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College Endowment Returns Plummet: Study

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U.S. college and university endowments and their affiliated foundations spent more from their endowments in fiscal 2020 than in the previous fiscal year, supporting students, faculty and their mission despite lower average returns, according to the 2020 NACUBO-TIAA Study of Endowments.

The study findings, released Friday, portend a long era of muted returns for higher education institutions, which will likely encourage them to have a fresh look at financial and investment strategies in order to meet critical return targets and sustain their mission of providing urgently needed support to students.

The new study was based on responses of 705 institutions representing $638 billion in endowment assets, and covers the fiscal year July 1, 2019, to June 30, 2020.

As of June 30, institutions in the study reported an average endowment of $905 million, up 1.6% from 12 months earlier. The median endowment among respondents totaled $165 million; 45% of endowments totaled less than $140 million.

“With data through mid-year 2020, the study captures the first several months of the higher education community’s experiences with the global COVID-19 pandemic; in next year’s report, the fiscal year 2021 findings will help complete the picture of how institutions and their endowments coped,” NACUBO’s president and chief executive, Susan Johnston, said in a statement.

“Even in this challenging year, higher education institutions reinforced their commitment to students and used their endowments exactly as designed: to provide ongoing, predictable — and even increased — support for their educational missions, a commitment that endowment leaders work to ensure will extend to future generations.” 

Diminishing Returns

Endowments’ average one-year returns were 1.8% as of June 30, compared with 5.3% for the previous fiscal year. The historical target return for endowments has been 7.5%, comprising spending requirements, but in recent years, endowments have been challenged to meet this target, according to the study.

Although 10-year annualized returns total 7.5%, five-year annualized returns total just 5.1%. Fifteen-year annualized returns are at 6.2%, and 20-year returns at 5.5%.

“The one-year performance figure reflects the reality that few market sectors were immune to the steep downturn in early 2020 and most markets had not fully recovered by the time the fiscal year ended on June 30,” Doug Chittenden, head of institutional relationships at TIAA, said in the statement. 

“Investment markets rebounded strongly in 2020’s latter half, so the FY20 investment return figure likely understates the performance achieved by most funds in calendar year 2020.”

Chittenden noted, however, that endowments will have to consider ways to meet their targeted return rate. “An endowment can consider adopting more risk and exploring changes in portfolio construction, among other steps.”

COVID-19 and Other Challenges

The 705 institutions in the study collectively spent $23 billion from their endowments in fiscal 2020, a year-over-year increase of 4%. Seven in 10 schools increased spending from their endowments, with an average increase of about $3.3 million.

“This increase in spending reflects the success of governance policies focused on intergenerational equity,” Johnston said. “With solid fiscal management, endowments can consistently support institutions with more revenue each year than the previous year.” 

Endowments’ average effective annual spending rate — the dollars spent from endowments divided by the endowment market value on July 1 — increased as well, to 4.6% in fiscal 2020, up from 4.4% the year before. 

Financial aid to students represented 48% of endowment spending, the single largest percentage. An additional 17% of endowment spending funded academics, including teaching, tutoring and related support.

Faced with pandemic-related challenges, nearly half of endowments increased spending support for their institution’s operating budget in fiscal 2020. 

Some 40% reported that their institution’s cash flow declined during the fiscal year, likely from decreases in tuition revenue owing to lower enrollment and lost revenue from on-campus services such as student housing, dining and parking. 

Endowments also reported that new gifting declined by about 16% from fiscal 2019 levels.

Other Issues

Another challenge for endowments will be maintaining optimal allocations of fund assets as the market environment remains uncertain. 

Across all endowments, portfolio allocations as of June 30 were 33% in public equities, 23% in a mix of private equity and venture capital, 20% in marketable alternatives, 12% in fixed income and 11% in real assets.

Smaller endowments had significantly greater exposure to fixed income, particularly investment-grade securities, likely viewing bonds as a hedge against equity market volatility. 

For example, institutions with more than $1 billion in assets allocated 5.3% to investment-grade fixed income, while those with $25 million to $50 million in assets allocated 22% and those with less than $25 million 27%.

“Smaller endowments soon could feel compelled to re-examine their significant bond allocations given that currently interest rates have virtually no room left to fall — and, going forward, fixed income will likely not offer institutions the returns they enjoyed in past years,” Dimitri Stathopoulos, senior managing director at Nuveen, said in the statement.

Responsible Investing

Last year’s global pandemic and social unrest put new emphasis on the practice of responsible investing, which is shaped by key environmental, social and governance issues, according to the report.

Four in 5 endowments reported that ESG factors were reflected in their investment policy, but only about 19% of endowments actually incorporate responsible investing criteria into public equity portfolios, the asset class most likely to reflect these criteria, the study found; 16% do so for global equities. 

Endowments cited performance concerns and potential conflicts with fiduciary duties as their main reasons for not pursuing responsible investing. Just 19% believed that responsible investing can deliver “alpha” performance in excess of a market return.

“Market evidence increasingly indicates that a responsible investing approach can indeed deliver competitive returns,” Stathopoulos said. “The opportunity to more closely align investing and mission while also meeting return targets could encourage more endowments to consider these strategies.”

For the first time, the NACUBO-TIAA survey asked institutions about diversity policies in asset management. Six percent of those that answered the question reported having a formal policy addressing diversity and inclusion related to investment manager selection.

Institutions with the largest endowments were significantly more likely to have diverse managers in their portfolios. 

“Advancing diversity in all facets of higher education is a crucial step college and university leaders must take,” Johnston said. “We urge endowment leaders to look closely at ways they can invest with asset management firms controlled by women and people of color while still meeting investment goals, and we encourage the active participation of all talented managers.”