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Index Investing Using the Asset Allocations of the Super Endowments
The superior returns, long-term investment horizons, and stable asset allocations of the Super Endowment funds make benchmarking to their asset allocations attractive. However, most individuals are not able to actively invest like the super endowments, particularly in asset classes such as private equity. Nevertheless, significant value can still be created by following the multi-asset investing approach of the Super Endowment Funds within an index tracking portfolio.
We have constructed an index tracking portfolio by using the annual asset allocation weights of the Super Endowment Funds, utilizing seven global asset class indices.2 Portfolio returns are estimated from January 1999 to May 2008; it is difficult to aggregate earlier Super Endowment Fund data prior to 1999. Private equity was excluded, as this asset classes is not suitable for an index tracking portfolio (it has been pro rated half into listed equity and half into other alternative asset classes). Cash was also excluded (pro rated into fixed income) so the portfolio could be directly comparable to traditional portfolios of equities and bonds. Estimated portfolio returns were calculated in USD based on yearly rebalancing every 31st of December.
The resulting ‘adjusted’ Super Endowment Fund asset allocation currently places just 50 per cent of funds in alternative assets (Chart 5). This is slightly less than the Super Endowment Fund’s actual exposure to alternative assets (when private equity and cash are included). Chart 5
Super Endowments Asset Allocation (Adjusted)
Chart 6
Indexed Performance of Super Endowments
The estimated super endowment index tracking portfolio generated annualised returns of 10.3 per cent since 1999, relative to just 3.1 per cent for US Equities and 4.1 per cent for a US Equity/Bond portfolio. Moreover, the super endowment index tracking portfolio had a much lower drawdown during the 2000-2002 equity bear market and has out-performed so far during the current sub-prime crisis (See Chart 6).
Most of the indices used in the above analysis are investable through index tracking funds although in some cases (such as Global Bonds or Global Real Estate) a combination of index funds may be required to achieve a similar exposure. Index investing for Hedge Funds has historically not been possible, although recently there have been a number of innovations on this front.
Nevertheless, in the scenario of an investor accessing the Hedge Fund component through a diversified range of fund of funds – and assuming these underperformed the HFR Fund of Hedge Funds index by 2 per cent per year – the passive portfolio in the example above would have generated annualised returns of 9.9 per cent, outperforming traditional portfolios.
The above portfolio estimates have not been adjusted for the fees charged by index tracking funds or other issues that may cause tracking error to the asset class indices.
Summary
The Super Endowment funds of Harvard and Yale have consistently achieved high investment returns and low volatility due to their multi-asset approach to investing and exposure to alternative asset classes. While most investors cannot invest like the Super Endowment funds, this research note shows that by applying their multi-asset principles to an index based portfolio returns have historically been superior to those of traditional portfolios.
Appendix A – Benchmark Indices Used
All indices are total return.
- Global Equities: MSCI World Equities Index
- Global Bonds: JPMorgan Global Bond Index
- Emerging Equities: MSCI Emerging Market Equities Index
- Emerging Bonds: JP Morgan Emerging Market Bonds Index
- Real Estate: DJ Wilshire Global Real Estate Securities Index
- Commodities: Goldman Sachs Commodity Index
- Hedge Funds: HFR fund of funds Index
This research note was prepared by Richard Brazenor (CAIA), Senior Research Analyst at Frontier Capital Management LLP. Frontier offers investors a range of globally diversified, multi-asset funds, including traditional and alternative asset classes and accessed through ultra low cost index investing. Should you wish to obtain any further information on index investing or to learn about the range of Frontier’s products please email info@FrontierCM.com or visit our website at www.FrontierCM.com
2. See the Appendix for a list of benchmark indices used in this analysis. Listed Equities and Fixed Income are broken down further into “Global” and “Emerging” components based on in depth analysis of the asset allocation exposures of Harvard and Yale.
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