Top Returns at Midsize Endowments Challenge the Yale Model – Institutional Investor (subscription)

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When Walter Burke took over as chairman of Denison University’s investment committee in January 2009, the financial markets were in free fall. Even before his first board meeting, Burke huddled with committee members to make sense of the devastation suffered by the school’s endowment, which had dropped in value from $693 million at the end of 2007 to $536 million just 12 months later. “We decided the plan was to hunker down and focus on shoring up liquidity,” Burke says.

Unlike most university endowment committee chairmen — typically, alumni with financial or business backgrounds — Burke is a clinical psychologist and has spent most of his career as a professor in the division of psychiatry at Northwestern University’s Feinberg School of Medicine in Chicago. Given the market devastation in January 2009, “I thought that it might make sense to have a psychologist in the chair position,” jokes Burke, a member of the Denison class of 1971 and a trustee since 1997.

It was no joke when Denison’s return came in at a dismal –19.6 percent for the academic fiscal year ended June 30, 2009. Yet the small, Granville, Ohio–based liberal arts school — with just 2,185 undergraduates — emerged from the market meltdown in better shape than Harvard University, whose once-$36.9 billion endowment lost 27.3 percent, or Yale University, which saw its $22.9 billion fund fall by 24.6 percent. Even more unexpected: Tiny Denison continued to outperform Harvard, Yale and many of the U.S.’s largest educational endowments over the next four years.

Denison is not alone. A select group of 20 midsize endowments with $500 million to $1 billion in assets schooled their larger peers from June 2007 through June 2012. Annualized returns for the high performers ranged from 1.86 percent to 5.36 percent, besting both Harvard (up 1.24 percent a year) and Yale (up 1.83 percent). The midsize stars outshone the 1.7 percent median return for endowments with more than $1 billion in assets, according to the Washington-based National Association of College and University Business Officers (Nacubo).

At first glance, it is easy to dismiss the outperformance of midsize endowments during the fateful 2008–’09 fiscal year as the result of being in the right place — that is, the right asset classes — at the right time. Entering the financial crisis, endowments with $500 million to $1 billion in assets had, on average, more money in fixed income and less in private equity, hedge funds and other illiquid alternatives than their larger brethren did, according to Nacubo. For big endowments“2008–2009 was a disaster,” says André Perold, co-founder and CIO of Boston-based HighVista Strategies, which manages $3.6 billion in endowment assets. Perold, an emeritus professor of finance and banking at Harvard Business School, points out that big endowments take a lot more risk to get high returns and that “there are periods when there’s a cost to that.”

Charles Skorina, founder and president of an eponymous San Francisco–based executive search firm specializing in financial services and asset management, says the successes of the smaller schools are usually overlooked because their returns are generally not reported in any prominent way. His view is supported by an October 2012 report by Vanguard Group that found that from 2009 through 2011 an investor was nearly ten times more likely to see a story about one of the ten largest endowments than to read one about any of the others. In the first half of 2013, Skorina dug into the 2012 Nacubo-Commonfund Study of Endowments (NCSE) to identify the top midsize performers — and he shared his data with Institutional Investor. “Why are so many smaller endowments, with their more modest resources, punching above their weight, and why hasn’t anybody noticed?” he asks.

The five years that followed the financial crisis have been challenging for all U.S. college and university endowments, which managed to eke out only low-single-digit returns. Still, Stephen Nesbitt, CEO of alternative-investment consulting firm Cliffwater, based in Marina del Rey, California, believes that more midsize schools have been positioning themselves to outperform the largest schools since the crisis. “Midsize endowments had been a little sleepy,” and 2008 was a wake-up call, explains Nesbitt, who consults with a dozen endowments averaging $750 million in assets. As a result, schools are allocating more resources to their endowments: establishing professional investment offices, changing compensation to attract and retain investment staff, upgrading investment committees and hiring top-notch consulting advice.