University Endowments: Worst Year Since Depression

The nation's college and university endowments, struggling with declining gifts and massive investment losses, suffered their worst year since the Great Depression, sustaining an average loss of 18.7% in the year ending June 30, 2009, according to a new study.

The study of 842 endowments by the National Association of College & University Business Officers (NACUBO) and the Commonfund Institute confirmed what many already knew—that the global economic crisis has taken a brutal toll. The vast majority of endowments will likely recover somewhat in 2009-10, as equity markets rebounded sharply in the latter half of last year. The Standard & Poor's 500-stock index surged nearly 65% since Mar. 9.

"It's going to be considerably better," says John S. Griswold, executive director of the Commonfund Institute, which manages $25 billion in assets for more than 1,500 nonprofit institutions, including schools. "I think it will repair a lot of the damage done."

volatile alternative investments

The recessionary downdraft that hit endowments hard last year was an equal-opportunity problem, hammering public schools and privates, the smallest funds and the largest. The biggest of the big endowments, Harvard University, fell by nearly $11 billion, or 29.8%, to $25.7 billion. That was the greatest drop in asset value among the 53 endowments valued at $1 billion or more. Not far behind was Yale University, whose endowment was shaved by $6.5 billion, or 28.6%, to $16.3 billion.

In recent years, large endowments such as those at Harvard, Yale, and elsewhere pursued a similar investment strategy, relying more and more on alternative investments that included private equity, venture capital, hedge funds, derivatives, distressed debt, and more. Attracted by double-digit returns, many smaller endowments followed suit. Today, more than half of all endowment assets are in such investments.

But in 2008-2009, many of those investments went south. According to the NACUBO-Commonfund study, while endowment holdings in all alternative investments fell by 17.8%, private-equity real estate investments dropped 30.2% and commodities and managed futures fell by 36.7%. The hardest-hit asset class of all was international equities, which fell by 27.6%, followed by domestic stocks with a 25.5% decline.

small and fixed income outperform

John Nelson, the managing director who oversees university ratings for Moody's (MCO), said the big endowments have gone overboard on alternative investments—particularly hedge funds, which in many cases proved impossible to cash out of when their value plummeted at the height of the crisis. "The percent allocated to these strategies was just much too high," Nelson says. "Ironically, the people most effected were the big endowments."

Many smaller endowments were among those that fared well last year. Examples include Elon University (up 1.5%, to $81.8 million), Utah State (up 3.8%, to $151.2 million), and the University of South Alabama (up 30.1%, to $95 million).

The endowments that ended the year more or less intact were those that played it safe. On average the top performers in the study had nearly a third of their assets in fixed-income investments, which generated a 3% gain for the year, and 11% in cash, which returned 0.8%.

On the whole, though, it was a tough year to be running an endowment, and not just because of investment losses. In all, 60% of the institutions in the study reported a decline in gifts in fiscal year 2009, with a median decrease of 45.7%. With many endowments forced to borrow to raise cash, three out of four institutions are carrying debt, with the average debt load up 53.8%, to $167.8 million.

more belt-tightening ahead

And spending is up, too. Overall, 43% of colleges and universities in the study reported an increase in their endowment spending rate; on average, institutions withdrew 4.4% of endowment assets in fiscal year 2009, up from 4.3% in 2008. For those in the $1 billion-plus category, the spend rate was 4.6%, up from 4.2% the year before.

Griswold says he believes gifts will recover quickly, but spending rates will remain high or drift higher in coming years as schools grapple with the long-term effects of the economic crisis. With 47 states facing budget deficits and with increased cutbacks in state funding, many schools have been forced to dip deeper into their endowments to cover the shortfall. Others are increasing financial aid to students. That's not going to change for a while, he says.

The result: With the exception of the very largest funds, endowments are now spending far more than they're earning. Over the last 10 years, according to NACUBO-Commonfund, the median annual gain for all endowments was 3.3%. During the same period, the average annual spending rate for all endowments ranged from 4.3% in 2008 to 5.1% in 2004.

Throughout the recession, schools have pursued a three-pronged approach to closing their budget gaps. In addition to tapping endowments, many have raised tuition and cut costs. Harvard has reduced staff and athletic programs, while Yale has trimmed 600 jobs through voluntary resignations and firings, postponed a new science building, and delayed construction of new undergraduate dorms.

With endowments in distress, such belt-tightening is likely to continue for the foreseeable future, says Nelson. "On a long-term basis, the demand for higher education just keeps going up globally," Nelson says. "It's not like 'Oh my God, the sky is falling.' It's more like we can't do everything we want to do. We have to make some tough choices."

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