Date: February 22nd, 2018 2:20 PM
Author: Sticky queen of the night
A Not Terribly Bright Idea for Harvard
Lowering costs is commendable, but going way overweight on the S&P 500 Index isn't.
By Nir Kaissar
February 22, 2018, 8:50 AM PST
Photographer: Victor J. Blue /Bloomberg
A group of 11 Harvard alumni has a plan to boost the university’s straggling endowment, but it’s not the magical fix the members imagine.
In an open letter to Harvard’s new president, Lawrence Bacow, the group recommends that the endowment move at least half its assets to a low-cost S&P 500 index fund. It’s a “radical new endowment strategy,” the alumni acknowledge. Harvard, along with other big university endowments, pioneered and still uses the so-called endowment model of investing, which calls for investments in high-priced hedge funds and private assets alongside traditional stocks and bonds.
A radical step is necessary, the alumni say, because Harvard faces a “fiscal crisis” from a new tax on wealthy university endowments. According to Bloomberg News, Harvard estimates that “the new 1.4 percent tax would have cost the endowment $43 million last year.” The group’s plan would use the money saved on well-compensated managers to pay the tax.
Easy Street
Harvard's not suffering much from a fiscal crisis
Source: Bloomberg
It’s smart to spend less on fees, but let’s be serious: There are no fiscal problems at Harvard. It boasts the largest university endowment in the U.S., a $37.1 billion hoard as of the end of the 2017 fiscal year. That's $9.9 billion larger than the second-largest endowment of rival Yale University. To put that in perspective, the difference between the two schools’ fortunes is larger than the endowments of all but 10 other universities.
The real problem is that the collective ego of the “nation’s greatest university” has been punctured in recent years. The endowment’s performance in fiscal year 2017 ranks dead last among the 88 largest endowments that have reported their results, according to Bloomberg data. It’s not just one year. Harvard’s three-year, five-year and 10-year returns rank 73, 66 and 55, respectively.
Stock Envy
It's easy to see why some Harvard alumni pine for the S&P 500
Sources: Bloomberg, S&P
It’s easy to see why the group hangs its hopes on an S&P 500 index fund. For one thing, it’s famously cheap -- as little as 0.04 percent year -- and lower fees substantially increase expected returns. Of the 776 U.S. stock large-cap blend mutual funds that have been around a decade, only 14 percent beat the S&P 500 net of all fees over the last 10 years through January, according to Morningstar data. Gross of fees, however, 60 percent beat the index.
Formidable Foe
The Harvard endowment has beaten the S&P 500 in less than half of rolling 10-year periods since 1974
Sources: HMC, S&P, author's calculations
The S&P 500 has also been a formidable foe for Harvard. The endowment has beaten the index in less than half of rolling 10-year periods since the Harvard Management Company began managing the endowment in 1974. And nearly all of those victories ended between 2001 and 2014, a stretch that coincides with Jack Meyer’s legendary tenure as CEO of the endowment from 1991 to 2005
There’s no guarantee, however, that Harvard will capture the returns of the S&P 500. Consider that the investor share class of Vanguard’s 500 Index Fund returned 9.7 percent annually over the last 10 years through January, including dividends. And yet the average investor in the fund captured a return of just 5.4 percent, according to Morningstar.
The reason, of course, is that investors hopelessly chase returns, buying after a recent period of good performance and selling after a bad one. The penalty for bad behavior can dwarf the negative impact of fees.
And the more volatile an investment, the worse investors behave, and vice versa. Vanguard’s Total Bond Market Index Fund returned 3.6 percent annually over the last 10 years through January, while investors captured a return of 3.1 percent -- a far better outcome than stock investors achieved.
(http://www.autoadmit.com/thread.php?thread_id=3900637&forum_id=2#35461943)