability to pay.

While the school never declared it had instituted the policy, it did raise enough money to select two classes -- the current sophomores and juniors -- without looking at finances, Bacow said. Tufts hasn’t committed to a need-blind program going forward because it hasn’t raised enough money to permanently

endow the policy, Bacow said.

Need-Blind Admissions

“We’ve only tried to bite off as much as we can chew,” Bacow said. “When we have not been able to do it, we’ve said to the world, ‘We haven’t done it. We haven’t claimed more.’”

A minority of colleges practice need-blind admission policies. They include all members of the Ivy League, the group of eight schools in the northeastern U.S., as well as Stanford and Amherst College in Amherst, Massachusetts. Princeton and the Massachusetts Institute of Technology are among a smaller group that admits international students without regard for their ability to pay.

Before coming to Tufts in September 2001, Bacow spent 24 years at the Massachusetts Institute of Technology in Cambridge, Massachusetts, including the last three years as chancellor. Bacow’s mother was a Holocaust survivor from Germany and his father a refugee from Minsk. Bacow received a bachelor’s degree in economics from MIT. He earned a law degree and a Ph.D. in public policy from Harvard University, also in Cambridge.

Almost 9,400 full-time students attend Tufts. It was founded in 1852 and is ranked 27th in U.S. News & World Report’s annual listing of national universities. Tuition, fees and room and board are $51,088 for the 2009-2010 school year.

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