For advisors seeking to emulate the “endowment model” of asset allocation and expecting results similar to Harvard’s and Yale’s hefty returns, a new study, Secrets of the Academy: The Drivers of University Endowment Success, may be humbling.  The study, by Harvard Business School professor Josh Lerner and MIT professors Antoinette Schoar and Jialan Wang, documents the impressive returns of endowments.  But the study also shows their performance advantage cannot be directly attributed to asset allocation or specifically to their use of alternative asset classes, such as private equity and hedge funds.  Instead, endowments’ superior performance is more closely tied to factors that advisors will find much harder to emulate, such as endowment size and admissions selectivity.

The authors “suggest caution to investors seeking to reap similar rewards by copying the investment strategies of top endowments.”  Even if this warning were insufficient, the authors cite recent dramatic events, such as Harvard Management’s $350 million loss on Sowood Capital Management, and warn that the strategy of using alternative asset classes “that have worked so well for the endowments in the past two decades may not do so in the future.”

The study uses data from the National Association of College and University Business Officers (NACUBO), an organization of 2,500 public and private institutions.  The data used was from 1992 to 2005, and it represents the performance of 1,300 schools.  The authors cite a bias in the sample, in that participating universities are skewed to larger schools and include an overrepresentation of private institutions.  But when the authors eliminated some schools to make their data set more representative of the broader universe of endowments, the results were qualitatively unchanged.

The study contains some interesting findings on the size and growth rate of endowments, but for our purposes we concentrate on the findings related to investment performance.

The authors provide the following data for returns across the endowments:

The authors highlight two points from this data:

• The eight Ivy League schools significantly outperformed the other schools (by approximately 3% per year), and the remaining schools performed essentially the same.
• Schools with large endowments and schools with students who scored high on the SATs (i.e., student bodies in the top quartile of SAT scores) outperformed the overall average by 1.3% per year.

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