By Charles Skorina
Can you copy great endowment investment performance? The Yale endowment, for example?
Reverse-engineering a good performer is probably achievable. The key attributes can often be identified and, to some extent, duplicated.
But can you replicate great performers?
That's a much taller order. There's always something slightly mysterious about greatness.
We were reminded of that fact when we looked at a recent white paper by Drew Knowles. He's the founder and chief investment officer of Berkeley Square Capital Management, an investment advisor in Denver. ("Invest Like an Endowment")
Mr. Knowles assembled data from NACUBO-Commonfund (NCSE) surveys and analyzed recent historical relationships between asset allocation, endowment size, and performance. He did a good job and it's worth reading.
As an investment advisor to (not necessarily wealthy) individuals he would like to demonstrate how they can use ETFs to replicate the investment performance of major endowments. He's particularly interested in showing the usefulness of so-called "liquid alternatives," in which his firm seems to specialize.
He argues that this really can be done, at least to the extent of reproducing the average performance of big (over $1 billion AUM) endowments.
It would be even better if an amateur could match the performance of the very best endowments, such as Yale. Unfortunately, his model says they can't quite. But he argues that his Yale Clone should still be an attractive portfolio for the average investor, and makes a good case for it.
Mr. Knowles suggests that an individual investor, by using certain low-fee index-tracking ETFs and rebalancing every year per the latest NCSE data, can do (very nearly) as well as the average big endowment with its professional investment staff and well-compensated external asset managers. He only actually demonstrates this for 2003-2015, since not all his preferred tracking ETFs existed in earlier periods; but so far, so good.
(This is not an altogether original idea. Our friend Mebane Fabermade a similar argument in his book The Ivy Endowment a few years ago. But more and better tracking ETFs have become available since then.)
Mr. Knowles then attempts to reverse-engineer Yale, which hugely outperformed the average big endowment 1997-2014. It earned an annualized 13.2 in that period versus 9.9 percent for its sisters.
He writes: "While the Yale Clone mimics the actual Yale portfolio asset allocation to the best of its index-based ability, and matches the Yale endowment standard deviation, the Yale Clone lags its target by three-percent a year.
It is highly evident that the Yale allocators add alpha (300 basis points a year!) by picking active managers that handily beat comparable indices. Yale's endowment consistently allocates capital to first quartile managers... Such winning allocations compound in Yale's favor to the benefit of the school."
I recently had a chance to talk to some people close to Yale and tried to hone in on how that "picking active managers that handily bear comparable indices" thing is actually accomplished.
As many of our readers might suspect, it's not really all that mysterious; but it's hard to do in practice if you're not Yale, and very difficult to replicate.
An elite school can often detect unusually talented people when they are still students, track them into their professional lives and become early investors. We should underline "can," because not even all the elite schools have demonstrated the ability to do this as consistently and effectively as the Yale Investment Office under Dr. Swensen and his team.
That applies to startup external fund managers. But it also applies to Yale's internal staff, which judiciously draws from the same best-and-brightest cohort.
There's a story abroad that I hear is true. Years ago, a senior Yale officer working after hours happened to look into a wastebasket full of resumes of people applying to work at the YIO.
He spotted a young Yalie with an unusual background: sixteen years as a world-class professional ballet dancer, who was now raising a family and currently earning an econ degree. A check with his professors indicated that he was an outstanding student (who would soon graduate summa cum laude). So, Robert F. Wallace was brought in as an intern, then subsequently as a full-time associate for four years.
That's the same Robert F. Wallace who was recently hired as chief investment officer at Stanford Management Company.
In our story about Mr. Wallace a few months ago we opined that he himself was clearly trying to replicate Yale's performance and offered some evidence for that assessment. That won't be easy to do, but he probably has a better shot at it than Mr. Knowles with his Yale Clone portfolio.
In our conversation with Erik Lundberg, chief investment officer at the University of Michigan endowment a while back, he indicated that he is also well aware of this tactic. He said he keeps very careful track of his graduates and networks with them to access investment opportunities.
Michigan is a terrific school with a well-run endowment, but it's still probably not as favorably situated culturally or geographically as Yale vis-à-vis the very top tier of fund-managers.
For the rest of you, there's always Mr. Knowles' Yale Clone. It seems to be doing better than most big endowments, albeit with a higher standard deviation than either the average big endowment or Yale itself.
Here's the performance of Mr. Knowles' Yale Clone versus Yale, a 60/40 portfolio, and the NCSE over-$1 billion endowments from 2003-2015:
Comparative Performance: 13 years 2003-2015
|
Yale
|
Yale Clone
|
NCSE>
$1 bn
|
60/40
|
|
|
Annualized Rtn %
|
11.52
|
9.83
|
8.40
|
6.63
|
|
Std Dev %
|
13.44
|
14.16
|
11.30
|
11.13
|
Berkeley Square Yale Clone Portfolio: Categories and
Tracking ETFs. With Yale actual allocations 2014
|
Allocation Catagory
|
Index used
|
Yale Actual Percent FY2014
|
|
Domestic Equity
|
S&P 500 Index
(SPTR Index)
|
4
|
|
Foreign Equity
|
MSCI ACWI ex-US Index
(MXWDU Index)
|
12
|
|
Fixed Income
|
Barclays Aggregate Index
(LBUSTRUU Index)
|
5
|
|
Absolute Return
|
HFRI Fund Weighted Composite (HFRIFWI Index)
|
17
|
|
Real Assets/Real Estate
|
Dow Jones REIT Index
(REIT Index)
|
18
|
|
Natural Resources
|
S&P No. American Natural Res. Index (SPGINRTR Index)
|
8
|
|
Private Equity
|
Cambridge Assoc. US Private Equity Index (Note 1)
|
33
|
|
Cash
|
Barclays 1-3-month Treasury Bill Index (LD12TRUU)
|
4
|
Charles Skorina works with leaders of Endowments, Foundations, and Institutional Asset Managers to recruit Board Members, Executives Officers, Chief Investment Officers and Fund Managers. Mr. Skorina also publishes THE SKORINA LETTER, a widely-read professional publication providing news, research and analysis on institutional asset managers and tax-exempt funds. Prior to founding CASCo, Mr. Skorina worked for JP MorganChase in New York City and Chicago and for Ernst & Young in Washington, D.C. Mr. Skorina graduated from Culver Academies, attended Michigan State University and The Middlebury Institute of International Studies at Monterey where he graduated with a BA, and earned a MBA in Finance from the University of Chicago. He served in the US Army as a Russian Linguist stationed in Japan.